<Page>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSR/A
CERTIFIED SHAREHOLDER REPORT OF REGISTERED
MANAGEMENT INVESTMENT COMPANIES
Investment Company Act file number: 811-05654
Morgan Stanley Quality Income Trust
(Exact name of registrant as specified in charter)
1221 Avenue of the Americas, New York, New York 10020
(Address of principal executive offices) (Zip code)
Ronald E. Robison
1221 Avenue of the Americas, New York, New York 10020
(Name and address of agent for service)
Registrant's telephone number, including area code: 212-762-4000
Date of fiscal year end: August 31, 2004
Date of reporting period: August 31, 2004
Item 1 - Report to Shareholders
<Page>
Welcome, Shareholder:
In this report, you'll learn about how your investment in Morgan Stanley Quality
Income Trust Fund performed during the annual period. We will provide an
overview of the market conditions, and discuss some of the factors that affected
performance during the reporting period. In addition, this report includes the
Fund's financial statements and a list of Fund investments.
This material must be preceded or accompanied by a prospectus for the fund being
offered. Market forecasts provided in this report may not necessarily come to
pass. There is no assurance that the Fund will achieve its investment objective.
The Fund is subject to market risk, which is the possibility that market values
of securities owned by the Fund will decline and, therefore, the value of the
Fund's shares may be less than what you paid for them. Accordingly, you can lose
money investing in this Fund.
<Page>
Fund Report
For the year ended August 31, 2004
TOTAL RETURN FOR THE 12-MONTH PERIOD ENDED AUGUST 31, 2004
<Table>
<Caption>
CLASS A CLASS B CLASS C CLASS D
6.57% 5.78% 5.77% 6.68%
</Table>
<Table>
<Caption>
LEHMAN LIPPER
BROTHERS LIPPER INTERMEDIATE
INTERMEDIATE CORPORATE INVESTMENT
U.S. DEBT GRADE DEBT
GOVERNMENT/ FUNDS BBB-RATED FUNDS
CREDIT INDEX(1) INDEX(2) INDEX(3)
5.07% 7.82% 6.14%
</Table>
THE PERFORMANCE OF THE FUND'S FOUR SHARE CLASSES VARIES BECAUSE EACH HAS
DIFFERENT EXPENSES. THE FUND'S TOTAL RETURN FIGURES ASSUME THE REINVESTMENT OF
ALL DISTRIBUTIONS BUT DO NOT REFLECT THE DEDUCTION OF ANY APPLICABLE SALES
CHARGES. SUCH COSTS WOULD LOWER PERFORMANCE. PAST PERFORMANCE IS NO GUARANTEE OF
FUTURE RESULTS. SEE PERFORMANCE SUMMARY FOR STANDARDIZED PERFORMANCE
INFORMATION.
MARKET CONDITIONS
The review period was marked by a substantial amount of data indicating a
stronger economy. While robust growth has historically led to higher interest
rates, rates actually fell during the first half of the review period, primarily
because of indications that the Federal Reserve Open Market Committee (the
"Fed") intended to keep the federal funds rate at low levels. At the time, the
Fed was concerned by a lack of employment growth, and investors remained
concerned about terrorism and other potentially deflationary forces.
This environment changed in April 2004. Rates rose abruptly with the publication
of strong March employment figures as well as upward revisions from prior
months. This report, along with higher oil prices and other price pressures, led
investors to the conclusion that the Fed would raise interest rates sooner than
had been anticipated. In fact, during this period the Fed affirmed its intent to
raise rates at a measured pace from multidecade lows. As expected, the Fed
raised the federal funds rate by 25 basis points (0.25 percent) at the end of
June and again at the beginning of August.
Performance by sectors varied during the period. Corporate bonds outperformed
government securities as investors sought out higher yields. Additionally, a
rising appetite for risk among investors led to the outperformance of
lower-rated issues, which outpaced higher-quality bonds by more than 200 basis
points over the 12-month period.
Government securities largely underperformed other sectors of the bond market
because of their high sensitivity to changes in interest rates as well as their
lack of yield relative to other sectors. Mortgage-backed securities (MBSs) also
lagged during the period. While this sector outperformed as rates rose in the
second half of the period, this was not enough to make up for their
underperformance resulting from falling interest rates and high prepayment
expectations in the first half.
PERFORMANCE ANALYSIS
Morgan Stanley Quality Income Trust outperformed the Lehman Brothers
Intermediate U.S. Government/Credit Index and underperformed the Lipper
Corporate Debt Funds BBB-Rated Index. The Fund's Class A and D shares
outperformed the Lipper Intermediate Investment Grade Debt Funds Index, while
its Class B
2
<Page>
and C shares underperformed that benchmark. The Fund's performance over the
period was driven largely by its interest-rate strategy. Our analysis of the
economy at the beginning of the period indicated that the next major movement in
interest rates was likely to be upward once employment growth materialized.
Accordingly, we moved to limit the impact of potential rate increases by
deemphasizing the five-year portion of the yield curve. This stance limited the
Fund's interest-rate sensitivity, a posture that became a drag on performance
when rates fell early in the period but ultimately contributed strongly to
returns when rates rose sharply in the second half of the Fund's fiscal year.
The Fund's corporate holdings also contributed positively to its performance
relative to the benchmark. We maintained our focus on corporate securities with
an overweighted position in the sector relative to the Lehman Brothers
Intermediate U.S. Government/Credit Index. This overweighting boosted the Fund's
returns by enhancing its exposure to outperforming corporate bonds. Our strategy
during the period was to emphasize bonds in the BBB-rating range, with a focus
on the industrial, paper and energy sectors. While this benefited performance
relative to the Lehman Index, an underweighting in lower-quality corporates
detracted from performance relative to the Lipper peer group.
[SIDENOTE]
INVESTMENT STRATEGY
THE FUND WILL NORMALLY INVEST AT LEAST 80 PERCENT OF ITS ASSETS IN
INVESTMENT-GRADE FIXED-INCOME SECURITIES. THESE SECURITIES MAY INCLUDE CORPORATE
DEBT SECURITIES, PREFERRED STOCKS, U.S. GOVERNMENT SECURITIES, AND
MORTGAGE-BACKED SECURITIES, INCLUDING COLLATERALIZED MORTGAGE OBLIGATIONS,
ASSET-BACKED SECURITIES AND SECURITIES ISSUED BY FOREIGN GOVERNMENTS OR
CORPORATIONS. IN DECIDING WHICH SECURITIES TO BUY, HOLD OR SELL, THE FUND'S
INVESTMENT MANAGER, MORGAN STANLEY INVESTMENT ADVISORS INC., CONSIDERS DOMESTIC
AND INTERNATIONAL ECONOMIC DEVELOPMENTS, INTEREST-RATE TRENDS, BOND RATINGS AND
OTHER FACTORS RELATING TO THE ISSUERS.
FOR MORE INFORMATION ABOUT PORTFOLIO HOLDINGS
EACH MORGAN STANLEY FUND PROVIDES A COMPLETE SCHEDULE OF PORTFOLIO HOLDINGS IN
ITS SEMIANNUAL AND ANNUAL REPORTS WITHIN 60 DAYS OF THE END OF THE FUND'S SECOND
AND FOURTH FISCAL QUARTERS BY FILING THE SCHEDULE ELECTRONICALLY WITH THE
SECURITIES AND EXCHANGE COMMISSION (SEC). THE SEMIANNUAL REPORTS ARE FILED ON
FORM N-CSRS AND THE ANNUAL REPORTS ARE FILED ON FORM N-CSR. MORGAN STANLEY ALSO
DELIVERS THE SEMIANNUAL AND ANNUAL REPORTS TO FUND SHAREHOLDERS, AND MAKES THESE
REPORTS AVAILABLE ON ITS PUBLIC WEB SITE, www.morganstanley.com. EACH MORGAN
STANLEY FUND ALSO FILES A COMPLETE SCHEDULE OF PORTFOLIO HOLDINGS WITH THE SEC
FOR THE FUND'S FIRST AND THIRD FISCAL QUARTERS ON FORM N-Q. MORGAN STANLEY DOES
NOT DELIVER THE REPORTS FOR THE FIRST AND THIRD FISCAL QUARTERS TO SHAREHOLDERS,
NOR ARE THE REPORTS POSTED TO THE MORGAN STANLEY PUBLIC WEB SITE. YOU MAY,
HOWEVER, OBTAIN THE FORM N-Q FILINGS (AS WELL AS THE FORM N-CSR AND N-CSRS
FILINGS) BY ACCESSING THE SEC'S WEB SITE,
3
<Page>
PORTFOLIO COMPOSITION*
<Table>
Corporate Bonds 90.7%
Asset-Backed Securities 4.0
Short-Term Investments 3.0
Foreign Government Obligations 2.2
Mortgage-Backed Securities 0.1
</Table>
LONG-TERM CREDIT ANALYSIS
<Table>
Aaa/AAA 7.7%
Aa/AA 5.8
A/A 35.0
Baa/BBB 46.0
Ba/BB 5.5
</Table>
DATA AS OF AUGUST 31, 2004. SUBJECT TO CHANGE DAILY. ALL PERCENTAGES FOR
PORTFOLIO COMPOSITION ARE AS A PERCENTAGE OF TOTAL INVESTMENTS AND ALL
PERCENTAGES FOR LONG-TERM CREDIT ANALYSIS ARE AS A PERCENTAGE OF TOTAL LONG-TERM
INVESTMENTS. PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND SHOULD NOT BE DEEMED A
RECOMMENDATION TO BUY OR SELL THE SECURITIES MENTIONED. MORGAN STANLEY IS A
FULL-SERVICE SECURITIES FIRM ENGAGED IN SECURITIES TRADING AND BROKERAGE
ACTIVITIES, INVESTMENT BANKING, RESEARCH AND ANALYSIS, FINANCING AND FINANCIAL
ADVISORY SERVICES.
* THE FUND HAS OUTSTANDING SHORT FUTURES CONTRACTS WITH AN UNDERLYING FACE
AMOUNT OF $20,566,391 WITH UNREALIZED DEPRECIATION OF $317,431.
[SIDENOTE]
http://www.sec.gov. YOU MAY ALSO REVIEW AND COPY THEM AT THE SEC'S PUBLIC
REFERENCE ROOM IN WASHINGTON, DC. INFORMATION ON THE OPERATION OF THE SEC'S
PUBLIC REFERENCE ROOM MAY BE OBTAINED BY CALLING THE SEC AT 1-800-SEC-0330. YOU
CAN ALSO REQUEST COPIES OF THESE MATERIALS, UPON PAYMENT OF A DUPLICATING FEE,
BY ELECTRONIC REQUEST AT THE SEC'S E-MAIL ADDRESS (publicinfo@sec.gov) OR BY
WRITING THE PUBLIC REFERENCE SECTION OF THE SEC, WASHINGTON, DC 20549-0102. YOU
MAY OBTAIN COPIES OF A FUND'S FISCAL QUARTER FILINGS BY CONTACTING MORGAN
STANLEY CLIENT RELATIONS AT 1-800-869-NEWS.
PROXY VOTING POLICIES AND PROCEDURES
A DESCRIPTION OF (1) THE FUND'S POLICIES AND PROCEDURES WITH RESPECT TO THE
VOTING OF PROXIES RELATING TO THE FUND'S PORTFOLIO SECURITIES AND (2) HOW THE
FUND VOTED PROXIES RELATING TO PORTFOLIO SECURITIES DURING THE MOST RECENT
12-MONTH PERIOD ENDED AUGUST 31 IS AVAILABLE WITHOUT CHARGE, UPON REQUEST, BY
CALLING 1-800-869-NEWS OR BY VISITING THE MUTUAL FUND CENTER ON OUR WEB SITE AT
www.morganstanley.com. THIS INFORMATION IS ALSO AVAILABLE ON THE SECURITIES AND
EXCHANGE COMMISSION'S WEB SITE AT http://www.sec.gov.
ANNUAL HOUSEHOLDING NOTICE
TO REDUCE PRINTING AND MAILING COSTS, THE FUND ATTEMPTS TO ELIMINATE DUPLICATE
MAILINGS TO THE SAME ADDRESS. THE FUND DELIVERS A SINGLE COPY OF CERTAIN
SHAREHOLDER DOCUMENTS, INCLUDING SHAREHOLDER REPORTS, PROSPECTUSES AND PROXY
MATERIALS, TO INVESTORS WITH THE SAME LAST NAME WHO RESIDE AT THE SAME ADDRESS.
YOUR PARTICIPATION IN THIS PROGRAM WILL CONTINUE FOR AN UNLIMITED PERIOD OF TIME
UNLESS YOU INSTRUCT US OTHERWISE. YOU CAN REQUEST MULTIPLE COPIES OF THESE
DOCUMENTS BY CALLING 1-800-350-6414, 8:00 A.M. TO 8:00 P.M. ET. ONCE OUR
CUSTOMER SERVICE CENTER HAS RECEIVED YOUR INSTRUCTIONS, WE WILL BEGIN SENDING
INDIVIDUAL COPIES FOR EACH ACCOUNT WITHIN 30 DAYS.
4
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(This page has been left blank intentionally.)
5
<Page>
Performance Summary
[CHART]
PERFORMANCE OF A $10,000 INVESTMENT--CLASS B
<Table>
<Caption>
($ IN THOUSANDS)
CLASS B@ LEHMAN(1) LIPPER CORPORATE(2) LIPPER INTERMEDIATE(3)
August 31, 1994 $ 10,000 $ 10,000 $ 10,000 $ 10,000
August 31, 1995 $ 10,856 $ 10,947 $ 11,179 $ 11,020
August 31, 1996 $ 11,136 $ 11,433 $ 11,673 $ 11,454
August 31, 1997 $ 12,019 $ 12,398 $ 13,039 $ 12,552
August 31, 1998 $ 12,803 $ 13,511 $ 14,019 $ 13,744
August 31, 1999 $ 12,922 $ 13,809 $ 14,106 $ 13,805
August 31, 2000 $ 13,154 $ 14,675 $ 14,938 $ 14,714
August 31, 2001 $ 14,410 $ 16,478 $ 16,536 $ 16,526
August 31, 2002 $ 15,070 $ 17,754 $ 17,042 $ 17,487
August 31, 2003 $ 15,316 $ 18,686 $ 18,544 $ 18,428
August 31, 2004 $ 16,201 $ 19,633 $ 19,995 $ 19,559
</Table>
6
<Page>
AVERAGE ANNUAL TOTAL RETURNS--PERIOD ENDED AUGUST 31, 2004
<Table>
<Caption>
CLASS A SHARES* CLASS B SHARES** CLASS C SHARES+ CLASS D SHARES++
(SINCE 07/28/97) (SINCE 05/03/89) (SINCE 07/28/97) (SINCE 07/28/97)
SYMBOL IISAX IISBX IISCX IISDX
1 YEAR 6.57%(4) 5.78%(4) 5.77%(4) 6.68%(4)
2.04(5) 0.78(5) 4.77(5) --
5 YEARS 5.51(4) 4.63(4) 4.65(4) 5.45(4)
4.59(5) 4.29(5) 4.65(5) --
10 YEARS -- 4.94(4) -- --
-- 4.94(5) -- --
SINCE INCEPTION 5.02(4) 5.54(4) 4.24(4) 5.06(4)
4.38(5) 5.54(5) 4.24(5) --
</Table>
PERFORMANCE DATA QUOTED REPRESENTS PAST PERFORMANCE, WHICH IS NO GUARANTEE OF
FUTURE RESULTS AND CURRENT PERFORMANCE MAY BE LOWER OR HIGHER THAN THE FIGURES
SHOWN. FOR MOST RECENT MONTH-END PERFORMANCE FIGURES, PLEASE VISIT
morganstanley.com OR SPEAK WITH YOUR FINANCIAL ADVISOR. INVESTMENT RETURNS AND
PRINCIPAL VALUE WILL FLUCTUATE AND FUND SHARES, WHEN REDEEMED, MAY BE WORTH MORE
OR LESS THAN THEIR ORIGINAL COST. THE GRAPH AND TABLE DO NOT REFLECT THE
DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE
REDEMPTION OF FUND SHARES. PERFORMANCE FOR CLASS A, CLASS B, CLASS C, AND CLASS
D SHARES WILL VARY DUE TO DIFFERENCES IN SALES CHARGES AND EXPENSES.
* THE MAXIMUM FRONT-END SALES CHARGE FOR CLASS A IS 4.25%.
** THE MAXIMUM CONTINGENT DEFERRED SALES CHARGE (CDSC) FOR CLASS B IS 5.0%.
THE CDSC DECLINES TO 0% AFTER SIX YEARS.
+ THE MAXIMUM CONTINGENT DEFERRED SALES CHARGE FOR CLASS C IS 1% FOR SHARES
REDEEMED WITHIN ONE YEAR OF PURCHASE.
++ CLASS D HAS NO SALES CHARGE.
(1) THE LEHMAN BROTHERS INTERMEDIATE U.S. GOVERNMENT/CREDIT INDEX TRACKS THE
PERFORMANCE OF U.S. GOVERNMENT AND CORPORATE OBLIGATIONS, INCLUDING U.S.
GOVERNMENT AGENCY AND TREASURY SECURITIES, AND CORPORATE AND YANKEE BONDS
WITH MATURITIES OF 1 TO 10 YEARS. INDEXES ARE UNMANAGED AND THEIR RETURNS
DO NOT INCLUDE ANY SALES CHARGES OR FEES. SUCH COSTS WOULD LOWER
PERFORMANCE. IT IS NOT POSSIBLE TO INVEST DIRECTLY IN AN INDEX.
(2) THE LIPPER CORPORATE DEBT FUNDS BBB-RATED INDEX IS AN EQUALLY WEIGHTED
PERFORMANCE INDEX OF THE LARGEST QUALIFYING FUNDS (BASED ON NET ASSETS) IN
THE LIPPER CORPORATE DEBT FUNDS BBB-RATED CLASSIFICATION. THE INDEX, WHICH
IS ADJUSTED FOR CAPITAL GAINS DISTRIBUTIONS AND INCOME DIVIDENDS, IS
UNMANAGED AND SHOULD NOT BE CONSIDERED AN INVESTMENT. THERE ARE CURRENTLY
30 FUNDS REPRESENTED IN THIS INDEX. AS OF THE DATE OF THIS REPORT, THE FUND
IS IN THE LIPPER CORPORATE DEBT FUNDS BBB-RATED CLASSIFICATION.
(3) THE LIPPER INTERMEDIATE INVESTMENT GRADE DEBT FUNDS INDEX IS AN EQUALLY
WEIGHTED PERFORMANCE INDEX OF THE LARGEST QUALIFYING FUNDS (BASED ON NET
ASSETS) IN THE LIPPER INTERMEDIATE INVESTMENT GRADE DEBT FUNDS
CLASSIFICATION. THE INDEX, WHICH IS ADJUSTED FOR CAPITAL GAINS
DISTRIBUTIONS AND INCOME DIVIDENDS, IS UNMANAGED AND SHOULD NOT BE
CONSIDERED AN INVESTMENT. THERE ARE CURRENTLY 30 FUNDS REPRESENTED IN THIS
INDEX.
(4) FIGURE SHOWN ASSUMES REINVESTMENT OF ALL DISTRIBUTIONS AND DOES NOT REFLECT
THE DEDUCTION OF ANY SALES CHARGES.
(5) FIGURE SHOWN ASSUMES REINVESTMENT OF ALL DISTRIBUTIONS AND THE DEDUCTION OF
THE MAXIMUM APPLICABLE SALES CHARGE. SEE THE FUND'S CURRENT PROSPECTUS FOR
COMPLETE DETAILS ON FEES AND SALES CHARGES.
@ ENDING VALUE ASSUMING A COMPLETE REDEMPTION ON AUGUST 31, 2004.
7
<Page>
Expense Example
As a shareholder of the Fund, you incur ongoing costs, including management
fees; distribution and service (12b-1) fees; and other Fund expenses. This
example is intended to help you understand your ongoing costs (in dollars) of
investing in the Fund and to compare these costs with the ongoing costs of
investing in other mutual funds.
The example is based on an investment of $1,000 invested at the beginning of the
period and held for the entire period 03/01/04 - 08/31/04.
ACTUAL EXPENSES
The first line of the table below provides information about actual account
values and actual expenses. You may use the information in this line, together
with the amount you invested, to estimate the expenses that you paid over the
period. Simply divide your account value by $1,000 (for example, an $8,600
account value divided by $1,000 = 8.6), then multiply the result by the number
in the first line under the heading entitled "Expenses Paid During Period" to
estimate the expenses you paid on your account during this period.
HYPOTHETICAL EXAMPLE FOR COMPARISON PURPOSES
The second line of the table below provides information about hypothetical
expenses based on the Fund's actual expense ratio and an assumed rate of return
of 5% per year before expenses, which is not the Fund's actual return. The
hypothetical account values and expenses may not be used to estimate the actual
ending account balance or expenses you paid for the period. You may use this
information to compare the ongoing cost of investing in the Fund and other
funds. To do so, compare this 5% hypothetical example with the 5% hypothetical
examples that appear in the shareholder reports of the other funds.
Please note that the expenses shown in the table are meant to highlight your
ongoing costs only. Therefore, the second line of the table is useful in
comparing ongoing costs, and will not help you determine the relative total cost
of owning different funds that have transactional costs, such as sales charges
(loads), and redemption fees, or exchange fees.
<Table>
<Caption>
BEGINNING ENDING EXPENSES PAID
ACCOUNT VALUE ACCOUNT VALUE DURING PERIOD *
--------------- --------------- ---------------
03/01/04 -
03/01/04 08/31/04 08/31/04
--------------- --------------- ---------------
CLASS A
Actual (0.79% return) $ 1,000.00 $ 1,007.90 $ 5.25
Hypothetical (5% return before expenses) $ 1,000.00 $ 1,019.91 $ 5.28
CLASS B
Actual (0.31% return) $ 1,000.00 $ 1,003.10 $ 8.81
Hypothetical (5% return before expenses) $ 1,000.00 $ 1,016.34 $ 8.87
CLASS C
Actual (0.42% return) $ 1,000.00 $ 1,004.20 $ 8.82
Hypothetical (5% return before expenses) $ 1,000.00 $ 1,016.34 $ 8.87
CLASS D
Actual (0.84% return) $ 1,000.00 $ 1,008.40 $ 4.54
Hypothetical (5% return before expenses) $ 1,000.00 $ 1,020.61 $ 4.57
</Table>
- ----------
* EXPENSES ARE EQUAL TO THE FUND'S ANNUALIZED EXPENSE RATIO OF 1.04%, 1.75%,
1.75% AND 0.90% RESPECTIVELY, MULTIPLIED BY THE AVERAGE ACCOUNT VALUE OVER
THE PERIOD, MULTIPLIED BY 184/366 (TO REFLECT THE ONE-HALF YEAR PERIOD).
THESE RATIOS REFLECT AN EXPENSE CAP THAT TOOK EFFECT MAY 1, 2004. IF THE
FUND HAD BORNE ALL OF ITS EXPENSES, THE ANNUALIZED EXPENSE RATIOS WOULD
HAVE BEEN 1.13%, 1.85%, 1.85% AND 1.00%, RESPECTIVELY.
8
<Page>
MORGAN STANLEY QUALITY INCOME TRUST
PORTFOLIO OF INVESTMENTS - AUGUST 31, 2004
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
CORPORATE BONDS (89.7%)
ADVERTISING/MARKETING SERVICES (0.6%)
$ 595 WPP Finance (UK) Corp. - 144A* 5.875% 06/15/14 $ 610,531
------------
AEROSPACE & DEFENSE (2.2%)
160 Lockheed Martin Corp. 7.70 06/15/08 182,980
325 Northrop Grumman Corp. 7.125 02/15/11 374,147
365 Raytheon Co. 4.50 11/15/07 378,053
300 Raytheon Co. 4.85 01/15/11 308,445
55 Raytheon Co. 6.75 08/15/07 60,379
100 Raytheon Co. 8.30 03/01/10 119,853
557 Systems 2001 Asset Trust - 144A* 6.664 09/15/13 620,947
------------
2,044,804
------------
AIR FREIGHT/COURIERS (0.5%)
125 FedEx Corp. 2.65 04/01/07 123,418
280 FedEx Corp. 7.25 02/15/11 321,390
------------
444,808
------------
AIRLINES (1.0%)
249 American West Airlines 7.10 04/02/21 268,299
234 Continental Airlines, Inc. 6.648 09/15/17 218,859
455 Continental Airlines, Inc. (Series 991A) 6.545 02/02/19 430,821
------------
917,979
------------
AUTO PARTS: O.E.M. (0.3%)
265 Johnson Controls, Inc. 5.00 11/15/06 276,957
------------
BEVERAGES: ALCOHOLIC (0.5%)
450 Miller Brewing Co. - 144A* 4.25 08/15/08 458,211
------------
BROADCASTING (0.4%)
340 Clear Channel Communications, Inc. 7.65 09/15/10 389,638
------------
BUILDING PRODUCTS (0.2%)
160 Masco Corp. 4.625 08/15/07 165,776
------------
CABLE/SATELLITE TV (1.6%)
1,040 Comcast Corp. 6.50 01/15/15 1,122,025
395 Echostar DBS Corp. 6.375 10/01/11 397,962
------------
1,519,987
------------
CASINO/GAMING (1.8%)
1,075 Harrah's Operating Co., Inc. - 144A* 5.50 07/01/10 1,102,082
540 MGM Mirage Inc. 8.50 09/15/10 610,200
------------
1,712,282
------------
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
9
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
CHEMICALS: MAJOR DIVERSIFIED (0.4%)
$ 345 ICI Wilmington Inc. 4.375% 12/01/08 $ 348,040
------------
CONTAINERS/PACKAGING (0.9%)
290 Packaging Corp. of America 5.75 08/01/13 298,018
540 Sealed Air Corp - 144A* 5.625 07/15/13 553,979
------------
851,997
------------
DEPARTMENT STORES (2.3%)
720 Federated Department Stores, Inc. 7.00 02/15/28 794,958
1,045 May Department Stores Co., Inc. 5.95 11/01/08 1,116,137
170 May Department Stores Co., Inc. 6.70 09/15/28 177,377
130 May Department Stores Co., Inc. 6.875 11/01/05 136,119
------------
2,224,591
------------
DRUGSTORE CHAINS (1.2%)
425 CVS Corp. 5.625 03/15/06 444,123
592 CVS Corp. - 144A* 5.789 01/10/26 600,078
54 CVS Corp. - 144A* 6.204 10/10/25 56,889
------------
1,101,090
------------
ELECTRIC UTILITIES (7.2%)
215 Appalachian Power Co. (Series H) 5.95 05/15/33 210,376
560 Arizona Public Service Co. 5.80 06/30/14 587,702
105 Cincinnati Gas & Electric Co. 5.70 09/15/12 111,085
260 Cincinnati Gas & Electric Co. (Series A) 5.40 06/15/33 236,769
500 Cincinnati Gas & Electric Co. (Series B) 5.375 06/15/33 453,632
525 Columbus Southern Power Co. (Series D) 6.60 03/01/33 567,076
55 Detroit Edison Co. 6.125 10/01/10 60,221
535 Duke Energy Corp. 4.50 04/01/10 544,276
285 Entergy Gulf States, Inc. 3.60 06/01/08 282,019
795 Exelon Corp. 6.75 05/01/11 887,654
315 Jersey Central Power & Light Co. - 144A* 5.625 05/01/16 327,943
515 Pacific Gas & Electric Co. 6.05 03/01/34 518,610
130 Public Service Electric & Gas Co. 5.00 01/01/13 133,095
260 South Carolina Electric & Gas Co. 5.30 05/15/33 246,455
110 Southern California Edison Co. 5.00 01/15/14 112,045
235 Texas Eastern Transmission, L.P. 7.00 07/15/32 264,350
180 Texas-New Mexico Power Co. 6.25 01/15/09 190,559
430 TXU Energy Co. 7.00 03/15/13 482,755
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
10
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
$ 345 Westar Energy Inc.
6.00% 07/01/14 $ 367,887
235 Wisconsin Electric Power Co. 5.625 05/15/33 232,862
------------
6,817,371
------------
ELECTRICAL PRODUCTS (0.5%)
480 Cooper Industries Inc. 5.25 07/01/07 506,054
------------
ELECTRONIC EQUIPMENT/INSTRUMENTS (0.7%)
585 Xerox Corp. 7.125 06/15/10 623,025
------------
ENVIRONMENTAL SERVICES (1.0%)
544 USA Waste Services, Inc. 7.00 07/15/28 596,709
310 USA Waste Services, Inc. 7.125 10/01/07 343,848
------------
940,557
------------
FINANCE/RENTAL/LEASING (6.4%)
510 CIT Group Inc. 2.875 09/29/06 508,808
320 CIT Group Inc. 7.375 04/02/07 353,100
960 Countrywide Home Loans, Inc. 3.25 05/21/08 945,486
1,020 Ford Motor Credit Co. 7.25 10/25/11 1,100,585
800 Ford Motor Credit Co. 7.375 10/28/09 876,543
870 MBNA Corp. 6.125 03/01/13 931,163
745 SLM Corp. 5.00 10/01/13 746,181
525 Toyota Motor Credit Corp. (Series MTN) 5.65 01/15/07 556,201
------------
6,018,067
------------
FINANCIAL CONGLOMERATES (6.6%)
735 Chase Manhattan Corp. 6.00 02/15/09 796,032
500 Citicorp 6.375 11/15/08 551,468
100 Citigroup Inc. 5.625 08/27/12 106,891
265 Citigroup Inc. 6.00 02/21/12 291,316
385 General Motors Acceptance Corp. 4.50 07/15/06 393,207
2,000 General Motors Acceptance Corp. 6.875 09/15/11 2,096,814
1,080 General Motors Acceptance Corp. 8.00 11/01/31 1,122,170
410 Prudential Funding LLC (Series MTN) - 144A* 6.60 05/15/08 456,700
170 Prudential Holdings, LLC (Series B) (FSA) - 144A* 7.245 12/18/23 199,378
200 Prudential Holdings, LLC (Series C) - 144A* 8.695 12/18/23 253,427
------------
6,267,403
------------
FOOD RETAIL (1.5%)
340 Albertson's, Inc. 7.50 02/15/11 394,548
475 Kroger Co. 6.80 04/01/11 532,244
300 Kroger Co. 7.50 04/01/31 348,505
160 Safeway Inc. 6.15 03/01/06 167,666
------------
1,442,963
------------
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
11
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
FOOD: MAJOR DIVERSIFIED (1.2%)
$ 1,085 Kraft Foods Inc. 5.625% 11/01/11 $ 1,150,290
------------
FOOD: MEAT/FISH/DAIRY (0.3%)
230 Conagra Foods, Inc. 6.00 09/15/06 243,244
------------
FOREST PRODUCTS (1.4%)
150 Weyerhaeuser Co. 6.00 08/01/06 158,274
1,055 Weyerhaeuser Co. 6.75 03/15/12 1,182,222
------------
1,340,496
------------
GAS DISTRIBUTORS (0.7%)
95 Northwest Pipeline Corp. 8.125 03/01/10 107,469
140 Panhandle Eastern Pipe Line Co. (Series B) 2.75 03/15/07 136,573
39 Ras Laffan Liquid Natural
Gas Co. Ltd. - 144A* (Qatar) 7.628 09/15/06 40,621
335 Ras Laffan Liquid Natural
Gas Co. Ltd. - 144A* (Qatar) 8.294 03/15/14 395,920
------------
680,583
------------
HOME FURNISHINGS (0.3%)
130 Mohawk Industries, Inc. (Class C) 6.50 04/15/07 139,820
110 Mohawk Industries, Inc. (Series D) 7.20 04/15/12 126,705
------------
266,525
------------
HOME IMPROVEMENT CHAINS (0.8%)
295 Lowe's Companies, Inc. 6.50 03/15/29 325,343
71 Lowe's Companies, Inc. 6.875 02/15/28 81,526
300 Lowe's Companies, Inc. 7.50 12/15/05 319,446
------------
726,315
------------
HOSPITAL/NURSING MANAGEMENT (0.7%)
625 HCA Inc. 6.30 10/01/12 648,766
------------
HOTELS/RESORTS/CRUISELINES (2.4%)
725 Hilton Hotels Corp. 7.625 12/01/12 831,938
695 Hyatt Equities LLC - 144A* 6.875 06/15/07 745,869
195 Marriott International, Inc. (Series D) 8.125 04/01/05 201,195
265 Marriott International, Inc. (Series E) 7.00 01/15/08 291,129
195 Starwood Hotels & Resorts Worldwide, Inc. 7.375 05/01/07 209,625
------------
2,279,756
------------
INDUSTRIAL CONGLOMERATES (3.3%)
925 General Electric Capital Corp. 6.75 03/15/32 1,054,172
515 Honeywell International, Inc. 5.125 11/01/06 538,865
550 Honeywell International, Inc. 7.50 03/01/10 641,621
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
12
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
$ 315 Hutchison Whampoa International Ltd. - 144A*
(Virgin Islands) 5.45% 11/24/10 $ 324,395
515 Hutchison Whampoa International Ltd. - 144A*
(Virgin Islands) 6.50 02/13/13 544,551
------------
3,103,604
------------
INFORMATION TECHNOLOGY SERVICES (0.6%)
260 Electronic Data Systems Corp. 7.125 10/15/09 277,502
330 Electronic Data Systems Corp. (Series B) 6.50 08/01/13 327,101
------------
604,603
------------
INSURANCE BROKERS/SERVICES (1.4%)
1,335 Farmers Exchange Capital - 144A* 7.05 07/15/28 1,360,496
------------
INTEGRATED OIL (1.8%)
750 Amerada Hess Corp. 7.875 10/01/29 857,779
345 Conoco Funding Co. 6.35 10/15/11 385,485
40 Petro-Canada (Canada) 4.00 07/15/13 37,295
415 Petro-Canada (Canada) 5.35 07/15/33 373,517
------------
1,654,076
------------
INVESTMENT BANKS/BROKERS (1.1%)
400 Goldman Sachs Group Inc. 5.25 10/15/13 407,050
90 Goldman Sachs Group Inc. 6.60 01/15/12 100,490
480 Goldman Sachs Group Inc. 6.875 01/15/11 542,512
------------
1,050,052
------------
LIFE/HEALTH INSURANCE (0.6%)
475 John Hancock Global Funding II - 144A* 7.90 07/02/10 562,347
------------
MAJOR BANKS (2.4%)
980 Bank of America Corp. 3.375 02/17/09 966,510
250 Bank of New York (The) 5.20 07/01/07 263,426
475 First Union National Bank (Series BKNT) 7.80 08/18/10 560,649
480 Huntington National Bank 2.75 10/16/06 481,127
------------
2,271,712
------------
MAJOR TELECOMMUNICATIONS (5.2%)
420 AT&T Corp. 8.75 11/15/31 443,100
150 Deutsche Telekom International Finance Corp.
(Netherlands) 8.50 06/15/10 180,145
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
13
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
$ 455 Deutsche Telekom International Finance Corp.
(Netherlands) 8.75% 06/15/30 $ 584,973
305 France Telecom S.A. (France) 9.50 03/01/31 402,667
80 GTE Corp. 6.36 04/15/06 84,468
240 Sprint Capital Corp. 8.75 03/15/32 304,760
480 Telecom Italia Capital SpA - 144A* (Italy) 4.00 11/15/08 482,523
165 Verizon Global Funding Corp. 7.25 12/01/10 189,631
1,910 Verizon Global Funding Corp. 7.75 12/01/30 2,268,849
------------
4,941,116
------------
MANAGED HEALTH CARE (4.0%)
1,000 Aetna, Inc. 7.875 03/01/11 1,179,688
885 Anthem Insurance - 144A* 9.125 04/01/10 1,099,038
60 Anthem, Inc. 6.80 08/01/12 67,702
790 Health Net, Inc. 8.375 04/15/11 949,464
270 UnitedHealth Group Inc. 7.50 11/15/05 285,816
175 Wellpoint Health Network, Inc. 6.375 06/15/06 185,274
------------
3,766,982
------------
MEDIA CONGLOMERATES (3.4%)
600 News America Holdings, Inc. 7.75 02/01/24 701,539
50 News America Holdings, Inc. 8.875 04/26/23 64,706
65 News America, Inc. 4.75 03/15/10 66,414
730 News America, Inc. 7.28 06/30/28 823,755
530 Time Warner Co., Inc. 7.57 02/01/24 599,662
500 Time Warner Inc. 7.625 04/15/31 572,182
295 Time Warner Inc. 7.70 05/01/32 341,026
------------
3,169,284
------------
MEDICAL SPECIALTIES (0.2%)
190 Fisher Scientific International Inc. - 144A* 6.75 08/15/14 197,125
------------
MOTOR VEHICLES (1.3%)
345 DaimlerChrysler North American Holdings Co. 7.30 01/15/12 390,350
215 DaimlerChrysler North American Holdings Co. 8.00 06/15/10 250,021
490 DaimlerChrysler North American Holdings Co. 8.50 01/18/31 599,490
------------
1,239,861
------------
MULTI-LINE INSURANCE (3.0%)
505 AIG Sun America Global Finance VI - 144A* 6.30 05/10/11 557,374
565 American General Finance Corp. 4.625 09/01/10 572,363
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
14
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
$ 625 American General Finance Corp. 5.875% 07/14/06 $ 659,501
365 Equitable Life Assurance Society - 144A* 6.95 12/01/05 384,668
135 Hartford Financial Services Group, Inc. 2.375 06/01/06 133,835
500 Hartford Financial Services Group, Inc. 7.75 06/15/05 520,178
------------
2,827,919
------------
OIL & GAS PIPELINES (0.8%)
525 GulfTerra Energy Partners, L.P. 6.25 06/01/10 580,781
120 Transcontinental Gas Pipe Line Corp. (Series B) 8.875 07/15/12 146,100
------------
726,881
------------
OIL & GAS PRODUCTION (4.9%)
470 Consolidated Natural Gas Co. (Series B) 5.375 11/01/06 491,601
410 Kerr-McGee Corp. 5.875 09/15/06 431,445
230 Kerr-McGee Corp. 6.625 10/15/07 250,073
330 Kerr-McGee Corp. 7.875 09/15/31 384,818
485 Nexen Inc. (Canada) 5.05 11/20/13 483,162
605 Occidental Peteroleum Corp. 8.45 02/15/29 804,801
155 Pemex Project Funding Master Trust 7.375 12/15/14 170,345
210 Pemex Project Funding Master Trust 7.875 02/01/09 236,775
1,170 Pemex Project Funding Master Trust 8.00 11/15/11 1,336,725
------------
4,589,745
------------
OIL REFINING/MARKETING (0.6%)
140 Ashland Inc. 7.83 08/15/05 145,949
300 Marathon Oil Corp. 5.375 06/01/07 316,155
120 Marathon Oil Corp. 6.00 07/01/12 129,445
------------
591,549
------------
OTHER METALS/MINERALS (0.9%)
365 Inco Ltd. (Canada) 7.20 09/15/32 407,187
395 Inco Ltd. (Canada) 7.75 05/15/12 462,420
------------
869,607
------------
PROPERTY - CASUALTY INSURERS (0.9%)
875 Mantis Reef Ltd. - 144A* 4.692 11/14/08 886,585
------------
PULP & PAPER (2.2%)
590 Abitibi-Consolidated Inc. (Canada) 8.55 08/01/10 637,200
505 Bowater Canada Finance (Canada) 7.95 11/15/11 537,842
390 International Paper Co. 4.25 01/15/09 392,689
130 International Paper Co. 5.85 10/30/12 137,274
370 Sappi Papier Holding AG - 144A* (Austria) 6.75 06/15/12 403,299
------------
2,108,304
------------
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
15
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- --------------------------------------------------------------------------------------------------------------------------------
REAL ESTATE DEVELOPMENT (0.8%)
$ 370 World Financial Properties - 144A* 6.91 % 09/01/13 $ 413,324
273 World Financial Properties - 144A* 6.95 09/01/13 305,924
------------
719,248
------------
REAL ESTATE INVESTMENT TRUSTS (0.5%)
100 EOP Operating L.P. 4.75 03/15/14 95,689
270 Rouse Co. (The) 3.625 03/15/09 252,520
135 Rouse Co. (The) 5.375 11/26/13 127,201
------------
475,410
------------
REGIONAL BANKS (0.2%)
175 US Bancorp 5.10 07/15/07 183,918
------------
RESTAURANTS (0.4%)
310 Tricon Global Restaurants, Inc. 8.875 04/15/11 384,457
------------
SAVINGS BANKS (1.7%)
70 Household Finance Corp. 6.375 10/15/11 77,266
675 Household Finance Corp. 6.75 05/15/11 759,349
685 Washington Mutual Bank 5.50 01/15/13 710,748
20 Washington Mutual Inc. 8.25 04/01/10 23,762
------------
1,571,125
------------
SPECIALTY STORES (0.5%)
185 Autonation, Inc. 9.00 08/01/08 212,287
290 Toys "R" Us 7.875 04/15/13 288,187
------------
500,474
------------
TOBACCO (0.9%)
305 Altria Group, Inc. 7.00 11/04/13 322,047
535 Altria Group, Inc. 7.75 01/15/27 567,243
------------
889,290
------------
WIRELESS TELECOMMUNICATIONS (0.5%)
390 AT&T Wireless Services, Inc. 7.875 03/01/11 460,264
------------
TOTAL CORPORATE BONDS
(COST $83,277,779) 84,724,140
------------
ASSET-BACKED SECURITIES (4.0%)
FINANCE/RENTAL/LEASING (4.0%)
550 Chase Manhattan Auto Owners Trust 2004-A A4 2.83 09/15/10 545,458
350 CIT Equipment Collateral 2004-EF1 A3 3.50 09/20/08 351,250
550 Daimler Chrysler Auto Trust 2003-B A4 2.86 03/09/09 549,288
450 Harley-Davidson Motorcycle Trust 2004-2 A2 3.56 02/15/12 455,691
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
16
<Page>
<Table>
<Caption>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- ----------------------------------------------------------------------------------------------------------------------------------
$ 550 Honda Auto Receivables Owner Trust 2004-1 A4 3.06 % 10/21/09 $ 549,595
800 MBNA Credit Card Master Trust 2004-A4 A4 2.70 09/15/09 794,178
500 TXU Electric Delivery Transition Bond
Company LLC 2004-1 A2 4.81 11/15/12 515,898
------------
TOTAL ASSET-BACKED SECURITIES
(COST $3,763,305) 3,761,358
------------
FOREIGN GOVERNMENT OBLIGATIONS (2.1%)
820 United Mexican States Corp. (Mexico) 8.30 08/15/31 942,180
860 United Mexican States Corp. (Mexico) 9.875 02/01/10 1,069,410
------------
TOTAL FOREIGN GOVERNMENT OBLIGATIONS
(COST $2,019,765) 2,011,590
------------
U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES (0.1%)
34 Federal Home Loan Mortgage Corp. 7.50 09/01/30 36,689
Federal National Mortgage Association
2 7.00 01/01/30 2,424
79 7.50 09/01/29 - 04/01/32 85,346
------------
TOTAL U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES
(COST $122,033) 124,459
------------
SHORT-TERM INVESTMENTS (3.0%)
U.S. GOVERNMENT OBLIGATION (a) (0.3%)
300 U.S. Treasury Bill **
(COST $299,820) 0.98 09/23/04 299,820
------------
REPURCHASE AGREEMENT (2.7%)
2,487 Joint repurchase agreement account
(dated 08/31/04; proceeds $2,487,108) (b)
(COST $2,487,000) 1.57 09/01/04 2,487,000
------------
TOTAL SHORT-TERM INVESTMENTS
(COST $2,786,820) 2,786,820
------------
TOTAL INVESTMENTS
(COST $91,969,702) (c) (d) 98.9% 93,408,367
OTHER ASSETS IN EXCESS OF LIABILITIES 1.1 1,030,673
----- ------------
NET ASSETS 100.0% $ 94,439,040
===== ============
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
17
<Page>
- ----------
* RESALE IS RESTRICTED TO QUALIFIED INSTITUTIONAL INVESTORS.
** A PORTION OF THESE SECURITIES HAVE BEEN PHYSICALLY SEGREGATED IN
CONNECTION WITH OPEN FUTURES CONTRACTS IN THE AMOUNT OF $128,850.
(a) PURCHASED ON A DISCOUNT BASIS. THE INTEREST RATE SHOWN HAS BEEN ADJUSTED
TO REFLECT A MONEY MARKET EQUIVALENT YIELD.
(b) COLLATERALIZED BY FEDERAL AGENCY AND U.S. TREASURY OBLIGATIONS.
(c) SECURITIES HAVE BEEN DESIGNATED AS COLLATERAL IN A AMOUNT EQUAL TO
$20,040,269 IN CONNECTION WITH OPEN FUTURES CONTRACTS.
(d) THE AGGREGATE COST FOR FEDERAL INCOME TAX PURPOSES IS $92,513,002. THE
AGGREGATE GROSS UNREALIZED APPRECIATION IS $1,585,155 AND THE AGGREGATE
GROSS UNREALIZED DEPRECIATION IS $689,790, RESULTING IN NET UNREALIZED
APPRECIATION OF $895,365.
BOND INSURANCE:
- ----------
FSA FINANCIAL SECURITY ASSURANCE.
FUTURES CONTRACTS OPEN AT AUGUST 31, 2004:
<Table>
<Caption>
NUMBER OF DESCRIPTION/DELIVERY UNDERLYING FACE UNREALIZED
CONTRACTS LONG/SHORT MONTH AND YEAR AMOUNT AT VALUE DEPRECIATION
- -----------------------------------------------------------------------------------------------------------
25 Short U.S. Treasury Bond 20 Year, September 2004 $ (2,813,281) $ (214,431)
15 Short U.S. Treasury Bond 20 Year, December 2004 (1,669,688) (8,488)
1 Short U.S. Treasury Notes 10 Year, September 2004 (113,469) (3,003)
24 Short U.S. Treasury Notes 10 Year, December 2004 (2,695,500) (30,170)
30 Short U.S. Treasury Notes 5 Year, December 2004 (3,320,156) (29,678)
6 Short U.S. Treasury Notes 2 Year, September 2004 (1,275,750) (15,485)
41 Short U.S. Treasury Notes 2 Year, December 2004 (8,678,547) (16,176)
------------
Total unrealized depreciation $ (317,431)
============
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
18
<Page>
MORGAN STANLEY QUALITY INCOME TRUST
FINANCIAL STATEMENTS
STATEMENT OF ASSETS AND LIABILITIES
AUGUST 31, 2004
<Table>
ASSETS:
Investments in securities, at value (cost $91,969,702) $ 93,408,367
Receivable for:
Interest 1,477,407
Investments sold 178,456
Shares of beneficial interest sold 7,530
Prepaid expenses and other assets 18,630
---------------
TOTAL ASSETS 95,090,390
---------------
LIABILITIES:
Payable for:
Shares of beneficial interest redeemed 290,221
Distribution fee 61,880
Variation margin 60,454
Investment management fee 44,417
Dividends and distributions to shareholders 43,601
Payable to bank 11,876
Accrued expenses and other payables 138,901
---------------
TOTAL LIABILITIES 651,350
---------------
NET ASSETS $ 94,439,040
---------------
COMPOSITION OF NET ASSETS:
Paid-in-capital $ 102,630,425
Net unrealized appreciation 1,121,234
Dividends in excess of net investment income (549,749)
Accumulated net realized loss (8,762,870)
---------------
NET ASSETS $ 94,439,040
===============
CLASS A SHARES:
Net Assets $ 7,627,752
Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 797,479
NET ASSET VALUE PER SHARE $ 9.56
===============
MAXIMUM OFFERING PRICE PER SHARE,
(NET ASSET VALUE PLUS 4.44% OF NET ASSET VALUE) $ 9.98
===============
CLASS B SHARES:
Net Assets $ 73,650,223
Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 7,768,218
NET ASSET VALUE PER SHARE $ 9.48
===============
CLASS C SHARES:
Net Assets $ 7,473,801
Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 786,769
NET ASSET VALUE PER SHARE $ 9.50
===============
CLASS D SHARES:
Net Assets $ 5,687,264
Shares Outstanding (UNLIMITED AUTHORIZED, $.01 PAR VALUE) 601,882
NET ASSET VALUE PER SHARE $ 9.45
===============
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
19
<Page>
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED AUGUST 31, 2004
<Table>
NET INVESTMENT INCOME:
INTEREST INCOME $ 5,601,273
EXPENSES
Distribution fee (Class A shares) 14,495
Distribution fee (Class B shares) 748,335
Distribution fee (Class C shares) 72,080
Investment management fee 665,388
Transfer agent fees and expenses 172,898
Shareholder reports and notices 107,585
Registration fees 81,148
Professional fees 76,630
Custodian fees 26,016
Trustees' fees and expenses 8,615
Other 20,725
---------------
TOTAL EXPENSES 1,993,915
---------------
Less: amounts waived/reimbursed (48,253)
---------------
NET EXPENSES 1,945,662
---------------
NET INVESTMENT INCOME 3,655,611
---------------
NET REALIZED AND UNREALIZED GAIN (LOSS):
NET REALIZED GAIN/LOSS ON:
Investments 674,815
Futures contracts (612,741)
---------------
NET REALIZED GAIN 62,074
---------------
NET CHANGE IN UNREALIZED APPRECIATION/DEPRECIATION ON:
Investments 3,143,491
Futures contracts (489,196)
---------------
NET APPRECIATION 2,654,295
---------------
NET GAIN 2,716,369
---------------
NET INCREASE $ 6,371,980
===============
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
20
<Page>
STATEMENT OF CHANGES IN NET ASSETS
<Table>
<Caption>
FOR THE YEAR FOR THE YEAR
ENDED ENDED
AUGUST 31, 2004 AUGUST 31, 2003
--------------- ---------------
INCREASE (DECREASE) IN NET ASSETS:
OPERATIONS:
Net investment income $ 3,655,611 $ 2,110,561
Net realized gain 62,074 1,830,654
Net change in unrealized depreciation 2,654,295 (1,748,491)
--------------- ---------------
NET INCREASE 6,371,980 2,192,724
--------------- ---------------
DIVIDENDS TO SHAREHOLDERS FROM NET INVESTMENT INCOME:
Class A shares (350,990) (316,276)
Class B shares (3,453,039) (3,155,485)
Class C shares (332,476) (264,530)
Class D shares (321,400) (356,548)
--------------- ---------------
TOTAL DIVIDENDS (4,457,905) (4,092,839)
--------------- ---------------
Net decrease from transactions in shares of beneficial interest (34,307,978) (3,592,687)
--------------- ---------------
NET DECREASE (32,393,903) (5,492,802)
NET ASSETS:
Beginning of period 126,832,943 132,325,745
--------------- ---------------
END OF PERIOD
(INCLUDING DIVIDENDS IN EXCESS OF NET INVESTMENT INCOME
OF $549,749 AND $248,881, RESPECTIVELY) $ 94,439,040 $ 126,832,943
=============== ===============
</Table>
SEE NOTES TO FINANCIAL STATEMENTS
21
<Page>
MORGAN STANLEY QUALITY INCOME TRUST
NOTES TO FINANCIAL STATEMENTS - AUGUST 31, 2004
1. ORGANIZATION AND ACCOUNTING POLICIES
Morgan Stanley Quality Income Trust (the "Fund") is registered under the
Investment Company Act of 1940, as amended (the "Act"), as a diversified,
open-end management investment company. The Fund's investment objective is high
current income consistent with safety of principal. The Fund was organized as a
Massachusetts business trust on September 1, 1988 and commenced operations on
May 3, 1989. On July 28, 1997, the Fund converted to a multiple class share
structure.
The Fund offers Class A shares, Class B shares, Class C shares and Class D
shares. The four classes are substantially the same except that most Class A
shares are subject to a sales charge imposed at the time of purchase and some
Class A shares, and most Class B shares and Class C shares are subject to a
contingent deferred sales charge imposed on shares redeemed within one year, six
years and one year, respectively. Class D shares are not subject to a sales
charge. Additionally, Class A shares, Class B shares and Class C shares incur
distribution expenses.
The following is a summary of significant accounting policies:
A. VALUATION OF INVESTMENTS -- (1) certain portfolio securities may be valued by
an outside pricing service approved by the Fund's Trustees; (2) portfolio
securities for which over-the-counter market quotations are readily available
are valued at the mean between the last reported bid and asked price; (3) when
market quotations are not readily available or Morgan Stanley Investment
Advisors Inc. (the "Investment Manager") determines that the market quotations
are not reflective of a security's market value, portfolio securities are valued
at their fair value as determined in good faith under procedures established by
and under the general supervision of the Fund's Trustees; and (4) short-term
debt securities having a maturity date of more than sixty days at time of
purchase are valued on a mark-to-market basis until sixty days prior to maturity
and thereafter at amortized cost based on their value on the 61st day.
Short-term debt securities having a maturity date of sixty days or less at the
time of purchase are valued at amortized cost.
B. ACCOUNTING FOR INVESTMENTS -- Security transactions are accounted for on the
trade date (date the order to buy or sell is executed). Realized gains and
losses on security transactions are determined by the identified cost method.
Discounts are accreted and premiums are amortized over the life of the
respective securities. Interest income is accrued daily.
C. REPURCHASE AGREEMENTS -- Pursuant to an Exemptive Order issued by the
Securities and Exchange Commission, the Fund, along with other affiliated
entities managed by the Investment Manager, may transfer uninvested cash
balances into one or more joint repurchase agreement accounts. These balances
are invested in one or more repurchase agreements and are collateralized by
cash, U.S. Treasury or federal agency obligations. The Fund may also invest
directly with institutions in repurchase agreements. The Fund's custodian
receives the collateral, which is marked-to-market daily to determine that the
value of the collateral does not decrease below the repurchase price plus
accrued interest.
22
<Page>
D. MULTIPLE CLASS ALLOCATIONS -- Investment income, expenses (other than
distribution fees), and realized and unrealized gains and losses are allocated
to each class of shares based upon the relative net asset value on the date such
items are recognized. Distribution fees are charged directly to the respective
class.
E. FUTURES CONTRACTS -- A futures contract is an agreement between two parties
to buy and sell financial instruments or contracts based on financial indices at
a set price on a future date. Upon entering into such a contract, the Fund is
required to pledge to the broker cash, U.S. Government securities or other
liquid portfolio securities equal to the minimum initial margin requirements of
the applicable futures exchange. Pursuant to the contract, the Fund agrees to
receive from or pay to the broker an amount of cash equal to the daily
fluctuation in the value of the contract. Such receipts or payments known as
variation margin are recorded by the Fund as unrealized gains and losses. Upon
closing of the contract, the Fund realizes a gain or loss 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.
F. FEDERAL INCOME TAX POLICY -- It is the Fund's policy to comply with the
requirements of the Internal Revenue Code applicable to regulated investment
companies and to distribute substantially all of its taxable income to its
shareholders. Accordingly, no federal income tax provision is required.
G. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS -- Dividends and distributions to
shareholders are recorded on the ex-dividend date.
H. USE OF ESTIMATES -- The preparation of financial statements in accordance
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts and disclosures.
Actual results could differ from those estimates.
2. INVESTMENT MANAGEMENT AGREEMENT
Pursuant to an Investment Management Agreement , the Fund pays the Investment
Manager a management fee, calculated daily and payable monthly, by applying the
following annual rates to the net assets of the Fund determined as of the close
of each business day: 0.60% to the portion of daily net assets not exceeding
$500 million; 0.50% to the portion of daily net assets exceeding $500 million
but not exceeding $750 million; 0.40% to the portion of the daily net assets
exceeding $750 million but not exceeding $1 billion; and 0.30% to the portion of
the daily net asset exceeding $1 billion.
Effective May 1, 2004, the Investment Manager agreed to assume all operating
expenses (except distribution fees) and to waive the compensation provided for
in its Investment Management Agreement to the extent that such expenses and
compensation on an annualized basis exceed 0.80% of the daily net assets of the
Fund.
3. PLAN OF DISTRIBUTION
Shares of the Fund are distributed by Morgan Stanley Distributors Inc. (the
"Distributor"), an affiliate of the Investment Manager. The Fund has adopted a
Plan of Distribution (the "Plan") pursuant to Rule 12b-1 under the Act. The Plan
provides that the Fund will pay the Distributor a fee which is accrued daily and
paid
23
<Page>
monthly at the following annual rates: (i) Class A -- up to 0.25% of the
average daily net assets of Class A; (ii) Class B -- up to 0.85% of the lesser
of: (a) the average daily aggregate gross sales of the Class B shares since the
inception of the Fund (not including reinvestment of dividend or capital gain
distributions) less the average daily aggregate net asset value of the Class B
shares redeemed since the Fund's inception upon which a contingent deferred
sales charge has been imposed or waived; or (b) the average daily net assets of
Class B; and (iii) Class C -- up to 0.85% of the average daily net assets of
Class C.
In the case of Class B shares, provided that the Plan continues in effect, any
cumulative expenses incurred by the Distributor but not yet recovered may be
recovered through the payment of future distribution fees from the Fund pursuant
to the Plan and contingent deferred sales charges paid by investors upon
redemption of Class B shares. Although there is no legal obligation for the Fund
to pay expenses incurred in excess of payments made to the Distributor under the
Plan and the proceeds of contingent deferred sales charges paid by investors
upon redemption of shares, if for any reason the Plan is terminated, the
Trustees will consider at that time the manner in which to treat such expenses.
The Distributor has advised the Fund that such excess amounts totaled $5,020,042
at August 31, 2004.
In the case of Class A shares and Class C shares, expenses incurred pursuant to
the Plan in any calendar year in excess of 0.25% or 0.85% of the average daily
net assets of Class A or Class C, respectively, will not be reimbursed by the
Fund through payments in any subsequent year, except that expenses representing
a gross sales credit to Morgan Stanley Financial Advisors or other selected
broker-dealer representatives may be reimbursed in the subsequent calendar year.
For the year ended August 31, 2004, the distribution fee was accrued for Class A
shares and Class C shares at the annual rate of 0.19% and 0.85%, respectively.
The Distributor has informed the Fund that for the year ended August 31, 2004,
it received contingent deferred sales charges from certain redemptions of the
Fund's Class A shares, Class B shares and Class C shares of $18,869, $182,612
and $4,542, respectively and received $26,350 in front-end sales charges from
sales of the Fund's Class A shares. The respective shareholders pay such charges
which are not an expense of the Fund.
4. SECURITY TRANSACTIONS AND TRANSACTIONS WITH AFFILIATES
The cost of purchases and proceeds from sales/prepayments of portfolio
securities, excluding short-term investments, for the year ended August 31,
2004, aggregated $188,259,208, and $241,145,215, respectively. Included in the
aforementioned are purchases and sales of U.S. Government securities of
$142,905,302 and $185,147,192, respectively.
Morgan Stanley Trust, an affiliate of the Investment Manager and Distributor, is
the Fund's transfer agent. At August 31, 2004, the Fund had transfer agent fees
and expenses payable of approximately $21,000.
The Fund has an unfunded noncontributory defined benefit pension plan covering
certain independent Trustees of the Fund who will have served as independent
Trustees for at least five years at the time of retirement. Benefits under this
plan are based on factors which include years of service and compensation.
Aggregate pension costs for the year ended August 31, 2004 included in Trustees'
fees and expenses
24
<Page>
in the Statement of Operations amounted to $7,311. At August 31, 2004, the Fund
had an accrued pension liability of $60,842 which is included in accrued
expenses in the Statement of Assets and Liabilities. On December 2, 2003, the
Trustees voted to close the plan to new participants and eliminate the future
benefits growth due to increases to compensation after July 31, 2003.
Effective April 1, 2004, the Fund began an unfunded Deferred Compensation Plan
(the "Compensation Plan") which allows each independent Trustee to defer payment
of all, or a portion, of the fees he receives for serving on the Board of
Trustees. Each eligible Trustee generally may elect to have the deferred amounts
credited with a return equal to the total return on one or more of the Morgan
Stanley funds that are offered as investment options under the Compensation
Plan. Appreciation/depreciation and distributions received from these
investments are recorded with an offsetting increase/decrease in the deferred
compensation obligation and do not affect the net asset value of the Fund.
5. SHARES OF BENEFICIAL INTEREST
Transactions in shares of beneficial interest were as follows:
<Table>
<Caption>
FOR THE YEAR FOR THE YEAR
ENDED ENDED
AUGUST 31, 2004 AUGUST 31, 2003
---------------------------- ---------------------------
SHARES AMOUNT SHARES AMOUNT
------------ ------------- ----------- -------------
CLASS A SHARES
Sold 704,453 $ 6,705,247 7,230,344 $ 69,757,478
Reinvestment of dividends 24,923 237,640 23,096 221,263
Redeemed (958,026) (9,092,170) (7,352,712) (70,908,969)
------------ ------------- ----------- -------------
Net decrease -- Class A (228,650) (2,149,283) (99,272) (930,228)
------------ ------------- ----------- -------------
CLASS B SHARES
Sold 923,982 8,779,096 5,576,141 53,136,588
Reinvestment of dividends 238,171 2,253,505 224,794 2,137,809
Redeemed (4,090,065) (38,614,692) (6,031,461) (57,282,326)
------------ ------------- ----------- -------------
Net decrease -- Class B (2,927,912) (27,582,091) (230,526) (2,007,929)
------------ ------------- ----------- -------------
CLASS C SHARES
Sold 195,232 1,846,576 1,825,800 17,330,693
Reinvestment of dividends 25,345 240,274 20,602 196,212
Redeemed (546,505) (5,137,914) (1,411,756) (13,429,508)
------------ ------------- ----------- -------------
Net increase (decrease) -- Class C (325,928) (3,051,064) 434,646 4,097,397
------------ ------------- ----------- -------------
CLASS D SHARES
Sold 279,178 2,647,709 1,942,485 18,431,785
Reinvestment of dividends 23,723 223,653 22,745 215,756
Redeemed (466,532) (4,396,902) (2,466,593) (23,399,468)
------------ ------------- ----------- -------------
Net decrease -- Class D (163,631) (1,525,540) (501,363) (4,751,927)
------------ ------------- ----------- -------------
Net decrease in Fund (3,646,121) $ (34,307,978) (396,515) $ (3,592,687)
============ ============= =========== =============
</Table>
25
<Page>
6. FEDERAL INCOME TAX STATUS
The amount of dividends and distributions from net investment income and net
realized capital gains are determined in accordance with federal income tax
regulations which may differ from generally accepted accounting principles.
These "book/tax" differences are either considered temporary or permanent in
nature. To the extent these differences are permanent in nature, such amounts
are reclassified within the capital accounts based on their federal tax-basis
treatment; temporary differences do not require reclassification. Dividends and
distributions which exceed net investment income and net realized capital gains
for tax purposes are reported as distributions of paid-in-capital.
The tax character of distributions paid was as follows:
<Table>
<Caption>
FOR THE YEAR FOR THE YEAR
ENDED ENDED
AUGUST 31, 2004 AUGUST 31, 2003
---------------- ---------------
Ordinary income $ 4,434,750 $ 4,092,676
============= ============
</Table>
As of August 31, 2004, the tax-basis components of accumulated losses were as
follows:
<Table>
Undistributed ordinary income $ 97,891
Undistributed long-term gains --
------------
Net accumulated earnings 97,891
Capital loss carryforward* (8,415,827)
Post-October losses (664,371)
Temporary differences (104,443)
Net unrealized appreciation 895,365
------------
Total accumulated losses $ (8,191,385)
============
</Table>
*As of August 31, 2004, the Fund had a net capital loss carryforward of
$8,415,827 of which $2,351,266 will expire on August 31, 2005, $199,882 will
expire on August 31, 2006, $1,146,203 will expire on August 31, 2008, $2,891,735
will expire on August 31, 2009, $313,469 will expire on August 31, 2010 and
$1,513,272 will expire on August 31, 2012 to offset future capital gains to the
extent provided by regulations.
As of August 31, 2004, the Fund had temporary book/tax differences primarily
attributable to post-October losses (capital losses incurred after October 31
within the taxable year which are deemed to arise on the first business day of
the Fund's next taxable year), mark-to-market of open futures contracts and book
amortization of premiums on debt securities and permanent book/tax differences
primarily attributable to losses on paydowns, tax adjustments on debt securities
sold by the Fund and an expired capital loss carryforward. To reflect
reclassifications arising from the permanent differences,
26
<Page>
paid-in-capital was charged $303,220, accumulated net realized loss was charged
$198,206 and dividends in excess of net investment income was credited $501,426.
7. PURPOSES OF RISKS RELATING TO CERTAIN FINANCIAL INSTRUMENTS
To hedge against adverse interest rate, foreign currency and market risks, the
Fund may purchase and sell interest rate, currency and index futures contracts
("futures contracts").
Futures contracts involve elements of market risk in excess of the amounts
reflected in the Statement of Assets and Liabilities. The Fund bears the risk of
an unfavorable change in the value of the underlying securities. Risks may also
arise upon entering into these contracts from the potential inability of the
counterparties to meet the terms of their contracts.
8. LEGAL MATTERS
The Investment Manager, certain affiliates of the Investment Manager, certain
officers of such affiliates and certain investment companies advised by the
Investment Manager or its affiliates, including the Fund, are named as
defendants in a number of similar class action complaints which were recently
consolidated. This consolidated action also names as defendants certain
individual Trustees and Directors of the Morgan Stanley funds. The consolidated
amended complaint generally alleges that defendants, including the Fund,
violated their statutory disclosure obligations and fiduciary duties by failing
properly to disclose (i) that the Investment Manager and certain affiliates of
the Investment Manager allegedly offered economic incentives to brokers and
others to recommend the funds advised by the Investment Manager or its
affiliates to investors rather than funds managed by other companies, and (ii)
that the funds advised by the Investment Manager or its affiliates, including
the Fund, allegedly paid excessive commissions to brokers in return for their
efforts to recommend these funds to investors. The complaint seeks, among other
things, unspecified compensatory damages, rescissionary damages, fees and costs.
The defendants have moved to dismiss the action and intend to otherwise
vigorously defend it. While the Fund believes that it has meritorious defenses,
the ultimate outcome of this matter is not presently determinable at this early
stage of the litigation, and no provision has been made in the Fund's financial
statements for the effect, if any, of this matter.
27
<Page>
MORGAN STANLEY QUALITY INCOME TRUST
FINANCIAL HIGHLIGHTS
Selected ratios and per share data for a share of beneficial interest
outstanding throughout each period:
<Table>
<Caption>
FOR THE YEAR ENDED AUGUST 31,
----------------------------------------------------------------
2004 2003 2002 2001 2000
---------- --------- --------- ---------- ---------
CLASS A SHARES:
SELECTED PER SHARE DATA:
Net asset value, beginning of period $ 9.39 $ 9.53 $ 9.35 $ 8.97 $ 9.30
---------- --------- --------- ---------- ---------
Income (loss) from investment operations:
Net investment income 0.35 0.20 0.37 0.52 0.55
Net realized and unrealized gain (loss) 0.26 0.01 0.19 0.38 (0.33)
---------- --------- --------- ---------- ---------
Total income from investment operations 0.61 0.21 0.56 0.90 0.22
---------- --------- --------- ---------- ---------
Less dividends from net investment income (0.44) (0.35) (0.38) (0.52) (0.55)
---------- --------- --------- ---------- ---------
Net asset value, end of period $ 9.56 $ 9.39 $ 9.53 $ 9.35 $ 8.97
========== ========= ========= ========== =========
TOTAL RETURN+ 6.57% 2.17% 6.17% 10.34% 2.49%
RATIOS TO AVERAGE NET ASSETS(1):
Expenses 1.19%(2) 1.14% 1.04% 1.21% 1.10%
Net investment income 3.86%(2) 2.14% 4.03% 5.71% 6.02%
SUPPLEMENTAL DATA:
Net assets, end of period, in thousands $ 7,628 $ 9,636 $ 10,730 $ 4,177 $ 4,196
Portfolio turnover rate 164% 429% 400% 358% 114%
</Table>
- ----------
+ DOES NOT REFLECT THE DEDUCTION OF SALES CHARGE. CALCULATED BASED ON THE NET
ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD.
(1) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC
EXPENSES.
(2) IF THE FUND HAD BORNE ALL EXPENSES THAT WERE WAIVED BY THE INVESTMENT
MANAGER, THE ANNUALIZED EXPENSE AND NET INVESTMENT INCOME RATIOS WOULD HAVE
BEEN 1.24% AND 3.81%, RESPECTIVELY.
SEE NOTES TO FINANCIAL STATEMENTS
28
<Page>
<Table>
<Caption>
FOR THE YEAR ENDED AUGUST 31,
----------------------------------------------------------------
2004 2003 2002 2001 2000
---------- --------- --------- ---------- ---------
CLASS B SHARES:
SELECTED PER SHARE DATA:
Net asset value, beginning of period $ 9.32 $ 9.45 $ 9.35 $ 8.98 $ 9.31
---------- --------- --------- ---------- ---------
Income (loss) from investment operations:
Net investment income 0.29 0.14 0.31 0.47 0.49
Net realized and unrealized gain (loss) 0.24 0.02 0.10 0.37 (0.33)
---------- --------- --------- ---------- ---------
Total income from investment operations 0.53 0.16 0.41 0.84 0.16
---------- --------- --------- ---------- ---------
Less dividends from net investment income (0.37) (0.29) (0.31) (0.47) (0.49)
---------- --------- --------- ---------- ---------
Net asset value, end of period $ 9.48 $ 9.32 $ 9.45 $ 9.35 $ 8.98
========== ========= ========= ========== =========
TOTAL RETURN+ 5.78% 1.63% 4.58% 9.55% 1.80%
RATIOS TO AVERAGE NET ASSETS(1):
Expenses 1.85%(2) 1.79% 1.72% 1.84% 1.77%
Net investment income 3.20%(2) 1.49% 3.35% 5.08% 5.35%
SUPPLEMENTAL DATA:
Net assets, end of period, in thousands $ 73,650 $ 99,695 $ 103,238 $ 97,452 $ 82,964
Portfolio turnover rate 164% 429% 400% 358% 114%
</Table>
- ----------
+ DOES NOT REFLECT THE DEDUCTION OF SALES CHARGE. CALCULATED BASED ON THE NET
ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD.
(1) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC
EXPENSES.
(2) IF THE FUND HAD BORNE ALL EXPENSES THAT WERE WAIVED BY THE INVESTMENT
MANAGER, THE ANNUALIZED EXPENSE AND NET INVESTMENT INCOME RATIOS WOULD HAVE
BEEN 1.90% AND 3.15%, RESPECTIVELY.
SEE NOTES TO FINANCIAL STATEMENTS
29
<Page>
<Table>
<Caption>
FOR THE YEAR ENDED AUGUST 31,
----------------------------------------------------------------
2004 2003 2002 2001 2000
---------- --------- --------- ---------- ---------
CLASS C SHARES:
SELECTED PER SHARE DATA:
Net asset value, beginning of period $ 9.34 $ 9.46 $ 9.36 $ 8.99 $ 9.32
---------- --------- --------- ---------- ---------
Income (loss) from investment operations:
Net investment income 0.29 0.14 0.31 0.47 0.49
Net realized and unrealized gain (loss) 0.24 0.03 0.10 0.37 (0.33)
---------- --------- --------- ---------- ---------
Total income from investment operations 0.53 0.17 0.41 0.84 0.16
---------- --------- --------- ---------- ---------
Less dividends from net investment income (0.37) (0.29) (0.31) (0.47) (0.49)
---------- --------- --------- ---------- ---------
Net asset value, end of period $ 9.50 $ 9.34 $ 9.46 $ 9.36 $ 8.99
========== ========= ========= ========== =========
TOTAL RETURN+ 5.77% 1.74% 4.57% 9.54% 1.80%
RATIOS TO AVERAGE NET ASSETS(1):
Expenses 1.85%(2) 1.79% 1.72% 1.84% 1.77%
Net investment income 3.20%(2) 1.49% 3.35% 5.08% 5.35%
SUPPLEMENTAL DATA:
Net assets, end of period, in thousands $ 7,474 $ 10,389 $ 6,415 $ 4,226 $ 1,738
Portfolio turnover rate 164% 429% 400% 358% 114%
</Table>
- ----------
+ DOES NOT REFLECT THE DEDUCTION OF SALES CHARGE. CALCULATED BASED ON THE NET
ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE PERIOD.
(1) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC
EXPENSES.
(2) IF THE FUND HAD BORNE ALL EXPENSES THAT WERE WAIVED BY THE INVESTMENT
MANAGER, THE ANNUALIZED EXPENSE AND NET INVESTMENT INCOME RATIOS WOULD HAVE
BEEN 1.90% AND 3.15%, RESPECTIVELY.
SEE NOTES TO FINANCIAL STATEMENTS
30
<Page>
<Table>
<Caption>
FOR THE YEAR ENDED AUGUST 31,
----------------------------------------------------------------
2004 2003 2002 2001 2000
---------- --------- --------- ---------- ---------
CLASS D SHARES:
SELECTED PER SHARE DATA:
Net asset value, beginning of period $ 9.29 $ 9.43 $ 9.35 $ 8.98 $ 9.31
---------- --------- --------- ---------- ---------
Income (loss) from investment operations:
Net investment income 0.37 0.22 0.38 0.55 0.57
Net realized and unrealized gain (loss) 0.24 0.01 0.09 0.37 (0.33)
---------- --------- --------- ---------- ---------
Total income from investment operations 0.61 0.23 0.47 0.92 0.24
---------- --------- --------- ---------- ---------
Less dividends from net investment income (0.45) (0.37) (0.39) (0.55) (0.57)
---------- --------- --------- ---------- ---------
Net asset value, end of period $ 9.45 $ 9.29 $ 9.43 $ 9.35 $ 8.98
========== ========= ========= ========== =========
TOTAL RETURN+ 6.68% 2.39% 5.23% 10.48% 2.67%
RATIOS TO AVERAGE NET ASSETS(1):
Expenses 1.00%(2) 0.94% 0.87% 0.99% 0.92%
Net investment income 4.05%(2) 2.34% 4.20% 5.93% 6.20%
SUPPLEMENTAL DATA:
Net assets, end of period, in thousands $ 5,687 $ 7,113 $ 11,943 $ 3,018 $ 6,834
Portfolio turnover rate 164% 429% 400% 358% 114%
</Table>
- ----------
+ CALCULATED BASED ON THE NET ASSET VALUE AS OF THE LAST BUSINESS DAY OF THE
PERIOD.
(1) REFLECTS OVERALL FUND RATIOS FOR INVESTMENT INCOME AND NON-CLASS SPECIFIC
EXPENSES.
(2) IF THE FUND HAD BORNE ALL EXPENSES THAT WERE WAIVED BY THE INVESTMENT
MANAGER, THE ANNUALIZED EXPENSE AND NET INVESTMENT INCOME RATIOS WOULD HAVE
BEEN 1.05% AND 4.00%, RESPECTIVELY.
SEE NOTES TO FINANCIAL STATEMENTS
31
<Page>
MORGAN STANLEY QUALITY INCOME TRUST
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE SHAREHOLDERS AND BOARD OF
TRUSTEES OF MORGAN STANLEY QUALITY INCOME TRUST:
We have audited the accompanying statement of assets and liabilities of Morgan
Stanley Quality Income Trust (the "Fund"), including the portfolio of
investments, as of August 31, 2004, and the related statements of operations for
the year then ended and changes in net assets for each of the two years in the
period then ended, and the financial highlights for each of the five years in
the period then ended. These financial statements and financial highlights are
the responsibility of the Fund's management. Our responsibility is to express an
opinion on these financial statements and financial highlights based on our
audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements and financial highlights are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. Our procedures included confirmation of
securities owned as of August 31, 2004, by correspondence with the custodian and
brokers; where replies were not received from brokers, we performed other
auditing procedures. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of Morgan
Stanley Quality Income Trust as of August 31, 2004, the results of its
operations 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 five years in the period then ended, in conformity with accounting
principles generally accepted in the United States of America.
Deloitte & Touche LLP
NEW YORK, NEW YORK
OCTOBER 18, 2004
2004 FEDERAL TAX NOTICE (UNAUDITED)
Of the Fund's ordinary income dividends paid during the fiscal year ended
August 31, 2004, 0.05% was attributable to qualifying Federal obligations.
Please consult your tax advisor to determine if any portion of the
dividends you received is exempt from state income tax.
32
<Page>
MORGAN STANLEY QUALITY INCOME TRUST
TRUSTEE AND OFFICER INFORMATION
INDEPENDENT TRUSTEES:
<Table>
<Caption>
NUMBER OF
PORTFOLIOS
TERM OF IN FUND
POSITION(S) OFFICE AND COMPLEX
NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF PRINCIPAL OCCUPATION(S) OVERSEEN OTHER DIRECTORSHIPS
INDEPENDENT TRUSTEE REGISTRANT TIME SERVED* DURING PAST 5 YEARS** BY TRUSTEE*** HELD BY TRUSTEE
- ------------------------- ----------- ------------ ----------------------------------- ------------- --------------------
Michael Bozic (63) Trustee Since Private Investor; Director or 208 Director of Weirton
c/o Kramer Levin Naftalis April 1994 Trustee of the Retail Funds (since Steel Corporation.
& Frankel LLP April 1994) and the Institutional
Counsel to the Funds (since July 2003); formerly
Independent Trustees Vice Chairman of Kmart Corporation
919 Third Avenue (December 1998-October 2000),
New York, NY Chairman and Chief Executive
Officer of Levitz Furniture
Corporation (November 1995-November
1998) and President and Chief
Executive Officer of Hills
Department Stores (May 1991-July
1995); formerly variously Chairman,
Chief Executive Officer, President
and Chief Operating Officer
(1987-1991) of the Sears
Merchandise Group of Sears, Roebuck
& Co.
Edwin J. Garn (71) Trustee Since Managing Director of Summit 208 Director of Franklin
c/o Summit Ventures LLC January 1993 Ventures LLC; Director or Trustee Covey (time
1 Utah Center of the Retail Funds (since January management systems),
201 S. Main Street 1993) and the Institutional Funds BMW Bank of North
Salt Lake City, UT (since July 2003); member of the America, Inc.
Utah Regional Advisory Board of (industrial loan
Pacific Corp.; formerly United corporation), United
States Senator (R-Utah) (1974-1992) Space Alliance
and Chairman, Senate Banking (joint venture
Committee (1980-1986), Mayor of between Lockheed
Salt Lake City, Utah (1971-1974), Martin and the
Astronaut, Space Shuttle Discovery Boeing Company) and
(April 12-19, 1985), and Vice Nuskin Asia Pacific
Chairman, Huntsman Corporation (multilevel
(chemical company). marketing); member
of the board of
various civic and
charitable
organizations.
Wayne E. Hedien (70) Trustee Since Retired; Director or Trustee of the 208 Director of The PMI
c/o Kramer Levin Naftalis September Retail Funds (since September 1997) Group Inc. (private
& Frankel LLP 1997 and the Institutional Funds (since mortgage insurance);
Counsel to the July 2003); formerly associated Trustee and Vice
Independent Trustees with the Allstate Companies Chairman of The
919 Third Avenue (1966-1994), most recently as Field Museum of
New York, NY Chairman of The Allstate Natural History;
Corporation (March 1993-December director of various
1994) and Chairman and Chief other business and
Executive Officer of its charitable
wholly-owned subsidiary, Allstate organizations.
Insurance Company (July
1989-December 1994).
</Table>
33
<Page>
<Table>
<Caption>
NUMBER OF
PORTFOLIOS
TERM OF IN FUND
POSITION(S) OFFICE AND COMPLEX
NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF PRINCIPAL OCCUPATION(S) OVERSEEN OTHER DIRECTORSHIPS
INDEPENDENT TRUSTEE REGISTRANT TIME SERVED* DURING PAST 5 YEARS** BY TRUSTEE*** HELD BY TRUSTEE
- ------------------------- ----------- ------------ ----------------------------------- ------------- --------------------
Dr. Manuel H. Johnson Trustee Since Senior Partner, Johnson Smick 208 Director of NVR,
(55) July 1991 International, Inc., a consulting Inc. (home
c/o Johnson Smick firm; Chairman of the Audit construction);
International, Inc. Committee and Director or Trustee Chairman and Trustee
2099 Pennsylvania Avenue, of the Retail Funds (since July of the Financial
N.W. 1991) and the Institutional Funds Accounting
Suite 950 (since July 2003); Co-Chairman and Foundation
Washington, D.C. a founder of the Group of Seven (oversight
Council (G7C), an international organization of the
economic commission; formerly Vice Financial Accounting
Chairman of the Board of Governors Standards Board);
of the Federal Reserve System and Director of RBS
Assistant Secretary of the U.S. Greenwich Capital
Treasury. Holdings (financial
holding company).
Joseph J. Kearns (62) Trustee Since President, Kearns & Associates LLC 209 Director of Electro
PMB754 July 2003 (investment consulting); Deputy Rent Corporation
23852 Pacific Coast Chairman of the Audit Committee and (equipment leasing),
Highway Director or Trustee of the Retail The Ford Family
Malibu, CA Funds (since July 2003) and the Foundation, and the
Institutional Funds (since August UCLA Foundation.
1994); previously Chairman of the
Audit Committee of the
Institutional Funds (October 2001-
July 2003); formerly CFO of the
J. Paul Getty Trust.
Michael E. Nugent (68) Trustee Since General Partner of Triumph Capital, 208 Director of various
c/o Triumph Capital, L.P. July 1991 L.P., a private investment business
445 Park Avenue partnership; Chairman of the organizations.
New York, NY Insurance Committee and Director or
Trustee of the Retail Funds (since
July 1991) and the Institutional
Funds (since July 2001); formerly
Vice President, Bankers Trust
Company and BT Capital Corporation
(1984-1988).
Fergus Reid (72) Trustee Since Chairman of Lumelite Plastics 209 Trustee and Director
c/o Lumelite Plastics July 2003 Corporation; Chairman of the of certain
Corporation Governance Committee and Director investment companies
85 Charles Colman Blvd. or Trustee of the Retail Funds in the JPMorgan
Pawling, NY (since July 2003) and the Funds complex
Institutional Funds (since June managed by J.P.
1992). Morgan Investment
Management Inc.
</Table>
34
<Page>
INTERESTED TRUSTEES:
<Table>
<Caption>
NUMBER OF
PORTFOLIOS
TERM OF IN FUND
POSITION(S) OFFICE AND COMPLEX
NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF PRINCIPAL OCCUPATION(S) OVERSEEN OTHER DIRECTORSHIPS
INDEPENDENT TRUSTEE REGISTRANT TIME SERVED* DURING PAST 5 YEARS** BY TRUSTEE*** HELD BY TRUSTEE
- ------------------------- ----------- ------------ ----------------------------------- ------------- --------------------
Charles A. Fiumefreddo Chairman Since Chairman and Director or Trustee of 208 None
(71) of the July 1991 the Retail Funds (since July 1991)
c/o Morgan Stanley Trust Board and and the Institutional Funds (since
Harborside Financial Trustee July 2003); formerly Chief
Center, Executive Officer of the Retail
Plaza Two, Funds (until September 2002).
Jersey City, NJ
James F. Higgins (56) Trustee Since Director or Trustee of the Retail 208 Director of AXA
c/o Morgan Stanley Trust June 2000 Funds (since June 2000) and the Financial, Inc. and
Harborside Financial Institutional Funds (since July The Equitable Life
Center, 2003); Senior Advisor of Morgan Assurance Society of
Plaza Two, Stanley (since August 2000); the United States
Jersey City, NJ Director of the Distributor and (financial
Dean Witter Realty Inc.; previously services).
President and Chief Operating
Officer of the Private Client Group
of Morgan Stanley (May 1999-August
2000), and President and Chief
Operating Officer of Individual
Securities of Morgan Stanley
(February 1997-May 1999).
</Table>
- ----------
* THIS IS THE EARLIEST DATE THE TRUSTEE BEGAN SERVING THE FUNDS ADVISED BY
MORGAN STANLEY INVESTMENT ADVISORS INC. (THE "INVESTMENT MANAGER ") (THE
"RETAIL FUNDS ").
** THE DATES REFERENCED BELOW INDICATING COMMENCEMENT OF SERVICES AS
DIRECTOR/TRUSTEE FOR THE RETAIL FUNDS AND THE FUNDS ADVISED BY MORGAN
STANLEY INVESTMENT MANAGEMENT INC. AND MORGAN STANLEY AIP GP LP (THE
"INSTITUTIONAL FUNDS ") REFLECT THE EARLIEST DATE THE DIRECTOR/TRUSTEE
BEGAN SERVING THE RETAIL OR INSTITUTIONAL FUNDS AS APPLICABLE.
*** THE FUND COMPLEX INCLUDES ALL OPEN-END AND CLOSED-END FUNDS (INCLUDING ALL
OF THEIR PORTFOLIOS) ADVISED BY THE INVESTMENT MANAGER AND ANY FUNDS THAT
HAVE AN INVESTMENT ADVISOR THAT IS AN AFFILIATED PERSON OF THE INVESTMENT
MANAGER (INCLUDING BUT NOT LIMITED TO MORGAN STANLEY INVESTMENT MANAGEMENT
INC.).
35
<Page>
OFFICERS:
<Table>
<Caption>
TERM OF
POSITION(S) OFFICE AND
NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF
EXECUTIVE OFFICER REGISTRANT TIME SERVED* PRINCIPAL OCCUPATION(S) DURING PAST 5 YEARS**
- ------------------------- ----------- ------------ ------------------------------------------------------
Mitchell M. Merin (51) President Since President and Chief Operating Officer of Morgan
1221 Avenue of the May 1999 Stanley Investment Management Inc.; President,
Americas Director and Chief Executive Officer of the Investment
New York, NY Manager and Morgan Stanley Services; Chairman and
Director of the Distributor; Chairman and Director of
the Transfer Agent; Director of various Morgan Stanley
subsidiaries; President of the Institutional Funds
(since July 2003) and President of the Retail Funds
(since May 1999); Trustee (since July 2003) and
President (since December 2002) of the Van Kampen
Closed-End Funds; Trustee (since May 1999) and
President (since October 2002) of the Van Kampen
Open-End Funds.
Barry Fink (49) Vice Since General Counsel (since May 2000) and Managing Director
1221 Avenue of the President February (since December 2000) of Morgan Stanley Investment
Americas 1997 Management; Managing Director (since December 2000),
New York, NY Secretary (since February 1997) and Director (since
July 1998) of the Investment Manager and Morgan
Stanley Services; Vice President of the Retail Funds;
Assistant Secretary of Morgan Stanley DW; Vice
President of the Institutional Funds (since July
2003); Managing Director, Secretary and Director of
the Distributor; previously Secretary (February
1997-July 2003) and General Counsel (February
1997-April 2004) of the Retail Funds; Vice President
and Assistant General Counsel of the Investment
Manager and Morgan Stanley Services (February
1997-December 2001).
Ronald E. Robison (65) Executive Since Principal Executive Officer-Office of the Funds (since
1221 Avenue of the Vice April 2003 November 2003); Managing Director of Morgan Stanley &
Americas President Co. Incorporated, Managing Director of Morgan Stanley;
New York, NY and Managing Director, Chief Administrative Officer and
Principal Director of the Investment Manager and Morgan Stanley
Executive Services; Chief Executive Officer and Director of the
Officer Transfer Agent; Managing Director and Director of the
Distributor; Executive Vice President and Principal
Executive Officer of the Institutional Funds (since
July 2003) and the Retail Funds (since April 2003);
Director of Morgan Stanley SICAV (since May 2004);
previously President and Director of the Retail Funds
(March 2001-July 2003) and Chief Global Operations
Officer and Managing Director of Morgan Stanley
Investment Management Inc.
Joseph J. McAlinden (61) Vice Since Managing Director and Chief Investment Officer of the
1221 Avenue of the President July 1995 Investment Manager and Morgan Stanley Investment
Americas Management Inc., Director of the Transfer Agent, Chief
New York, NY Investment Officer of the Van Kampen Funds; Vice
President of the Institutional Funds (since July 2003)
and the Retail Funds (since July 1995).
Amy R. Doberman (42) Vice Since Managing Director and General Counsel, U.S. Investment
1221 Avenue of the President July 2004 Management; Managing Director of Morgan Stanley
Americas Investment Management Inc. and the Investment Manager,
New York, NY Vice President of the Institutional and Retail Funds
(since July 2004); previously, Managing Director and
General Counsel - Americas, UBS Global Asset
Management (July 2000 - July 2004) and General
Counsel, Aeltus Investment Management, Inc. (January
1997 - July 2000).
Stefanie V. Chang (37) Vice Since Executive Director of Morgan Stanley & Co.
1221 Avenue of the President July 2003 Incorporated, Morgan Stanley Investment Management
Americas Inc., and the Investment Manager; Vice President of
New York, NY the Institutional Funds (since December 1997) and the
Retail Funds (since July 2003); formerly practiced law
with the New York law firm of Rogers & Wells (now
Clifford Chance US LLP).
</Table>
36
<Page>
<Table>
<Caption>
TERM OF
POSITION(S) OFFICE AND
NAME, AGE AND ADDRESS OF HELD WITH LENGTH OF
EXECUTIVE OFFICER REGISTRANT TIME SERVED* PRINCIPAL OCCUPATION(S) DURING PAST 5 YEARS**
- ------------------------- ----------- ------------ ------------------------------------------------------
Francis J. Smith (39) Treasurer Treasurer Executive Director of the Investment Manager and
c/o Morgan Stanley Trust and Chief since July Morgan Stanley Services (since December 2001);
Harborside Financial Financial 2003 and previously, Vice President of the Retail Funds
Center, Officer Chief (September 2002-July 2003), and Vice President of the
Plaza Two, Financial Investment Manager and Morgan Stanley Services (August
Jersey City, NJ Officer 2000-November 2001) and Senior Manager at
since PricewaterhouseCoopers LLP (January 1998-August 2000).
September
2002
Thomas F. Caloia (58) Vice Since Executive Director (since December 2002) and Assistant
c/o Morgan Stanley Trust President July 2003 Treasurer of the Investment Manager, the Distributor
Harborside Financial and Morgan Stanley Services; previously Treasurer of
Center, the Retail Funds (April 1989-July 2003); formerly
Plaza Two, First Vice President of the Investment Manager, the
Jersey City, NJ Distributor and Morgan Stanley Services.
Mary E. Mullin (37) Secretary Since Executive Director of Morgan Stanley & Co.
1221 Avenue of the July 2003 Incorporated, Morgan Stanley Investment Management
Americas Inc. and the Investment Manager; Secretary of the
New York, NY Institutional Funds (since June 1999) and the Retail
Funds (since July 2003); formerly practiced law with
the New York law firms of McDermott, Will & Emery and
Skadden, Arps, Slate, Meagher & Flom LLP.
</Table>
- ----------
* THIS IS THE EARLIEST DATE THE OFFICER BEGAN SERVING THE RETAIL FUNDS. EACH
OFFICER SERVES AN INDEFINITE TERM, UNTIL HIS OR HER SUCCESSOR IS ELECTED.
** THE DATES REFERENCED BELOW INDICATING COMMENCEMENT OF SERVICE AS AN
OFFICER FOR THE RETAIL AND INSTITUTIONAL FUNDS REFLECT THE EARLIEST DATE
THE OFFICER BEGAN SERVING THE RETAIL OR INSTITUTIONAL FUNDS AS APPLICABLE.
37
<Page>
(This page has been left blank intentionally.)
<Page>
(This page has been left blank intentionally.)
<Page>
TRUSTEES
Michael Bozic
Charles A. Fiumefreddo
Edwin J. Garn
Wayne E. Hedien
James F. Higgins
Dr. Manuel H. Johnson
Joseph J. Kearns
Michael E. Nugent
Fergus Reid
OFFICERS
Charles A. Fiumefreddo
CHAIRMAN OF THE BOARD
Mitchell M. Merin
PRESIDENT
Ronald E. Robison
EXECUTIVE VICE PRESIDENT AND PRINCIPAL EXECUTIVE OFFICER
Barry Fink
VICE PRESIDENT
Joseph J. McAlinden
VICE PRESIDENT
Amy R. Doberman
VICE PRESIDENT
Stefanie V. Chang
VICE PRESIDENT
Francis J. Smith
TREASURER AND CHIEF FINANCIAL OFFICER
Thomas F. Caloia
VICE PRESIDENT
Mary E. Mullin
SECRETARY
TRANSFER AGENT
Morgan Stanley Trust
Harborside Financial Center, Plaza Two
Jersey City, New Jersey 07311
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Deloitte & Touche LLP
Two World Financial Center
New York, New York 10281
INVESTMENT MANAGER
Morgan Stanley Investment Advisors Inc.
1221 Avenue of the Americas
New York, New York 10020
This report is submitted for the general information of the shareholders of the
Fund. For more detailed information about the Fund, its fees and expenses and
other pertinent information, please read its Prospectus. The Fund's Statement of
Additional Information contains additional information about the Fund, including
its trustees. It is available, without charge, by calling (800) 869-NEWS.
This report is not authorized for distribution to prospective investors in the
Fund unless preceded or accompanied by an effective Prospectus. Read the
Prospectus carefully before investing.
Investments and services offered through Morgan Stanley DW Inc., member SIPC.
Morgan Stanley Distributors Inc., member NASD.
(C)2004 Morgan Stanley
[MORGAN STANLEY LOGO]
38557RPT-RA04-00643P-Y08/04
[GRAPHIC]
MORGAN STANLEY FUNDS
MORGAN STANLEY
QUALITY INCOME TRUST
ANNUAL REPORT
AUGUST 31, 2004
[MORGAN STANLEY LOGO]
<Page>
Item 2. Code of Ethics.
(a) The Fund has adopted a code of ethics (the "Code of Ethics") that
applies to its principal executive officer, principal financial officer,
principal accounting officer or controller, or persons performing similar
functions, regardless of whether these individuals are employed by the Fund or a
third party.
(b) No information need be disclosed pursuant to this paragraph.
(c) The Fund has amended its Code of Ethics during the period covered by the
shareholder report presented in Item 1 hereto to delete from the end of the
following paragraph on page 2 of the Code the phrase "to the detriment of the
Fund.":
"Each Covered Officer must not use his personal influence or personal
relationship improperly to influence investment decisions or financial reporting
by the Fund whereby the Covered Officer would benefit personally (directly or
indirectly)."
(d) Not applicable.
(e) Not applicable.
(f)
(1) The Fund's Code of Ethics is attached hereto as Exhibit A.
(2) Not applicable.
(3) Not applicable.
Item 3. Audit Committee Financial Expert.
The Fund's Board of Trustees has determined that it has two "audit committee
financial experts" serving on its audit committee, each of whom are
"independent" Trustees: Dr. Manuel H. Johnson and Joseph J. Kearns. Under
applicable securities laws, a person who is determined to be an audit
committee financial expert will not be deemed an "expert" for any purpose,
including without limitation for the purposes of Section 11 of the Securities
Act of 1933, as a result of being designated or identified as an audit
committee financial expert. The designation or identification of a person as
an audit committee financial expert does not impose on such person any
duties, obligations, or liabilities that are greater than the duties,
obligations, and liabilities imposed on such person as a member of the audit
committee and Board of Trustees in the absence of such designation or
identification.
<Page>
Item 4. Principal Accountant Fees and Services.
(a)(b)(c)(d) and (g). Based on fees billed for the periods shown:
2004
<Table>
<Caption>
REGISTRANT COVERED ENTITIES(1)
AUDIT FEES $ 31,830 N/A
NON-AUDIT FEES
AUDIT-RELATED FEES $ 452(2) $ 5,067,400(2)
TAX FEES $ 5,598(3) $ 545,053(4)
ALL OTHER FEES $ - $ -
TOTAL NON-AUDIT FEES $ 6,050 $ 5,612,453
TOTAL $ 37,880 $ 5,612,453
</Table>
2003
<Table>
<Caption>
REGISTRANT COVERED ENTITIES(1)
AUDIT FEES $ 31,150 N/A
NON-AUDIT FEES
AUDIT-RELATED FEES $ 684(2) $ 1,086,576(2)
TAX FEES $ 5,205(3) $ 252,500(4)
ALL OTHER FEES $ - $ -(5)
TOTAL NON-AUDIT FEES $ 5,889 $ 1,339,076
TOTAL $ 37,039 $ 1,339,076
</Table>
N/A- Not applicable, as not required by Item 4.
(1) Covered Entities include the Adviser (excluding sub-advisors) and any
entity controlling, controlled by or under common control with the
Adviser that provides ongoing services to the Registrant.
(2) Audit-Related Fees represent assurance and related services provided
that are reasonably related to the performance of the audit of the
financial statements of the Covered Entities' and funds advised by the
Adviser or its affiliates, specifically data verification and
agreed-upon procedures related to asset securitizations and
agreed-upon procedures engagements.
(3) Tax Fees represent tax compliance, tax planning and tax advice
services provided in connection with the preparation and review of the
Registrant's tax returns.
(4) Tax Fees represent tax compliance, tax planning and tax advice
services provided in connection with the review of Covered Entities'
tax returns.
(5) All other fees represent project management for future
business applications and improving business and operational
processes.
<Page>
(e)(1) The audit committee's pre-approval policies and procedures are as
follows:
APPENDIX A
AUDIT COMMITTEE
AUDIT AND NON-AUDIT SERVICES
PRE-APPROVAL POLICY AND PROCEDURES
OF THE
MORGAN STANLEY RETAIL AND INSTITUTIONAL FUNDS
AS ADOPTED AND AMENDED JULY 23, 2004,(1)
1. STATEMENT OF PRINCIPLES
The Audit Committee of the Board is required to review and, in its sole
discretion, pre-approve all Covered Services to be provided by the Independent
Auditors to the Fund and Covered Entities in order to assure that services
performed by the Independent Auditors do not impair the auditor's independence
from the Fund.
The SEC has issued rules specifying the types of services that an independent
auditor may not provide to its audit client, as well as the audit committee's
administration of the engagement of the independent auditor. The SEC's rules
establish two different approaches to pre-approving services, which the SEC
considers to be equally valid. Proposed services either: may be pre-approved
without consideration of specific case-by-case services by the Audit Committee
("GENERAL PRE-APPROVAL"); or require the specific pre-approval of the Audit
Committee or its delegate ("SPECIFIC PRE-APPROVAL"). The Audit Committee
believes that the combination of these two approaches in this Policy will result
in an effective and efficient procedure to pre-approve services performed by the
Independent Auditors. As set forth in this Policy, unless a type of service has
received general pre-approval, it will require specific pre-approval by the
Audit Committee (or by any member of the Audit Committee to which pre-approval
authority has been delegated) if it is to be provided by the Independent
Auditors. Any proposed services exceeding pre-approved cost levels or budgeted
amounts will also require specific pre-approval by the Audit Committee.
The appendices to this Policy describe the Audit, Audit-related, Tax and All
Other services that have the general pre-approval of the Audit Committee. The
term of any general pre-approval is 12 months from the date of pre-approval,
unless the Audit Committee considers and provides a different period and states
otherwise. The Audit Committee will annually review and pre-approve the services
that may be provided by the Independent Auditors without obtaining specific
pre-approval from the Audit Committee. The Audit Committee will add to or
subtract from the list of general pre-approved services from time to time, based
on subsequent determinations.
- ----------
(1) This Audit Committee Audit and Non-Audit Services Pre-Approval Policy
and Procedures (the "POLICY"), adopted as of the date above, supersedes
and replaces all prior versions that may have been adopted from time to
time.
<Page>
The purpose of this Policy is to set forth the policy and procedures by which
the Audit Committee intends to fulfill its responsibilities. It does not
delegate the Audit Committee's responsibilities to pre-approve services
performed by the Independent Auditors to management.
The Fund's Independent Auditors have reviewed this Policy and believes that
implementation of the Policy will not adversely affect the Independent Auditors'
independence.
2. DELEGATION
As provided in the Act and the SEC's rules, the Audit Committee may delegate
either type of pre-approval authority to one or more of its members. The member
to whom such authority is delegated must report, for informational purposes
only, any pre-approval decisions to the Audit Committee at its next scheduled
meeting.
3. AUDIT SERVICES
The annual Audit services engagement terms and fees are subject to the specific
pre-approval of the Audit Committee. Audit services include the annual financial
statement audit and other procedures required to be performed by the Independent
Auditors to be able to form an opinion on the Fund's financial statements. These
other procedures include information systems and procedural reviews and testing
performed in order to understand and place reliance on the systems of internal
control, and consultations relating to the audit. The Audit Committee will
approve, if necessary, any changes in terms, conditions and fees resulting from
changes in audit scope, Fund structure or other items.
In addition to the annual Audit services engagement approved by the Audit
Committee, the Audit Committee may grant general pre-approval to other Audit
services, which are those services that only the Independent Auditors reasonably
can provide. Other Audit services may include statutory audits and services
associated with SEC registration statements (on Forms N-1A, N-2, N-3, N-4,
etc.), periodic reports and other documents filed with the SEC or other
documents issued in connection with securities offerings.
The Audit Committee has pre-approved the Audit services in Appendix B.1. All
other Audit services not listed in Appendix B.1 must be specifically
pre-approved by the Audit Committee (or by any member of the Audit Committee to
which pre-approval has been delegated).
4. AUDIT-RELATED SERVICES
Audit-related services are assurance and related services that are reasonably
related to the performance of the audit or review of the Fund's financial
statements and, to the extent they are Covered Services, the Covered Entities or
that are traditionally performed by the Independent Auditors. Because the Audit
Committee believes that the provision of Audit-related services does not impair
the independence of the auditor and is consistent with the SEC's rules on
auditor independence, the Audit Committee may grant general pre-approval to
Audit-related services. Audit-related services include, among others, accounting
consultations related to accounting, financial reporting or disclosure matters
<Page>
not classified as "Audit services"; assistance with understanding and
implementing new accounting and financial reporting guidance from rulemaking
authorities; agreed-upon or expanded audit procedures related to accounting
and/or billing records required to respond to or comply with financial,
accounting or regulatory reporting matters; and assistance with internal control
reporting requirements under Forms N-SAR and/or N-CSR.
The Audit Committee has pre-approved the Audit-related services in Appendix B.2.
All other Audit-related services not listed in Appendix B.2 must be specifically
pre-approved by the Audit Committee (or by any member of the Audit Committee to
which pre-approval has been delegated).
5. TAX SERVICES
The Audit Committee believes that the Independent Auditors can provide Tax
services to the Fund and, to the extent they are Covered Services, the Covered
Entities, such as tax compliance, tax planning and tax advice without impairing
the auditor's independence, and the SEC has stated that the Independent Auditors
may provide such services.
Pursuant to the preceding paragraph, the Audit Committee has pre-approved the
Tax Services in Appendix B.3. All Tax services in Appendix B.3 must be
specifically pre-approved by the Audit Committee (or by any member of the Audit
Committee to which pre-approval has been delegated).
6. ALL OTHER SERVICES
The Audit Committee believes, based on the SEC's rules prohibiting the
Independent Auditors from providing specific non-audit services, that other
types of non-audit services are permitted. Accordingly, the Audit Committee
believes it may grant general pre-approval to those permissible non-audit
services classified as All Other services that it believes are routine and
recurring services, would not impair the independence of the auditor and are
consistent with the SEC's rules on auditor independence.
The Audit Committee has pre-approved the All Other services in Appendix B.4.
Permissible All Other services not listed in Appendix B.4 must be specifically
pre-approved by the Audit Committee (or by any member of the Audit Committee to
which pre-approval has been delegated).
7. PRE-APPROVAL FEE LEVELS OR BUDGETED AMOUNTS
Pre-approval fee levels or budgeted amounts for all services to be provided by
the Independent Auditors will be established annually by the Audit Committee.
Any proposed services exceeding these levels or amounts will require specific
pre-approval by the Audit Committee. The Audit Committee is mindful of the
overall relationship of fees for audit and non-audit services in determining
whether to pre-approve any such services.
8. PROCEDURES
All requests or applications for services to be provided by the Independent
Auditors that do not require specific approval by the Audit Committee will be
submitted to the Fund's Chief Financial Officer and must include a detailed
description of the services to be
<Page>
rendered. The Fund's Chief Financial Officer will determine whether such
services are included within the list of services that have received the general
pre-approval of the Audit Committee. The Audit Committee will be informed on a
timely basis of any such services rendered by the Independent Auditors. Requests
or applications to provide services that require specific approval by the Audit
Committee will be submitted to the Audit Committee by both the Independent
Auditors and the Fund's Chief Financial Officer, and must include a joint
statement as to whether, in their view, the request or application is consistent
with the SEC's rules on auditor independence.
The Audit Committee has designated the Fund's Chief Financial Officer to monitor
the performance of all services provided by the Independent Auditors and to
determine whether such services are in compliance with this Policy. The Fund's
Chief Financial Officer will report to the Audit Committee on a periodic basis
on the results of its monitoring. Both the Fund's Chief Financial Officer and
management will immediately report to the chairman of the Audit Committee any
breach of this Policy that comes to the attention of the Fund's Chief Financial
Officer or any member of management.
9. ADDITIONAL REQUIREMENTS
The Audit Committee has determined to take additional measures on an annual
basis to meet its responsibility to oversee the work of the Independent Auditors
and to assure the auditor's independence from the Fund, such as reviewing a
formal written statement from the Independent Auditors delineating all
relationships between the Independent Auditors and the Fund, consistent with
Independence Standards Board No. 1, and discussing with the Independent Auditors
its methods and procedures for ensuring independence.
10. COVERED ENTITIES
Covered Entities include the Fund's investment adviser(s) and any entity
controlling, controlled by or under common control with the Fund's investment
adviser(s) that provides ongoing services to the Fund(s). Beginning with
non-audit service contracts entered into on or after May 6, 2003, the Fund's
audit committee must pre-approve non-audit services provided not only to the
Fund but also to the Covered Entities if the engagements relate directly to the
operations and financial reporting of the Fund. This list of Covered Entities
would include:
MORGAN STANLEY RETAIL FUNDS
Morgan Stanley Investment Advisors Inc.
Morgan Stanley & Co. Incorporated
Morgan Stanley DW Inc.
Morgan Stanley Investment Management Inc.
Morgan Stanley Investment Management Limited
Morgan Stanley Investment Management Private Limited
Morgan Stanley Asset & Investment Trust Management Co., Limited
Morgan Stanley Investment Management Company
Van Kampen Asset Management
Morgan Stanley Services Company, Inc.
Morgan Stanley Distributors Inc.
Morgan Stanley Trust FSB
<Page>
MORGAN STANLEY INSTITUTIONAL FUNDS
Morgan Stanley Investment Management Inc.
Morgan Stanley Investment Advisors Inc.
Morgan Stanley Investment Management Limited
Morgan Stanley Investment Management Private Limited
Morgan Stanley Asset & Investment Trust Management Co., Limited
Morgan Stanley Investment Management Company
Morgan Stanley & Co. Incorporated
Morgan Stanley Distribution, Inc.
Morgan Stanley AIP GP LP
Morgan Stanley Alternative Investment Partners LP
(e)(2) Beginning with non-audit service contracts entered into on or after May
6, 2003, the audit committee also is required to pre-approve services to Covered
Entities to the extent that the services are determined to have a direct impact
on the operations or financial reporting of the Registrant. 100% of such
services were pre-approved by the audit committee pursuant to the Audit
Committee's pre-approval policies and procedures (attached hereto).
(f) Not applicable.
(g) See table above.
(h) The audit committee of the Board of Trustees has considered whether the
provision of services other than audit services performed by the auditors to
the Registrant and Covered Entities is compatible with maintaining the
auditors' independence in performing audit services.
Item 5. Audit Committee of Listed Registrants.
(a) The Fund has a separately-designated standing audit committee established
in accordance with Section 3(a)(58)(A) of the Exchange Act whose members are:
Michael Bozic, Edwin J. Garn, Wayne E. Hedien, Manual H. Johnson, Joseph J.
Kearns, Michael Nugent and Fergus Reid.
(b) Not applicable.
Item 6. Schedule of Investments
Refer to Item 1.
<Page>
Item 7. Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies.
Applicable only to annual reports filed by closed-end funds.
Item 8. Closed-End Fund Repurchases
Applicable to reports filed by closed-end funds.
Item 9. Submission of Matters to a Vote of Security Holders
Not applicable.
Item 10 - Controls and Procedures
(a) The Fund's principal executive officer and principal financial officer have
concluded that the Fund's disclosure controls and procedures are sufficient to
ensure that information required to be disclosed by the Fund in this Form N-CSR
was recorded, processed, summarized and reported within the time periods
specified in the Securities and Exchange Commission's rules and forms, based
upon such officers' evaluation of these controls and procedures as of a date
within 90 days of the filing date of the report.
(b) There were no changes in the registrant's internal control over financial
reporting that occurred during the registrant's most recent fiscal half-year
(the registrant's second fiscal half-year in the case of an annual report) that
has materially affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting.
Item 11 Exhibits
(a) The Code of Ethics for Principal Executive and Senior Financial Officers is
attached hereto.
(b) A separate certification for each principal executive officer and principal
financial officer of the registrant are attached hereto as part of EX-99.CERT.
<Page>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
Morgan Stanley Quality Income Trust
/s/ Ronald E. Robison
Ronald E. Robison
Principal Executive Officer
October 20, 2004
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed by the following
persons on behalf of the registrant and in the capacities and on the dates
indicated.
/s/ Ronald E. Robison
Ronald E. Robison
Principal Executive Officer
October 20, 2004
/s/ Francis Smith
Francis Smith
Principal Financial Officer
October 20, 2004
<Page>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
Morgan Stanley Quality Income Trust
/s/ Ronald E. Robison
Ronald E. Robison
Principal Executive Officer
January 3, 2005
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed by the following
persons on behalf of the registrant and in the capacities and on the dates
indicated.
/s/ Ronald E. Robison
Ronald E. Robison
Principal Executive Officer
January 3, 2005
/s/ Francis Smith
Francis Smith
Principal Financial Officer
January 3, 2005