<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
- --------------------------------------------------------------------------------
VALUE PORTFOLIO
ANNUAL REPORT
DECEMBER 31, 1998
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
INVESTMENT OVERVIEW
COMPOSITION OF NET ASSETS (AT DECEMBER 31, 1998)
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
<TABLE>
<S> <C>
%
Basic Materials 4.2
Capital Goods 6.0
Communication Service 1.1
Consumer Cyclicals 14.8
Consumer Staples 4.6
Energy 1.8
Financial 17.1
Health Care 5.8
Technology 6.2
Transportation 2.3
Utilities 2.8
Other 33.3
</TABLE>
PERFORMANCE COMPARED TO THE S&P 500
INDEX(1)
- ------------------------------------
<TABLE>
<CAPTION>
TOTAL RETURNS(2)
-----------------------------
AVERAGE ANNUAL
ONE SINCE
YEAR INCEPTION(3)
---------- -----------------
<S> <C> <C>
PORTFOLIO........ -2.13% 8.84%
INDEX............ 28.57% 31.36%
</TABLE>
1. The S&P 500 Index is an unmanaged index of common stocks.
2. Total returns for the Portfolio reflect expenses waived and reimbursed, if
applicable, by the Adviser. Without such waiver and reimbursement, total
returns would be lower.
3. Commenced operations on January 2, 1997.
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE
PERFORMANCE.
<TABLE>
<CAPTION>
TOP FIVE HOLDINGS
PERCENT OF
SECURITY INDUSTRY NET ASSETS
- ------------------------- ------------------ -------------
<S> <C> <C>
General Motors Corp. Consumer Cyclicals 2.8%
International Business
Machines Corp. Technology 2.2%
Chase Manhattan Corp. Financial 2.0%
Ford Motor Co. Consumer Cyclicals 2.0%
First Union Corp. Financial 1.9%
</TABLE>
<TABLE>
<CAPTION>
TOP FIVE SECTORS
VALUE PERCENT OF
INDUSTRY (000) NET ASSETS
- ------------------------------ --------- -------------
<S> <C> <C>
Financial $ 4,474 17.1%
Consumer Cyclicals 3,844 14.8%
Technology 1,621 6.2%
Capital Goods 1,573 6.0%
Health Care 1,518 5.8%
</TABLE>
COMPARISON OF THE CHANGE IN VALUE OF A
$10,000 INVESTMENT
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
<TABLE>
<S> <C> <C>
Value
Portfolio S&P 500 Index(1)
1/2/1997* $10,000 $10,000
12/31/97 12,098 13,402
12/31/98 11,840 17,231
* Commencement of operations
</TABLE>
In accordance with SEC regulations, Portfolio performance shown assumes that
all recurring fees (including management fees) were deducted and all dividends
and distributions were reinvested.
CERTAIN INFORMATION APPEARING IN THIS INVESTMENT OVERVIEW IS UNAUDITED.
ACCORDINGLY, THE REPORT OF INDEPENDENT ACCOUNTANTS APPEARING ELSEWHERE IN THIS
REPORT DOES NOT EXTEND TO THIS INFORMATION. THE INFORMATION CONTAINED IN THIS
OVERVIEW REGARDING SPECIFIC SECURITIES IS FOR INFORMATIONAL PURPOSES ONLY AND
SHOULD NOT BE CONSTRUED AS A RECOMMENDATION TO PURCHASE OR SELL THE SECURITIES
MENTIONED. THE PERFORMANCE RESULTS PROVIDED ARE FOR INFORMATIONAL PURPOSES ONLY
AND SHOULD NOT BE CONSTRUED AS A GUARANTEE OF THE PORTFOLIO'S FUTURE
PERFORMANCE. PAST PERFORMANCE SHOWN IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
INVESTMENT RETURN AND PRINCIPAL VALUE WILL FLUCTUATE SO THAT AN INVESTOR'S
SHARES, WHEN REDEEMED, MAY BE WORTH MORE OR LESS THAN THEIR ORIGINAL COST.
The Value Portfolio seeks above-average total return over a market cycle of
three to five years by investing primarily in a diversified portfolio of common
stocks and other equity securities that are deemed by the Portfolio's Adviser,
to be relatively undervalued based on various measures such as price/earnings
ratios and price/book ratios.
For the year ended December 31, 1998, the Portfolio had a total return of -2.13%
compared to 28.57% for the S&P 500 Index (the "Index"). For the period since
inception on January 2, 1997 through December 31, 1998, the Portfolio had an
average annual total return of 8.84% compared to 31.36% for the Index.
Conventional performance attribution analysis reveals that both stock selection
and sector allocation contributed to the significant underperformance of the
Portfolio. Sector allocation was responsible for one-third of the
underperformance with underweightings in the mega-cap growth sectors such as
technology, health care, and telephone services penalizing performance. The
Portfolio overweighting in many cyclical sectors, such as heavy industry,
consumer durables, transportation, and basic materials also hurt relative
performance. Our single largest sector commitment, the financial services
sector, penalized results with the banking and insurance industries
significantly lagging the benchmark.
1
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
INVESTMENT OVERVIEW (CONT.)
Stock selection contributed the remaining two-thirds of the Portfolio's
underperformance. Individual holdings in the heavy industry, technology, health
care and retail sectors generated the bulk of the underperformance in stock
selection. Our large positions in companies such as Cummins Engine, Case,
Tektronix, Avnet, Foundation Health, Beckman Coulter, Sears, and Toys 'R' Us,
failed to perform like their sector counterparts such as General Electric, ITW,
Microsoft, Cisco, Warner Lambert, Pfizer, Walmart and Home Depot. Because the
returns from the S&P 500 were so strong, cash holdings should have penalized
results for 1998. But because the returns from the Portfolio or our investible
universe were lower than the cash yield, its presence in the Portfolio actually
aided relative performance last year.
Looking at performance from the perspective of our investible universe reveals
something much different than the results that conventional attribution analysis
would indicate. Our investment philosophy and process, an exclusive commitment
to low price-earnings ratio (P/E) stocks, generated the vast bulk of 1998's
underperformance. All types of value investors suffered during 1998, but low P/E
investors undeniably suffered the most. During the year the highest P/E ratio
companies dramatically outperformed the low P/E ratio companies. While we are
unable to accurately recreate our investible universe back through time, the
past year's spread between low P/E and high P/E stocks probably represented one
of the worst for low P/E investing ever. Our value universe directed our
investment into some of the poorest performing sectors of the market during
1998. Throughout the year, financials and cyclicals dominated our investible
universe. Neither the mega-cap growth company nor even the low P/E "broken
growth" company were anywhere to be found in our buy lists. In addition to our
exposure to economically sensitive issues, our discipline directed us into many
industries with fundamental issues that needed resolution, such as tobaccos,
HMO's, and department store retailers. Market capitalization factors played a
significant role in the underperformance as well. Our universe maintained very
little exposure to the top 50 market cap stocks in the benchmark and a
disproportionate allocation to the bottom 300. Historically, we have not
allocated much importance to market capitalization. We simply purchased the best
companies with the cheapest valuations in the market caps that met our minimum
requirement. But during 1998 investors placed significant value on market cap
and, by inference, liquidity. For example, the difference between the S&P cap
weighted return of 28.6% and the same Index equal weighted return of 12%
represents the largest spread in the past forty years. The six mega-cap stocks
we owned for the entire year, General Motors, IBM, Philip Morris, Allstate, and
Chase Manhattan, generated excellent performance of 39.7% on average.
Unfortunately, we simply could not purchase more of the mega-cap names due to
the valuation restrictions of our low P/E discipline.
Our current investment strategy reflects the sector breakdown of the low P/E
universe. Our largest sector allocations remain in sectors with economic
sensitivity such as consumer durables, transportation, heavy industry, and basic
materials as well as the financial services sector. This sector allocation
remains consistent with that of 1998, although we believe it will generate much
more acceptable relative performance in the year ahead.
It should be noted that our current valuation discipline precludes us from
owning many of the "hot" sectors of the stock market today. Health care,
technology, and telecommunication services are three top performing sectors in
which we had few opportunities during the year. As most shareholders are aware,
we have been one of the few value managers that took advantage of the
opportunity to invest in technology stocks. Currently, we remain holders of
positions in IBM, Avnet, Arrow Electronics, Tektronix, and First Data. But, new
positions are very difficult to establish within the context of our valuation
discipline. Technology companies with good fundamentals have high valuations, as
do the large number of technology companies without profits. The Portfolio's
1000 basis point underweighting (9% vs. 19%) in the technology sector versus the
S&P 500 is its largest since 1990. We believe that the current tech-mania will
run its course as investors face deteriorating fundamentals for technology
related capital spending as well as Y2K spending uncertainties. We look forward
to using any period of relative weakness to re-establish holdings in the sector.
Our discipline also precluded ownership of many stable, growth industries,
though the stocks in the beverage, personal care, and food industries have
cooled off recently. Those very large cap, staple companies did not cost us
relative performance in 1998.
For a value portfolio, the Portfolio is quite light on energy and utility
shares. Fundamental earnings problems resulting from plunging energy prices
prevent us from expanding our positions in this sector. Electric utilities
remain a large component of our low P/E investible universe, while representing
a much smaller part of the portfolio. We continue to have doubts regarding the
industry's ability to weather the shift from a monopolistic to a competitive
environment without serious earnings problems. Telephone utilities are
conceptually appealing to us as investors, but Bell Atlantic is the only company
we can own due to valuation considerations. We have a top ten position in that
company at 2.0% of the Portfolio. In summary, financials, cyclicals, and retail
stocks constitute about 80% of the investible universe. Our portfolio will
necessarily be overweighted in these sectors in order to exploit the historical
performance advantage of investing in low P/E stocks. When value comes back into
style, as it inevitably does, our patience should be well rewarded.
2
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
INVESTMENT OVERVIEW (CONT.)
The Portfolio's characteristics reflect the Portfolio's growth and valuation
requirements. The Portfolio maintains a P/E of 12.4, a price/sales ratio of
0.61, a price/cash flow ratio of 10.1 and a dividend yield of 2.03%. This
contrasts with the S&P 500 valuations of 23.1 times estimated earnings, 2.05
times sales, 19 times cash flow and a yield of 1.33%. These valuations represent
some of the largest discounts for this Portfolio since its inception. Despite
these discounted valuations, the companies in our Portfolio have grown revenues
at a 9% rate for the past year versus 10.4% for the market, a near match. IBES
forecasted long term earnings growth for the Portfolio of 11.1% approaches that
of the Index at 15%. Earnings estimate revisions run at -1.53% for the Portfolio
compared to -0.77% for the Index, which reflects our greater economic
sensitivity in the Portfolio. So, as indicated, the Portfolio continues to
execute its mandate of owning average companies at large valuation discounts.
It is difficult to categorize our outlook for the equity market since, arguably,
a homogeneous stock market does not exist anymore. In most sectors of the S&P
500, very large-cap stocks appear quite expensive, especially relative to
declining earnings growth rates and negative earnings estimate revisions. And it
is not just the growth component of the Index that we find expensive. While most
investors agree that Coke, Microsoft, and Pfizer represent "expensive" stocks,
many large companies in traditional value benchmarks, such as Exxon, Bell South,
Dupont, and Fannie Mae also appear richly priced. Higher valuations than we are
comfortable with exist in both the growth and value side of the large-cap
market.
While the S&P 500 itself appears richly priced, many of the remaining companies
in the stock market appear to offer reasonable value. Large cap, economically
sensitive companies of all industries offer attractive values. Just note the
portfolio of high quality companies we have constructed with a current P/E ratio
of 12.5 times estimated earnings. They may be shunned by domestic investors, but
American automobile, airline, capital goods, basic materials, and financial
companies are world class businesses with attractive growth and profitability
characteristics. Similar industries in other developed countries' equity markets
currently trade for significantly higher absolute valuations. For example,
German automobile and basic materials companies and Japanese machinery and
financials trade for twenty times earnings and up. Obviously, the current
American disdain for economic and interest rate sensitivity is not universally
shared. Although not a primary focus of the Portfolio, small and mid-cap stocks
appear quite reasonably priced to us as well.
As for the outlook for low P/E investing, we continue to have faith in the
philosophy and processes that generate significant excess returns over time. Low
P/E investing has poor years periodically. Though quite remarkable in relative
magnitude, the past five quarters represent one such period. Unless the laws of
large numbers and supply and demand are repealed in the business world, lowly
valued companies with average growth prospects will continue to generate
attractive relative returns over the full market cycle. Value investing in
general, and low P/E investing in particular, will recover as always. Market
conditions today are reminiscent of 1972, the heyday for the "pay any price" for
growth days. While economic conditions were a bit different, inflation versus
disinflation for example, valuation spreads were very similar. In the 10 years
following the top for "growth at any price" investing, value investing thrived.
Over that period the value style substantially outperformed the growth style.
Will 1999 mark the resurrection of the large cap value stock? We do not know.
But we remain comfortable predicting its significant performance recovery over
the next 3-5 years.
January 1999
3
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS
DECEMBER 31, 1998
<TABLE>
<CAPTION>
VALUE
SHARES (000)
<C> <S> <C>
- ------------------------------------------------------------------------
COMMON STOCKS (66.7%)
BASIC MATERIALS (4.2%)
CHEMICALS (1.8%)
4,500 Air Products and Chemicals, Inc.................. $ 180
5,000 IMC Global, Inc.................................. 107
6,400 Rohm & Haas Co................................... 193
-------
480
-------
CHEMICALS (DIVERSIFIED) (0.5%)
(a)2,100 FMC Corp......................................... 118
-------
CHEMICALS (SPECIALTY) (1.1%)
3,500 Lubrizol Corp.................................... 90
2,900 Morton International, Inc........................ 71
(a)8,700 W.R. Grace & Co.................................. 136
-------
297
-------
IRON & STEEL (0.5%)
7,100 Inland Steel Industries, Inc..................... 120
-------
PAPER & FOREST PRODUCTS (0.3%)
2,800 Westvaco Corp.................................... 75
-------
TOTAL BASIC MATERIALS........................................ 1,090
-------
CAPITAL GOODS (6.0%)
MACHINERY (DIVERSIFIED) (2.3%)
16,600 Case Corp........................................ 362
9,400 Harnischfeger Industries, Inc.................... 96
3,400 Tecumseh Products Co., Class A................... 158
-------
616
-------
MANUFACTURING (DIVERSIFIED) (1.2%)
7,300 Aeroquip-Vickers, Inc............................ 219
1,300 Eaton Corp....................................... 92
-------
311
-------
MANUFACTURING (SPECIALIZED) (0.9%)
7,350 Parker-Hannifin Corp............................. 241
-------
METAL FABRICATORS (0.4%)
4,500 Kennametal, Inc.................................. 96
-------
OFFICE EQUIPMENT & SUPPLIES (0.3%)
2,200 Standard Register Co............................. 68
-------
TRUCKS & PARTS (0.9%)
6,800 Cummins Engine Co., Inc.......................... 241
-------
TOTAL CAPITAL GOODS.......................................... 1,573
-------
COMMUNICATION SERVICES (1.1%)
TELEPHONE (1.1%)
5,600 Bell Atlantic Corp............................... 297
-------
CONSUMER CYCLICALS (14.8%)
AUTO PARTS & EQUIPMENT (3.1%)
6,200 Dana Corp........................................ 253
6,400 Goodyear Tire & Rubber Co........................ 323
4,200 TRW, Inc......................................... 236
-------
812
-------
<CAPTION>
VALUE
SHARES (000)
<C> <S> <C>
- ------------------------------------------------------------------------
AUTOMOBILES (4.8%)
8,700 Ford Motor Co.................................... $ 511
10,300 General Motors Corp.............................. 737
-------
1,248
-------
BUILDING MATERIALS (1.3%)
9,700 Owens Corning.................................... 344
-------
RETAIL (DEPARTMENT STORES) (0.7%)
6,400 Dillard's, Inc., Class A......................... 182
-------
RETAIL (GENERAL MERCHANDISE) (0.8%)
5,000 Sears, Roebuck & Co.............................. 212
-------
RETAIL (SPECIALTY/APPAREL) (0.9%)
(a)13,100 Toys 'R' Us, Inc................................. 221
-------
TEXTILES (APPAREL) (2.7%)
10,500 Liz Claiborne, Inc............................... 331
7,700 V.F. Corp........................................ 361
-------
692
-------
TEXTILES (HOME FURNISHINGS) (0.5%)
3,200 Springs Industries, Inc., Class A................ 133
-------
TOTAL CONSUMER CYCLICALS..................................... 3,844
-------
CONSUMER STAPLES (4.6%)
FOODS (1.6%)
600 Dole Food........................................ 18
5,200 IBP, Inc......................................... 151
9,300 Universal Foods Corp............................. 255
-------
424
-------
SERVICES (EMPLOYMENT) (0.4%)
11,800 Olsten Corp...................................... 87
-------
TOBACCO (2.6%)
7,100 Philip Morris Cos., Inc.......................... 380
10,300 RJR Nabisco Holdings Corp........................ 306
-------
686
-------
TOTAL CONSUMER STAPLES....................................... 1,197
-------
ENERGY (1.8%)
OIL & GAS (DRILLING & EQUIPMENT) (0.6%)
(a)1,300 Cooper Cameron Corp.............................. 32
(a)9,300 Nabors Industries, Inc........................... 126
-------
158
-------
OIL & GAS (REFINING & MARKETING) (0.8%)
8,200 Ultramar Diamond Shamrock Corp................... 199
-------
OIL (DOMESTIC INTEGRATED) (0.4%)
2,800 Phillips Petroleum Co............................ 119
-------
TOTAL ENERGY................................................. 476
-------
FINANCIAL(17.1%)
BANKS (MAJOR REGIONAL) (5.2%)
5,500 Bank One Corp.................................... 281
2,900 BankBoston Corp.................................. 113
7,950 First Union Corp................................. 483
</TABLE>
The accompanying notes are an integral part of the financial statements.
4
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS (CONT.)
DECEMBER 31, 1998
<TABLE>
<CAPTION>
VALUE
SHARES (000)
- ------------------------------------------------------------------------
<C> <S> <C>
</TABLE>
BANKS (MAJOR REGIONAL) (CONT.)
<TABLE>
<C> <S> <C>
6,300 PNC Bank Corp.................................... $ 341
3,100 Republic New York Corp........................... 141
-------
1,359
-------
BANKS (MONEY CENTER) (3.1%)
4,800 BankAmerica Corp................................. 289
7,800 Chase Manhattan Corp............................. 531
-------
820
-------
FINANCIAL (DIVERSIFIED) (0.6%)
2,100 American General Corp............................ 164
-------
INSURANCE (LIFE & HEALTH) (0.9%)
4,800 ReliaStar Financial Corp......................... 221
-------
INSURANCE (MULTI-LINE) (2.4%)
4,700 CIGNA Corp....................................... 363
4,700 Hartford Financial Services Group, Inc........... 258
-------
621
-------
INSURANCE (PROPERTY -- CASUALTY) (3.2%)
7,900 Allstate Corp.................................... 305
5,200 Everest Reinsurance Holdings, Inc................ 203
7,150 Old Republic International Corp.................. 161
2,200 Transatlantic Holdings, Inc...................... 166
-------
835
-------
SAVINGS & LOANS (1.7%)
11,900 Washington Mutual, Inc........................... 454
-------
TOTAL FINANCIAL.............................................. 4,474
-------
HEALTH CARE (5.8%)
HEALTH CARE (DIVERSIFIED) (0.3%)
2,800 Mallinckrodt, Inc................................ 86
-------
HEALTH CARE (HOSPITAL MANAGEMENT) (1.8%)
7,600 Columbia/HCA Healthcare Corp..................... 188
(a)10,600 Tenet Healthcare Corp............................ 278
-------
466
-------
HEALTH CARE (LONG-TERM CARE) (1.2%)
(a)20,500 HEALTHSOUTH Rehabilitation Corp.................. 317
-------
HEALTH CARE (MANAGED CARE) (1.5%)
(a)11,270 Foundation Health Systems, Inc., Class A......... 135
5,900 United HealthCare Corp........................... 254
-------
389
-------
HEALTH CARE (MEDICAL PRODUCTS & SUPPLIES) (1.0%)
4,800 Beckman Coulter, Inc............................. 260
-------
TOTAL HEALTH CARE............................................ 1,518
-------
<CAPTION>
VALUE
SHARES (000)
<C> <S> <C>
- ------------------------------------------------------------------------
TECHNOLOGY (6.2%)
COMPUTERS (HARDWARE) (2.2%)
3,100 International Business Machines Corp............. $ 573
-------
ELECTRONICS (COMPONENT DISTRIBUTORS) (1.8%)
(a)9,100 Arrow Electronics, Inc........................... 243
3,600 Avnet, Inc....................................... 217
-------
460
-------
ELECTRONICS (INSTRUMENTATION) (0.9%)
7,850 Tektronix, Inc................................... 236
-------
SERVICES (DATA PROCESSING) (1.3%)
11,100 First Data Corp.................................. 352
-------
TOTAL TECHNOLOGY............................................. 1,621
-------
TRANSPORTATION (2.3%)
AIR FREIGHT (0.3%)
1,600 CNF Transportation, Inc.......................... 60
-------
AIRLINES (1.8%)
(a)4,000 AMR Corp......................................... 238
4,600 Delta Air Lines, Inc............................. 239
-------
477
-------
RAILROADS (0.2%)
1,500 Burlington Northern Santa Fe, Inc................ 50
-------
TOTAL TRANSPORTATION......................................... 587
-------
UTILITIES (2.8%)
ELECTRIC COMPANIES (2.8%)
2,200 Cinergy Corp..................................... 76
100 CMP Group, Inc................................... 2
3,600 DTE Energy Co.................................... 154
1,817 Duke Energy Corp................................. 116
3,700 Entergy Corp..................................... 115
3,100 GPU, Inc......................................... 137
4,600 Southern Co...................................... 134
-------
734
-------
TOTAL COMMON STOCK (COST $18,056).............................. 17,411
-------
</TABLE>
<TABLE>
<CAPTION>
FACE
AMOUNT
(000)
<C> <S> <C>
- -----------
SHORT-TERM INVESTMENT (12.5%)
REPURCHASE AGREEMENT (12.5%)
$3,264 Chase Securities, Inc. 4.45%, dated 12/31/98, due
1/4/99, to be repurchased at $3,266,
collateralized by U.S. Treasury Bonds, 10.375%,
due 11/15/12, valued at $3,297 (COST $3,264)... 3,264
-------
TOTAL INVESTMENTS (79.2%) (COST $21,320)....................... 20,675
-------
</TABLE>
The accompanying notes are an integral part of the financial statements.
5
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS (CONT.)
DECEMBER 31, 1998
<TABLE>
<CAPTION>
VALUE
(000)
<S> <C> <C>
- ---------------------------------------------------------------
OTHER ASSETS (21.0%)
Receivable for Portfolio Shares Sold....... $5,435
Dividends Receivable....................... 24
Due from Adviser........................... 13
Other Assets............................... 1 $ 5,473
------
LIABILITIES (- 0.2%)
Payable for Investments Purchased.......... (27)
Professional Fees Payable.................. (12)
Administrative Fees Payable................ (6)
Custodian Fees Payable..................... (5)
Payable for Portfolio Shares Redeemed...... (5)
Other Liabilities.......................... (3) (58)
------ --------
NET ASSETS (100%).................................... $ 26,090
--------
--------
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 2,350,085 outstanding $0.001 par value
shares (authorized 500,000,000 shares)............. $ 11.10
--------
--------
NET ASSETS CONSIST OF:
Paid in Capital...................................... $ 26,891
Undistributed Net Investment Income.................. 5
Accumulated Net Realized Loss........................ (161)
Unrealized Depreciation on Investments............... (645)
--------
NET ASSETS........................................... $ 26,090
--------
--------
</TABLE>
- ---------------
(a) -- Non-income producing security
- ---------------
At December 31, 1998, cost and unrealized appreciation (depreciation) for U.S.
Federal income tax purposes of the investments of the Portfolio were:
<TABLE>
<CAPTION>
NET
COST APPRECIATION (DEPRECIATION) (DEPRECIATION)
(000) (000) (000) (000)
- --------- ------------- --------------- ---------------
<S> <C> <C> <C>
$ 21,331 $ 1,708 $ (2,364) $ (656)
</TABLE>
- ---------------
For the year ended December 31, 1998, purchases and sales of investment
securities for the Portfolio, other than long-term U.S. Government securities
and short-term investments were approximately $12,496,000 and $7,218,000,
respectively. There were no purchases and sales of U.S. Government securities
for the year ended December 31, 1998.
Net capital and net currency losses incurred after October 31 and within the
taxable year are deemed to arise on the first business day of the Portfolio's
next taxable year. For the period from November 1, 1998 to December 31, 1998,
the Portfolio incurred and elected to defer until January 1, 1999 for U.S.
Federal income tax purposes, net capital losses of approximately $150,000.
The accompanying notes are an integral part of the financial statements.
6
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
YEAR
ENDED
DECEMBER
31, 1998
(000)
<S> <C>
- ----------------------------------------------------------------------
INVESTMENT INCOME:
Dividends $323
Interest 120
----------
Total Income 443
----------
EXPENSES:
Investment Advisory Fees 100
Less: Fees Waived (86)
----------
Net Investment Advisory Fees 14
Administrative Fees 51
Shareholder Reports 37
Professional Fees 29
Custodian Fees 16
Directors' Fees and Expenses 3
Other 5
----------
Net Expenses 155
----------
Net Investment Income 288
----------
NET REALIZED GAIN ON:
Investments Sold 301
----------
CHANGE IN UNREALIZED APPRECIATION/DEPRECIATION ON:
Investments (1,152)
----------
Net Realized Gain and Change in Unrealized
Appreciation/Depreciation (851)
----------
NET DECREASE IN NET ASSETS RESULTING FROM OPERATIONS $(563)
----------
----------
</TABLE>
- --------------------------------------------------------------------------------
STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
YEAR PERIOD FROM
ENDED JANUARY 2, 1997*
DECEMBER 31, TO
1998 DECEMBER 31, 1997
(000) (000)
<S> <C> <C>
- ------------------------------------------------------------------------
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS:
Net Investment Income $ 288 $ 116
Net Realized Gain 301 249
Change in Unrealized
Appreciation/Depreciation (1,152) 507
------------ -------
Net Increase/Decrease in Net Assets
Resulting from Operations (563) 872
------------ -------
DISTRIBUTIONS:
Net Investment Income (283) (116)
In Excess of Net Investment Income -- (3)
Net Realized Gain (299) (249)
In Excess of Net Realized Gain (161) (2)
------------ -------
Total Distributions (743) (370)
------------ -------
CAPITAL SHARE TRANSACTIONS (1):
Subscribed 18,370 13,979
Distributions Reinvested 743 276
Redeemed (6,381) (93)
------------ -------
Net Increase in Net Assets Resulting
from Capital Share Transactions 12,732 14,162
------------ -------
Total Increase in Net Assets 11,426 14,664
NET ASSETS:
Beginning of Period 14,664 --
------------ -------
End of Period (Including
undistributed net investment
income of $5 and $0,
respectively) $26,090 $14,664
------------ -------
------------ -------
- ------------------------------------------------------------------------
(1) Capital Share Transactions:
Shares Subscribed 1,584 1,229
Shares Issued on Distributions
Reinvested 68 24
Shares Redeemed (547) (8)
------------ -------
Net Increase in Capital Shares
Outstanding 1,105 1,245
------------ -------
------------ -------
- ------------------------------------------------------------------------
</TABLE>
* Commencement of operations
The accompanying notes are an integral part of the financial statements.
7
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
VALUE PORTFOLIO
- --------------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
PERIOD FROM
YEAR ENDED JANUARY 2, 1997*
SELECTED PER SHARE DATA AND RATIOS DECEMBER 31, 1998++ TO DECEMBER 31, 1997
<S> <C> <C>
- --------------------------------------------------------------------------------------
NET ASSET VALUE, BEGINNING OF PERIOD $ 11.78 $ 10.00
------- -------
INCOME FROM INVESTMENT OPERATIONS
Net Investment Income 0.19 0.10
Net Realized and Unrealized Gain
(Loss) (0.45) 1.99
------- -------
Total From Investment Operations (0.26) 2.09
------- -------
DISTRIBUTIONS
Net Investment Income (0.16) (0.10)
In Excess of Net Investment Income -- 0.00+
Net Realized Gain (0.17) (0.21)
In Excess of Net Realized Gain (0.09) 0.00+
------- -------
Total Distributions (0.42) (0.31)
------- -------
NET ASSET VALUE, END OF PERIOD $ 11.10 $ 11.78
------- -------
------- -------
TOTAL RETURN (2.13)% 20.98%
------- -------
------- -------
RATIOS AND SUPPLEMENTAL DATA:
Net Assets, End of Period (000's) $ 26,090 $ 14,664
Ratio of Expenses to Average Net
Assets 0.85% 0.85%**
Ratio of Net Investment Income to
Average Net Assets 1.57% 1.70%**
Portfolio Turnover Rate 45% 34%
- --------------------------------------------------------------------------------------
Effect of Voluntary Expense
Limitation During the Period:
Per Share Benefit to Net Investment
Income $ 0.05 $ 0.06
Ratios Before Expense Limitation:
Expenses to Average Net Assets 1.32% 1.87%**
Net Investment Income to Average
Net Assets 1.10% 0.68%**
</TABLE>
- --------------------------------------------------------------------------------
* Commencement of operations
** Annualized
+ Amount is less than $0.01 per share.
++ Per share amounts for the year ended December 31, 1998 are based on
average shares outstanding.
The accompanying notes are an integral part of the financial statements.
8
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1998
- --------------------------------------------------------------------------------
Morgan Stanley Universal Funds, Inc. (the "Fund") is registered under the
Investment Company Act of 1940, as amended, as an open-end management investment
company. Effective January 6, 1999, the Fund's name changed to the Morgan
Stanley Dean Witter Universal Funds, Inc. As of December 31, 1998, the Fund was
comprised of eleven separate active portfolios (individually referred to as a
"Portfolio", collectively as the "Portfolios"). An additional Portfolio, the
Money Market Portfolio, commenced operations on January 5, 1999.
The accompanying financial statements relate to the Value Portfolio. Please
refer to the Investment Overview for the Portfolio's investment objectives.
The Fund is intended to be the funding vehicle for variable annuity contracts
and variable life insurance policies to be offered by the separate accounts of
certain life insurance companies.
A. ACCOUNTING POLICIES: The following significant accounting policies are in
conformity with generally accepted accounting principles for investment
companies. Such policies are consistently followed by the Fund in the
preparation of the financial statements. Generally accepted accounting
principles may require management to make estimates and assumptions that affect
the reported amounts and disclosures in the financial statements. Actual results
may differ from those estimates.
1. SECURITY VALUATION: Equity securities listed on a U.S. exchange and equity
securities traded on NASDAQ are valued at the latest quoted sales price on the
valuation date. Securities listed on a foreign exchange are valued at their
closing price. Unlisted securities and listed securities not traded on the
valuation date, for which market quotations are readily available, are valued at
the average of the mean between the current bid and asked prices obtained from
reputable brokers. Bonds and other fixed income securities may be valued
according to the broadest and most representative market. In addition, bonds and
other fixed income securities may be valued on the basis of prices provided by a
pricing service. The prices provided by a pricing service are determined without
regard to bid or last sale prices, but take into account institutional size
trading in similar groups of securities and any developments related to the
specific securities. Debt securities purchased with remaining maturities of 60
days or less are valued at amortized cost, if it approximates market value. All
other securities and assets for which market values are not readily available,
including restricted securities, are valued at fair value as determined in good
faith by the Board of Directors, although the actual calculations may be done by
others.
2. INCOME TAXES: It is each Portfolio's intention to qualify as a regulated
investment company and distribute all of its taxable and tax-exempt income.
Accordingly, no provision for Federal income taxes is required in the financial
statements.
A Portfolio may be subject to taxes imposed by countries in which it invests.
Such taxes are generally based on income and/or capital gains earned or
repatriated. Taxes are accrued and applied to net investment income, net
realized gains and net unrealized appreciation as these amounts are earned.
Taxes may also be based on transactions in foreign currency and are accrued
based on the value of investments denominated in such currency.
3. REPURCHASE AGREEMENTS: The Portfolios of the Fund may enter into repurchase
agreements under which the Portfolio lends excess cash and takes possession of
securities with an agreement that the counterparty will repurchase such
securities. In connection with transactions in repurchase agreements, a bank as
custodian for the Fund takes possession of the underlying securities which are
held as collateral, with a market value at least equal to the amount of the
repurchase transaction, including principal and accrued interest. To the extent
that any repurchase transaction exceeds one business day, the value of the
collateral is marked-to-market on a daily basis to determine the adequacy of the
collateral. In the event of default on the obligation to repurchase, the Fund
has the right to liquidate the collateral and apply the proceeds in satisfaction
of the obligation. In the event of default or bankruptcy by the counterparty to
the agreement, realization and/or retention of the collateral or proceeds may be
subject to legal proceedings.
4. FOREIGN CURRENCY TRANSLATION AND FOREIGN INVESTMENTS: The books and records
of the Fund are maintained in U.S. dollars. Foreign currency amounts are
translated into U.S. dollars at the mean of the bid and asked prices of such
currencies against U.S. dollars last quoted by a major bank as follows:
- investments, other assets and liabilities at the prevailing rates of
exchange on the valuation date;
- investment transactions and investment income at the prevailing rates of
exchange on the dates of such transactions.
Although the net assets of the Fund are presented at the foreign exchange rates
and market values at the close of the period, the Fund does not isolate that
portion of the results of operations arising as a result of changes in the
foreign exchange rates from the fluctuations arising from changes in the market
prices of the securities held at period end. Similarly, the Fund does not
isolate the effect of changes in foreign exchange rates from the fluctuations
arising from changes in the market prices of securities sold during the period.
Accordingly, realized and unrealized foreign currency gains (losses) are
included in the reported net realized and unrealized gains (losses) on
investment transactions and balances. However, pursuant to U.S.
9
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
DECEMBER 31, 1998
- --------------------------------------------------------------------------------
Federal income tax regulations, gains and losses from certain foreign currency
transactions and the foreign currency portion of gains and losses realized on
sales and maturities of foreign denominated debt securities are treated as
ordinary income for U.S. Federal income tax purposes.
Net realized gains (losses) on foreign currency transactions represent net
foreign exchange gains (losses) from foreign currency exchange contracts,
disposition of foreign currencies, currency gains or losses realized between the
trade and settlement dates on securities transactions, and the difference
between the amount of investment income and foreign withholding taxes recorded
on the Fund's books and the U.S. dollar equivalent amounts actually received or
paid. Net unrealized currency gains (losses) from valuing foreign currency
denominated assets and liabilities at period end exchange rates are reflected as
a component of unrealized appreciation (depreciation) on the Statement of Net
Assets. The change in net unrealized currency gains (losses) for the period is
reflected on the Statement of Operations.
Foreign security and currency transactions may involve certain considerations
and risks not typically associated with those of U.S. dollar denominated
transactions as a result of, among other factors, the possibility of lower
levels of governmental supervision and regulation of foreign securities markets
and the possibility of political or economic instability.
Prior governmental approval for foreign investments may be required under
certain circumstances in some countries, and the extent of foreign investments
in domestic companies may be subject to limitation in other countries. Foreign
ownership limitations also may be imposed by the charters of individual
companies to prevent, among other concerns, violation of foreign investment
limitations. As a result, an additional class of shares (identified as "Foreign"
in the Statement of Net Assets) may be created and offered for investment. The
"local" and "foreign" shares' market values may differ. In the absence of
trading of the foreign shares in such markets, the Fund values the foreign
shares at the closing exchange price of the local shares. Such securities are
identified as fair valued in the Statement of Net Assets.
The investment techniques of the Fund described in the following notes (5-11)
are applicable to certain, but not all, of the Portfolios of the Fund.
5. FOREIGN CURRENCY EXCHANGE CONTRACTS: Certain Portfolios may enter into
foreign currency exchange contracts generally to attempt to protect securities
and related receivables and payables against changes in future foreign currency
exchange rates and, in certain situations, to gain exposure to foreign
currencies. A foreign currency exchange contract is an agreement between two
parties to buy or sell currency at a set price on a future date. The market
value of the contract will fluctuate with changes in currency exchange rates.
The contract is marked-to-market daily and the change in market value is
recorded by the Portfolio as unrealized gain or loss. The Portfolio records
realized gains or losses when the contract is closed equal to the difference
between the value of the contract at the time is was opened and the value at the
time it was closed. Risk may arise upon entering into these contracts from the
potential inability of counterparties to meet the terms of their contracts and
is generally limited to the amount of the unrealized gain on the contracts, if
any, at the date of default. Risks may also arise from unanticipated movements
in the value of a foreign currency relative to the U.S. dollar.
6. FORWARD COMMITMENTS AND WHEN-ISSUED/DELAYED DELIVERY SECURITIES: Certain
Portfolios may make forward commitments to purchase or sell securities. Payment
and delivery for securities which have been purchased or sold on a forward
commitment basis can take place up to 120 days after the date of the
transaction. Additionally, a Portfolio may purchase securities on a when-issued
or delayed delivery basis. Securities purchased on a when-issued or delayed
delivery basis are purchased for delivery beyond the normal settlement date at a
stated price and yield, and no income accrues to the Portfolio on such
securities prior to delivery. When a Portfolio enters into a purchase
transaction on a when-issued or delayed delivery basis, it establishes either a
segregated account in which it maintains liquid assets in an amount at least
equal in value to the Portfolio's commitments to purchase such securities or
designates such assets as segregated on the custodian's records for the
Portfolio's regular custody account. Purchasing securities on a forward
commitment or when-issued or delayed delivery basis may involve a risk that the
market price at the time of delivery may be lower than the agreed upon purchase
price, in which case there could be an unrealized loss at the time of delivery.
7. LOAN AGREEMENTS: Certain Portfolios may invest in fixed and floating rate
loans ("Loans") arranged through private negotiations between an issuer of
sovereign debt obligations and one or more financial institutions ("Lenders")
deemed to be creditworthy by the investment adviser. A Portfolio's investments
in Loans may be in the form of participations in Loans ("Participations") or
assignments of all or a portion of Loans ("Assignments") from third parties. A
Portfolio's investment in Participations typically results in the Portfolio
having a contractual relationship with only the Lender and not with the
borrower. A Portfolio has the right to receive payments of principal, interest
and any fees to which it is entitled only upon receipt by the Lender of the
payments from the borrower. A Portfolio generally has no right to enforce
compliance by the borrower with the terms of the loan agreement. As a result,
the Portfolio may be subject to the credit risk of both the borrower and the
Lender that is selling the Participation. When a Portfolio purchases Assignments
from Lenders, it typically acquires direct rights against the borrower on the
Loan. Because Assignments are arranged through private negotiations between
potential assignees and potential assignors, the rights and obligations
10
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
DECEMBER 31, 1998
- --------------------------------------------------------------------------------
acquired by the Portfolio as the purchaser of an Assignment may differ from, and
be more limited than, those held by the assigning Lender.
8. SHORT SALES: Certain Portfolios may sell securities short. A short sale is a
transaction in which the Portfolio sells securities it may or may not own, but
has borrowed, in anticipation of a decline in the market price of the
securities. The Portfolio is obligated to replace the borrowed securities at the
market price at the time of replacement. The Portfolio may have to pay a premium
to borrow the securities as well as pay any dividends or interest payable on the
securities until they are replaced. The Portfolio's obligation to replace the
securities borrowed in connection with a short sale will generally be secured by
collateral deposited with the broker that consists of cash, U.S. government
securities or other liquid, high grade debt obligations. In addition, the
Portfolio will either designate on the custodian records in its regular custody
account or place in a segregated account with its Custodian an amount of cash,
U.S. government securities or other liquid high grade debt obligations equal to
the difference, if any, between (1) the market value of the securities sold and
(2) any cash, U.S. government securities or other liquid high grade debt
obligations deposited as collateral with the broker in connection with the short
sale. Short sales by the Portfolio involve certain risks and special
considerations. Possible losses from short sales differ from losses that could
be incurred from a purchase of a security, because losses from short sales may
be unlimited, whereas losses from purchased securities cannot exceed the total
amount invested.
9. FUTURES: Certain Portfolios may purchase and sell futures contracts. Futures
contracts provide for the sale by one party and purchase by another party of a
specified amount of a specified security, index, instrument or basket of
instruments. Futures contracts (secured by cash or government securities
deposited with brokers or custodians as "initial margin") are valued based upon
their quoted daily settlement prices; changes in initial settlement value
(represented by cash paid to or received from brokers as "variation margin") are
accounted for as unrealized appreciation (depreciation). When futures contracts
are closed, the difference between the opening value at the date of purchase and
the value at closing is recorded as realized gains or losses in the Statement of
Operations.
Certain Portfolios may use futures contracts in order to manage exposure to the
stock and bond markets, to hedge against unfavorable changes in the value of
securities or to remain fully invested and to reduce transaction costs. Futures
contracts involve market risk in excess of the amounts recognized in the
Statement of Net Assets. Risks arise from the possible movements in security
values underlying these instruments. The change in value of futures contracts
primarily corresponds with the value of their underlying instruments, which may
not correlate with the change in value of the hedged investments. In addition,
there is the risk that a Portfolio may not be able to enter into a closing
transaction because of an illiquid secondary market.
10. SWAP AGREEMENTS: Certain Portfolios may enter into swap agreements to
exchange one return or cash flow for another return or cash flow in order to
hedge against unfavorable changes in the value of securities or to remain fully
invested and to reduce transaction costs. The following summarizes swaps which
may be entered into by the Portfolios.
INTEREST RATE SWAPS: Interest rate swaps involve the exchange of commitments to
pay and receive interest based on a notional principal amount. Net periodic
interest payments to be received or paid are accrued daily and are recorded in
the Statement of Operations as an adjustment to interest income. Interest rate
swaps are marked-to-market daily based upon quotations from market makers and
the change, if any, is recorded as unrealized appreciation or depreciation in
the Statement of Operations.
TOTAL RETURN SWAPS: Total return swaps involve commitments to pay interest in
exchange for a market- linked return based on a notional amount. To the extent
the total return of the security, instrument or basket of instruments underlying
the transaction exceeds or falls short of the offsetting interest obligation,
the Portfolio will receive a payment from or make a payment to the counterparty,
respectively. Total return swaps are marked-to-market daily based upon
quotations from market makers and the change, if any, is recorded as unrealized
gains or losses in the Statement of Operations. Periodic payments received or
made at the end of each measurement period are recorded as realized gains or
losses in the Statement of Operations.
Realized gains or losses on maturity or termination of interest rate and total
return swaps are presented in the Statement of Operations.
Because there is no organized market for these swap agreements, the value of
open swaps reported in the Statement of Net Assets may differ from that which
would be realized in the event the Portfolio terminated its position in the
agreement. Risks may arise upon entering into these agreements from the
potential inability of the counterparties to meet the terms of the agreements
and are generally limited to the amount of net interest payments to be received
and/or favorable movements in the value of the underlying security, instrument
or basket of instruments, if any, at the date of default.
11. PURCHASED AND WRITTEN OPTIONS: Certain Portfolios may write covered call and
put options on portfolio securities and other financial instruments. Premiums
are received and are recorded as liabilities. The liabilities are subsequently
adjusted to reflect the current value of the options written. Premiums received
from writing options which are exercised or are closed are added to or offset
against the proceeds or
11
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
DECEMBER 31, 1998
- --------------------------------------------------------------------------------
amount paid on the transaction to determine the net realized gain or loss. By
writing a covered call option, a Portfolio, in exchange for the premium,
foregoes the opportunity for capital appreciation above the exercise price
should the market price of the underlying security increase. By writing a
covered put option, a Portfolio, in exchange for the premium, accepts the risk
of a decline in the market value of the underlying security below the exercise
price.
Certain Portfolios may purchase call and put options on their portfolio
securities or other financial instruments. The Portfolio may purchase call
options to protect against an increase in the price of the security or financial
instrument it anticipates purchasing. Each Portfolio may purchase put options on
securities which it holds or other financial instruments to protect against a
decline in the value of the security or financial instrument or to close out
covered written put positions. Risks may arise from an imperfect correlation
between the change in market value of the securities held by the Portfolio and
the prices of options relating to the securities purchased or sold by the
Portfolio and from the possible lack of a liquid secondary market for an option.
The maximum exposure to loss for any purchased option is limited to the premium
initially paid for the option.
12. OTHER: Security transactions are accounted for on the date the securities
are purchased or sold. Realized gains and losses on the sale of investment
securities are determined on the identified cost basis. Dividend income is
recorded on the ex-dividend date (except for certain foreign dividends which may
be recorded as soon as the Fund is informed of such dividends) net of applicable
withholding taxes where recovery of such taxes is not reasonably assured.
Interest income is recognized on the accrual basis except where collection is in
doubt. Discounts and premiums on securities purchased (other than
mortgage-backed securities) are amortized according to the effective yield
method over their respective lives. Most expenses of the Fund can be directly
attributed to a particular Portfolio. Expenses which cannot be directly
attributed are apportioned among the Portfolios based upon relative net assets.
Distributions from the Portfolios are recorded on the ex-distribution date.
The amount and character of income and capital gain distributions to be paid by
Portfolios of the Fund are determined in accordance with Federal income tax
regulations which may differ from generally accepted accounting principles.
These differences are primarily due to differing book and tax treatments for the
character and timing of the recognition of gains or losses on securities and
foreign currency exchange contracts, the timing of the deductibility of certain
foreign taxes and dividends received from real estate investment trusts.
Permanent book and tax basis differences relating to shareholder distributions
may result in reclassifications among undistributed net investment income
(loss), accumulated net realized gain (loss) and paid in capital.
Permanent book and tax differences, if any, are not included in ending
undistributed (distributions in excess of) net investment income/accumulated net
investment loss for the purpose of calculating net investment income (loss) per
share in the Financial Highlights.
Settlement and registration of foreign securities transactions may be subject to
significant risks not normally associated with investments in the United States.
In certain markets, including Russia, ownership of shares is defined according
to entries in the issuer's share register. In Russia, there currently exists no
central registration system and the share registrars may not be subject to
effective state supervision. It is possible that a Portfolio holding these
securities could lose its share registration through fraud, negligence or even
mere oversight. In addition, shares being delivered for sales and cash being
paid for purchases may be delivered before the exchange is complete. This may
subject a Portfolio to further risk of loss in the event of a failure to
complete the transaction by the counterparty.
B. ADVISER: Miller Anderson & Sherrerd, LLP ("MAS"), a wholly-owned subsidiary
of Morgan Stanley Dean Witter & Co., provides the Portfolio with investment
advisory services for a fee, paid quarterly, at the annual rate based on average
daily net assets as follows:
<TABLE>
<CAPTION>
FROM MORE
FIRST $500 MILLION TO THAN
$500 MILLION $1 BILLION $1 BILLION
- --------------- --------------- -------------
<S> <C> <C>
0.55% 0.50% 0.45%
</TABLE>
MAS has agreed to reduce fees payable to it and to reimburse the Portfolio, if
necessary, to the extent that the annual operating expenses, as defined,
expressed as a percentage of average daily net assets, exceed the maximum ratio
of 0.85%.
C. ADMINISTRATOR: Morgan Stanley Dean Witter Investment Management Inc. (the
"Administrator"), a wholly-owned subsidiary of Morgan Stanley Dean Witter & Co.,
provides the Portfolio with administrative services pursuant to an
administrative agreement for a monthly fee which on an annual basis equals 0.25%
of the average daily net assets of the Portfolio, plus reimbursement of
out-of-pocket expenses. Under an agreement between the Administrator and Chase
Global Funds Services Company ("CGFSC"), a corporate affiliate of The Chase
Manhattan Bank ("Chase"), CGFSC provides certain administrative services to the
Fund. For such services, the Administrator pays CGFSC a portion of the fee the
Administrator receives from the Fund. Certain employees of CGFSC are officers of
the Fund. In addition, the Fund incurs local administration fees in connection
with doing business in certain emerging market countries.
D. CUSTODIANS: The Chase Manhattan Bank and its affiliates serve as custodian
for the Fund. The Fund's assets held outside the United States have been held by
Morgan Stanley Trust Company ("MSTC"), which was an affiliate of the Adviser
prior to October 1, 1998. On October 1, 1998, MSTC was acquired by the Chase
Manhattan Bank. Custody
12
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS (CONT.)
DECEMBER 31, 1998
- --------------------------------------------------------------------------------
fees are payable monthly based on assets held in custody, investment purchase
and sales activity, an account maintenance fee, plus reimbursement for certain
out-of-pocket expenses.
E. OTHER: At December 31, 1998, the net assets of certain Portfolios were
substantially comprised of foreign denominated securities and currency. Changes
in foreign currency exchange rates will affect the U.S. dollar value of and
investment income from such securities.
From time to time, a Portfolio may have shareholders that hold a significant
portion of the Portfolio's outstanding shares. Investment activities of these
shareholders could have a material impact on those Portfolios.
13
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
REPORT OF INDEPENDENT ACCOUNTANTS
- --------------------------------------------------------------------------------
To the Board of Directors and Shareholders of
Morgan Stanley Dean Witter Universal Funds, Inc.
(formerly Morgan Stanley Universal Funds, Inc.)--
Value Portfolio
In our opinion, the accompanying statement of net assets and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
Morgan Stanley Dean Witter Universal Funds, Inc.--Value Portfolio (hereafter
referred to as the "Fund") at December 31, 1998, the results of its operations
for the year then ended, and the changes in its net assets and the financial
highlights for the year then ended and for the period January 2, 1997
(commencement of operations) through December 31, 1997, in conformity with
generally accepted accounting principles. These financial statements and
financial highlights (hereafter referred to as "financial statements") are the
responsibility of the Fund's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these financial statements in accordance with generally accepted
auditing standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits, which included confirmation of investments at December 31, 1998 by
correspondence with the custodian and brokers, provide a reasonable basis for
the opinion expressed above.
PricewaterhouseCoopers LLP
1177 Avenue of the Americas
New York, New York 10036
February 8, 1999
14
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
FEDERAL TAX INFORMATION (UNAUDITED)
- --------------------------------------------------------------------------------
For the year ended December 31, 1998, the percentages of distributions taxable
as ordinary income for the Portfolio, reported on Form 1099-DIV, that qualify
for the dividends received deduction for corporations is 59.3%.
For the year ended December 31, 1998, the Portfolio has designated a 20%
long-term capital gain of approximately $217,000.
15
<PAGE>
MORGAN STANLEY UNIVERSAL FUNDS, INC.
- --------------------------------------------------------------------------------
DIRECTORS
Barton M. Biggs
CHAIRMAN OF THE BOARD
Chairman and Director, Morgan Stanley Dean Witter Investment
Management Inc. and Morgan Stanley Dean Witter Investment
Management Limited;
Managing Director, Morgan Stanley & Co. Incorporated
Michael F. Klein
DIRECTOR AND PRESIDENT
Principal, Morgan Stanley Dean Witter Investment Management
Inc. and Morgan Stanley & Co. Incorporated
John D. Barrett II
Chairman and Director,
Barrett Associates, Inc.
Gerard E. Jones
Partner, Richards & O'Neil LLP
Andrew McNally IV
River Road Partners
Samuel T. Reeves
Chairman of the Board and CEO,
Pinacle L.L.C.
Fergus Reid
Chairman and Chief Executive Officer,
LumeLite Plastics Corporation
Frederick O. Robertshaw
Of Counsel, Copple, Chamberlin & Boehm, P.C.
OFFICERS
Stefanie V. Chang
VICE PRESIDENT
James A. Gallo
VICE PRESIDENT
Harold J. Schaaff, Jr.
VICE PRESIDENT
Joseph P. Stadler
VICE PRESIDENT
Lorraine Truten
VICE PRESIDENT
Valerie Y. Lewis
SECRETARY
Joanna M. Haigney
TREASURER
Belinda A. Brady
ASSISTANT TREASURER
Karl O. Hartmann
ASSISTANT SECRETARY
INVESTMENT ADVISERS AND ADMINISTRATORS
Morgan Stanley Dean Witter Investment Management Inc.
1221 Avenue of the Americas
New York, New York 10020
Miller Anderson & Sherrerd, LLP
One Tower Bridge
West Conshohocken, PA 19428-2899
DISTRIBUTOR
Morgan Stanley & Co. Incorporated
1221 Avenue of the Americas
New York, NY 10020
CUSTODIAN
The Chase Manhattan Bank
3 Chase MetroTech Center
Brooklyn, NY 11245
LEGAL COUNSEL
Morgan, Lewis & Bockius LLP
1701 Market Street
Philadelphia, Pennsylvania 19103
INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP
1177 Avenue of the Americas
New York, New York 10036
- --------------------------------------------------------------------------------
THIS REPORT IS AUTHORIZED FOR DISTRIBUTION ONLY WHEN PRECEDED OR ACCOMPANIED BY
THE PROSPECTUS OF THE MORGAN STANLEY UNIVERSAL FUNDS, INC. WHICH DESCRIBES IN
DETAIL EACH INVESTMENT PORTFOLIO'S INVESTMENT POLICIES, FEES AND EXPENSES.
PLEASE READ THE PROSPECTUS CAREFULLY BEFORE YOU INVEST OR SEND MONEY.
16
