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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the year ended December 31, 1997
Commission File Number 0-22491
SMITH BARNEY DIVERSIFIED FUTURES FUND L.P. II
(Exact name of registrant as specified in its charter)
New York 13-3769020
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
c/o Smith Barney Futures Management Inc.
390 Greenwich St. - 1st Fl.
New York, New York 10013
(Address and Zip Code of principal executive offices)
(212) 723-5424
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: 100,000 Units
of Limited
Partnership
Interest
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
form 10-K [ ]
PART I
Item 1. Business.
(a) General development of business. Smith Barney Diversified Futures Fund
L.P. II ("Partnership") is a limited partnership organized on May 10, 1994 under
the Partnership laws of the State of New York. The Partnership commenced trading
operations on January 17, 1996. The Partnership engages in speculative trading
of commodity interests, including forward contracts on foreign currencies,
commodity options and commodity futures contracts and other financial
instruments, foreign currencies and stock indices.
A Registration Statement on Form S-1 relating to the public offering
became effective on August 21, 1995. Beginning August 21, 1995, 100,000 Units of
Limited Partnership Interest ("Units") were publicly offered at $1,000 per Unit
for a period of ninety days, subject to increase for up to an additional sixty
days at the sole discretion of the General Partner. Between August 21, 1995
(commencement of the offering period) and January 16, 1996, 8,529 Units were
sold at $1,000 per Unit. Proceeds of the offering were held in an escrow account
and were transferred, along with the General Partner's contribution of $87,000
to the Partnership's trading account on January 17, 1996 when the Partnership
commenced trading. Sales of additional Units and additional General Partner's
contributions and redemptions of Units for the year ended December 31, 1997 are
reported in the Statement of Partners' Capital on page F-5 under "Item 8.
Financial Statements and
2
Supplementary Data."
The General Partner has agreed to make capital contributions, if
necessary, so that its general partnership interest will be equal to the greater
of (i) an amount to entitle it to 1% of each material item of Partnership
income, loss, deduction or credit and (ii) the greater of (a) 1% of the
partners' contributions to the Partnership or (b) $25,000. The Partnership will
be liquidated upon the first of the following to occur: December 31, 2014; the
net asset value of a Unit decreases to less than $400 as of the close of any
business day; or under certain circumstances as defined in the Limited
Partnership Agreement of the Partnership (the "Limited Partnership Agreement").
Smith Barney Futures Management Inc. acts as the general partner (the
"General Partner") of the Partnership and is a wholly owned subsidiary of Smith
Barney Inc. ("SB"). SB acts as commodity broker for the Partnership. On November
28, 1997, Smith Barney Holdings Inc. was merged with Salomon Inc to form Salomon
Smith Barney Holdings Inc. ("SSBH"), a wholly owned subsidiary of Travelers
Group Inc. SB is a wholly owned subsidiary of SSBH.
The Partnership's trading of futures contracts on commodities is done
primarily on United States and foreign commodity exchanges. It engages in such
trading through a commodity brokerage account maintained with SB.
As of December 31, 1997, all commodity trading decisions are made for the
Partnership by John W. Henry & Company, Inc. ("JWH"), Millburn Ridgefield
Corporation and Chesapeake Capital Corporation,
3
Willowbridge Associates Inc. and ARA Portfolio Management Company, L.L.C.
(collectively, the "Advisors"). None of the Advisors is affiliated with the
General Partner or SB. The Advisors are not responsible for the organization or
operation of the Partnership. Willowbridge Associates Inc. and ARA Portfolio
Management Company, L.L.C. were added as advisors to the Partnership on May 1,
1997.
Pursuant to the terms of the Management Agreements (the "Management
Agreement"), the Partnership is obligated to pay each Advisor: (i) a monthly
management fee equal to 1/6 of 1% (2% per year) of month-end Net Assets (except
that JWH will receive a monthly management fee equal to 1/3 of 1% (4% per year))
of the Partnership allocated to each Advisor as of the end of each month and
(ii) an incentive fee payable quarterly, equal to 20% of the New Trading Profits
(except JWH, which will receive an incentive fee of 15% of New Trading Profits)
(as defined in the Management Agreements) of the Partnership.
The Partnership has entered into a Customer Agreement with SB (the
"Customer Agreement") which provides that the Partnership will pay SB a monthly
brokerage fee equal to 1/2 of 1% of month-end Net Assets allocated to the
Advisors (6% per year) in lieu of brokerage commissions on a per trade basis. SB
also pays a portion of its brokerage fees to its financial consultants who have
sold Units and who are registered as associated persons with the Commodity
Futures Trading Commission (the "CFTC"). The Partnership pays for National
Futures Association ("NFA") fees, exchange and clearing fees, give-up and user
fees and floor brokerage fees. Brokerage fees will be
4
paid for the life of the Partnership, although the rate at which such fees are
paid may be changed. The Customer Agreement between the Partnership and SB gives
the Partnership the legal right to net unrealized gains and losses.
In addition, SB pays the Partnership interest on 80% of the average daily
equity maintained in cash in its account during each month at a 30-day U.S.
Treasury bill rate determined weekly by SB based on the average non-competitive
yield on 3-month U.S. Treasury bills maturing in 30 days from the date on which
such weekly rate is determined. However, SB began paying interest to the
Partnership only after the amount of interest accrued equaled the total amount
of offering and organizational expenses paid by SB in connection with the
Partnership's offering plus interest at the prime rate quoted by The Chase
Manhattan Bank.
(b) Financial information about industry segments. The Partnership's
business consists of only one segment, speculative trading of commodity
interests (including, but not limited to, futures contracts, options and forward
contracts on U.S. Treasury Bills, other financial instruments, foreign
currencies, stock indices and physical commodities). The Partnership does not
engage in sales of goods or services. The Partnership's net income (loss) from
operations for the year ended December 31, 1997 and for the period from January
17, 1996 (commencement of trading operations) to December 31, 1996 is set forth
under "Item 6. Select Financial Data." The Partnership capital as of December
31, 1997 was $111,579,692.
5
(c) Narrative description of business. See Paragraphs (a) and (b) above.
(i) through (x) - Not applicable. (xi) through (xii) - Not applicable.
(xiii) - The Partnership has no employees.
(d) Financial Information About Foreign and Domestic Operations and Export
Sales. The Partnership does not engage in sales of goods or services, and
therefore this item is not applicable.
Item 2. Properties.
The Partnership does not own or lease any properties. The General Partner
operates out of facilities provided by its affiliate, SB.
Item 3. Legal Proceedings.
There are no pending legal proceedings to which the Partnership is a party
or to which any of its assets is subject. No material legal proceedings
affecting the Partnership were terminated during the fiscal year. Item 4.
Submission of Matters to a Vote of Security Holders.
There were no matters submitted to the security holders for a vote during
the last fiscal year covered by this report.
PART II
Item 5. Market for Registrant's Common Equity and Related Security
Holder Matters.
(a) Market Information. The Partnership has issued no
stock. There is no public market for the Units of
6
Limited Partnership Interest.
(b) Holders. The number of holders of Units of Limited
Partnership Interest as of December 31, 1997 was
5,144.
(c) Distribution. The Partnership did not declare a distribution in
1997 or 1996.
Item 6. Select Financial Data. The Partnership commenced trading operations on
January 17, 1996. Realized and unrealized trading gains (losses), interest
income, net income (loss) and increase (decrease) in net asset value per Unit
for the year ended December 31, 1997 and for the period from January 17, 1996
(commencement of trading operations) to December 31, 1996 and total assets at
December 31, 1997 and 1996 were as follows:
1997 1996
------------- --------
Realized and unrealized trading
gains (losses) net of brokerage
commissions and clearing fees of
$6,257,856 and $2,169,468,
respectively $ (461,654) $ 8,869,618
Interest Income 3,634,245 1,190,687
------------- -----------
$ 3,172,591 $10,060,305
============= ===========
Net Income (loss) $ (313,824) $ 7,582,653
============= ===========
Increase (decrease) in net asset
value per unit $(1.30) $185.99
======= =======
Total assets $113,547,434 $56,960,922
============= ===========
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations.
(a) Liquidity. The Partnership does not engage in sales
7
of goods or services. Its only assets are its equity in its commodity futures
trading account, consisting of cash and cash equivalents, net unrealized
appreciation (depreciation) on open futures contracts and interest receivable.
Because of the low margin deposits normally required in commodity futures
trading, relatively small price movements may result in substantial losses to
the Partnership. Such substantial losses could lead to a material decrease in
liquidity. To minimize this risk, the Partnership will follow certain policies
including:
(1) Partnership funds are invested only in futures contracts which are
traded in sufficient volume to permit, in the opinion of the Advisors, ease of
taking and liquidating positions.
(2) The Partnership will not permit the churning of its commodity
trading accounts.
(3) No Advisor initiates additional positions in any commodity if such
additional positions would result in aggregate positions for all commodities
requiring as margin more than 66-2/3% of the Partnership's assets allocated to
the Advisor.
(4) The Partnership will not employ the trading technique commonly known
as "pyramiding", in which the speculator uses unrealized profits on existing
positions as margin for the purchase or sale of additional positions in the same
or related commodities.
(5) The Partnership will not utilize borrowing except short-term
borrowing if the Partnership takes delivery of any cash commodities.
(6) The Advisor may, from time to time, employ trading
8
strategies such as spread or straddles on behalf of the Partnership. The term
"spread" or "straddle" describes a commodity futures trading strategy involving
the simultaneous buying and selling of futures contracts on the same commodity
but involving different delivery dates or markets and in which the trader
expects to earn a profit from a widening or narrowing of the difference between
the prices of the two contracts.
The Partnership is party to financial instruments with off- balance
sheet risk, including derivative financial instruments and derivative commodity
instruments, in the normal course of its business. These financial instruments
include forwards, futures and options, whose value is based upon an underlying
asset, index, or reference rate, and generally represent future commitments to
exchange currencies or cash flows, or to purchase or sell other financial
instruments at specified terms at specified future dates. Each of these
instruments is subject to various risks similar to those relating to the
underlying financial instruments including market and credit risk. The General
Partner monitors and controls the Partnership's risk exposure on a daily basis
through financial, credit and risk management monitoring systems and,
accordingly believes that it has effective procedures for evaluating and
limiting the credit and market risks to which the Partnership is subject. (See
also Item 8. Financial Statements and Supplementary Data., for further
information on financial instrument risk included in the notes to financial
statements.)
Other than the risks inherent in commodity futures trading,
9
the Partnership knows of no trends demands, commitments, events or uncertainties
which will result in or which are reasonably likely to result in the
Partnership's liquidity increasing or decreasing in any material way. The
Limited Partnership Agreement provides that the General Partner may, at its
discretion, cause the Partnership to cease trading operations and liquidate all
open positions upon the first to occur of the following: (i) December 31, 2014;
(ii) the vote dissolve the Partnership by limited partners owning more than 50%
of the Units; (iii) assignment by the General Partner of all of its interest in
the Partnership or withdrawal, removal, bankruptcy or any other event that
causes the General Partner to cease to be a general partner under the New York
Revised Limited Partnership Act unless the Partnership is continued as described
in the Limited Partnership Agreement; (iv) Net Asset Value per Unit falls to
less than $400 as of the end of any trading day; or (v) the occurrence of any
event which shall make it unlawful for the existence of the Partnership to be
continued.
(b) Capital resources. (i) The Partnership has made no material
commitments for capital expenditures.
(ii) The Partnership's capital consists of the capital contributions
of the partners as increased or decreased by gains or losses on commodity
trading, and by expenses, interest income, redemptions of Units and
distributions of profits, if any. Gains or losses on commodity futures trading
cannot be predicted. Market moves in commodities are dependent upon fundamental
and technical factors which the Partnership may or may not be able to
10
identify. Partnership expenses will consist of, among other things, commissions,
management fees and incentive fees. The level of these expenses is dependent
upon the level of trading and the ability of the Advisors to identify and take
advantage of price movements in the commodity markets, in addition to the level
of net assets maintained. In addition, the amount of interest income payable by
SB is dependent upon interest rates over which the Partnership has no control.
No forecast can be made as to the level of redemptions in any given
period. Beginning June 30, 1996 a Limited Partner may cause all of his Units to
be redeemed by the Partnership at the Net Asset Value thereof as of the last day
of each month on ten days' written notice to the General Partner. No fee will be
charged for redemptions. For the year ended December 31, 1997, 11,519.2474 Units
were redeemed totaling $12,684,088. For the period ended December 31, 1996,
1,911.1385 Units were redeemed totaling $1,968,649.
The Partnership continues to offer Units at the Net Asset Value per Unit
as of the end of each month. For the year ended December 31, 1997, there were
additional sales of 61,154.0723 Units totaling $68,708,600 and contributions by
the General Partner representing 505.8725 Unit equivalents totaling $571,000.
For the period ended December 31, 1996, there were additional sales of
42,034.2002 Units totaling $41,190,000 and contributions by the General Partner
representing 411.0108 Unit equivalents totaling $402,000.
11
(c) Results of Operations.
For the year ended December 31, 1997, the net asset value per Unit
decreased 0.1% from $1,125.06 to $1,123.76. For the period from January 17, 1996
(commencement of trading operations) to December 31, 1996, the net asset value
per Unit increased 19.8% from $939.07 to $1,125.06. There were no operations in
1995. The net asset value of $939.07 at commencement of trading operations is
reflective of charging offering and organizational expenses against the initial
capital of the Partnership for financial reporting purposes.
The Partnership experienced net trading gains of $5,796,202 before
commissions and expenses in 1997. These gains were attributable to gains
incurred in the trading of interest rates, metals, indices and foreign
currencies. However, these trading gains were partially offset by losses
experienced in the trading of energy, grains, livestock and softs.
The Partnership experienced net trading gains of $11,039,086 before
commissions and expenses in 1996. These gains were attributable to gains
incurred in the trading of interest rates, metals, energy and foreign
currencies. However, these trading gains were partially offset by losses
experienced in the trading of stock indices and agricultural commodity futures.
Commodity futures markets are highly volatile. Broad price fluctuations
and rapid inflation increase the risks involved in commodity trading, but also
increase the possibility of profit.
12
The profitability of the Partnership depends on the existence of major price
trends and the ability of the Advisors to identify those price trends correctly.
Price trends are influenced by, among other things, changing supply and demand
relationships, weather, governmental, agricultural, commercial and trade
programs and policies, national and international political and economic events
and changes in interest rates. To the extent that market trends exist and the
Advisors are able to identify them, the Partnership expects to increase capital
through operations.
13
Item 8. Financial Statements and Supplementary Data.
SMITH BARNEY DIVERSIFIED FUTURES FUND L.P. II
INDEX TO FINANCIAL STATEMENTS
Page
Number
Report of Independent Accountants. F-2
Financial Statements:
Statement of Financial Condition at
December 31, 1997 and 1996. F-3
Statement of Income and Expenses for
the year ended December 31,
1997 and for the period from January
17, 1996 (commencement of
trading operations) to December 31, 1996. F-4
Statement of Partners' Capital for
the years ended December 31, 1997,
1996 and 1995. F-5
Notes to Financial Statements. F-6 - F-11
F-1
Continued
Report of Independent Accountants
To the Partners of
Smith Barney Diversified Futures Fund L.P. II:
We have audited the accompanying statement of financial condition of SMITH
BARNEY DIVERSIFIED FUTURES FUND L.P. II (a New York Limited Partnership) as of
December 31, 1997 and 1996, and the related statements of income and expenses
for the year ended December 31, 1997 and for the period from January 17, 1996
(commencement of trading operations) to December 31, 1996, and of partners'
capital for the years ended December 31, 1997, 1996 and 1995. These financial
statements are the responsibility of the management of the General Partner. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by the
management of the General Partner, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Smith Barney Diversified
Futures Fund L.P. II as of December 31, 1997 and 1996, and the results of its
operations for the years ended December 31, 1997, 1996 and 1995, in conformity
with generally accepted accounting principles.
Coopers & Lybrand L.L.P.
New York, New York
March 6, 1998
F-2
Smith Barney Diversified Futures Fund L.P. II
Statement of Financial Condition
December 31, 1997 and 1996
Assets: 1997 1996
Equity in commodity futures
trading account:
Cash and cash equivalents $104,013,967 $ 54,370,448
(Note 3c)
Net unrealized appreciation
on open futures contracts 8,931,038 1,981,313
Commodity options owned, at
market value (cost $144,827
and $420,667 in 1997 and 219,299 430,497
1996, respectively)
113,164,304 56,782,258
------------ ------------
Interest receivable 383,130 178,664
------------ ------------
$113,547,434 $ 56,960,922
------------ ------------
Liabilities and Partners'
Capital:
Liabilities:
Accrued expenses:
Commissions $ 578,625 $ 288,503
Management fees 263,105 133,127
Incentive fees 18,146 1,036,077
Other 67,467 47,744
Redemptions payable (Note 5) 1,040,399 145,230
Commodity options written, at
market value (premiums
received $28,124 in 1996) -- 12,237
------------ ------------
1,967,742 1,662,918
Partners' capital (Notes 1 and 7):
General Partner, 1,003.8833
and 498.0108 Unit
equivalents outstanding in
1997 and 1996, respectively 1,128,124 560,295
Limited Partners, 98,287.8866
and 48,653.0617 Units of
Limited Partnership
Interest outstanding in 1997
and 1996, respectively 110,451,568 54,737,709
------------ ------------
111,579,692 55,298,004
------------ ------------
$113,547,434 $ 56,960,922
------------ ------------
See notes to financial statements.
F-3
Smith Barney Diversified Futures Fund L.P. II
Statement of Income and Expenses
for the year ended 1997 and
for the period from January 17, 1996 (commencement of
trading operations)
to December 31, 1996
1997 1996
Income:
Net gains (losses) on
trading of commodity
interests:
Realized gains
(losses) on closed positions $(1,202,278) $9,032,056
Change in unrealized
gains 6,998,480 2,007,030
on open positions
----------- -----------
5,796,202 11,039,086
Less, Brokerage
commissions and
clearing fees
($164,059 and $67,406,
respectively) (Note 3c) 6,257,856 2,169,468
----------- -----------
Net realized and
unrealized (461,654) 8,869,618
gains (losses)
Interest income
(Notes 3c and 6) 3,634,245 1,190,687
----------- -----------
3,172,591 10,060,305
Expenses:
Management fees (Note 2,545,702 866,887
3b)
Incentive fees (Note 3b) 314,930 1,199,948
Other expenses 625,783 119,553
Organization expense (Note 6) -- 291,264
----------- -----------
3,486,415 2,477,652
----------- -----------
Net income (loss) $(313,824) $7,582,653
----------- -----------
Net income (loss) per
Unit of Limited
Partnership Interest
and General Partner
Unit equivalent (Notes 1 and 7) $ (1.30) $ 185.99
----------- -----------
See notes to financial statements.
F-4
Smith Barney Diversified
Futures Fund L.P. II
Statement of Partners' Capital
for the years ended
December 31, 1997, 1996 and 1995
Limited General
Partners Partner Total
Partners' capital at
December 31, 1994 $ 1,000 $ 1,000 $ 2,000
------------- ------------- -------------
Partners' capital at
December 31, 1995 1,000 1,000 2,000
Proceeds from offering
of 8,529
Units of Limited
Partnership Interest
and General Partner's
contribution
representing
86 Unit equivalents
(Note 1) 8,529,000 86,000 8,615,000
Offering and
organization costs (Note 6) (519,700) (5,300) (525,000)
------------- ------------- -------------
Opening Partnership
capital for operations 8,010,300 81,700 8,092,000
Net Income 7,506,058 76,595 7,582,653
Sale of 42,034.2002
Units of Limited
Partnership Interest
and General Partner's
contribution
representing 411.0108
Unit equivalents 41,190,000 402,000 41,592,000
Redemption of
1,911.1385 Units of
Limited Partnership
Interest (1,968,649) -- (1,968,649)
------------- ------------- -------------
Partners' capital at
December 31, 1996 54,737,709 560,295 55,298,004
Net Loss (310,653) (3,171) (313,824)
Sale of 61,154.0723
Units of Limited
Partnership Interest
and General Partner's
contribution
representing 505.8725
Unit equivalents 68,708,600 571,000 69,279,600
Redemption of
11,519.2474 Units of
Limited Partnership
Interest (12,684,088) -- (12,684,088)
------------- ------------- -------------
Partners' capital at
December 31, 1997 $ 110,451,568 $ 1,128,124 $ 111,579,692
------------- ------------- -------------
See notes to financial statements.
F-5
Smith Barney Diversified
Futures Fund L.P. II
Notes to Financial Statements
1. Partnership Organization:
Smith Barney Diversified Futures Fund L.P. II (the "Partnership") is a
limited partnership which was organized on May 10, 1994 under the
partnership laws of the State of New York to engage in the speculative
trading of a diversified portfolio of commodity interests including futures
contracts, options and forward contracts. The commodity interests that are
traded by the Partnership are volatile and involve a high degree of market
risk.
Between August 21, 1995 (commencement of the offering period) and January
16, 1996, 8,529 Units of Limited Partnership Interest ("Units") were sold at
$1,000 per Unit. The proceeds of the initial offering were held in an escrow
account until January 17, 1996, at which time they were turned over to the
Partnership for trading. The Partnership continues to offer Units during the
continuous offering period. The Partnership is authorized to sell 100,000
Units during the public offering period of the Partnership.
Smith Barney Futures Management Inc. acts as the general partner (the
"General Partner") of the Partnership and is a wholly owned subsidiary of
Smith Barney Inc. ("SB"). SB acts as commodity broker for the Partnership
(see Note 3c). On November 28, 1997, Smith Barney Holdings Inc. was merged
with Salomon Inc to form Salomon Smith Barney Holdings Inc. ("SSBH"), a
wholly owned subsidiary of Travelers Group Inc. SB is a wholly owned
subsidiary of SSBH.
The General Partner and each limited partner share in the profits and losses
of the Partnership in proportion to the amount of partnership interest owned
by each except that no limited partner shall be liable for obligations of
the Partnership in excess of his initial capital contribution and profits,
if any, net of distributions.
The Partnership will be liquidated upon the first to occur of the following:
December 31, 2014; the net asset value of a Unit decreases to less than $400
as of a close of any business day; or under certain other circumstances as
defined in the Limited Partnership Agreement.
F-6
2. Accounting Policies:
a. All commodity interests (including derivative financial instruments and
derivative commodity instruments) are used for trading purposes. The
commodity interests are recorded on trade date and open contracts are
recorded in the statement of financial condition at market value for
those commodity interests for which market quotations are readily
available or at fair value on the last business day of the year.
Investments in commodity interests denominated in foreign currency are
translated into U.S. dollars at the exchange rates prevailing on the last
business day of the year. Realized gain (loss) and changes in unrealized
values on commodity interests are recognized in the period in which the
contract is closed or the changes occur and are included in net gains
(losses) on trading of commodity interests.
b. Income taxes have not been provided as each partner is individually
liable for the taxes, if any, on his share of the Partnership's income
and expenses.
c. The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from these estimates.
3. Agreements:
a. Limited Partnership Agreement:
The General Partner administers the business and affairs of the
Partnership including selecting one or more advisors to make trading
decisions for the Partnership.
b. Management Agreements:
The General Partner, on behalf of the Partnership, has entered into
Management Agreements with John W. Henry & Company, Inc. ("JWH"),
Millburn Ridgefield Corporation, Chesapeake Capital Corporation,
Willowbridge Associates Inc. and ARA Portfolio Management Company,
L.L.C., (collectively, the "Advisors"), registered commodity trading
advisors. The Advisors are not affiliated with one another and none is
affiliated with the General Partner or SB and are not responsible for the
organization or operation of the Partnership. The Partnership will pay
each Advisor a monthly management fee equal to 1/6 of 1% (2% per year) of
month-end Net Assets allocated to the Advisor (except JWH, which will
receive a monthly management fee equal to 1/3 of 1% (4% per year) of
month-end Net Assets). In addition, the Partnership is obligated to pay
each Advisor an incentive fee payable quarterly equal to 20% of the New
Trading Profits earned by each Advisor for the Partnership (except JWH,
which will receive an incentive fee of 15% of New Trading Profits).
Willowbridge Associates Inc. and ARA Portfolio Management Company, L.L.C.
were added as Advisors to the Partnership on May 1, 1997.
F-7
c. Customer Agreement:
The Partnership has entered into a Customer Agreement which provides that
the Partnership will pay SB a monthly brokerage fee equal to 1/2 of 1%
(6% per year) of month-end Net Assets, as defined, in lieu of brokerage
commissions on a per trade basis. SB will pay a portion of brokerage fees
to its financial consultants who have sold Units in this Partnership.
Brokerage fees will be paid for the life of the Partnership, although the
rate at which such fees are paid may be changed. The Partnership will pay
for National Futures Association ("NFA") fees, exchange, clearing, user,
give-up and floor brokerage fees. All of the Partnership's assets are
deposited in the Partnership's account at SB. The Partnership's cash is
deposited by SB in segregated bank accounts as required by Commodity
Futures Trading Commission regulations. At December 31, 1997 and 1996,
the amount of cash held for margin requirements was $20,242,392 and
$6,904,509, respectively. SB has agreed to pay the Partnership interest
on 80% of the average daily equity maintained in cash in its account
during each month at a 30-day U.S. Treasury bill rate determined weekly
by SB based on the average noncompetitive yield on 3-month U.S. Treasury
bills maturing in 30 days from the date on which such weekly rate is
determined. The Customer Agreement between the Partnership and SB gives
the Partnership the legal right to net unrealized gains and losses. The
Customer Agreement may be terminated upon notice by either party.
4. Trading Activities:
The Partnership was formed for the purpose of trading contracts in a variety
of commodity interests, including derivative financial instruments and
derivative commodity interests. The results of the Partnership's trading
activity are shown in the statement of income and expense.
All of the commodity interests, owned by the Partnership, are held for
trading purposes. The fair value of these commodity interests, including
options thereon at December 31, 1997 and 1996 was $9,150,337 and $2,399,573,
respectively, and the average fair value during the year then ended, based
on monthly calculation was $5,938,920 and $2,965,883, respectively.
5. Distributions and Redemptions:
Distributions of profits, if any, will be made at the sole discretion of the
General Partner; however, beginning with the quarter ended June 30, 1996, a
limited partner may require the Partnership to redeem his Units at their Net
Asset Value as of the last day of any month on 10 days' notice to the
General Partner provided that no redemption may result in the limited
partner holding fewer than 3 Units after redemption is effected. There is no
fee charged to limited partners in connection with redemptions.
F-8
6. Organization and Offering Costs:
Expenses related to the continuous offering of Units in 1997 totaled
$501,620 and are included in other expenses.
Offering and organization expenses of approximately $525,000 relating to the
issuance and marketing of Units during the initial offering period were
initially paid by SB and were charged against the initial capital of the
Partnership. In addition, expenses of $291,264 related to the continuous
offering of Units were incurred through December 31, 1996. As of December
31, 1996, the Partnership had reimbursed SB for all such expenses incurred
during the initial offering and continuous offering period (in addition to
interest at the prime rate quoted by the Chase Manhattan Bank totaling
approximately $20,929) from interest earned on funds held in its account.
7. Net Asset Value Per Unit:
Changes in the net asset value per Unit for the year ended December 31, 1997
and for the period from January 17, 1996 (commencement of trading
operations) to December 31, 1996 were as follows:
1997 1996
Net realized and
unrealized gains $ (0.92) $ 177.40
(losses)
Interest income 43.48 36.09
Expenses (43.86) (67.51)
Other -- 40.01
--------- ---------
Increase (decrease) (1.30) 185.99
for period
Net asset value per
Unit, beginning of period 1,125.06 939.07
--------- ---------
Net asset value per
Unit, end of period $1,123.76 $1,125.06
--------- ---------
8. Financial Instrument Risk:
The Partnership is party to financial instruments with off-balance sheet
risk, including derivative financial instruments and derivative commodity
instruments, in the normal course of its business. These financial
instruments include forwards, futures and options, whose value is based upon
an underlying asset, index, or reference rate, and generally represent
future commitments to exchange currencies or cash flows, or to purchase or
sell other financial instruments at specific terms at specified future
dates, or, in the case of derivative commodity instruments, to have a
reasonable possibility to be settled in cash or with another financial
instrument. These instruments may be traded on an exchange or
over-the-counter ("OTC"). Exchange traded instruments are standardized and
include futures and certain option contracts. OTC contracts are negotiated
between contracting parties and include forwards and certain options. Each
of these instruments is subject to various risks similar to those related to
the underlying financial instruments including market and credit risk. In
general, the risks associated with OTC contracts are greater than those
associated with exchange traded instruments because of the greater risk of
default by the counterparty to an OTC contract.
F-9
Market risk is the potential for changes in the value of the financial
instruments traded by the Partnership due to market changes, including
interest and foreign exchange rate movements and fluctuations in commodity
or security prices. Market risk is directly impacted by the volatility and
liquidity in the markets in which the related underlying assets are traded.
Credit risk is the possibility that a loss may occur due to the failure of a
counterparty to perform according to the terms of a contract. Credit risk
with respect to exchange traded instruments is reduced to the extent that an
exchange or clearing organization acts as a counterparty to the
transactions. The Partnership's risk of loss in the event of counterparty
default is typically limited to the amounts recognized in the statement of
financial condition and not represented by the contract or notional amounts
of the instruments. The Partnership has concentration risk because the sole
counterparty or broker with respect to the Partnership's assets is SB.
The General Partner monitors and controls the Partnership's risk exposure on
a daily basis through financial, credit and risk management monitoring
systems, and accordingly believes that it has effective procedures for
evaluating and limiting the credit and market risks to which the Partnership
is subject. These monitoring systems allow the General Partner to
statistically analyze actual trading results with risk adjusted performance
indicators and correlation statistics. In addition, on-line monitoring
systems provide account analysis of futures, forwards and options positions
by sector, margin requirements, gain and loss transactions and collateral
positions.
The notional or contractual amounts of these instruments, while
appropriately not recorded in the financial statements, reflect the extent
of the Partnership's involvement in these instruments. At December 31, 1997,
the Partnership's commitment to purchase and sell these instruments was
$529,827,193 and $562,544,334, respectively, as detailed below. All of these
instruments mature within one year of December 31, 1997. However, due to the
nature of the Partnership's business, these instruments may not be held to
maturity. At December 31, 1997, the fair value of the Partnership's
derivatives, including options thereon, was $9,150,337, as detailed below.
F-10
December 31, 1997
----------------------------------------
Notional or Contractual
Amount of Commitments
To Purchase To Sell Fair Value
Currencies:
-Exchange
Traded $ 16,384,721 $107,228,370 $ 480,324
Contracts
-OTC Contracts 51,178,514 103,210,400 451,488
Energy -- 35,726,058 1,910,464
Grains 7,962,725 10,551,808 79,029
Interest Rate 140,875,215 11,765,610 717,418
U.S
Interest Rate
Non-U.S 262,803,653 198,052,010 1,149,142
Livestock -- 7,732,038 262,598
Metals 21,841,650 52,955,116 2,665,247
Softs 26,105,281 19,193,510 888,328
Indices 2,675,434 16,129,414 546,299
------------ ------------ ------------
Total $529,827,193 $562,544,334 $ 9,150,337
------------ ------------ ------------
At December 31, 1996, the notional or contractual amounts of the Partnership's
commitment to purchase and sell these instruments was $287,865,518 and
$181,348,343, respectively, and the fair value of the Partnership's derivatives,
including options thereon, was $2,399,573 as detailed below.
F-11
December 31, 1996
----------------------------------------
Notional or Contractual
Amount of Commitments
To Purchase To Sell Fair Value
Currencies:
-Exchange
Traded $ 12,752,114 $ 15,672,967 $ 596,711
Contracts
-OTC Contracts 48,300,653 72,590,507 393,543
Energy 12,060,803 -- 328,180
Grains 175,750 4,560,014 148,525
Interest Rate 54,062,085 4,098,651 (55,803)
U.S
Interest Rate
Non-U.S 137,083,934 42,405,484 (44,169)
Livestock 385,930 -- 840
Metals 7,349,851 23,421,538 416,746
Softs 7,984,383 8,534,913 28,892
Indices 7,710,015 10,064,269 586,108
------------ ------------ ------------
Total $287,865,518 $181,348,343 $ 2,399,573
------------ ------------ ------------
9. Subsequent Events:
Chesapeake Capital Corporation was terminated as an Advisor to the
Partnership on January 31, 1998. Campbell & Co., Inc. was added as an
Advisor on February 1, 1998.
F-11
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.
During the last two fiscal years and any subsequent interim
period, no independent accountant who was engaged as the principal accountant to
audit the Partnership's financial statements has resigned or was dismissed.
PART III
Item 10. Directors and Executive Officers of the Registrant.
The Partnership has no officers or directors and its affairs are
managed by its General Partner, Smith Barney Futures Management Inc. Investment
decisions will be made by John W. Henry & Company, Inc., Chesapeake Capital
Corporation, Millburn Ridgefield Corporation, Willowbridge Associates Inc. and
ARA Portfolio Management Company, L.L.C. (collectively, the "Advisors").
Item 11. Executive Compensation.
The Partnership has no directors or officers. Its affairs are
managed by Smith Barney Futures Management Inc., its General Partner, which
receives compensation for its services, as set forth under "Item 1. Business."
SB, an affiliate of the General Partner, is the commodity broker for the
Partnership and receives brokerage commissions for such services, as described
under "Item 1. Business." Brokerage commissions and clearing fees of $6,257,856
were paid for the year ended December 31, 1997. Management fees and incentive
fees of $2,545,702 and $314,930, respectively, were paid to the Advisors for the
year ended December 31, 1997.
14
Item 12. Security Ownership of Certain Beneficial Owners and
Management.
(a). Security ownership of certain beneficial owners.
As of March 1, 1998, the Partnership knows of no person who beneficially owns
more than 5% of the Units outstanding.
(b). Security ownership of management. Under the terms of the
Limited Partnership Agreement, the Partnership's affairs are managed by the
General Partner. The General Partner owns Units of general partnership interest
equivalent to 1,003.8833 Units (1.0%) of Limited Partnership Interest as of
December 31, 1997.
(c). Changes in control. None.
Item 13. Certain Relationship and Related Transactions.
Smith Barney Inc. and Smith Barney Futures Management Inc. would be
considered promoters for purposes of item 404 (d) of Regulation S-K. The nature
and the amounts of compensation each promoter will receive from the Partnership
are set forth under "Item 1. Business" and "Item 11. Executive Compensation."
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K.
(a) (1) Financial Statements:
Statement of Financial Condition at December 31, 1997 and
1996. Statement of Income and Expenses for the year ended
December 31, 1997 and for the period from January 17, 1996
(commencement of trading operations) to
15
December 31, 1996.
Statement of Partners' Capital for the years ended December
31, 1997, 1996 and 1995.
(2) Financial Statement Schedules: Financial Data
Schedule for the year ended December 31, 1997.
(3) Exhibits:
3.1 - Limited Partnership Agreement (filed as Exhibit 3.1 to the
Registration Statement on Form S-1 (File No. 33-79244 and
incorporated herein by reference).
3.2 - Certificate of Limited Partnership of the
Partnership as filed in the office of the County
Clerk of New York County (filed as Exhibit 3.2 to
the Registration Statement on Form S-1 (Filed No.
33-79244) and incorporated herein by reference).
10.1- Customer Agreement between the Partnership and Smith Barney
(filed as Exhibit 10.1 to the Registration Statement on Form
S-1 (File No. 33-79244) and incorporated herein by reference).
10.2- Subscription Agreement (filed as Exhibit 10.2 to the
Registration Statement on Form S-1 (File No. 33-
29144) and incorporated herein by reference).
10.3- Escrow Instructions relating to escrow of
subscription funds (filed as Exhibit 10.3 to the
Registration Statement on Form S-1 (File No. 33-
79244) and incorporated herein by reference).
10.4- Management Agreement among the Partnership, the
16
General Partner and Chesapeake Capital Corporation
(filed as Exhibit 10.5 to the Registration Statement
on Form S-1 (File No. 33-79244) and incorporated
herein by reference).
10.5- Management Agreement among the Partnership, the
General Partner and John W. Henry & Co. Inc. (filed
as Exhibit 10.6 to the Registration Statement on
Form S-1 (File No. 33-79244) and incorporated herein
by reference).
10.6- Management Agreement among the Partnership, the
General Partner and Millburn Ridgefield Corporation
(filed as Exhibit 10.7 to the Registration Statement
on Form S-1 (File No. 33-79244) and incorporated
herein by reference).
10.7- Management Agreement among the Partnership, the
General Partner and Willowbridge Associates Inc.
(filed herein).
10.8- Management Agreement among the Partnership, the General Partner
and ARA Portfolio Management Company, L.L.C.(filed herein).
10.9- Management Agreement among the Partnership, the
General Partner and Campbell & Co., Inc. (filed
herein).
10.10- Letters extending Management Agreements with John W. Henry &
Company , Inc., Chesapeake Capital Corporation and Millburn
Ridgefield Corporation. (filed herein).
10.11- Letter from General Partner terminating Management
Agreement with Chesapeake Capital Corporation (filed
herein).
(b) Reports on 8-K: None Filed.
17
Supplemental Information To Be Furnished With Reports Filed Pursuant To
Section 15(d) Of The Act by Registrants Which Have Not Registered Securities
Pursuant To Section 12 Of the Act.
Annual Report to Limited Partners
18
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
Registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of New York
and State of New York on the 24th day of March 1998.
SMITH BARNEY DIVERSIFIED FUTURES FUND L.P. II
By: Smith Barney Futures Management Inc.
(General Partner)
By /s/ David J. Vogel
David J. Vogel, President & Director
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed below by the following persons in the
capacities and on the date indicated.
/s/ David J. Vogel /s/ Jack H. Lehman III
David J. Vogel, Jack H. Lehman III
Director, Principal Executive Chairman and Director
Officer and President
/s/ Michael Schaefer /s/ Daniel A. Dantuono
Michael Schaefer Daniel A. Dantuono
Director Treasurer, Chief Financial
Officer and Director
/s/ Daniel R. McAuliffe, Jr. /s/ Steve J. Keltz
Daniel R. McAuliffe, Jr. Steve J. Keltz
Director Secretary and Director
/s/ Shelley Ullman
Shelley Ullman
Director
19