UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSRS
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT INVESTMENT COMPANIES
Investment Company Act file number 811-5739
Name of Fund: MuniEnhanced Fund, Inc.
Fund Address: P.O. Box 9011
Princeton, NJ 08543-9011
Name and address of agent for service: Terry K. Glenn, President, MuniEnhanced
Fund, Inc., 800 Scudders Mill Road, Plainsboro, NJ 08536. Mailing address:
P.O. Box 9011, Princeton, NJ 08543-9011
Registrant's telephone number, including area code: (609) 282-2800
Date of fiscal year end: 01/31/04
Date of reporting period: 02/01/04 - 07/31/04
Item 1 - Report to Stockholders
[LOGO] Merrill Lynch Investment Managers www.mlim.ml.com
MuniEnhanced
Fund, Inc.
Semi-Annual Report
July 31, 2004
[LOGO] Merrill Lynch Investment Managers
MuniEnhanced Fund, Inc.
The Benefits and Risks of Leveraging
MuniEnhanced Fund, Inc. utilizes leveraging to seek to enhance the yield and net
asset value of its Common Stock. However, these objectives cannot be achieved in
all interest rate environments. To leverage, the Fund issues Preferred Stock,
which pays dividends at prevailing short-term interest rates, and invests the
proceeds in long-term municipal bonds. The interest earned on these investments,
net of dividends to Preferred Stock, is paid to Common Stock shareholders in the
form of dividends, and the value of these portfolio holdings is reflected in the
per share net asset value of the Fund's Common Stock. However, in order to
benefit Common Stock shareholders, the yield curve must be positively sloped;
that is, short-term interest rates must be lower than long-term interest rates.
At the same time, a period of generally declining interest rates will benefit
Common Stock shareholders. If either of these conditions change, then the risks
of leveraging will begin to outweigh the benefits.
To illustrate these concepts, assume a fund's Common Stock capitalization of
$100 million and the issuance of Preferred Stock for an additional $50 million,
creating a total value of $150 million available for investment in long-term
municipal bonds. If prevailing short-term interest rates are approximately 3%
and long-term interest rates are approximately 6%, the yield curve has a
strongly positive slope. The fund pays dividends on the $50 million of Preferred
Stock based on the lower short-term interest rates. At the same time, the fund's
total portfolio of $150 million earns the income based on long-term interest
rates. Of course, increases in short-term interest rates would reduce (and even
eliminate) the dividends on the Common Stock.
In this case, the dividends paid to Preferred Stock shareholders are
significantly lower than the income earned on the fund's long-term investments,
and therefore the Common Stock shareholders are the beneficiaries of the
incremental yield. However, if short-term interest rates rise, narrowing the
differential between short-term and long-term interest rates, the incremental
yield pickup on the Common Stock will be reduced or eliminated completely. At
the same time, the market value on the fund's Common Stock (that is, its price
as listed on the New York Stock Exchange), may, as a result, decline.
Furthermore, if long-term interest rates rise, the Common Stock's net asset
value will reflect the full decline in the price of the portfolio's investments,
since the value of the fund's Preferred Stock does not fluctuate. In addition to
the decline in net asset value, the market value of the fund's Common Stock may
also decline.
As a part of its investment strategy, the Fund may invest in certain securities
whose potential income return is inversely related to changes in a floating
interest rate ("inverse floaters"). In general, income on inverse floaters will
decrease when short-term interest rates increase and increase when short-term
interest rates decrease. Investments in inverse floaters may be characterized as
derivative securities and may subject the Fund to the risks of reduced or
eliminated interest payments and losses on invested principal. In addition,
inverse floaters have the effect of providing investment leverage and, as a
result, the market value of such securities will generally be more volatile than
that of fixed rate, tax-exempt securities. To the extent the Fund invests in
inverse floaters, the market value of the Fund's portfolio and the net asset
value of the Fund's shares may also be more volatile than if the Fund did not
invest in these securities. As of July 31, 2004, the percentage of the Fund's
total net assets invested in inverse floaters was 10.20%, before the deduction
of Preferred Stock.
Swap Agreements
The Fund may also invest in swap agreements, which are over-the-counter
contracts in which one party agrees to make periodic payments based on the
change in market value of a specified bond, basket of bonds, or index in return
for periodic payments based on a fixed or variable interest rate or the change
in market value of a different bond, basket of bonds or index. Swap agreements
may be used to obtain exposure to a bond or market without owning or taking
physical custody of securities. Swap agreements involve the risk that the party
with whom the Fund has entered into the swap will default on its obligation to
pay the Fund and the risk that the Fund will not be able to meet its obligations
to pay the other party to the agreement.
2 MUNIENHANCED FUND, INC. JULY 31, 2004
A Letter From the President
Dear Shareholder
In recent months, the Federal Reserve Board (the Fed) has taken center stage as
it shifts away from its long-accommodative monetary stance. In a
much-anticipated move, the Fed raised the Federal Funds rate 25 basis points
(.25%) on June 30, representing the first interest rate increase in four years.
Shortly after period-end, the Fed announced an additional 25 basis point rate
hike, bringing the target short-term interest rate to 1.50% -- still low by
historical standards. The Fed has been very deliberate in telegraphing its
intention to take a "measured" approach to the interest rate increases so as to
avoid upsetting the economy or the financial markets. Still, the Fed has stated
that it may move more aggressively if inflation and economic growth accelerate
more than anticipated. In addition to the Fed policy change, the financial
markets recently have had to grapple with a tense geopolitical environment,
higher oil prices and the worry and anticipation that accompanies a presidential
election.
While inflation has moved up on a cyclical basis, this is an indication that the
Fed has been successful in avoiding deflation -- just as it set out to do a year
ago. The challenge now is to normalize interest rates in order to keep inflation
within acceptable limits. The futures curve currently projects further increases
in short-term interest rates before year-end.
The transition to higher rates can cause concern among equity and fixed income
investors alike. For bond investors, rising rates means the value of older
issues declines because they bear the former lower rates. In addition,
increasing inflation erodes the purchasing power of fixed income securities. But
because municipal bonds offer the advantage of tax-exempt income, they continue
to be an attractive alternative for many fixed income investors. For the
six-month and 12-month periods ended July 31, 2004, municipal bonds posted
returns of +.06% and +5.79%, respectively, as measured by the Lehman Brothers
Municipal Bond Index.
As always, our investment professionals are closely monitoring the markets, the
economy and the overall environment in an effort to make well-informed decisions
for the portfolios they manage. Our goal is to provide shareholders with
competitive returns, while always keeping one eye on managing the unavoidable
risk inherent in investing.
We thank you for trusting Merrill Lynch Investment Managers with your investment
assets, and we look forward to serving you in the months and years ahead.
Sincerely,
/s/ Terry K. Glenn
Terry K. Glenn
President and Director
MUNIENHANCED FUND, INC. JULY 31, 2004 3
[LOGO] Merrill Lynch Investment Managers
A Discussion With Your Fund's Portfolio Manager
We maintained our focus on seeking to enhance yield and protect the Fund's
net asset value in anticipation of rising interest rates.
Discuss the recent market environment relative to municipal bonds.
Long-term U.S. Treasury bond yields ended the period higher than where they
started, although the rise was not uninterrupted. Early in the period, bond
yields actually declined as prices -- which move in the opposite direction --
rose. Despite continued improvement in U.S. economic conditions, solid job
creation remained elusive. Consumer confidence faltered, and investors became
increasingly convinced that the Federal Reserve Board (the Fed) would hold
short-term interest rates at their historic lows. Under the circumstances,
long-term U.S. Treasury bond yields fell to 4.65% by mid-March 2004.
Beginning in early April, however, monthly employment reports began to show
unexpectedly large gains. In response, bond prices fell (yields increased).
Associated improvements in consumer confidence and spending led some investors
to reverse their earlier expectations, believing instead that the Fed would soon
be forced to raise short-term interest rates to ward off potential inflation. By
early June, long-term U.S. Treasury bond yields had risen to over 5.50%.
For the remainder of the period, bond yields generally declined. While economic
growth remained positive, inflationary measures continued to be negligible. More
importantly, on June 30, the Fed raised its short-term interest rate target for
the first time in four years -- from 1% to 1.25%. In doing so, the Fed indicated
a tendency toward a measured, moderate monetary tightening cycle, which helped
support higher bond prices (and lower yields). Nevertheless, by July 31, U.S.
Treasury bond yields stood at 5.20%, representing an increase of nearly 25 basis
points (.25%) over the past six months. The 10-year U.S. Treasury note yield was
4.48%, an increase of 35 basis points during the period.
Yields on tax-exempt bonds generally followed those of their taxable
counterparts higher over the past six months. Long-term revenue bond yields, as
measured by the Bond Buyer Revenue Bond Index, rose approximately 30 basis
points during the period to 5.31%. According to Municipal Market Data, yields on
AAA-rated issues maturing in 30 years increased nearly 30 basis points to 4.91%
at July 31, while 10-year AAA-rated issues saw their yields increase 25 basis
points to 3.79%.
During the past six months, approximately $195 billion in new long-term
tax-exempt bonds was underwritten, a decline of more than 6% versus the same
period a year ago. Approximately $100 billion in long-term tax-exempt bonds was
issued in the last three months of the period, a decline of more than 15%
compared to the same time last year. While recent declines in municipal bond
issuance have lent support to the tax-exempt bond market's technical position,
retail investor demand has diminished somewhat in recent months. Low nominal
municipal bond yields and summer seasonal factors have resulted in sizable
tax-exempt mutual fund outflows during the period. Nevertheless, we expect that
higher nominal bond yields in the months ahead should trigger increased investor
demand, while manageable new-issue volume continues to support the tax-exempt
market's technical position.
How did the Fund perform during the period in light of the existing market
conditions?
For the six-month period ended July 31, 2004, the Common Stock of MuniEnhanced
Fund, Inc. had net annualized yields of 6.46% and 7.06%, based on a period-end
per share net asset value of $11.37 and a per share market price of $10.39,
respectively, and $.366 per share income dividends. Over the same period, the
total investment return on the Fund's Common Stock was -.53%, based on a change
in per share net asset value from $11.83 to $11.37, and assuming reinvestment of
$.366 per share ordinary income dividends.
The Fund's total return, based on net asset value, was comparable to that of the
Lipper Insured Municipal Debt Funds (Leveraged) category, which had an average
return of -.61% for the six-month period ended July 31, 2004. (Funds in this
Lipper category invest primarily in municipal debt issues insured as to timely
payment. These funds can be leveraged via use of debt, preferred equity and/or
reverse repurchase agreements.) The Fund's defensive positioning benefited its
relative performance as interest rates headed higher. Our shorter-than-average
duration meant that the Fund was subject to less volatility than many of its
peers when interest rates increased, albeit modestly, during the period.
Offsetting the benefits of our defensive positioning was the underperformance of
certain Fund holdings in the past six months.
4 MUNIENHANCED FUND, INC. JULY 31, 2004
Importantly, the Fund maintained a competitive yield and increased its dividend
during the period to $.061 per share.
For the six-month period ended July 31, 2004, the Fund's Auction Market
Preferred Stock (AMPS) had average yields as follows: Series A, .91%; Series B,
..97%; and Series C, .96%.
For a description of the Fund's total investment return based on a change in the
per share market value of the Fund's Common Stock (as measured by the trading
price of the Fund's shares on the New York Stock Exchange), and assuming
reinvestment of dividends, please refer to the Financial Highlights section of
this report. As a closed-end fund, the Fund's shares may trade in the secondary
market at a premium or discount to the Fund's net asset value. As a result,
total investment returns based on changes in the market value of the Fund's
Common Stock can vary significantly from total investment returns based on
changes in the Fund's net asset value.
What changes were made to the portfolio during the period?
We did not make any significant changes to the portfolio or our investment
strategy over the past six months. Given the steepness of the yield curve, we
continued to favor premium-coupon bonds in the 25-year maturity range. We sought
to sell bonds in the intermediate maturity range -- that is, those maturing in
10 years - 15 years. This proved to be the most volatile part of the yield
curve. The municipal yield curve flattened out past the 25-year range;
therefore, there was no significant yield to be gained by extending much further
out.
In addition, we were able to take advantage of heavy supply and relatively
inexpensive prices in adding some more California municipal bonds to the
portfolio. The goal is to achieve relative outperformance on these bonds when
conditions improve in the state and prices return to their historically higher
levels. In fact, we are already seeing evidence of this as the state's financial
picture begins to strengthen. Moody's Investor Service upgraded its rating on
California general obligation bonds during the period, bringing the rating from
Baa1 to A3.
We maintained the Fund's defensive market posture throughout the period in
recognition of certain robust economic indicators and the Fed's stated intention
to continue raising interest rates. A defensive stance on interest rates should
help us protect the portfolio's value as interest rates rise. Finally, we
generally maintained the Fund's fully invested position in an effort to enhance
shareholder income. With short-term interest rates still at historic lows, the
cost of holding cash reserves would have been relatively high.
Given the low short-term interest rates, the Fund's borrowing costs remained at
attractive levels of around 1% - 1.25%. These levels, in combination with a
positively sloped yield curve, provided a generous income benefit to the Common
Stock shareholders from the leveraging of Preferred Stock. We believe the Fund's
borrowing costs should remain at relatively low levels through the next period
as the Fed pursues its measured approach to interest rate increases. However,
should the spread between short-term and long-term interest rates narrow, the
benefits of leveraging will decline and, as a result, reduce the yield on the
Fund's Common Stock. At the end of the period, the Fund's leverage amount, due
to AMPS, was 31% of total net assets. (For a more complete explanation of the
benefits and risks of leveraging, see page 2 of this report to shareholders.)
How would you characterize the Fund's position at the close of the period?
At the end of the period, the portfolio remained essentially fully invested in
high-quality municipal bonds. We believe this positioning should continue to
provide a material benefit to the Common Stock shareholder as short-term
interest rates remain relatively low. The Fund also remained overweight in
premium-coupon bonds, particularly those with maturities in the 25-year range.
We believe our defensive position prepares the Fund for strong relative
performance in a stable to rising interest rate environment. In fact, that is
what we expect to see in the months ahead as the Fed continues tightening
monetary policy, but with caution. As always, we will continue to monitor the
Fed's language, payroll reports, inflation data and other important economic
indicators in order to make the most informed decisions in managing the
portfolio.
Michael Kalinoski
Vice President and Portfolio Manager
August 11, 2004
MUNIENHANCED FUND, INC. JULY 31, 2004 5
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (in Thousands)
S&P Moody's Face
State Ratings Ratings Amount Municipal Bonds Value
===================================================================================================================================
Alabama--1.0% AAA NR* $ 3,000 Birmingham, Alabama, Capital Improvement Warrants, GO, Series
A, 5.55% due 8/01/2021 (f) $ 3,258
===================================================================================================================================
California--27.2% AAA Aaa 9,000 Alameda Corridor Transportation Authority, California, Capital
Appreciation Revenue Refunding Bonds, Subordinate Lien, Series
A, 5.62%** due 10/01/2024 (a) 5,954
AAA Aaa 6,000 Alameda Corridor Transportation Authority, California, Revenue
Refunding Bonds, Subordinate Lien, Series A, 5.57%**
due 10/01/2025 (a) 3,933
AAA Aaa 5,000 Anaheim, California, Public Financing Authority, Lease Revenue
Bonds (Public Improvements Project), Senior Series A, 6%
due 9/01/2024 (d) 5,788
AAA Aaa 1,800 California State Department of Water Resources, Power Supply
Revenue Bonds, Series A, 5.375% due 5/01/2022 (f) 1,913
California State, GO, Refunding:
BBB A3 3,000 5.25% due 9/01/2026 3,026
AAA Aaa 6,000 5.25% due 2/01/2030 (f) 6,123
BBB A3 5,000 5.125% due 6/01/2031 4,946
AAA NR* 2,200 ROCS, Series II-R-272, 9.328% due 2/01/2033 (h)(j) 2,254
BBB A3 8,490 California State, Various Purpose, GO, 5.50% due 11/01/2033 8,788
Golden State Tobacco Securitization Corporation of California,
Tobacco Settlement Revenue Bonds, Series B:
BBB- Baa1 3,805 5.60% due 6/01/2028 3,823
AAA NR* 2,200 5.50% due 6/01/2033 (c) 2,295
AAA Aaa 1,400 5.625% due 6/01/2033 (c) 1,473
AAA Aaa 18,500 5% due 6/01/2038 (a) 18,056
AAA Aaa 6,800 5.625% due 6/01/2038 (k) 7,130
AAA Aaa 10,000 5.50% due 6/01/2043 (b) 10,360
AAA Aaa 2,835 5.50% due 6/01/2043 (c) 2,927
AAA Aaa 1,995 San Diego, California, Unified School District, Election 1998,
GO, Series D, 5.25% due 7/01/2024 (b) 2,091
===================================================================================================================================
Colorado--13.8% Boulder County, Colorado, Hospital Development Revenue Bonds
(Longmont United Hospital Project) (j):
AA NR* 2,705 5.60% due 12/01/2015 2,927
AA NR* 2,135 5.75% due 12/01/2020 2,312
AAA NR* 2,130 Boulder County, Colorado, Sales and Use Tax, Open Space Revenue
Bonds, Series A, 6% due 12/15/2019 (b) 2,419
AAA Aaa 500 Broomfield, Colorado, COP, Refunding, 5.75% due 12/01/2024 (a) 546
Colorado HFA, Revenue Bonds, AMT:
NR* Aa2 2,885 DRIVERS, Series 251, 12.201% due 4/01/2030 (h) 3,025
NR* Aa2 330 (S/F Program), Senior Series A-1, 7.40% due 11/01/2027 334
NR* Aa2 1,400 Colorado HFA, Revenue Refunding Bonds (S/F Program), AMT,
Senior Series A-2, 7.50% due 4/01/2031 1,411
Colorado Health Facilities Authority Revenue Bonds, Series A:
AA Aa2 1,200 (Catholic Health Initiatives), 5.50% due 3/01/2032 1,226
AA NR* 1,200 (Covenant Retirement Communities Inc.), 5.50%
due 12/01/2027 (j) 1,234
AA NR* 675 (Covenant Retirement Communities Inc.), 5.50%
due 12/01/2033 (j) 691
Portfolio Abbreviations
To simplify the listings of MuniEnhanced Fund, Inc.'s portfolio holdings in the
Schedule of Investments, we have abbreviated the names of many of the securities
according to the list at right.
AMT Alternative Minimum Tax (subject to)
COP Certificates of Participation
DRIVERS Derivative Inverse Tax-Exempt Receipts
EDA Economic Development Authority
GO General Obligation Bonds
HDA Housing Development Authority
HFA Housing Finance Agency
IDA Industrial Development Authority
IDR Industrial Development Revenue Bonds
RIB Residual Interest Bonds
RITR Residual Interest Trust Receipts
ROCS Reset Option Certificates
S/F Single-Family
6 MUNIENHANCED FUND, INC. JULY 31, 2004
Schedule of Investments (continued) (in Thousands)
S&P Moody's Face
State Ratings Ratings Amount Municipal Bonds Value
===================================================================================================================================
Colorado AAA Aaa $ 4,280 Colorado Water Resource Power Development Authority, Clean
(concluded) Water Revenue Bonds, Series A, 6.25% due 9/01/2016 $ 4,895
AAA Aaa 5,500 Denver, Colorado, City and County Airport Revenue Bonds, AMT,
Series D, 7.75% due 11/15/2013 (f) 6,691
AAA Aaa 2,000 Denver, Colorado, City and County Airport Revenue Refunding
Bonds, AMT, Series A, 6% due 11/15/2018 (a) 2,198
AAA Aaa 5,450 El Paso County, Colorado, School District Number 49, Falcon,
GO, Series A, 6% due 12/01/2018 (d) 6,269
Northwest Parkway, Colorado, Public Highway Authority Revenue
Bonds:
AAA Aaa 10,745 Capital Appreciation, Senior Convertible, Series C,
5.392%** due 6/15/2025 (d) 7,874
AAA Aaa 1,900 Series A, 5.50% due 6/15/2021 (a) 2,054
===================================================================================================================================
Connecticut--1.1% AAA Aaa 3,500 Connecticut State Special Tax Obligation Revenue Bonds, 6.25%
due 10/01/2004 (b)(g) 3,564
===================================================================================================================================
Florida--1.2% NR* Aaa 2,500 Escambia County, Florida, Health Facilities Authority, Health
Facility Revenue Bonds (Florida Health Care Facility Loan),
5.95% due 7/01/2020 (a) 2,587
A A3 1,000 Highlands County, Florida, Health Facilities Authority,
Hospital Revenue Bonds (Adventist Health System), Series D,
5.875% due 11/15/2029 1,042
AAA Aaa 250 South Miami, Florida, Health Facilities Authority, Hospital
Revenue Bonds (Baptist Health System Obligation Group), 5.25%
due 11/15/2033 (a) 255
===================================================================================================================================
Georgia--3.0% AAA Aaa 7,725 Georgia Municipal Electric Authority, Power Revenue Refunding
Bonds, Series EE, 7% due 1/01/2025 (a) 9,921
===================================================================================================================================
Illinois--19.3% NR* Aaa 5,125 Chicago, Illinois, Board of Education, GO, RIB, Series 467,
10.14% due 12/01/2027 (a)(h) 6,259
AAA Aaa 3,750 Chicago, Illinois, Gas Supply Revenue Refunding Bonds (People's
Gas, Light & Coke), Series A, 6.10% due 6/01/2025 (a) 3,940
Chicago, Illinois, O'Hare International Airport Revenue Bonds,
3rd Lien, AMT, Series B-2:
AAA Aaa 5,670 5.75% due 1/01/2023 (d) 6,074
AAA Aaa 2,500 6% due 1/01/2029 (c) 2,688
Chicago, Illinois, O'Hare International Airport Revenue
Refunding Bonds, AMT:
AAA Aaa 1,500 3rd Lien, Series A-2, 5.75% due 1/01/2019 (d) 1,632
AAA NR* 4,550 DRIVERS, Series 250, 10.094% due 1/01/2021 (f)(h) 5,287
AAA Aaa 3,000 Cook County, Illinois, Capital Improvement, GO, Series C,
5.50% due 11/15/2026 (a) 3,161
AAA Aaa 2,240 Cook County, Illinois, Community College District No. 508,
Chicago, COP, Refunding, 8.75% due 1/01/2007 (b) 2,564
AAA Aaa 3,000 Illinois Health Facilities Authority, Revenue Refunding Bonds
(Servantcor Project), Series A, 6.375% due 8/15/2006 (d)(g) 3,260
AAA Aaa 17,870 Illinois Sports Facilities Authority Revenue Bonds, 5.427%**
due 6/15/2030 (a) 13,365
AAA Aaa 3,000 Metropolitan Pier and Exposition Authority, Illinois, Dedicated
State Tax Revenue Refunding Bonds (McCormick Place Expansion),
Series B, 5.75% due 6/15/2023 (f) 3,288
AAA Aaa 10,115 Regional Transportation Authority, Illinois, Revenue Bonds,
Series A, 7.20% due 11/01/2020 (a) 12,976
===================================================================================================================================
Indiana--4.4% AAA Aaa 2,500 Brownsburg, Indiana, School Building Corporation, First
Mortgage Revenue Bonds (Brownsburg Community School), 5.55%
due 2/01/2024 (f) 2,653
AAA Aaa 4,080 Hammond, Indiana, Multi-School Building Corporation, First
Mortgage Revenue Refunding Bonds, 6.125% due 7/15/2019 (f) 4,500
AAA Aaa 1,750 Indiana Health Facilities Financing Authority, Hospital Revenue
Bonds (Deaconess Hospital Obligated Group), Series A, 5.375%
due 3/01/2034 (a) 1,789
AAA Aaa 4,250 Indiana Transportation Finance Authority, Highway Revenue
Bonds, Series A, 5.25% due 6/01/2028 (b) 4,375
AAA Aaa 1,500 Indianapolis, Indiana, Local Public Improvement Bond Bank
Revenue Bonds (Waterworks Project), Series A, 5.25%
due 7/01/2033 (f) 1,532
===================================================================================================================================
Kansas--1.1% Sedgwick and Shawnee Counties, Kansas, S/F Revenue Bonds
(Mortgage-Backed Securities Program), AMT (e):
NR* Aaa 1,050 Series A-1, 6.875% due 12/01/2026 1,085
AAA Aaa 1,755 Series A-1, 6.875% due 12/01/2026 (f) 1,813
NR* Aaa 765 Series A-2, 7.60% due 12/01/2031 807
MUNIENHANCED FUND, INC. JULY 31, 2004 7
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (continued) (in Thousands)
S&P Moody's Face
State Ratings Ratings Amount Municipal Bonds Value
===================================================================================================================================
Louisiana--4.1% AAA Aaa $ 6,000 Louisiana Local Government, Environmental Facilities, Community
Development Authority Revenue Bonds (Capital Projects and
Equipment Acquisition), Series A, 6.30% due 7/01/2030 (a) $ 6,884
AAA Aaa 5,150 New Orleans, Louisiana, Ernest N. Morial Exhibit Hall
Authority, Special Tax, Sub-Series A, 5.25% due 7/15/2028 (a) 5,297
AAA Aaa 1,400 Terrebonne Parish, Louisiana, Hospital Service District Number
1, Hospital Revenue Bonds (Terrebonne General Medical Center
Project), 5.50% due 4/01/2033 (a) 1,455
===================================================================================================================================
Massachusetts--6.7% Massachusetts State Port Authority, Special Facilities Revenue
Bonds (Delta Air Lines Inc. Project), AMT, Series A (a):
AAA Aaa 3,100 5.50% due 1/01/2016 3,199
AAA Aaa 4,000 5.50% due 1/01/2018 4,078
AAA Aaa 2,870 5.50% due 1/01/2019 2,908
Massachusetts State Special Obligation Dedicated Tax Revenue
Bonds (b):
AAA Aaa 1,800 5.25% due 1/01/2028 1,859
AAA Aaa 10,000 5.25% due 1/01/2029 10,299
===================================================================================================================================
Michigan--3.5% AAA NR* 2,200 Michigan Higher Education Student Loan Authority, Student Loan
Revenue Refunding Bonds, AMT, Series XVII-G, 5.20%
due 9/01/2020 (a) 2,262
Michigan State Strategic Fund, Limited Obligation Revenue
Refunding Bonds (Detroit Edison Company Project) (c):
AAA Aaa 1,150 5.45% due 9/01/2029 1,198
AAA Aaa 1,300 AMT, Series A, 5.50% due 6/01/2030 1,335
AAA Aaa 2,500 AMT, Series C, 5.65% due 9/01/2029 2,580
AAA Aaa 4,300 AMT, Series C, 5.45% due 12/15/2032 4,377
===================================================================================================================================
Mississippi--0.8% AAA Aaa 2,400 Walnut Grove, Mississippi, Correctional Authority, COP, 6%
due 11/01/2009 (a)(g) 2,779
===================================================================================================================================
Nebraska--0.5% A+ A1 1,700 Washington County, Nebraska, Wastewater Facilities Revenue
Bonds (Cargill Inc. Project), AMT, 5.90% due 11/01/2027 1,777
===================================================================================================================================
Nevada--6.9% AA NR* 3,100 Carson City, Nevada, Hospital Revenue Bonds (Carson-Tahoe
Hospital Project), Series A, 5.50% due 9/01/2033 (j) 3,171
AAA Aaa 2,000 Clark County, Nevada, Airport System Subordinate Lien Revenue
Bonds, Series B, 5.25% due 7/01/2034 (b) 2,027
Director of the State of Nevada, Department of Business and
Industry Revenue Bonds (Las Vegas Monorail Company Project),
First Tier (a):
AAA Aaa 750 5.625% due 1/01/2032 794
AAA Aaa 3,280 5.375% due 1/01/2040 3,351
AAA Aaa 10,450 Washoe County, Nevada, Gas and Water Facilities Revenue
Refunding Bonds (Sierra Pacific Power Company), 6.30%
due 12/01/2014 (a) 10,712
AAA Aaa 3,000 Washoe County, Nevada, Water Facility Revenue Bonds (Sierra
Pacific Power Company), AMT, 6.65% due 6/01/2017 (f) 3,142
===================================================================================================================================
New Hampshire--2.3% AAA Aaa 7,390 New Hampshire Health and Education Facilities Authority Revenue
Bonds (Dartmouth-Hitchcock Obligation Group), 5.50%
due 8/01/2027 (d) 7,806
===================================================================================================================================
New Jersey--1.1% BBB Baa3 4,250 Tobacco Settlement Financing Corporation of New Jersey Revenue
Bonds, 6.75% due 6/01/2039 3,828
===================================================================================================================================
New York--10.4% AAA Aaa 550 Erie County, New York, IDA, School Facility Revenue Bonds (City
of Buffalo Project), 5.75% due 5/01/2023 (d) 605
New York City, New York, GO, DRIVERS (h):
AAA A2 1,500 Series 194, 10.147% due 2/01/2015 (d) 1,683
AAA NR* 6,960 Series 356, 9.627% due 6/01/2011 (c) 8,144
New York City, New York, GO, Refunding,:
AAA Aaa 4,000 Series A, 6.375% due 5/15/2013 (b) 4,642
AAA Aaa 3,995 Series A, 6.375% due 5/15/2014 (b) 4,636
A Aaa 3,190 Series A, 6.375% due 5/15/2015 (b) 3,682
AAA Aaa 2,000 Series L, 5.75% due 8/01/2013 (c) 2,191
AAA Aaa 3,290 New York City, New York, GO, Series E, 5.75% due 5/15/2018 (c) 3,652
AAA Aaa 5,400 Tobacco Settlement Financing Corporation of New York Revenue
Bonds, Series A-1, 5.25% due 6/01/2022 (a) 5,620
8 MUNIENHANCED FUND, INC. JULY 31, 2004
Schedule of Investments (continued) (in Thousands)
S&P Moody's Face
State Ratings Ratings Amount Municipal Bonds Value
===================================================================================================================================
Ohio--0.8% AAA Aaa $ 2,500 North Canton, Ohio, City School District GO, 6.70%
due 12/01/2004 (a)(g) $ 2,595
===================================================================================================================================
Pennsylvania--5.6% AAA Aaa 600 Allegheny County, Pennsylvania, Sanitation Authority, Sewer
Revenue Bonds, 5.50% due 12/01/2030 (f) 626
AAA Aaa 4,000 Pennsylvania State Public School Building Authority, School
Lease Revenue Bonds (The School District of Philadelphia
Project), 5% due 6/01/2033 (d) 3,964
AAA Aaa 6,500 Philadelphia, Pennsylvania, Authority for Industrial
Development, Lease Revenue Bonds, Series B, 5.50%
due 10/01/2020 (d) 7,068
AAA Aaa 4,500 Philadelphia, Pennsylvania, School District, GO, Series B,
5.625% due 8/01/2020 (b) 4,878
AAA Aaa 1,750 Washington County, Pennsylvania, Capital Funding Authority
Revenue Bonds (Capital Projects and Equipment Program), 6.15%
due 12/01/2029 (a) 2,004
===================================================================================================================================
Rhode Island--2.7% AAA Aaa 4,345 Providence, Rhode Island, Public Building Authority, General
Revenue Bonds, Series A, 6.25% due 12/15/2020 (d) 5,014
AAA Aaa 3,355 Rhode Island State Economic Development Corporation, Airport
Revenue Bonds, Series B, 6.50% due 7/01/2015 (b) 3,895
===================================================================================================================================
South Carolina--1.9% AAA Aaa 2,200 Florence County, South Carolina, Hospital Revenue Refunding
Bonds (McLeod Regional Medical Center Project), Series A,
5.25% due 11/01/2034 (d) 2,232
AA NR* 1,590 South Carolina Educational Facilities Authority for Private
Nonprofit Institutions Revenue Bonds (The Benedict College),
5.625% due 7/01/2031 (j) 1,656
NR* Aaa 980 South Carolina Housing Finance and Development Authority,
Mortgage Revenue Refunding Bonds, AMT, Series A-2, 5.875%
due 7/01/2009 (d) 1,005
BBB Baa3 1,900 Tobacco Settlement Revenue Management Authority of South
Carolina, Tobacco Settlement Revenue Bonds, Series B, 6.375%
due 5/15/2030 1,629
===================================================================================================================================
South Dakota--2.4% AAA NR* 7,000 South Dakota State Health and Educational Facilities Authority,
Revenue Refunding Bonds, Series A, 7.625% due 1/01/2008 (f)(g) 7,993
===================================================================================================================================
Tennessee--0.7% AAA Aaa 2,280 Tennessee HDA, Revenue Refunding Bonds (Homeownership Program),
AMT, Series 1, 5.95% due 7/01/2012 (f) 2,377
===================================================================================================================================
Texas--7.1% AAA Aaa 1,615 Bexar, Texas, Metropolitan Water District, Waterworks System
Revenue Refunding Bonds, 6.35% due 5/01/2025 (f) 1,696
Dallas-Fort Worth, Texas, International Airport Revenue Bonds,
DRIVERS, AMT (h):
AAA NR* 2,000 Series 202, 10.596% due 11/01/2028 (b) 2,282
AAA NR* 7,250 Series 353, 9.58% due 5/01/2011 (f) 7,608
AAA Aaa 900 Houston, Texas, Airport System, Revenue Refunding Bonds,
Sub-Lien, Series B, 5.50% due 7/01/2030 (d) 938
AA Baa2 3,200 Sam Rayburn, Texas, Municipal Power Agency, Revenue Refunding
Bonds, 5.75% due 10/01/2021 (j) 3,419
AAA Aaa 5,200 Travis County, Texas, Health Facilities Development
Corporation, Revenue Refunding Bonds, RITR, Series 4, 10.25%
due 11/15/2024 (a)(h) 6,645
AAA Aaa 1,000 University of Houston, Texas, University Revenue Bonds, 5.50%
due 2/15/2030 (f) 1,042
===================================================================================================================================
Virginia--4.1% AAA Aaa 10,000 Fairfax County, Virginia, EDA, Resource Recovery Revenue
Refunding Bonds, AMT, Series A, 6.10% due 2/01/2010 (a) 11,187
AAA Aaa 2,300 Halifax County, Virginia, IDA, Exempt Facility Revenue
Refunding Bonds (Old Dominion Electric Cooperative Project),
AMT, 5.625% due 6/01/2028 (a) 2,415
===================================================================================================================================
Washington--7.2% AAA NR* 5,000 Energy Northwest, Washington, Electric Revenue Bonds, DRIVERS,
Series 242, 10.127% due 7/01/2017 (f)(h) 6,162
AAA Aaa 2,150 King County, Washington, Sewer Revenue Refunding Bonds, Series
B, 5.50% due 1/01/2027 (d) 2,255
NR* Aaa 4,500 Snohomish County, Washington, Arlington School District Number
016, GO, 6.50% due 12/01/2010 (b)(g) 5,316
AAA Aaa 2,000 Snohomish County, Washington, Public Utility District Number
001, Electric Revenue Refunding Bonds, 5.375%
due 12/01/2024 (d) 2,092
AAA Aaa 7,000 Washington State, GO, Series A and AT-6, 6.25%
due 2/01/2011 (f) 8,093
===================================================================================================================================
Wisconsin--1.3% BBB Baa3 1,900 Badger, Wisconsin, Tobacco Asset Securitization Corporation,
Asset-Backed Revenue Bonds, 6.375% due 6/01/2032 1,622
AA- Aa3 2,500 Madison, Wisconsin IDR (Madison Gas & Electric Co.), Refunding,
AMT, Series A, 5.875% due 10/01/2034 2,590
---------------------------------------------------------------------------------------------------------
Total Municipal Bonds (Cost--$454,427)--142.2% 474,931
=========================================================================================================
MUNIENHANCED FUND, INC. JULY 31, 2004 9
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (concluded) (in Thousands)
Shares
Held Short-Term Securities Value
=========================================================================================================
2,601 Merrill Lynch Institutional Tax-Exempt Fund (i) $ 2,601
---------------------------------------------------------------------------------------------------------
Total Short-Term Securities (Cost--$2,601)--0.8% 2,601
=========================================================================================================
Total Investments (Cost--$457,028+)--143.0% 477,532
Other Assets Less Liabilities--1.9% 6,315
Preferred Stock, at Redemption Value--(44.9%) (150,010)
---------
Net Assets Applicable to Common Stock--100.0% $ 333,837
=========
(a) AMBAC Insured.
(b) FGIC Insured.
(c) XL Capital Insured.
(d) FSA Insured.
(e) GNMA Collateralized.
(f) MBIA Insured.
(g) Prerefunded.
(h) The interest rate is subject to change periodically and inversely based
upon prevailing market rates. The interest rate shown is the rate in
effect at July 31, 2004.
(i) Investments in companies considered to be an affiliate of the Fund (such
companies are defined as "Affiliated Companies" in Section 2(a)(3) of the
Investment Company Act of 1940) were as follows:
(in Thousands)
--------------------------------------------------------------------------
Net Dividend
Affiliate Activity Income
--------------------------------------------------------------------------
Merrill Lynch Institutional
Tax-Exempt Fund (4,300) $29
--------------------------------------------------------------------------
(j) Radian Insured.
(k) CIFG Insured.
* Not Rated.
** Represents a zero coupon bond; the interest rate shown reflects the
effective yield at the time of purchase by the Fund.
+ The cost and unrealized appreciation/depreciation of investments as of
July 31, 2004, as computed for federal income tax purposes were as
follows:
(in Thousands)
--------------------------------------------------------------------------
Aggregate cost ............................................ $457,003
========
Gross unrealized appreciation ............................. $ 23,498
Gross unrealized depreciation ............................. (2,969)
--------
Net unrealized appreciation ............................... $ 20,529
========
Forward interest rate swaps outstanding as of July 31, 2004 were as
follows:
(in Thousands)
--------------------------------------------------------------------------
Notional Unrealized
Amount Depreciation
--------------------------------------------------------------------------
Receive a variable rate equal to 7-Day
Bond Market Association Municipal Swap
Index Rate and pay a fixed rate
of 4.595%
Broker, J.P. Morgan Chase Bank
Expires September 2024 $30,000 $(1,213)
Receive a variable rate equal to 7-Day
Bond Market Association Municipal Swap
Index Rate and pay a fixed rate
of 4.051%
Broker, J.P. Morgan Chase Bank
Expires September 2014 $20,000 (462)
Receive a variable rate equal to 7-Day
Bond Market Association Municipal Swap
Index Rate and pay a fixed rate
of 4.5425%
Broker, Morgan Stanley Capital
Services, Inc.
Expires September 2024 $20,000 (584)
--------------------------------------------------------------------------
Total $(2,259)
=======
See Notes to Financial Statements.
10 MUNIENHANCED FUND, INC. JULY 31, 2004
Statement of Net Assets
As of July 31, 2004
===================================================================================================================
Assets
-------------------------------------------------------------------------------------------------------------------
Investments in unaffiliated securities, at value
(identified cost--$454,427,019) ........................ $ 474,930,329
Investments in affiliated securities, at value
(identified cost--$2,601,316) .......................... 2,601,316
Cash .................................................... 6,744
Receivables:
Interest ............................................. $ 5,785,822
Securities sold ...................................... 3,030,000
Dividends from affiliates ............................ 65 8,815,887
-------------
Prepaid expenses and other assets ....................... 8,887
-------------
Total assets ............................................ 486,363,163
-------------
===================================================================================================================
Liabilities
-------------------------------------------------------------------------------------------------------------------
Unrealized depreciation on forward interest rate swaps .. 2,258,860
Payables:
Investment adviser ................................... 229,816
Other affiliates ..................................... 5,040 234,856
-------------
Accrued expenses and other liabilities .................. 22,402
-------------
Total liabilities ....................................... 2,516,118
-------------
===================================================================================================================
Preferred Stock
-------------------------------------------------------------------------------------------------------------------
Preferred Stock, at redemption value, par value $.025 per
share (2,000 Series A Shares, 2,000 Series B Shares and
2,000 Series C Shares of AMPS* authorized, issued and
outstanding at $25,000 per share liquidation preference) 150,009,780
-------------
===================================================================================================================
Net Assets Applicable to Common Stock
-------------------------------------------------------------------------------------------------------------------
Net assets applicable to Common Stock ................... $ 333,837,265
=============
===================================================================================================================
Analysis of Net Assets Applicable to Common Stock
-------------------------------------------------------------------------------------------------------------------
Common Stock, par value $.10 per share (29,369,874 shares
issued and outstanding) ................................ $ 2,936,987
Paid-in capital in excess of par ........................ 323,104,599
Undistributed investment income--net .................... $ 5,623,616
Accumulated realized capital losses on investments--net . (16,072,387)
Unrealized appreciation on investments--net ............. 18,244,450
-------------
Total accumulated earnings--net ......................... 7,795,679
-------------
Total--Equivalent to $11.37 net asset value per share of
Common Stock (market price--$10.39) .................... $ 333,837,265
=============
* Auction Market Preferred Stock.
See Notes to Financial Statements.
MUNIENHANCED FUND, INC. JULY 31, 2004 11
[LOGO] Merrill Lynch Investment Managers
Statement of Operations
For the Six Months Ended July 31, 2004
===================================================================================================================
Investment Income
-------------------------------------------------------------------------------------------------------------------
Interest ................................................ $ 13,072,786
Dividends from affiliates ............................... 28,971
-------------
Total income ............................................ 13,101,757
-------------
===================================================================================================================
Expenses
-------------------------------------------------------------------------------------------------------------------
Investment advisory fees ................................ $ 1,215,448
Commission fees ......................................... 188,297
Accounting services ..................................... 80,401
Transfer agent fees ..................................... 56,901
Professional fees ....................................... 33,675
Printing and shareholder reports ........................ 29,367
Custodian fees .......................................... 14,790
Directors' fees and expenses ............................ 11,470
Listing fees ............................................ 11,272
Pricing fees ............................................ 8,891
Other ................................................... 19,492
-------------
Total expenses before reimbursement ..................... 1,670,004
Reimbursement of expenses ............................... (7,025)
-------------
Total expenses after reimbursement ...................... 1,662,979
-------------
Investment income--net .................................. 11,438,778
-------------
===================================================================================================================
Realized & Unrealized Gain (Loss) on Investments--Net
-------------------------------------------------------------------------------------------------------------------
Realized gain from:
Investments--net ..................................... 1,067,847
Forward interest rate swaps--net ..................... 735,286 1,803,133
-------------
Change in unrealized appreciation/depreciation from:
Investments--net ..................................... (13,675,531)
Forward interest rate swaps--net ..................... (1,661,020) (15,336,551)
-------------------------------
Total realized and unrealized loss--net ................. (13,533,418)
-------------
===================================================================================================================
Dividends to Preferred Stock Shareholders
-------------------------------------------------------------------------------------------------------------------
Investment income--net .................................. (707,940)
-------------
Net Decrease in Net Assets Resulting from Operations .... $ (2,802,580)
=============
See Notes to Financial Statements.
12 MUNIENHANCED FUND, INC. JULY 31, 2004
Statements of Changes in Net Assets
For the Six For the
Months Ended Year Ended
July 31, January 31,
Increase (Decrease) in Net Assets: 2004 2004
===================================================================================================================
Operations
-------------------------------------------------------------------------------------------------------------------
Investment income--net .................................. $ 11,438,778 $ 23,835,222
Realized gain on investments--net ....................... 1,803,133 3,552,827
Change in unrealized appreciation/depreciation on
investments--net ....................................... (15,336,551) 762,392
Dividends to Preferred Stock shareholders ............... (707,940) (1,628,600)
-------------------------------
Net increase (decrease) in net assets resulting from
operations ............................................. (2,802,580) 26,521,841
-------------------------------
===================================================================================================================
Dividends to Common Stock Shareholders
-------------------------------------------------------------------------------------------------------------------
Investment income--net .................................. (10,749,374) (21,146,311)
-------------------------------
Net decrease in net assets resulting from dividends to
Common Stock shareholders .............................. (10,749,374) (21,146,311)
-------------------------------
===================================================================================================================
Net Assets Applicable to Common Stock
-------------------------------------------------------------------------------------------------------------------
Total increase (decrease) in net assets applicable to
Common Stock ........................................... (13,551,954) 5,375,530
Beginning of period ..................................... 347,389,219 342,013,689
-------------------------------
End of period* .......................................... $ 333,837,265 $ 347,389,219
===============================
* Undistributed investment income--net ............... $ 5,623,616 $ 5,642,152
===============================
See Notes to Financial Statements.
MUNIENHANCED FUND, INC. JULY 31, 2004 13
[LOGO] Merrill Lynch Investment Managers
Financial Highlights
The following per share data and ratios have been derived For the Six
from information provided in the financial statements. Months Ended For the Year Ended January 31,
July 31, --------------------------------------------
Increase (Decrease) in Net Asset Value: 2004 2004 2003 2002 2001@
=============================================================================================================================
Per Share Operating Performance
-----------------------------------------------------------------------------------------------------------------------------
Net asset value, beginning of period ...... $ 11.83 $ 11.65 $ 11.43 $ 11.38 $ 10.10
--------------------------------------------------------
Investment income--net**** ................ .39 .81 .83 .80 .80
Realized and unrealized gain (loss) on
investments--net ......................... (.46) .15 .17 .02 1.33
Dividends to Preferred Stock shareholders
from investment income--net .............. (.02) (.06) (.08) (.13) (.21)
--------------------------------------------------------
Total from investment operations .......... (.09) .90 .92 .69 1.92
--------------------------------------------------------
Less dividends to Common Stock shareholders
from investment income--net .............. (.37) (.72) (.70) (.64) (.64)
--------------------------------------------------------
Net asset value, end of period ............ $ 11.37 $ 11.83 $ 11.65 $ 11.43 $ 11.38
========================================================
Market price per share, end of period ..... $ 10.39 $ 11.22 $ 10.62 $ 11.05 $ 10.79
========================================================
=============================================================================================================================
Total Investment Return**
-----------------------------------------------------------------------------------------------------------------------------
Based on market price per share ........... (4.16%)+ 12.84% 2.43% 8.61% 25.36%
========================================================
Based on net asset value per share ........ (.53%)+ 8.46% 8.62% 6.52% 20.27%
========================================================
=============================================================================================================================
Ratios Based on Average Net Assets of Common Stock
-----------------------------------------------------------------------------------------------------------------------------
Total expenses, net of reimbursement*** ... .98%* .97% 1.00% 1.00% 1.01%
========================================================
Total expenses*** ......................... .99%* .97% 1.00% 1.00% 1.01%
========================================================
Total investment income--net*** ........... 6.77%* 6.95% 7.17% 7.00% 7.44%
========================================================
Amount of dividends to Preferred Stock
shareholders ............................. .42%* .48% .70% 1.18% 1.95%
========================================================
Investment income--net, to Common Stock
shareholders ............................. 6.35%* 6.47% 6.47% 5.82% 5.49%
========================================================
=============================================================================================================================
Ratios Based on Average Net Assets of Common & Preferred Stock***
-----------------------------------------------------------------------------------------------------------------------------
Total expenses, net of reimbursement ...... .68%* .68% .70% .69% .69%
========================================================
Total expenses ............................ .69%* .68% .70% .69% .69%
========================================================
Total investment income--net .............. 4.69%* 4.84% 4.97% 4.84% 5.04%
========================================================
=============================================================================================================================
Ratios Based on Average Net Assets of Preferred Stock
-----------------------------------------------------------------------------------------------------------------------------
Dividends to Preferred Stock shareholders . .95%* 1.09% 1.57% 2.64% 4.10%
========================================================
14 MUNIENHANCED FUND, INC. JULY 31, 2004
Financial Highlights (concluded)
For the Six
Months Ended For the Year Ended January 31,
The following per share data and ratios have been derived July 31, --------------------------------------------
from information provided in the financial statements. 2004 2004 2003 2002 2001@
=============================================================================================================================
Supplemental Data
-----------------------------------------------------------------------------------------------------------------------------
Net assets applicable to Common Stock, end
of period (in thousands) ................. $333,837 $347,389 $342,014 $335,614 $334,300
========================================================
Preferred Stock outstanding, end of period
(in thousands) ........................... $150,000 $150,000 $150,000 $150,000 $150,000
========================================================
Portfolio turnover ........................ 17.06% 50.47% 31.35% 43.12% 70.39%
========================================================
=============================================================================================================================
Leverage
-----------------------------------------------------------------------------------------------------------------------------
Asset coverage per $1,000 ................. $ 3,226 $ 3,316 $ 3,280 $ 3,237 $ 3,229
========================================================
=============================================================================================================================
Dividends Per Share on Preferred Stock Outstanding
-----------------------------------------------------------------------------------------------------------------------------
Series A--Investment income--net .......... $ 113 $ 233 $ 350 $ 671 $ 1,017
========================================================
Series B--Investment income--net .......... $ 121 $ 354 $ 510 $ 680 $ 1,036
========================================================
Series C--Investment income--net .......... $ 119 $ 227 $ 327 $ 628 $ 1,031
========================================================
* Annualized
** Total investment returns based on market value, which can be significantly
greater or lesser than the net asset value, may result in substantially
different returns. Total investment returns exclude the effects of sales
charges.
*** Do not reflect the effect of dividends to Preferred Stock shareholders.
**** Based on average shares outstanding.
+ Aggregate total investment return.
@ Certain prior year amounts have been reclassified to conform to current
year presentation.
See Notes to Financial Statements.
MUNIENHANCED FUND, INC. JULY 31, 2004 15
[LOGO] Merrill Lynch Investment Managers
Notes to Financial Statements
1. Significant Accounting Policies:
MuniEnhanced Fund, Inc. (the "Fund") is registered under the Investment Company
Act of 1940, as amended, as a non-diversified, closed-end management investment
company. The Fund's financial statements are prepared in conformity with U.S.
generally accepted accounting principles, which may require the use of
management accruals and estimates. Actual results may differ from these
estimates. These unaudited financial statements reflect all adjustments, which
are, in the opinion of management, necessary to present a fair statement of the
results for the interim period. All such adjustments are of a normal, recurring
nature. The Fund determines and makes available for publication the net asset
value of its Common Stock on a daily basis. The Fund's Common Stock is listed on
the New York Stock Exchange under the symbol MEN. The following is a summary of
significant accounting policies followed by the Fund.
(a) Valuation of investments -- Municipal bonds are traded primarily in the
over-the-counter markets and are valued at the last available bid price in the
over-the-counter market or on the basis of yield equivalents as obtained by the
Fund's pricing service from one or more dealers that make markets in the
securities. Financial futures contracts and options thereon, which are traded on
exchanges, are valued at their closing prices as of the close of such exchanges.
Options written or purchased are valued at the last sale price in the case of
exchange-traded options. In the case of options traded in the over-the-counter
market, valuation is the last asked price (options written) or the last bid
price (options purchased). Swap agreements are valued by quoted fair values
received daily by the Fund from the counterparty. Short-term investments with a
remaining maturity of sixty days or less are valued at amortized cost, which
approximates market value. Securities and assets for which market quotations are
not readily available are valued at fair value as determined in good faith by or
under the direction of the Board of Directors of the Fund, including valuations
furnished by a pricing service retained by the Fund, which may utilize a matrix
system for valuations. The procedures of the pricing service and its valuations
are reviewed by the officers of the Fund under the general supervision of the
Board of Directors.
(b) Derivative financial instruments -- The Fund may engage in various portfolio
investment strategies both to increase the return of the Fund and to hedge, or
protect, its exposure to interest rate movements and movements in the securities
markets. Losses may arise due to changes in the value of the contract or if the
counterparty does not perform under the contract.
o Financial futures contracts -- The Fund may purchase or sell financial
futures contracts and options on such futures contracts. Futures contracts
are contracts for delayed delivery of securities at a specific future date
and at a specific price or yield. Upon entering into a contract, the Fund
deposits and maintains as collateral such initial margin as required by
the exchange on which the transaction is effected. Pursuant to the
contract, the Fund agrees to receive from or pay to the broker an amount
of cash equal to the daily fluctuation in value of the contract. Such
receipts or payments are known as variation margin and are recorded by the
Fund as unrealized gains or losses. When the contract is closed, the Fund
records a realized gain or loss equal to the difference between the value
of the contract at the time it was opened and the value at the time it was
closed.
o Options -- The Fund may write covered call options and purchase call and
put options. When the Fund writes an option, an amount equal to the
premium received by the Fund is reflected as an asset and an equivalent
liability. The amount of the liability is subsequently marked-to-market
reflecting the current market value of the option written. When a security
is purchased or sold through an exercise of an option, the related premium
paid (or received) is added to (or deducted from) the basis of the
security acquired or deducted from (or added to) the proceeds of the
security sold. When an option expires (or the Fund enters into a closing
transaction), the Fund realizes a gain or loss on the option to the extent
of the premiums received or paid (or gain or loss to the extent the cost
of the closing transaction exceeds the premium paid or received).
Written and purchased options are non-income producing investments.
o Forward interest rate swaps -- The Fund may enter into forward interest
rate swaps. In a forward interest rate swap, the Fund and the counterparty
agree to make periodic net payments on a specified notional contract
amount, commencing on a specified future effective date, unless terminated
earlier. When the agreement is closed, the Fund records a realized gain or
loss in an amount equal to the value of the agreement.
16 MUNIENHANCED FUND, INC. JULY 31, 2004
Notes to Financial Statements (concluded)
(c) Income taxes -- It is the Fund's policy to comply with the requirements of
the Internal Revenue Code applicable to regulated investment companies and to
distribute substantially all of its taxable income to its shareholders.
Therefore, no federal income tax provision is required.
(d) Security transactions and investment income -- Security transactions are
recorded on the dates the transactions are entered into (the trade dates).
Realized gains and losses on security transactions are determined on the
identified cost basis. Dividend income is recorded on the ex-dividend dates.
Interest income is recognized on the accrual basis. The Fund amortizes all
premiums and discounts on debt securities.
(e) Dividends and distributions -- Dividends from net investment income are
declared daily and paid monthly. Distributions of capital gains are recorded on
the ex-dividend dates.
2. Investment Advisory Agreement and Transactions with Affiliates:
The Fund has entered into an Investment Advisory Agreement with Fund Asset
Management, L.P. ("FAM"). The general partner of FAM is Princeton Services, Inc.
("PSI"), an indirect, wholly-owned subsidiary of Merrill Lynch & Co., Inc. ("ML
& Co."), which is the limited partner.
FAM is responsible for the management of the Fund's portfolio and provides the
necessary personnel, facilities, equipment and certain other services necessary
to the operations of the Fund. For such services, the Fund pays a monthly fee at
an annual rate of .50% of the Fund's average daily net assets, including assets
acquired from the issuance of Preferred Stock. For the six months ended July 31,
2004, FAM reimbursed the Fund in the amount of $7,025.
For the six months ended July 31, 2004, the Fund reimbursed FAM $5,361 for
certain accounting services.
Certain officers and/or directors of the Fund are officers and/or directors of
FAM, PSI, and/or ML & Co.
3. Investments:
Purchases and sales of investments, excluding short-term securities, for the six
months ended July 31, 2004 were $95,822,473 and $81,031,699, respectively.
4. Stock Transactions:
The Fund is authorized to issue 200,000,000 shares of stock, par value $.10 per
share, all of which were initially classified as Common Stock. The Board of
Directors is authorized, however, to reclassify any unissued shares of stock
without the approval of the holders of Common Stock.
Preferred Stock
Auction Market Preferred Stock ("AMPS") are shares of Preferred Stock of the
Fund, with a par value of $.025 per share and a liquidation preference of
$25,000 per share, plus accrued and unpaid dividends, that entitle their holders
to receive cash dividends at an annual rate that may vary for the successive
dividend period for each series. The yields in effect at July 31, 2004 were as
follows: Series A, 1.20%; Series B, 1.25%; and Series C, 1.02%.
The Fund pays commissions to certain broker-dealers at the end of each auction
at an annual rate ranging from .25% to .50%, calculated on the proceeds of each
auction. For the six months ended July 31, 2004, Merrill Lynch, Pierce, Fenner &
Smith Incorporated, an affiliate of FAM, received $110,503 as commissions.
5. Capital Loss Carryforward:
On January 31, 2004, the Fund had a net capital loss carryforward of
$15,033,608, of which $4,572,805 expires in 2008, $8,505,599 expires in 2009 and
$1,955,204 expires in 2011. This amount will be available to offset like amounts
of any future taxable gains.
6. Subsequent Event:
The Fund paid a tax-exempt income dividend to holders of Common Stock in the
amount of $.061000 on August 30, 2004 to shareholders of record on August 16,
2004.
MUNIENHANCED FUND, INC. JULY 31, 2004 17
[LOGO] Merrill Lynch Investment Managers
Proxy Results
During the six-month period ended July 31, 2004, MuniEnhanced Fund, Inc.'s
Common Stock shareholders voted on the following proposal. The proposal was
approved at a shareholders' meeting on April 27, 2004. A description of the
proposal and number of shares voted are as follows:
-------------------------------------------------------------------------------------------------
Shares Voted Shares Withheld
For From Voting
-------------------------------------------------------------------------------------------------
1. To elect the Fund's Directors: James H. Bodurtha 27,585,736 599,581
Joe Grills 27,549,043 636,274
Roberta Cooper Ramo 27,550,229 635,088
Robert S. Salomon, Jr. 27,546,674 638,643
Stephen B. Swensrud 27,529,420 655,897
-------------------------------------------------------------------------------------------------
During the six-month period ended July 31, 2004, MuniEnhanced Fund, Inc.'s
Preferred Stock shareholders (Series A, B & C) voted on the following proposal.
The proposal was approved at a shareholders' meeting on April 27, 2004. A
description of the proposal and number of shares voted are as follows:
---------------------------------------------------------------------------------------------------------------
Shares Voted Shares Withheld
For From Voting
---------------------------------------------------------------------------------------------------------------
1. To elect the Fund's Board of Directors:
James H. Bodurtha, Joe Grills, Herbert I. London, Andre F. Perold,
Roberta Cooper Ramo, Robert S. Salomon, Jr. and Stephen B. Swensrud 5,309 176
---------------------------------------------------------------------------------------------------------------
Quality Profile
The quality ratings of securities in the Fund as of July 31, 2004 were as
follows:
--------------------------------------------------------------------------------
Percent of
Total
S&P Rating/Moody's Rating Investments
--------------------------------------------------------------------------------
AAA/Aaa .................................................. 86.8%
AA/Aa .................................................... 5.0
A/A ...................................................... 5.3
BBB/Baa .................................................. 2.3
NR (Not Rated) ........................................... 0.6
--------------------------------------------------------------------------------
Dividend Policy
The Fund's dividend policy is to distribute all or a portion of its net
investment income to its shareholders on a monthly basis. In order to provide
shareholders with a more stable level of dividend distributions, the Fund may at
times pay out less than the entire amount of net investment income earned in any
particular month and may at times in any particular month pay out such
accumulated but undistributed income in addition to net investment income earned
in that month. As a result, the dividends paid by the Fund for any particular
month may be more or less than the amount of net investment income earned by the
Fund during such month. The Fund's current accumulated but undistributed net
investment income, if any, is disclosed in the Statement of Net Assets, which
comprises part of the financial information included in this report.
18 MUNIENHANCED FUND, INC. JULY 31, 2004
Officers and Directors
Terry K. Glenn, President and Director
James H. Bodurtha, Director
Joe Grills, Director
Herbert I. London, Director
Andre F. Perold, Director
Roberta Cooper Ramo, Director
Robert S. Salomon, Jr., Director
Stephen B. Swensrud, Director
Kenneth A. Jacob, Senior Vice President
John M. Loffredo, Senior Vice President
Michael A. Kalinoski, Vice President
Donald C. Burke, Vice President and Treasurer
Phillip S. Gillespie, Secretary
Custodian
State Street Bank and Trust Company
P.O. Box 351
Boston, MA 02101
Transfer Agents
Common Stock:
EquiServe
P.O. Box 43010
Providence, RI 02940-3010
Preferred Stock:
The Bank of New York
101 Barclay Street -- 7 West
New York, NY 10286
NYSE Symbol
MEN
Availability of Quarterly Schedule of Investments
The Fund files its complete schedule of portfolio holdings with the Securities
and Exchange Commission ("SEC") for the first and third quarters of each fiscal
year on Form N-Q. The Fund's Forms N-Q are available on the SEC's Web site at
http://www.sec.gov. The Fund's Forms N-Q may also be reviewed and copied at the
SEC's Public Reference Room in Washington, DC. Information on the operation of
the Public Reference Room may be obtained by calling 1-800-SEC-0330.
Electronic Delivery
The Fund offers electronic delivery of communications to its shareholders. In
order to receive this service, you must register your account and provide us
with e-mail information. To sign up for this service, simply access this Web
site http://www.icsdelivery.com/live and follow the instructions. When you visit
this site, you will obtain a personal identification number (PIN). You will need
this PIN should you wish to update your e-mail address, choose to discontinue
this service and/or make any other changes to the service. This service is not
available for certain retirement accounts at this time.
MUNIENHANCED FUND, INC. JULY 31, 2004 19
[LOGO] Merrill Lynch Investment Managers www.mlim.ml.com
MuniEnhanced Fund, Inc. seeks to provide shareholders with as high a level of
current income exempt from federal income taxes as is consistent with its
investment policies by investing primarily in a portfolio of long-term,
investment grade municipal obligations, the interest on which is exempt from
federal income taxes in the opinion of the bond counsel to the issuer.
This report, including the financial information herein, is transmitted to
shareholders of MuniEnhanced Fund, Inc. for their information. It is not a
prospectus. Past performance results shown in this report should not be
considered a representation of future performance. The Fund has leveraged its
Common Stock and intends to remain leveraged by issuing Preferred Stock to
provide the Common Stock shareholders with a potentially higher rate of return.
Leverage creates risks for Common Stock shareholders, including the likelihood
of greater volatility of net asset value and market price of shares of the
Common Stock, and the risk that fluctuations in the short-term dividend rates of
the Preferred Stock may affect the yield to Common Stock shareholders.
Statements and other information herein are as dated and are subject to change.
A description of the policies and procedures that the Fund uses to determine how
to vote proxies relating to portfolio securities is available (1) without
charge, upon request, by calling toll-free 1-800-MER-FUND (1-800-637-3863); (2)
at www.mutualfunds.ml.com; and (3) on the Securities and Exchange Commission's
Web site at http://www.sec.gov. Information about how the Fund voted proxies
relating to securities held in the Fund's portfolio during the most recent
12-month period ended June 30 is available (1) at www.mutualfunds.ml.com and (2)
on the Securities and Exchange Commission's Web site at http://www.sec.gov.
MuniEnhanced Fund, Inc.
Box 9011
Princeton, NJ 08543-9011
#10874 -- 7/04
Item 2 - Code of Ethics - Not Applicable to this semi-annual report
Item 3 - Audit Committee Financial Expert - Not Applicable to this semi-annual
report
Item 4 - Principal Accountant Fees and Services - Not Applicable to this
semi-annual report
Item 5 - Audit Committee of Listed Registrants - Not Applicable to this
semi-annual report
Item 6 - Schedule of Investments - Not Applicable
Item 7 - Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies - Not Applicable to this semi-annual
report
Item 8 - Purchases of Equity Securities by Closed-End Management Investment
Company and Affiliated Purchasers - Not Applicable
Item 9 - Submission of Matters to a Vote of Security Holders - Not Applicable
Item 10 - Controls and Procedures
10(a) - The registrant's certifying officers have reasonably designed such
disclosure controls and procedures to ensure material information
relating to the registrant is made known to us by others particularly
during the period in which this report is being prepared. The
registrant's certifying officers have determined that the registrant's
disclosure controls and procedures are effective based on our evaluation
of these controls and procedures as of a date within 90 days prior to
the filing date of this report.
10(b) - There were no changes in the registrant's internal control over
financial reporting (as defined in Rule 30a-3(d) under the Act (17 CFR
270.30a-3(d)) that occurred during the last fiscal half-year of the
period covered by this report that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting.
Item 11 - Exhibits attached hereto
11(a)(1) - Code of Ethics - Not Applicable to this semi-annual report
11(a)(2) - Certifications - Attached hereto
11(a)(3) - Not Applicable
11(b) - Certifications - Attached hereto
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
MuniEnhanced Fund, Inc.
By: /s/ Terry K. Glenn
----------------------
Terry K. Glenn,
President of
MuniEnhanced Fund, Inc.
Date: September 17, 2004
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
By: /s/ Terry K. Glenn
----------------------
Terry K. Glenn,
President of
MuniEnhanced Fund, Inc.
Date: September 17, 2004
By: /s/ Donald C. Burke
----------------------
Donald C. Burke,
Chief Financial Officer of
MuniEnhanced Fund, Inc.
Date: September 17, 2004