-----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, AuYIAtI0r4JjN5CVKA6vPFReWUfMDn89eK+XbBXabwmxVKY3YmbI1wOYnbfX8n+/ wX7edtJf49xcw8O8AR3ZAQ== 0000932471-02-000855.txt : 20021119 0000932471-02-000855.hdr.sgml : 20021119 20021119091942 ACCESSION NUMBER: 0000932471-02-000855 CONFORMED SUBMISSION TYPE: N-30D PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20020930 FILED AS OF DATE: 20021119 EFFECTIVENESS DATE: 20021119 FILER: COMPANY DATA: COMPANY CONFORMED NAME: VANGUARD FENWAY FUNDS CENTRAL INDEX KEY: 0000826473 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: N-30D SEC ACT: 1940 Act SEC FILE NUMBER: 811-05445 FILM NUMBER: 02832186 BUSINESS ADDRESS: STREET 1: P.O. BOX 2600 STREET 2: V26 CITY: VALLEY FORGE STATE: PA ZIP: 19482 BUSINESS PHONE: 6106696295 MAIL ADDRESS: STREET 1: P.O. BOX 2600 STREET 2: V26 CITY: VALLEY FORGE STATE: PA ZIP: 19482 FORMER COMPANY: FORMER CONFORMED NAME: VANGUARD EQUITY INCOME FUND INC DATE OF NAME CHANGE: 19920703 N-30D 1 fenwayfunds2002.txt FENWAY FUNDS ANNUAL REPORT VANGUARD(R) GROWTH EQUITY FUND ANNUAL REPORT SEPTEMBER 30, 2002 [THE VANGUARD GROUP LOGO] EARNING YOUR TRUST EVERY DAY The latter part of 2001 and the first half of 2002 brought news of too many corporate scandals, with tales of greed and deception tarnishing Enron, Arthur Andersen, and WorldCom, among others. Given the questionable business dealings at some high-profile companies, investors can hardly be blamed for wondering whom they can trust. Vanguard is a name that should stand out. Why? Our unique corporate structure--The Vanguard Group is owned by each of its independently operated mutual funds and is charged with solely serving the funds' shareholders--ensures that our interests are aligned with yours. We have no other constituency to serve. We are client-focused because, quite frankly, it makes good business sense. Your trust is our most valuable asset, and every one of our crew members understands that his or her actions must meet the highest standards of ethical behavior and fiduciary responsibility. When you assess the combination of our organizational structure, the independent nature of each of our funds, our long track record of conducting business with integrity, and our total commitment to ethical behavior, we hope you will feel completely secure in entrusting your assets to us. There is no better place for them. - --John J. Brennan Chairman and Chief Executive Officer [PHOTO JOHN J. BRENNAN] /S/ JOHN J. BRENNAN - -------------------------------------------------------------------------------- Summary * Vanguard Growth Equity Fund returned -23.1% during the 12 months ended September 30, 2002. * The fund's disappointing decline was deeper than those of its comparative measures and the broad stock market. * The weakness in stocks persisted during the 12 months amid continuing questions about corporate misdeeds, a drop in profitability at many companies, and concern about tension in the Middle East and the possibility of war with Iraq. Contents 1 Letter from the Chairman 5 Report from the Adviser 7 Fund Profile 8 Glossary of Investment Terms 9 Performance Summary 10 Your Fund's After-Tax Returns 11 Financial Statements 20 Advantages of Vanguard.com - -------------------------------------------------------------------------------- LETTER FROM THE CHAIRMAN Fellow Shareholder, During its 2002 fiscal year, Vanguard(R) Growth Equity Fund returned a disappointing -23.1%. The fund's decline was the result of the awful performance of growth-oriented stocks in general, and technology and health care shares in particular. As shown in the table below, the fund's total return was slightly below that of its comparative measures and well below that of the broad U.S. stock market, which is represented by the Wilshire 5000 Total Market Index. We're grateful to you for staying the course with the Growth Equity Fund through the stock market's most difficult stretch in decades. The change in the fund's net asset value is detailed on page 4. If you own Vanguard Growth Equity Fund in a taxable account, you may wish to review our report on the fund's after-tax returns on page 10. - ----------------------------------------- 2002 TOTAL RETURNS FISCAL YEAR ENDED SEPTEMBER 30 - ----------------------------------------- VANGUARD GROWTH EQUITY FUND -23.1% Average Large-Cap Growth Fund* -22.2 Russell 1000 Growth Index -22.5 Wilshire 5000 Index -17.5 - ----------------------------------------- *Derived from data provided by Lipper Inc. Stock Prices Fell Amid Valuation Worries, Economic Struggles, Talk of War The 12 months ended September 30 were a bleak period for equity investors. The overall stock market, which was about one-third below its March 2000 peak when the period began, rebounded 12.4% in the fourth calendar quarter of 2001. But investors who hoped that a recovery was at hand were soon disappointed. Stocks were flat in the first quarter of 2002 and fell sharply in the second and third quarters. For the full fiscal year, the Wilshire 5000 Index registered a total return of -17.5%. From the stock market's peak in early 2000 through September 30, the index lost nearly half its value. Price declines were not uniform in the 12-month period, but they were widespread. Growth stocks--generally, shares in companies expected to record above-average earnings--led the market lower, as they have done since the beginning of the bear market. The Russell 3000 Growth Index returned -22.2%. Value stocks did not do much better; the Russell 3000 Value Index returned - -15.9%. Large-capitalization stocks, as measured by the Russell 1000 Index, returned -19.5%. Small-caps fared better, returning -9.3%, as tracked by the Russell 2000 Index. 1 - -------------------------------------------------------------------------------- MARKET BAROMETER AVERAGE ANNUAL TOTAL RETURNS PERIODS ENDED SEPTEMBER 30, 2002 ONE THREE FIVE YEAR YEARS YEARS - -------------------------------------------------------------------------------- STOCKS Russell 1000 Index (Large-caps) -19.5% -12.1% -1.5% Russell 2000 Index (Small-caps) -9.3 -4.1 -3.2 Wilshire 5000 Index (Entire market) -17.5 -11.7 -2.0 MSCI All Country World Index Free ex USA (International) -13.1 -13.6 -5.7 - -------------------------------------------------------------------------------- BONDS Lehman Aggregate Bond Index 8.6% 9.5% 7.8% (Broad taxable market) Lehman 10 Year Municipal Bond Index 9.5 8.6 6.8 Salomon Smith Barney 3-Month U.S. Treasury Bill Index 2.0 4.2 4.5 ================================================================================ CPI Consumer Price Index 1.5% 2.5% 2.3% - -------------------------------------------------------------------------------- Investors had many reasons to be skittish. Between September 2001 and June 2002, after-tax corporate profits were more than 10% lower each quarter than they had been in the same periods a year earlier. Depressed earnings have made stocks seem expensive to some investors, despite the many months of price declines. The economic backdrop did little to boost investor confidence. After contracting during the first three quarters of 2001, the U.S. economy emerged from recession. Yet economic activity increased at only a modest pace during the fiscal year, and some economists said a "double-dip" recession was possible. Oil prices rose as talk of war with Iraq heated up during the summer, prompting concern about the potential disruption of oil supplies. * High-Quality Bonds Delivered Terrific Results The Lehman Brothers Aggregate Bond Index, which tracks the market for taxable investment-grade bonds, returned 8.6% during the period, as plunging interest rates pushed many bond prices higher. U.S. Treasury and government agency bonds delivered better results than corporate bonds because investors preferred issues with high credit quality in light of the economic uncertainty. The 3-month Treasury bill yielded 1.55% at the end of the period, down from 2.37% a year earlier. The 10-year Treasury note yielded 3.59%, down from 4.59%. Stock Selection, Tech Plunge Cost Fund in Fiscal 2002 The stock market's most difficult stretch in decades continued during the 12 months ended September 30, dealing a severe blow to Vanguard Growth Equity Fund. Stocks of all sizes and styles suffered during the period, but the performance of growth-oriented shares was particularly bad. As indicated in the table on page 1, the fund's return lagged that of its average peer by about 1 percentage point, was about half a point behind that of the Russell 1000 Growth Index, and was more than 5 percentage points below that of the broad stock market. The second half of the fiscal year was 2 an especially tough period for the fund. Through the first six months of the period, Growth Equity returned 13.5%. However, from the end of March through the end of September, the fund declined -32.2%. As you may know, performance differences between the fund and the Russell 1000 Growth Index are typically the result of the fund adviser's selection of individual securities; the fund's sector weightings are generally similar to those of the index. Your fund's shortfall to the index during fiscal 2002 was due, in part, to subpar selections among financial services and health care stocks, which together accounted for an average of 35% of the fund's assets during the period. (For example, American International Group, the insurance giant that was one of the fund's ten largest holdings six months ago, returned - -29.7% during the 12 months; and pharmaceutical giant Wyeth, also in the top ten in March, returned -44.5% for the fiscal year.) Also hurting performance was the poor result of the fund's technology stocks, which dropped -31.9% for the 12 months, though this was in line with the index's tech shares. Among the biggest overall contributors to the fund's decline during the fiscal year were tech heavyweights Intel (-31.8%), Cisco Systems (-14.0%), and Texas Instruments (-40.7%); drugmaker Pfizer (-26.7%); and, in the consumer discretionary area, Home Depot (-31.6%). For details on individual securities, see the Report from the Adviser on page 5. Your Fund's Longer-Term Record Is Solid, but Behind Its Peers Since its launch in 1992, the fund has provided a solid average annual return of 6.6%. However, this long-term record falls a bit short of that of its comparative measures and is more than 2 percentage points below that of the broad U.S. stock market. The adjacent table shows how the difference has affected the growth of a hypothetical $10,000 investment in each of these measures. It's important to understand that even when the stock market recovers--and it will at some point--the Growth Equity Fund will continue to be a volatile investment. At times, its aggressive nature will result in terrific returns. (The fund earned 38.2% in fiscal 1999 and 51.1% in 2000.) But shareholders should expect - -------------------------------------------------------------------------------- TOTAL RETURNS TEN YEARS ENDED SEPTEMBER 30, 2002 ---------------------------------- AVERAGE FINAL VALUE OF ANNUAL A $10,000 RETURN INITIAL INVESTMENT - -------------------------------------------------------------------------------- Growth Equity Fund* 6.6% $18,911 Average Large-Cap Growth Fund 7.4 20,418 Russell 1000 Growth Index 6.7 19,111 Wilshire 5000 Index 8.7 23,000 - -------------------------------------------------------------------------------- *Prior to June 12, 2000, the fund was organized as the Turner Growth Equity Fund. 3 occasional rocky periods--though, we hope, not nearly so rocky as the past two fiscal years--as the markets rise and fall and as the fund's investment adviser seeks out fast-growing companies for its portfolio. Though we cannot predict Growth Equity's future performance, we are confident that the fund will perform well versus similar funds because of the skill of its investment adviser, Turner Investment Partners, and its low costs. In fiscal 2002, the fund's expense ratio--operating costs as a percentage of average net assets--was 0.58%, or $5.80 per $1,000 invested. The fund's average competitor charged 1.52% per year, well over twice as much. Low expenses help us in our effort to outpace competing funds by serving as a head start, year after year. Building Wealth Involves Taking Risk Investors today probably don't need a reminder that investing involves considerable risk. But we think it's important to bear in mind that it is necessary to assume some risk to build long-term wealth. Stocks have provided superior long-term returns precisely because they entail substantial risk. Investors who avoid the risk of interim downturns open themselves up to the very real risk of failing to meet long-term investment goals. We've always advocated--and will continue to advocate--diversifying your investment program as a way to control the amount of risk that you take while enabling you to reap some of the rewards that the financial markets have to offer. Sincerely, /S/JOHN J. BRENNAN John J. Brennan Chairman and Chief Executive Officer October 11, 2002 - -------------------------------------------------------------------------------- YOUR FUND'S PERFORMANCE AT A GLANCE SEPTEMBER 30, 2001-SEPTEMBER 30, 2002 DISTRIBUTIONS PER SHARE -------------------------------- STARTING ENDING INCOME CAPITAL SHARE PRICE SHARE PRICE DIVIDENDS GAINS - -------------------------------------------------------------------------------- Growth Equity Fund $8.23 $6.33 $0.00 $0.00 - -------------------------------------------------------------------------------- 4 REPORT FROM THE ADVISER The 12-month period ended September 30, 2002, was one of the worst for growth stocks in modern times. Investors were extremely downbeat, and concerns about accounting irregularities, corporate integrity, earnings, terrorism, possible war with Iraq, and stock valuations combined to pummel an increasingly volatile stock market. During the period, Vanguard Growth Equity Fund returned -23.1%, underperforming both the Russell 1000 Growth Index (-22.5%) and the Wilshire 5000 Total Market Index (-17.5%). Down Markets Are Very Difficult for the Growth Equity Fund Overall, the pattern of the Growth Equity Fund's performance was about what we expected: The fund should do relatively well in rising markets and should underperform in falling markets. This is because we buy the stocks of companies whose earnings we think will exceed expectations over time. These tend to be stocks with relatively high price/earnings ratios, which do poorly--in both absolute and relative terms--in bear markets. Conversely, as investors become more optimistic about the earnings outlook for corporate America, valuations matter less, and these same stocks tend to lead market upswings. As for Growth Equity's holdings during fiscal 2002, four of our ten sector positions outperformed their corresponding Russell 1000 Growth Index sectors. Our financial services and technology holdings, with a combined weighting of about 36% of assets on average, detracted the most from our results. Both sectors recorded double-digit losses that were slightly larger than those of the index sectors. In general, financial services and tech stocks were battered owing to investor worries about weak earnings reports and reduced capital spending for hardware, software, and services. Our holdings in the consumer discretionary sector, which averaged more than a fifth of assets, helped us most in relative terms; they declined -12%, compared with about -20% for the index sector. Those holdings consisted mainly of e-commerce, media, and retailing stocks. Our auto & transportation holdings produced the fund's only positive sector return, but since the group represented just 1% of assets, its 18% gain had only a minor impact. The fund's utilities/communication stocks recorded the biggest loss. Despite the disappointing results, we derive some small comfort from the fact that we were able to avoid many of the spectacular declines that devastated companies such as WorldCom, Qwest Communications, and Enron. These blowups reinforced the negative market sentiment and contributed to the decline in tech stocks. ---------------------------------- Investment Philosophy The adviser believes that superior long-term results can be achieved by emphasizing stocks that have above-average earnings prospects. ---------------------------------- 5 Our Outlook Going forward, we think the worst bear market in three decades may come to an end over the next 12 months. As the saying goes, bull markets create geniuses and bear markets create idiots. This bear market has certainly made some investors, including professionals, look stupid. And we've made our own share of mistakes, such as not envisioning the magnitude of the market's decline over the past two years. Nevertheless, we think it would be a big mistake to remain bearish on stocks at this point. In our judgment, the market has considerably more upside potential than downside potential. Here are three reasons why: * The stock market has been so distinctly negative that it suggests to us that a rebound may be imminent. The market has endured four consecutive losing years only once before: the Depression-era stretch from 1929 through 1932. We think the current losing streak will end at three years, in 2002, as it becomes evident that earnings are gradually improving. And although recent headlines in the business press may indicate otherwise, the earnings prospects of corporate America are good. The consensus forecast of Wall Street analysts is that the average earnings per share for companies in the Russell 1000 Growth Index will rise 16.0% over the next 12 months, according to I/B/E/S International, a financial-data company. * The return potential of stocks--as represented by the difference between the earnings yield of the S&P 500 Index (based on projected earnings over the next 12 months) and the yield of the 10-year Treasury--is uncommonly attractive, in our estimation. As of September 30, the earnings yield of the S&P 500 stood at 6.10%, compared with the 3.59% yield of the 10-year Treasury. * For the first time in years, corporations and corporate insiders--executives and board members--are buying more shares of company stock than they are selling. This is an indication that share prices are generally compelling, and historically it has been a reliable "buy" signal. We believe that our holdings offer strong prospective earnings power. As a group, they are expected to increase their per-share earnings by 21.1% over the next 12 months, according to I/B/E/S. We remain true to our investment process, and we will continue to focus on selecting stocks with the strongest earnings potential in all sectors of the market. Currently, we are emphasizing stocks of companies whose earnings tend to pick up early in an economic recovery, such as those of semiconductor, paper, software, and retailing companies with strong brands. Bob Turner, Chairman and Chief Investment Officer Turner Investment Partners October 15, 2002 6 Fund Profile As of September 30, 2002 This Profile provides a snapshot of the fund's characteristics, compared where indicated with both an appropriate market index and a broad market index. Key terms are defined on page 8. GROWTH EQUITY FUND - ----------------------------------------------------------------- PORTFOLIO CHARACTERISTICS COMPARATIVE BROAD FUND INDEX* INDEX** - ----------------------------------------------------------------- Number of Stocks 95 575 5,732 Median Market Cap $23.5B $51.1B $24.8B Price/Earnings Ratio 30.7x 23.6x 22.0x Price/Book Ratio 4.0x 4.2x 2.4x Yield 0.2% 1.2% 1.8% Return on Equity 23.3% 25.9% 21.3% Earnings Growth Rate 13.2% 13.8% 9.3% Foreign Holdings 2.0% 0.0% 0.3% Turnover Rate 273% -- -- Expense Ratio 0.58% -- -- Cash Investments 0.7% -- -- - ----------------------------------------------------------------- - ----------------------------------------------------------------- TEN LARGEST HOLDINGS (% of total net assets) Pfizer, Inc. 4.1% (pharmaceuticals) Microsoft Corp. 3.8 (software) The Coca-Cola Co. 3.6 (beverage) Intel Corp. 2.7 (electronics) Wal-Mart Stores, Inc. 2.6 (retail) Procter & Gamble Co. 2.5 (consumer products) Amgen, Inc. 2.5 (biotechnology) Medtronic, Inc. 2.4 (health care) Cisco Systems, Inc. 2.1 (computer hardware) General Electric Co. 1.9 (conglomerate) - ----------------------------------------------------------------- Top Ten 28.2% - ----------------------------------------------------------------- The "Ten Largest Holdings" excludes any temporary cash investments and equity index products. - ----------------------------------------------------------------- VOLATILITY MEASURES COMPARATIVE BROAD FUND INDEX* FUND INDEX** - ----------------------------------------------------------------- R-Squared 0.90 1.00 0.82 1.00 Beta 1.17 1.00 1.54 1.00 - ----------------------------------------------------------------- - ---------------------------------------------------------------------- SECTOR DIVERSIFICATION (% OF COMMON STOCKS) COMPARATIVE BROAD FUND INDEX* INDEX** - ---------------------------------------------------------------------- Auto & Transportation 1.1% 1.3% 2.9% Consumer Discretionary 21.2 16.9 15.5 Consumer Staples 11.3 11.4 8.0 Financial Services 12.6 12.6 22.8 Health Care 27.7 27.4 14.5 Integrated Oils 1.0 0.1 3.8 Other Energy 0.0 1.1 2.1 Materials & Processing 0.6 0.9 3.8 Producer Durables 2.5 2.7 3.9 Technology 18.0 18.0 11.4 Utilities 0.6 0.5 6.4 Other 3.4 7.1 4.9 - ---------------------------------------------------------------------- - --------------------------- INVESTMENT FOCUS MARKET CAP LARGE STYLE GROWTH - --------------------------- Visit our website at www.vanguard.com for regularly updated fund information. *Russell 1000 Growth Index. **Wilshire 5000 Index. 7 GLOSSARY OF INVESTMENT TERMS BETA. A measure of the magnitude of a fund's past share-price fluctuations in relation to the ups and downs of the fund's comparative index and an overall market index. Each index is assigned a beta of 1.00. Compared with a given index, a fund with a beta of 1.20 would have seen its share price rise or fall by 12% when the index rose or fell by 10%. - -------------------------------------------------------------------------------- CASH INVESTMENTS. The percentage of a fund's net assets invested in "cash equivalents"--highly liquid, short-term, interest-bearing securities. This figure does not include cash invested in futures contracts or other equity index products to simulate stock investment. - -------------------------------------------------------------------------------- EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the past five years for the stocks now in a fund. - -------------------------------------------------------------------------------- EXPENSE RATIO. The percentage of a fund's average net assets used to pay its annual administrative and advisory expenses. These expenses directly reduce returns to investors. - -------------------------------------------------------------------------------- FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks or American Depositary Receipts of companies based outside the United States. - -------------------------------------------------------------------------------- MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. - -------------------------------------------------------------------------------- PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book value, per share. For a fund, the weighted average price/book ratio of the stocks it holds. - -------------------------------------------------------------------------------- PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company's future growth. - -------------------------------------------------------------------------------- R-SQUARED. A measure of how much of a fund's past returns can be explained by the returns from the market in general, as measured by the fund's comparative index and by an overall market index. If a fund's total returns were precisely synchronized with an index's returns, its R-squared would be 1.00. If the fund's returns bore no relationship to the index's returns, its R-squared would be 0. - -------------------------------------------------------------------------------- RETURN ON EQUITY. The annual average rate of return generated by a company during the past five years for each dollar of shareholder's equity (net income divided by shareholder's equity). For a fund, the weighted average return on equity for the companies whose stocks it holds. - -------------------------------------------------------------------------------- TURNOVER RATE. An indication of the fund's trading activity. Funds with high turnover rates incur higher transaction costs and are more likely to distribute capital gains (which are taxable to investors). - -------------------------------------------------------------------------------- YIELD. A snapshot of a fund's income from interest and dividends. The yield, expressed as a percentage of the fund's net asset value, is based on income earned over the past 30 days and is annualized, or projected forward for the coming year. The index yield is based on the current annualized rate of dividends paid on stocks in the index. (degree) - -------------------------------------------------------------------------------- 8 Performance Summary As of September 30, 2002 All of the returns in this report represent past performance, which cannot be used to predict future returns that may be achieved by the fund. Note, too, that both share price and return can fluctuate widely. An investor's shares, when redeemed, could be worth more or less than their original cost. The returns shown do not reflect taxes that a shareholder would pay on fund distributions or on the redemption of fund shares. GROWTH EQUITY FUND - -------------------------------------------------------------------------------- CUMULATIVE PERFORMANCE SEPTEMBER 30, 1992-SEPTEMBER 30, 2002 PERIOD GROWTH AVERAGE RUSSELL WILSHIRE EQUITY FUND LARGE-CAP 1000 5000 GROWTH FUND GROWTH INDEX INDEX 199209 10000 10000 10000 10000 199212 11106 10908 10697 10728 199303 11579 11022 10607 11185 199306 11782 11079 10443 11269 199309 12664 11710 10597 11725 199312 12815 11901 11007 11939 199403 12040 11457 10522 11493 199406 11536 11116 10415 11404 199409 12284 11841 11216 12023 199412 11952 11640 11300 11931 199503 12548 12517 12376 13008 199506 13540 13944 13593 14223 199509 14818 15253 14826 15523 199512 15533 15454 15502 16280 199603 16095 16288 16334 17194 199606 17582 17111 17373 17952 199609 18213 17847 17999 18460 199612 18520 18628 19086 19733 199703 18027 18505 19188 19861 199706 21104 21856 22817 23215 199709 24152 24017 24532 25480 199712 24329 23842 24905 25908 199803 27300 27424 28678 29343 199806 29336 28952 29980 29915 199809 26739 25967 27257 26316 199812 33592 32916 34544 31978 199903 36313 35717 36741 33185 199906 37314 36932 38155 35775 199909 36941 35798 36757 33409 199912 51595 45454 45999 39512 200003 58437 49318 49277 41020 200006 56465 46663 47947 39181 200009 55808 46656 45368 39245 200012 39675 38067 35684 35191 200103 29308 30780 28226 30849 200106 32266 32333 30602 33154 200109 24588 26234 24662 27883 200112 28800 29331 28396 31333 200203 27904 28954 27662 31634 200206 22646 24078 22496 27645 200209 18911 20418 19111 23000 AVERAGE ANNUAL TOTAL RETURNS PERIODS ENDED SEPTEMBER 30, 2002 -------------------------------------FINAL VALUE ONE FIVE TEN OF A $10,000 YEAR YEARS YEARS INVESTMENT - -------------------------------------------------------------------------------- Growth Equity Fund -23.09% -4.77% 6.58% $18,911 Average Large-Cap Growth Fund* -22.17 -3.19 7.40 20,418 Russell 1000 Growth Index -22.51 -4.87 6.69 19,111 Wilshire 5000 Index -17.51 -2.03 8.69 23,000 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- FISCAL-YEAR TOTAL RETURNS (%) SEPTEMBER 30, 1992-SEPTEMBER 30, 2002 Fiscal Year Growth Equity Fund Russell 1000 Growth Index 1993 26.6% 6.0% 1994 -3.0 5.8 1995 20.6 32.2 1996 22.9 21.4 1997 32.6 36.3 1998 10.7 11.1 1999 38.2 34.9 2000 51.1 23.4 2001 -55.9 -45.6 2002 -23.1 -22.5 - -------------------------------------------------------------------------------- *Derived from data provided by Lipper Inc. Note: See Financial Highlights table on page 16 for capital gains information. 9 YOUR FUND'S AFTER-TAX RETURNS This table presents returns for your fund both before and after taxes. The after-tax returns are shown in two ways: (1) assuming that an investor owned the fund during the entire period and paid taxes on the fund's distributions, and (2) assuming that an investor paid taxes on the fund's distributions and sold all shares at the end of each period. Calculations are based on the highest individual federal income tax and capital gains tax rates in effect at the times of the distributions and the hypothetical sales. State and local taxes were not considered. (In the example that assumes all fund shares were sold, a negative pre-tax total return translates into a higher after-tax return. This is because the calculation assumes that the investor received a tax deduction for the loss incurred on the sale.) Please note that your actual after-tax returns will depend on your tax situation and may differ from those shown. Also note that if you own the fund in a tax-deferred account, such as an individual retirement account or a 401(k) plan, this information does not apply to you. Such accounts are not subject to current taxes. Finally, keep in mind that a fund's performance--whether before or after taxes--does not indicate how it will perform in the future. - -------------------------------------------------------------------------------- AVERAGE ANNUAL TOTAL RETURNS PERIODS ENDED SEPTEMBER 30, 2002 ONE YEAR FIVE YEARS TEN YEARS ---------------------------------------- Growth Equity Fund Returns Before Taxes -23.09% -4.77% 6.58% Returns After Taxes on Distributions -23.09 -7.86 3.77 Returns After Taxes on Distributions and Sale of Fund Shares -14.17 -3.19 5.47 ================================================================================ 10 FINANCIAL STATEMENTS AS OF SEPTEMBER 30, 2002 STATEMENT OF NET ASSETS This Statement provides a detailed list of the fund's holdings, including each security's market value on the last day of the reporting period. Securities are grouped and subtotaled by asset type (common stocks, bonds, etc.) and by industry sector. Other assets are added to, and liabilities are subtracted from, the value of Total Investments to calculate the fund's Net Assets. Finally, Net Assets are divided by the outstanding shares of the fund to arrive at its share price, or Net Asset Value (NAV) Per Share. At the end of the Statement of Net Assets, you will find a table displaying the composition of the fund's net assets. Because all income and any realized gains must be distributed to shareholders each year, the bulk of net assets consists of Paid-in Capital (money invested by shareholders). The amounts shown for Undistributed Net Investment Income and Accumulated Net Realized Gains usually approximate the sums the fund had available to distribute to shareholders as income dividends or capital gains as of the statement date, but may differ because certain investments or transactions may be treated differently for financial statement and tax purposes. Any Accumulated Net Realized Losses, and any cumulative excess of distributions over net income or net realized gains, will appear as negative balances. Unrealized Appreciation (Depreciation) is the difference between the market value of the fund's investments and their cost, and reflects the gains (losses) that would be realized if the fund were to sell all of its investments at their statement-date values. - -------------------------------------------------------------------------------- MARKET VALUE* GROWTH EQUITY FUND SHARES (000) - -------------------------------------------------------------------------------- COMMON STOCKS (99.3%) - -------------------------------------------------------------------------------- AUTO & Transportation (1.0%) Harley-Davidson, Inc. 112,540 5,227 CONSUMER DISCRETIONARY (21.1%) Wal-Mart Stores, Inc. 263,990 12,999 Lowe's Cos., Inc. 180,870 7,488 * Viacom Inc. Class B 180,610 7,324 * Kohl's Corp. 114,320 6,952 * eBay Inc. 118,100 6,237 * Clear Channel Communications, Inc. 170,060 5,910 * Starbucks Corp. 286,310 5,909 * Amazon.com, Inc. 337,310 5,373 * AOL Time Warner Inc. 447,010 5,230 * Electronic Arts Inc. 77,050 5,082 * International Game Technology 61,730 4,268 Gannett Co., Inc. 55,690 4,020 * Bed Bath & Beyond, Inc. 102,650 3,343 * Williams-Sonoma, Inc. 135,970 3,213 * MGM Mirage, Inc. 80,270 2,994 * Best Buy Co., Inc. 129,410 2,887 * ChoicePoint Inc. 80,930 2,884 * CDW Computer Centers, Inc. 61,170 2,591 * Apollo Group, Inc. Class A 58,220 2,529 * Coach, Inc. 93,060 2,382 * Hotels.com Class A 38,960 1,971 Newell Rubbermaid, Inc. 62,360 1,925 * Michaels Stores, Inc. 40,720 1,861 ------- 105,372 ------- CONSUMER STAPLES (11.2%) The Coca-Cola Co. 376,090 18,037 Procter & Gamble Co. 138,570 12,385 Colgate-Palmolive Co. 106,110 5,725 CVS Corp. 208,060 5,274 Walgreen Co. 167,260 5,145 ConAgra Foods, Inc. 145,940 3,627 * Whole Foods Market, Inc. 80,140 3,433 * Dean Foods Co. 65,390 2,601 ------ 56,227 ------ FINANCIAL SERVICES (12.5%) American International Group, Inc. 169,400 9,266 American Express Co. 187,790 5,855 MBNA Corp. 309,670 5,692 Fifth Third Bancorp 83,730 5,127 Wells Fargo & Co. 105,460 5,079 The Goldman Sachs Group, Inc. 72,050 4,757 * Affiliated Computer Services, Inc. Class A 100,880 4,292 AFLAC Inc. 130,710 4,012 * SunGard Data Systems, Inc. 188,350 3,663 * Fiserv, Inc. 127,920 3,592 Bear Stearns Co., Inc. 58,210 3,283 Charles Schwab Corp. 335,530 2,919 H & R Block, Inc. 61,840 2,598 First Data Corp. 88,450 2,472 ------ 62,607 ------ 11 - -------------------------------------------------------------------------------- MARKET VALUE* GROWTH EQUITY FUND SHARES (000) - -------------------------------------------------------------------------------- COMMON STOCKS (99.3%) - -------------------------------------------------------------------------------- HEALTH CARE (27.5%) BIOTECH RESEARCH & Production (4.3%) * Amgen, Inc. 295,010 12,302 * IDEC Pharmaceuticals Corp. 132,430 5,498 * Cephalon, Inc. 92,360 3,770 DRUGS & Pharmaceuticals (10.8%) Pfizer, Inc. 700,199 20,320 * Forest Laboratories, Inc. 97,420 7,989 Abbott Laboratories 192,480 7,776 AmerisourceBergen Corp. 95,380 6,812 * Gilead Sciences, Inc. 97,230 3,260 * MedImmune Inc. 153,740 3,209 Teva Pharmaceutical Industries Ltd. Sponsored ADR 37,790 2,532 * Shire Pharmaceuticals Group PLC ADR 87,380 2,164 ELECTRONICS--MEDICAL SYSTEMS (2.4%) Medtronic, Inc. 284,650 11,989 HEALTH & Personal Care (2.5%) * Anthem, Inc. 136,830 8,894 * Express Scripts Inc. 69,720 3,801 HEALTH CARE FACILITIES (2.4%) HCA Inc. 140,700 6,699 * Tenet Healthcare Corp. 108,625 5,377 HEALTH CARE MANAGEMENT SERVICES (0.7%) * Mid Atlantic Medical Services, Inc. 91,620 3,317 MEDICAL & Dental Instruments & Supplies (4.4%) * Boston Scientific Corp. 210,260 6,636 * St. Jude Medical, Inc. 183,490 6,551 * Zimmer Holdings, Inc. 118,150 4,530 * Henry Schein, Inc. 82,010 4,326 -------- 137,752 -------- INTEGRATED OILS (1.0%) Occidental Petroleum Corp. 89,700 2,546 ExxonMobil Corp. 77,100 2,460 ----- 5,006 ----- MATERIALS & Processing (0.6%) Air Products & Chemicals, Inc. 66,590 2,797 PRODUCER DURABLES (2.5%) Nokia Corp. ADR 396,960 5,260 * Alliant Techsystems, Inc. 56,930 3,942 * Applied Materials, Inc. 274,550 3,171 ------ 12,373 ------ TECHNOLOGY (17.9%) * Microsoft Corp. 436,470 19,091 Intel Corp. 977,792 13,582 * Cisco Systems, Inc. 992,100 10,397 * Dell Computer Corp. 360,640 8,479 * QUALCOMM Inc. 277,650 7,669 * L-3 Communications Holdings, Inc. 98,690 5,201 * Symantec Corp. 122,600 4,128 Texas Instruments, Inc. 268,290 3,963 * Jabil Circuit, Inc. 223,280 3,300 * EMC Corp. 679,940 3,107 * Xilinx, Inc. 185,870 2,944 * Intuit, Inc. 57,380 2,613 * Network Appliance, Inc. 341,690 2,505 * Mercury Interactive Corp. 137,710 2,363 * MicroStrategy Inc. 81 1 ------ 89,343 ------ UTILITIES (0.6%) * NEXTEL Communications, Inc. 364,410 2,751 Other (3.4%) General Electric Co. 376,608 9,283 Tyco International Ltd. 217,060 3,061 3M Co. 22,170 2,438 * SPX Corp. 21,900 2,210 ------ 16,992 ------ - -------------------------------------------------------------------------------- TOTAL COMMON STOCKS (Cost $573,114) 496,447 - -------------------------------------------------------------------------------- FACE AMOUNT (000) - -------------------------------------------------------------------------------- TEMPORARY CASH INVESTMENTS (2.1%) - -------------------------------------------------------------------------------- Repurchase Agreements Collateralized by U.S. Government Obligations in a Pooled Cash Account 1.95%, 10/1/2002 $6,150 6,150 1.95%, 10/1/2002--Note G 4,500 4,500 - -------------------------------------------------------------------------------- TOTAL TEMPORARY CASH INVESTMENTS (Cost $10,650) 10,650 - -------------------------------------------------------------------------------- TOTAL INVESTMENTS (101.4%) (Cost $583,764) 507,097 - -------------------------------------------------------------------------------- 12 - -------------------------------------------------------------------------------- MARKET VALUE* (000) - -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (-1.4%) Receivables for Investment Securities Sold $ 12,935 Other Assets--Note C 1,122 Payables for Investment Securities Purchased (15,078) Other Liabilities--Note G (5,965) ------- (6,986) ------- ================================================================================ NET ASSETS (100%) ================================================================================ Applicable to 79,018,848 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $500,111 ================================================================================ NET ASSET VALUE PER SHARE $6.33 ================================================================================ *See Note A in Notes to Financial Statements. *Non-income-producing security. ADR--American Depositary Receipt. - -------------------------------------------------------------------------------- AMOUNT PER (000) SHARE - -------------------------------------------------------------------------------- AT SEPTEMBER 30, 2002, NET ASSETS CONSISTED OF: - -------------------------------------------------------------------------------- Paid-in Capital $1,301,767 $16.47 Undistributed Net Investment Income 592 .01 Accumulated Net Realized Losses--Note E (725,581) (9.18) Unrealized Depreciation--Note F (76,667) (.97) - -------------------------------------------------------------------------------- NET ASSETS $ 500,111 $ 6.33 ================================================================================ 13 STATEMENT OF OPERATIONS This Statement shows the types of income earned by the fund during the reporting period, and details the operating expenses charged to the fund. These expenses directly reduce the amount of investment income available to pay to shareholders as income dividends. This Statement also shows any Net Gain (Loss) realized on the sale of investments, and the increase or decrease in the Unrealized Appreciation (Depreciation) of investments during the period. - -------------------------------------------------------------------------------- GROWTH EQUITY FUND YEAR ENDED SEPTEMBER 30, 2002 (000) - -------------------------------------------------------------------------------- INVESTMENT INCOME INCOME Dividends $ 3,666 Interest 85 Security Lending 23 - -------------------------------------------------------------------------------- Total Income 3,774 - -------------------------------------------------------------------------------- EXPENSES Investment Advisory Fees--Note B Basic Fee 2,719 Performance Adjustment (1,371) The Vanguard Group--Note C Management and Administrative 2,375 Marketing and Distribution 139 Custodian Fees 18 Auditing Fees 12 Shareholders' Reports and Proxies 57 Trustees' Fees and Expenses 1 - -------------------------------------------------------------------------------- Total Expenses 3,950 Expenses Paid Indirectly--Note D (994) - -------------------------------------------------------------------------------- Net Expenses 2,956 - -------------------------------------------------------------------------------- NET INVESTMENT INCOME 818 - -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) ON INVESTMENT SECURITIES SOLD (197,587) - -------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES 31,936 - -------------------------------------------------------------------------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS $(164,833) ================================================================================ 14 STATEMENT OF CHANGES IN NET ASSETS This Statement shows how the fund's total net assets changed during the two most recent reporting periods. The Operations section summarizes information detailed in the Statement of Operations. The amounts shown as Distributions to shareholders from the fund's net income and capital gains may not match the amounts shown in the Operations section, because distributions are determined on a tax basis and may be made in a period different from the one in which the income was earned or the gains were realized on the financial statements. The Capital Share Transactions section shows the amount shareholders invested in the fund, either by purchasing shares or by reinvesting distributions, as well as the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed are shown at the end of the Statement. - -------------------------------------------------------------------------------- GROWTH EQUITY FUND ------------------------- YEAR ENDED SEPTEMBER 30, ------------------------- 2002 2001 (000) (000) - -------------------------------------------------------------------------------- INCREASE (DECREASE) IN NET ASSETS OPERATIONS Net Investment Income (Loss) $ 818 $ (841) Realized Net Gain (Loss) (197,587) (520,888) Change in Unrealized Appreciation (Depreciation) 31,936 (182,798) - -------------------------------------------------------------------------------- Net Increase (Decrease) in Net Assets Resulting from Operations (164,833) (704,527) - -------------------------------------------------------------------------------- DISTRIBUTIONS Net Investment Income -- -- Realized Capital Gain -- -- Total Distributions -- -- CAPITAL SHARE TRANSACTIONS(1) Issued 262,019 839,976 Issued in Lieu of Cash Distributions -- -- Redeemed (222,573) (428,136) - -------------------------------------------------------------------------------- Net Increase (Decrease) from Capital Share Transactions 39,446 411,840 - -------------------------------------------------------------------------------- Total Increase (Decrease) (125,387) (292,687) - -------------------------------------------------------------------------------- NET ASSETS Beginning of Period 625,498 918,185 - -------------------------------------------------------------------------------- End of Period $500,111 $625,498 - -------------------------------------------------------------------------------- 1Shares Issued (Redeemed) Issued 29,253 62,660 Issued in Lieu of Cash Distributions -- -- Redeemed (26,262) (35,795) - -------------------------------------------------------------------------------- Net Increase (Decrease) in Shares Outstanding 2,991 26,865 ================================================================================ 15 FINANCIAL HIGHLIGHTS This table summarizes the fund's investment results and distributions to shareholders on a per- share basis. It also presents the Total Return and shows net investment income and expenses as percentages of average net assets. These data will help you assess: the variability of the fund's net income and total returns from year to year; the relative contributions of net income and capital gains to the fund's total return; how much it costs to operate the fund; and the extent to which the fund tends to distribute capital gains. The table also shows the Portfolio Turnover Rate, a measure of trading activity. A turnover rate of 100% means that the average security is held in the fund for one year.
Growth Equity Fund - -------------------------------------------------------------------------------------------------------------------- Year Ended September 30, --------------------------------------------- For a Share Outstanding Throughout Each Period 2002 2001 2000* 1999 1998 - -------------------------------------------------------------------------------------------------------------------- Net Asset Value, Beginning of Period $8.23 $18.68 $15.88 $12.87 $16.64 - -------------------------------------------------------------------------------------------------------------------- Investment Operations Net Investment Income (Loss) .01 (.01) (.01) (.05) (.05) Net Realized and Unrealized Gain (Loss) on Investments (1.91) (10.44) 7.33 4.66 1.10 - -------------------------------------------------------------------------------------------------------------------- Total from Investment Operations (1.90) (10.45) 7.32 4.61 1.05 - -------------------------------------------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income -- -- -- -- -- Distributions from Realized Capital Gains -- -- (4.52) (1.60) (4.82) - -------------------------------------------------------------------------------------------------------------------- Total Distributions -- -- (4.52) (1.60) (4.82) - -------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $6.33 $ 8.23 $18.68 $15.88 $12.87 ==================================================================================================================== TOTAL RETURN -23.09% -55.94% 51.07% 38.15% 10.71% ==================================================================================================================== RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $500 $625 $918 $143 $98 Ratio of Total Expenses to Average Net Assets 0.58% 0.77% 0.74% 0.96% 1.04%** Ratio of Net Expenses to Average Net Assets--Note D 0.43% 0.59% 0.72% 0.92% 1.00% Ratio of Net Investment Income (Loss) to Average Net Assets 0.12% (0.10%) (0.19%) (0.42%) (0.42%) Portfolio Turnover Rate 273% 357% 303% 328% 250% ==================================================================================================================== * Turner Growth Equity Fund reorganized into Vanguard Growth Equity Fund effective June 12, 2000. ** Expense ratio before waivers and reimbursements of expenses was 1.12% in 1998.
16 NOTES TO FINANCIAL STATEMENTS Vanguard Growth Equity Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund. A. The following significant accounting policies conform to generally accepted accounting principles for U.S. mutual funds. The fund consistently follows such policies in preparing its financial statements. 1. SECURITY VALUATION: Equity securities are valued at the latest quoted sales prices as of the close of trading on the New York Stock Exchange (generally 4:00 p.m. Eastern time) on the valuation date; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Prices are taken from the primary market in which each security trades. Temporary cash investments acquired over 60 days to maturity are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services. Other temporary cash investments are valued at amortized cost, which approximates market value. Securities for which market quotations are not readily available are valued by methods deemed by the board of trustees to represent fair value. 2. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Accordingly, no provision for federal income taxes is required in the financial statements. 3. REPURCHASE AGREEMENTS: The fund, along with other members of The Vanguard Group, transfers uninvested cash balances to a pooled cash account, which is invested in repurchase agreements secured by U.S. government securities. Securities pledged as collateral for repurchase agreements are held by a custodian bank until the agreements mature. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal; however, in the event of default or bankruptcy by the other party to the agreement, retention of the collateral may be subject to legal proceedings. 4. DISTRIBUTIONS: Distributions to shareholders are recorded on the ex-dividend date. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. 5. OTHER: Dividend income is recorded on the ex-dividend date. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold. B. Turner Investment Partners provides investment advisory services to the fund for a fee calculated at an annual percentage rate of average net assets. The basic fee is subject to quarterly adjustments based on performance relative to the Russell 1000 Growth Index. For the year ended September 30, 2002, the investment advisory fee represented an effective annual basic rate of 0.40% of the fund's average net assets before a decrease of $1,371,000 (0.20%) based on performance. C. The Vanguard Group furnishes at cost corporate management, administrative, marketing, and distribution services. The costs of such services are allocated to the fund under methods approved by the board of trustees. The fund has committed to provide up to 0.40% of its net assets in capital contributions to Vanguard. At September 30, 2002, the fund had contributed capital of $105,000 to Vanguard (included in Other Assets), representing 0.02% of the fund's net assets and 0.10% of Vanguard's capitalization. The fund's trustees and officers are also directors and officers of Vanguard. D. The fund has asked its investment adviser to direct certain security trades, subject to obtaining the best price and execution, to brokers who have agreed to rebate to the fund part of the commissions generated. Such rebates are used solely to reduce the fund's management and 17 NOTES TO FINANCIAL STATEMENTS (CONTINUED) administrative expenses. For the year ended September 30, 2002, these arrangements reduced the fund's expenses by $994,000 (an annual rate of 0.15% of average net assets). E. During the year ended September 30, 2002, the fund purchased $1,852,484,000 of investment securities and sold $1,807,981,000 of investment securities other than temporary cash investments. At September 30, 2002, the fund had available realized losses of $725,429,000 to offset future net capital gains of $39,077,000 through September 30, 2009, $495,055,000 through September 30, 2010, and $191,297,000 through September 30, 2011. F. At September 30, 2002, net unrealized depreciation of investment securities for financial reporting and federal income tax purposes was $76,667,000, consisting of unrealized gains of $7,561,000 on securities that had risen in value since their purchase and $84,228,000 in unrealized losses on securities that had fallen in value since their purchase. G. The market value of securities on loan to broker/dealers at September 30, 2002, was $3,983,000, for which the fund held cash collateral of $4,500,000. The fund invests cash collateral received in repurchase agreements, and records a liability for the return of the collateral, during the period the securities are on loan. 18 REPORT OF INDEPENDENT ACCOUNTANTS To the Shareholders and Trustees of Vanguard Growth Equity Fund: In our opinion, the accompanying statement of net assets and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Vanguard Growth Equity Fund (the "Fund") at September 30, 2002, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended and the financial highlights for each of the three years in the period then ended, in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as "financial statements") are the responsibility of the Fund's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities at September 30, 2002 by correspondence with the custodian, provide a reasonable basis for our opinion. The financial highlights for each of the two years in the period ended September 30, 1999 were audited by other independent accountants whose report dated November 8, 1999 expressed an unqualified opinion on the financial statements containing those financial highlights. PricewaterhouseCoopers LLP Philadelphia, Pennsylvania November 4, 2002 - -------------------------------------------------------------------------------- Special 2002 Tax Information (unaudited) for Vanguard Growth Equity Fund This information for the fiscal period ended September 30, 2002, is included pursuant to provisions of the Internal Revenue Code. For corporate shareholders, 100% of investment income (dividend income plus short-term gains, if any) qualifies for the dividends-received deduction. - -------------------------------------------------------------------------------- 19 INVESTING IS FAST AND EASY ON VANGUARD.COM If you're like many Vanguard investors, you believe in planning and taking control of your own investments. Vanguard.com was built for you--and it's getting better all the time. Manage Your Investments With Ease Log on to Vanguard.com and: * See what you own (at Vanguard and elsewhere) and how you're doing by using our Consolidated View(TM) tool. * Check your overall asset allocation, no matter where your assets are held. * Compare your holdings with industry benchmarks. * Analyze your personal performance. * Invest online and even manage the mail you get from us. (Prefer to get fund reports like this one online? Just let us know!) * Set up a Watch List to make it easy to track funds and securities of interest. Plan Your Investments With Confidence Go to our Planning & Advice and Research Funds & Stocks sections and: * Take our Investor Questionnaire to find out what asset allocation might best suit your needs. * Find out how much you should save for retirement and for college costs. * Discover how investment costs affect your bottom line by using our Compare Fund Costs tool. * Find out how to maximize your after-tax returns in our PlainTalk(R) guide Be a Tax-Savvy Investor. * Attend our quarterly PlainTalk webcasts on investing. Find out what Vanguard.com can do for you. Log on today! 20 THE VANGUARD(R) FAMILY OF FUNDS STOCK FUNDS 500 Index Fund Calvert Social Index Fund Capital Opportunity Fund Capital Value Fund Convertible Securities Fund Developed Markets Index Fund Emerging Markets Stock Index Fund Energy Fund Equity Income Fund European Stock Index Fund Explorer(TM) Fund Extended Market Index Fund Global Equity Fund Growth and Income Fund Growth Equity Fund Growth Index Fund Health Care Fund Institutional Developed Markets Index Fund Institutional Index Fund Institutional Total Stock Market Index Fund International Explorer(TM) Fund International Growth Fund International Value Fund Mid-Cap Growth Fund Mid-Cap Index Fund Morgan(TM) Growth Fund Pacific Stock Index Fund Precious Metals Fund PRIMECAP Fund REIT Index Fund Selected Value Fund Small-Cap Growth Index Fund Small-Cap Index Fund Small-Cap Value Index Fund Strategic Equity Fund Tax-Managed Capital Appreciation Fund Tax-Managed Growth and Income Fund Tax-Managed International Fund Tax-Managed Small-Cap Fund Total International Stock Index Fund Total Stock Market Index Fund U.S. Growth Fund U.S. Value Fund Utilities Income Fund Value Index Fund Windsor(TM) Fund Windsor(TM) II Fund BALANCED FUNDS Asset Allocation Fund Balanced Index Fund LifeStrategy(R) Conservative Growth Fund LifeStrategy(R) Growth Fund LifeStrategy(R) Income Fund LifeStrategy(R) Moderate Growth Fund STAR(TM) Fund Tax-Managed Balanced Fund Wellesley(R) Income Fund Wellington(TM) Fund BOND FUNDS GNMA Fund High-Yield Corporate Fund High-Yield Tax-Exempt Fund Inflation-Protected Securities Fund Institutional Total Bond Market Index Fund Insured Long-Term Tax-Exempt Fund Intermediate-Term Bond Index Fund Intermediate-Term Corporate Fund Intermediate-Term Tax-Exempt Fund Intermediate-Term Treasury Fund Limited-Term Tax-Exempt Fund Long-Term Bond Index Fund Long-Term Corporate Fund Long-Term Tax-Exempt Fund Long-Term Treasury Fund Short-Term Bond Index Fund Short-Term Corporate Fund Short-Term Federal Fund Short-Term Tax-Exempt Fund Short-Term Treasury Fund State Tax-Exempt Bond Funds (California, Florida, Massachusetts, New Jersey, New York, Ohio, Pennsylvania) Total Bond Market Index Fund MONEY MARKET FUNDS Admiral(TM) Treasury Money Market Fund Federal Money Market Fund Prime Money Market Fund State Tax-Exempt Money Market Funds (California, New Jersey, New York, Ohio, Pennsylvania) Tax-Exempt Money Market Fund Treasury Money Market Fund VARIABLE ANNUITY Balanced Portfolio Capital Growth Portfolio Diversified Value Portfolio Equity Income Portfolio Equity Index Portfolio Growth Portfolio High Yield Bond Portfolio International Portfolio Mid-Cap Index Portfolio Money Market Portfolio REIT Index Portfolio Short-Term Corporate Portfolio Small-Cap Index Portfolio Small Company Growth Portfolio Total Bond Market Index Portfolio Total Stock Market Portfolio For information about Vanguard funds and annuities, including charges and expenses, obtain a prospectus from The Vanguard Group, P.O. Box 2600, Valley Forge, PA 19482-2600. Read it carefully before you invest or send money. THE PEOPLE WHO GOVERN YOUR FUND The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard(R) funds and provides services to them on an at-cost basis. A majority of Vanguard's board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. Our independent board members bring distinguished backgrounds in business, academia, and public service to their task of working with Vanguard officers to establish the policies and oversee the
======================================================================================================================= NAME POSITION(S) HELD WITH FUND (YEAR OF BIRTH) (NUMBER OF VANGUARD FUNDS TRUSTEE/OFFICER SINCE OVERSEEN BY TRUSTEE/OFFICER) PRINCIPAL OCCUPATION(S) DURING THE PAST FIVE YEARS - ----------------------------------------------------------------------------------------------------------------------- JOHN J. BRENNAN* Chairman of the Board, Chairman of the Board, Chief Executive Officer, and Director/ (1954) Chief Executive Officer, Trustee of The Vanguard Group, Inc., and of each of the May 1987 and Trustee the investment companies served by The Vanguard Group. (109) - ----------------------------------------------------------------------------------------------------------------------- INDEPENDENT TRUSTEES CHARLES D. ELLIS Trustee The Partners of '63 (pro bono ventures in education); Senior (1937) (109) Adviser to Greenwich Associates (international business January 2001 strategy consulting); Successor Trustee of Yale University; Overseer of the Stern School of Business at New York University; Trustee of the Whitehead Institute for Biomedical Research. - ----------------------------------------------------------------------------------------------------------------------- JOANN HEFFERNAN HEISEN Trustee Vice President, Chief Information Officer, and Member of the (1950) (109) Executive Committee of Johnson & Johnson (pharmaceuticals/ July 1998 consumer products); Director of the Medical Center at Princeton and Women's Research and Education Institute. - ----------------------------------------------------------------------------------------------------------------------- ALFRED M. RANKIN, JR. Trustee Chairman, President, Chief Executive Officer, and Director of (1941) (109) NACCO Industries, Inc. (forklift trucks/housewares/lignite); January 1993 Director of Goodrich Corporation (industrial products/ aircraft systems and services); Director of Standard Products Company (a supplier for the automotive industry) until 1998. - ----------------------------------------------------------------------------------------------------------------------- J. LAWRENCE WILSON Trustee Retired Chairman and Chief Executive Officer of Rohm and Haas (1936) (109) Co. (chemicals); Director of Cummins Inc. (diesel engines), (April 1985) The Mead Corp. (paper products), and AmerisourceBergen Corp. (pharmaceutical distribution); Trustee of Vanderbilt University. - ----------------------------------------------------------------------------------------------------------------------- EXECUTIVE OFFICERS* R. GREGORY BARTON Secretary Managing Director and General Counsel of The Vanguard Group, (1951) (109) Inc. (since September 1997); Secretary of The Vanguard Group (June 2001 and of each of the investment companies served by The Vanguard Group; Principal of The Vanguard Group (prior to September 1997). - ----------------------------------------------------------------------------------------------------------------------- THOMAS J. HIGGINS Treasurer Principal of The Vanguard Group, Inc.; Treasurer of each of (1957) (109) the investment companies served by The Vanguard Group. July 1998 - -----------------------------------------------------------------------------------------------------------------------
*Officers of the funds are "interested persons" as defined in the Investment Company Act of 1940. More information about the trustees is in the Statement of Additional Information, available from The Vanguard Group. activities of the funds. Among board members' responsibilities are selecting investment advisers for the funds; monitoring fund operations, performance, and costs; reviewing contracts; nominating and selecting new trustees/directors; and electing Vanguard officers. Each trustee serves a fund until its termination; or until the trustee's retirement, resignation, or death; or otherwise as specified in the fund's organizational documents. Any trustee may be removed at a shareholders' meeting by a vote representing two-thirds of the net asset value of all shares of the fund together with shares of other Vanguard funds organized within the same trust. The table on these two pages shows information for each trustee and executive officer of the fund. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482. ================================================================================ VANGUARD SENIOR MANAGEMENT TEAM MORTIMER J. BUCKLEY, Information Technology. F. WILLIAM MCNABB, III, Institutional Investor Group. JAMES H. GATELY, Direct Investor Services. MICHAEL S. MILLER, Planning and Development. KATHLEEN C. GUBANICH, Human Resources. RALPH K. PACKARD, Finance. IAN A. MACKINNON, Fixed Income Group. GEORGE U. SAUTER, Quantitative Equity Group. - -------------------------------------------------------------------------------- JOHN C. BOGLE, Founder; Chairman and Chief Executive Officer, 1974-1996. Vanguard, The Vanguard Group, Vanguard.com, Admiral, Explorer, Morgan, LifeStrategy, STAR, Wellesley, Wellington, Windsor, Consolidated View, PlainTalk, and the ship logo are trademarks of The Vanguard Group, Inc. 500 is a trademark of The McGraw-Hill Companies, Inc., and have been licensed for use by The Vanguard Group, Inc. Vanguard mutual funds are not sponsored, endorsed, sold, or promoted by Standard & Poor's, and Standard & Poor's makes no representation regarding the advisability of investing in the funds. Calvert Social Index is a trademark of Calvert Group, Ltd., and has been licensed for use by The Vanguard Group, Inc. Vanguard(R)Calvert Social Index Fund is not sponsored, endorsed, sold, or promoted by Calvert Group, Ltd., and Calvert Group, Ltd., makes no representation regarding the advisability of investing in the fund. All other marks are the exclusive property of their respective owners. [SHIP] [THE VANGUARD GROUP LOGO] Post Office Box 2600 Valley Forge, PA 19482-2600 ABOUT OUR COVER The photographs of the sails and ship that appear on the cover of this report are copyrighted by Michael Kahn. FOR MORE INFORMATION This report is intended for the fund's shareholders. It may not be distributed to prospective investors unless it is preceded or accompanied by the current fund prospectus. To receive a free copy of the prospectus or the Statement of Additional Information, or to request additional information about the fund or other Vanguard funds, please contact us at one of the adjacent telephone numbers or by e-mail through Vanguard.com(R). Prospectuses may also be viewed online. All comparative mutual fund data are from Lipper Inc. or Morningstar, Inc., unless otherwise noted. WORLD WIDE WEB www.vanguard.com FUND INFORMATION 1-800-662-7447 DIRECT INVESTOR ACCOUNT SERVICES 1-800-662-2739 INSTITUTIONAL INVESTOR SERVICES 1-800-523-1036 TEXT TELEPHONE 1-800-952-3335 (C)2002 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. Q5440 112002 VANGUARD(R) EQUITY INCOME FUND ANNUAL REPORT SEPTEMBER 30, 2002 [THE VANGUARD GROUP LOGO] EARNING YOUR TRUST EVERY DAY The latter part of 2001 and the first half of 2002 brought news of too many corporate scandals, with tales of greed and deception tarnishing Enron, Arthur Andersen, and WorldCom, among others. Given the questionable business dealings at some high-profile companies, investors can hardly be blamed for wondering whom they can trust. Vanguard is a name that should stand out. Why? Our unique corporate structure--The Vanguard Group is owned by each of its independently operated mutual funds and is charged with solely serving the funds' shareholders--ensures that our interests are aligned with yours. We have no other constituency to serve. We are client-focused because, quite frankly, it makes good business sense. Your trust is our most valuable asset, and every one of our crew members understands that his or her actions must meet the highest standards of ethical behavior and fiduciary responsibility. When you assess the combination of our organizational structure, the independent nature of each of our funds, our long track record of conducting business with integrity, and our total commitment to ethical behavior, we hope you will feel completely secure in entrusting your assets to us. There is no better place for them. - --John J. Brennan Chairman and Chief Executive Officer [PHOTO--JOHN J. BRENNAN] ================================================================================ SUMMARY * The Investor Shares of Vanguard Equity Income Fund returned -17.9% during the 12 months ended September 30, 2002. * Our return, obviously disappointing on an absolute basis, also lagged the results of our comparative standards. * The weakness in stocks persisted during the 12 months amid continuing questions about corporate misdeeds, a drop in profitability at many companies, and concern about tension in the Middle East and the possibility of a war with Iraq. ================================================================================ CONTENTS 1 Letter from the Chairman 6 Report from the Advisers 9 Fund Profile 10 Glossary of Investment Terms 11 Performance Summary 12 Your Fund's After-Tax Returns 13 Financial Statements ================================================================================ LETTER FROM THE CHAIRMAN Fellow Shareholder, During a volatile and difficult 12 months for stocks, the Investor Shares of Vanguard(R) Equity Income Fund returned -17.9%. Our result, obviously disappointing on an absolute basis, was also subpar in relation to the fund's comparative standards. As shown in the adjacent table, the return of the fund's Investor Shares lagged the results of the average equity income fund and the Russell 1000 Value Index by 0.9 percentage point and 1.0 percentage point, respectively. Compared with the index, the fund sustained a bigger drop because of poor stock selection in the "other energy" and producer durables sectors. Also, the fund invested less in financial services firms, which held up relatively well. The fund continues to emphasize dividend-paying stocks, and its yield as of September 30 was 2.9%, well above the overall market's 1.8% yield. Details of changes in net asset values and per-share distributions for the fund's Investor and Admiral Shares can be found in the table on page 5. If you own Vanguard Equity Income Fund in a taxable account, you may wish to review our report on the fund's after-tax returns on page 12. ==================================================== 2002 TOTAL RETURNS FISCAL YEAR ENDED SEPTEMBER 30 - ---------------------------------------------------- VANGUARD EQUITY INCOME FUND Investor Shares -17.9% Admiral Shares -17.8 Average Equity Income Fund* -17.0 Russell 1000 Value Index -16.9 Wilshire 5000 Index -17.5 - ---------------------------------------------------- *Derived from data provided by Lipper Inc. ==================================================== STOCK PRICES FELL AMID VALUATION WORRIES, ECONOMIC STRUGGLES, TALK OF WAR The 12 months ended September 30, 2002, were a bleak period for equity investors. The overall stock market, which was about one-third below its March 2000 peak when the period began, rebounded 12.4% in the fourth calendar quarter of 2001. But investors who hoped that a recovery was at hand were soon disappointed. Stocks were flat in the first quarter of 2002 and fell sharply in the second and third quarters. For the full fiscal year, the Wilshire 5000 Total Market Index registered a total return of -17.5%. From the stock market's peak in early 2000 through September 30, the index lost nearly half of its value. Price declines were not uniform in the 12-month period, but they were widespread. - -------------------------------------------------------------------------------- ADMIRAL(TM) SHARES A LOWER-COST SHARE CLASS FOR INVESTORS WHOSE LARGE OR LONG-STANDING ACCOUNTS PROVIDE ECONOMIES OF SCALE. - -------------------------------------------------------------------------------- 1 Growth stocks--generally, shares in companies expected to record rapid increases in earnings--led the market lower, as they have done since the beginning of the bear market. The Russell 3000 Growth Index returned -22.2%. Value stocks did not do much better; the Russell 3000 Value Index returned -15.9%. Large-capitalization stocks, as measured by the Russell 1000 Index, returned -19.5%. Small-caps fared slightly better, returning -9.3%, as tracked by the Russell 2000 Index. Investors had many reasons to be skittish. Between September 2001 and June 2002, after-tax corporate profits were 10% lower each quarter than they had been in the same periods a year earlier. Depressed earnings have made stocks seem expensive to some investors, despite the many months of price declines. The economic backdrop did little to boost investor confidence. After contracting during the first three quarters of 2001, the U.S. economy emerged from recession. Yet economic activity increased at only a modest pace during the fiscal year, and some economists said a "double-dip" recession was possible. Oil prices rose as talk of war with Iraq heated up during the summer, prompting concern about the potential disruption of oil supplies. ================================================================================ MARKET BAROMETER AVERAGE ANNUAL TOTAL RETURNS PERIODS ENDED SEPTEMBER 30, 2002 --------------------------------- ONE THREE FIVE YEAR YEARS YEARS - -------------------------------------------------------------------------------- STOCKS Russell 1000 Index (Large-caps) -19.5% -12.1% -1.5% Russell 2000 Index (Small-caps) -9.3 -4.1 -3.2 Wilshire 5000 Index (Entire market) -17.5 -11.7 -2.0 MSCI All Country World Index Free ex USA (International) -13.1 -13.6 -5.7 - -------------------------------------------------------------------------------- BONDS Lehman Aggregate Bond Index 8.6% 9.5% 7.8% (Broad taxable market) Lehman 10 Year Municipal Bond Index 9.5 8.6 6.8 Salomon Smith Barney 3-Month U.S. Treasury Bill Index 2.0 4.2 4.5 ================================================================================ CPI Consumer Price Index 1.5% 2.5% 2.3% ================================================================================ * HIGH-QUALITY BONDS DELIVERED TERRIFIC RESULTS The Lehman Brothers Aggregate Bond Index, which tracks the market for taxable investment-grade bonds, returned 8.6% during the period, as plunging interest rates pushed many bond prices higher. U.S. Treasury and government agency bonds delivered better results than corporate bonds because investors preferred issues with high credit quality in light of the economic uncertainty. The 3-month Treasury bill yielded 1.55% at the end of the period, down from 2.37% a year earlier. The 10-year Treasury note yielded 3.59%, down from 4.59%. AFTER A SOLID FIRST HALF, THE FUND FELL SHARPLY IN THE LAST SIX MONTHS The -17.9% total return of the Investor Shares of Vanguard Equity Income Fund during the 12 months ended September 30 reflected a -19.7% decline in 2 our share price and a return of 1.8% from income, including stock dividends. This result follows a -0.8% decline in fiscal 2001. We thank our shareholders for sticking with us during this trying period. A closer look at the year's result reveals the remarkably poor performance of the stock market over the past six months. The large rally in the fourth calendar quarter of 2001 helped the fund to return an excellent 9.5% for the first half of the fiscal year. But over the final six months of the period, the fund dropped -25.0%. As noted, during fiscal 2002, the fund's decline was more severe than the index's because of the poor performance of our selections in the "other energy" sector and the producer durables group, which includes heavy equipment makers, home builders, and defense contractors. The relative showing of our fund also suffered because we underweighted financial services stocks (investing 23% of the fund's assets, on average, in them during the fiscal year); financial services stocks accounted for 32% of the benchmark. Banks, insurers, and money management companies did not do well (-10.4%), but they held up better than the overall market. Our investment advisers' approach to the technology sector--they steered clear of it, for the most part--helped our relative performance. The few tech stocks we did hold fell -26.8%, a dismal performance, to be sure, but better than the -35.8% decline of the tech stocks in the Russell 1000 Value Index. For more details on the fund's fiscal 2002 performance, read the Report from the Advisers on page 6. (As you know, the fund's assets are divided among three investment advisers, who independently select stocks for the port-folio.) For the latest distribution of the fund's assets among our three investment advisers, see the adjacent table. ================================================================================ FUND ASSETS MANAGED SEPTEMBER 30, 2002 ----------------------- $ MILLION PERCENTAGE - -------------------------------------------------------------------------------- Newell Associates $972 48% Wellington Management Company, llp 624 31 John A. Levin & Company, Inc. 354 17 Cash Investments* 78 4 - -------------------------------------------------------------------------------- Total $2,028 100% - -------------------------------------------------------------------------------- *This cash is invested by The Vanguard Group in equity index products to simulate investment in stocks; each adviser also may maintain a modest cash position. ================================================================================ ================================================================================ OUR FUND FARED WORSE THAN THE INDEX BENCHMARK, OWING MAINLY TO SOME SUBPAR STOCK SELECTIONS. ================================================================================ OVER THE PAST DECADE, OUR RECORD HAS BEEN STRONG Looking back over the previous decade, you'll see that the fund's long-term performance is far better than its results for the past two fiscal years. The table on page 4 shows that a hypothetical $10,000 investment made ten years ago would have grown to more than $24,600, nearly $3,800 more than would have 3 accumulated in the average equity income mutual fund. Our margin over our average competitor was due to the solid efforts of our investment advisers as well as to another extremely important factor: low costs. In fiscal 2002, the Investor Shares of your fund had an expense ratio (annual operating expenses as a percentage of average net assets) of 0.46%, or $4.60 per $1,000 invested. The fund's Admiral Shares had an expense ratio of 0.39%. This was far below the 1.41%, or $14.10 per $1,000, charged by the average peer. There are few "universal truths" in investing. One of them is that cost matters. The lower you keep your investment costs, the more of the market's returns you will be able to capture. We outpaced the overall stock market, measured by the Wilshire 5000 Index, because of our orientation toward value stocks, which outpaced their growth counterparts during the past decade. ================================================================================ TOTAL RETURNS TEN YEARS ENDED SEPTEMBER 30, 2002 --------------------------------- AVERAGE FINAL VALUE OF ANNUAL A $10,000 RETURN INITIAL INVESTMENT - -------------------------------------------------------------------------------- Equity Income Fund Investor Shares 9.4% $24,620 Average Equity Income Fund 7.6 20,830 Russell 1000 Value Index 10.5 27,039 Wilshire 5000 Index 8.7 23,000 ================================================================================ BUILDING WEALTH INVOLVES TAKING RISK These days, most investors probably do not need a reminder that investing involves considerable risk. But we think it's important for investors to bear in mind that it is necessary to take risk to build wealth. In fact, taking no investment risk--eschewing asset classes or funds that will fluctuate in value--means opening yourself up to the very real risk that you will fail to meet your long-term investment goals. By diversifying your investment program, you can control the amount of risk you take and still make sure that you reap some of the rewards that the financial markets have to offer. SINCERELY, JOHN J. BRENNAN CHAIRMAN AND CHIEF EXECUTIVE OFFICER OCTOBER 10, 2002 4 ================================================================================ YOUR FUND'S PERFORMANCE AT A GLANCE SEPTEMBER 30, 2001-SEPTEMBER 30, 2002 DISTRIBUTIONS PER SHARE ------------------------ STARTING ENDING INCOME CAPITAL SHARE PRICE SHARE PRICE DIVIDENDS GAINS - -------------------------------------------------------------------------------- Equity Income Fund Investor Shares $22.22 $17.36 $0.480 $0.600 Admiral Shares 46.57 36.39 1.044 1.258 ================================================================================ 5 REPORT FROM THE ADVISERS Vanguard Equity Income Fund's total return of -17.9% for its Investor Shares during the fiscal year ended September 30, 2002, reflected the steep slide in the broad U.S. stock market during the period. However, even in a bad year for stocks, the fund's result was a bit below par. We trailed the -17.0% average result of the equity income fund category and were a full percentage point behind the Russell 1000 Value Index's -16.9% return. THE INVESTMENT ENVIRONMENT After a strong first half--the six months through March 31--the market dropped dramatically. Optimism present early in the year evaporated as investors were battered by a rash of negative economic and corporate news. Reduced expectations concerning corporate profits; allegations of malfeasance by executives, auditors, and securities firms; terrorism concerns; and the potential war with Iraq contributed to reduced expectations for economic growth. It was, all in all, a lethal mix for stock prices. Although the fall in prices has improved valuations for stocks, price/earnings ratios for the broad market remain at relatively lofty levels--the S&P 500 Index's P/E ratio as of September 30 was about 31 times earnings for the trailing 12 months, roughly double the long-term average. Any overall rise in stock prices will probably need to be supported by an increase in earnings, rather than by an expansion in the P/E multiple. Of course, actual earnings weren't as high as some companies had been reporting in recent years. Going forward, dividend income is likely to be a bigger component of total returns from stocks than in the recent past. Dividend yields on many stocks the fund owns are well above the current average for the market and near the long-term average for stocks. Stocks of financially sound companies paying relatively high dividend yields--the kind that your fund emphasizes--should be more attractive to investors who have learned that, while reported earnings can sometimes be illusory, cash dividends represent real money. THE FUND'S SHORTFALLS Telecommunications and energy-related stocks were the market's weakest performers and also hurt Vanguard Equity Income Fund during fiscal 2002. Telecom companies continued to plunge in market value because of overcapacity ================================================================================ INVESTMENT PHILOSOPHY THE ADVISERS BELIEVE THAT A FUND MADE UP OF UNDERVALUED STOCKS, MOST OF WHICH OFFER HIGH DIVIDEND YIELDS COMPARED TO THEIR PAST LEVELS AND TO THE OVERALL MARKET, CAN PROVIDE A HIGH LEVEL OF CURRENT INCOME, THE POTENTIAL FOR CAPITAL APPRECIATION, AND BELOW-AVERAGE PRICE VOLATILITY FOR A STOCK MUTUAL FUND. ================================================================================ 6 and a fierce competitive environment. The former "Baby Bell" operating companies--the fund's biggest telecom holdings--are likely to be among the survivors in this industry because they connect with the vast majority of households, are building a long-distance presence, and have stronger finances than many competitors. Energy stocks--especially those of exploration and oil-service firms--slumped largely because of investor concerns that current high prices and sluggish economic growth will dampen worldwide demand. Health care stocks, another key sector for the market and the fund, were hurt by competitive pressures, expirations of patents for a number of big-selling drugs, and a relative scarcity of new blockbuster therapies on the horizon. Compared with the Russell 1000 Value Index, the fund also was hurt by having "only" about 23% of assets in the financial services sector, a relatively strong group that lost "only" about -10% during the year. The index had an average weighting of 32% in financial stocks. WHERE THE FUND SURPASSED ITS BENCHMARK In such a tough year, "success" truly is a relative concept--in many sectors, so few stocks rose that the key was to avoid really large losses. A case in point was the technology sector, where the fund was largely absent--having less than 1% of assets at work during the year. Our tech stocks were hurt, declining about - -27% on average, but the index, with an average weighting of nearly 6% in tech stocks, fared worse by losing about -36%. Utilities--home to the telecom stocks as well as electric, gas, and water utilities--was the second-worst-performing sector for the index, with a -41% return for the year. In this sector, the damage was not quite as bad for your fund (a -35% average return). The fund benefited from a heavier position in consumer staples issues than the index (an average of about 9% of fund assets versus 6.5% for the index). The defensive nature of these stocks, which are not as sensitive to economic ups and downs as many other stocks, helped; as a group, they lost less than -1%. THE FUND'S POSITIONING Overall, the fund continues to be broadly diversified, with an emphasis on well-established, dividend-paying stocks. As the 2003 fiscal year begins, our most-sizable industry exposures are in financial services (roughly 25% of assets), utilities, mainly telecoms, (15%), health care (12%), and integrated-oil companies (12%). Compared with the Russell 1000 Value Index, our largest underweighting is in financials, where the index stake exceeds 34%. Our largest overweighting versus the index is in health care, where we have boosted our position as stock prices have fallen to attractive levels. We continue to have only a tiny exposure to technology stocks, most of which offer no dividends. 7 Although there were virtually no safe havens in the stock market during fiscal 2002, we believe that the substantial dividend yield provided by our stocks provides some downside protection and will be an important element in total return. At the same time, the strength of many of the companies in which we invest should allow for long-term growth. NEWELL ASSOCIATES WELLINGTON MANAGEMENT COMPANY, LLP JOHN A. LEVIN & Company, Inc. October 14, 2002 ================================================================================ PORTFOLIO CHANGES FISCAL YEAR ENDED SEPTEMBER 30, 2002 COMMENTS - -------------------------------------------------------------------------------- ADDITIONS BRISTOL-MYERS SQUIBB We bought more shares after the price dropped owing to a large backlog of inventory and investigations into the company's accounting. Concerns about the company's long-term earnings are probably overdone. - -------------------------------------------------------------------------------- SBC COMMUNICATIONS Although overcapacity and heavy capital-spending requirements continue to burden the industry, demand for telephone service isn't going away, and the Baby Bells are likely to survive. - -------------------------------------------------------------------------------- MERCK Earnings prospects for Merck will brighten as new drugs are introduced. - -------------------------------------------------------------------------------- PNC FINANCIAL SERVICES The stock was undervalued relative to other financial services companies with a similar fee-income structure. - -------------------------------------------------------------------------------- MASCO* Unwarranted weakness in its stock created an opportunity to buy this well-managed company. ================================================================================ REDUCTIONS FIRST DATA** The stock surpassed its price target after a nice rise. - -------------------------------------------------------------------------------- PROCTER & Gamble It achieved its target price. - -------------------------------------------------------------------------------- CONSTELLATION ENERGY** Sold after the price had risen and the power-utility sector became too volatile. - -------------------------------------------------------------------------------- BAXTER INTERNATIONAL This health care company's stock had risen substantially. - -------------------------------------------------------------------------------- ACE Sold shares after the stock appreciated more than 40% from its September 2001 lows. We were concerned about the company's exposure to asbestos liabilities. - -------------------------------------------------------------------------------- *New holding in portfolio. **Eliminated from portfolio. SEE PAGE 13 FOR A COMPLETE LISTING OF THE FUND'S HOLDINGS. 8 FUND PROFILE AS OF SEPTEMBER 30, 2002 This Profile provides a snapshot of the fund's characteristics, compared where indicated with both an appropriate market index and a broad market index. Key terms are defined on page 10. ================================================================================ EQUITY INCOME FUND - -------------------------------------------------------- PORTFOLIO CHARACTERISTICS COMPARATIVE BROAD FUND INDEX* INDEX** - -------------------------------------------------------- Number of Stocks 165 752 5,732 Median Market Cap $31.3B $19.2B $24.8B Price/Earnings Ratio 19.7x 18.4x 22.0x Price/Book Ratio 2.2x 1.8x 2.4x Yield 2.8% 1.8% Investor Shares 2.9% Admiral Shares 2.9% Return on Equity 21.6% 18.9% 21.3% Earnings Growth Rate 3.6% 5.1% 9.3% Foreign Holdings 5.6% 0.0% 0.3% Turnover Rate 21% -- -- Expense Ratio -- -- Investor Shares 0.46% Admiral Shares 0.39% Cash Investments 2.5% -- -- - -------------------------------------------------------- - -------------------------------------------------------- TEN LARGEST HOLDINGS (% OF TOTAL NET ASSETS) ExxonMobil Corp. 3.7% (oil) ChevronTexaco Corp. 2.8 (oil) Bank of America Corp. 2.6 (banking) Verizon Communications 2.2 (telecommunications) Merck & Co., Inc. 2.0 (pharmaceuticals) SBC Communications Inc. 2.0 (telecommunications) Bristol-Myers Squibb Co. 1.9 (pharmaceuticals) Kimberly-Clark Corp. 1.9 (consumer products) BP PLC ADR 1.7 (oil) Dow Chemical Co. 1.7 (chemicals) - -------------------------------------------------------- Top Ten 22.5% - -------------------------------------------------------- The "Ten Largest Holdings" excludes any temporary cash investments and equity index products. - -------------------------------------------------------- VOLATILITY MEASURES COMPARATIVE BROAD FUND INDEX* FUND INDEX** - -------------------------------------------------------- R-Squared 0.94 1.00 0.32 1.00 Beta 0.90 1.00 0.45 1.00 - -------------------------------------------------------- - -------------------------------------------------------- INVESTMENT FOCUS MARKET CAP - LARGE STYLE - VALUE - -------------------------------------------------------- - -------------------------------------------------------- SECTOR DIVERSIFICATION (% OF COMMON STOCKS) COMPARATIVE BROAD FUND INDEX* INDEX** - -------------------------------------------------------- Auto & Transportation 2.6% 3.6% 2.9% Consumer Discretionary 8.1 10.8 15.5 Consumer Staples 9.0 5.9 8.0 Financial Services 25.1 34.5 22.8 Health Care 11.9 3.7 14.5 Integrated Oils 11.7 9.3 3.8 Other Energy 2.1 1.7 2.1 Materials & Processing 7.3 5.9 3.8 Producer Durables 3.2 4.4 3.9 Technology 0.8 4.8 11.4 Utilities 14.7 13.7 6.4 Other 3.5 1.7 4.9 - -------------------------------------------------------- *Russell 1000 Value Index. **Wilshire 5000 Index. VISIT OUR WEBSITE AT WWW.VANGUARD.COM FOR REGULARLY UPDATED FUND INFORMATION. 9 GLOSSARY OF INVESTMENT TERMS BETA. A measure of the magnitude of a fund's past share-price fluctuations in relation to the ups and downs of the fund's comparative index and an overall market index. Each index is assigned a beta of 1.00. Compared with a given index, a fund with a beta of 1.20 would have seen its share price rise or fall by 12% when the index rose or fell by 10%. - -------------------------------------------------------------------------------- CASH INVESTMENTS. The percentage of a fund's net assets invested in "cash equivalents"--highly liquid, short-term, interest-bearing securities. This figure does not include cash invested in equity index products to simulate stock investment. - -------------------------------------------------------------------------------- EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the past five years for the stocks now in a fund. - -------------------------------------------------------------------------------- EXPENSE RATIO. The percentage of a fund's average net assets used to pay its annual administrative and advisory expenses. These expenses directly reduce returns to investors. - -------------------------------------------------------------------------------- FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks or American Depositary Receipts of companies based outside the United States. - -------------------------------------------------------------------------------- MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. - -------------------------------------------------------------------------------- PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book value, per share. For a fund, the weighted average price/book ratio of the stocks it holds. - -------------------------------------------------------------------------------- PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company's future growth. - -------------------------------------------------------------------------------- R-SQUARED. A measure of how much of a fund's past returns can be explained by the returns from the market in general, as measured by the fund's comparative index and by an overall market index. If a fund's total returns were precisely synchronized with an index's returns, its R-squared would be 1.00. If the fund's returns bore no relationship to the index's returns, its R-squared would be 0. - -------------------------------------------------------------------------------- RETURN ON EQUITY. The annual average rate of return generated by a company during the past five years for each dollar of shareholder's equity (net income divided by shareholder's equity). For a fund, the weighted average return on equity for the companies whose stocks it holds. - -------------------------------------------------------------------------------- TURNOVER RATE. An indication of the fund's trading activity. Funds with high turnover rates incur higher transaction costs and are more likely to distribute capital gains (which are taxable to investors). - -------------------------------------------------------------------------------- YIELD. A snapshot of a fund's income from interest and dividends. The yield, expressed as a percentage of the fund's net asset value, is based on income earned over the past 30 days and is annualized, or projected forward for the coming year. The index yield is based on the current annualized rate of dividends paid on stocks in the index. - -------------------------------------------------------------------------------- 10 PERFORMANCE SUMMARY AS OF SEPTEMBER 30, 2002 All of the returns in this report represent past performance, which cannot be used to predict future returns that may be achieved by the fund. Note, too, that both share price and return can fluctuate widely. An investor's shares, when redeemed, could be worth more or less than their original cost. The returns shown do not reflect taxes that a shareholder would pay on fund distributions or on the redemption of fund shares. EQUITY INCOME FUND - -------------------------------------------------------------------------------- CUMULATIVE PERFORMANCE SEPTEMBER 30, 1992-SEPTEMBER 30, 2002 INITIAL INVESTMENT OF $10,000
- --------------------------------------------------------------------------------------------------------------------- Equity Income Fund Inv Average Equity Income Fund Russell 1000 Value Index Wilshire 5000 Index 199209 10000 10000 10000 10000 199212 10221 10436 10584 10728 199303 10989 11133 11607 11185 199306 11270 11258 11947 11269 199309 11917 11768 12536 11725 199312 11718 11909 12502 11939 199403 10949 11468 12065 11493 199406 11164 11597 12140 11404 199409 11656 12079 12450 12023 199412 11531 11739 12253 11931 199503 12635 12619 13418 13008 199506 13401 13528 14620 14223 MULTI-ADVISER APPROACH ADOPTED 199509 14544 14521 15898 15523 199512 15837 15332 16953 16280 199603 16310 15965 17912 17194 199606 16875 16511 18221 17952 199609 17194 17008 18751 18460 199612 18591 18236 20621 19733 199703 19134 18457 21150 19861 199706 21474 20885 24267 23215 199709 23069 22722 26684 25480 199712 24385 23168 27876 25908 199803 27043 25450 31126 29343 199806 26704 25231 31265 29915 199809 25269 22778 27643 26316 199812 28613 25666 32233 31978 199903 28266 25437 32695 33185 199906 31042 27885 36382 35775 199909 28443 25578 32817 33409 199912 28559 26523 34601 39512 200003 28119 26211 34767 41020 200006 28153 26017 33137 39181 200009 30228 27668 35743 39245 200012 32435 28319 37028 35191 200103 30823 26562 34860 30849 200106 31957 27866 36562 33154 200109 29983 25108 32557 27883 200112 31675 26719 34958 31333 200203 32819 27422 36389 31634 200206 30003 24988 33289 27645 200209 24620 20830 27039 23000 - ---------------------------------------------------------------------------------------------------------------------
================================================================================ AVERAGE ANNUAL TOTAL RETURNS PERIODS ENDED SEPTEMBER 30, 2002 ------------------------------------ FINAL VALUE ONE FIVE TEN OF A $10,000 YEAR YEARS YEARS INVESTMENT - -------------------------------------------------------------------------------- Equity Income Fund Investor Shares -17.89% 1.31% 9.43% $24,620 Average Equity Income Fund* -17.04 -1.72 7.61 20,830 Russell 1000 Value Index -16.95 0.26 10.46 27,039 Wilshire 5000 Index -17.51 -2.03 8.69 23,000 - -------------------------------------------------------------------------------- FINAL VALUE ONE SINCE OF A $250,000 YEAR INCEPTION** INVESTMENT - -------------------------------------------------------------------------------- Equity Income Fund Admiral Shares -17.80% -20.62% $192,525 Russell 1000 Value Index -16.95 -17.85 200,146 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- FISCAL-YEAR TOTAL RETURNS (%) SEPTEMBER 30, 1992-SEPTEMBER 30, 2002 FISCAL YEAR TOTAL RETURN RUSSELL 1000 VALUE INDEX 1993 19.2 25.4 1994 -2.2 -0.7 1995 24.8 27.7 1996 18.2 17.9 1997 34.2 42.3 1998 9.5 3.6 1999 12.6 18.7 2000 6.3 8.9 2001 -0.8 -8.9 2002 -17.9 -16.9 - -------------------------------------------------------------------------------- *Derived from data provided by Lipper Inc. **August 13, 2001. Note: See Financial Highlights tables on pages 19 and 20 for dividend and capital gains information. 11 YOUR FUND'S AFTER-TAX RETURNS This table presents returns for your fund both before and after taxes. The after-tax returns are shown in two ways: (1) assuming that an investor owned the fund during the entire period and paid taxes on the fund's distributions, and (2) assuming that an investor paid taxes on the fund's distributions and sold all shares at the end of each period. Calculations are based on the highest individual federal income tax and capital gains tax rates in effect at the times of the distributions and the hypothetical sales. State and local taxes were not considered. (In the example that assumes all fund shares were sold, a negative pre-tax total return translates into a higher after-tax return. This is because the calculation assumes that the investor received a tax deduction for the loss incurred on the sale.) The table shows returns for Investor Shares only; returns for other share classes will differ. Please note that your actual after-tax returns will depend on your tax situation and may differ from those shown. Also note that if you own the fund in a tax-deferred account, such as an individual retirement account or a 401(k) plan, this information does not apply to you. Such accounts are not subject to current taxes. Finally, keep in mind that a fund's performance--whether before or after taxes--does not indicate how it will perform in the future.
- --------------------------------------------------------------------------------------------------- Average Annual Total Returns Periods Ended September 30, 2002 One Year Five Years Ten Years ------------------------------------- EQUITY INCOME FUND INVESTOR SHARES Returns Before Taxes -17.89% 1.31% 9.43% Returns After Taxes on Distributions -18.85 -0.52 7.34 Returns After Taxes on Distributions and Sale of Fund Shares -10.13 0.64 7.06 - ---------------------------------------------------------------------------------------------------
12 FINANCIAL STATEMENTS AS OF SEPTEMBER 30, 2002 STATEMENT OF NET ASSETS This Statement provides a detailed list of the fund's holdings, including each security's market value on the last day of the reporting period. Securities are grouped and subtotaled by asset type (common stocks, bonds, etc.) and by industry sector. Other assets are added to, and liabilities are subtracted from, the value of Total Investments to calculate the fund's Net Assets. Finally, Net Assets are divided by the outstanding shares of the fund to arrive at its share price, or Net Asset Value (NAV) Per Share. At the end of the Statement of Net Assets, you will find a table displaying the composition of the fund's net assets. Because all income and any realized gains must be distributed to shareholders each year, the bulk of net assets consists of Paid-in Capital (money invested by shareholders). The amounts shown for Undistributed Net Investment Income and Accumulated Net Realized Gains usually approximate the sums the fund had available to distribute to shareholders as income dividends or capital gains as of the statement date, but may differ because certain investments or transactions may be treated differently for financial statement and tax purposes. Any Accumulated Net Realized Losses, and any cumulative excess of distributions over net income or net realized gains, will appear as negative balances. Unrealized Appreciation (Depreciation) is the difference between the market value of the fund's investments and their cost, and reflects the gains (losses) that would be realized if the fund were to sell all of its investments at their statement-date values. - -------------------------------------------------------------------------------- MARKET VALUE* EQUITY INCOME FUND SHARES (000) - --------------------------------------------------------------- COMMON STOCKS (93.2%)(1) - --------------------------------------------------------------- AUTO & Transportation (2.4%) CSX Corp. 503,200 13,274 Ford Motor Co. 961,639 9,424 Union Pacific Corp. 111,600 6,458 Genuine Parts Co. 201,846 6,185 Norfolk Southern Corp. 264,258 5,335 General Motors Corp. 117,700 4,579 The Goodyear Tire & Rubber Co. 429,200 3,816 Visteon Corp. 34,030 322 ---------- 49,393 ---------- CONSUMER DISCRETIONARY (7.5%) Kimberly-Clark Corp. 670,875 37,998 The Stanley Works 424,400 13,865 May Department Stores Co. 589,904 13,432 Gillette Co. 389,900 11,541 * Accenture Ltd. 578,500 8,261 Tribune Co. 167,500 7,003 McDonald's Corp. 385,700 6,811 The McGraw-Hill Cos., Inc. 111,200 6,808 Avon Products, Inc. 137,000 6,316 J.C. Penney Co., Inc. (Holding Company) 326,580 5,199 Newell Rubbermaid, Inc. 147,300 4,547 The Walt Disney Co. 299,400 4,533 * KPMG Consulting Inc. 692,200 4,472 Sears, Roebuck & Co. 111,429 4,346 Gannett Co., Inc. 53,800 3,883 Home Depot, Inc. 148,600 3,878 - -------------------------------------------------------------------------------- MARKET VALUE* SHARES (000) - --------------------------------------------------------------- Whirlpool Corp. 84,400 3,871 Eastman Kodak Co. 129,224 3,520 International Flavors & Fragrances, Inc. 68,300 2,175 ---------- 152,459 ---------- CONSUMER STAPLES (8.4%) Philip Morris Cos., Inc. 774,550 30,053 Procter & Gamble Co. 256,600 22,935 Anheuser-Busch Cos., Inc. 359,000 18,165 H.J. Heinz Co. 533,140 17,791 PepsiCo, Inc. 439,740 16,248 Sara Lee Corp. 860,500 15,739 The Coca-Cola Co. 207,600 9,957 General Mills, Inc. 160,600 7,134 Kellogg Co. 209,100 6,953 Albertson's, Inc. 209,800 5,069 ConAgra Foods, Inc. 193,600 4,811 The Clorox Co. 116,900 4,697 Hershey Foods Corp. 66,800 4,145 Campbell Soup Co. 169,100 3,734 UST, Inc. 112,900 3,185 ---------- 170,616 ---------- FINANCIAL SERVICES (23.4%) Bank of America Corp. 827,623 52,802 Washington Mutual, Inc. 926,765 29,165 Wachovia Corp. 857,800 28,041 Wells Fargo & Co. 570,665 27,483 PNC Financial Services Group 593,294 25,019 XL Capital Ltd. Class A 271,300 19,941 13 =============================================================== MARKET VALUE* EQUITY INCOME FUND SHARES (000) - --------------------------------------------------------------- U.S. Bancorp 1,056,956 19,638 Marsh & McLennan Cos., Inc. 471,400 19,629 Bank One Corp. 483,222 18,073 St. Paul Cos., Inc. 611,333 17,557 Aon Corp. 775,700 15,894 The Chubb Corp. 259,701 14,239 National City Corp. 477,300 13,617 Citigroup, Inc. 440,766 13,069 KeyCorp 489,370 12,220 Fannie Mae 201,600 12,003 UnumProvident Corp. 570,100 11,602 J.P. Morgan Chase & Co. 606,645 11,520 Ace, Ltd. 362,000 10,719 The Hartford Financial Services Group Inc. 255,600 10,480 Comerica, Inc. 194,400 9,374 American International Group, Inc. 159,021 8,698 Morgan Stanley 255,000 8,639 FleetBoston Financial Corp. 412,499 8,386 CIGNA Corp. 113,700 8,044 Lincoln National Corp. 253,300 7,738 The Bank of New York Co., Inc. 257,200 7,392 Archstone-Smith Trust REIT 263,800 6,299 Mellon Financial Corp. 216,400 5,611 SAFECO Corp. 169,500 5,387 Merrill Lynch & Co., Inc. 162,132 5,342 * CIT Group Inc. 287,700 5,173 * Prudential Financial, Inc. 161,000 4,598 * Travelers Property Casualty Corp. Class A 35,722 472 * Corrections Corp. of America REIT 17,987 253 ---------- 474,117 ---------- HEALTH CARE (11.1%) Merck & Co., Inc. 903,300 41,290 Bristol-Myers Squibb Co. 1,605,400 38,209 Pharmacia Corp. 766,700 29,809 Abbott Laboratories 675,400 27,286 GlaxoSmithKline PLC ADR 502,304 19,303 Johnson & Johnson 314,800 17,024 Eli Lilly & Co. 273,900 15,158 Schering-Plough Corp. 667,300 14,227 Wyeth 437,400 13,909 Baxter International, Inc. 129,018 3,942 Pfizer, Inc. 125,000 3,628 Aetna Inc. 40,000 1,432 ---------- 225,217 ---------- INTEGRATED OILS (10.9%) ExxonMobil Corp. 2,341,164 74,683 ChevronTexaco Corp. 816,660 56,554 BP PLC ADR 866,786 34,585 ConocoPhillips 318,322 14,719 - --------------------------------------------------------------- MARKET VALUE* SHARES (000) - --------------------------------------------------------------- Royal Dutch Petroleum Co. ADR 359,900 14,457 Shell Transport & Trading Co. ADR 404,300 14,442 Unocal Corp. 254,300 7,982 Marathon Oil Corp. 165,300 3,749 ---------- 221,171 ---------- OTHER ENERGY (2.0%) Burlington Resources, Inc. 328,000 12,582 IHC Caland NV 200,000 9,092 El Paso Corp. 736,350 6,090 Schlumberger Ltd. 122,000 4,692 Baker Hughes, Inc. 137,800 4,000 * Reliant Resources, Inc. 996,900 1,745 Williams Cos., Inc. 749,400 1,694 ---------- 39,895 ---------- MATERIALS & Processing (6.8%) Dow Chemical Co. 1,232,937 33,672 E.I. du Pont de Nemours & Co. 714,127 25,759 Weyerhaeuser Co. 487,700 21,347 International Paper Co. 317,252 10,593 Masco Corp. 480,100 9,386 Eastman Chemical Co. 226,700 8,653 Ashland, Inc. 298,800 8,005 PPG Industries, Inc. 131,200 5,865 Alcoa Inc. 303,300 5,854 Archer-Daniels-Midland Co. 322,000 4,028 Monsanto Co. 130,791 2,000 United States Steel Corp. 135,000 1,567 * Crown Cork & Seal Co., Inc. 125,000 656 ---------- 137,385 ---------- PRODUCER DURABLES (3.0%) Caterpillar, Inc. 451,164 16,792 Emerson Electric Co. 317,459 13,949 Deere & Co. 289,246 13,146 Koninklijke (Royal) Philips Electronics NV 432,800 6,289 Pitney Bowes, Inc. 155,700 4,747 The Boeing Co. 111,200 3,795 * Xerox Corp. 279,200 1,382 Lockheed Martin Corp. 3,100 200 ---------- 60,300 ---------- TECHNOLOGY (0.8%) International Business Machines Corp. 130,100 7,597 Hewlett-Packard Co. 577,600 6,741 Rockwell Automation, Inc. 89,000 1,448 ---------- 15,786 ---------- UTILITIES (13.7%) Verizon Communications 1,609,057 44,153 SBC Communications Inc. 2,002,173 40,244 BellSouth Corp. 1,428,404 26,226 Questar Corp. 671,900 15,346 - --------------------------------------------------------------- 14 MARKET VALUE* SHARES (000) - --------------------------------------------------------------- Exelon Corp. 320,000 15,200 NICOR Inc. 499,500 14,086 FPL Group, Inc. 259,535 13,963 AT&T Corp. 993,852 11,936 Southern Co. 364,210 10,482 National Fuel Gas Co. 470,600 9,351 DTE Energy Co. 225,600 9,182 Allegheny Energy, Inc. 670,300 8,781 Progress Energy, Inc. 209,700 8,570 Dominion Resources, Inc. 154,481 7,837 Duke Energy Corp. 293,604 5,740 TXU Corp. 132,796 5,539 KeySpan Corp. 146,700 4,914 Consolidated Edison Inc. 120,400 4,842 ScottishPower PLC ADR 182,845 3,977 Westar Energy, Inc. 322,800 3,247 Sprint Corp. 355,400 3,241 Pinnacle West Capital Corp. 113,700 3,156 American Electric Power Co., Inc. 100,660 2,870 SCANA Corp. 92,800 2,415 * Edison International 135,840 1,358 * Sprint PCS 579,900 1,137 * Mirant Corp. 45,936 101 ---------- 277,894 ---------- OTHER (3.2%) 3M Co. 235,707 25,921 General Electric Co. 801,300 19,752 Honeywell International Inc. 307,762 6,666 Tyco International Ltd. 468,900 6,611 Fortune Brands, Inc. 126,731 5,993 Textron, Inc. 54,100 1,845 ---------- 66,788 ---------- - -------------------------------------------------------------------------------- TOTAL COMMON STOCKS (Cost $1,824,693) 1,891,021 - -------------------------------------------------------------------------------- FACE AMOUNT (000) - --------------------------------------------------------------- CONVERTIBLE BONDS (0.4%) - --------------------------------------------------------------- Hewlett Packard Co. Cvt. (2) 0.00%, 10/14/2017 $6,750 2,582 Incyte Genomics, Inc. Cvt. 5.50%, 2/1/2007 1,500 1,003 Regeneron Pharmaceutical, Inc. Cvt. 5.50%, 10/17/2008 5,000 3,594 - --------------------------------------------------------------- TOTAL CONVERTIBLE BONDS (Cost $10,025) 7,179 - --------------------------------------------------------------- MARKET VALUE* SHARES (000) - --------------------------------------------------------------- TEMPORARY INVESTMENTS (6.9%)(1) - --------------------------------------------------------------- Vanguard Index Participation Equity Receipts-- Total Stock Market 639,000 $ 49,043 FACE AMOUNT (000) ------------ Federal National Mortgage Assn. (3) 1.96%, 10/30/2002 $ 3,000 2,996 Repurchase Agreements Collateralized by U.S. Government Obligations in a Pooled Cash Account 1.95%, 10/1/2002 81,489 81,489 1.95%, 10/1/2002--Note G 7,130 7,130 - -------------------------------------------------------------------------------- TOTAL TEMPORARY INVESTMENTS (Cost $154,653) 140,658 - -------------------------------------------------------------------------------- TOTAL INVESTMENTS (100.5%) (Cost $1,989,371) 2,038,858 - -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (-0.5%) - -------------------------------------------------------------------------------- Other Assets--Note C 18,384 Liabilities--Note G (28,959) ---------- (10,575) ---------- - -------------------------------------------------------------------------------- NET ASSETS (100%) $2,028,283 ================================================================================ *See Note A in Notes to Financial Statements. *Non-income-producing security. (1)The fund invests a portion of its cash reserves in equity markets through the use of index futures contracts and exchange-traded funds. After giving effect to these investments, the fund's effective common stock and temporary cash investment positions represent 97.1% and 3.0%, respectively, of net assets. See Note F in Notes to Financial Statements. (2)Security exempt from registration under Rule 144A of the Securities Act of 1933. These securities may be sold in transactions exempt from registration, normally to qualified institutional buyers. At September 30, 2002, the value of these securities represented 0.1% of net assets. (3)Security segregated as initial margin for open futures contracts. ADR--American Depositary Receipt. REIT--Real Estate Investment Trust. 15 ================================================================================ AMOUNT EQUITY INCOME FUND (000) - --------------------------------------------------------------- AT SEPTEMBER 30, 2002, NET ASSETS CONSISTED OF: - --------------------------------------------------------------- Paid-in Capital $1,981,362 Undistributed Net Investment Income 176 Accumulated Net Realized Gains--Note E 228 Unrealized Appreciation (Depreciation)--Note F Investment Securities 49,487 Futures Contracts (2,970) - --------------------------------------------------------------- NET ASSETS $2,028,283 ================================================================================ Investor Shares--Net Assets Applicable to 102,264,311 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $1,775,727 - --------------------------------------------------------------- NET ASSET VALUE PER SHARE-- INVESTOR SHARES $17.36 ================================================================================ Admiral Shares--Net Assets Applicable to 6,939,660 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $252,556 - --------------------------------------------------------------- NET ASSET VALUE PER SHARE-- ADMIRAL SHARES $36.39 ================================================================================ 16 STATEMENT OF OPERATIONS This Statement shows the types of income earned by the fund during the reporting period, and details the operating expenses charged to each class of its shares. These expenses directly reduce the amount of investment income available to pay to shareholders as income dividends. This Statement also shows any Net Gain (Loss) realized on the sale of investments, and the increase or decrease in the Unrealized Appreciation (Depreciation) of investments during the period. ================================================================================ EQUITY INCOME FUND YEAR ENDED SEPTEMBER 30, 2002 (000) - -------------------------------------------------------------------------------- INVESTMENT INCOME Income Dividends* $ 61,804 Interest 2,648 Security Lending 52 - -------------------------------------------------------------------------------- Total Income 64,504 - -------------------------------------------------------------------------------- Expenses Investment Advisory Fees--Note B Basic Fee 3,873 Performance Adjustment 749 The Vanguard Group--Note C Management and Administrative Investor Shares 5,422 Admiral Shares 470 Marketing and Distribution Investor Shares 294 Admiral Shares 22 Custodian Fees 39 Auditing Fees 12 Shareholders' Reports and Proxies Investor Shares 97 Admiral Shares 1 Trustees' Fees and Expenses 3 - -------------------------------------------------------------------------------- Total Expenses 10,982 Expenses Paid Indirectly--Note D (501) - -------------------------------------------------------------------------------- Net Expenses 10,481 - -------------------------------------------------------------------------------- NET INVESTMENT INCOME 54,023 - -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) Investment Securities Sold* 4,176 Futures Contracts (5,947) - -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) (1,771) - -------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) Investment Securities (503,925) Futures Contracts (648) - -------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) (504,573) - -------------------------------------------------------------------------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS $(452,321) ================================================================================ *Dividend income and realized net gain (loss) from affiliated companies of the fund were $918,000 and $(4,926,000), respectively. 17 STATEMENT OF CHANGES IN NET ASSETS This Statement shows how the fund's total net assets changed during the two most recent reporting periods. The Operations section summarizes information detailed in the Statement of Operations. The amounts shown as Distributions to shareholders from the fund's net income and capital gains may not match the amounts shown in the Operations section, because distributions are determined on a tax basis and may be made in a period different from the one in which the income was earned or the gains were realized on the financial statements. The Capital Share Transactions section shows the net amount shareholders invested in or redeemed from the fund. Distributions and Capital Share Transactions are shown separately for each class of shares. ================================================================================ EQUITY INCOME FUND -------------------------- YEAR ENDED SEPTEMBER 30, -------------------------- 2002 2001 (000) (000) - -------------------------------------------------------------------------------- INCREASE (DECREASE) IN NET ASSETS OPERATIONS Net Investment Income $ 54,023 $ 57,434 Realized Net Gain (Loss) (1,771) 76,286 Change in Unrealized Appreciation (Depreciation) (504,573) (162,233) - -------------------------------------------------------------------------------- Net Increase (Decrease) in Net Assets Resulting from Operations (452,321) (28,513) - -------------------------------------------------------------------------------- DISTRIBUTIONS Net Investment Income Investor Shares (48,065) (56,674) Admiral Shares (6,100) (744) Realized Capital Gain* Investor Shares (58,033) (113,538) Admiral Shares (5,987) -- - -------------------------------------------------------------------------------- Total Distributions (118,185) (170,956) - -------------------------------------------------------------------------------- CAPITAL SHARE TRANSACTIONS--NOTE H Investor Shares 94,108 (47,150) Admiral Shares 161,021 170,206 - -------------------------------------------------------------------------------- Net Increase (Decrease) from Capital Share Transactions 255,129 123,056 - -------------------------------------------------------------------------------- Total Increase (Decrease) (315,377) (76,413) - -------------------------------------------------------------------------------- NET ASSETS Beginning of Period 2,343,660 2,420,073 - -------------------------------------------------------------------------------- End of Period $2,028,283 $2,343,660 ================================================================================ *Includes short-term gain distributions totaling $0 and $996,000, respectively, that are treated as ordinary income dividends for tax purposes. 18 FINANCIAL HIGHLIGHTS This table summarizes the fund's investment results and distributions to shareholders on a per-share basis for each class of shares. It also presents the Total Return and shows net investment income and expenses as percentages of average net assets. These data will help you assess: the variability of the fund's net income and total returns from year to year; the relative contributions of net income and capital gains to the fund's total return; how much it costs to operate the fund; and the extent to which the fund tends to distribute capital gains. The table also shows the Portfolio Turnover Rate, a measure of trading activity. A turnover rate of 100% means that the average security is held in the fund for one year.
===================================================================================================== EQUITY INCOME FUND INVESTOR SHARES - ----------------------------------------------------------------------------------------------------- YEAR ENDED SEPTEMBER 30, ---------------------------------------- FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 2002 2001 2000 1999 1998 - ----------------------------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $22.22 $24.06 $24.14 $22.80 $22.28 - ----------------------------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .48 .539 .62 .64 .64 Net Realized and Unrealized Gain (Loss) on Investments (4.26) (.699) .81 2.20 1.44 - ----------------------------------------------------------------------------------------------------- Total from Investment Operations (3.78) (.160) 1.43 2.84 2.08 - ----------------------------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.48) (.540) (.64) (.67) (.67) Distributions from Realized Capital Gains (.60) (1.140) (.87) (.83) (.89) - ----------------------------------------------------------------------------------------------------- Total Distributions (1.08) (1.680) (1.51) (1.50) (1.56) - ----------------------------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $17.36 $22.22 $24.06 $24.14 $22.80 ===================================================================================================== TOTAL RETURN -17.89% -0.81% 6.28% 12.56% 9.54% ===================================================================================================== RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $1,776 $2,182 $2,420 $3,009 $2,378 Ratio of Total Expenses to Average Net Assets 0.46% 0.47% 0.43% 0.41% 0.39% Ratio of Net Investment Income to Average Net Assets 2.21% 2.26% 2.59% 2.59% 2.80% Portfolio Turnover Rate 21% 31% 36% 18% 23% =====================================================================================================
19 FINANCIAL HIGHLIGHTS (CONTINUED) ================================================================================ EQUITY INCOME FUND ADMIRAL SHARES - -------------------------------------------------------------------------------- YEAR ENDED AUG. 13* TO SEPT. 30, SEPT. 30, FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 2002 2001 - -------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $46.57 $50.00 - -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income 1.040 .128 Net Realized and Unrealized Gain (Loss) on Investments (8.918) (3.301) - -------------------------------------------------------------------------------- Total from Investment Operations (7.878) (3.173) - -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (1.044) (.257) Distributions from Realized Capital Gains (1.258) -- - -------------------------------------------------------------------------------- Total Distributions (2.302) (.257) - -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $36.39 $46.57 ================================================================================ TOTAL RETURN -17.80% -6.31% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $253 $162 Ratio of Total Expenses to Average Net Assets 0.39% 0.39%** Ratio of Net Investment Income to Average Net Assets 2.29% 2.11%** Portfolio Turnover Rate 21% 31% ================================================================================ *Inception. **Annualized. NOTES TO FINANCIAL STATEMENTS Vanguard Equity Income Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund. The fund offers two classes of shares, Investor Shares and Admiral Shares. Investor Shares are available to any investor who meets the fund's minimum purchase requirements. Admiral Shares were first issued on August 13, 2001, and are designed for investors who meet certain administrative, servicing, tenure, and account-size criteria. A. The following significant accounting policies conform to generally accepted accounting principles for U.S. mutual funds. The fund consistently follows such policies in preparing its financial statements. 1. SECURITY VALUATION: Equity securities are valued at the latest quoted sales prices as of the close of trading on the New York Stock Exchange (generally 4:00 p.m. Eastern time) on the valuation date; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Prices are taken from the primary market in which each security trades. Temporary cash investments acquired over 60 days to maturity are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services. Other temporary cash investments are valued at amortized cost, which approximates market value. Securities for which market quotations are not readily available are valued by methods deemed by the board of trustees to represent fair value. 2. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Accordingly, no provision for federal income taxes is required in the financial statements. 3. REPURCHASE AGREEMENTS: The fund, along with other members of The Vanguard Group, transfers uninvested cash balances to a pooled cash account, which is invested in repurchase agree- 20 ments secured by U.S. government securities. Securities pledged as collateral for repurchase agreements are held by a custodian bank until the agreements mature. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal; however, in the event of default or bankruptcy by the other party to the agreement, retention of the collateral may be subject to legal proceedings. 4. FUTURES CONTRACTS: The fund uses S&P 500 Index and S&P MidCap 400 Index futures contracts to a limited extent, with the objective of maintaining full exposure to the stock market while maintaining liquidity. The fund may purchase or sell futures contracts to achieve a desired level of investment, whether to accommodate portfolio turnover or cash flows from capital share transactions. The primary risks associated with the use of futures contracts are imperfect correlation between changes in market values of stocks held by the fund and the prices of futures contracts, and the possibility of an illiquid market. Futures contracts are valued at their quoted daily settlement prices. The aggregate principal amounts of the contracts are not recorded in the financial statements. Fluctuations in the value of the contracts are recorded in the Statement of Net Assets as an asset (liability) and in the Statement of Operations as unrealized appreciation (depreciation) until the contracts are closed, when they are recorded as realized futures gains (losses). 5. DISTRIBUTIONS: Distributions to shareholders are recorded on the ex-dividend date. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. 6. OTHER: Dividend income is recorded on the ex-dividend date. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold. Each class of shares has equal rights as to assets and earnings, except that each class separately bears certain class-specific expenses related to maintenance of shareholder accounts (included in Management and Administrative expenses), shareholder reporting and proxies. Marketing and distribution expenses are allocated to each class of shares based on a method approved by the board of trustees. Income, other non-class-specific expenses, and gains and losses on investments are allocated to each class of shares based on its relative net assets. B. Newell Associates, John A. Levin & Co., Inc., and Wellington Management Company, llp, provide investment advisory services to the fund for fees calculated at an annual percentage rate of average net assets. The basic fee for John A. Levin & Co., Inc., is subject to quarterly adjustments based on performance for the preceding three years relative to the S&P 500 Index. The basic fee for Wellington Management Company, llp, is subject to quarterly adjustments based on performance relative to the Lipper Equity Income average. The Vanguard Group manages the cash reserves of the fund on an at-cost basis. For the year ended September 30, 2002, the aggregate investment advisory fee represented an effective annual basic rate of 0.16% of the fund's average net assets before an increase of $749,000 (0.03%) based on performance. C. The Vanguard Group furnishes at cost corporate management, administrative, marketing, and distribution services. The costs of such services are allocated to the fund under methods approved by the board of trustees. The fund has committed to provide up to 0.40% of its net assets in capital contributions to Vanguard. At September 30, 2002, the fund had contributed capital of $436,000 to Vanguard (included in Other Assets), representing 0.02% of the fund's net assets and 0.44% of Vanguard's capitalization. The fund's trustees and officers are also directors and officers of Vanguard. D. The fund has asked its investment advisers to direct certain security trades, subject to obtaining the best price and execution, to brokers who have agreed to rebate to the fund part of the commis- 21 NOTES TO FINANCIAL STATEMENTS (CONTINUED) sions generated. Such rebates are used solely to reduce the fund's management and administrative expenses. For the year ended September 30, 2002, these arrangements reduced the fund's expenses by $501,000 (an annual rate of 0.02% of average net assets). E. During the year ended September 30, 2002, the fund purchased $718,045,000 of investment securities and sold $478,978,000 of investment securities other than temporary cash investments. At September 30, 2002, the fund had available realized losses of $2,475,000 to offset future net capital gains of $1,047,000 through September 30, 2010, and $ 1,428,000 through September 30, 2011. F. At September 30, 2002, net unrealized appreciation of investment securities for financial reporting and federal income tax purposes was $49,487,000, consisting of unrealized gains of $352,920,000 on securities that had risen in value since their purchase and $303,433,000 in unrealized losses on securities that had fallen in value since their purchase. At September 30, 2002, the aggregate settlement value of open futures contracts expiring in December 2002 and the related unrealized depreciation were: ================================================================================ (000) --------------------------------- AGGREGATE UNREALIZED NUMBER OF SETTLEMENT APPRECIATION FUTURES CONTRACTS LONG CONTRACTS VALUE (DEPRECIATION) - -------------------------------------------------------------------------------- S&P 500 Index 125 $25,469 $(2,722) S&P MidCap 400 Index 20 4,078 (248) ================================================================================ Unrealized depreciation on open futures contracts is required to be treated as realized loss for federal income tax purposes. G. The market value of securities on loan to broker/dealers at September 30, 2002, was $1,673,000, for which the fund held cash collateral of $7,130,000. The fund invests cash collateral received in repurchase agreements, and records a liability for the return of the collateral, during the period the securities are on loan. H. Capital share transactions for each class of shares were: ================================================================================ YEAR ENDED SEPTEMBER 30, ------------------------------------------- 2002 2001 ------------------ ----------------- AMOUNT SHARES AMOUNT SHARES (000) (000) (000) (000) - -------------------------------------------------------------------------------- Investor Shares Issued $ 436,877 19,912 $ 437,097 18,343 Issued in Lieu of Cash Distributions 95,491 4,454 152,961 6,646 Redeemed (438,260) (20,301) (637,208) (27,383) --------------------------------------------- Net Increase (Decrease)-- Investor Shares 94,108 4,065 (47,150) (2,394) --------------------------------------------- Admiral Shares Issued 184,238 4,017 170,841 3,492 Issued in Lieu of Cash Distributions 10,312 231 620 14 Redeemed (33,529) (787) (1,255) (28) --------------------------------------------- Net Increase (Decrease)-- Admiral Shares 161,021 3,461 170,206 3,478 ================================================================================ 22 REPORT OF INDEPENDENT ACCOUNTANTS TO THE SHAREHOLDERS AND TRUSTEES OF VANGUARD EQUITY INCOME FUND: In our opinion, the accompanying statement of net assets and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Vanguard Equity Income Fund (the "Fund") at September 30, 2002, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended and the financial highlights for each of the five years in the period then ended, in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as "financial statements") are the responsibility of the Fund's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities at September 30, 2002 by correspondence with the custodian and brokers, provide a reasonable basis for our opinion. PRICEWATERHOUSECOOPERS LLP PHILADELPHIA, PENNSYLVANIA NOVEMBER 4, 2002 ================================================================================ SPECIAL 2002 TAX INFORMATION (UNAUDITED) FOR VANGUARD EQUITY INCOME FUND This information for the fiscal year ended September 30, 2002, is included pursuant to provisions of the Internal Revenue Code. The fund distributed $64,020,000 as capital gain dividends (from net long-term capital gains) to shareholders during the fiscal year, all of which is designated as a 20% rate gain distribution. For corporate shareholders, 100% of investment income (dividend income plus short-term gains, if any) qualifies for the dividends-received deduction. ================================================================================ 23 THE PEOPLE WHO GOVERN YOUR FUND The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard(R) funds and provides services to them on an at-cost basis. A majority of Vanguard's board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. Our independent board members bring distinguished backgrounds in business, academia, and public service to their task of working with Vanguard officers to establish the policies and oversee the
======================================================================================================================= NAME POSITION(S) HELD WITH FUND (YEAR OF BIRTH) (NUMBER OF VANGUARD FUNDS TRUSTEE/OFFICER SINCE OVERSEEN BY TRUSTEE/OFFICER) PRINCIPAL OCCUPATION(S) DURING THE PAST FIVE YEARS - ----------------------------------------------------------------------------------------------------------------------- JOHN J. BRENNAN* Chairman of the Board, Chairman of the Board, Chief Executive Officer, and Director/ (1954) Chief Executive Officer, Trustee of The Vanguard Group, Inc., and of each of the May 1987 and Trustee the investment companies served by The Vanguard Group. (109) - ----------------------------------------------------------------------------------------------------------------------- INDEPENDENT TRUSTEES CHARLES D. ELLIS Trustee The Partners of '63 (pro bono ventures in education); Senior (1937) (109) Adviser to Greenwich Associates (international business January 2001 strategy consulting); Successor Trustee of Yale University; Overseer of the Stern School of Business at New York University; Trustee of the Whitehead Institute for Biomedical Research. - ----------------------------------------------------------------------------------------------------------------------- JOANN HEFFERNAN HEISEN Trustee Vice President, Chief Information Officer, and Member of the (1950) (109) Executive Committee of Johnson & Johnson (pharmaceuticals/ July 1998 consumer products); Director of the Medical Center at Princeton and Women's Research and Education Institute. - ----------------------------------------------------------------------------------------------------------------------- ALFRED M. RANKIN, JR. Trustee Chairman, President, Chief Executive Officer, and Director of (1941) (109) NACCO Industries, Inc. (forklift trucks/housewares/lignite); January 1993 Director of Goodrich Corporation (industrial products/ aircraft systems and services); Director of Standard Products Company (a supplier for the automotive industry) until 1998. - ----------------------------------------------------------------------------------------------------------------------- J. LAWRENCE WILSON Trustee Retired Chairman and Chief Executive Officer of Rohm and Haas (1936) (109) Co. (chemicals); Director of Cummins Inc. (diesel engines), (April 1985) The Mead Corp. (paper products), and AmerisourceBergen Corp. (pharmaceutical distribution); Trustee of Vanderbilt University. - ----------------------------------------------------------------------------------------------------------------------- EXECUTIVE OFFICERS* R. GREGORY BARTON Secretary Managing Director and General Counsel of The Vanguard Group, (1951) (109) Inc. (since September 1997); Secretary of The Vanguard Group (June 2001 and of each of the investment companies served by The Vanguard Group; Principal of The Vanguard Group (prior to September 1997). - ----------------------------------------------------------------------------------------------------------------------- THOMAS J. HIGGINS Treasurer Principal of The Vanguard Group, Inc.; Treasurer of each of (1957) (109) the investment companies served by The Vanguard Group. July 1998 - -----------------------------------------------------------------------------------------------------------------------
*Officers of the funds are "interested persons" as defined in the Investment Company Act of 1940. More information about the trustees is in the Statement of Additional Information, available from The Vanguard Group. activities of the funds. Among board members' responsibilities are selecting investment advisers for the funds; monitoring fund operations, performance, and costs; reviewing contracts; nominating and selecting new trustees/directors; and electing Vanguard officers. Each trustee serves a fund until its termination; or until the trustee's retirement, resignation, or death; or otherwise as specified in the fund's organizational documents. Any trustee may be removed at a shareholders' meeting by a vote representing two-thirds of the net asset value of all shares of the fund together with shares of other Vanguard funds organized within the same trust. The table on these two pages shows information for each trustee and executive officer of the fund. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482. ================================================================================ VANGUARD SENIOR MANAGEMENT TEAM MORTIMER J. BUCKLEY, Information Technology. F. WILLIAM MCNABB, III, Institutional Investor Group. JAMES H. GATELY, Direct Investor Services. MICHAEL S. MILLER, Planning and Development. KATHLEEN C. GUBANICH, Human Resources. RALPH K. PACKARD, Finance. IAN A. MACKINNON, Fixed Income Group. GEORGE U. SAUTER, Quantitative Equity Group. - -------------------------------------------------------------------------------- JOHN C. BOGLE, Founder; Chairman and Chief Executive Officer, 1974-1996. Vanguard, The Vanguard Group, Vanguard.com, Admiral, and the ship logo are trademarks of The Vanguard Group, Inc. All other marks are the exclusive property of their respective owners. [SHIP] [VANGUARD SHIP LOGO] The Vanguard Group(R) Post Office Box 2600 Valley Forge, PA 19482-2600 ABOUT OUR COVER The photographs of the sails and ship that appear on the cover of this report are copyrighted by Michael Kahn. FOR MORE INFORMATION This report is intended for the fund's shareholders. It may not be distributed to prospective investors unless it is preceded or accompanied by the current fund prospectus. To receive a free copy of the prospectus or the Statement of Additional Information, or to request additional information about the fund or other Vanguard funds, please contact us at one of the adjacent telephone numbers or by e-mail through VANGUARD.COM(R). Prospectuses may also be viewed online. All comparative mutual fund data are from Lipper Inc. or Morningstar, Inc., unless otherwise noted. WORLD WIDE WEB www.vanguard.com FUND INFORMATION 1-800-662-7447 DIRECT INVESTOR ACCOUNT SERVICES 1-800-662-2739 INSTITUTIONAL INVESTOR SERVICES 1-800-523-1036 TEXT TELEPHONE 1-800-952-3335 (C)2002 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. Q650 112002 -----END PRIVACY-ENHANCED MESSAGE-----