<PAGE>
- --------------------------------------------------
OFFICERS AND DIRECTORS
Barton M. Biggs James W. Grisham
CHAIRMAN OF THE BOARD VICE PRESIDENT
Frederick B. Whittemore Michael F. Klein
VICE-CHAIRMAN OF THE VICE PRESIDENT
BOARD Harold J. Schaaff, Jr.
Warren J. Olsen VICE PRESIDENT
PRESIDENT AND DIRECTOR Joseph P. Stadler
John D. Barrett II VICE PRESIDENT
DIRECTOR Valerie Y. Lewis
Gerard E. Jones SECRETARY
DIRECTOR Karl O. Hartmann
Andrew McNally, IV ASSISTANT SECRETARY
DIRECTOR James R. Rooney
Samuel T. Reeves TREASURER
DIRECTOR Joanna M. Haigney
Fergus Reid ASSISTANT TREASURER
DIRECTOR
Frederick O. Robertshaw
DIRECTOR
- --------------------------------------------------
INVESTMENT ADVISER AND ADMINISTRATOR
Morgan Stanley Asset Management Inc.
1221 Avenue of the Americas
New York, New York 10020
- --------------------------------------------------
DISTRIBUTOR
Morgan Stanley & Co. Incorporated
1251 Avenue of the Americas
New York, New York 10020
- --------------------------------------------------
CUSTODIANS
The Chase Manhattan Bank, N.A.
770 Broadway
New York, New York 10003
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11210
- --------------------------------------------------
LEGAL COUNSEL
Morgan, Lewis & Bockius LLP
2000 One Logan Square
Philadelphia, Pennsylvania 19103
- --------------------------------------------------
INDEPENDENT ACCOUNTANTS
Price Waterhouse LLP
1177 Avenue of the Americas
New York, New York 10036
- --------------------------------------------------
For current performance, current net asset value, or for assistance with your
account, please contact the Fund at (800) 548-7786. This report is authorized
for distribution only when preceded or accompanied by prospectuses of the Morgan
Stanley Institutional Fund, Inc.
[LOGO] MORGAN STANLEY
INSTITUTIONAL FUND, INC.
P.O. Box 2798
Boston, MA 02208-2798
[LOGO] MORGAN STANLEY
INSTITUTIONAL FUND, INC.
INTERNATIONAL SMALL CAP PORTFOLIO
FIRST QUARTER REPORT
MARCH 31, 1996
<PAGE>
LETTER TO SHAREHOLDERS
- -------
The International Small Cap Portfolio seeks long-term capital appreciation by
investing primarily in the common stocks of non-U.S. issuers. The Portfolio
applies a disciplined bottom-up value approach to identify and invest in small
capitalization companies which are both attractive businesses and available at
cheap prices. In a recent modification to the Portfolio's market strategy,
market capitalization cut-off of U.S. $1 billion is used as our definition of
"small." The Portfolio had previously utilized a market capitalization of
U.S.$500 million.
For the three month period ended March 31, 1996, the Portfolio had a total
return of 8.77%, as compared to a total return of 2.89% for the Morgan Stanley
Capital International (MSCI) EAFE Index. The average annual total return for the
twelve months ended March 31, 1996 and for the period from inception on December
15, 1992 through March 31, 1996 was 14.50% and 17.95%, respectively, as compared
to 12.33% and 16.02%, respectively, for the Index.
PERFORMANCE COMPARED TO THE MORGAN STANLEY CAPITAL INTERNATIONAL (MSCI) EAFE
INDEX(1)
- ----------------------------------------------------
<TABLE>
<CAPTION>
TOTAL RETURNS(2)
-----------------------------------------
ONE AVERAGE ANNUAL
YTD YEAR SINCE INCEPTION
----- --------- -----------------
<S> <C> <C> <C>
PORTFOLIO.......................... 8.77% 14.50% 17.95%
INDEX.............................. 2.89 12.33 16.02
</TABLE>
1. The MSCI EAFE Index is an unmanaged index of common stocks and includes
Europe, Australia and the Far East (assumes dividends reinvested net of
withholding taxes).
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.
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
- ------------------------------
THE COUNTRY SPECIFIC PERFORMANCE RESULTS PROVIDED ARE AS MEASURED BY THE MSCI
EAFE INDEX AND 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. PLEASE SEE THE PROSPECTUS FOR A DESCRIPTION OF CERTAIN
RISK CONSIDERATIONS ASSOCIATED WITH INTERNATIONAL INVESTING.
The Portfolio's significant outperformance during the first quarter reflected a
strong recovery in the relative performance of small caps versus large caps
together with the Portfolio's underweighting of the relatively weak Japanese
market. Fourth quarter fears of severe economic weakness across Europe proved to
be exaggerated and the pronounced underperformance from cyclicals, and small
caps in particular, was reversed. In contrast Japan, although stronger in March,
was weak for the quarter as a whole as economic uncertainty and political
stalemate over the passage of a rescue package for the Jusen (housing loan)
losses caused concern.
During the quarter the Portfolio enjoyed strong relative stock selection in
France, the U.K., Finland, Italy, the Netherlands, New Zealand and Japan. Spain
and Germany saw poorer returns due to weakness in Asturiana de Zinc on the back
of the need for further provisioning and disappointing results from Varta and
Spar. The Portfolio's currency hedges also contributed positively to performance
given the moderate strengthening in the U.S. dollar as did the Fund's overweight
and underweight positions in the Australian dollar and Japanese yen,
respectively.
Given the very strong performances of a number of the Portfolio's holdings over
the quarter, portfolio activity was high. Turnover for the quarter reached
10.9%. We took advantage of continued strength to top slice some profits in the
U.K., Switzerland, Germany and Australia and also accepted a bid for Whitcoulls,
the New Zealand book and stationery retailer. Proceeds from these sales were
invested in building new positions in Dyckerhoff and Hornbach in Germany, Enher
in Spain, Marieberg in Sweden and Kone in Finland.
Dyckerhoff is co-market leader in German cement and has strong market niches in
finishing products. While we don't dispute the market's concerns over a tough
outlook for construction, Dyckerhoff's underlying cash flow is very strong due
to high levels of special depreciation and provisions. With net cash on the
balance sheet and a good management team, Dyckerhoff does not warrant being
priced as the cheapest cement company in the world today.
2
<PAGE>
Hornbach, one of the largest DIY chains in Germany, has been sold off sharply in
recent weeks partly due to concerns over German consumption but also,
erroneously, in connection with weak construction. Hornbach has a strong large
store format which it is continuing to expand, benefiting from increasing
economies of scale and the demise of small local players. A cost saving program
should reap further benefits and a very strong balance sheet readily affords
future growth. On 4.6x cash flow, the shares look to have been oversold.
Enher has dominant market positions in electricity distribution in Catalonia and
Aragona in Spain. It offers attractive earnings and cash flow growth as its
acquisition of Hidruna, a neighboring distribution company is integrated, an
ongoing switch from coal to gas power generation which Enher will be one of the
first to benefit from, and an anticipated change in the tariff structure in
favor of distribution companies. On 5x cash flow and 90% of book value, the
company is cheaply priced.
Marieberg is the number one quality newspaper in Sweden with some attractive
monopoly positions and a high percentage of its newspaper sales paid on
subscription, cash in advance. Its facilities are extremely modern and efficient
with no major expenditure required for years allowing attractive free cash
generation. Selling on 1.5x book value, with no value for mastheads included,
and on just 4.8x price to cash and 8.4x free cash flow, the shares offer value.
Kone is the third largest elevator manufacturer in the world with an
attractively strong cash stream generated by its maintenance business. On 6x
cash flow and just 9x free cash flow, the shares are significantly undervalued.
Management are intent on further streamlining the business with significant cost
savings to drive earnings over the next few years.
Looking forward we do not anticipate any major change in the Portfolio's
geographic mix. We are still finding attractive value in Continental Europe,
Scandinavia in particular, and Australia. The U.K. market as a whole is fairly
valued but selective value in small caps can be found. Japan, in contrast,
offers little value with share prices already discounting much of the
anticipated recovery. Critically, we would have to compromise on both quality of
business franchise and valuation to build our weighting in Japanese small caps
with prices at current levels. This is a concern as this market is likely to see
further strength in the short term given its low interest rates and increased
participation by domestic investors. Otherwise, despite their recent bounce, we
believe small caps continue to offer attractive value.
Margaret Naylor
PORTFOLIO MANAGER
April 1996
3
<PAGE>
INVESTMENTS (UNAUDITED)
- ----------
MARCH 31, 1996
<TABLE>
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
COMMON STOCKS (92.6%)
AUSTRALIA (8.4%)
108,001 Arnotts Ltd. $ 718
564,678 Auspine Ltd. 1,633
990,079 Bains Harding Ltd. 279
1,657,000 BRL Hardy Ltd. 3,186
1,100,000 Burswood Property Trust 1,470
2,351,732 Country Road Ltd. 3,125
2,512,100 E.R.G. Ltd. 2,651
5,638,088 Parbury Ltd. 2,204
69,732 Rothmans Holdings Ltd. 325
1,721,500 Solution 6 Holdings Ltd. 1,440
410,000 W.D. & H.O. Wills Holdings Ltd. 708
---------
17,739
---------
DENMARK (1.6%)
107,000 SYD-Sonderjylland Holdings 3,304
---------
FINLAND (3.8%)
125,000 Amer-Yhtymae Oy, Class A 1,996
158,710 Hartwall Oy, Class A 3,596
71,850 KCI Konecranes International 1,275
10,800 Kone Corp., Class B 1,107
---------
7,974
---------
FRANCE (11.3%)
72,000 Dauphin O.T.A. 4,104
75,430 De Dietrich et Compagnie S.A. 3,806
31,150 Europeene de Propulsion S.A. 3,774
8,100 Galeries Layfayette 2,709
17,600 Labinal S.A. 2,524
53,500 Legris Industries S.A. 2,750
91,756 Sediver S.A. 4,283
---------
23,950
---------
GERMANY (4.2%)
8,900 Duerr Beteiligungs AG 2,803
10,688 Sinn AG 1,781
20,000 Varta AG 3,630
2,210 Vossloh AG 617
---------
8,831
---------
HONG KONG (2.4%)
1,037,000 Jardine International Motor
Holdings Ltd. 1,381
5,200,000 Pico Far East Holdings Ltd. 1,136
5,862,000 Vitasoy International Holdings
Ltd. 2,577
---------
5,094
---------
IRELAND (2.3%)
1,070,000 Avonmore Foods plc, Class A 2,307
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
692,472 Green Property plc $ 2,452
---------
4,759
---------
ITALY (3.2%)
1,172,800 Editoriale L'Expresso S.p.A. 2,767
378,000 Sogefi S.p.A. 868
787,000 Unicem Di Risp (NCS) 2,264
81,000 Vincenzo Zucchi S.p.A. 389
212,500 Vincenzo Zucchi S.p.A. (NCS) 539
---------
6,827
---------
JAPAN (13.4%)
15,000 Exedy Corp. 240
231,000 Foster Electric Co., Ltd. 1,371
247,000 Hankyu Realty 2,356
742,350 Japan Oil Transportation 4,275
213,000 Japan Vilene Co., Ltd. 1,330
134,000 Kansei Corp. 1,091
328,000 Kirin Beverage Corp. 4,201
136,400 Nifco, Inc. 1,709
425,000 Nissan Fire & Insurance Co. 3,020
42,000 Sangetsu Co., Ltd. 1,013
549,000 Toc Co. 6,006
62,000 Tokai Senko K.K. 288
170,000 Toyoda Gosei Co. 1,327
---------
28,227
---------
NETHERLANDS (7.6%)
62,600 Ahrend Groep N.V. 2,667
27,251 Apothekers Cooperatie OPG 773
26,800 Hollandsche Beton Groep N.V. 4,493
28,885 Industriemij Welna N.V. 804
141,000 Koninklijke Van Ommeren N.V. 4,881
36,000 Konin Nijverdal -- Ten Carte N.V. 1,623
8,802 Polynorm N.V. 839
---------
16,080
---------
NEW ZEALAND (1.0%)
659,729 Fisher & Paykel Industries Ltd. 2,112
---------
NORWAY (0.9%)
7,720 Adelsten, Class B 1,113
228,020 Oceanor 729
---------
1,842
---------
</TABLE>
4
<PAGE>
<TABLE>
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
SPAIN (4.7%)
346,000 Asturiana del Zinc S.A. $ 2,425
80,000 Bodegas y Bebidas S.A. 2,014
47,750 Empresa Nacional Hidroelectrica
del Ribagorzana S.A., Class B 1,031
84,200 Gas y Electricidad S.A. 4,477
---------
9,947
---------
SWEDEN (0.8%)
65,000 Marieberg Tidnings AB 1,691
---------
SWITZERLAND (12.6%)
2,230 Bobst AG (Bearer) 3,671
4,965 Bucher Holdings AG (Bearer) 3,399
9,800 Edipresse S.A. (Bearer) 2,799
3,400 Hero Lenzburg AG (Bearer) 1,442
530 Kouni Reisen Holdings, Class B
(Registered) 1,180
2,750 LEM Holdings AG 901
7,820 Magazine Globus (Participating
Certificates) 4,158
5,850 Porst Holding AG (Bearer) 786
3,520 Schweizerische
Industrie-Gesellschaft Holdings
(Registered) 3,903
3,150 Von Moos Holding AG (Bearer) 198
4,160 Zellweger Luwa AG (Bearer) 4,053
---------
26,490
---------
UNITED KINGDOM (14.4%)
4,000,000 Anglo Irish Bank Corp. plc
(British Pound Shares) 3,632
530,000 Blagden Industries plc 1,294
717,600 Bluebird Toys plc 3,099
1,266,800 BSM Group plc 3,538
153,100 Church & Co. plc 1,014
2,540,850 Donelon Tyson plc --
902,000 GEI International plc 1,783
212,000 Hadleigh Industries Group plc 667
384,600 Hornby Group plc 1,127
223,000 International Business
Communications (Holdings) plc 1,028
1,030,000 John Mowlem & Co. plc 1,352
35,365,100 Kendell plc 270
206,335 Mallett plc 198
2,682,000 Matthews (Bernard) plc 4,748
524,000 Oriflame International S.A. 3,927
2,659,393 Pentos plc --
345,526 Perry Group plc 981
1,895,000 Tandem Group plc 506
360,000 The 600 Group plc 1,044
541,700 Waterman Partnership Holdings plc 281
---------
30,489
---------
TOTAL COMMON STOCKS (Cost $186,879) 195,356
---------
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
PREFERRED STOCKS (4.0%)
GERMANY (4.0%)
59,900 Berentzen-Gruppe AG $ 2,211
3,415 Dyckerhoff AG 800
25,420 Hornbach Holding AG 1,451
10,550 Spar Handels AG 2,072
10,900 Wuerttembergische
Metallwarenfabrik AG 1,934
---------
TOTAL PREFERRED STOCKS (Cost $8,844) 8,468
---------
<CAPTION>
NO. OF
RIGHTS
- ---------------
<C> <S> <C>
RIGHTS (0.0%)
AUSTRALIA (0.0%)
546,700 E.R.G. Ltd. (Cost $0) 1
---------
<CAPTION>
NO. OF
WARRANTS
- ---------------
<C> <S> <C>
WARRANTS (0.0%)
HONG KONG (0.0%)
452,000 Pico Far East Holdings Ltd,
expiring 4/30/96 3
---------
SWITZERLAND (0.0%)
4,600 Zellweger Luwa AG, expiring
5/21/97 35
---------
TOTAL WARRANTS (Cost $68) 38
---------
<CAPTION>
FACE
AMOUNT
(000)
- ---------------
<C> <S> <C>
CONVERTIBLE DEBENTURE (0.2%)
ITALY (0.2%)
ITL 518,000 Mediobanca S.p.A. 5.50%, 1/01/00
(Cost $328) 299
---------
TOTAL FOREIGN SECURITIES (96.8%) (Cost $196,119) 204,162
---------
SHORT-TERM INVESTMENT (1.3%)
REPURCHASE AGREEMENT (1.3%)
$ 2,797 The Chase Manhattan Bank, N.A.,
5.15%, dated 3/29/96, due
4/01/96, to be repurchased at
$2,798, collateralized by $2,835
United States Treasury Notes,
6.00%, due 8/31/97, valued at
$2,853 (Cost $2,797) 2,797
---------
FOREIGN CURRENCY (2.8%)
AUD 71 Australian Dollar 55
GBP 1,891 British Pound 2,886
DKK 321 Danish Krone 56
DEM 4,037 Deutsche Mark 2,734
FIM 728 Finnish Markka 157
JPY 2,008 Japanese Yen 19
ESP 5 Spanish Peseta --
---------
TOTAL FOREIGN CURRENCY (Cost $5,919) 5,907
---------
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
VALUE
(000)
---------
<C> <S> <C>
TOTAL INVESTMENTS (100.9%) (Cost $204,835) $ 212,866
---------
OTHER ASSETS AND LIABILITIES (-0.9%)
Other Assets 31,959
Liabilities (33,770)
---------
(1,811)
---------
NET ASSETS (100%) $ 211,055
---------
---------
NET ASSET VALUE, OFFERING AND REDEMPTION PRICE PER
SHARE
Applicable to 12,987,893 outstanding $0.001 par
value shares (authorized 1,000,000,000 shares) $16.25
---------
---------
</TABLE>
- ----------------------------------
NCS -- Non Convertible Shares
ITL -- Italian Lira
6
