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PtiiliipMorris Cornpa~ni+es Inc. Annu~al Report 1988 :.. rs'.s:d~:aid...~:.~.:~>.c.:.z,-5~`.~.~.::Itau:n:~_.•+.8ra`.'r::e» ,.::a ::. a-.t.S~~ .x.sc~.L .;w~:.1O~ ..sx: .,'x .. :: s.~ .r..~sr..M.At"1~;~.' Y ~ii.._X.,..ee.ed~.: • z:;. . .

J, ., . .. s hilip 1'Wiorris is now the vw6rld~s fargestis nsumer packaged goods company~ co P manufacturing and marketing an array of; - qualifytobacco, fdod, and _beve ra.e brands. _The scope and vigor of our companies offer a wid+e - rang+e of choice for customers; economic::- oppor unity for employees; social andd culturak~_;, support for plant communities; and consistent ~' grovwt hin earnings and dMidends for ihvestors.. But in the increasingly competitive global marketplace, size aldne is, not enough. We also aspire to be the best, by continuing to identify and satisfy consumer needs quickly and completely-the key to expanding both.-: profitable voliume and market share through the-:-.~ 1990's and beyond'~ Financial Highlights Letter to Seockholdbrs - -. Philip Morris Product Profile Business Review and Strategies '' Tobacw

. ~ . ~. F i. naneial, Hrgl ['r~ .7 (in imillions of dollars; except per share data) 1988 1987 1986 1985 1984 Operating,revenues $31,742 $28,1'83 $25,883 $ 16;267 $14;102 Met'earnings 2,337 L,842 1,478 1,255 889 Net earnings per share 10.03 7:75' 6.20, 5.24 3.62 C)ividends.declared per share 4.05 3.15 2.475 2:00 1.70 Prrot.nt Irrfcn.as. Owr Prior ll.ar f)perating',tevenues 12.6% 8.9% 59:1% 15.4% 6,44 BJet'eamings 26.9% 24.7% 17.7% 41.3% -1.7% Wt,eamings per share 29.4% 25.0% 18:3%, 44.6% 1.0% Dividends declared per share 28.6%, 27.396 23:8%1 17.6% 17.2°c, Op.ratlng A.mantws Dorrtestie tobacco $ 8,501 171640 $ ~ 7,053' $ 6,611 a , 6,134. International!tobacco 8,085' T004 5,638' 3;991 3,741 Food 11,265' 9;946 9,6641 1,632 - Beer 3,262' 3;105 3,054 2,914 2,928' Financial services and real estate 629 488 474 303 288 Other - - - 816 1,011. Total operating,revenues $31,742 $28,183 $25,883 $16,2,67 ' $14;T02 Opisratingl /ncom. Domestic tobacco $ 3;087 5' 2,715 $ ' 2,366 $ 2,047' $ 1.,744 Intetslational tobacco 774 582' 492 413' 395 Food 849 773' 741 ' 1'20 Beer 190 170 154 132 114 Financial serviees and!real estate 1!63 68 32 66 57 Other - 20 (10) 42 30 Operating companies income 5,063 4,328 3;775 2,820 2.340 Amortization ofgoodwill' 125 105 112 33 16 Ptestructuring of GenerallFoods Corporation 348 71 Trenton brewery write-down - - - - 280 Unallocated corporate expenses 193 162 126 123 136 Total operating incorne"' i' 4,397 $ 3,990 S 3,537' $ 2;664 5 1.908 ~ompotund.d Avarag. Annual Growth Aate 1988-1983 1988-1978' 1988-1973 Operating revenues 19.1% 16.9% 1.8, 1% Net earnings 20;9% 19.0% 20! 1% lilet earnings per share 22:9% 19.5% 1'9!7% i 'tTperating income is income before interest and otherdebt expense, net. Kraft; lnc. became a wholly-owned subsidiary on ilecember7,1988; Accordingly, eronsolidated results of tMe comparry includeahe operating,results of Kraft; lne- since its acquisition. General Foods Corporation was acquired in November 1985:,Accordingly, consolidated Iresults shown above include the operating results of General Foods Corporation aften(ctober1985, The companyadbpted as of 7anuary 1,1988Ithe method ~of iaccounting for income taxes prescribed by Statement of Firwrtcial,Aecounting Standards No. 96, "Accounting for Income Taxes," The net effeet of the adoption of SFiAS 96 was an increase in annual 1988 net earrtingsand earnings per share of 5213'million and S0:9t, respectively In 1988, the companyprovidediorrestrncturing costs at General Fonds Corpora, tion which reduced 1988 eamings before income taxes, net eamings and earnings per share by3'3I48'million, i212!milliort and SU:91„respectively. In 1987, the company recorded a pre-tax charge of $'l17'million related to a resttucturing of Gbneral Foods into ttiree separate operating companies, partlalli, offset by a pre-tax gain of $46 million from the sale of Open Pit barbecue sauce retail business. These items reduced earnings before income 4axes. net earnings and earningspershare,byE71'millim f22lmillion and $0.09, respectively. In 1986 operating~irtconteJor'Firtancial Isernicesand real estatF was reduced b,r. $71 million resulting from the effects of the TawReform Act of 1966 and Icerta in relatedlleveraged lease,renegotiatfons. i005230585

Dear Stockholder: RIF-In-AL Your company continued to build on its strengths in 1988, most importantlyt'hrough the acquisition~of'Kraft, Inc.. Philip Morris, the most successfuCCand profitable cigarette com- pany in the world, is now alsothe largest and most diversified food and beverage ccnmpany in the United States, One chief reason for your company's success lies in the quality of our employees. We welcome to Philip Morri's the people of Kraft; as they join their experience to ours, we will together create a com- pany marked by even greater creativity and competitiveness: Toward that end, we formed Ithe Kraft General Foods Group, effective March 1',1989, to manage complementaryproduct lines and better utilize manufacturing, distribution, and marketing strengths. We believe the reorganization~willlreinforce ourexpan- sion into growing food sectors and enable us to compete in world markets more effectively than anyother U.S.-based food company. We are borrowing to finance our investment, as we did in acquir- ing General Foods. Yet, since that acquisition ini1985, sales growth, major marketing efficiencies< rapid debt redUction, and a strong cash flow have accelerated our growth in net earnings, earnings pershare; and'annualized dividends. We are confidentiof our abili- ties toservice this new acquisition-related debt and to pay it down over the next few years. The acquisition oflKraft in no way diminishes our determination to continue gaining volume and market share in all ourbasic businesses while providing predictable growthiin earningsand dividends: ln 1988, we increased our dividendiby 2596 to an, annualized rate of 5=1',50 per share, marking,the 21st consecutive year of increases. 1988 Results Consolidated operating revenues of'$3'1.7 billion were up 12.6% over 1987. Net earnings were up 26:9%ito $2.3 billion, and'net earnings.per share rose to $10.03; up 29.4%.. ICraft4lnc. became a wholly-owned subsidiary omDecember 74 1988. Accordingly. consolidated results of your company include the operating results of'Kraft; Inc. since the date ofacquisition, The transaction, after goodwill amortization and the cost ofi acquisition financing, diluted ouri 1988 consolidated neCearnings by$0.12 per share. To lay the groundwork for improved cost efficiencies, we pro- vided'forrestructuring costs at General Foods Corporation. The charges included a plant closing, consolidationof'manufacturing facilities, early retirementiprograms, and other overhead cost reductions. The restructuring's full-year effects were offset bythe favorable impact of our adoption of StatemenCof Financial Account- ing ;Standard sNo. 96, ' Accounting ,for Income Taxes ° With reference to our operating units, Philip Morris U.S.A. wass the only U.S: cigarette manufacturer to increase domestic unit wl- ume. Volume was up1.79fo; with market share growingto 39:3%. Philip Morris International Inc., whose wlume increased 4!49b, benefited from lowered trade barriers inAsia and the weaker dollar. General Foods Corporation volume rose 5.1% while operating revenues increased to $10.4 billion with both new and established products contributing,to the gain. The General Foods USA volume increase of 7.8% resulted in operating,revenues of $18 billion and operating income, excluding restructuring costs of $438 million. General Foods Woridwide Coffee and International's operating revenues increased slightly to ~$4:4 billion due to strong volume per- formance in Canada and overseas, fiaccluding,restructuring costs, operating income of $165 million was aduerselyaffected by price competition and higher marketing expenses in the U.S: coffee mar- ket. Oscar Mayer continued to capitalize on its market leadership with volume increasing 9.8% over 1987. Operating revenues increased to $2:3 billion and operating income rose to $'197 million. Since the date of acquisition, Kraft icontributed operating,reve- nues of $821 million and operating income ofi$78 million, exclud- ing goodwill'amortization: Although not included in Philip Morris' consolidated!results, Kraft's full-year revenues and volumes increased i12.996 and 10.196„respectiuely, over 1987. In 1988, Miller Btewing Company shipped more barrels and reported higher operating,revenues than everbefore. That volume growth, and consequent market share gain, were spurred by thee performance.of both its premium and popular-priced products:. Nfanagernent,and the Board ofDlrectors John M! Richman, Kraft's Chairman, has been named Chairman and Chief'Executive Of'ficer of the Kraft General Foods Group andd was electediVice Chairmanand a member of the Boardiof'Directors of Philip Morris Companies Inc.. Michael A. Miles, Kraft's President, has become Presidentand Chief Operating Officer of the Kraft General Foods Group. It iss intended that Mcc Miles become Chief'ExecutiveAfFicer of the Kraft General Foods Group in 1990; after the integration of ourtwo food units is completed. Mr. Richman will remain Vice Chairman of. Philip Morris Companies Inc. Murray H. Bring, SeniorVicePresidentandlGeneral Counsel of. Philip Morris, was elected to the Board of'Directors in 1988. In January of 1989J Dt Elizabeth E. Bailey, formerl y a member of ' the Kraft Board of IDirectors; was elected to the Board of'Directors of'Philip Morris. Hugh Cullman retiredlas Vice Chairman upon reaching the age of 65! Thomas F.' Ahrensfeld also retired as Senior Vice President and General Counsel. We again thank both Mr. Cirllmanand Mr. Ahrensfeld for their leadership and dedicated service to your company. In addition, Philip L. Smith resigned his position as Vice Chair, man to pursue other opportunities. Social and Legislative Issues Like manycompanies„we face challenges in the formulationof'n public policies which may affect ourvarious businesses, Your man- agement has articulated the corrtpany's positionion mostiof them. You may write to our Corporate Affairs department for more infor- mation in this regardi (See page 56'.). lnthe area of cigarette product liability, it should be noted that. Philip Morris was a defendant in a case that went to trial in 1988. A jury found in our favor on all claims brought againstius. At the end of'1988, the number of pending cases against the U.S. cigarette industry was 80, down 27'from year-end 11987. We are firmly committed to continuing,our programs in support 1095230586 ~~~

M o'the public interest„as well as to sustaining the activities of all oar operating companies in their communities. I i~ue OutWk The acquisition of Kraft. [hc. is in keepingwithiourefforts oflrecentf y:ars to help ensure future volume and earnings growth by concen- ttating,resources and attention on our: primary industries: tobacco. Mod, and be4-erages.ltie will continue to capitalize on such world- wide strengths as our'trademarks, markeetingj distribution systems, and'financial resources. We w ill employ our free cash flow to service and retire the debt taken on trn acquire Kraft. At.the sametime, we will maintain our capital iTavestmentprogram; expenditures of $1.2 billion are planned in 1989. Althouglrour debt is currently large, we retain the resources to consider additional', tactical acquisitions'to further enhance our product lines. The greater size and'variety of our fbod operations enables us to. strengthen our distribution systems and enhance our research and developrroenteffort:s to prepare ourselves for developments in regitnnalized marketing, new consumer trend4, and'.sttonger com petition in the U.S. and intErnationaliii. especially as we prepare for the contemplated consulidation of European marke ts in 1992.. These new red.il6es present great opportunities. The continuing gro%+sth of our established operating companies augrnented'.by luaftt equips us to take advantage of them. Bv investir•,g K ise:y and consolidating our strengths; we are positioning ourselves to nteet shifts in rnarket'conditions and sat- isfy consumer tastes more rapidly than ever before: all to assist us in reaching our goal of beir,g the best corlsumer products compar:~~~ ia the world. vkw Hamish 'Via.wwel l Chairman of'the Board and Chief Executive Officer Op.ratiny AMrsnuss . ®illibr s ot Dffiars M Domes?ic?oba c:;,o i ~intemati'y!a!. Tobacco .. Foo~ 9eer ~ iFinanciai'Seroices &F!ea!. Esiate si iC3t^er .1 Op.ralMS Cenrpsnias /woeer Biiiions ofDDiilar£M .r.!9!Pe8k Tobacco . ssi Intemationa: Tobacco r Food' Beer ts Fina-.ciai'Serv,ces & Reaa Es+.ate. s Otrse^ 3E Met Earnings e ! ;::!s : Do.;ars f Cash Flow Per Shore From op*rattny. AietiviNas  M.t E.rninps Par Share v,Aarfi [-1 Otbkdionds 8!.abr.d Par Shsr. iJci s.~ 2'i^.' 8d 85 86 87 ' 88 .

This is Plhilip Morris Tobacco Food 4 1.005230588

Beer 4 1005230589 >

IL ed by Marlboro, the ~vorld,s best-selling cigarette, Philip Morris U! S:A. increased unit ' volu ~~rne and' market share in 198i Our consistent ability to manufac- ture premium-quality products has helped ustosteadily gain voTurne andd market share in the U.S. while dramati- cally expanding our presence in the growing overseas markets. Operafing Revenues (Fe,cen:of Tcna,!GPeraa;r.gF.:r~ 7

Phiiip Morris lu.S.A. Nineteen eighty-eight was another record year: while the domestic industry's unit volume declined by 2:196, we were the only cig- arette manufacturer to : increase U.S. unit volume: Volume advanced to 2]9:3 billion units, up 1.79ib,.!nd market share increased 1.5 share points to 39.3%. Ass a result, operating reve- nues rose to $8.5'billibn, up 11.3%, andloperating income climbedlto $3.1 bil- lion, up 131746. Philip Morris U.S.A.'s cig- ariettes, which represent some of.the world?s most popular products,,are lead- ers in most demographic groups and also lead in several industry categories such~as full flavor, low'taq 85tnm;10pmm„and box packings. In addition, Philip:hQorris U.S.A, advanced its share in the growing ultra low tar and price-value categories. Marlboro gained market share for the 24th consecu- tive year to approach ~a 25% share,, up 1.3 share points over 11987 and reaching 138.8 billion units: Marl- boro Lights continued itsconsistent growth andl increased its leading,share. of the low tar category: Dur- ing 1988, we successfully introdluced Marlboro Men- tholiLights and!a reformu+ lated hiarlboro Menthol. We undertook new mar, keting initiatives to further support our other rnajor full-price entries. Virginia. Slims remains the best-sell- ing cigarette made espe- cialty for women;,the brand?s performance was strengthened byWirginia Slims Ultra Lights. Merit Ultra, Lights continued its growth with the intro- duction of a new box packing. Benson & Hedges remained the industry leader in the 100mm segment. Ourprice-value brands grew by 3.9 billi©n units in 1988, which was greater than the price-value cate- gory's total 3A billion unit growth last year. Our per.- forrnance was 1ed by Cam- bridge, which increased volurne by 53% in 1988. Philip Morris U.S:A:s share of't'he price-value segment grew by 5'.5lshare points,, reach'ing,21L1'9b. Early in 1989, Philip Morris U.S:A. repositioned Alpine as the first free-standing menthol in the price-value category and, as a result, strength+ ened our position in two important industry segments. To support continued volume growth, we have increased lthe availability of all'our brands in netailiout= lets by expanding our sales organization and conduct* ing,special promotionall activities. Strategic Focus We will continue to intro- duce new products and use brand extensions to main- tain our! strong overall pnes- ence, especially in growing segments of the indiastry, such as box packings and' the price-value category, Through additional invest- ments in~research and technology, we are seeking to strengthen our position, as a flexible, high-quality, low-cost producen ready to meet new challenges. And ouremphasi's on purchas- ing,domestically produced tobaccos has helped Amer- ican leaf tobacco growers both to increase their share of tobacco sold in the United'States, and to sup- ply quality leaf atcompeti- tive prices to the expanding glbbat marka In 1989, we will face yet another round of chal- lenges on excise taxes;, advertising, bans, and I restrictions on smoking. To face them, we have become more effective in, presenting,our point of view to smokers through Philip M?orrfs Mrrgazine, which now reaches more than 13'million households six times each year. We are confident that even with these challenges we will be able to continue to enhance our profitability. Mariboroi(nght) increased its market share for the 24th consecutive year; ourflagship cigarette,brand now accounts for one out of every four cig- arettes so/d in the U: S: In addition, Philip Morris W.'S;A: markets some of the strongest lull price brands: Benson &'Hedges (inset, right)„Merit, and'Uirginia Slims (below). 10015230592W

Philip Morris International dnc. achieved prowthiin marry markets where it competes, most notably in Asia and Europe. The expansion was paced'by Marlboro's unique world- wide appeal; as in Germany(below); but gains were also registered'by L&M'Milds in Japan (left); Superlights in Australia (inset,,l@lY); Parliament in Turkey, and Chesterlield'in Spain (below), Philip Morris Interna#imnal' InC. Philip Morris International Inc. again set new records in volume, operating reve- nues, and operating income. Unitvrslirrne increasedito . 334.7 billion units, 4.4% over 1987. ©perating reve- nues rose 15,4'% tb $8.1 bil- lion and operating income reached $774 million, up 33%. Our U.S. cigarette export volume increased by 13.2% to 68!8 billion, units. The company's exports of cigarettes and tobacco represented a gross contribution to the U.S: balance of payments of $1.9 billion. We improvedlour market share in 1'$'of'our 20 major markets. These increases were largely fueled by Marlboro's continued vol- ume and share gains in~ almost all of its rnarkets: The success of Marlboro Lights in countries ranging from France, Germany, and SwitQerland to Saudi Arabia, Mexico, and Japan has been a springtboard for expansion. Our, other majpr international brands, lead- ers in a growing numberof markets, also performed well in 1988. In Canada, where we have a 4096 investment in Rothmans, Benson and Hedges Inc., our income was again higher. In the European Eco- nomic Community, our, unit volume increased over 8%, and our aggregate market share now exceeds 20%. The gains were mostt noticeable in France, Ger- many,ltaly, and Spain. We also gained volume in Fin, land, where our market share now exceeds 60%, Sw=itzerlend„andlin Eastern Europe. ln, Latin America„our operating income was up over 1987; and inihe Asian, region our volume and' share growth continued, primarily due to the imme- diate acceptance of Ameri- can cigarettes in newly opened markets. We sold 8 billion more units in this reg ion tha n i n 1 1987, , an increase of 12.346. Stratpgic Focus We will use the momentum we have built in each region to achieve further volume and market share gains: These gains will come through the growthh of Marlboro, Marlboro l.ights, Merit, Parliament', and the Philip Morris brandl and continuedimar- keting support for Lark, Chesterfield, and' L&M. In addition; we wil I I introduce new brandsand extend current'brand'lines to maintain ourvolume: growth rtrends. We see great potential in Asia, where lowered trade barriers in several markets now, allow us to compete effectively with products marketed by the local gov- ernment monopolies. Since our share of most international cigarette mar- kets is still Ifar, below our U.S. leveli we have consid- erable room for future growth. During,the year, we increased marketing spending in several!key markets. In additionj our, ooverall position as a low- cost producer; coupled with our increasing market presence;,w.ill help to ensure continued income improvement. 11

13 y adding Kraft to the General Foods cornpana;es, Philip Mbrris has become the largest U.S.-based food company-and a powTerfull presence in international markets.. As we merge distribution networks for our valued brand name products, we wiR be even better positioned to respond to changing, consumer needs around the world. Operating Revenues (Percera o' Tcta: ^perabrig Reverues) ~~

Kraft Gieneral Foods Group The recent addition of Kraft has made us the largest, most diversified food and beverage company in the. United'States. Kraft and General Foods introduced more than 250 new prm¢- ucts and packings ' between them in 1988. This exemplifies the attention to the marketplace and the needs of consumers that exists in ourcompanies, The challenge we now face is managjng the integration of facilities, distribution systems, and product lines so thatwe may bestreatizet our full: Accordingly, we an- nounced the formation of the Kraft General Foods Group, effective March 1, 1989i Its seven operating units will enable us to compete even more effec- tively not only in the U.S:, butalso in the growing global! marketplace. orn.ralifaods USA General Foods USAA increased operating reve- nues and operating,income in most of its businesses. It also increased v+olume and share of most products. IKool-Aid and our otherr powdered beverages increased their market share to 82.2%. Jell;O gela- tin desserts captured a 76,696 share, and Stove Top stuffing increased its share to $8':596. In addition, the acquisi- tion of'The Charles Frei- hofer Baking Company, together with the Califomia expansion of Entenmann's, increased our share and! wltame in the fresh baked goods market. Post cereals maintained wlume and launched Post Oat Flakes in the growing oat segment Maxwell House had an unsatisfactory year. Initia- tives taken toimproue cof: fee pricing,and margins in early 1988 were unsuccess- ful„leading to a loss in market share. We recovered the share loss in the latter part of the year, but associ- ated marketing expendi- tures adversely affected income. The major brands of General Foods USA now include: Maxwell House, Sanka, Yuban„Brim, General Foods Internation- al Coffees, Kool-Aid, Crys- taI Light, Country Time, Tang, Jell-O, Baker's, Entenmann's; Oroweat, Freihofer's, Post, Minute, Stove Top, Ronzoni, Good' Seasons, and l:og,Cabin. Strategic Focus We are investing in such new products and brand extensions as Jell-O ready to-eat puddings and Post Oat Flakes. We are meeting consumer demand for freshness and convenience with ready-to-drink Kool- Aid 1{oolers in aseptic packaging, as well as sin- gle-serve microwave pack= aging for our Minute brand products. Further, we have expanded distribudonof the Impromptu line of shelf-stable meals. Maxwell House is being strengthened', in the U.S. by way of improved quality, increased advertising sup• port, and new packaging and'graphics. We are intro- ducing several'new prod- ucts, including Maxwell House Rich French Roast,,a robust European-style blend, and Maxwell House Filter Packs, pre-measured coffee packaged in a sealed i filter. Kraft UJSA' Kraft cheese volume in 1988 grew by over 4%, inexcess of industry growth. Recent marketing and research and development efforts hawe spurred the introduction of a number of new products and line extensions which contrib- uted to thaG growth. The introduction of Kraft 100% Natural Shreds,,Velveeta Shreds, reduced-fat, low- cholesterol Kraft Light Mat, urals, and Cheez Whiz all contributed to volume growth in the cheese. category.This unit's gr•ocery prod- ucts volume has been rela- tive~ly flat in recent years, consistent with industry trends: "Light" versions of Miracle Whip:saladldress- ing,and Kraft mayonnaise have gainedwmlinme andl share. Bull's-Eye ' ~banbecue sauce, our premium entry, increased share and vol- ume in this segment. Pourable salad dressings performed largely iniline Oeneral Foods USA's product tine includes classic brand hames such as: Kool-Aid (right) in aseptic pack- ages; Jelb0 pudding,snacks (lower right) in 1 sing/e-senre portions; Enten- mannls (below)iwithihigh;tiber baked goods; and AMaxwetl House coffee (pottom) with new redesi pned pactf-, aging, Abroed, products such as France s Hot/ywoodigum (inset, nght) maintained MarketJeadership: 10052310598,

While Oscar Mayer was successlully launching LunchabdesJunch combi- nations (lett); itsJine of sdiced lunch- eon meats finset, left) cl mbed ~to a 35% market share: Among Kraft USA°s comprehensive,li'ne o/icheeses: bw-cholesterol Light JWaturals. (below). The Kraft General food5 Irtternational Group produces brands such as ltaty's Mato Mato ketchup (tiottom):. with industrytrends: Kraft' macaroni and cheese con- tinued to lead! the pasta dinner segment: The major brands of Kraft'USA now include: Kraft (natural and process cheese, dry packaged din- ners, mayonnaise, pourable salad dressings, barbecuee sauce, and caramels); Ve1- veeta+ Philadelphia Brand, Cheez Whiz, Miracle Whip, Seven Seas, Parkay,Chiffon; andlBull's-Eye: Strategic Focus We are committed to growth through new prod- ucts, line extensions, and increased marketing, efforts. We will continue to capitalize on strong brand assets. New products will address consumer con- cerns relating to fat, cho- lesterol, and convenience. We will intensify our effortss in the growth areas of cheese exempli'fied'by Churny and Polly-O. Con- sumer convenience is addressed by products such as the new, versatilee side dishes of Kraft dinners and Ithe miarowavabie CheezWhiz spread. Kraft fi.naral Foods Inb.rnational This group has been.newly formedlto rnanage all Kraft and IGeneral Foods busi- nesses outside the United States and Canada ~and gives us a worldwide food l base upon which to grow. General Foods' interna- tional business results in. 1!988 reflected increased volume and income. General Foods coffee fran- chises had substantial vol- ume increases in Europe and Asia, while interna- tional i products such as Hollywood chewing gum in France, Kibon ice creami in Brazil, and Siinmenthal'. canned meats in Italy gained strength as market leaders. Kraft products improved volume and share in their most important markets. Kraft's international busi- ness emphasizes cheese and edible-oil-based prod- ucts such~as salad dress- ings. Other products include peanut butter, ketchup; packagedIdinners, jellies, and preserves~ Examples of significant, brand franchises are Mato Mato ketchupand Philadel- phia Brand cream cheese in Italy,,Miraicoli pasta dinners in Germany, and Vegemite spread in Australia. Strategic Focus In the European, Latin. American, Asian, and Pacific markets, we will continue to build our cof- fee, powdered beverage;, cheese, and grocery busi- nesses. We expect major growth~from our principal product lines in Italy,, Spain, and Asia: The orga- nizations will be.combined on a regionalland country basis as necessary to lever- age oursize;,brands, and Kraft4an.ral Foads. Canada The formation of Kraft General Foods Canada cre- ates a strong foundation for future growth as one of the major packaged goods companies in the country: Kraft's cheese and grocery lines have experienced steady growth in Canada in recent years, in large part through successful ne,,+, product introductions. We have merged General Foods' Hostess brand, Canada's leading snack brand, with Frito-Lay, a subsidiary of PepsiCo, Inc., to establish an even~ stronger franchise. Otherr businesses in Canada, con- sist of General Foods coffee and groceryproducts, which have provided con- sistent income growth. The major brands of Kraft General Foods Canada now include: Kraft, Philadelphia Brand, Hostiess,,Frito-llay Jell-O;. Birds Eye, Kool-Aid, C©ol Whip, Post, Sanka„and Maxwell I House. Oscar Mayer Foods Oscar MayerFoodS' results reflected strong vol- ume growth and effective marketing. The Oscar Mayer brand grew share in processed meats, while the Louis Rich brand continues to grow from its leadership positioni within rthe rapidly expand- ing turkey segml Includ- ing its Louis Rich biand, Oscar Mayer now accounts for 35% of the market forr distribution systems. 1oo~OSo' 17

sliced luncheon meats and. 18.1I°% for hot dogs. Oscar Mayer also recently became the exclusive sup- plierof'igrilled hot dogs to ower 5,000 7,Elevenstores across the nation. We are now firstin sales volume of' ready,to:-eat hotdogs inthe United States. In addition, the Oscar Mayer brand also leads the bacon markett with a 12.2°'o share. This unit markets all processed meat, poultry, seafood products, and pick- les under the Oscar Mayer, Louis Rich„Loui's Kemp, and'Claussen brand names. Strategic Focus We wil l support' and' emphasize continued rnomentium inour core Oscar %layer and Louis Rich franchises, building on our market leadership positions. We are creating, the framework for future growth by introducing con- venience products such as Lunchables lunch.combi, nations, Zappetites micro- wave snacks, and Louis Kemp surirni'seafood prod- ucts. We are also capitaliz- ing on growthiinithe food- awayfrom-horne business byimcreasingiour distribu- tion to convenience stores and otherfoodservice outlets, . Kraft General Foods Frozen Products The foundation for future growth of our new Frozen Products group is evidenU in the 1988 resultsof the leading brands that are part of this unitL Birds Eye vegetables, posting the best volume gain in over 15 years, increased market share to: 14! 9%. The Budget Gour- met frozen entrees gained share and volume, in con- trast to most competitors. In addition, Lender's frozeni bagels, Breyers Light ice. milk, and Cool Whip des- sert toppings registered vol- ume and share gains. Our, ice cream business under, the Breyers, Sealtest, and Frusen Gladje' brands con- tinued to lead the industry. The major brands of Kraft General Foods Frozen Products now include: The. Budget Gourmet, Lender's, Breyers, Sealtest, Light n' Lively, Knudsen, Fruseni Gladje, Birds Eye; Tornb- stone, Je11-O frozen novel- ties, Cool Whip, andl Breakstone's. Strategic Focus The combination of these brands and productss makes us one ofithe largest factors in the frozen foods case. Ourtask is to convert this presence into superior performance. We have undertaken a number of strategic initiatives to meet consumer demand for reduced-calorie and low- fat products. Among the new brand lines offering growthi potential are Birds Eye in single-setve microwave packaging, The Budget Gourmet side dishes, and Lender's Big 'n Crusty bagels: We will also continue to roll out strong, regional U.S. brands. For example, although available in only 30% of the country„ Tomb- stone pizza ranks first nationally among branded frozen pizzas. We intend to expand Tombstone geographicaily, u.a. conun+.rciatl Group This group includes Kraft's U.S: foodservice distribu- tion, as well as industrial food ingredients and the edible-oil refining busi- nesses. We are pursuing opportunities in these markets. The food-away-from- home business has been growing rapidly in recent years. We plan to increase service to in•store delis, now the fastest-growing section inithe supermarket. Investments in foodservice will emphasize information and management systems to achieve significant econ- omies rather than further geographical I expansion. The food ingredients busi- ness increased both ton~ nage and income in,19 The edible-oil businesss iinprovedlincome and achieved cost reduction and scale efficiencies after the successftrlicombination, of Kraft's and Anderson Clayton's edible-oil' businesses. KrahlGeneral foods Frozen Products Group includes quaN'ty brands such ~ as: Lght,n''LNely yogurt (right)„ and Tombstone (below), America's No. I branded lrozen pizza. Overseas, Kraft General FbodsJnternafionai produces national lavorites such as AUstratia's Vegemite yeast ispread (inset, right). The W:S: Commercial Group (bottom)„manages KralYs foodservice operations 1045230602 1'8:

T he worldPs second-largest brewer, Mi l ler Brewing Cornpany- led by its Miller Lite low-caloriie and Mil'ller Genuine Draft premit''!1m beers-ac ieved growth in a generally flat industrvAs consumer ta .tes continue to shift, we are so1 id'ifyring I our competi- tive base by introducing new l'ines; refocusing our advertising and pack- aging; and entering international markets.. Operating: Revenues (Percer,t o! Tota; Operatin;;,Revemues) - Financia' en... PS . _ [:st a£., an4RE'_:ci 21

Mi11er Brewing Company A3.5°,'o volume increase, to a record 40.7 milQionbar- rels shipped, helped to increase ourshare shareUS. beer market. Operating revenues of $3.3 billion were 5.1% higher than in 1987,,and operating in- come rose by 1n~796 to $190villion. Miller Genuine Draft, with Miller's exclusive Cbld=Filteredn' pnocess, remained one of the coun- try's fastest-growing,pre- rnium brands and helped to increase Miller's share of the full-calorie premium segment for the first time in, eight years. Miller Lite; the second- bestrselling,beer in Amer- ica, also increased volume again and accounts for approximately one-half of the low calorie premium segment: Combined volume for our popular-priced entries;, Miillwaukee's Best and Meister Brau; grew by 11.6%, resulting,inia 17% share of the segment. Strategic Focus We experienced growthiin volume, markeCshare, and income in an essentially flat industry by concentrat- ing efforts in areas such as the low-calorie and the emerging packaged-draft segments. For instance, Lite Genuine Draft was introduced into four test markets. Our 1988 purchase of'the Jacob Leinenkugel Brewing Company brought us high- quality regional brands that possess national potentiall Miller Brewing Company will al'socontinue topur- sue international marketing, opportunities. Financial Services and Rieavt' Estate. Operating revenues increased 29.196' to $629 million. Due to strong,land sales in California, Mi'ssion. Wiejo Realty Group Inc.'s operating revenues increased by 38%. Inaddi- tion, Philip Morris Credit Corporation's (PMCC) i financial services activities continued to record gains: Strategic Focus PMCC has increased its commitment to customerr and supplier financing. New programs under, take n i i n 1988 t ha t w i l l Tbe expanded in the future include inventory and term ~ loan financing for suppliers and distributors of our operating companies. We will continue our cornmit- mentto theJeasing market,, which providesattractiive returns to PMCC. Since mid-1987; Mission Viejo's strategic focus has been redirectedltowardl land!planning, develop- ment, and sales; home- building,is being,phasedl out in Uifornia: Due to unusually strong market conditions in that state, our revised operating strategy produced higher increases in revenues andlearnings in19 Miller Lite (right) remains Americs's first choice in tow-ca/orie beers. Mitter Genuine DraR (inset, right), is among the Jeaders in ithe premium beer sep- ment: lnnp-neck bottles were intia duced for our three ma)or brands, includihp Mitter'Hiph Life (below). 1005230GVp 22

ILSLK.r Inau." mamdsAiprn.els FeL9!a TBr.,PBic Nthdra.rae • u.i. N.rIndvRhyt •.erwSAlprn.nta.  ruarshm. loa us. ~maua.y (%; A4?!iGms C` $d•~EiS ?W 40

Management's Dis+cwssio'n and Analyrsis of Financial Condition and Reswlts of Operations Op.rstft Rasult* The company's financial services and real estate subsidiaries, previously accounted for by the equitymethod, have been consoli- dated in 1988 in accordance with Statement oflFinancial Account- ing Standards Na, 94, "Consolidation of All Majority-ownedl Subsidiaries:"'P>•ior years' amounts have been restated tolconform with the current year's presentation, which restatement had no effect on previously reported net earnings ocearnings per share. 198$'CoFnpared with 1987 Operating,revenues for 1988'increased b'3;6 billion (12.696) and operating profit; as defined for segment reporting (operating, income excluding unallocated corporate expenses), increased $438 million (10.546)L All business segments had increased oper- atingrevenues and all business segments except food lhad increased operating profit. The company's 1988 results incliade restructuring costs at General Foods. The charges relate to a plant closing and consolida~ tionof manufacturing facilities, early retirement programs and other overhead cost reductions, all of which are expected to improve cost efficiencies. This restructuring reduced earnings before income taxes and cumulative effect of accounting,change, net earnings and earnings pershare by$348'million„S2'12 million andiS'.911 respectively. In 1987, the companyrecorded'a pre-tax charge of $117'million related to a restructuring! of General Foods, partially offset by a pre- tax gain of S46 million from the sale of the Open Pit barbecue sauce retail business. These items reduced 1987 earnings before income taxes, net earnings and earnings per share by $71 million, $22 millionand $.09, respectively. On December 7,1988, Krafti Inc. became a~wholly-owned sub- sidiary of the company Consolidated results of the company include the operating,results of Kraft since acquisition. The net effect on the company's 1988'consolidated net earnings of'Kraft's income contribution after goodwill amortization and the cost of acquisition financing was a dilution of approximately $.12 per share. The cost of the acquisition, including retirement of employee stock options and other payments, totaled'approximately $12.9'billion The acquisitionof,Kraft was financed by internal funds andlapproximately $9.6 billion of debtand resulted in approximately $11.6 billion of goodwill. Interest and other debt expense, net, increased $24 millionin~ 1988 compared with 1987: The increase was due primarily to inter- estionidebtassociated with the purchase of~Kraft (approximately $68'.million), partiallyoffset by lower interest expense throughout the year prior, to the Kraft acquisition, as well as higher interest income earned on cash balances ($27 million),. Interest expense prior to the acquisition of Kraftwas lower by approximately $10 million in 1'988'due primarily to lower average amounts of out- standing debt, partially offset by higher interest rates. The com- pany's ratio.of earnings to fixed charges was 5:2 in 1988 compared with 5.0 in 19'87'and 4.0 in 1986. This ratio is expected too decrease in 1989 as a result of the interest associatediwith the pur- chase of Kraft. In the fourth quarter, the company adopted retroactive to Janu- ary 1,1988 the method lof accounting for income taxes prescribed byStatemenfiof'Financial Accounting,Standards No. 96; "Account- ing,forincome'ILLxes,"'Arcordingly thecompany has changed its method of computing income taxes from the deferred method usedlin prioryears to the method prescribed by SFAS'9F,. SFAS'96 increased 1988 net earnings and eamings pershare by $213 million, and $.91, respectively. Prioryears' data have not been restated! (See Note 10 to the 1988 Consolidated Financial'Statements for further details.). The company's effective tax rate in 1988 was 44.696, compared with 44!9% in 1987, The rate didlnotdecrease in line with the reduction in the U.S. corporate income tax rate, due to the reversal during 1988 oflexcess deferred tax benefits recorded as of January. 1, 1988 in ~accordance with SFAS 96 and higher provisions for the repatriation oflforeignearnings. Net earnings increased ini1988 by $495 million (26:990), due principally to increasedloperating profiti ($4'38'million) and the cumulative effeaof a change in the method of accounting for income taxes, partially offset by a higher income tax provision ($161 million). The 2'9:498 increase in earnings per share exceededl the percentage increase in net earnings due to a loweraverager number of outstanding shares of common stock in 1988! The per- centage increases in 1988 should not be considered indicative of future earnings growth as the acquisition of 1Graft will have.a dilu- tive effectoveothe next several years. 1987 C'ompared with 1986 Operating,revenues for 1987 increased $2.3 billion (8'.99b)iand operating profit' increased $489 million (1314'46). The increases were due pnncipally to tobacco operations, which had increases imoperating revenuesand operating profit of$2.0 billion and $442 million, respectively. The company's effective tax rate in 1987 was 44.9%, compared with 46.5% in1986: The decrease resulted primarilyfrorn reduc- tion in the U.S. corporate income tax rate, partially offset by a. $56 million increase in the provisions for: the repatriation of foreign earnings. In 1987nonrecurring items.consisted of'a $1117, millionpre-tax restructuring charge related!to General Food's; partially offset by a $46 millionpre-tax gain on the sale of the Open Pit barbecue sauce retail business. 1~5~!06108 24

. ~....~. IVet eamings increased by i3164million (24.7%) over 1986,,due principally to increased operating profit (5489'million); as well as reduced interest and other debt expense, net ($126 million)j partially offset by a higher incometax provision ($215 million),. The decrease in interest and other debt expense, net; was due . primarily to a lower average amount of'outstanding debt.. OP.r.N" ~AsWb by Bus/nss S"Rnsnt. Operating revenues and operating profit increased 12.6% and 10.5%, respectively,over'1987: Operating revenues of tobacco oper- ations were 52% of total operating revenues in both 1988 and 1987. Operating profit of'tobacco operations was 8+4% of total operating profit in 1988 compared with 79%' in 1987, of which Philip Morris U.S.A: and Philip Morris International contributed 67% and 17%, respectively in 1988'and 65% and 14%, respectively, in 1987. Food operating revenues were 36% and~35% of'total operating revenues in 1988 and'1987; respectively. Operating profit of food operations was 9%~of total operating profit in 1988 compared with 15% in 1987. The decrease is due primarily to higher restructuring charges related to General Foods. TobGrcco Operating revenues and operating profit in 1988 increased $1.9 bil- lion1(13.3%) and $556 million (16.9%); respectively, over 1987: The increase in operating revenues was due primarily to price increases ($'744 million) and volume growth (E117'million)7 ini Philip Morris US:A. and to volume growth ($522'million) and cur- rency translation (E379'million) in Philip Morris International. The increase in operating profit of tobacco operations was due princi- palhyto higher gross profit ($1.2 billion), approximately 70%' of ' which related to price increases, with the remainder attributable too volume increases. Partially offsetting,the increase in gross profit were higher marketing„administration and!research costs ($674 million); approximately 78%' of which were due to higher market- ing',expenses. In 1988, Philip Morris U.S.A:'s operating revenues increased $861 million.(ln i.3%); approximately 86%' of whi+ch was due to price increases, with the remainder primarily attributable to a 1.7% increase in domestic unit volume. Philip Morris UJS:Ai.'s unit volume continued Ito outperform the domestic cigarette industry; which declined approximately 2.1% during 1988: Philip Morris USA increased its domestic unit wlume to 219:3 billion units for a market share of 39 .3!96 in 1988 compared with 37.8% in 1987. Marlboro's unit volume increased by 3.2% to 138.8 billion units, approximately 25% of the U.S: market. Philip Morris International increased operating revenues by V.1 billion (15 ,4'96) due primarily to increased unit volume ($522 million) and currency translation.. 'Ibtal unit volume of Philip Morris International for 1988 increased 4.4% over 1987: Rstlo e/ Earalnms b fb'o.I Cbsel.r  7YMI labt (Abar-End) ~  Consum.. hwMrots . Osse (rYar-End). Ratio BNlions d Ddlars 7 18'. 6 8 6 '. HIL ~ 84, 85 86 87 88 I 25

' JA.VIY`?~_ In 1987, operating revenues and operating,profitfrom tobacco operations increased $2.0 billion.(15.496) and $442 million(15396) over 1986, respectively. The increase in operating revenues was due primarilyto price increases in Philip Morris USA. ($490 million) and to volume growth ($556 million) and currency translation ($791 rnillion);in Philip Morns International. The increase in operating profit of tobacco operations was due principally to higher gross profit ($922 million), resulting primarily from price increases ($528 million), currency translation ($206 million) and volume increases ($202 million), partially offset by higher marketing, administration and research costs ($4'83'million, approximately 8796 of which was due to higher marketing expenses). Compared with 1986, Philip Morris U:S:A.'s operating revenues increased $587'million (8.3%) in4987; approximately 83% of' which was due to price increases, with the remainder primarily attributable to a0.596 increase in domestic unit volume. Philip Morris U iS:A.'s unit volume outperformed the domestic cigarette industry, which declined by 2.1% during,1987: Phil'ip Morris International increased its operating revenues by $1.4 billion (24.3%) ~due primarily to increased unit volume ($556'million).and currency translation ($791 million). Food' Food operating revenues increased $1l3 billion (13.3%) in198f1. The higher operating revenues in 1388'were due primarily to.the inclusion ofloperating,results of Kraft since acquisition (62%of the total increase)„to higher unitvolume in General Foods' major lines of'business and to currency translation ($165 million). General Foods had unit volume increases in its bakerybusiness (due primarily to the acquisition oflThe Charles Freihofer Baking Com= panyin November1987) andibeverage andlfroxen food operations, while unitvoliume decreased in dty grocery products (due primarily to the sale in September 1987 of the Open Pit barbecue sauce retail business). Domestic coffeeoperations had both pricee and'volume decreases. Oscar Mayer Foods had increased unit volume in allibrands. Internationally, operating revenues increased due to currency translation and higher unit volume (related primarily to acquisitions made in 1987). Food operating profit decreasedl$213 million 05'.146) due primarily to higher restructuring charges ($277 million). Higher gross profit of $455 million was partially offset by increases in marketing, administration and research costs of $378'mill!ion, the largest portion of which was incremental marketing costs associ- ated with Maxwell House's successful effort to recapture market share. Excluding the restructuring items in 1988'and in 1987;, food operating profit wouldhave increased approximately 9.5%. Operating,results in 1988 include.Kraft's operating revenues of~ $821lrnillion and operating,profit of $'58'million since acquisition. Ini1987; food operating revenues increased $282 million (2:996): The increase in operating revenues in 1987 was due primarily to higher unitvolume in major lines of business, except domestic coffee, and to currency translationi partially offset by coffee price decreases. General Foods had'unit volume increases in its breakfast foods, bakery and desserts operations, while unit volume in beverages and meals remained flat. Domestic coffee prices weree adversely affected by lower green ~cof fee bean prices throughout the year. Oscar Mayer Foods had unit volume increases in both Louis Rich and Oscar Mayerbrands: Internationally, operatingg revenues increased due to currency translation and to increased unit volume. Food operating profit decreased i$34 million (5.6%) due primarily to higher marketing, administration and research costs in, 1987 ($4T7 million) and1restructumng costs in,1987 ($7,1 million), which more than ol'fseChighergross profit($449'anillion). Higher marketing;expenses resulted primarily from trade spending for coffee associated witht'he competitive environment resulting from lower,green coffee bean prices. Excluding the restructuring costs in 1987, operating profit would have increased approximately 6%. Beer Operating revenues in 1988 increased $157 million (5'.196'),. Approx- imately 69'4fi of the increase resulted from unit volume increases, and'the remainder from price increases. Market share rose too approximately 22.5% from 21.9% in 1987, Operating profit in 1988 increased $20 mill'ion (11.6%) due to higher gross profit ($39'mil- lion); partially offsetby higher marketing, administration and research costs ($l9anillion): Operating revenues in 1987 increased $51 million (1.7%). Approximately 86% of the increase resulted from unit volume increases, and~the remainder,ftomprice increases. Market share rose to 21.9% in 1987 from 21.6% in 1986: Operating,profit increased $!16 millionl(9:996) due primarilyto higher gross profit ($35 mi'llion), partially offset byhigheornarketing, administration and research costs ($19 million). Fenancia! Services and Real Estate Operating,revenues and operating,profit in 1988'increased by $141 million (29:196) and $94 million (over 100!46)„respectively. Operatingrevenues for Philip Morris Credit'Corporation~(financial' services) increased 10:496 and operating,profit more than doubled. Financial services operating profit increased relatively faster than operating revenues in 1988'due primarily to interest savings from debt refinancings undertaken during the year: Operating revenuess forMission V'iejp RealtyGroup {real estate) increased 38.0% and operating profitmore than doubled due primarilyto strong market demand and a change in business strategy from residential I development toJand sales, both in Southern California. 1~0.52.306i0 26

Itn 1987; operating revenues and operating profit increased by $14 million (3.0%) and $37 million~(over 100%), respectively. Financial services operating revenues decreased $16 million (92%), while financial services operating profit was $27 million compared with an operating loss in 1986. Year-to-year compari- sons for financial services are distorted Idue to a 1986 accounting adjpslmentrelated to the leveraged lease portfolio, resulting from the Tax Reform Actof'1986. Excluding the impact ofithis, accounting adjustment, financial Iservices operating revenues and operating profit would have increased'byapproximately 12% and 3%, respectively. Real estate operating revenues andoperating, profit increased by 10.0% and 8.4%, respectively These increases were due primarily to the continued strength in the California housing, landland business properties markets,. EinanNal'R.view Cash Provided 'and Used Net Cash Provided by Operatr'ng Attfvitres Cash provided by operating actiiritiesincreased from 1987 byS'2.1 billion (73.5%) due primarily to increased cash provided'by work- ing capital items in 1988'as compared with 1987, as well as an increase of $140 million in netearnings after adjusting for certain ~ non,cash items (depreciation~and amortization, deferred income tax provision; restructuring charges and cumulative effec[of' accounting change). The large, nonrecurring increase in cash provided from working capital items was used to fund part of the cost of the Kraft acquisition and was generated'principallyby a! designed reduction of accounts receiivable and increase in. accounts payable and an increase in accrued liabilities. This resulted'in unusually low working capital at year-end; however, working,capital is expected to increase in 1989. In 1987, cash proaided by operating activities increased from 1986 by $377'million (15.1%) due primarily to higher net earnings as adjusted for non-cash items (5687'million), partially offset by larger net increases in consumer products working capital items in 1987 as comparedlwith 19'86'(S174 mil1ion). The company expects that cash from operations and available credit facilities will continue to be sufficient to meet the future needs of the business. Alet Cash Used in Inuesting;Actfuitles. In 1988, the company paid $11.4 billion forthe purchase ofllraft, net of $866 millionof acquired cash. Capital expenditures were $1,0 billion in 1988„ approximately 46% of which related primarily to expansion and modernizatiorrof  Ratio e/711W Dadtlb  it/ekAel"rs' Equ/ty SMCkNoldavs'L,uily' (lfear-End) (lbar•End)  /blm ew Awnpr • 1l.tle oI CNnwwN Stbekbe/deM' Loulty'('X) Ireduatrr O.bf Ib S10okAeWMSr squMr (1bar.End) Ratio BilYions of ©oNars 56 . 2:5 8 40 27

manufacturing and processing facilities of food operations. The increase in capital expenditures oaer1987 was.due prirnarily to expansion of manufacturing,facilities related to new productlines: In 1!987, capital expenditures increased $40 million o+reri!986. Capital expenditures are estimated to be $1.2 billion ini1989 and a total of $4.3'billion~forthe years 1'990-1993, of which approximately $700 million and $3'.3 billion, respectively; are projected for foodi operations. In 1988, the company invested $481 million~in finance assets as compared with $624 millionlin 1987 and $442 million in1986:. Investments in leasing activity accounted for 38%, 46% and'65% of these amounts, respectively. In 1986, the company elected pursuant to Section 338'of the Internal Revenue Code to'"step up"'the tax basis of General Foods' assets and paid the resulting tax of'$599'million. In addition,. $:599 million of cash was received from sales of operations, pri- marilyrelated to Seven-Up. Net Cash Provided by (Used in) Financing,Actiuities. Consurrter Products Debt During 1988, totalI consumerproducts debt increased by $10.1 billion, which represented $10.0 billion of debuissuances and $0.9 billion ofll(raftdebt at acquisition, partially offset by $0:9 billion of' debt repayments, as well as foreign currency translation. At December 31;1988, the company's debt associated with Rhe acquisitionof'Kraftwas $9.6 billion, which consisted oP$5.0~billion~ borrowed under a revolving;bank credit facility $4.1 billion of commercial paper borrowings and a $500 million ilong,term debt issue. At December 31,1988, the company had entered into interest rate swaps to establish~fi;xed interest rates on$11.5 billion of the acquisition borrowing$. These swaps hadla weighted average maturity of1.9 years and a weighted average fixed interestrate of' 9,5%, Inaddition, at December 31',1988; the company had entered into interest rate protection agreements with respectto $2.5 billion of borrowings. These agreements had a weighted average maturity of 1.5 years and protection levels ranging from 9% to 9.5%. The companyexpects to refinance long;term and short-term~debt from time to time, The nature and amount of the company's long-termm and short-term debt and the proportionate amount of each can be expected to vary from time to time as a result ~ of'business requirements, market conditions and other factors:. At!December 31,1988; the company's ratio~of consumer productss debt to total equity was 2.14, up from 0:9Sat December3141987: At December 31,1988, apprpximately $5.9 billion (36%) of'consumer products debt was sensitive to interest rate fluctuations compared with approximately 1'1%~at December31,1987 The average interest rate on total consumer products debt was 9.5% during 1988 and 8:7% during 1987: At year-end 1988, the average interest rate on total consumer products debt was approximately 9.496, as com- pared with 9:2% at year-end 1987. During 1987,' total Iconsumer products debt decreased by $534 million, which represented $1.4 billion~of debt repayments, partially offset ~ by $484 million of debt ~issuances. Foreign cur= rency translation increased total consumer products debtiby $335'million. During 1986, total consumer products debt decreased by$!.0 bil- lion, which represented $3:4 billion of.debt repayments, partially offset by $2.0 billion of debt issuances. Foreign currencytransla- tion increased total consumer products debt by $237 million. Financial Services and Rea! Estate Debt During,1988, financial services andlreal estate total debt increased by $126'mill'ion, which represented debt issuances of the equiva- lent of $201 million of foreign currencydenominated debt, par- tially offset by debt repayments of $52 million,1n,1981financial services andireal estate total debt increased by $238 million; which represented $547 millionof debt issuances, partially offset bydebt repayments of $482 million. Foreign currency translationiincreased financial services and real estate total debt by $160 million in 19'87.' During 1986„financial services.and real estate total debtincreased by $197 million, which represented $P54!million of debt issuances, partially offset by debt ~ repayments of $49 million. Foreign currency translation increased financial services and!real estate total debt~ by $82 million.in 1986. Total Debt At December 31„1988, the cornpany's total'debt-to-equity ratio was 2.34, up from 1.13 at December31,1987."Ibtal debt was $17.9 billion atDecember31,1988', compared with E7'7'billion at December 31,1987. At December31,1988; approximately $6.4 billion (35%) of the company's total debt was sensitive to interest rate fluctuations, compared wim approximatel y 14% atDecember 31,1987. The: company's average interest rate on total debt was 9.1% during 19 and 8,5%~during 1987.'Atyear-end 1988; the average interest rate on total debt was approximately 9.296 compared with 8.9% at year-end 1987The company's creditfacilities, of which $8.8'billionwere unused atDecember31,1988; amounted to $142 billion a December 31,1988. The company's creditfacilities include a revolving bank credit facility expiring in 1993 for $12.0'billiona The company maintains'A...1/P-2" credit ratings inthe com- mercial paper market and "A/Baa 1" credit ratings for long-term obligations, as compared with ratings of'"A-UP-i" and "MA2," respectivel j, in effect.during 1987'and most of 1988. Foreign ~currency denominated debt forwhich the company has not entered Iinto currency swap agreements is maintained primaril y to hedge the currency exposure of its net investments in foreign ~ operations. 1005200G12 . Equity arnd Dividernds In 1987'the company repurchased 2.0 million shares of its common stock atlan aggregate cost of $200 million~(av?erage cost 28

of $99.91 per share),. In 1988, the company repurchased 6.3 million shares of'its common ~stock at an aggtegate cost of $539 million (average cost of $86.08 per share), In 1988 and 1987, a total of 8.3'3 million shares had been ~repurchased at an aggregate cost of $739 ~million ($89.43 per share). Dividends paid in 1988 increased 125.4%' over 1987. Thi's increase reflects the 28.6% increase in dividends declared to $4.05 per share in~1988 from $3.15 per share in1987: The quarterly dividend rate established in August 1988 was at an annual rate of1S4.50. pershare, an increase of 25.0% owerthe annual rate oflE3.60 established in Movemben 1987, Return on average stockholders' equitywas 32.2% in 1988'and29.5% in 1987. Foreign Currerrey Tmnskrtion The company'3 consolidated international'operations account for 28% of'its operating revenues, 13% of'its operatingprofot and121%' of its identifiable assets. The principaliconsolidated foreign opera- tions are iniEurope and use local currency as theirfunctionalr curreency. Currency translation adjustments decreased stockholders" equity by $29 million in 1988. However, currency translation adjustments resulted in increases to stockholders' equity of $249 million and $139 million in 1987 and 1986, respectively, due to a weakening trend of the dollar that!began in 1985: Theaornpanycontinuallymonitors its foreign currency expo- sure. Ibacts to manage such exposure;,when deemed prudent, through various hedging transactions.

Selected Finan+cial Dn#a-' Flf feen*Year Reviewr (un millions of dollars, exceptpershare data) 0V - 1888'. 1987 1986 1!985' 1984~ sunwnary of Opmtitlonss Operating revenues $ 31,742' $ 28,1'83' $ 25,883 $ 16,267 $ 14,1102 r United States export sales 1,8163' 1,592 1's1'93 923 925 ~ Cost of sales 12,857 11,594! 114360 6,517 5,722 Federal excise taxes on products sold1 2,127 2,085' 2,075' 2,049 2,041 Foreign excise taxes on products sold 3,753' 3,331 2,653 11,766 1',635 Operating income 4,397 3,990 3,537 2,664 11 ~ Interest and other debt expense, net~ (consumer products) 670 646 772 311 276. Earnings before income taxes and cumulative effect of accounting,change 3,727 3,344 2,765 2,353 1,632 Pre-tax profit margin 11.7% 11.9% 10.7% 14.5% 11L696. Provision for income taxes _'. 1,663 $ 1,502 $ 11,287 $ 1,098 $ 743' Earnings before cumulative effect of accounting change 2,064 11,842 1,478 1,255 889 Net earnings 2,337 1,842 1,478 1,255 889. Earnings pershare before cumulative effect of accounting change 8.86 7.75 620 5124 3;62 Net earnings per share 10.03 7.75 6;20 5174 3162 Dividends declared per share 4.05 3.15 2.475 2A0 1.70 Weighted average shares 233 238 239 240 245 Capital'expenditlrres (consumer products) i 1,024 $ 718 $ 678 $ 347 $ 298 Annual depreciation (consumer products)' 608 564 514 367 341 Property, plant and Iequipment; net (consumer products) 806&!8 6,582 6,237 5,684 4;0Q4 Inventories (consumer products) 503" 4,154 3,836 3,827 2,653 '[btal assets 36,960 21',437 19,482 18;712 9;880 Ttitallonglterm debt 17,122 6,293 6,887 8,035 2,239. Tbtal debt- consumer products 16,442 6,355 6,889 7,887 2,566 -financial services and real estate 1,504 1,378 1,1411 944 436' 'fbtal deferred income taxes. 1,559 2,044 1,519 1,233 907 Stockholders!'equity 7,679 6,823 5,655 4,737 4,093' Common diuidendsdeclared as % of net earnings 40.3% 40.6% 39.9% 38.1'96 46.896. Book value per common share i' 33.24 $ 2&83 $ 23;17 $ 1I9;85 $ 16;86 Market price of common share-high/Jow 101Tii-80'sis 124Pf~t-72% 78'-437/ft 47si5-36 41W31 Closing,price of common share at year-end 1017A 85% 71'7i6 44% 404 Price/earnings ratio at year-end 10 111 11' 8 11 Number of common shares outstanding atyear-endi 231 237 238 239 243' Number of employees 15500 113,000 111,000 1I14;000 68,000 Operating income is income before interest and other debt expense; net. Kraft; Inc. became a wholly-oN+ned subsidiary on December 7, 1988. Ar cordingty. consolidated results shown above include the operating results of'iCraft, Inc. since its acquisition. General Foods Corporation was acquired in November 1985. 'Accordingly, consolidated results shown above include the operating results of General Foods Corporation after October 1985. See Notes I and 10 of thrconsolidasted financial statements for the effects of' adopting Statements of Financial Aacounting Standards Nos. 94land 96; "Consoli- dation of All Majority-owned Subsidiaries" and i Aexounting forincotne 7exes:" respectively: See,Plote 3 of the consolidated financial statements for the,results of divestitures and restructuring charges occurring in 1988, 1987 and 1986. In 1984, a write-down of the completed but iinactive Miller,Brewing Company, facility in Trenton, ©hio, reduced earnings before income,taxes, netearnings and earnings per share by $280 millimS'146 million and $.59; respectiveljr 1Q05~0G14 30

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Conselidated, Balance Sheets at December 31. 1988 1987 Assi.t4 Coosumer pnoducts Cash and cash equiwalents S' 168 E' 90 Receivables, net 2,222 2,065 Inventories: Ueaf tobacco 1,873 2,008 Otlier'rawmaterials 1,540 840 Finished!product 1,971 1,306 S,384 4,154 Other currentassets 377 245 Total current assets 8,151 6;554 Property, plant and equipment, at cost: Land and land improvements' 612 494 Buildings and building equipment 3,422' 7;8b0 IWachinery'and equipment 7y137 5;678 Construction in progress 761 426 11,932' 9,398 Less accumulated depreciation 3,284 2;816 : 8,648 6,582 Goodwill and other intangible assets. (less accumulated iamorrtization of $361 and $243; respectively) : 15,071 4,052 Other assets 1,921 1,359 Total aonsumerproducts ssseta 33,791 18,547' Financial services and real estate Finance assets,, net 2,578 2,185 Real estate beld for sale and irrvestrnent 379 482 Other assets 212 223 Total financial servkes and real estate assets 3;1iB9 2,890 TOTAL.ASSET5 =36;960 E2'l'M 437 Sernotes toconsolidated financial statements. I.oos230616 32

Philip Morris Companies lnc: and Subsidiaries 1988 1987 L'JablMW* Cbosamer products Shortmerm borrowings i' 433 $ 691 Current portion of long-term debt 127 465 ,eccounts pWable 1,777 797. Payable.for untendered KratC shanes 435 Accrued liabilities: Twces; except incorne taxes 595 537 Ernplmyrnent costs 887 453 Other 2,556' 1,287 lncornetaxes 1,089 727 Dividends payable 260 213 Ibtal current liabilities 7,90 5,164 Long-termdebt 1a,882 5,199 Deferred irnome taxes 825 1,288' Other liabilities 1,988 633 ' Total eoasumer products liabilities 26,664 ' 12,284. Finsndal servkes and real estate Short-term borrmwings 264 284 Gong-term debt 1,240 11,094 Deferred imcomie taxes 894 756 Otlier liabilities 219 P96 Total Manclal services and eesl'esmte.liabilitles 2,617 2,330 Total7iabilities 29,281, 14,614'. Contingencies siockhold.'s"Equ/!y Corrurgn stbck, par value $1.00 per share (239,618,948 shares issued) 240 240 Additional paid-in capital 252 272 Earnings reinrested in tla,e business 7,833 6,437 Currency transtation adjµstnients 117 146 8,442 7,095 Less cost oftreasury stock (8,588,003 slsares,1988, and 2,992,463 shares,198T) 763 272 Totg1 stockFiolders' equity 7,679 6;823 TOTAI. WABILPTIFS AND SrOMiO1DERS' EQUITY' 06,960 $21,437 10a5230~1'~

Consolida#e+d SItaftm+e_n#s of Earnings (inmiHiomofddlamexoWipasttatedm) .E.~.~. for the years ended December 31, 1988 1987 1986' Operating revenues $31,742 $28,183 $25,883! Cost ofi sales 12,857 11,594 11,360. Excise taxes.on products soldi 5,882 5,416 4,728 Gross profit 13,003 1.1,173 9,795' Marketing, administration and research costs 8,481 7,078 6,146 Amortization of'goodwil1 123' 105 112 Operating income. Interest and other debt expense;,net Earnings before income taxes and cumulative 4,397 3;990 3,537 670 646 772 effect of accounting change 3,727 3,344 2,765 Provision ~for income taxes 1,663 1,502 1,287 Earnings before cumulative effect of accounting change 2,064 1,842 1,478 Cumulative effect of change in method of accountingfor income taxes. 273 Net earnings =' 2,337' $ 1,842 $ 1'1,478 Per share.data: Earnings before cumulative effect of accounting change $ 8.86 $ 7:75 $ 6.20 Cumulative effect of accounting change 1.17 Net earnings 8 10+03 5' 7.75' $ 6.20 See notes to consolidated financial statements. 34'~ C.

Cons+olidated'S#nfemen#s of Stoclrhold+ers' EquitY (ircmillions of dollars, except per share data) Cornmon Stock Additional Paid-in Capital Earnings ' Reinvested in the Business Currency 7tanslation Adjust- ments Cost of' 7Yeasury Stock Totall Stock- holders' Equity Balance, Jartuary 1~ 1986 $ 119 $ 404 $4,456 $(242) $' - $4,737 Net earnings 1,478 1,478 Exercise of sttxk options and stock units 1 19 ; 11 31 Cashidividends declared $2.475 per share (590) (590)1 TiNo-for-one stock split-up 120 (120) - Currency translation adjustments (including related income.tax benefits of $85) 139 139 Stock purchased l (140) (140) Balance, December 31,1986 240 303 5,344 ('1I03) (129) 5,655 Nlet earnings 1,842' 1,842 Exercise of stock options and stock units (31), 57 26 Cash dividends declared' $3.15 per share (749) (749). Currencyttanslation adjustments. (inclirding,related' income tax benefits of $94): 249 249 Stock purchased (200) (200) Balance, Decem6er 3'1,1987 240 : 272 6,437 146 (272) 6;823'. Net earnings 2,337 2,337 E,xrercise'of stock options and stock units (20) 46' 28'. Cash dividends declared $4.05 per share (941) (941)' Currency translation adjustments (including related income tax provisions of $26) (29) (29) : Stock purchased ('539) ~ (539). Balance, December 311,1988' i' 240 $252 =7,833 111417 =(763) : i7,67'9 See notes to consolidated financial statements. Itir~V4ftno 3'O61W 35

Consolidated Statements of Cash Flows (in millions ofdbllers) for the years ended December 31, 1988 1987 1986' Cash Flows Providrd By(Us.d 1n)'~Oprratini; ActlvlWs Net eamings-Consunzer products i 2,173 $ 1,770 $ 1,403' - Flnan c ial'servlces and I neal estate 164 72 75' Net eamings: 2,387' 1,842 1,478 Adjustments to reconcile netlearrtings to operating cash flows: Cbnsumer products Depreciation and amortization 7791 704 655 Deferred income tax provision (43) 338 133 Restructuring charges 348'. 7,1 Cumulative effect of change in method of accounting for income taxes (232) Cash effects of changes ini ReceMables, net 601 ~ (117) (52)~ Inventories 2 (52) 1'12 Accounts payable 408 (1i01) (156) Other 549 52' 181 Financial services and real estate Deferredlincome tax,pravision 178 231 Cumulative effect of change inimethod of accounting for: income taxes (41) Increase in real estate receivables (81) (92) M Decrease (increase) inreal estate held for sale 108 (14) (5) Other 95 19 (19) iueucash provided by operating activities 4,998 2,881 1 2,504' Cash Flows Providrel By(Usi.dJn) /nrrssting Actlvltl.s. Cionsumer products Purchase of'businesses, netof acquired cash ($866lmillion in 1988) (11,363) (235). Net cash proceeds from sales of'businesses 44 73 599. Capital expenditures (1,U24) (718) (678) Payrnentto increase tax basis of acquired company's assets (599) Other: S2' 117 180 Financial services andlreal estate Investments in finance assets (481)~ (624) (442). Finance assets proceeds 133 147 222 Cthher 1 (2) (8). Net cash used in investing activities (12,638) (1,242) (726). Net cash providedby (used in) operating;and investing,activities (7;640) 1439 1,778 See notes to consolidated financial statements. , 1Q(~52,3!0G2p 36

1988 1987 1986 Cash fl ows Pr orid.d'6y (Us.d rn) flnanchq Actlrtws Consumer products Net issuance (repayment) of short-term borrowings i' 8;761 $' (219) $ 259 Long-term debt proceeds 1,212 484 1,757 Long-term debt repaid (88'1') (1,177) (3,369) Purchase oPtneasurystock (539) (200) (140) Dividends paid (895) (714) (S3 t ) ~ Issuance of shares 28' 26 31. Other (85) 9 (27) Financial services and real'estatre Net (repayment) issuance of short-term borrowings (20) 109 58 Long-term debt proceeds 201 438 96 Long-term debt repaid (32) (482) (49) Other 12' (9) Net cash provided by (used in) financing activities 7,762' (1,73'5) ('11,945). Effect of exchange rate changes on cash (44) 113 54 Increase (decrease) in cash and cash equivalents. 78' 17 (83). Cash and icash iequnva9ents at beginning,of year 90 73 156 Cash and!cash iequiiva9ents at end'of year 168'. $ 90, $' 73 Cashipaid`.Interest-Consumerpnoducts $ 589 $ 690, $ 702 -Financial services and real estate $ 88' $ 112 $' 89 Income taxes $ 1,088' $ 641 $' 679 37

No#es to Consolidnted Financinr Statemen#s c~> Mob 1. suRwnsry of signMaant Accounting Policies: At;cotrnting changes: The company's financialiservices and real'estate subsidiaries, pre- viously accounted for by the equity method, have been consoli- dated in 1988 in accordance with Statement of'Financial Accounting,Standards No 94, "Consolidation of AlllMajority-owned Sidbsidiaries;' The company also adopted Statement of Financial Accounting Standards No. 9'5, °Statement of Cash Flows;' in 1988. Prioryears' amountshaine beenmestated'to conform;with the cur- rentyear's presentations, which restatements had no effection pre- viousli,- reported net earnings, earnings pershare or stockholders' equity. Effective January1,1988 the company adopted the methodof' accounting,for deferred income taxes prescribed'by Statement of Financial Accounting Standards No. 96, "Accounting,fiorIncome Taxes:' Prior years' data have not been restated. See Note 10. Basis of presentation: The consolidated financial statements include all significant majority-owned subsidiaries. Balance sheet accounts are segregated by two broad types of businesses, Consumer products assets and liabilities are classified as either current or non-current, whereas the accounts oPfinancial sen ices andireallestate are not so classified~ inaccordance with respective industry practices. Cash and cash equivalents: Cash and cash equivalents include cash on hand, demand deposits with banks and all highly liquid investments with original maturi- ties of three months or less. Inuentories:, Inventories are stated at the lower of cost or market. The last-in, first-out(°`LIFO") method is used to cost substantiallyall ldomestic inventories. The cost of'other inventories is determined bythe aver- age cost or FIFO methods. It i's a generally recognized industry practice to classify the total amount of leaf tobacco inventory, as a current asset although part of such inventory because of the duration of the aging process, ordinarily would not be utilized within one year. Income taxes• Investment tax credits resulting from investments in leasing,trans- actions are recognized as revenues over the terms of the respective leases. Other investment tax credits are recognized currently as reductions of the provision for income taxes. Depreciation and 'arrtortization: Depreciation is recorded by the st'raight-line methodl Substantially all goodwill and other intangible assets are amortized by the straight-line method, principally over 40 years. Mote ~ 2. AcqNisitions: The companyacquired Kraft; Inc. and on December7;1988 it The Kraft condensed balance sheet at December 31, 1988 was: became a wholly owned subsidiary otthe company. The purchase of outstanding,shares; retirement of employee stock options and (in millions): otherrelated payments totaled approximately $12.9 billion. The Assets acquisition has been accounted for as a purchase and, accord- ingly;,operating,results of Kraft have been included initheaonsoii- dated operating results ofthe,company since acquisition. The purchase price exceeded the estimated fair value ofithe net assets acquired by approximately $11.6 billion and suchlexcess is being amortized over40years byt'he straight-line method. The allocation of purchase price is based on preliminaryesti+ mates and assumptions and is subject to revision once appraisals, evaluations and'other studies of the fair value of Kraft's assets and liabilities are completed. Had the acquisition of Kraft occurred at:the beginning of eachi year, pro forma operating,revenues, net earnings and earnings per share would have been approximately 543.01biilion+ $1.5 billion and $6.50; respectively, for the year ended December 31,1988 and $38,9'billion, $1.1 billion and $4.82, respectively„forthe year ended, December 31;1987. The pro forma results are not necessarily indic- ative of what actually would have occurredi if the acquisition had been in~effect, nor are they necessarily indicative of future consoli- dated results. Current assets $ 2,358 Properdy; plant'and equipment. 2,1011 Goodwill land other intangible assets 1'1!.545 Other assets 510 Total assets $16,514 Liabilities and stockholder's equity Current liabilities. $ 2,899 Long-term debt 775 Payable to the company 4,647 Other long-term liabilities 1,011 Stockholder's equity 7;182 Total liabilities and stockholder's equity $16i514 38 LLJ0aJ1Nv0sFr2

The company acquired General'Foods Corporation during 1985: In 1986 the company elected pursuant to Section 3381of the Internal Revenue Code to "step up" the tax basis ofiGeneral IFoods' assets Nob. 3. Diwstitunas and AaslrtrehrlnS Clu.ngr.s: In 11988 the company provided for restructhring costs at General Foods. As a result of this restructuring, certain facilities will!be combined and overhead costs will be reduced to achieve operating, effiiciencies. This restructuring reduced earnings before income taxes, netearnings and earnings per share by $348'million, $212 million and $:91~ respectively. In 1987 the company recorded a pre-tax charge of $117 million related toa restructuring of General Foods into three separate operating companies; partially offset~ by a ~pre-tax gain of $46 ~mil- Mot. 4. /nv.nftri.s: The cost of'~approximately 6296 of'inventories in 1988'and 64% of, and paid the resulting tax of'$599million. This resulted in ~a $508 million increase in property, planUand equipment and a $91 million increase in goodwill and other intangible assets. lion from the sale of the Open Pit barbecue sauce retail business. These items reduced earnings before income taxes, net earningss and earnings per share by $71 million, $22 million ~and $.09, respectively. In 1986 the company sold substantially all ofithe operations previousiy conducted by The Seven-Up Company to various pur- chasers and divested the remaining,operations in 1987 The proceeds from the sales approximated the book value of the company's investment in Seven-Up. and $650 million lowerthan the current cost of inventories at inventories in 1987 was determined by the LIFO method. The December 31, 1988 and 1987;,respectiively, stated LIFO values of, inventories were approximately $700 million Notr 5. Short•71erm Borrowings and Bornowiny Arrarg.m.nts' At December, 31, the company's short-term borrowings and related average interest rates consisted of the following: 1988 1987 (in millions of'dollars) Amount Outstanding Average Year,EndlRate Amount Outstanding Average Year-End Rate Consumer products: Bank loans $ 5,443 9.8% $' 277, 8.5% Commercial paper 4,118 9.4% 414 7.9% Amount reclassified to long-termdebt (9,128) i' 433 $ 691 Financial services andlreal estate: Commercial paper =' 5741 . 9.5% $ 594 7.8% Amount reclassified to long-term debt (310) ((i1o)~ $ 284! The company had credit facilities with a number of'lending,institu- tions amounting to approximately $14.2 billion ~at December 31, 1988. Approximately $8.8'billionof'these facilities remained unused at'December 31, 1988. These facilities were used for the acquisition of Kraft, to support4he company's commercial paper borrowings and for other corporate purposes. Commitment: fees, generally 1rSio ofil percent, are paid to the lending institutions as compensation for availabilityof'the facilities. The company's credit facilities include a revolving,bank credit agreement expiring in $ 284 1993 for $110 billion which enables the company to refinance short-term debt.on a long-term basis. Accordingly,short-term borrowings intended to be refinanced have been reclassified to: long=term debt. Certain of the revolving credit agreements limit payment of cash dividends and the purchase, redemption orretitementof capital shares andVor require maintenance of a fixed charges coverage ratio. At December 31;1988,,approximately $800 million of.earn- ings reinvestedlin the business was free of suchirestrictions. J L C * 3 06 3 0 6~..3 1 39

MteJ* (continued). Moft 6.1aong1-7Ylrrrr Di.ft At December 31, the company's long-term debt~consisted ofthe following: (in millions) 1988 1987 Consumer products: Short-term borrowings, reclassified i 9,128 $ - tdotes, 6rib%' to 113.8% (average effective rate 9:25%)+ due through 1998 3,652 3,057 Debentures, 43A% to 10!h% (average effective rate 10:32%)„ $116 billion face amount;,due through 2017 1,1>i9 851 Foreign currency obligations: Swiss franc; 4Y.% to 5!Xi%, due through 1993 soo 682 Deutsche mark, 43/4% to 6%, due through 1996 296 235 Japanese yen; 6!h% and 5%%, due 1991 and 1992 261 157 Canadian;dollar, 9y~%, due 1990 84 77 Other 443' 22~0 Other 366 ' 385 16;009 5+86A Less current portion of long-term debt, net of $834 million (1988) reclassified'to long-term debt (I127) (465) 815;882' $5 ;199' Financial services and real estate: Short-term borrowings, reclassified i 310 $ I 3t0. Notes, 9.25% to 12.85%i (average effective rate 9.80%), due through 1992 217 152' Zero coupon bonds,13.3% effective rate, $200 million face amount;,due 1994 101 89. Foreign currency obligations: Swiss franc, 4V4% and 43/4%, due 1993 and 1996 2411 266. Sterling,1lyb%, due1995 133 137 Canadian dollar,10y5%, due 1990 106 Other 132 140 f' 1,240 $1,094 The company has entered into interest rate and currency swaps to limit exposure to interest rate and currency movements on long- term debt! The effective interest rates may differfrom the rates set forth in this note as a result of such swap arrartgements: Foreign currency denominated debt#or which the company has not entered into currency swap agreements is maintained primarily to hedge currency exposure of its net investments in~foreign operations. During 1988'the:company entered into interestrate swaps to establishifixed interest rates on $1.5 billion of Consumerproducts' shorrt-term borrowings, reclassified. At December 3t,1988, these swaps had a weighted average rnaturityof 1.9 years and a weighted average fixed interestrate of~9.5%. In addition, the company has also entered into agreements to protect itself from increases in interest rates on $2:5' billion of Consumer produets' short-term borL row6ngs, reclassified. At December31,198g, these agreements hadi a weighted average maturity of i1.5 years and protection levels rang- ing from 9% to 9.5%. Aggregate maturities of long-term debt, excluding,short-term borrowings and currentportion of long-term debt reclassified as long-term debt, are as follows: (in millions) 1989 1990 1991 1992 1993 1994-1998I 1999-2003 Consumer products Financial services and real estate $ ' 127 $ 20 765 181 475 13 919 66 309 308 2.341 441 839 The revoiving credit facility under which the shorttterm debt was reclassified as long-term debt expires in 1993 and any amounts then ~outstanding mature. 40' 10p~2306~24

Mo1. 7. CapJtsl'Sbock: 1 Shares of authorized'commonstock are 1 billion;,issued, treasury and outstanding were as follows: lssued l 7}easury Outstanding Balance,January 1„1986 119,351,737' (500) 11!9;351,237 Exercise of stock options and stock units prior to stock split-up 222,457' S00 222;957 7bwo-for.one stock split-up 119,574,1941 119;574;194 Exercise of stock options and stock units after stock split-up 470,560 168,741 639,301 Purchased (1,930,150) (1,930,150) Balance;,IDecember31111986' 239;618;998' (1,761,409) 237,857,539 Exercise of stock options and stock units 768,946 768,946 Purchased (2;000,000) (2i000,000) 13alance;lDecember 3'] 1198T 239;6I8;948 (2;992,463) 236,626,485 Exercise of'stock options and stock units 6&1476D 661,760 Purchased (6,257y300) (8,257,300). Balanee,,Decemtier 3 1 ; 1988 239,618,948 (8,588,003) 231,030,945 A>;tDecember 31, 1988, 9;886,526 shares of common stock were. reserved for stock options, stock units and other stock awards and 10,000,000'shares ofSerial PfeferredlStock, $1.00 parvalue; were authorized, none of which have been issuedl Mblta 8. S/bak Planss Under the 1987'Philip Morris Long Term Incentive Plan„the com- panycan grant to eligible employees stock options, stock apprecia- tion rights, restricted stock, deferredlstock, stock purchase rights and long-term performance awards. Such grants may be for cash and up to 8 million shares of common stock. Under previous option plans; eligible employees were granted options to purchase common stock of the company at market prices on dates of grant. Under one such plan, units were granted which permit the holder to purchase shares of common stock at marketprices on dates.of grant or to receive the appreciation value (the excess of the market price at the date of exercise overthe market price at the date of grant) in the form of stock or stock and cash. Appreciation value may be received with respect to the equivalent of 50%' of the units granted. At December37, 1988 and 1987, options and units were exercis- able for2,821,624 shares and 2,381,665 shares, respectively: Shares available to be granted at December 31,1988 and 1987 were 5,682,144 and 6;885,566, respectively. Options/units activity for the years ending December31,1988; 1987, and 1986 follow. 1988 1987' 1986 Balance, tieginning of year 3,775,296 3„501,633' 3,887,946 Granted 1,243,,4113 1,124,589 873,593 Exercised (754,321) (821,995) (1,21'3,658). Cancelled (61,006) (27,931) (46,248). Balanee;,end of year 4,204,382 3,776,296I 3,501,633 Range ofexercise prices of'optionsdunits outstanding at year-end $16.28489.50 i16:28-589:50 $15:02•573.75 Gtant prices of optionslunits 183.69 and =83.94 $891% $73.75 Mo1. A EartNttgs Psr Shan.: Earnings percommonshare have been calculated on the weightedl year, whichwas 232,987;076, 237821,055'and 238,510,748 for 19 average number of shares of common stock outstanding,foreach 1987 and 1986, respectively. 100'5230f25 41

I!EIYtes (continued) /Mo1.10. ,PraTlur EarninEs and Provision for ibscan. UmSa Effectii+e January 1,1988; the company adopted the provisions of Statement of Financial Accounting Standards No: 96', "Accounting for Income Taxes:"Accordingly,the company has changed itss method of computing deferred income taxes from the deferred method used in prionyears to the method prescribed by SFAS 96:. SFAS 96 increased 1988 netlearnings and earnings per share by S213millionlandl$.91!, respectively. Prioryears' data, have not been restated. The cumulative effects as of January 1, 1988 of adopting SFAS 96 were decreases in deferred income taxes of ilE736 million and good- will of $463'million, and an increase in 1988'net earnings and earn- ings per share of'5273 million and $1.17; respectiwely. Pursuant to the provisions of SFAS 96, such ettmulative effects at adoption included $105 million of excess deferred tax benefits, which havee reversed orwill reverse in 1988'through1 1990. Application ofSFAS 96lduring 19'88'decreased earnings before cumulative effect of' accounting change by $60~million ($.26'pershare), resulting pri+ marily from the reversal!of the aforementioned excess deferred tax benefits recorded upon adoption of SFA'S'9&. (in millions) 1988 1987 1986 Pre-tax earnings: lllnited States =3,187 $2,880 $2,348 Outside United States 560 464 417 Total pre-tax earnings $3,727 $3,344 $2,765 Provision for income taxes:. United States federal: Current :' 935 $ 607 $ 624 Deferred 203 557 305 1,138 1,164 929 State and local 191 1'53 159 Total United States 1,329 1,317 1,088 Outside United States: Current 402 173 222 Deferred (86) 12 (23) Total outside United States 334 185 199' Total provisionforincorrte taxes $1,663 $1,502 E1,287' The major categories of deferred income tax provisions are. as follow•s: (inimillions), 1988 1987' 1986' Differences in recognition of lease income $ 221 $ 243' E 222' Restructuring provisions (111'5) (14) Excess of tax overtiook depreciation 94 190 213' Reversal'of excess deferred tax benefits 74 Foreign currency debt 1'3' 90 Other (152) 60 (153) $ 135' $ 569 i' 282' Applicable United States federal income taxes andiforeign with- expected to be permanently reinvested'abroad. If these amounts holding taxes haue not been provided on approximatelj+ $635 were not considered permanently reinvested, additional deferred million of accumulated earnings of foreign subsidiaries that are taxes of approximately $65 millionwould have beenprovided. 42 100523~6,6'

The effective income tax rate on pre-tax earnings differed from the. Ui.S: federal statutory rate for the following reasons: 1988 1987 1986 (in millions of dollars) Amount % Amount % Amount % Provision computed at U.S. federal statutory rate of reported Ipre-tax earnings =1,267' 54.0% $1,338 40.096 $1,272 ! 46.0%. Increases (decreases) in the provision resulting from: State and local!income taxes, net off federal ltax benefits 126' 3.4 92 2.8 86' 3.1 Repatriation of ioreign earnings 77 2.1 61! 1.8 5' 0:2! Reversal of excess deferred ltax benefits 741 2.01 Goodwill 43' 1.1 42 1 L3 51 1.9. Investment tax credits (S) (0.1) (6) (D.2)i (22) (0.8) Other 81 2.1 (25) (f9.8)~ (105) (3.9) Provision forincome taxes, as reported :1,663~ 44.6% $I1!,502 44.9% $1,287 46.5% The deferred income tax assets and liabilities included int'he consolidatedlbalance sheet at December 31, 1988 were as follows: (in millions) Consumer products Financiallservices and real estate Other current assets 1 1!60 i- Deferred income taxes (825) (894) =(665), 6(894) The major types of temporary differences that give rise to deferred income tax assets and liabilities at December 31,1988 are dif'fer, ences between the book and tax bases of property, plant and equipment, investments in finance leases, and accruedlliabiiities. 41

NQte$ (continued). Nots 11, Segmi.nt Arp0e0inr Tobacco; food, beer, and!firtancial services and real estate are the major segments ofthe company's operations. The company~'s con- solidated operations outsidettte United States, which are princi- pally in the tobacco and~food businesses, are organized into geographic regions bysegment; with Europe the most significant. Intersegment transactions are not reported separately since they are not material. For purposes of segment reporting„operating profit is operating Data by Segment4or the years ended December 31t (in millions) - Operating, revrenue s: Tobacco Food Beer Financial services and reallestate Operatingprofit: Tobacco F)od Beer Financial services and real estate Other Total operating profit Unallocated corporate expenses Operating incorne Depreciation expense: Tobacco Food Beer Financial services and real estate Identifiable assets: Tobacco Food Beer Financial'!servicerand real estate Corporate assets Total assets Capital'additions: Tobacco Foodi Beer Financial services and real estate income exclusive oficertain unallocated corporate expenses. Pursuant to SFAS 94„priorperiod data have been restatedito include previously unconsolidated subsidiaries. See Note 2 regard- ing acquisition of Kraft and Note 3 reganding,restructurings at General Foods:. Identifiable assets bysegment are those assets applicable to the respective industry segments. Reportable segment data reconciled to the consolidatedifinancial statements follow: 1988' 1987' 1986 $16,5" ' i14;644, $12,691 11,265 9;946I 9,664 3,262 34105 ' 3,054 629 488 474 134 i742 $28;183 $25,883 i' 3,846 $ 3;290 E 2,848 392 605 639 190 170 154 162 68 31 19 (9) 4,590 4,152 3;663' 193 162 126 $ 4,397 $ 3,990 $ 3;537 $ 237' $ 214 E' 200 221 201 167 136' 137 136 4 4 3 = 6,001 $ 6,467' $ 5,808 24;8T0 9;125 8,629 1,623 1,680 1173G 3,169 2,890 2,276 35,668 20;162 18,449 1,297 1,275' 1,033 :36,960 $21,437 $19,482 i' 467 $' 246' $ 191 466 402 395 86 57 .80 2 12 100*5230628 44

Data lry Geographic Region kx the years erdbd'IDecember 31, (in millions) 1l88 1987 1986 Operating !revenues: UlnitedStates-Domestic i20,866 $18,715 $18,041 -Export 1,868 1,592 1,1'93 E,urope 7,251 6,314 5,178 @ther, 1,762 1,562 1,471 $31,742 $28,183 E25;883 Operating',profit: United IStates $ So97S f' 3,698 $ 3,280 Europe 449 373 ' 306 ' Other 166 81 77 ltital operating profit 4,590 4;152 3,663 Unallocated Icorporate expenses 193 162 126 Operating income $ 4;397 E' 3,990 $'. 3,537 ]dtmtifiable assets:, United States =28,205 $16;387' $15,240 Europe 4;532 3;033' 2,482 Other 2,926 742' 727 35,663 20,162 18,449 Corporate assets 1,287' 1,275 1,033 Total assets i36,960' $21,437 $19,482 NMo/.12. P.nsion Plansr In 1!986 the company adopted Statement of'Financial Accounting, Standards No. 87, "Employers' Account6ng for Pensions," for its,U:S:. pensionplans. Pension cost and related disclosures fornon-U:S:& plans have been determined under the provisions of the previous accounting,principles: The company will adopt SFA:S 87 for its non-U.S. plans:during 19W The effects of such adoption are not expected to be material. U5. Plans The company and its subsidiaries sponsor noncontributory defined benefiUpension plans covering,substantially all employ,ees:. The plans generally provide retirement benefits for salaried em- ployees based on years of'service and compensation during the last years of employment. Retirement benefits for hourly employees generally are a flat dollar amount for each year of service. Thee company funds these plans in amounts consistent with the fund- ing,requirements of federal law and regulations. Net pension cost included the following components: (in imillions) Service cost-benefits eamed lduring,the year Interest cost on projectedlbenefit obligation Return on assets-actual -deferred gain (loss) Amortisationofnetgainupon~adoptionofSFA587 Net'pension cost 1988 1987 1986 $ 102 E 95 $ I 90 216 191 173 (372) (148) (439) 108 (95) 212. (28) (28) (28) i 26 i 15 $ ' 8' 1005230629 45

11rVies (continued). NoN 12. P.nslon Plans~(contlnwd)s 0 The funded status of the plans at December 31 was as fol0ows; (un inillions) 1888 1987 Actuarial present value of accumulated benefit obligation-vested $2,553 $1,762 -nornested I 154 106 2,709 1,868 Benefits attributable to ~projected salaries 798 569, Projectedibenefitobligation 3,507 2,437' Plan assets at fairvalUe 4,353 2,951 Excess of assets over projected benefit obligation 848 514 Unamortiiedlnet~gain upon adoption of SFAS 87 (345) (373). Unrecognized prior service cost 72 8'. Unrecognized net (gain) loss from experience differences (135) 33' Prepaid pension cost =' 438 $ 182 11 The projected benefit obligation at December 31„1988 1987 and 1986 was determined using assumed discount rates of'8'h96, 8'hA6% and 73/a%„respectively, and assumed compensation increases of 6% to 71n96, 7'h% and 63/496, respectively. The assumed long-term rate of return on plan assets was 996' at December 31, 1988, 1987 and 1986. Plan assets consist principally of cornmonstocks and fixed income securities. The company sponsors a deferred profit-sharing plan covering certain salaried, nonunion andlunioni employees. Contributions and costare determined as a percentage of consolidated pre-tax earnings, as defined by the plan. Certain subsidiaries of the com- pany also maintain other definedlcontributionplans. Amounts charged tolexpense fordefinedlcontributionplans totaled $136 million, $118 million and $99 million in 1988,1987 and 1986, respectively. IYort-U5. Plans Pension coverage for employees of'the company's non-U.S. sub- sidiaries is provided, to the extent deemed appropriate, through separate plans, many of which are governed by local statutory requirements. Pension expense for these plans was $35 million, $30 million and $30 million in 1988,1987 and 1986, respectively: The actuarial presentvalue of accurnulated plan benefits was $734 million ($693'million vested) in 1988 andi$427'million ($391 million vested) in 198TMet assets available for benefits were $929 million and $609 million in 1!988 and 1987, respectively. Met'assets available forplanbenefits include amounts funded with trustees or governmI organi¢ations, and book reserves of $195 million~and $11!5 million in 1988 and 1!987, respectively The weighted average assumedlrate of'return used in determining the actuarial present value of accumulated plan~benefits was approximately 7% and 6% for 1988 and 1987, respectively, Nobe 13. Utipation: There is litigation pending againat'he leading United States cigar- ette manufacturers seeking,compensatory and, in some cases, punitive damages for cancer and other health effects alleged to have resulted from cigarette smoking. Philip Morris Incorporated ("PM Inc.")„ awholly-owned subsidiary ofthe company, is a defendant in some of these actions. It is not possible to predict the outcome of this litigation. Litigation is subjectto~manyuncertain- ties and it is possible that some of these actions could be decided unfavorably to PM Inc. An adverse development in pending litiga- tion could encourage the commencement of additional similar liti- gation. All such actions are and will be vigorously defended. However, management does not believe thatthis litigation will have a material adverse effect upon the financial condition of'thef company. 46

/Ilo/s 1+4. AddJtional IMonertbfon: (in millions) Depreciation expense Rent'expense Research and development expense Interest and other debt expense, nett Interest expense Other debt expense Interest income Interest expense of financial'services and real lestate operations,,included in cost of sales iJm 1l88 1987 1986 $612 $569 $5118, $120 $112 $1,07 $245 $223 $2 13 $734 $673 $777' 5 15' 21 (6g) (42) (28) $670 $646 $772 i'88 $112 $193 Iibi.1S. finrncl.l S.ncic.s OedR.al E*ftM Oprratfons: Philip Morris Credit Corporation ("PMCC') is a wholly-owrted sub- sidiary which previously had been accounted for by the equity method. PMCC has been consolidated in 1988, and prior years' data have been restated. PMCC invests in third+party leveraged and direct finance leases and 1securities of third Iparties„primarily pre- ferred stocks, and engages in various financing activities for cus- tomers and'suppiiers of'the company's subsidiaries. Additionally, PMCC is engaged through its wholly-owned consolidated subsidi« ary„Mission V'iejQ Realty Group Inc. ("M4RG"), in community; commercial and'industriallreal estate development activities. Pursuant toa supportagreement; the company has agreed to retain ownership of 100% of the voting'stock of'PMCC and make periodic payments to PMCC to the extent necessary to ensure that earnings available for fixed charges equal at least 1.25 times itss fixed charges. Condensed financial dataifollows: (in millions) Assets Finance assets, net Real estate held for sale and investment t;,oodwillJ net of accumulated amortization Other assets Totallassets liiabilities and stockholder's equity Short-term borrowings Gong-term debt Deferred income taxes Other liabilities Capital inotes due parent Stockholder's eqwity Total liabilities and stockholder's equity At December31, 1988' 1987 $2,601 $2,208 379 482 40 41 252~ 185 =$;272' $2,916 ~ 0 $ 264 $ 284 C 1,240 1,094 l 894 756 lV 221 203 90 tf~ 489 $3,272 $2,916 ~' Finance assets, net include a $23 million note receivable from respectively,,at December 3'1,1988'and'S3 million and $7 million, Miller Brewing,Cornpany, a wholly-owrted subsidiary of the com- respectively,,at December 31,1987: These items, as well as the parly,'at December 31,1988 and 1987. Otherassetsand other liabili+ capital notes due parent, were eliminated, in the company's ties include intiercompany, balances of $80 million and $2 million, consolidated balance sheets. 47

Ift`eS (continued) Mof.1s. Financial Sonvicos and R"Estds Oporatlons (conflnuod): For the liear Ended December 31, (in millions). 1l88 1987 1986' Revenues: Financial services $173 ' $158 $174. Real estate 436' 330 300 Total revenues 631 488 474. Expenses: Financial Iservices 114' 130 113' Real estate 357 290 262. Total expenses 471 420 375' Pte-tax earnings before cumulative adjustments 160 68 99 Cumulative pre-tax adjustments,related to les+eraged'leases (71). Earnings before income taxes and cumulative effeetof accounting change 160 68 28' Provision for income taxes: Current year (4)' 36' Cumulative adjustments related to leveniged'leases (83) Earnings before cumulative effect of accounting change 123 72 75 Cumulative effect of change in method lofaccounting for income taxes 41 Netearnings $164 $ 72 $ ' 75. AL FrnancrQliServices and Real Estate Operations-Cumulertiue A'rljustments Related, to Leweraged Leases The Tax Reform Act of 19'86'decreased federal income tax rates for tive adjustment in 1986 that decreased earnings before income periods after 1986. As a result of these bwertax rates, as well as taxes and cumulative effect of accounting change, decreased pro- provisions in certain lease agreements, PMCC'nenegotiated some vision for income taxes, and increased net earnings by $7,1 million, oflits leveraged leases, which resulted in~ehanges in most major $83 million, and S12lmillion, respectively. assumptions. These renegotiations and recalculations of otherr leveraged leases using the new lower rates resulted in a cumula- B. FrnancialServices and Real Estate Operations-Firtance Assets At December 31, PMCC's finance assets consisted of the following: (in millions) 1888' 1987 Finance leases $2,163 I $1,946 Other investments (at cost, which approximates market) 1,m ' 922 3,329 2,868 Less unearned income and allbwances 728' 660 :201 $2,208 Other investments consist primarily of preferred stocks and real estate and commercial receivables. ZOos23os32. 48

O Financial Services and li!eal Estate Openttions-Finance Leases Finance leases consist of'investments in transportationj telecom- represent!unpaid rentals less principal and interest on third-party munications, commercial equipmentand facilities and have initial nonrecourse debt. lease terms of'4 to:30 years. Rentals receivable for leveraged leases A summary of PMCC's investment iro finance leases at December 31,1988 and 1987,' folbws: Leveraged 4eases Direct Finance Leases Total (in millions) 1l88 1987 1988' 1987 1988 1987 Rentals receivable, net $1,464 $1,378' $ 149 $ 93 $1,013 $1',471 Ufigtiaranteed lresidual values $40 470 10 5 ~ '.f50 I 475 Ulnearned income (387) (518) ('~S8) , (12) (595) (530)' Deferred irnestmenttax credits (8'T) (92) (1)! (2) (88) (94), Net investment in finance leases 1,380 1,238' 100 84' 1,480! 1,322 ftetatedldeferred''1 incbmetaxes (857) (628) (17) (29) (874) (657) Net investment in finance leases, less related' deferred income taxes $ 523 $ 610 i' 88 E' 55' $ 808I $ 665 Rentals receivable in excess of debtservice requirernents on non- during each of the next five years (a total of $292 million) and a, recourse debYrelated to leveragedI leases, and'rentals receivable total of $1.3 billion for 1994 and thereafter. from direct finance leases range from (45'million ta3I87'million Mo1.1B. Quarharlr Financial Dah (RUnaudib.d)e Pneviously'reported data for 1987 quarters and!the first, tltree quar- the equity methodland the adoption in 1988'of a new method of ters of 1988 have been adjusted as indicated'below to refiect the accounting for income taxes:. consolidation of certain subsidiaries previously accounted for by 1988'.Qpartere (in millions, except per share data) lst 2nd 3td 4th Operating revenues: As reported :7,238':7,81'9 $7,547 ' $8,511 Financial services and real estate 1185 125 190 129 As restated $7,421 $7,9441 $7,737 =8,840. Gross profit: As reporrted' 82,837' $3,234 $8,1'58' $8,581 Financial!services and real estate 63 38 77: 37, As restated l $2,900 $3,272 $39233 $3,598 Net earnings: As reported :' M t 627 i' 639 i' 356 Change due to new method!of accounting for income taxes (12) (16) (18) (14) Earnings before cumulative effeet of accounting change 490 611 621 342 Cumulative effect of change in method of accounting for income taxes 273 As restated i' 783 8' 6111 $ 621 i' 342 1005230633 49

NofeS (continued) !_` ~ Illo2r t B. Quarb.rly 151n.nela•/ Qtrfa (WnaudN.d) (9onWliu.d): 1888 Qo.rlen. (in millions, except pershare deta) let' 29hd 3rd 4th FL-r share data: Net eamings: as reported $ 2.12 $ 2.6111 S 2.76 =' 134 Change due to new method of accounting,for income taxes (.06) (.07) (.07) (.06) Earnings before cumulative effectof accounting change 2.06 2.61 2.69 1.48 Cumulative effect df iaccounting change 1117' *t earnings, as restated $ 3.23' $ 2.61 $ 2.69 $ 1.48 Dividends declared i.W i.80: $1.125 i11.12s NIluket,price-high $ 963ti $ 93% $ 881ile': i101rii -bw $ 81 $ 80% $ 82if'., i 90% The sum of certain quarterly amounts do not equal Ithe yearly amounts due tm changes in shares outstanding,during the year. 1987 Quarters (inmillions,except~persharedata) 1st 2nd 3rd 4th Operating revenues: As reported $6,554 $7,110 56;967 E7;064 Financial services and real estate 90 110 148' 140 As restated $6,644 $7,220 E7;115 E7;20d 1 Gross profit: As reported $2,464 $2,840 $2;839 $2;913'. Financial services and real estate 18 37 29 33'. As restated $2,482 $2,877 E2;868 E2;946. Net eamings $ 386 $ 476 f' 502 $! 478' Rershare data: Net earnings = 1 L62 $ 2.00 $ 2.1111 E' 2.02 Dividends declared t.75 $ .75 E.75 $ ' .90. Marlcetprice-high $ '9ty, 592A ' E1241h $1'203v'. -Imw E' 72% $ 79pib' $ 891% E' 77% See Note 3 regarding restructuring costs at General Foods in the fourthquarter of'1988'and the third quarter of'1987: The principal stock exchange on which~the company's common stock (parvalue $1 per share) is listed is thelilew York Stock Exchange. At January 31 ~ 1989'there were 51,278 holders of record of the company's common stock. 50

Report of Independent Accowntants lb the Board of Directors and Stockholders of Philip Morris Companies Inc.: We have audited'the accompanying consolidated balance sheets of Philip Morris Companies Inc. and subsidiaries as of December 31, 1988'and I1987; and the related consolidated statements of earnings, stockholders' equity and!cash flpws for each of the three years imthe period ended December 31,1988. These financial statements are the responsibility oflthe company's management. Ourrespon- sibility i's to express an opinion omthese financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan~and per- form the audit toaobtain reasonable assurance about whet'her the financial statements are free of material misstatemenT. An audit in- cludes examining, on a testbasis; evidence supporting the amounts and~disclosures in the financial statements: An audit also includes assessing3the accounting,principles usedland'significant estimates made by management; as well as evaluating the overall financial statement presentation. We believe thatour audits provide a rea- sonable basis for our opinion. In our opinioni the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Philip Morris Companies Inc. andlsubsidiaries at Der:ember 31, 1988 and 1987, andIthe consolidated results of their operations and their, cash flows for, each ofthe three years in~the period ended' December31;1988,,in confprmitywith generally accepted accounting ,princ i ples. As discussed lin Notes Land 10'to the consolidated financial statements, in 1988 Philip Morris Companies Inc. consolidated cer- tain subsidiaries previously accounted for by the equity method and adopted new income tax accounting,principles, in accordance with recently-issued statements of the FinancialU#ccounting Stan- dards Board. COOPERS & L.YBRANID New York; , New York January23, ]!989 Company Report on. Financial, Statements The consolidated financial statements and all related lfinancial information herein are the responsibility of the company. The . financial statements, which include amounts based lon judgments, have been prepared in accordance with generally accepted accounting principles. Other financial information ~in the annual report is consistent with that in the financial statements. The companymaintains a system~of'internalcontrols which it believes provides reasonable assurance that transactions are exe- cuted in accordance with management's authorization and prop- erly recorded, that assets are safeguarded, and that accountability forassets is maintained. The system of~intemal controls is charac- terized by a control-oriented environmentwithinthe company which includes written policies and procedures, carefullselection: and lttaining ofipersonnel„and audits by a professional staff of' internal auditors. Coopers & Lybrand, independent accountants; have audited and I reported on~the company's consolidated financial statements. Their audits wereperformedlin accordance with generally accepted auditing standards. The Audit Committee of the Board of Directors, composed ofIsix non-management directors, meets periodically with Coopers & Lybrand;,the company's internal auditors and management repre- sentatives to reviewinternal accounting.contTol, auditing,andI financial reporting matters. Both Coopers & L'ybrand and the inter, nal auditors have unrestricted access to the Audit Committee and may meet with it without, management representatives being present. 51

Bo ard of Directors Dt. Elizabeth E. Bailey tkurr•ey H. Bring Alfrrd Btittain ltl', 52 Dr. Harold Brown Howard L. Clark Dr: Jos( Antonio. CordidcrFreyies William H. Donaldfion Paul W. Douglas Jane Evans James L. Ferguson Robert E. R. Huntley Hamish Maxwell 1O+Q523' 063!6, Dr. Eiizabeth J. McCorm€.ok T. Justin Moore, Jr. William Murray

John S. fReed' : ranx E. Resrsik tahrr M. Richnian Hans G: Storr Will'iam P Tavoulareas Margaret B. Young, Dr. Elizabeth E: Bailey Dean of the Graduate School of Inditstrial Administration 1 Carnegie-Mellon lDniversity,. Pittsburgh; PA' Murray, H. Bring" Senior VicePresident and General Counsel Alfred Brittain 111"j'' Former Chairman of the Board of'Bankers 7tust New York Corporation and Bankers 7Yust Company New York, NY Dr, HaroldiBrown'•'," ' Chairman of the Foreign Policy Institute;. School'of Advanced Internationat Studies, The Johns Hopkins University, Washington, DC Howard L. Clarks' Former Chairman and Chief Executive Officer of American Express Company, New York, NY Dr:,Josk Antonio Cordido- Freytes'' Member of Betancourt; Cordido and Associates, Caracas„Venezuela, Attorneys, and President of C.A. 7abacalera Nacional I William H: Donaldsonl".°•'.' Chairman and i Chief Executi ve Officer of Donaldson Enterprises Incorporated~ New York, NY Paul W. Douglas°6 Chairman and i Chief Executive Officer of The Pittston Company,. Greenwich, CT Jane Evans':' General Partner, Shansby Group, San Francisco, CA James L. Ferguson'.'.4 Chairman of the Executive Committee of General Foods Corporation Robert E: R. Huntley'•" Counsel, Hunton & Williams, Richmondl VA Hamish Maxwell" Chairman of the Board and i ChiefiExecutive Officer Dr. Elizabeth J. McCormack's,r Associate of Rockefeller Family & Associates, New York, NYTi,Justin Moore, Jr.'•'I'' Counsel, Hunton & Williams, Richmond, VA John A: Murphy!'*'' President William Munay'" Vice Chai'rmarrof the Board John S. Reed"°s•6.' Chairman of' Citicorp and ICitibank, N.A., New York, NY Frank£. Resnik' Chairman, Philip Morris U.S.A.. John M. Richman Vice Chai'rman of the Board and Chairman and Chief Executive Officer of'Kraft ~ General Foods Group Hans G: Storr"' Senior Vice PresidenFand Chief Financial Officer William1' Tavoulareas'' Former President of. Mobil Corporation; New York, NY Margaret B: Young'"' Chairman of' the Whitney M. Young;,Jr: Memorial Foundation, New York, NY Joseph F. CuI1Man 3rd Chairman Emeritus George Weissman" Director Emeritus CeewrMet.s : 'Membenof Executive Committee Hamish Maxwetl, Chairman iNember of Finance Committee JohnA: Murphy; Chairman i Memberof Audit iCommittee Robert E. R. Huntley, Chairman Member of Committee on Public Affairs and ISocial Responsibility. John A. Murphy, Chairman 9iiiember of Nominating Committee T. JustiniMoore; Jr:. Chairman 'Member of Compensation Committee John S. Reed, Chairman 'Member of Corporate Employee Plans Investment Committee William H: Donaldson, Chairman 53

Officers. Philip Morris Staff'Vice Presidents: Carlos E. Salguero J. Bruce Harreld. Companies lhc.. Executive Vice President Senior Vice President and Bruce S. Brown. Chief Information Officer: Hamish Maxwell David l. Greenberg, Walter Thoma Chairman of the Board and! George:L. Knox IIl Executive Vice President James M. Kilts Chief Executive Officer F. Robert Kurimsky Williarn,H: Webb SeniorVice President, Strat and Develo ment B. Jack Miller Executi ve Vice President p egy John A. l4urphy. James Jl Morgan Robert L. Seelert President: D. Eric Pogue Thomas M. Kearns Senior Vice President and William Murray William C. Smiy. SeniorVice President Assistant to the Chairman David Zelkowitz Vice Chairman of the Board Andrew Whist John J. 7Lcker John %t. Richman Philip Morris U:S.A. Senior Vice President Senior Vice President, Vice Chairman of'the Board Human Resources Murran• Hi Bring, Frank E. Resnik Vice Presidents;. Officers: Senior Vice President and i Chairman Bernard Beaurpere Donald W Carlin General Counsel EhudlHouminer MartimD.J. Buss Philip J. Davis. Williamdl CampbelC. President and Elizabeth Butson Bennett Hersch Senior Vice President, Chief Executive Officer Dinyar Devitre Margaret P.'MacKimm Corporate Planning Mark A. Serrano Marc Goldberg. Thomas J: McHugh Sn der Richard L Executive Vice President, Richard A. Hutchinson, Jr.. John F. Mowrer . y Senior Vice President, Operations Donal P O'Brien Lee Pollak William A. Paterson. HumaniResources and R. Nelson Beane General'Foods USA Administration Senior Vice President;. Miles L. MarshPresident Hans G Storr Business Development Tobacco Technology Group Senior Vice President and W JohnCampbelll Officers: Chief Financial Officer . Vice Presidents: Senior Vice: President; David C. Collins Donald'Fried Manufacturing, Charles G. Bates Frank C. DiRito Vice President George Karandjoulis David J. Driscoll , Fred J: Laux. Louis R!. Turano Ri h Fi M D d D Associate General Counsel and Secretary Senior Vice Presidenti Personnel John van Ham c ar nucane, . . . James C: Gale Robert W. Ganger Alexander Holtzman il(raff , G.neral Foods Enrique J.,Guardia. Vice PresidenTandl Oroup Gabrielle J Hermann Associate General Counsel Vice Presidents: . Sylvester T. Hinkes George R. Lewis Stephen JJ Bloom John M. Richman ThomasJ. Hoeppner Vice President and Vincent J. Buccellato. Chairman and James R!. Holzbach 7Yeasurer David E.R. Dangoor Chief Executive Officer David F. Hurwitt 0. Witcher Dudley James R. Kinney Robert C. Lowes Dr. Kenneth S. Houghton Michael A. Miles William,Hi Korab Vice Ptesident and John A. Kochevar President and i Brian G: Laragh Controller EdwinJ: McQuigg Chief OperatingAfficer JohnJ: ManniIlil Ellen Merlo Gregory& Murphy Guy L. Smith IV Fredric S, Newman AIanR. Plassche Vice President, Steele Harry G Stephen l Sadove Cor orate Affairs . Corporate Staff: . p Lawrence W Zinski Edward A. Schefer JamesT. Breedlove Calvin J. Collier Andrew J. Schroder III Assistant Secretary Philip Morris Senior Vice President and Douglas A. Smith /nternatiional Inc. General Counsell Paula A. Sneed Patricia A. Malzacher. Raymond!G: Viault Assistant Secretary Gary P.'Cbughlan Geoffrey C. Bible SeniorVice President President and , Finance Chief'Executive Officer: Peter J. De Luca Aleardo G Buzzi . Senior Vice Ptesident and Executive Vice President Special Counsel 54

Kraft USA Kraft GenerallFoods. Robert L. Smith Ervin R. Shames Frozen Products Ronald R. Strain President Thomas Herskovits RoberCA. Toledo President Officers: Philip Morris Credit Joseph P Durrett Officers: Corporation RoberfG: McVicker John Craig ErirC: Strobel WilliamJ. Dowd Hans G' Storr Joel D. Weiner David J. Justin President and Harold E. Reinhart~ Chief Executive Officer Kraft General Foods Peter B: Robinson International Norman J. Theisman John M: Keenan~ Ernest W. Townsend I SenioriVice President President. U.S. Commercial Group . Michael J I Kinney George F. Goebeler . Officers: Vice President President Charles A. Adamo Officers: Bernard D. Balas Mission Viejo Realty Dr. Thomas L. Fazzina Frederick F. Avery Group:Inc. Ernst A. Haberli Dary1 D; Boddicker Dr. NicolaasE:M. Kuijpers John M! Cabot James G. Gilleran R'ichard'H. Lenny Forrest L. Haney President and Brian A. Mclver James A. Miller Chief Executive Officer P. Michael Morton R Dean Nelson . Jack G. Raub 1 Thomas P.' Park Michael A Oakes . Executive Vice President John G. Plackett Leroy E. Radtke Douglas A. Smith Gary L. Severseike James L. Huesman Luc E. Vandevelde BillyJ. Strong Executive Vice President Gerald D. Wollert Thomas L. Thomas and Treasurer R. Eugene Thompson Kraft General Foods Canada Craig McCallum Robert S. Morrison Miller Brswing Senior Vice President President Company Harvey Stearn i Officers: Senior Vice PresidenC LeonardiJ. Goldstein Jack H. Scott. President and (General Foods Inc.) Chief Executive Officer Vice Presidents: Edward W Smeds Warren~H: Dunn Danette S Fenstermacher (Kraft Limited) Senior Vice President, . William K. Smith OscarMayeer Foods. Administration Van Stevens , James W: McVey Allen A. Schumer Robert P. Swank President SeniorVice President, Officers: Operations Charles W: Schmid Alan G. Becker SeniorVice President Thomas P Duesler , Marketing Eugene E. Jarrel Joel W Johnson Vice Presidents: Ronald'S: Kelly Patrick J. Luby Bil'ly R. Apple Pat Richter Dr. Vincent S: Bavisotto Paul G. Roehrig Rodney J: Blucher Thomas J. Ryan Frank L. Donnelly Gene G. Suess Leonard H. Jacob Bjorn J. Thompson Thomas A. Koehler, Paul J. Tiller Paul R. Mollomo RichardJ. Waldrop. George D. Riemer, Raymond G~ Winburn William A. Saupe William G. Schmus 55

General' Corporate lnformation /gaadquarbrrs Kn>tR O.naral Foods Annual MwtlnO: h dilgandent Addrass.s: aroup The annual meeting of Aiooounfar:tss KraftCourt stockholders of'Philip Morris Coopers & Lybrand Philip Morris Glenview, Illinois 60025. Companies Inc. will be heldd 1251 Avenue of the Americas CGompani.s Inc. on April 27, ]989, at the Philip New York, NewYork 10020 120 Park Avenue Operating Unit Headquarters: Morris Manufacturing Center; NewYork, New York 10017 3601 Commerce Road Public Policy /ssu.s: (212) 880-5000 General Foods USA , Richmond Virginia. Inquiries regarding our 250 North Street . , positions on public policy Philip Monis : ~ White Plains, New York 106251 Fbrm 10-Ka issues involving the company /ncorporat.a' The company's annual report and its products should be, 120 Park Avenue Kraft USA on Form 101K which will'be directed to: NewYork, New York 10017' Kraft Court , filed with rthe Securities and Glenview, Illinois 60025 h i i ill C Corporate Affairs Department Philip Morris U.S.A. ange omm on„w Exc ss , be available to stockholders Philip Morris Companies Inc. 120 Park Avenue Kraft General Foods 120 Park Avenue New York New York 10017' International! in April upon written, , 800 WestchesterAvenue request to: New York, NewYork 10017 Philip Morris Rye Brook,,New York 10573 Donald Fried Secretar /nhrnational Inc. , y 120 Park Avenue Kraft General Foods Philip Morris Companies Inc. New York New York 10017' Canada 120 Park Avenue „ GeneralFoodsdnc. New York, New York 10017 Regional Headquarters: 95 Moatfield Drive 7FansfarAO.nts and Don Mills, Ontario. R.Olstrars: Philip Morris EEC M3B 3L6 Morgan Shareholder Services Brillancourt 4 Case Postale Trust Company Kraft Limited 30 West Broadwa 1001Lausanne 8600 Devonshire Road y New York, New York 10007-2192 Switzerland Mount Royal, Quebec Philip Morris EFTA, Eastern H4P2K9. Crestar Bank Euro e the Middle East, Box 261a65 , p Oscar, Mayer Foods Richmond Virginia 23261 &Africa 910 Mayer Avenue , Avenue de,Cour 107 Madison, Wisconsin 53704 Divid.nd'RiNntrasbn.nE Case Postale AO.nt: 1001Lausanne Kraft General Foods Morgan Shareholder Services Switzerland Frozen Products TrustCompany Kraft Court Dividend Reinvestment Plan Philip Morris Latin .America 120 Park Avenue Glenview, Illinois 60025 . PO: Box 3506 New York 10017 New York U.S. Commercial Group Church Street Station , I Parkway North New York, New York 10008-3506 Philip Morris Asia, Inc. 25th Floor, United Centre Deerfield, Illinois 60015 Stocl: Excl:an0e 95 Queenswa Central usdnOs: y, M/ll+r er.win0 New York Hong 1Cong Coropany . Amsterdam Philip Morris (Australia) Ltd. 3939 West Highland'iBoulevard Basel 252 Chesterville Road Milwaukee, Wisconsin532'01 Frankfurt Moorabbin, Victoria 3189' Philip Morris Cr.dit Geneva Australia l:orporation Lausanne Paris 120 Park Avenue. NewYork; New York 10017 Tokyo N Zurich Mission Viejo Realty Group 0 Inc. NY Stock Exchange 26137 La Paz Road I Symbol: MO ~ K Mission Viejo, California 92691' w 0 56'

Philip Morris.Companies Inc. 120 ~Park Avenue New York, New York 10017 . I ~ 0 0

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