DESCRIPTION OF THE FUNDS AND INVESTMENT OBJECTIVES AND POLICIES

The Needham Funds, Inc. is an open-end management investment company organized as a corporation under the laws of the State of Maryland on October 12, 1995. This Statement of Additional Information relates to the Growth Fund, the Aggressive Growth Fund and the Small Cap Growth Fund (each a “Fund” and together, the “Funds”) which are each non-diversified, as that term is defined in the Investment Company Act of 1940, as amended (the “1940 Act”), series of The Needham Funds, Inc.

The Needham Funds, Inc. is an open-end management investment company under the 1940 Act. The Funds are each offered on a no-load basis.

The Growth Fund seeks long-term, tax-efficient capital appreciation through investing in equity securities of growth companies with superior long-term growth rates at value prices. The Aggressive Growth Fund seeks long-term, tax-efficient capital appreciation by primarily investing in equity securities of public companies with strong, above-average prospective long-term growth rates. Under normal conditions, the Growth and Aggressive Growth Funds invest at least 65% of their respective total assets in equity securities of domestic issuers listed on a nationally recognized securities exchange or traded on the NASDAQ System. The balance of the Growth and Aggressive Growth Funds’ assets may be held in cash or invested in other securities, including other equity securities, common stock equivalents (mainly securities exchangeable for common stock), options, futures and various debt instruments.

The Small Cap Growth Fund seeks long-term, tax-efficient capital appreciation by primarily investing in equity securities of smaller growth companies which the Fund believes are trading at a discount to their underlying value yet have the potential for superior long-term growth. Under normal conditions, the Small Cap Growth invests at least 80% of its net assets in equity securities of domestic issuers listed on a nationally recognized securities exchange or traded on the NASDAQ System that have market capitalizations not exceeding (i) $2 billion, or (ii) the highest market capitalization in the Russell 2000® Index, if greater. As of March 31, 2007, the highest market capitalization in the Russell 2000® Index was $3.76 billion. The balance of the Small Cap Growth Fund’s assets may be held in cash or invested in other securities, including equity securities of larger companies, common stock equivalents (mainly securities exchangeable for common stock), options, futures and various debt instruments.

In addition to the principal investment strategies and techniques and the principal risks of the Funds described in the Prospectus, the Funds may utilize other investment techniques and may be subject to the additional risks which are described below.

Debt Securities

The Funds may buy debt securities of all types issued by both domestic and foreign issuers, including government securities, corporate bonds and debentures, commercial paper, and certificates of deposit. Under normal conditions, the Growth Fund and the Aggressive Growth Fund may invest a maximum of 35% of their total assets in debt securities and the Small Cap Growth Fund may invest a maximum of 20% of its net assets in debt securities.

Lower-Rated Debt Securities

The Funds may purchase lower-rated debt securities, sometimes referred to as “junk” or “high yield bonds” (those rated BB or lower by Standard & Poor’s Ratings Group (“S&P”) or Ba or lower by Moody’s Investors Service, Inc. (“Moody’s”)). However, no more than 10% of each Fund’s total assets (such 10% also being included in the 35% or 20% limitation, respectively, stated above) may be invested in non-investment grade debt securities. These securities are considered to be highly speculative, may have poor prospects of attaining investment standing and may be in default. Like those of other fixed-income securities, the value of lower-rated securities fluctuates in response to changes in interest rates. In

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addition, the values of such securities are also affected by changes in general economic conditions and business conditions affecting the specific industries of their issuers.

The lower ratings of certain securities held by the Funds reflect the greater possibility that adverse changes in the financial condition of the issuer, or in general economic conditions, or both may impair the ability of the issuer to make payments of interest and principal. A number of factors, including the ability of the issuer to make timely payments, could lessen liquidity and limit the Funds’ ability to sell at prices approximating the values placed on such securities. In the absence of a liquid trading market for securities held by the Funds, it may be difficult to establish the fair market value of these securities. The rating assigned to a security by Moody’s or S&P does not reflect an assessment of the volatility of the security’s market value or of the liquidity of an investment in the security.

Changes by recognized rating services in their ratings of any fixed-income security and in the ability of an issuer to make payments of interest and principal may also affect the value of these investments.

Issuers of lower-rated securities are often highly leveraged and, consequently, their ability to service their debt during an economic downturn or during sustained periods of rising interest rates may be impaired. In addition, such issuers may be unable to repay debt at maturity by refinancing. The risk of loss due to default is significantly greater because such securities frequently are unsecured and subordinated to senior indebtedness. Certain of the lower-rated securities in which the Funds may invest are issued to raise funds in connection with the acquisition of a company. The highly leveraged capital structure of such issuers may make them especially vulnerable to adverse changes in economic conditions.

In order to enforce its rights in the event of a default under such securities, a Fund may be required to take possession of and manage assets securing the issuer’s obligations on such securities. This may increase the Fund’s operating expenses and adversely affect the Fund’s net asset value. The Funds may also be limited in their ability to enforce their rights and may incur greater costs in enforcing their rights in the event an issuer becomes the subject of bankruptcy proceedings.

Other Debt Securities

Zero-coupon securities are debt securities which are usually issued at a deep discount and do not provide for payment of interest prior to maturity. The amount of this discount is accreted over the life of the security, and the accretion constitutes the income earned on the security for both accounting and tax purposes. Even though zero-coupon securities do not pay current interest in cash, the Funds are nonetheless required to accrue interest income on them and to distribute the amount of that interest at least annually to their respective shareholders. Thus, the Funds could be required at times to liquidate other investments in order to satisfy their distribution requirements.

When other debt obligations are stripped of their unmatured interest coupons by the holder, the stripped coupons are sometimes sold separately. The principal or corpus is then sold at a deep discount because the buyer receives only the right to receive a future fixed payment on the security and does not receive any rights to periodic cash interest payments. Purchasers of stripped principal obligations acquire, in effect, discount obligations that are economically identical to zero-coupon bonds.

Convertible Securities

The Funds may invest in convertible securities: that is, bonds, notes, debentures, preferred stocks and other securities which are convertible into common stocks. Investments in convertible securities may provide incidental income through interest and dividend payments and/or an opportunity for capital appreciation by virtue of their conversion or exchange features.

Convertible debt securities and convertible preferred stocks, until converted, have general characteristics similar to both debt and equity securities. Although to a lesser extent than with debt

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securities generally, the market value of convertible securities tends to decline as interest rates increase and, conversely, tends to increase as interest rates decline. In addition, because of the conversion or exchange feature, the market value of convertible securities typically changes as the market value of the underlying common stocks changes and, therefore, also tends to follow movements in the general market for equity securities. As the market price of the underlying common stock declines, convertible securities tend to trade increasingly on a yield basis and so may not experience market value declines to the same extent as the underlying common stock. When the market price of the underlying stock increases, the prices of the convertible securities tend to rise as a reflection of the value of the underlying common stock, although typically not as much as the underlying common stock. While no securities investments are without risk, investments in convertible securities generally entail less risk than investments in common stock of the same issuer.

As debt securities, convertible securities are investments which provide for a stream of income (or in the case of zero-coupon securities, accretion of income) with generally higher yields than common stocks. However, convertible securities generally offer lower yields than non-convertible securities of similar quality because of their conversion or exchange features.

Convertible securities are generally subordinated to other similar but non-convertible securities of the same issuer, although convertible bonds, as corporate debt obligations, enjoy seniority in right of payment to all equity securities, and convertible preferred stock is senior to common stock, of the same issuer. However, because of the subordination feature, convertible bonds and convertible preferred stock typically have lower ratings than similar non-convertible securities.

Foreign Securities

Certain of the Funds’ investments may be of securities in issuers located in countries having repatriation restrictions. Investment in securities subject to repatriation restrictions of more than seven days will be considered illiquid securities and will be subject to each Fund’s 15% limitation on investment in illiquid securities.

Individual foreign economies may differ favorably or unfavorably from the U.S. economy in such respects as growth of gross national product, rate of inflation, capital reinvestment, resources, self-sufficiency and balance of payments position. Further, by investing in foreign securities, the Funds may encounter greater difficulties or be unable to pursue legal remedies or obtain judgments in foreign courts.

Because foreign securities typically will be denominated in foreign currencies, the value of such securities to the Funds will be affected by changes in currency exchange rates and in exchange control regulations and costs will be incurred in connection with conversions between currencies. A change in the value of a foreign currency against the U.S. dollar will result in a corresponding change in the U.S. dollar value of the Funds’ securities denominated in that currency. Such changes will also affect the Funds’ income and distributions to shareholders. The Funds may be affected either favorably or unfavorably by fluctuations in the relative rates of exchange between the currencies of different nations and the Funds therefore may engage in certain foreign currency hedging strategies. Such hedging strategies may include the purchase and sale of foreign currencies on a spot or forward basis or the purchase and sale of options or futures contracts with respect to foreign currencies. Such strategies involve certain investment risks and transaction costs to which the Funds might not otherwise be subject. These risks include dependence on the Adviser’s ability to predict movements in exchange rates, as well as the difficulty of predicting, and the imperfect movements between, exchange rates and currency hedges.

Investments may be made from time to time in companies in developing countries as well as in developed countries. Although there is no universally accepted definition, a developing country is generally considered by the Adviser to be a country which is in the initial state of industrialization. Shareholders should be aware that investing in the equity and fixed income markets of developing countries involves exposure to unstable governments, economies based on only a few industries and securities markets which trade a small number of securities. Securities markets of developing countries

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tend to be more volatile than the markets of developed countries; however, such markets have in the past provided the opportunity for higher rates of return to investors. There are substantial risks involved in investing in securities issued by developing country companies which are in addition to the usual risks inherent in foreign investments. Some countries in which the Funds may invest may have fixed or managed currencies. Further, certain currencies may not be traded internationally. Certain of these currencies have experienced a steady devaluation relative to the U.S. dollar. Any devaluations in the currencies in which a Fund’s portfolio securities are denominated may have a detrimental impact on that Fund.

With respect to certain foreign countries, there is the possibility of expropriation of assets, confiscatory taxation, political or social instability or diplomatic developments which could affect investment in those countries. There may be less publicly available information about a foreign financial instrument than about a U.S. instrument and foreign entities may not be subject to accounting, auditing, and financial reporting standards and requirements comparable to those of the United States. There is generally less government supervision and regulation for exchanges, financial institutions and issuers in foreign countries than there is in the United States. Moreover, certain foreign investments may be subject to foreign withholding taxes. Foreign markets have different clearance and settlement procedures and in certain markets there have been times when settlements have been unable to keep pace with the volume of securities transactions, making it difficult to conduct such transactions. Delays in settlement could result in temporary periods when assets of the Funds are uninvested and no return is earned thereon. The inability of the Funds to make intended securities purchases due to settlement problems could cause the Funds to miss attractive investment opportunities. Inability of the Funds to dispose of a security due to settlement problems could also result either in losses to the Funds due to subsequent declines in value of the security or, if the Funds have entered into a contract to sell the securities, could result in possible liability to the purchaser.

Foreign securities such as those purchased by the Funds may be subject to foreign government taxes, higher custodian fees and dividend collection fees which could reduce the yield on such securities. Trading in futures contracts traded on foreign commodity exchanges may be subject to the same or similar risks as trading in foreign securities.

Foreign Currency Transactions

Under normal circumstances, consideration of the prospects for currency exchange rates will be incorporated into the long-term investment decisions made for the Funds with regard to overall diversification strategies. Although the Funds value their respective assets daily in terms of U.S. dollars, they do not intend physically to convert their holdings of foreign currencies into U.S. dollars on a daily basis. The Funds may do so from time to time and investors should be aware of the costs of currency conversion. Although foreign exchange dealers do not charge a fee for conversion, they do realize a profit based on the difference (the “spread”) between the prices at which they are buying and selling various currencies. Thus, a dealer may offer to sell a foreign currency to a Fund at one rate while offering a lesser rate of exchange should that Fund desire to resell that currency to the dealer. Each Fund may use forward contracts, along with futures contracts and put and call options, to “lock in” the U.S. dollar price of a security bought or sold and as part of its overall hedging strategy. The Funds will conduct their foreign currency exchange transactions, either on a spot (i.e., cash) basis at the spot rate prevailing in the foreign currency exchange market or through purchasing put and call options on, or by entering into, futures contracts or forward contracts to purchase or sell foreign currencies. See “Forward Foreign Currency Exchange Contracts” and “Futures and Options Transactions.”

It is impossible to forecast the market value of a particular portfolio security at the expiration of the contract. Accordingly, it may be necessary for the Funds to purchase additional foreign currency on the spot market (and bear the expense of such purchase) if the market value of the security is less than the amount of foreign currency that the Funds are obligated to deliver and if a decision is made to sell the security and make delivery of the foreign currency.

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If a Fund retains the portfolio security and engages in an offsetting transaction, the Fund will incur a gain or a loss to the extent that there has been movement in forward currency contract prices. Additionally, although such contracts tend to minimize the risk of loss due to a decline in the value of the hedged currency, at the same time they tend to limit any potential gain which might result should the value of such currency increase.

Forward Foreign Currency Exchange Contracts

The Funds may enter into forward contracts as a hedge against future fluctuations in foreign exchange rates. A forward foreign currency exchange contract (“forward contract”) involves an obligation to purchase or sell a fixed amount of U.S. dollars or foreign currency at a future date, which may be any fixed number of days from the date of the contract agreed upon by the parties, at the price set at the time of the contract. Unlike foreign currency futures contracts, which are standardized exchange-traded contracts, forward currency contracts are usually traded in the interbank market conducted directly between currency traders (usually large commercial banks) and their customers.

The Funds may enter into forward contracts under various circumstances. For example, a Fund may enter into a forward contract for the purchase or sale of a security denominated in a foreign currency in order to “lock-in” the price of the security in U.S. dollars or some other foreign currency which the Fund is holding. By entering into a forward contract for the purchase or sale of a fixed amount of U.S. dollars or other currency for the amount of foreign currency involved in the underlying security transactions, a Fund will be able to protect itself against any adverse movements in exchange rates between the time the security is purchased or sold and the date on which payment is made or received. The Funds may also purchase a forward contract to hedge against an anticipated rise in a currency versus the U.S. dollar or other currency, pending investment in a security denominated in that currency.

The Funds may enter into a forward contract to sell or purchase, for a fixed amount of U.S. dollars or other currency, an amount of foreign currency other than the currency in which the securities to be hedged or purchased are denominated approximating the value of some or all of the portfolio securities to be hedged or purchased. This method of hedging, called cross-hedging, will be used when it is determined that the foreign currency in which the portfolio securities are denominated has insufficient liquidity or is trading at a discount as compared with some other foreign currency with which it tends to move in tandem. The Funds are permitted to enter into forward contracts with respect to currencies in which certain of their respective portfolio securities are denominated and on which options have been written.

In certain of the above circumstances a Fund may have realized fewer gains than had that Fund not entered into the forward contracts. Moreover, the precise matching of the forward contract amounts and the value of the securities involved will not generally be possible since the future value of such securities in foreign currencies will change as a consequence of market movements in the value of those securities between the date the forward contract is entered into and the date it matures.

Custodial Trust Company, the Funds’ Custodian, will place cash or liquid equity or debt securities into a segregated account of each Fund in an amount equal to the value of that Fund’s total assets committed to the consummation of forward foreign currency contracts. If the value of the securities placed in the segregated account declines, additional cash or securities will be placed in the account on a daily basis so that the value of the account will equal the amount of that Fund’s commitments with respect to such contracts. At maturity of a forward currency contract, the Fund may either sell the portfolio security and make delivery of the foreign currency or it may retain the security and terminate its contractual obligation to deliver the foreign currency prior to maturity by purchasing an “offsetting” contract with the same currency trade obligating it to purchase, on the same maturity date, the same amount of the foreign currency. There can be no assurance, however, that a Fund will be able to effect such a closing purchase transaction.

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Futures and Options Transactions

The use of financial futures contracts and options on such futures contracts may reduce the Funds’ exposure to fluctuations in the prices of portfolio securities and may prevent losses if the prices of such securities decline. Similarly, such investments may protect the Funds against fluctuations in the value of securities in which the Funds are about to invest.

The use of financial futures contracts and options on such futures contracts as hedging instruments involves several risks. First, there can be no assurance that the prices of the futures contracts or options and the hedged security will move as anticipated. If prices do not move as anticipated, the Funds may each incur a loss on their respective investment. Second, investments in options, futures contracts and options on futures contracts may reduce the gains which would otherwise be realized from the sale of the underlying securities which are being hedged. Third, the effective use of options and futures contracts also depends on the Funds’ ability to terminate options and futures positions as desired. There can be no assurance that there will be a sufficiently liquid market for the Funds to effect closing transactions at any particular time or at an acceptable price. If a Fund cannot close a futures position, or if limitations imposed by an exchange or board of trade on which futures contracts are traded prevent that Fund from closing out a contract, that Fund may incur a loss or may be forced to make or take delivery of the underlying securities or currencies at a disadvantageous time.

In addition, the purchase or sale of futures contracts or sale of options on futures contracts involves the risk that the Funds could lose more than the original margin deposit required to initiate the transaction. The purchase of options on futures contracts involves less potential risk than the purchase or sale of futures contracts because the maximum amount at risk is the premium paid for the options plus transaction costs. Although the maximum amount at risk when the Funds purchase an option on a security, currency, index or futures contract is the premium paid for the option plus transaction costs, there may be circumstances when the purchase of an option would result in a loss to the Funds, whereas the purchase of the underlying security, currency or futures contract would not, such as when there is no movement in the level of the underlying security, currency or futures contract. The value of an options or futures position relating to a non-U.S. currency may vary with changes in the value of either the currency involved or the U.S. dollar or both and has no relationship to the investment merits of individual non-U.S. securities held in a hedged investment portfolio.

The Funds may write covered call options on underlying portfolio securities, whether equity or debt, on stock or bond indices and on currencies in which the Funds invest. Covered call writing may be used for hedging purposes and for closing long call positions and for achieving incremental income. A call option will be considered covered for a particular Fund if that Fund (i) owns the security or currency underlying the written option, (ii) holds a call option on the underlying security, currency or index with a similar exercise price or (iii) maintains sufficient cash, cash equivalents or liquid high-grade securities sufficient to cover the market value of the option.

The Funds may also write covered put options. This technique will be used when a Fund seeks to purchase a security, or group of securities in the case of an index option, at a price equal to or less than the prevailing market price at the time of the put sale. The Funds may also sell covered puts for achieving incremental income. A put will be considered covered for a particular Fund if that Fund (i) maintains cash, cash equivalents or liquid, high-grade debt obligations sufficient to cover the exercise price of the option, (ii) holds a put option on the underlying security with an exercise price equal to or greater than the exercise price of the written put or (iii) where the exercise price of the purchased put is lower than that of the written put, the Fund maintains sufficient cash, cash equivalents or liquid high-grade debt obligations equal to the difference. Puts may also be written in order to close long put positions. In calculating the 5% limitation on options, futures and forward transactions, other than for hedging purposes, each Fund shall include the premiums paid on options and options on futures (excluding in-the-money amounts on such options) and the initial margin deposits on its futures positions.

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In order to fix the cost of future purchases, the Funds may purchase calls on equity and debt securities that the Adviser intends to include in the Funds’ portfolios. Calls may also be used to participate in an anticipated price increase of a security without taking on the full risk associated with actually purchasing the underlying security. The Funds may purchase puts to hedge against a decline in the market value of portfolio securities.

Repurchase Agreements and Reverse Repurchase Agreements

The Funds will only enter into repurchase agreements where (i) the underlying securities are of the type which the Funds’ investment policies would allow the Funds to purchase directly, (ii) the market value of the underlying security, including accrued interest, will at all times be equal to or exceed the value of the repurchase agreement, and (iii) payment for the underlying securities is made only upon physical delivery or evidence of book-entry transfer to the account of the custodian or a bank acting as agent. A Fund will not enter into a repurchase agreement with a maturity of more than seven business days if, as a result, more than 15% of the value of its net assets would then be invested in such repurchase agreements and other illiquid securities.

The Funds may enter into reverse repurchase agreements in which the Funds sell securities and agree to repurchase them at a mutually agreed date and price. Generally, the Funds will be able to keep the interest income associated with those portfolio securities while the securities reside with the other party to the agreement. Such transactions are advantageous to a Fund if the interest cost to the Fund of the reverse repurchase transaction is less than the cost of otherwise obtaining the cash raised through the transaction.

Reverse repurchase agreements involve the risk that the market value of the securities that the Funds are obligated to repurchase under the agreement may decline below the repurchase price. In the event the other party under a reverse repurchase agreement becomes bankrupt or insolvent, the Funds’ use of the proceeds of the agreement may be restricted pending a determination by the other party, or its trustee or receiver, whether to enforce the Funds’ obligation to repurchase the securities.

Securities Lending

The Funds may lend their respective portfolio securities, provided that with regard to each Fund (i) the loan is secured continuously by collateral consisting of U.S. government securities, cash, or cash equivalents adjusted daily to have a market value at least equal to the current market value of the securities loaned, (ii) the Fund may at any time call the loan and regain the securities loaned, (iii) the Fund will receive any interest or dividends paid on the loaned securities, and (iv) the aggregate market value of securities loaned will not at any time exceed such percentage of the total assets of the Fund as the Directors may establish, but not to exceed 20%. In addition, it is anticipated that the Fund may share with the borrower some of the income received on the collateral for the loan or that it will be paid a premium for the loan.

Before a Fund enters into a loan, the Adviser considers the relevant facts including the creditworthiness of the borrower. The risks in lending portfolio securities consist of possible delay in recovery of the securities or possible loss of rights in the collateral should the borrower fail financially.

Indexed Securities

The Funds may purchase securities whose prices are indexed to the prices of other securities, securities indices, currencies, commodities, or other financial indicators. Indexed securities typically, but not always, are debt securities or deposits whose value at maturity or coupon rate is determined by reference to a specific instrument or statistic. The performance of indexed securities largely depends on the performance of the security, currency, commodity or other instrument to which they are indexed, as well as general economic factors in the U.S. or abroad. At the same time, indexed securities are subject to

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the credit risks associated with the issuer of the security and their values may decline substantially if the issuer’s creditworthiness deteriorates. Indexed securities may be more volatile than the underlying instrument itself.

Additional Risks Associated with Hedging Instruments

The Funds’ ability to hedge effectively all or a portion of their securities depends upon the ability of the Adviser to predict correctly the degree to which price movements of securities held in the Funds’ portfolios correlate to the price movements of the relevant hedging instruments. In addition, the effectiveness of any hedging strategy using index options, index futures, interest rate options or interest rate futures depends upon the correlation between the components of the underlying index and the securities held by the Funds.

Other Permitted Investments

The Funds may invest in securities issued by other investment companies within the limits prescribed by the 1940 Act and applicable rules thereunder. As a shareholder of another investment company, each Fund would bear, along with other shareholders, its pro rata portion of the other investment company’s expenses, including advisory fees. These expenses thus would be in addition to the advisory fees and other expenses that each Fund bears in connection with its own operations.

The Funds may also purchase or sell portfolio securities on a when-issued or delayed delivery basis in compliance with applicable 1940 Act guidelines. When-issued or delayed delivery transactions involve a commitment by a Fund to purchase or sell securities with payment and delivery to take place in the future in order to secure what is considered to be an advantageous price or yield to that Fund at the time of entering into the transaction.

Each Fund may also invest up to 15% of its net assets in illiquid securities, including restricted securities, (i.e., securities that are not readily marketable without registration under the Securities Act of 1933 (the “1933 Act”)) and other securities that are not readily marketable. The Funds may purchase restricted securities that can be offered and sold to “qualified institutional buyers” under Rule 144A of the 1933 Act, and the Board of Directors of The Needham Funds, Inc. may determine, when appropriate, that specific Rule 144A securities are liquid and not subject to the 15% limitation on illiquid securities.

Portfolio Holdings

The Adviser and the Funds maintain portfolio holdings disclosure policies that govern the disclosure to shareholders and third parties of information regarding the portfolio investments held by the Funds. These portfolio holdings disclosure policies have been approved by the Board of Directors of the Funds. Disclosure of the Funds’ complete holdings is required to be made quarterly within 60 days of the end of each fiscal quarter in the Annual Report and Semi-Annual Report to Fund shareholders and in the quarterly holdings report on Form N-Q. These reports are available, free of charge, on the EDGAR database on the SEC’s website at www.sec.gov, by contacting BISYS Fund Services Ohio, Inc., PO Box 183033, Columbus, Ohio 43218-3033 or by calling 1-800-625-7071.

From time to time, fund-rating companies such as Morningstar, Inc. may request complete portfolio holdings information in connection with rating the Funds. The Funds believe that these third parties have legitimate objectives in requesting such portfolio holdings information. To prevent such parties from potentially misusing portfolio holdings information, the Funds’ Chief Compliance Officer will generally only permit the disclosure of such information as of the end of the most recent calendar quarter, with a lag of at least thirty days. In addition, the Funds’ Chief Compliance Officer may grant exceptions to permit additional disclosure of portfolio holdings information at differing times on a case-by-case basis, generally with a lag of at least thirty days, to rating agencies, provided that (i) the recipient is subject to a confidentiality agreement, which includes a duty not to purchase or sell the Funds or the Funds’ portfolio holdings before the portfolio holdings become public, (ii) the recipient will utilize the

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information to reach certain conclusions about the investment characteristics of the Funds and will not use the information to facilitate or assist in any investment program, and (iii) the recipient will not provide access to this information to third parties, other than the Funds’ service providers who need access to such information in the performance of their contractual duties and responsibilities, and are subject to duties of confidentiality.

The Fund’s officers and legal counsel are responsible for determining whether there is a legitimate business purpose for the disclosure of the Fund’s portfolio holdings. To find that there is a legitimate business purpose, it must be determined that the selective disclosure of portfolio holdings information is necessary or useful without compromising the integrity or performance of the Fund. The Fund does not receive any compensation or other consideration from these arrangements for the release of the Fund’s portfolio holdings information.

The furnishing of non-public portfolio holdings information to any third party (other than authorized governmental and regulatory personnel) requires the approval of the Adviser’s Chief Compliance Officer. The Adviser will approve the furnishing of non-public portfolio holdings to a third party only if the furnishing of such information is believed to be in the best interest of the Fund and its shareholders. No consideration may be received by the Fund, the Adviser, any affiliate of the Adviser or their employees in connection with the disclosure of portfolio holdings information. There are currently no ongoing arrangements to make available information about the Funds’ portfolio securities, other than as described above. The Board receives and reviews annually a list of the persons who receive non-public portfolio holdings information and the purpose for which it is furnished. The Board monitors any dissemination of the Funds’ portfolio holdings information to address potential conflicts of interest that could arise between the interests of the Funds’ shareholders and the interests of the Adviser or its affiliates.

In addition, the Funds’ service providers, such as their custodian, fund administrator, fund accounting, legal counsel and transfer agent, who are subject to duties of confidentiality, including a duty not to trade on non-public information, imposed by law or contract, may receive portfolio holdings information in connection with their services to the Funds.

INVESTMENT RESTRICTIONS

The following investment restrictions have been adopted by each Fund as fundamental policies and may only be changed with regard to each Fund by the affirmative vote of a majority of that Fund’s outstanding shares. The term “majority of that Fund’s outstanding shares” means the vote of (i) 67% or more of that Fund’s shares present at a meeting, if the holders of more than 50% of the outstanding shares of that Fund are present or represented by proxy, or (ii) more than 50% of that Fund’s outstanding shares, whichever is less.

These investment restrictions provide that each Fund may not:

1.              Make investments for the purpose of exercising control or management of the issuer;

2.              Purchase or sell real estate or real estate mortgage loans (provided that such restriction shall not apply to securities secured by real estate or an interest therein or issued by companies which invest in real estate or interests therein), commodities or commodity contracts (except that the Fund may deal in forward foreign exchange between currencies and the Fund may purchase and sell interest rate and currency options, futures contracts and related options and indexed notes and commercial paper), or interests or leases in oil, gas or other mineral exploration or development programs (provided that such restriction shall not apply to securities issued by companies which invest in oil, gas or other mineral exploration or development programs);

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3.              Except as described in the Prospectus, purchase any securities on margin, except for use of short-term credit necessary for clearance of purchases and sales of portfolio securities (the deposit or payment by a Fund of initial or variation margin in connection with futures contracts or options transactions is not considered the purchase of a security on margin);

4.              Borrow amounts and pledge assets in connection therewith in excess of 25% of its total assets taken at market value (including the amount borrowed), and then only from banks as a temporary measure, including to meet redemptions or to settle securities transactions and provided further that no additional investments shall be made while borrowings exceed 5% of total assets;

5.              Issue senior securities, as defined in the 1940 Act, except that this restriction shall not be deemed to prohibit the Fund from making any otherwise permissible borrowings, mortgages or pledges, short sales, or entering into permissible reverse repurchase agreements, and options and futures transactions;

6.              Underwrite any issuance of securities (except to the extent that the Fund may be deemed to be an underwriter within the meaning of the 1933 Act in the disposition of restricted securities);

7.              Make loans of its securities exceeding 20% of its total assets; and

8.              Invest 25% or more of its net assets in one or more issuers conducting their principal business in the same industry.

As matters of non-fundamental policy, each Fund may not:

1.              Purchase securities of other investment companies, except in connection with a merger, consolidation, acquisition or reorganization, or if immediately thereafter not more than (i) 3% of the total outstanding voting stock of any one such company is owned by the Fund, (ii) 5% of the Fund’s total assets, taken at market value, would be invested in any one such company, or (iii) 10% of the Fund’s total assets, taken at market value, would be invested in such companies’ securities. Any purchase by a Fund of securities of other investment companies, except in connection with a merger, consolidation, acquisition or reorganization, shall be made in the open market where no commission results other than customary brokerage commissions;

2.              With respect to 50% of the value of its total assets, invest more than 25% of the value of its total assets in the securities of one issuer, and with respect to the other 50% of the value of its total assets, invest more than 5% of the value of its total assets in the securities of one issuer or acquire more than 10% of the outstanding voting securities of a single issuer. This restriction shall not apply to U.S. government securities;

3.              With respect to 75% of the value of its total assets, purchase more than 10% of the outstanding voting securities of any issuer;

4.              Sell short securities the underlying value of which exceeds 25% of the value of the net assets of the Fund. Any short sale up to such limit must be fully collateralized and each Fund will also limit its short sales in any one issuer’s securities to 2% of the value of the Funds’ net assets and will not sell short more than 2% of any one class of the issuer’s securities.

5.              Invest in real estate limited partnerships not traded on a national securities exchange, except that a Fund may purchase or sell securities issued by entities engaged in the real estate industry or instruments backed by real estate;

6.              Invest in warrants (other than warrants acquired by the Fund as a part of a unit or attached to securities at the time of purchase) if, as a result, such investment (valued at the lower of cost

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or market value) would exceed 5% of the value of the Fund’s net assets, provided that any warrants in which the Fund is short “against the box” will be netted for purposes of this 5% limitation; and

7.              Invest more than 35% (20% of net assets in the case of the Small Cap Growth Fund) of its total assets in debt securities and invest more than 10% of its total assets in non-investment grade debt securities (such 10% limitation to be included in the 35% (20% of net assets in the case of the Small Cap Growth Fund) limitation).

These restrictions are not fundamental policies and may be changed with respect to any Fund by the Board of Directors without a shareholder vote, to the extent permitted by applicable law including rules of the Securities and Exchange Commission. Except as otherwise may be specifically stated herein, the Funds’ other investment policies stated in this Statement of Additional Information and in the Prospectus are not considered fundamental and may be changed by the Board of Directors at any time without a shareholder vote if and to the extent any such changes are consistent with the requirements of the 1940 Act.

If a percentage restriction is adhered to at the time of the investment, a later increase or decrease in percentage resulting from a change in values of portfolio securities or amount of net assets will not be considered a violation of any of the foregoing restrictions. The affected Fund shall, however, reduce its holdings of illiquid securities in an orderly fashion in order to maintain adequate liquidity.

matters); expenses relating to the Amended and Restated Plan of Distribution (“the Plan”); fees of Directors who are not “interested persons” of the Adviser; fidelity bond and errors and omissions insurance premiums; the cost of maintaining the books and records of that Fund; and any other charges and fees not specifically enumerated as an obligation of the Distributor (as hereinafter defined) or Adviser.

The fee payable by each Fund to the Adviser is accrued daily and paid monthly. For the Aggressive Growth Fund and Small Cap Growth Fund, this fee will be reduced to the extent expenses of that Fund exceed certain limits as specified in the Prospectus.

For the fiscal years ended December 31, 2006, 2005 and 2004, the Funds paid the following advisory fees:

THE DISTRIBUTOR AND DISTRIBUTION OF THE SHARES

Shares of the Funds are offered on a continuous basis and are currently distributed through Needham & Company, LLC, 445 Park Avenue, New York, New York 10022 (the “Distributor”). The Board of Directors of The Needham Funds, Inc. has approved a Distribution and Services Agreement (the “Distribution Agreement”) appointing the Distributor as a distributor of shares of the Funds.

The Distribution Agreement provides that the Distributor will bear the cost and expense of printing and distributing any materials not prepared by the Funds and other materials used by the Distributor in connection with its offering shares of the Funds. Each Fund will pay all fees and expenses in connection with registering and qualifying its shares under Federal and state securities laws.

To compensate the Distributor and other service providers for the distribution and/or shareholder-related services provided by them, each Fund has adopted the Plan pursuant to Rule 12b-1 under the 1940 Act. Fees paid by the Funds under the Plan will be used for promotional, distribution and shareholder-related services incurred only during the applicable year. Pursuant to the Plan, the service providers are required to provide the Funds at least quarterly with a written report of the amounts expended under the Plan and the purpose for which such expenditures were made. The Board of Directors of The Needham Funds, Inc. reviews such reports on a quarterly basis.

The Plan has been approved on behalf of each Fund by the Board of Directors of The Needham Funds, Inc., including a majority of the Directors who are not “interested persons” of The Needham Funds, Inc. and who have no direct or indirect financial interest in the operation of the Plan. The Plan continues in effect as to each Fund, provided such continuance is approved annually by a vote of the Directors in accordance with the 1940 Act. Information with respect to distribution revenues and expenses will be presented to the Directors each year for their consideration in connection with their deliberations as to the continuance of the Plan. In the review of the Plan, the Directors will be asked to take into consideration expenses incurred in connection with the distribution of shares. The Plan may not be amended to increase materially the amount to be spent for the services described therein with respect to any Fund without approval of the shareholders of that Fund, and all material amendments of the Plan must also be approved by the Directors in the manner described above. The Plan may be terminated at any time, without payment of any penalty, by vote of a majority of the Directors who are not “interested persons” of The Needham Funds, Inc. and who have no direct or indirect financial interest in the operation of the Plan, or by a vote of a majority of the outstanding voting securities of the Fund (as defined in the 1940 Act) on not more than 30 days written notice to any other party to the Plan. The Plan

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will automatically terminate in the event of its assignment (as defined in the 1940 Act). So long as the Plan is in effect, the election and nomination of Directors who are not “interested persons” of The Needham Funds, Inc. shall be committed to the discretion of the Directors who are not “interested persons.” The Directors have determined that, in their judgment, there is a reasonable likelihood that the Plan will benefit the Funds and their respective shareholders. The Funds will preserve copies of the Plan and any agreement or report made pursuant to Rule 12b-1 under the 1940 Act, for a period of not less than six years from the date of the Plan or such agreement or report, the first two years in an easily accessible place.

The Funds have entered into service agreements with the Distributor and other entities. Though the terms of the Funds’ agreements vary, service providers generally are required to provide various shareholder services to the Funds, including records maintenance, shareholder communications, transactional services, tax information and reports, and facilitation of purchase and redemption orders. Payments generally are made under the Plan at the annual rate of 0.25% of the value of each Fund’s shares held in accounts maintained by each such service provider. In the case of certain of the Funds’ agreements, the Adviser is required to pay an additional 0.10% (or other percentage) of the value of all Fund shares held in such accounts out of its financial resources other than 12b-1 fees. The Funds are required to make these payments to its service providers regardless of any actual expenses incurred by them.

The Growth Fund incurred total expenses of $663,849, $532,482 and $809,642 during fiscal years 2006, 2005 and 2004, respectively, under its agreements with the Distributor and other service providers. During fiscal year 2006, the Growth Fund incurred $128,924 to the Distributor, $166,971 to National Financial Services, LLC (“Fidelity”) and $189,126 to Charles Schwab & Co., Inc. (“Schwab”). During fiscal year 2005, the Growth Fund incurred $131,968 to the Distributor, $113,530 to Fidelity and $147,967 to Schwab. During fiscal year 2004, the Growth Fund incurred $169,863 to the Distributor, $158,476 to Fidelity and $294,301 to Schwab.

The Aggressive Growth Fund incurred total expenses of $44,680, $41,823 and $41,914 during fiscal years 2006, 2005 and 2004, respectively, under its agreements with the Distributor and other service providers. During fiscal year 2006, the Aggressive Growth Fund incurred $29,461 to the Distributor and $11,807 to Bear ,Stearns & Co. Inc. (“Bear Stearns”). During fiscal year 2005, the Aggressive Growth Fund incurred $27,790 to the Distributor and $11,807 to Bear Stearns. During fiscal year 2004, the Aggressive Growth Fund incurred $26,166 to the Distributor and $13,104 to Bear Stearns.

The Small Cap Growth Fund incurred total expenses of $43,841, $52,114 and $63,107 during fiscal years 2006, 2005 and 2004, respectively, under its agreements with the Distributor and other service providers. During fiscal year 2006, the Small Cap Growth Fund incurred $20,827 to the Distributor and $7,568 to Bear Stearns. During fiscal year 2005, the Small Cap Growth Fund incurred $22,148 to the Distributor and $9,907 to Fidelity. During fiscal year 2004, the Small Cap Growth Fund incurred $20,737 to the Distributor and $15,378 to Schwab.

During the last fiscal year, the Funds paid or incurred the following amounts for the following services under the Plan:

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ADMINISTRATION SERVICES,

FUND ACCOUNTING, TRANSFER AGENCY AND OTHER SERVICES

The Needham Funds, Inc. and BISYS Fund Services Ohio, Inc. (“BISYS” or the “Administrator”) have entered into a master services agreement (the “Master Services Agreement”) effective June 6, 2005. BISYS, an Ohio corporation, has its principal business offices at 3435 Stelzer Road, Columbus, Ohio 43219. The Administrator provides administration services to other investment companies.

Under the Master Services Agreement, the Administrator provides the Funds with administrative services, including day-to-day administration of matters necessary to each Fund’s operations, maintenance of records and the books of the Funds, preparation of reports, assistance with compliance monitoring of the Funds’ activities, and certain supplemental services in connection with the Funds’ obligations under the Sarbanes-Oxley Act of 2002. The Master Services Agreement shall remain in effect for a period of one year until June 5, 2008, and shall continue in effect for successive one year periods subject to review at least annually by the Directors of the Company unless terminated by either party by written notice at least 90 days prior to the end of the initial term or a successive one year period. Under the Master Services Agreement, BISYS is entitled to receive an asset-based fee for administrative and fund accounting services of 7.00 basis points (0.070%) on the first $750 million of the Funds’ average daily net assets and 6.5 basis points (0.065%) of the Funds’ average daily net assets exceeding $750 million. The Administrator also provides transfer agent and other services pursuant to this agreement for additional fees.

For the fiscal year ending December 31, 2006 and for the period from June 6, 2005 through December 31, 2005 the Funds paid the following fees to the Administrator:

Prior to June 6, 2005, PFPC Inc. performed shareholder servicing, dividend paying, registrar and transfer agent functions for the Funds pursuant to an agreement with The Needham Funds, Inc. PFPC Inc. also performed certain Fund and shareholder accounting and administrative functions. Subject to certain waivers, each Fund paid a monthly fee at the annual rate of 0.10% on the first $200 million of its average daily net assets and varying percentages on assets above such amount. The principal business address of PFPC Inc. is 301 Bellevue Parkway, Wilmington, DE 19809. For the period January 1, 2005 through June 5, 2005, and for the fiscal year ended December 31, 2004, the Funds paid the following fees to PFPC Inc.:

PORTFOLIO MANAGER

The following table shows information regarding other accounts managed by the portfolio manager as of December 31, 2006.

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Mr. Kloppenburg is compensated by the Adviser with an annual salary and bonus, both of which vary from year-to-year, based on a variety of factors, including overall profitability of the firm, the profitability of the asset management activities of the firm, and assessments by the senior management of the firm of the contributions of said individuals to the success of the firm. Mr. Kloppenburg’s compensation is not based on the Funds’ pre- or after-tax performance or on the value of assets held in each Fund’s portfolio.

One of the components of the bonus pool which Mr. Kloppenburg is eligible to participate in each year is the performance fees which may be received by affiliates of The Needham Group, Inc. for managing non-registered investment accounts. The bonus pool is also composed of profits from the other business units of the firm, such as trading and investment banking. Mr. Kloppenburg is the portfolio manager of several non-registered investment accounts. Mr. Kloppenburg does not directly receive a percentage of any profits received by Needham affiliates for managing such accounts, and his compensation is not based on a formula or method related to any such profits.

Mr. Kloppenburg’s position as portfolio manager of the Growth Fund, Aggressive Growth Fund and Small Cap Growth Fund, and his management of several non-registered investment accounts, could be deemed to create a potential conflict of interest since his possible indirect receipt of a portion of the profits from trading the non-registered investment accounts could, in theory, create an incentive to favor such accounts. However, the Adviser does not believe that the various elements of his compensation presents any material conflict of interest, for the following reasons: (i) the Adviser follows strict and detailed written allocation procedures to equitably allocate purchases or sales among the Funds and the non-registered investment accounts, (ii) the Funds and the non-registered investment accounts are managed in a similar fashion and (iii) the number of different factors and components of The Needham Group, Inc. bonus pool and the considerable number of employees eligible to participate in said pool argues against Mr. Kloppenburg having any incentive to favor the non-registered investment accounts over the Funds.

The table below shows the range of equity securities beneficially owned by the portfolio manager in the Funds managed by the portfolio manager as of December 31, 2006.

undisclosed commission or markup. In underwritten offerings, the price includes a disclosed, fixed commission or discount. The Funds may invest in obligations which are normally traded on a “principal” rather than agency basis. This may be done through a dealer (e.g., securities firm or bank) who buys or sells for its own account rather than as an agent for another client, or directly with the issuer. A dealer’s profit, if any, is the difference, or spread, between the dealer’s purchase and sale price for the obligation.

In purchasing and selling each Fund’s portfolio investments, it is the Adviser’s policy to obtain quality execution at the most favorable prices through responsible broker-dealers. In selecting broker-dealers, the Adviser will consider various relevant factors, including, but not limited to: the size and type of the transaction; the nature and character of the markets for the security or asset to be purchased or sold; the execution efficiency, settlement capability, and financial condition of the broker-dealer’s firm; the broker-dealer’s execution services rendered on a continuing basis; and the reasonableness of any commissions.

The Adviser may cause each Fund to pay a broker-dealer who furnishes brokerage and/or research services a commission that is in excess of the commission another broker-dealer would have received for executing the transaction if it is determined that such commission is reasonable in relation to the value of the brokerage and/or research services, as defined in Section 28(e) of the Securities Exchange Act of 1934, which have been provided. Such research services may include, among other things, analyses and reports concerning issuers, industries, securities, economic factors and trends, and portfolio strategy. Any such research and other information provided by brokers to the Adviser is considered to be in addition to and not in lieu of services required to be performed by the Adviser under the Advisory Agreement. The research services provided by broker-dealers can be useful to the Adviser in serving any other clients or clients of the Adviser’s affiliates. For the year ended December 31, 2006, no Fund paid brokerage commissions under arrangements covering research services of the type contemplated by Section 28(e). The Board of Directors of The Needham Funds, Inc. periodically reviews the Adviser’s performance of its responsibilities in connection with the placement of portfolio transactions on behalf of each Fund and reviews the commissions paid by each Fund over representative periods of time to determine if they are reasonable in relation to the benefits to the Funds.

Investment decisions for the Funds are made independently from those of the other investment accounts managed by the Adviser or affiliated companies. Occasions may arise, however, when the same investment decision is made for more than one client’s account. It is the practice of the Adviser to allocate such purchases or sales insofar as feasible among its several clients or the clients of its affiliates in a manner it deems equitable. The principal factors which the Adviser considers in making such allocations are the relative investment objectives of the clients, the relative size of the portfolio holdings of the same or comparable securities and the availability in the particular account of funds for investment. Portfolio securities held by one client of the Adviser may also be held by one or more of its other clients or by clients of its affiliates. When two or more of its clients or clients of its affiliates are engaged in the simultaneous sale or purchase of securities, transactions are allocated as to amount in accordance with formulae deemed to be equitable as to each client. There may be circumstances when purchases or sales of portfolio securities for one or more clients will have an adverse effect on other clients.

Consistent with the Rules of Fair Practice of the National Association of Securities Dealers, Inc. and subject to seeking the most favorable price and execution available and such other policies as the Board of Directors may determine, the Funds may employ Needham & Company, LLC (which is the Funds’ Distributor) as a broker consistent with the rules under the 1940 Act and the Funds’ Rule 17e-1 procedures. For the years ended December 31, 2006, 2005 and 2004 each Fund paid brokerage commissions on portfolio transactions as shown in the table below.

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For the year ended December 31, 2006, each Fund’s portfolio transactions with the Distributor involved the percentages indicated in the following table:

While it is the policy of the Funds generally not to engage in trading for short-term gains, the Funds will effect portfolio transactions without regard to the holding period (subject to compliance with certain tax requirements for qualification as a regulated investment company) if, in the judgment of the Adviser, such transactions are advisable in light of a change in circumstances of a particular company, within a particular industry or country, or in general market, economic or political conditions. The Funds may pay a greater amount in brokerage commissions than similar size funds with a lower turnover rate. In addition, since the Funds may have a high rate of portfolio turnover, the Funds may realize capital gains or losses. Capital gains will be distributed annually to the shareholders. Capital losses cannot be distributed to shareholders but may be used to offset capital gains at the Fund level and carried forward for up to eight years to the extent there are no gains to offset for a particular year. See “Taxes” in this Statement of Additional Information. Variations in turnover rate may be due to market conditions, fluctuating volume of shareholder purchases and redemptions or changes in the Investment Adviser’s investment outlook. Each Fund’s portfolio turnover rate for the last two fiscal years is shown in the table below.

*                                          An “interested person”, as defined in the 1940 Act, of the Funds or the Funds’ investment adviser. Mr. Needham is deemed to be an interested person because of his affiliation with the Funds’ Adviser and the Funds’ Distributor. Mr. Needham may be deemed to be an “affiliated person” of the Adviser and of the Distributor.

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The Board of Directors has established an Audit Committee, comprised of the Independent Directors of The Needham Funds, Inc., which met two times during the fiscal year. The Audit Committee operates under a written charter approved by the Board of Directors and reviews the audits of the Funds and recommends a firm to serve as independent registered public accounting firm of the Funds, among other things.

The Board of Directors has established a Valuation Committee, which is composed of representatives of the Adviser, as appointed by the Board. The Valuation Committee operates under procedures approved by the Board of Directors. The principal responsibility of the Valuation Committee is to determine the fair value of securities for which current market quotations are not readily available. The Valuation Committee’s determinations are reviewed by the Board. The Valuation Committee meets periodically, as necessary, and met one time during the fiscal year ended December 31, 2006.

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