=================
Kleinwort
Benson
Australian
Income Fund, Inc.
=================
Quarterly Report
July 31, 1996
<PAGE>
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Kleinwort
Benson
Australian Report to Shareholders
Income Fund, Inc.
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To Our Shareholders,
During the nine months ended July 31, 1996, the total value of the Fund
appreciated, driven by rising bond prices in Australia and the appreciation of
the Australian dollar. The Australian bond market was bolstered by the incoming
Government's promises of fiscal and monetary responsibility and Australian bonds
performed better than their US counterparts. The Australian dollar performed
very well over the first quarter of 1996, and despite some recent weakness, has
held much of this gain. Political uncertainties affected the Fund's New Zealand
bond position, but the Fund benefited from a rise in the New Zealand dollar
against both the Australian and US dollars. Over the financial year to date, the
Fund both fulfilled its primary objective of achieving a high level of income
return, and succeeded in raising the capital value of the underlying assets. At
July 31, 1996, the Fund's closing market price was $9.00, a discount of 12.02%
to its net asset value of $10.23.
For the nine months ended July 31, 1996, the Fund achieved a total return
on net asset value (with income reinvested) of 8.73%, while over the past year
the return was 17.16%. The Fund has maintained its monthly dividend rate at
$0.065 per share since it was last raised in January 1995 and also paid an extra
dividend of $0.11 at the end of 1995. Accordingly, the Fund has generated a
dividend yield of 9.9% (based on the Fund's stock price at July 31, 1996 and the
income distributions over the past year). This income return was superior to US$
based cash and bond investments of comparable quality.
Since its inception nearly ten years ago, the Fund has provided US
investors with access to the higher yields available in Australian bonds --
without sacrificing credit quality. In fact it is the Fund's policy to limit its
portfolio to securities rated AA or better. Of course, investing in non-US
securities subjects the Fund to currency and other risks, but over time the
Fund's returns have outpaced US$ alternatives. Since inception, the Fund's net
asset value return has averaged 13.48%, compared with 7.92% for the Salomon
Brothers US Government Bond Index. A further analysis of the Fund's performance
is provided later in this report.
- ------------------------
MARKET SUMMARY
- ------------------------
A more comprehensive discussion of the major economic trends in Australia
and New Zealand is provided in the Economic Review, together with an analysis of
recent developments in the debt and currency markets. In summary, the slowdown
evident in Australia over late 1995 gave way to signs of recovery in 1996.
However, many sectors of the economy remained weak and recovery appeared
narrowly based. Inflation appears to have peaked in Australia, with the Consumer
Price Index (CPI) inflation rate declining in both the March and June quarters.
On July 31, 1996, official interest rates in Australia were reduced by 0.5% to
7%, after having been stable at 7.5% since December 1994. The Reserve Bank of
Australia (RBA) acted on the lack of clear inflationary pressures, despite some
signs of economic growth.
In New Zealand, the economy continued to slow into 1996, but inflation
remained above the Reserve Bank of New Zealand (RBNZ) target range and
short-term interest rates rose towards 10%. Recent signs of an easing in the
housing market and slowing economic growth have led to market expectations of an
easing in monetary conditions in the near future.
1
<PAGE>
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Kleinwort
Benson
Australian Report to Shareholders
Income Fund, Inc.
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The Australian dollar, which performed very well in the early part of 1996,
weakened slightly over the second quarter of the year as expectations for world
growth were generally revised down, lowering commodity prices. The reduction in
short rates at the end of the period also held back the currency. In contrast,
continued high short rates kept the New Zealand dollar on an appreciating trend,
despite the election looming in October.
The Australian bond market was held back over the second quarter of 1996 by
a weak US treasury market which was plagued by concerns over strong employment
growth and inflation fears. However, Australian bonds did outperform their US
counterparts over the period. In July, the US treasury market improved as
concerns over inflation lessened. This development coincided with favorable
economic fundamentals in Australia, and Australian bonds rallied sharply,
bringing the yield premium of Australian over US ten year government bonds to
1.5%, down from 2% at the end of April. The New Zealand bond market was
dominated by political sentiment and declined over each month from January to
June. However, in July the market became less concerned about the outcome of the
election, with a change of government looking less likely, and New Zealand bonds
rallied.
The Australian market rallied further after the end of July, with the new
Treasurer, Paul Costello, having announced a fiscally disciplined budget. The
Australian bond market has performed extremely well and its progress may thus be
subdued in the very near term. However, reforms introduced by the new government
set the backdrop for lower interest rates in Australia in the medium term. New
Zealand bonds, although likely to be held back by election concerns in the next
two months, also look to offer long-term value, given continued progress in debt
reduction.
Rights Offering
On August 5, 1996, the Fund announced plans to conduct a Rights Offering to
provide shareholders with an opportunity to increase their investment in the
Fund at a discount to market price and with no direct commission costs.
Preliminary details on the Offering are provided on the following page. No
action need be taken until the Prospectus for the Offering is issued, which we
expect will happen in the second half of September. Should you have any
questions in the meantime, please contact the Fund at (800) 237-4218.
/s/ R.C. Cotton
Sir Robert Cotton
Chairman
/s/ D.M. Felder
David M. Felder
President
August 23, 1996
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PORTFOLIO SUMMARY
At July 31, 1996, the average maturity of the Fund's portfolio was 5.9
years, with an average duration of 4.2 years, while the average current
yield to maturity was 7.90%.
- --------------------------------------------------------------------------------
2
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Kleinwort
Benson
Australian Rights Offering
Income Fund, Inc.
- ------------------
- ------------------------
RIGHTS OFFERING
- ------------------------
On August 5, 1996, the Fund announced plans to conduct a Rights Offering
(the "Offer") to increase the capital of the Fund. The Fund's Board of Directors
decided to authorize the Offer based on the positive outlook for the Australian
bond market and currency. Raising new funds will also provide the Fund's
Investment Advisor with additional flexibility in managing the portfolio and is
also expected to result in a reduction of the Fund's operating expense ratio. In
connection with the Offer, the Advisor has agreed to reduce its management fee
from 0.70% to 0.65% on net assets in excess of $100 million (at July 31, 1996
the Fund's net assets were $97.8 million).
The Offer will provide shareholders with the opportunity to increase their
investment at a discount to market price and with no direct commission costs.
We anticipate that the Offer will be declared effective sometime in the
second half of September. Shareholders of record at that date will receive a
Prospectus for the Offer shortly thereafter. The Offer will only be made by
means of the Prospectus. The Prospectus will contain the full terms and
conditions of the Offer, including your options for exercising or selling your
rights. The Offer has not yet been declared effective by the Securities and
Exchange Commission (the "SEC") and no action need be taken until the prospectus
is issued.
We would like to take this opportunity to outline the proposed terms of the
offer. The following is based on the registration statement filed by the Fund
with the SEC on August 13, 1996.
Terms: One-for-Four, meaning that shareholders will have the opportunity to
purchase one new share for each four full shares owned on the record date. There
will also be an Over-Subscription privilege which will allow those investors who
fully exercise their Rights to purchase, on a pro-rated basis based on the
number of shares held on record date, any shares not subscribed for by other
Rights holders.
Subscription Price: The Offer price will be 95% of the average closing price of
the Fund's common stock on the New York Stock Exchange on the four business days
immediately following the expiration of the Offer.
Rights: The Rights will be Transferable, meaning that shareholders have the
option of selling their rights if they choose not to exercise them. Shareholders
who wish to sell their rights may do so through the subscription agent for the
Offer.
Please watch for the Rights Offering Prospectus which we anticipate will be
mailed to you in September. If you have any questions regarding the Offer,
please contact the Fund at (800) 237-4218.
3
<PAGE>
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Kleinwort
Benson
Australian Performance from Inception through July 31, 1996
Income Fund, Inc. (Unaudited)
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Growth of a Hypothetical $10,000 Investment
[The following table appeared as a line graph in the printed material]
Australian Index Net Asset Value Market Value U.S. Index
---------------- --------------- ------------ ----------
11/86 10000 10000 10000 10000
4/87 11592 11193 10358 9875
4/88 15204 14526 12826 10468
4/89 16478 15447 14206 11249
4/90 17599 16178 14297 12215
4/91 23151 20823 17979 14002
4/92 26661 23526 22130 15473
4/93 29103 25190 23254 17683
4/94 30218 26383 22880 17867
4/95 32064 27673 23491 19024
4/96 39349 33183 28633 20594
Since its inception in 1986, the Fund has achieved an average annualized return
on market value of 11.67%, on the basis noted below. On a net asset value basis,
which measures the performance of the Fund's underlying portfolio, the average
annualized return has been 13.48%. Both the market and net asset value
performance measures have outpaced the Salomon Brothers US Government Bond Index
which has averaged 7.92%. The Salomon Brothers Australian Government Bond Index
has averaged 15.52% since the Fund's inception, with the difference between the
Fund's net asset value performance and that of the index primarily attributable
to the Fund's operating and foreign tax expenses, which neither index is subject
to. After adjusting for these expenses, which have averaged 2.34% since
inception, the Fund has outperformed the Australian index as well.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------
Annualized 9 Since
Performance Months* 1 Year 3 Years 5 Years Inception+
- ---------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Fund Market Value(1) 4.85% 17.40% 8.20% 8.48% 11.67%
- ---------------------------------------------------------------------------------------------------
Fund Net Asset Value(2) 8.73% 17.16% 9.68% 9.87% 13.48%
- ---------------------------------------------------------------------------------------------------
Salomon Brothers US Gov't Bond Index(3) 1.40% 5.07% 4.79% 8.01% 7.92%
- ---------------------------------------------------------------------------------------------------
Salomon Brothers Australian Gov't Bond Index(4) 10.59% 19.26% 10.86% 11.21% 15.52%
- ---------------------------------------------------------------------------------------------------
</TABLE>
+ Fund commenced operations November 28, 1986.
* Not annualized.
(1) Based on market value per share, adjusted for rights offerings, and
assumes reinvestment of all distributions at reinvestment plan prices.
(2) Based on net asset value per share, adjusted for rights offerings, and
assumes reinvestment of all distributions at the ex-dividend date net
asset value. This measures the performance of the underlying Fund
portfolio and may not be indicative of returns to investors.
(3)(4) The Salomon Brothers US and Australian Government Bond Indices are
US$ based unmanaged indices. Please remember that past performance may
not be indicative of future results.
4
<PAGE>
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Kleinwort
Benson
Australian Economic Review
Income Fund, Inc.
- ------------------
- ------------------------
ECONOMIC REVIEW
- ------------------------
The last nine months have seen a considerable change in economic sentiment
in the world's major economies. The second half of 1995 was characterized by
weak economic data and fears that economic slowdown might turn into recession.
However, economic figures released in the US for the first quarter of 1996
displayed signs of recovery, most notably in a strong series of non-farm payroll
releases, and by the beginning of the second quarter inflationary concerns had
become the market focus. These fears were not realized, with inflation releases
remaining benign, and more recent figures have suggested recovery but at a rate
unlikely to spur inflation. European economies have also displayed signs of
recovery, although they appear to be lagging the US, and have to contend with
the extra fiscal discipline imposed by the Maastricht Treaty on European union.
The Japanese economy continued to recover from a low base, with data still too
weak to prompt a tightening of monetary policy.
Australia
The slowdown in the Australian economy evident in the first half of 1995
continued into the remainder of the year, with GDP(A) -- the average measure of
Gross Domestic Product -- rising 0.5% in the final quarter of 1995, and 3.1%
over the full year. However the March quarter GDP(A) was up 1.8% for the quarter
and 4.8% for the twelve months then ended, well ahead of market expectations.
While the figures were bolstered by large rises in volatile demand components,
which are unlikely to be repeated, they did confirm a tentative recovery. The
June quarter GDP(A) figures were up 0.1% over the quarter, and 4.5% for the
year, with private consumption holding up well and business investment
displaying particular strength.
The labor market tightened over the last quarter of 1995, with the
unemployment rate falling to 8.1% in December. However, the first quarter of
1996 saw a weakening of labor market conditions, with the rate of unemployment
rising back to 8.9%. More recently this slackening has failed to establish a
trend as total employment rose in May, June and July, reducing the rate of
unemployment to 8.5%.
The weakness in the Australian economy in 1995 led to an increasingly
competitive retail sector, and sales volumes have only been maintained by sharp
discounting. Against this background, CPI inflation has declined over the first
half of 1996. Headline inflation, which was up 5.1% in 1995, declined to 3.7%
for the twelve months ended March 1996. And while the June quarter inflation
figures were higher than optimistic market expectations, the inflation rates of
0.7% over the quarter, and 3.1% year-on-year confirmed the downwards trend.
Further, June CPI was also boosted by increases in gasoline and cereal prices,
which are not expected to be repeated in the September quarter. The underlying
rate of inflation as calculated by the Treasury fell from 3.3% in the year ended
in March to 3.1% in the year to June, which confirms a trend towards the RBA's
2-3% target band.
The RBA and government officials continued to highlight wage settlements as
the greatest threat to inflation, but wage inflation also declined over the
first half of 1996. Having peaked at 5.1% for the twelve months ended in August
1995, increases in average weekly ordinary time earnings fell to 4.2% and then
3.9% in the twelve month periods ended in
5
<PAGE>
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Kleinwort
Benson
Australian Economic Review
Income Fund, Inc.
- ------------------
February and May 1996, respectively. This level of wage inflation is consistent
with underlying inflation within the 2-3% target band in the medium term, but
wage pressures in some sectors of the economy are still a concern to the RBA.
The external sector of the economy continued to improve over the first half
of 1996. The current account balance for the year to June 1996 was announced at
a deficit of A$20.54 billion, which represents a great improvement on the year
to June 1995 deficit of A$27.57bn. The vast majority of the improvement is a
result of a sharp gain in the trade balance, from a deficit of A$8.2bn in '94/95
to A$1.9bn in '95/96. The rural export sector performed very well following the
easing of the drought in 1995. The net income balance was the only area to
deteriorate, and the large deficit in this area highlights the ongoing problem
of Australia's saving/investment imbalance.
The Australian federal election on March 2, 1996 resulted in a new Liberal
coalition government, which came to power with promises of fiscal discipline and
a more open and independent Reserve Bank. In the budget announced on August 20,
1996 by the new Treasurer, Paul Costello, several reforms were announced. The
Reserve Bank has indeed been made more transparent and Governor Bernie Fraser
has been replaced by Deputy Governor Ian MacFarlane, a renowned inflation
"hawk". Fiscal deficit cuts of nearly A$8bn, heavily weighted towards spending
cuts, were announced for the next two years, with the budget returning to an
underlying surplus by 1999.
New Zealand
Economic activity in New Zealand has continued to slow. The production
measure of GDP rose 0.4% over the March quarter, 2.1% year-on-year, after a
revised rise of 2.3% for the year ended December 1995. The economy is given some
support by the fiscal stimulus of recent tax cuts, but this has been more than
counterbalanced by the maintenance of a very restrictive monetary policy. The
manufacturing sector has displayed particular weakness, and actually contracted
over the March quarter of 1996. Growth was concentrated in the service sector
and in construction, although a slowing in housing activity has resulted in a
lowering of the excessive growth rates experienced by the construction sector in
1995.
The current economic slowdown and tight monetary conditions may be expected
to reduce inflation in the future, but CPI releases remained stubborn.
Underlying CPI rose 0.8% in the June quarter and 2.3% in the twelve months then
ended, after a rise of 2.1% in the twelve months to March. The strength of the
New Zealand dollar restrained inflation in those goods and services traded
internationally, but pressures in the domestic sector continued to produce
inflation. Construction cost prices continued to increase rapidly, as did prices
in some service sectors, most noticeably transport. The labor market tightened
slightly in the June quarter with the unemployment rate falling from 6.2% in
March to 6.1% in June. However more recent data from the unemployment register
suggests that employment growth may be slowing in the present quarter.
The Federal election date has been set for October 12, 1996, and the
country will use a new electoral system, similar to the German proportional
representation system. Support for the breakaway NZ First party, which had been
polling extremely
6
<PAGE>
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Kleinwort
Benson
Australian Economic Review
Income Fund, Inc.
- ------------------
well in the first half of the year, appears to have leveled out, and the ruling
National party has recovered slightly in recent polls. It is too early to
predict the outcome of the election, with the performance of minor parties and
potential coalitions the major issues. Fundamental economic policy changes are
unlikely, but a left wing coalition might relax the RBNZ inflation targets
slightly.
Debt Markets
Australian ten year bonds appreciated over the Fund's year to date with ten
year yields falling from 8.80% at the end of October 1995, to 8.29% at the end
of July 1996. There were three distinct phases over the period. In late
1995/early 1996, yields fell along with US yields as fears of recession prompted
the US Federal reserve to lower interest rates. Australian yields then rose, in
response to market fears of accelerating global growth. In July, a more stable
background in the US combined with positive Australian inflation data and
expectations of a tough Australian budget to sharply reduce yields. Indeed,
since the end of July, with a tough budget delivered as expected, Australian
bonds have rallied further. Short rates were reasonably stable at around 7.5%
until July, when they declined to 7% in line with the RBA rate cut.
New Zealand ten year bond yields also declined with US yields until
February, falling from 7.2% at the end of October to just below 7.0%. However,
when US bonds declined in the spring of 1996, the consequent sell-off in New
Zealand was exacerbated by political concerns over the chance of a left wing
government coming to power and ten year bond yields rose to 8.80% in May 1996
when these political concerns were at their height. The New Zealand market then
rallied in July, as the market concerns over the political situation declined as
the present government's chances of retaining power seemed to increase, and
yields fell to 8.36% by the end of the period.
Australian and New Zealand Dollars
The Australian dollar performed well over the period under review,
appreciating strongly against the US dollar in the period between mid-January
and mid-May. The Australian dollar started the period at US$0.755, at the
beginning of November, then fell below US$0.735 in January, before strengthening
to just over US$0.80 in May. Support was provided by an improving current
account balance, higher commodity prices, and strong Japanese issuance of A$
denominated debt instruments. The currency's appreciation leveled off in May and
it fell to US$0.773 by the end of July. This drop was precipitated by the fall
of key commodity prices, and by the expectation, later realized, that the RBA
would lower short rates.
The New Zealand dollar performed well over the nine months under review,
rising from US$0.66 at the end of October, to US$0.69 at the end of July. The
main support for the currency came from the continued tight monetary conditions,
with New Zealand short term interest rates relatively high and rising, against a
background of falling short rates in many of the world's major economies. The
political uncertainty surrounding the upcoming federal election has yet to exert
significant pressure on the currency.
7
<PAGE>
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Kleinwort
Benson
Australian Portfolio of Investments and Cash on Deposit
Income Fund, Inc. July 31, 1996
(Unaudited)
- ------------------
Long-Term Investments -- 96.8%
<TABLE>
<CAPTION>
Principal Amount Value (US$)
- ---------------- ----------
<C> <S> <C> <C>
Australian Government and Semi-Government Bonds -- 65.1%
Australian Government Bonds -- 21.4%
A$ 6,000,000 Commonwealth Government Bond 12.5% due 9/15/97................... $ 4,907,540
12,000,000 Commonwealth Government Bond 12% due 11/15/01.................... 10,907,966
6,000,000 Commonwealth Government Bond 10% due 2/15/06..................... 5,148,300
-----------
.................................... 20,963,806
-----------
Semi-Government Bonds with Eurobond Structure -- 33.2%
A$16,450,000 Queensland Treasury Corp. 8% due 5/14/03...................... 12,522,861
5,000,000 South Australian Finance Authority 7.75% due 6/30/03................... 3,760,901
17,400,000 Queensland Treasury Corp. 6.5% due 6/14/05.................... 11,817,900
6,500,000 New South Wales Treasury Corp. 6.5% due 5/1/06..................... 4,360,034
-----------
.................................... 32,461,696
-----------
Other Semi-Government Bonds -- 10.5%
A$ 4,000,000 Tasmanian Public Finance Corp. 13% due 11/1/96..................... 3,138,444
4,000,000 Western Australia Treasury Corp. 12.5% due 4/1/98.................... 3,339,757
4,000,000 Victorian Public Finance Authority 12.5% due 10/15/03.................. 3,761,287
-----------
.................................... 10,239,488
-----------
Total Australian Government and Semi-Government Bonds -- (Cost $54,686,134).......................... 63,664,990
-----------
Eurobonds -- 23.6%
A$ 2,500,000 Deutsche Bank Australia 9.75% due 4/8/97.................... 1,960,212
5,800,000 Toyota Motor Credit Corp. 10.75% due 3/6/98................... 4,692,366
2,500,000 Unilever Australia Ltd. 12% due 4/8/98...................... 2,059,311
3,500,000 DSL Finance N.V. 10.25% due 4/7/00................... 2,903,338
6,000,000 Morgan Guaranty Trust Co. 8% due 4/18/01...................... 4,611,696
3,300,000 Export Finance & Insurance Corp. 9% due 3/26/03...................... 2,638,528
5,000,000 Eurofima 9.875% due 1/17/07.................. 4,205,634
-----------
Total Eurobonds -- (Cost $21,507,077) .................................... 23,071,085
-----------
Australian Corporate Bond -- 3.5%
A$ 4,000,000 National Australia Bank 12% due 7/15/99 -- (Cost $3,132,194) 3,431,024
-----------
New Zealand Government Bond -- 4.6%
NZ$ 6,700,000 New Zealand Government Bond 8% due 11/15/06 -- (Cost $4,315,725) 4,504,485
-----------
Total Long-Term Investments -- (Cost $83,641,130) .................................... 94,671,584
-----------
Cash on Deposit -- 2.0%
A$ 2,435,415 Brown Brothers Harriman & Co., upon demand at 4.5% -- (Cost $1,924,632)......... 1,883,672
US$ 111,195 Brown Brothers Harriman & Co., upon demand at 6.0625% -- (Cost $111,195)........ 111,195
-----------
Total Cash on Deposit -- (Cost $2,035,827) .................................... 1,994,867
-----------
Total Portfolio of Investments and Cash on Deposit -- 98.8% (Cost $85,676,957)....................... 96,666,451
Other Assets less Liabilities -- 1.2% .................................... 1,171,973
-----------
Net Assets -- 100.0% .................................... $97,838,424
===========
</TABLE>
8
<PAGE>
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Kleinwort
Benson
Australian Financial Summary
Income Fund, Inc. for the Nine Months ended July 31, 1996
(Unaudited)
- ------------------
Net Asset Value
Total Net Assets Per Share
---------------- ---------
Beginning of period, November 1, 1995 ...... $ 96,389,999 $10.08
------------ ------
Net investment income .................... 6,043,607 0.63
Net realized gain on investment and
foreign currency transactions .......... 1,616,523 0.17
Change in unrealized appreciation on
investments and foreign currency ....... 435,034 0.05
Dividends paid from net investment income (6,646,739) (0.70)
------------ ------
Net increase in net asset value .......... 1,448,425 0.15
------------ ------
End of period, July 31, 1996 ............... $ 97,838,424 $10.23
============ ======
The financial statements contained in this report were not audited and,
accordingly, no opinion is expressed on them.
9
<PAGE>
Directors and Officers
Sir Robert C. Cotton
Director and Chairman of the Board
Sydney, Australia
David M. Felder
Director and President
London, England
James J. Foley
Director
Belmont, MA
Leonard T. Hinde
Director
Cremorne, NSW, Australia
The Earl of Limerick
Director
London, England
Nigel S. MacEwan
Director
Darien, CT
G. William Miller
Director and Deputy Chairman of the Board
Washington, DC
Francis M. Harte
Treasurer and Principal Financial and
Accounting Officer
New York, NY
Michael Fortier
Secretary and Assistant Treasurer
New York, NY
Investment Advisor
Kleinwort Benson Investment
Management Americas Inc.
New York, NY
Kleinwort
Benson
Australian
Income Fund, Inc.
200 Park Avenue
New York, NY 10166
(800) 237-4218
