<PAGE>
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DIRECTORS OFFICERS
Barton M. Biggs Stefanie V. Chang
CHAIRMAN OF THE BOARD VICE PRESIDENT
Chairman and Director, Morgan Harold J. Schaaff, Jr.
Stanley Asset Management Inc. and VICE PRESIDENT
Morgan Stanley Asset Management Joseph P. Stadler
Limited; Managing Director, Morgan VICE PRESIDENT
Stanley & Co. Incorporated Valerie Y. Lewis
Michael F. Klein SECRETARY
DIRECTOR AND PRESIDENT Karl O. Hartmann
Principal, Morgan Stanley Asset ASSISTANT SECRETARY
Management Inc. and Morgan Stanley Joanna M. Haigney
& Co. Incorporated TREASURER
John D. Barrett II Rene J. Feuerman
Chairman and Director, ASSISTANT TREASURER
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 Chief
Executive Officer, Pinacle L.L.C.
Fergus Reid
Chairman and Chief Executive
Officer, LumeLite Plastics
Corporation
Frederick O. Robertshaw
Of Counsel, Copple, Chamberlin &
Boehm, P.C.
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INVESTMENT ADVISER AND ADMINISTRATOR
Morgan Stanley Asset Management Inc.
1221 Avenue of the Americas
New York, New York 10020
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DISTRIBUTOR
Morgan Stanley & Co. Incorporated
1221 Avenue of the Americas
New York, New York 10020
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CUSTODIANS
The Chase Manhattan Bank
3 Chase MetroTech Center
Brooklyn, New York 11245
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11210
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LEGAL COUNSEL
Morgan, Lewis & Bockius LLP
2000 One Logan Square
Philadelphia, Pennsylvania 19103
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INDEPENDENT ACCOUNTANTS
Price Waterhouse LLP
1177 Avenue of the Americas
New York, New York 10036
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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.
JAPANESE EQUITY PORTFOLIO
FIRST QUARTER REPORT
MARCH 31, 1998
<PAGE>
LETTER TO SHAREHOLDERS
- -------
The investment objective of the Japanese Equity Portfolio is to seek long-term
capital appreciation by investing primarily in equity securities of Japanese
issuers. Equity securities are defined as common and preferred stocks,
convertible securities and rights and warrants to purchase common stocks.
For the three months ended March 31, 1998, the Portfolio had a total return of
2.89% for the Class A shares and 2.90% for the Class B shares as compared to
2.04% for the Morgan Stanley Capital International (MSCI) Japan Index (the
"Index"). For the one year ended March 31, 1998, the Portfolio had a total
return of -4.94% for the Class A shares and -5.23% for the Class B shares as
compared to a total return of -11.69% for the Index. From inception on April 25,
1994 to March 31, 1998, the
PERFORMANCE COMPARED TO THE MORGAN STANLEY CAPITAL INTERNATIONAL (MSCI) JAPAN
INDEX(1)
- ----------------------------------------------------
<TABLE>
<CAPTION>
TOTAL RETURNS(2)
---------------------------------------
ONE AVERAGE ANNUAL
YTD YEAR SINCE INCEPTION
--------- ----------- ---------------
<S> <C> <C> <C>
PORTFOLIO--CLASS A.......... 2.89% -4.94% -3.42%
PORTFOLIO--CLASS B.......... 2.90 -5.23 -3.92
INDEX--CLASS A.............. 2.04 -11.69 -9.49
INDEX--CLASS B.............. 2.04 -11.69 -16.72
</TABLE>
1. The MSCI Japan Index is an unmanaged index of common stocks (includes
dividends).
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 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. PLEASE SEE THE PROSPECTUS FOR A
DESCRIPTION OF CERTAIN RISK CONSIDERATIONS ASSOCIATED WITH INTERNATIONAL
INVESTING.
average annual total return of Class A was -3.42% compared to -9.49% for the
Index. From inception on January 2, 1996 to March 31, 1998, the average annual
total return of Class B was -3.92% compared to -16.72% for the Index.
During the first quarter of 1998, two important bank rescue bills were passed by
the Japanese Congress to stem a rising "Japanese Premium" resulting from a
surging sea of non-performing loans. Unfortunately, this rescue package prompted
little real change; all banks applied for the exact same amount--100 billion
yen-- regardless of the magnitude of their non-performing loans! Most investors
were disappointed with the lack of initiative over true disclosure by these
banks because they did not apply for the actual required amount based on their
own loan distressed portfolios. To most investors this event became a metaphor
for faith in bank disclosure of non-performing loans. In addition, members of
Japan's elite Ministry of Finance and Bank of Japan were arrested for accepting
bribes and excessive entertainment. Both the Finance Minister Mr. Mitsuzuka and
Governor of the Bank of Japan Mr. Matsushita resigned in shame. More doubt
regarding Japan's leading financial institutions and their trustworthiness
because of these scandals surfaced both domestically and internationally.
Almost all economic indicators such as consumption, housing starts, auto sales
also dropped sharply during the first quarter. The effects of 1997's Asia crisis
began to hamper domestic production cycles with growing inventory levels and
clear deflationary trends are taking hold. Additionally, Japanese banks became
desperate to meet BIS ratios by fiscal year end, and lending actively,
particularly to smaller companies, was dramatically curtailed which in turn
further weakened an already ailing economy.
2
<PAGE>
Japan's GDP for the fourth quarter 1997, released in early 1998, was -0.7%
(annualized) confirming the eroding economic environment. Furthermore, the BOJ's
quarterly "Tankan" survey of corporate business sentiment was down 20 points
since the previous quarter's report to -31 and personal bankruptcy rates also
registered the highest reading on record with Japan's economy entering a
recession. Unemployment hit an all-time high of 3.6% in March.
Under such bleak domestic conditions and with Asia in turmoil the G7 meeting
held in London in February was critical towards Japan and strongly worded
messages were sent to stimulate the domestic economy and recognize that a crisis
was looming. However, Japan and in particular Mr. Hashimoto, is trapped in a
"catch 22"; committed to balance Japan's budget and mounting deficit by 2003, he
is left with little alternative to drastically amend legislation to a more
liberal fiscal policy. This conundrum is a major problem. For example, while
Japan announced a 16 trillion yen economic stimulus package in late March
details are yet unclear and investors lack faith in the proposed package because
it is still being debated almost daily.
With Japan's economy becoming bleaker by the day and obvious lack of political
will, the 10 year Japanese Government Bond yield traded below 1.5% during the
quarter with a strong overseas equity market, particularly in Europe and the
U.S., investors are reluctant to buy Japan.
Japanese companies also began to lower earnings estimates, although our
Portfolio's largest holding, Sony, announced an all-time record in earnings per
share during the quarter. Despite a gloomy economic background and poor earnings
outlook for most companies, the equity market bounced during the first quarter
on the back of jawboning by authorities to prop falling equity prices before
fiscal year end. This technical "hope" rally was led by construction, air
transport, steel, paper and other low priced poor quality companies. Highly
speculative stocks such as Nippon Dry Chemical miraculously rose from 400 to
1,600 in 2 months setting the tone for the quality of the rise in the market
during the quarter. Our portfolio does not hold the above sectors and relative
performance for the quarter was therefore negative.
During the second quarter of 1998 we expect to see concrete details for the 16
trillion stimulus package before the U.K. summit meeting in May. While we are
not convinced the final package will contain permanent tax cuts and 8 trillion
of "real" new money, we are hopeful that supply side measures will also be
included. Besides the mounting pressure from G7 to stimulate the economy, recent
Lower House elections in Tokyo and Nagasaki had very low voter turnout (38%
compared to 55-60% in recent years) and clearly a "no vote" lack of confidence
must be ringing in Prime Minister Hashimoto's ears. Over the last several years
stimulus packages have largely focused on public works--roads to nowhere,
bridges to isolated islands and otherwise wasteful use of deficit spending. We
believe that the market expects productive spending including amending the
prohibitive Japanese tax system and additional deregulation to stimulate
domestic demand.
In our opinion a "V" shaped recovery is unlikely to occur in the Japanese
economy despite fiscal stimulus and that the conservative attitude of consumers
will not magically change overnight. Capital expenditure which has already been
dropping off sharply is also expected to be down 46% because of Japan's credit
crunch and a stagnate Asian economy and oversupply. Therefore, we believe that
Japan's equity market will be in a trading range and our Portfolio will continue
to be overweight in globally competitive Japanese companies with good valuation
and fundamentals. In particular, the most recent rally in domestic issues has
allowed blue chips to correct and they should provide superior relative return
potential during the coming months.
On a micro basis there are signs of positive change in Japan; SEIYU has divested
Family Mart holdings to C.Itoh, some companies began focusing on return on
equity, a record number of companies have announced
3
<PAGE>
share buy-backs and leading companies are providing option-related incentive
schemes to their employees. Typical of Japan, however, corporate Japan is
"making haste slowly" and the local economy remains an enigma within a highly
globalized world economy.
John R. Alkire
PORTFOLIO MANAGER
Kunihiko Sugio
PORTFOLIO MANAGER
April 1998
4
<PAGE>
INVESTMENTS (UNAUDITED)
- ----------
MARCH 31, 1998
<TABLE>
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
COMMON STOCKS (94.3%)
APPLIANCES & HOUSEHOLD DURABLES (8.0%)
169,000 Matsushita Electric Industrial
Co., Ltd. $ 2,712
57,400 Rinnai Corp. 904
41,500 Sony Corp. 3,517
---------
7,133
---------
AUDIO/VIDEO PRODUCTS (1.1%)
35,000 Aiwa Co., Ltd. 982
---------
AUTOMOBILES (5.9%)
15,000 Autobacs Seven Co., Ltd. 536
268,000 Nissan Motor Co. 1,025
120,000 Suzuki Motor Co., Ltd. 1,125
98,000 Toyota Motor Corp. 2,609
---------
5,295
---------
BANKING (0.2%)
59,000 Inabata & Co. 221
---------
BUILDING MATERIALS & COMPONENTS (0.3%)
25,700 Fujitsu Denso Ltd. 279
---------
BUSINESS & PUBLIC SERVICES (3.2%)
106,000 Dai Nippon Printing Co., Ltd. 1,749
68,000 Sangetsu Co., Ltd. 892
70,000 Shin-Etsu Polymer Co., Ltd. 257
---------
2,898
---------
CHEMICALS (4.2%)
441,000 Daicel Chemical Industries Ltd. 880
279,000 Kaneka Corp. 1,462
253,000 Mitsubishi Chemical Corp. 465
164,000 Sekisui Chemical Co. 928
---------
3,735
---------
CONSTRUCTION & HOUSING (2.4%)
118,000 Sekisui House Co., Ltd. 965
343,000 Tsubakimoto Chain Co. 1,178
---------
2,143
---------
DATA PROCESSING & REPRODUCTION (7.6%)
115,000 Canon, Inc. 2,596
285,000 Furukawa Electric Co. 1,124
70,000 Nissha Printing Co., Ltd. 426
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
264,000 Ricoh Co., Ltd. $ 2,653
---------
6,799
---------
ELECTRICAL & ELECTRONICS (14.7%)
332,000 Hitachi Ltd. 2,415
70,000 Kyudenko Co., Ltd. 464
140,000 Mitsumi Electric Co., Ltd. 2,005
247,000 NEC Corp. 2,482
35,500 Nintendo Corp., Ltd. 3,061
678,000 Toshiba Corp. 2,746
---------
13,173
---------
ELECTRONIC COMPONENTS-MISC (10.5%)
120,000 Casio Computer Co. 1,035
36,000 Kyocera Corp. 1,890
60,000 Murata Manufacturing Co., Ltd. 1,656
35,000 TDK Corp. 2,703
62,000 Tokyo Electron Ltd. 2,087
---------
9,371
---------
FINANCIAL SERVICES (1.8%)
97,000 Hitachi Credit Corp. 1,651
---------
HEALTH & PERSONAL CARE (7.0%)
53,000 Ono Pharmaceutical Co., Ltd. 1,149
99,000 Sankyo Co., Ltd. 2,747
102,000 Yamanouchi Pharmaceutical Co. 2,341
---------
6,237
---------
INDUSTRIAL COMPONENTS (1.0%)
131,000 Fujitec Co., Ltd. 858
---------
INSURANCE (0.7%)
100,000 Sumitomo Marine & Fire Insurance
Co. 618
---------
MACHINERY & ENGINEERING (11.6%)
268,000 Amada Co., Ltd. 1,196
234,000 Daifuku Co., Ltd. 968
253,000 Daikin Industries Ltd. 1,165
80,000 Fuji Machine Manufacturing Co. 2,118
249,000 Fujitsu Ltd. 2,595
90,000 Kurita Water Industries Ltd. 945
358,000 Mitsubishi Heavy Industries Ltd. 1,361
---------
10,348
---------
MERCHANDISING (1.3%)
30,020 Family Mart 1,126
---------
METALS-NON-FERROUS (1.2%)
197,000 Sanwa Shutter Corp. 1,033
---------
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
VALUE
SHARES (000)
- --------------- ---------
<C> <S> <C>
MISCELLANEOUS MATERIALS & COMMODITIES (1.7%)
67,000 Lintec Corp. $ 854
135,000 Nippon Pillar Packing 706
---------
1,560
---------
REAL ESTATE (1.6%)
147,000 Mitsubishi Estate Co., Ltd. 1,433
---------
RECREATION, OTHER CONSUMER GOODS (4.1% )
71,000 Fuji Photo Film Ltd. 2,641
105,000 Yamaha Corp. 1,023
---------
3,664
---------
TELECOMMUNICATIONS (3.0%)
320 Nippon Telegraph & Telephone Corp. 2,664
---------
TEXTILES & APPAREL (1.2%)
50,000 Shimamura Co., Ltd. 1,114
---------
TOTAL COMMON STOCKS (Cost $102,098) 84,335
---------
<CAPTION>
FACE
AMOUNT
(000)
- ---------------
<C> <S> <C>
SHORT-TERM INVESTMENT (2.2%)
REPURCHASE AGREEMENT (2.2%)
$ 1,927 Chase Securities, Inc. 5.60%,
dated 3/31/98, due 4/01/98, to be
repurchased at $1,927,
collateralized by U.S Treasury
Notes, 6.375%, due 3/31/01,
Valued at $1,969 (Cost $1,927) 1,927
---------
FOREIGN CURRENCY (0.0%)
JPY 727 Japanese Yen (Cost $6) 5
---------
<CAPTION>
AMOUNT
(000)
---------
<C> <S> <C>
TOTAL INVESTMENTS (96.5%) (Cost $104,031) $ 86,267
---------
OTHER ASSETS AND LIABILITIES (3.5%)
Other Assets 48,363
Liabilities (45,271)
---------
3,092
---------
NET ASSETS (100%) $ 89,359
---------
---------
CLASS A:
NET ASSETS $87,327
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 14,399,182 outstanding $.001 par
value shares (authorized 500,000,000 shares) $6.06
---------
---------
CLASS B:
NET ASSETS $2,032
NET ASSET VALUE, OFFERING AND REDEMPTION
PRICE PER SHARE
Applicable to 336,624 outstanding $.001 par value
shares (authorized 500,000,000 shares) $6.04
---------
---------
</TABLE>
6
