<PAGE>
MORGAN STANLEY
EMERGING MARKETS DEBT FUND, INC.
- --------------------------------------------------------------------------------
DIRECTORS AND OFFICERS
Barton M. Biggs William G. Morton, Jr.
CHAIRMAN OF THE BOARD DIRECTOR
OF DIRECTORS
Michael F. Klein Stefanie V. Chang
PRESIDENT AND DIRECTOR VICE PRESIDENT
Peter J. Chase Harold J. Schaaff, Jr.
DIRECTOR VICE PRESIDENT
John W. Croghan Joseph P. Stadler
DIRECTOR VICE PRESIDENT
David B. Gill Valerie Y. Lewis
DIRECTOR SECRETARY
Graham E. Jones Joanna M. Haigney
DIRECTOR TREASURER
John A. Levin Belinda A. Brady
DIRECTOR ASSISTANT TREASURER
- --------------------------------------------------------------------------------
INVESTMENT ADVISER
Morgan Stanley Asset Management Inc.
1221 Avenue of the Americas
New York, New York 10020
- --------------------------------------------------------------------------------
ADMINISTRATOR
The Chase Manhattan Bank
73 Tremont Street
Boston, Massachusetts 02108
- --------------------------------------------------------------------------------
CUSTODIANS
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11201
The Chase Manhattan Bank
3 Chase MetroTech Center
Brooklyn, New York 11245
- --------------------------------------------------------------------------------
SHAREHOLDER SERVICING AGENT
Boston Equiserve
Investor Relations Department
P.O. Box 644
Boston, Massachusetts 02102-0644
(800) 730-6001
- --------------------------------------------------------------------------------
LEGAL COUNSEL
Rogers & Wells LLP
200 Park Avenue
New York, New York 10166
- --------------------------------------------------------------------------------
INDEPENDENT ACCOUNTANTS
Price Waterhouse LLP
1177 Avenue of the Americas
New York, New York 10036
- --------------------------------------------------------------------------------
For additional Fund information, including the Fund's net asset value per share
and information regarding the investments comprising the Fund's portfolio,
please call 1-800-221-6726.
- --------------------------------------------------------------------------------
MORGAN STANLEY
EMERGING MARKETS
DEBT FUND, INC.
- --------------------------------------------------------------------------------
ANNUAL REPORT
DECEMBER 31, 1997
MORGAN STANLEY ASSET MANAGEMENT INC.
INVESTMENT ADVISER
<PAGE>
LETTER TO SHAREHOLDERS
- --------------------------------------------------------------------------------
For the year ended December 31, 1997, the Morgan Stanley Emerging Markets Debt
Fund, Inc. had a total return, based on net asset value per share, of 21.71%
compared to 13.02% for the J.P. Morgan Emerging Markets Bond Plus Index (the
"Index"). Prior to January 1, 1997, the Fund used the J.P. Morgan Emerging
Markets Bond Index as its benchmark. For the period since the Fund's
commencement of operations on July 23, 1993 through December 31, 1997, the
Fund's total return, based on net asset value per share, was 134.69% compared
with 92.02% for the Index. On December 31, 1997, the closing price of the
Fund's shares on the New York Stock Exchange was $15.38, representing a 1.1%
premium to the Fund's net asset value per share.
1997 was another remarkable year for the emerging debt markets, in several ways.
While the asset class matured, and credit improvements in the broad emerging
world were the order for most of the year, the Asian financial crisis unfolding
at mid-year abruptly changed the risk profile for nearly all emerging countries,
changing investor perceptions as to the proper risk premium for emerging
markets. The weakness across Asia reached full pitch at the end of the fourth
quarter, with sharp sell-offs in the Hong Kong and Korean markets. It continues
into January with serious fears over the solvency of Indonesia. The spill-over
effects into emerging debt have been devastating, and in the last quarter of the
year the EMD markets experienced their first significant down quarter for the
first time since early 1995.
Broad gains in the monetary, foreign exchange and fiscal areas characterized
many emerging countries for the better part of 1997. The result was a pick-up
in real growth, accompanied by significant declines in inflation, along with
reasonable fiscal and current account balances. In Brazil, inflation came
solidly into annualized single-digit range, as tight monetary policy and fiscal
reform continued. In Russia, progress on the privatization front and sound
money policy also brought inflation close to G10 levels, and allowed interest
rates to fall to real rates of 8-10%, alongside a steady ruble. Venezuelan
reforms and buoyant crude oil prices improved that country's debt profile, and
Mexico continued along the path of accelerating growth and improved trade
accounts.
A significant theme in 1997 was active external debt management by several large
sovereigns, including Argentina, Brazil Venezuela and Panama. A declining U.S.
interest rate environment and ample global liquidity allowed these countries to
achieve real present value savings through re-financing relatively expensive
'Brady' (restructured) debt, by issuing new 'global' bonds. This trend
significantly improved these borrowers' debt profiles going forward.
For much of the year our portfolio maintained healthy exposure to the large
Latin and Eastern European markets, while avoiding exposure to Asian borrowers.
During the first half of the year we held overweight positions in Venezuela,
Argentina, Russia and Bulgaria and shifted the Fund to an overweight interest
rate posture following the back-up in U.S. rates in the first quarter. These
country overweights helped the Fund return 17.2% by mid-year, versus the Index
return of 10.3%, with Russia and Bulgaria leading the way. As spreads on the
benchmark emerging bond index tightened into 375 basis points over the U.S.
yield curve, the portfolio switched positions out of higher-risk,
higher-yielding markets into better quality credits. By the end of the third
quarter the emerging markets bond index spread had reached a 'full value' level
of 350 basis points over Treasuries, and we reduced duration in the Fund
accordingly.
The final quarter of the year brought a crisis atmosphere in Asia, and severe
downturns in Hong Kong, Korea and Indonesia hammered prices and pushed up
volatility in the debt markets. Spreads widened out to as far as 800 basis
points over the U.S. curve, before ending the year at roughly 500 basis points
over the curve.
The Fund's weak performance versus its benchmark during the quarter came as a
result of an overweight position in Venezuela, as well as an underweight
position against U.S.. interest rates.
The Asian financial crisis will continue to impact all emerging markets into
1998. Severe dislocations in Asia have created several areas of value for our
portfolio, and for the first time since the inception of the Fund we are
(gradually) building exposure in Asia to what we consider solid sovereign and
corporate issuers with good medium-term prospects. The ripple effects of Asia
will likely keep the overall risk spreads in the broad emerging debt universe
high, as fair value may be deemed to be 400-500 basis points of spread, rather
than 300-400 basis points. More yield is in the market today, and importantly
several non-Asian countries, e.g. Brazil, Mexico, Russia, have been forced by
the Asian crisis to address more forcefully and accelerate
2
<PAGE>
long overdue structural reform. While the stabilization and recovery process in
Asia will take many quarters to materialize, the re-pricing of the overall debt
market over the past four months, along with a re-commitment to a proper policy
mix in many countries, makes the 1998 outlook attractive from a total return
standpoint.
Sincerely,
/s/ Michael F. Klein
Michael F. Klein
PRESIDENT AND DIRECTOR
/s/ Paul Ghaffari
Paul Ghaffari
PORTFOLIO MANAGER
January 1998
3
<PAGE>
Morgan Stanley Emerging Markets Debt Fund, Inc.
Investment Summary as of December 31, 1997 (Unaudited)
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------
HISTORICAL TOTAL RETURN (%)
INFORMATION -----------------------------------------------------------------------------
MARKET VALUE (1) NET ASSET VALUE (2) INDEX (3)
---------------------- ---------------------- ----------------------
AVERAGE AVERAGE AVERAGE
CUMULATIVE ANNUAL CUMULATIVE ANNUAL CUMULATIVE ANNUAL
---------- ------- ---------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C>
ONE YEAR 40.81% 40.81% 21.71% 21.71% 13.02% 13.02%
SINCE INCEPTION* 137.23+ 21.46+ 134.69+ 21.16+ 92.02 15.82
</TABLE>
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
- --------------------------------------------------------------------------------
RETURNS AND PER SHARE INFORMATION
[CHART]
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31:
1993* 1994 1995 1996 1997
-------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Net Asset Value Per Share $ 18.96 $ 12.23 $ 12.40 $ 17.31 $ 15.21
Market Value Per Share $ 18.13 $ 11.38 $ 12.50 $ 15.13 $ 15.38
Premium/(Discount) -4.4 % -7.0 % 0.8 % -12.6 % 1.1 %
Income Dividends $ 0.16 $ 1.49 $ 1.72 $ 1.08 $ 1.27
Capital Gains Distributions -- $ 0.41 -- -- 3.44
Fund Total Return (2) 35.96% -25.95% 26.85%+ 50.98% 21.71%
Index Total Return (3) 18.67% -18.93% 26.77% 39.31% 13.02%
</TABLE>
(1) Assumes dividends and distributions, if any, were reinvested.
(2) Total investment return based on net asset value per share reflects the
effects of changes in net asset value on the performance of the Fund during
each period, and assumes dividends and distributions, if any, were
reinvested. These percentages are not an indication of the performance of a
shareholder's investment in the Fund based on market value due to
differences between the market price of the stock and the net asset value
per share of the Fund.
(3) Prior to fiscal year 1997, the Fund used the J.P. Morgan Emerging Markets
Bond Index as its benchmark for performance purposes. Beginning in 1997,
the Fund is using the J.P. Morgan Emerging Markets Bond Plus Index for the
purpose of performance comparisons. This index includes a broader range of
debt instruments and more closely represented the investment strategy of
the Fund. Because the J.P. Morgan Emerging Markets Bond Plus Index was not
available prior to January 1, 1994, the performance of the J.P. Morgan
Emerging Markets Bond Index is shown for the period July 23, 1993 to
December 31, 1993, and for purposes of computing cumulative performance of
the benchmark index for that period. The J.P. Morgan Emerging Markets Bond
Plus Index is a market weighted index composed of Brady bonds, loans and
Eurobonds, as well as U.S. Dollar local market instruments of Argentina,
Brazil, Bulgaria, Mexico, Morocco, Nigeria, the Philippines, Poland,
Russia, Venezuela and South Africa.
* The Fund commenced operations on July 23, 1993.
+ This return does not include the effect of the rights issued in connection
with the Rights Offering.
4
<PAGE>
Morgan Stanley Emerging Markets Debt Fund, Inc.
Investment Summary as of December 31, 1997 (Unaudited)
- --------------------------------------------------------------------------------
PORTFOLIO INVESTMENTS DIVERSIFICATION
[CHART]
<TABLE>
<S> <C>
Debt Instruments 96.4%
Short-Term Investments 3.6%
</TABLE>
- --------------------------------------------------------------------------------
COUNTRY WEIGHTINGS
[CHART]
<TABLE>
<S> <C>
Mexico 16.7%
Brazil 16.3%
Russia 14.4%
Argentina 14.2%
Venezuela 10.6%
Jamaica 5.1%
Bulgaria 3.2%
Peru 2.7%
Cayman Islands 2.4%
Ivory Coast 2.2%
Other 12.2%
</TABLE>
- --------------------------------------------------------------------------------
TEN LARGEST HOLDINGS*
<TABLE>
<CAPTION>
PERCENT OF
TOTAL
INVESTMENTS
-----------
<S> <C>
1. Russia Principal Note, PIK 6.719%, 12/15/20 8.9%
2. Republic of Venezuela Debt Conversion Bond 9.25%,
9/15/27 7.2
3. Government of Jamaica 12.00%, 7/19/99 5.9
4. Federative Republic of Brazil Global Bond 10.125%,
5/15/27 5.7
5. Republic of Venezuela Debt Conversion Bond 'DL'
6.813%, 12/18/07 5.0
6. Republic of Argentina 6.688%, 3/31/05 4.8%
7. Salomon Brothers Federative Republic of Brazil
Credit Linked Enhanced Note 9.00%, 1/15/99 4.4
8. CIA International Telecom 144A 10.375%, 8/1/04 3.9
9. Russia Interest Arrears Notes 6.719%, 12/2/15 3.9
10. United Mexican States 11.50%, 5/15/26 3.3
----
53.0%
----
----
</TABLE>
* Excludes short-term investments.
5
<PAGE>
FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS
(SHOWING PERCENTAGE OF TOTAL VALUE OF INVESTMENTS)
- --------------------------------------------------------------------------------
DECEMBER 31, 1997
<TABLE>
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
- --------------------------------------------------------------------------------
DEBT INSTRUMENTS (92.6%)
- --------------------------------------------------------------------------------
<S> <C> <C>
ARGENTINA (14.2%)
BONDS (12.3%)
(c) Acindar Industries 144A
11.656%, 11/12/98 U.S.$ 1,500 U.S.$ 1,507
Argentina Global Bond 9.75%,
9/19/27 6,900 6,612
CIA International Telecom 144A
10.375%, 8/1/04 ARP 15,700 12,719
(c,f) Republic of Argentina 6.688%,
3/31/05 U.S.$ 17,472 15,632
Republic of Argentina '54'
Tranche I 8.75%, 7/10/02 ARP 6,250 5,439
Republic of Argentina 144A
11.75%, 2/12/07 4,500 4,276
-----------
46,185
-----------
NOTES (1.9%)
Nortel Inversora 'A' 6.00%, 3/31/07 U.S.$ 8,260 7,351
-----------
53,536
-----------
- --------------------------------------------------------------------------------
BRAZIL (12.5%)
BONDS (12.5%)
CSN Iron 144A 9.125%, 6/1/07 3,950 3,414
Federative Republic of Brazil 'C' Bond PIK
8.00%, 4/15/04 8,141 6,401
Federative Republic of Brazil 'C' Bond PIK
Euro 8.00%, 4/15/04 7,070 5,558
(e) Federative Republic of Brazil 'L' 4.50%,
4/15/09 9,400 6,956
(e,f) Federative Republic of Brazil Global Bond
10.125%, 5/15/27 19,810 18,597
Federative Republic of Brazil New Money Bond
6.75%, 4/15/09 5,150 4,162
(c) Federative Republic of Brazil New Money Bond
'L' 6.75%, 4/15/09 2,250 1,818
-----------
46,906
-----------
- --------------------------------------------------------------------------------
BULGARIA (3.2%)
BONDS (3.2%)
(c) Republic of Bulgaria Discount Bond 'A'
Euro 6.688%, 7/28/24 4,000 3,090
(e) Republic of Bulgaria Front Loaded Interest
Reduction Bond 2.25%, 7/28/12 9,350 5,695
(c) Republic of Bulgaria Past Due Interest Bond
6.688%, 7/28/11 4,400 3,228
-----------
12,013
-----------
- --------------------------------------------------------------------------------
CAYMAN ISLANDS (2.4%)
BONDS (2.4%)
Pera Financial Services 144A 9.375%, 10/15/02 9,700 9,118
-----------
- --------------------------------------------------------------------------------
DOMINICAN REPUBLIC (1.7%)
BONDS (1.7%)
(c) Dominican Republic Past Due Interest Bond
6.688%, 8/30/09 U.S.$ 1,733 U.S.$ 1,412
Tricom S.A. 144A 11.375%, 9/1/04 5,000 4,899
-----------
6,311
-----------
- --------------------------------------------------------------------------------
ECUADOR (1.1%)
BONDS (1.1%)
Conecel 14.00%, 5/1/02 3,000 3,000
Conecel 144A 14.00%, 5/1/02 150 150
(c) Republic of Ecuador Past Due Interest Bond
PIK 6.688%, 2/27/15 1,301 854
-----------
4,004
-----------
- --------------------------------------------------------------------------------
INDIA (0.4%)
BONDS (0.4%)
(b) Saurashtra Cement Co. 19.00%, 9/27/98 INR 65,000 1,633
-----------
- --------------------------------------------------------------------------------
IVORY COAST (2.2%)
BONDS (0.2%)
(c,g) Republic of Ivory Coast Front Loaded
Interest Reduction Bond 144A 0.00%,
12/29/49 U.S.$ 2,000 690
-----------
LOAN AGREEMENTS (2.0%)
Republic of Ivory Coast Syndicated
Loan, Zero Coupon, 12/31/00 (Participation:
Chase Securities, Inc., Paribas, Salomon) FRF 75,646 5,467
Republic of Ivory Coast Syndicated
Loan, Zero Coupon, 12/31/00 (Participation:
Chase Securities, Inc., Salomon) U.S.$ 5,500 2,173
-----------
7,640
-----------
8,330
-----------
- --------------------------------------------------------------------------------
JAMAICA (5.1%)
BONDS (5.1%)
Government of Jamaica 12.00%, 7/19/99 19,100 19,339
-----------
- --------------------------------------------------------------------------------
JORDAN (0.1%)
BONDS (0.1%)
Government of Jordan Interest Arrears PDI
Bond 6.875%, 12/23/05 337 313
-----------
- --------------------------------------------------------------------------------
MAURITIUS (0.7%)
BONDS (0.7%)
Pindo Deli Finance Mauritius 144A
10.75%, 10/1/07 3,300 2,690
-----------
- --------------------------------------------------------------------------------
The accompany notes are an integral part of these financial statement.
6
<PAGE>
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
- --------------------------------------------------------------------------------
<S> <C> <C>
MEXICO (16.7%)
BONDS (16.7%)
Bancomext Global Bond 7.25%, 2/2/04 U.S.$ 3,570 U.S.$ 3,298
Bufete Industrial 144A 11.375%, 7/15/99 7,000 7,219
Empresas ICA Sociedad Controladora
(Registered) 11.875%, 5/30/01 1,000 1,085
Empresas ICA Sociedad Controladora 144A
11.875%, 5/30/01 8,000 8,680
Empresas La Moderna 144A 11.375%, 1/25/99 6,500 6,768
Innova 144A 12.875%, 4/1/07 3,100 3,108
National Financiera 17.00%, 2/26/99 ZAR 12,000 2,462
United Mexican States 11.50%, 5/15/26 U.S.$ 9,100 10,806
(c) United Mexican States Discount Bond 'A'
6.693%, 12/31/19 1,300 1,205
(c) United Mexican States Discount Bond 'C'
6.719%, 12/31/19 11,350 10,520
(f) United Mexican States Global Bond 11.375%,
9/15/16 5,400 6,201
United Mexican States Par Bond 'W-A'
6.25%, 12/31/19 1,650 1,378
---------
62,730
---------
- --------------------------------------------------------------------------------
MOROCCO (1.7%)
LOAN AGREEMENTS (1.7%)
(c,d) Kingdom of Morocco Restructuring and
Consolidation Agreement 'A' (Participation:
Chase Securities, Inc., J.P. Morgan, Lehman
Bros.) 6.656%, 1/1/09 7,350 6,378
---------
- --------------------------------------------------------------------------------
NETHERLANDS (0.4%)
BONDS (0.4%)
Unexim International Finance 144A 9.875%,
8/1/00 1,500 1,328
---------
- --------------------------------------------------------------------------------
NIGERIA (1.4%)
NOTES (1.4%)
(e) Central Bank of Nigeria Promissory Note
3.696%, 1/5/10 11,000 5,376
---------
- --------------------------------------------------------------------------------
PANAMA (1.1%)
BONDS (1.1%)
Republic of Panama Global Bond 8.875%,
9/30/27 4,000 3,764
(c) Republic of Panama Past Due Interest Bond
6.688%, 7/17/16 479 390
---------
4,154
---------
- --------------------------------------------------------------------------------
PERU (2.7%)
BONDS (2.7%)
(e) Republic of Peru Front Loaded Interest
Reduction Bond 3.25%, 3/7/17 U.S.$ 17,398 U.S.$ 10,352
---------
- --------------------------------------------------------------------------------
RUSSIA (14.4%)
LOAN AGREEMENTS (3.3%)
International Bank for Economic Cooperation
Loan Agreement 12/31/00 (Participation:
Salomon) 7,843 4,588
International Bank for Economic Cooperation
Loan Agreement 12/31/00 (Participation:
Salomon) 4,900 2,989
International Bank for Economic Cooperation
Loan Agreement 12/31/99 (Participation:
Salomon) DEM 14,450 4,699
---------
12,276
---------
NOTES (11.1%)
(c) Russia Interest Arrears Notes 6.719%,
12/2/15 U.S.$ 18,075 12,833
(c) Russia Principal Note, PIK 6.719%,
12/15/20 46,850 29,106
---------
41,939
---------
54,215
---------
- --------------------------------------------------------------------------------
VENEZUELA (10.6%)
BONDS (10.6%)
Republic of Venezuela Debt Conversion Bond
9.25%, 9/15/27 26,252 23,607
(c,f) Republic of Venezuela Debt Conversion Bond
'DL' 6.813%, 12/18/07 18,333 16,454
---------
40,061
---------
- --------------------------------------------------------------------------------
TOTAL DEBT INSTRUMENTS
(Cost U.S.$359,177) 348,787
---------
- --------------------------------------------------------------------------------
STRUCTURED INVESTMENTS (3.8%)
- --------------------------------------------------------------------------------
BRAZIL (3.8%)
Salomon Brothers Federative Republic of
Brazil Credit Linked Enhanced Note 9.00%,
1/15/99 (Cost U.S.$15,000) 15,000 14,311
---------
- --------------------------------------------------------------------------------
NO. OF
RIGHTS
- --------------------------------------------------------------------------------
RIGHTS (0.0%)
- --------------------------------------------------------------------------------
MEXICO (0.0%)
(a) United Mexican States Value Recovery Rights,
expiring 6/30/03 (Cost U.S.$0) 19,462 --
---------
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
7
<PAGE>
<CAPTION>
FACE
AMOUNT VALUE
(000) (000)
- --------------------------------------------------------------------------------
<S> <C> <C>
SHORT-TERM INVESTMENTS (3.6%)
- --------------------------------------------------------------------------------
UNITED KINGDOM (1.2%)
BONDS
ING Bank 144A, Zero Coupon, 8/14/98 U.S.$ 4,700 U.S.$ 4,594
------------
- --------------------------------------------------------------------------------
UNITED STATES (2.4%)
Repurchase Agreement
Chase Securities, Inc., 5.95%, dated
12/31/97, due 1/2/98, to be repurchased
at U.S.$9,107, collateralized by
U.S.$9,195, United States Treasury Notes,
5.625%, due 2/15/06, valued at U.S.$9,290 9,104 9,104
------------
- --------------------------------------------------------------------------------
TOTAL SHORT-TERM INVESTMENTS
(Cost U.S.$13,912) 13,698
------------
- --------------------------------------------------------------------------------
FOREIGN CURRENCY ON DEPOSIT WITH CUSTODIAN (0.0%)
French Franc (Cost U.S.$--@) 3 --@
------------
- --------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.0%)
(Cost U.S.$388,089) 376,796
------------
- --------------------------------------------------------------------------------
OTHER ASSETS
Cash 2,642
Interest Receivable 9,573
Dividends Receivable 27
Receivable for Investments Sold 21
Deferred Organization Costs 8
Other Assets 23 12,294
------------- ------------
- --------------------------------------------------------------------------------
LIABILITIES
Payable For:
Reverse Repurchase Agreements (59,731)
Investments Purchased (1,276)
Investment Advisory Fees (293)
Professional Fees (69)
Shareholder Reporting Expenses (54)
Director's Fees and Expenses (48)
Custodian Fees (29)
Administrative Fees (28)
Other Liabilities (6) (61,534)
------------- -------------
- --------------------------------------------------------------------------------
NET ASSET
Applicable to 21,531,260, issued and
outstanding U.S.$0.01 par value shares
(100,000,000 shares authorized) U.S.$ 327,556
-------------
-------------
- --------------------------------------------------------------------------------
NET ASSET VALUE PER SHARE
U.S.$ 15.21
-------------
-------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
AT DECEMBER 31, 1997, NET ASSETS CONSISTED OF:
Common Stock U.S.$ 215
Capital Surplus 274,350
Undistributed Net Investment Income 4,071
Accumulated Net Realized Gain 60,305
Unrealized Depreciation on Investments and
Foreign Currency Translations (11,385)
- --------------------------------------------------------------------------------
TOTAL NET ASSETS U.S.$ 327,556
-------------
-------------
</TABLE>
- --------------------------------------------------------------------------------
(a) -- Non-income producing
(b) -- Security valued at fair value -- see note A-1 to financial
statements.
(c) -- Variable/floating rate security -- rate disclosed is as of
December 31, 1997.
(d) -- Participation interests were acquired through the financial
institutions indicated parenthetically.
(e) -- Step Bond -- coupon rate increases in increments to maturity.
Rate disclosed is as of December 31, 1997. Maturity date
disclosed is ultimate maturity.
(f) -- Denotes all or a portion of securities subject to repurchase
under Reverse Repurchase Agreements as of December 31, 1997. See
note A-4 to financial statements.
(g) -- When-issued Security -- see note A-8 to financial statements.
@ -- Amount is less than U.S.$500.
144A -- Certain conditions for public sale may exist.
PIK -- Payment-in-Kind. Income may be paid in additional securities or
cash.
PDI -- Past Due Interest
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
DECEMBER 31, 1997 EXCHANGE RATES:
- --------------------------------------------------------------------------------
<S> <C> <C>
ARP Argentine Peso 1.000 = U.S.$ 1.00
DEM German Mark 1.799 = U.S.$ 1.00
FRF French Franc 6.019 = U.S.$ 1.00
INR Indian Repee 39.200 = U.S.$ 1.00
ZAR South African Rand 4.867 = U.S.$ 1.00
- --------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of these financial statements.
8
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1997
STATEMENT OF OPERATIONS (000)
- ----------------------------------------------------------------------------------------------------------------
INVESTMENT INCOME
<S> <C>
Dividends. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . U.S.$ 65
Interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36,273
Less: Foreign Taxes Withheld . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (92)
- ----------------------------------------------------------------------------------------------------------------
Total Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36,246
- ----------------------------------------------------------------------------------------------------------------
EXPENSES
Investment Advisory Fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,287
Interest Expense on Borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,471
Interest Expense on Securities Sold Short . . . . . . . . . . . . . . . . . . . . . . . . 510
Custodian Fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 407
Administrative Fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 307
Shareholder Reporting Expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 148
Professional Fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 133
Directors' Fees and Expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
Other Expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 120
- ----------------------------------------------------------------------------------------------------------------
Total Expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,419
- ----------------------------------------------------------------------------------------------------------------
Net Investment Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28,827
- ----------------------------------------------------------------------------------------------------------------
NET REALIZED GAIN (LOSS)
Investment Securities Sold . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61,860
Investment Securities Sold Short . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,147)
Written Option Contracts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 300
Foreign Currency Transactions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (663)
- ----------------------------------------------------------------------------------------------------------------
Net Realized Gain . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60,350
- ----------------------------------------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION/DEPRECIATION
Depreciation on Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (32,819)
Depreciation on Foreign Currency Translations . . . . . . . . . . . . . . . . . . . . . . (75)
- ----------------------------------------------------------------------------------------------------------------
Change in Unrealized Appreciation/Depreciation . . . . . . . . . . . . . . . . . . . . (32,894)
- ----------------------------------------------------------------------------------------------------------------
Net Realized Gain and Change in Unrealized Appreciation/Depreciation . . . . . . . . . . . . 27,456
- ----------------------------------------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS . . . . . . . . . . . . . . . . . . . U.S.$ 56,283
- ----------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
DECEMBER 31, 1997 DECEMBER 31, 1996
STATEMENT OF CHANGES IN NET ASSETS (000) (000)
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS
Operations:
Net Investment Income. . . . . . . . . . . . . . . . . . . . . . . U.S. $ 28,827 U.S. $ 37,767
Net Realized Gain. . . . . . . . . . . . . . . . . . . . . . . . . 60,350 78,503
Change in Unrealized Appreciation/Depreciation . . . . . . . . . . (32,894) 12,679
- ----------------------------------------------------------------------------------------------------------------
Net Increase in Net Assets Resulting from Operations . . . . . . . 56,283 128,949
- ----------------------------------------------------------------------------------------------------------------
Distributions:
Net Investment Income. . . . . . . . . . . . . . . . . . . . . . . (27,267) (23,254)
Net Realized Gain. . . . . . . . . . . . . . . . . . . . . . . . . (74,104) --
- ----------------------------------------------------------------------------------------------------------------
Total Distributions. . . . . . . . . . . . . . . . . . . . . . . . (101,371) (23,254)
- ----------------------------------------------------------------------------------------------------------------
Capital Share Transactions:
Reinvestment of Distributions (50,147 shares). . . . . . . . . . . -- 654
- ----------------------------------------------------------------------------------------------------------------
Total Increase (Decrease). . . . . . . . . . . . . . . . . . . . . (45,088) 106,349
Net Assets:
Beginning of Period. . . . . . . . . . . . . . . . . . . . . . . . 372,644 266,295
- ----------------------------------------------------------------------------------------------------------------
End of Period (including undistributed net investment income of
U.S.$4,071 and U.S.$4,012, respectively) . . . . . . . . . . . . U.S. $ 327,556 U.S. $ 372,644
- ----------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
9
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1997
STATEMENT OF CASH FLOWS (000)
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C>
CASH FLOWS FROM INVESTING AND OPERATING ACTIVITIES:
Proceeds from Sales of Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . U.S. $ 1,519,584
Purchases of Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,402,251)
Net Increase in Short Term Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (5,465)
Net Cash from Foreign Currency Transactions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (24,450)
Investment Income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32,801
Interest Expense Paid. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,491)
Operating Expenses Paid. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (4,989)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Cash Provided by Investing and Operating Activities. . . . . . . . . . . . . . . . . . . . . . . . . . . 111,739
- ------------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash Paid for Reverse Repurchase Agreements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (7,882)
Cash Distributions Paid. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (101,371)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Cash Used for Financing Activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (109,253)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Increase in Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,486
CASH AT BEGINNING OF PERIOD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 156
- ------------------------------------------------------------------------------------------------------------------------------------
CASH AT END OF PERIOD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . U.S. $ 2,642
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
RECONCILIATION OF NET INVESTMENT INCOME TO NET CASH PROVIDED BY INVESTING AND OPERATING ACTIVITIES . . . . .
- ------------------------------------------------------------------------------------------------------------------------------------
Net Investment Income. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . U.S. $ 28,827
Proceeds from Sales of Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,519,584
Purchases of Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,402,251)
Net Increase in Short Term Investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (5,465)
Net Cash used for Foreign Currency Transactions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (24,450)
Net Decrease in Receivables Related to Operations. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,205
Net Decrease in Payables Related to Operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,542)
Amortization of Organization Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Accretion/Amortization of Discounts and Premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (3,184)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Cash Provided by Investing and Operating Activities. . . . . . . . . . . . . . . . . . . . . . . . . . . U.S. $ 111,739
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
10
<PAGE>
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, PERIOD FROM
SELECTED PER SHARE DATA ----------------------------------------------------------------------- JULY 23, 1993* TO
AND RATIOS: 1997 1996 1995 1994 DECEMBER 31, 1993
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD . . U.S.$ 17.31 U.S.$ 12.40 U.S.$ 12.23 U.S.$ 18.96 U.S. $ 14.10
- ------------------------------------------------------------------------------------------------------------------------------------
Offering Costs . . . . . . . . . . . . . -- -- (0.02) -- (0.04)
- ------------------------------------------------------------------------------------------------------------------------------------
Net Investment Income. . . . . . . . . . 1.34 1.75 1.76 1.51 0.50
Net Realized and Unrealized Gain
(Loss) on Investments. . . . . . . . . 1.27 4.24 1.16 (6.34) 4.56
- ------------------------------------------------------------------------------------------------------------------------------------
Total from Investment Operations. . 2.61 5.99 2.92 (4.83) 5.06
- ------------------------------------------------------------------------------------------------------------------------------------
Distributions:
Net Investment Income. . . . . . . . . (1.27) (1.08) (1.69) (1.49) (0.16)
In Excess of Net Investment Income . . -- -- (0.03) -- --
Net Realized Gain. . . . . . . . . . . (3.44) -- -- (0.41) --
- ------------------------------------------------------------------------------------------------------------------------------------
Total Distributions . . . . . . . . (4.71) (1.08) (1.72) (1.90) (0.16)
- ------------------------------------------------------------------------------------------------------------------------------------
Decrease in Net Asset Value due to
Rights Offering . . . . . . . . . . . -- -- (1.01) -- --
- ------------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD . . . . . U.S.$ 15.21 U.S.$ 17.31 U.S.$ 12.40 U.S.$ 12.23 U.S. $ 18.96
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
PER SHARE MARKET VALUE, END OF PERIOD . U.S.$ 15.38 U.S.$ 15.13 U.S.$ 12.50 U.S.$ 11.38 U.S. $ 18.13
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENT RETURN:
Market Value . . . . . . . . . . . . . 40.81% 30.86% 37.48%+++ (27.97)% 29.97%
Net Asset Value (1). . . . . . . . . . 21.71% 50.98% 26.85%+++ (25.95)% 35.96%
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
RATIOS, SUPPLEMENTAL DATA:
- ------------------------------------------------------------------------------------------------------------------------------------
NET ASSETS, END OF PERIOD (THOUSANDS) . U.S.$ 327,556 U.S.$ 372,644 U.S.$ 266,295 U.S.$ 196,282 U.S.$ 302,951
- ------------------------------------------------------------------------------------------------------------------------------------
Ratio of Expenses Before Interest
Expense to Average Net Assets . . . . 1.51% 1.38% 1.50% 1.59% 1.73%**
Ratio of Expenses After Interest
Expense to Average Net Assets. . . . . 2.27% 2.59% 1.89% 2.30% 2.79%**
Ratio of Net Investment Income to
Average Net Assets . . . . . . . . . . 8.80% 12.14% 15.21% 10.79% 7.20%**
Portfolio Turnover Rate. . . . . . . . . 361% 373% 348% 256% 72%
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
* Commencement of operations
** Annualized
+++ This return does not include the effect of the rights issued in
connection with the Rights Offering.
(1) Total investment return based on net asset value per share reflects
the effects of changes in net asset value on the performance of the
Fund during each period, and assumes dividends and distributions, if
any, were reinvested. This percentage is not an indication of the
performance of a shareholder's investment in the Fund based on market
value due to differences between the market price of the stock and the
net asset value per share of the Fund.
The accompanying notes are an integral part of the financial statements.
11
<PAGE>
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
- --------------------------------------------------------------------------------
The Morgan Stanley Emerging Markets Debt Fund, Inc. (the "Fund"), was
incorporated in Maryland on May 6, 1993, and is registered as a non-diversified,
closed-end management investment company under the Investment Company Act
of 1940, as amended. The Fund's primary investment objective is to produce high
current income and as a secondary objective, to seek capital appreciation,
through investments primarily in debt securities.
A. 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 its 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: In valuing the Fund's assets, all listed securities for
which market quotations are readily available are valued at the last sale
price on the valuation date, or if there was no sale on such date, at the
mean between the current bid and asked prices or the bid price if only bid
quotations are available. Securities which are traded over-the-counter are
valued at the average of the mean of the current bid and asked prices
obtained from reputable brokers. Securities may be valued by independent
pricing services which use prices provided by market-makers or estimates of
market values obtained from yield data relating to investments or
securities with similar characteristics. Short-term securities which mature
in 60 days or less are valued at amortized cost. All other securities and
assets for which market values are not readily available (including
investments which are subject to limitations as to their sale) are valued
at fair value as determined in good faith by the Board of Directors (the
"Board"), although the actual calculations may be done by others.
2. TAXES: It is the Fund's intention to continue to qualify as a regulated
investment company and distribute all of its taxable income. Accordingly,
no provision for U.S. Federal income taxes is required in the financial
statements.
The Fund may be subject to taxes imposed by countries in which it invests.
Such taxes are generally based on either income earned or repatriated. The
Fund accrues such taxes when the related income is earned.
3. REPURCHASE AGREEMENTS: In connection with transactions in repurchase
agreements, a bank as custodian for the Fund takes possession of the
underlying securities, 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. REVERSE REPURCHASE AGREEMENTS: In order to leverage the Fund, the Fund may
enter into reverse repurchase agreements with institutions that the Fund's
investment adviser has determined are creditworthy. Under a reverse
repurchase agreement, the Fund sells securities and agrees to repurchase
them at a mutually agreed upon date and price. Reverse repurchase
agreements involve the risk that the market value of the securities
purchased with the proceeds from the sale of securities received by the
Fund may decline below the price of the securities the Fund is obligated to
repurchase. Securities subject to repurchase under reverse repurchase
agreements, if any, are designated as such in the Statement of Net Assets.
At December 31, 1997, the Fund had reverse repurchase agreements
outstanding as follows:
<TABLE>
<CAPTION>
MATURITY IN
30 TO 90
DAYS
------------
<S> <C>
Value of Securities Subject to
Repurchase . . . . . . . . . . . . . . . . . . . . . . . . $ 63,939,000
Liability Under Reverse
Repurchase Agreement . . . . . . . . . . . . . . . . . . . $ 59,630,000
Weighted Average Interest Rate. . . . . . . . . . . . . . . 5.20%
</TABLE>
The average weekly balance of reverse repurchase agreements outstanding
during the year ended December 31, 1997 was approximately $43,936,000 at a
weighted average interest rate of 5.39%.
5. FOREIGN CURRENCY TRANSLATION: 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.
12
<PAGE>
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.
Net realized gains (losses) on foreign currency transactions represent net
foreign exchange gains (losses) from sales and maturities of 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
investments and foreign currency translations in the Statement of Net
Assets. The change in net unrealized currency gains (losses) for the period
is reflected in the Statement of Operations.
The Fund intends to use derivatives more actively than it has in the past. The
Fund intends to engage in transactions in futures contracts on foreign
currencies, stock indices, as well as in options, swaps and structured notes.
Consistent with the Fund investment objectives and policies, the Fund intends to
use derivatives for non-hedging as well as hedging purposes.
Following is a description of derivative instruments and their associated risks
that the Fund intends to utilize:
6. FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS: The Fund may enter into
forward foreign currency exchange contracts generally to attempt to protect
securities and related receivables and payables against changes in future
foreign exchange rates and, in certain situations, to gain exposure to a
foreign currency. 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 Fund as unrealized gain or loss.
The Fund records realized gains or losses when the contract is closed equal
to the difference between the value of the contract at the time it 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 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.
7. LOAN AGREEMENTS: The Fund 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. The Fund'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. The Fund's investment in Participations
typically results in the Fund having a contractual relationship with only
the Lender and not with the borrower. The Fund has the right to receive
payments of principal, interest and any fees to which it is entitled only
from the Lender selling the Participation and only upon receipt by the
Lender of the payments from the borrower. The Fund generally has no right
to enforce compliance by the borrower with the terms of the loan agreement.
As a result, the Fund may be subject to the credit risk of both the
borrower and the Lender that is selling the Participation. When the Fund
purchases Assignments from Lenders it 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 acquired by the Fund as the purchaser of an
Assignment may differ from, and be more limited than, those held by the
assigning Lender.
8. FORWARD COMMITMENTS AND WHEN-ISSUED/DELAYED DELIVERY SECURITIES: The Fund
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 a month or more (not to exceed 120 days)
after the date of the transaction. Additionally, the Fund 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 Fund on such securities prior to delivery. When the
Fund enters into a purchase transaction on a when-issued or delayed
delivery basis, it either establishes a segregated account in which it
maintains liquid assets in an amount at least equal in value to the Fund's
commitments to purchase such securities or denotes such securities on the
custody statement for its regular custody account. Purchasing securities on
a forward
13
<PAGE>
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.
9. SECURITIES SOLD SHORT: The Fund may sell securities short. A short sale is
a transaction in which the Fund sells securities it may or may not own, but
has borrowed, in anticipation of a decline in the market price of the
securities. The Fund is obligated to replace the borrowed securities at
their market price at the time of replacement. The Fund 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 Fund'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 Fund will either place in a segregated
account with its custodian or denotes as pledged on the custody records 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 at the time they were sold short 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
(not including the proceeds of the short sale). Short sales by the Fund
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 purchases cannot exceed the total amount invested.
10. WRITTEN OPTIONS: The Fund may write covered call options in an attempt to
increase the Fund's total return. The Fund will receive premiums that are
recorded as liabilities and subsequently adjusted to the current value of
the options written. Premiums received from writing options which expire
are treated as realized gains. Premiums received from writing options which
are exercised or are closed are added to or offset against the proceeds or
amount paid on the transaction to determine the net realized gain or loss.
By writing a covered call option, the Fund foregoes in exchange for the
premium the opportunity for capital appreciation above the exercise price
should the market price of the underlying security increase.
11. SWAPS: A swap is an agreement to exchange the return generated by one
instrument for the return generated by another instrument. The following
summarizes the types of swaps that the Fund may enter into:
INTEREST RATE SWAPS: Interest rate swaps involve the exchange of
commitments to pay and receive interest based on a notional principal
amount. The Fund utilizes interest rate swaps in an attempt to increase
income while limiting the Fund's exposure to market fluctuations in
interest rates. 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 an unrealized gain or loss 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 and
provide the Fund with the full benefit on an investment in a security
without an initial cash outlay. To the extent the total return of the
security or index underlying the transaction exceeds or falls short of the
offsetting interest rate obligation, the Fund 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 an unrealized gain or loss in the Statement
of Operations. Payments received or made at the end of each measurement
period are recorded as realized gain or loss 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 reported
in the Statement of Net Assets may differ from that which would be realized
in the event the Fund 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.
12. STRUCTURED SECURITIES: The Fund may invest in interests in entities
organized and operated solely for the purpose of restructuring the
investment characteristics of sovereign debt obligations. This type of
restructuring involves the deposit with or purchase by an entity of
specified instruments and the issuance by that entity of one or more
classes of securities ("Structured Securities") backed by, or representing
interests in, the underlying instruments. Structured Securities, invested
in by the Fund, generally will have credit risk equivalent to that of the
underlying instruments. Structured Securities are typically sold in private
placement transactions with no active trading market. Investments in
structured securities may be more volatile than their underlying
instruments,
14
<PAGE>
however, any loss is limited to the amount of the original investment.
13. OVER-THE-COUNTER TRADING: Derivative instruments that may be purchased or
sold by the Fund are expected to regularly consist of instruments not
traded on an exchange. The risk of nonperformance by the obligor on such an
instrument may be greater, and the ease with which the Fund can dispose of
or enter into closing transactions with respect to such an instrument may
be less, than in the case of an exchange-traded instrument. In addition,
significant disparities may exist between bid and asked prices for
derivative instruments that are not traded on an exchange. Derivative
instruments not traded on exchanges are also not subject to the same type
of government regulation as exchange traded instruments, and many of the
protections afforded to participants in a regulated environment may not be
available in connection with such transactions.
14. 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 specific identified cost basis. Interest
income is recognized on the accrual basis and discounts and premiums on
investments purchased are accreted or amortized in accordance with the
effective yield method over their respective lives, except where collection
is in doubt. Distributions to shareholders are recorded on the ex-date.
The amount and character of income and capital gain distributions to be
paid 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 foreign currency
transactions and the timing of the recognition of losses on securities.
Permanent book and tax basis differences relating to shareholder
distributions may result in reclassifications to undistributed net
investment income (loss), accumulated net realized gain (loss) and capital
surplus.
Adjustments for permanent book-tax differences, if any, are not reflected
in ending undistributed net investment income (loss) for the purpose of
calculating net investment income (loss) per share in the financial
highlights.
B. Morgan Stanley Asset Management Inc. (the "Adviser") provides investment
advisory services to the Fund under the terms of an Investment Advisory and
Management Agreement (the "Agreement"). Under the Agreement, the Adviser is paid
a fee computed weekly and payable monthly at an annual rate of 1.00% of the
Fund's average weekly net assets.
C. The Chase Manhattan Bank, through its affiliate Chase Global Funds
Services Company (the "Administrator"), provides administrative services to
the Fund under an Administration Agreement. Under the Administration
Agreement, the Administrator is paid a fee computed weekly and payable
monthly at an annual rate of .06% of the Fund's average weekly net assets, plus
$100,000 per annum. In addition, the Fund is charged certain out-of-pocket
expenses by the Administrator. The Chase Manhattan Bank acts as custodian for
the Fund's assets held in the United States.
D. Morgan Stanley Trust Company (the "International Custodian"), an affiliate
of the Adviser, acts as custodian for the Fund's assets held outside the United
States in accordance with a Custody Agreement. Custodian fees are payable
monthly based on assets under custody, investment purchase and sale activity, an
account maintenance fee, plus reimbursement for certain out-of-pocket expenses.
Investment transaction fees vary by country and security type. For the year
ended December 31, 1997, the Fund incurred international custodian fees of
$182,000 of which $28,000 was payable to the International Custodian at December
31, 1997. In addition, for the year ended December 31, 1997, the Fund has earned
interest income of $37,000 and incurred interest expense of $144,000 on balances
with the International Custodian.
E. During the year ended December 31, 1997, the Fund made purchases and sales
totaling approximately $1,364,339,000 and $1,455,996,000 respectively, of
investment securities other than long-term U.S. Government securities, purchased
options and short-term investments. There were no purchases and sales of
long-term U.S. Government securities. At December 31, 1997, the U.S. Federal
income tax cost basis of securities was approximately $389,396,000 and,
accordingly, net unrealized depreciation for U.S. Federal income tax purposes
was $12,600,000, of which $5,413,000 related to appreciated securities and
$18,013,000 related to depreciated securities. For the year ended December 31,
1997, the Fund intends to elect to defer to January 1, 1998 for U.S. Federal
income tax purposes, post-October capital losses of $1,292,000.
F. In connection with its organization, the Fund incurred $75,000 of
organization costs. The organization costs are being amortized on a
straight-line basis over a five-year period beginning July 23, 1993, the date
the Fund commenced operations.
G. The Fund issued to its shareholders of record as of the close of business
on July 18, 1995 transferable Rights to subscribe for up to an aggregate of
5,400,000 shares of Common Stock of the Fund at a rate of one share of Common
Stock for three Rights held at the subscription price of $9.25 per share. During
August 1995, the Fund issued a total of 5,400,000 shares of Common Stock on
exercise of such Rights. Rights' offering costs of $500,000 were charged
directly against the proceeds of the Offering. The Fund was advised that Morgan
Stanley & Co. Incorpo-
15
<PAGE>
rated, an affiliate of the Adviser, received commissions of $1,590,000 and
reimbursement of its expenses of $125,000 in connection with its participation
in the Rights Offering.
H. A portion of the Fund's net assets consist of securities located in
emerging markets which are denominated in foreign currencies. Changes in
currency exchange rates will affect the value of and investment income from such
securities. Emerging market securities are often subject to greater price
volatility, limited capitalization and liquidity, and higher rates of inflation
than U.S. securities. In addition, emerging market securities may be subject to
substantial governmental involvement in the economy and greater social, economic
and political uncertainty.
I. Each Director of the Fund who is not an officer of the Fund or an
affiliated person as defined under the Investment Company Act of 1940, as
amended, may elect to participate in the Directors' Deferred Compensation Plan
(the "Plan"). Under the Plan, such Directors may elect to defer payment of a
percentage of their total fees earned as a Director of the Fund. These deferred
portions are treated, based on an election by the Director, as if they were
either invested in the Fund's shares or invested in U.S. Treasury Bills, as
defined under the Plan. The deferred fees payable, under the Plan, at December
31, 1997 totaled $40,000 and are included in Payable for Directors' Fees and
Expenses on the Statement of Net Assets.
J. During the year ended December 31, 1997, the Fund's written covered call
option activity was as follows:
<TABLE>
<CAPTION>
FACE PREMIUM
AMOUNT (000) (000)
------------ ---------
<S> <C> <C>
Options outstanding at
December 31, 1996. . . . . . . . . . . . . . . . . . $ -- $ --
Options written during the
year . . . . . . . . . . . . . . . . . . . . . . . . 45,400 592
Options expired during the
year . . . . . . . . . . . . . . . . . . . . . . . . (31,600) (343)
Options closed during the
year . . . . . . . . . . . . . . . . . . . . . . . . (13,800) (249)
-------- ------
Options outstanding at
December 31, 1997. . . . . . . . . . . . . . . . . . $ -- $ --
-------- ------
-------- ------
</TABLE>
K. During December 1997, the Board declared quarterly distributions of $0.19
and $2.94 per share, derived from net investment income and net realized gains,
respectively, payable on January 9, 1998, to shareholders of record on December
31, 1997.
- --------------------------------------------------------------------------------
FEDERAL INCOME TAX INFORMATION (UNAUDITED):
For the year ended December 31, 1997, the Fund designates $4,095,000 as
long-term capital gain at the 28% tax bracket.
16
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
- --------------------------------------------------------------------------------
To the Shareholders and Board of Directors of
Morgan Stanley Emerging Markets Debt Fund, Inc.
In our opinion, the accompanying statement of net assets and the related
statements of operations, of changes in net assets and of cash flows and the
financial highlights present fairly, in all material respects, the financial
position of Morgan Stanley Emerging Markets Debt Fund, Inc. (the "Fund") at
December 31, 1997, the results of its operations and its cash flows for the year
then ended, the changes in its net assets for each of the two years in the
period then ended and the financial highlights for each of the four years in the
period then ended and for the period July 23, 1993 (commencement of operations)
through December 31, 1993, 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 securities at December 31, 1997 by correspondence with the
custodians and brokers and the application of alternative auditing procedures
where confirmations from brokers were not received, provide a reasonable basis
for the opinion expressed above.
PRICE WATERHOUSE LLP
1177 Avenue of the Americas
New York, New York 10036
February 18, 1998
17
<PAGE>
DIVIDEND REINVESTMENT AND CASH PURCHASE PLAN
Pursuant to the Dividend Reinvestment and Cash Purchase Plan (the "Plan"),
each shareholder will be deemed to have elected, unless Boston Equiserve (the
"Plan Agent"), is otherwise instructed by the shareholder in writing, to have
all distributions automatically reinvested in Fund shares. Participants in the
Plan have the option of making additional voluntary cash payments to the Plan
Agent, annually, in any amount from $100 to $3,000, for investment in Fund
shares.
Dividend and capital gain distributions will be reinvested on the
reinvestment date in full and fractional shares. If the market price per share
equals or exceeds net asset value per share on the reinvestment date, the Fund
will issue shares to participants at net asset value. If net asset value is less
than 95% of the market price on the reinvestment date, shares will be issued at
95% of the market price. If net asset value exceeds the market price on the
reinvestment date, participants will receive shares valued at market price. The
Fund may purchase shares of its Common Stock in the open market in connection
with dividend reinvestment requirements at the discretion of the Board of
Directors. Should the Fund declare a dividend or capital gain distribution
payable only in cash, the Plan Agent will purchase Fund shares for participants
in the open market as agent for the participants.
The Plan Agent's fees for the reinvestment of dividends and distributions
will be paid by the Fund. However, each participant's account will be charged a
pro rata share of brokerage commissions incurred on any open market purchases
effected on such participant's behalf. A participant will also pay brokerage
commissions incurred on purchases made by voluntary cash payments. Although
shareholders in the Plan may receive no cash distributions, participation in the
Plan will not relieve participants of any income tax which may be payable on
such dividends or distributions.
In the case of shareholders, such as banks, brokers or nominees, which hold
shares for others who are the beneficial owners, the Plan Agent will administer
the Plan on the basis of the number of shares certified from time to time by the
shareholder as representing the total amount registered in the shareholder's
name and held for the account of beneficial owners who are participating in the
Plan.
Shareholders who do not wish to have distributions automatically reinvested
should notify the Plan Agent in writing. There is no penalty for
non-participation or withdrawal from the Plan, and shareholders who have
previously withdrawn from the Plan may rejoin at any time. Requests for
additional information or any correspondence concerning the Plan should be
directed to the Plan Agent at:
Morgan Stanley Emerging Markets Debt Fund, Inc.
Boston Equiserve
Dividend Reinvestment Unit
P.O. Box 1681
Boston, MA 02105-1681
1-800-730-6001
18
