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I PHILIP MORRIS & CO. LTD,, INCORPORATED -- Report upon Examination of Financial Statements

CONTENTS Pa es Comments: Introduction 1 Statement of Income 1-3 Net Sales 4-8 Gross Profit 8-10 Shipping, Selling, General and Administrative Expenses 10 Other Income and Other Deductions 10 Financial Position 10-13 Balance Sheet: Demand Deposits in Banks 13 i United States Government Obligations 13 Accounts Receivable from Customers 14 Accounts Receivable from Others 14 Inventories 15 Property, Plant and Equipment 15 Other Assets 15-16 Liabilities 16 C apital Stock 17 Statements: Comparative Balance Sheet, March 31, 1947 and 1946 18 Comparative Statement of Income for the fiscal years ended March 31, 1947 and 1946 Comparative Statement of Shipping, Selling, General and Administrative Expenses for the fiscal years ended Marc,Xi 31, 1947 and 1946 19-21 22 Statements of Surplus for the fiscal year ended March 31, 1947 23 Notes to Financial Statements 24 N1 0 .t~ r~o a ns ~ 0 ~ j

LYBRA~TD, Ross BROS.E,i\rC)NTGO-NLERY CERTIFIED PUBLIC ACCOUNTANTS RESIDENT PARTNERS NEW YORK ST. LOUIS PHILADELPHIA LOUI$VILL£ WILLIAM M. LYBRAND 90 B R O A D S T R E ET CHICAGO ATLANTA ROBERT H. MONTGOMERY ®O9TON DALLAS PRIOR SINCLAIR 4 eALTIMORE HOUSTON NORMAN J. LENHART N EW YO R K "'F' WASHINGTON SAN PRANOISCO WALTER L.SCHAFFER PITTSGURGH LO°.y ANGELES CONRAD B.TAYLOR D€TROIT SEATTLE ALVIN R.JENNINGS CLEVELAND - HERMON F. SELL CINCINNATI LONDON ROCKFORD PARIS CHRISTOPHER H. KNOLL HILTON R.CAMPBELL June 9, 1947. EDWARD G.CARSON GEORGE W. McIVER,JR. WALTER R. STAUB MARK E.RICHARDSON Mr. Alfred E. Lyon, President, Philip Morris & Co. Ltd., Incorporated, 119 Fifth Avenue, New York 3, New York, Dear Sir: Supplementary to our report upon examination of the balance sheet of PHILIP MORRIS & CO. LTD., INCORPORATED as of March 31, 1947, and the statements of income and surplus for the fiscal year then ended, submitted under date of May 12, 1947, we present herein comments and certain statistical data relative to various items in such financial statements. STATEMENT of INCOME The accompanying statement of income shows a comparison of results for the fiscal years ended March 31, 1947 and 1946. The balances of income transferred to earned surplus, after application of special items of_additions to and deductions from income for the respective years, were $4,958,150 for the fiscal year 1947 and $6,148,000 for the fiscal year 1946. The effect of the special items on the amounts reported for the two years is shown in the following comparison: ~ W 1

ROSS 13kto:;. ti Years Ended March 31 Increase 1947 194 Decreases* Income for year before special items $5,409,085 $4,497,694 $ 911,391 Special items, net deduction for 1947 and net addition for 1946 450,935 1,650,306 2,101,241* $4,958,150 $6,148,000 $1,189,850* The nature of the various special items is indicated by the descriptions of them on the comparative statement of income presented herein. There is no similarity between the special items applied in the two fiscal years. They are all of an unusual nature and may be described as nonrecurring in the ordinary course of the business. The special items applied with respect to the fiscal year ended March 31, 1946 were described in our report, dated June 24, 1946, relative to the examination for that yearo The items for the fiscal year 1947 are discussed herein. The recovery of $310,000 in connection with government con- tracts is the amount claimed and received by the company, under statutory provisions, in respect of higher costs incurred in replace- ment of leaf tobacco used for completion of government contracts during the fiscal year ended March 31, 1943. The amount of recovery was limited to the reduction of billings on government contracts for that year, as provided by the renegotiation agreement concluded in November, 1943, The premium received on sale of the 2-5/8% Sinking Fund -_ Debentures amounted to $320,000, The expenses of the issue aggregated $185,635, as follows: Selling commission $120,000 Counsel fees 20,074 Trustee 7,500 Printing 2,001 Documentary stamps 35,200 Sundries -~ -" 860 185 635 2

For federal income tax purposes the premium and expenses will be amortized over the life of the debenture issue, with annual net ad- ditions of $6,718 to taxable income, The premium paid on retirement of the Twenty Year 3% Debentures is deductible for income tax pur- poses in the fiscal year ended March 31, 1947 but the unamortized balance ($19,314) of premium which was received on sale of that issue must be included in taxable income for such year. The federal income tax applicable to the special items for the year ended March 31, 1947 is not of material amount and was not stated separately from the general provision of $3,200,000 for such fiscal year. The balances of income for the two years, after deduction of dividends declared on the cumulative preferred stock ($863,746 for 1947 and $816,977 for 1946), were approximately equal to $2.05 per share of common stock for the fiscal year 1947 and $2.67 per share of common stock for the fiscal year 1946, The dividends declared on common stock were $1075 per share for 1947 and $1,50 per share for 1946 (on basis of new 45000 par value stock). A condensed comparison of the results of operations for the fiscal years ended March 31, 1947 and 1946, after provision for in- come taxes but before special items, is presented in the following summary: 1947 1946 Pctges of Pctges of Amounts Net Sales Amounts Net Sales Net sales $17:0,905,550 100000 $178,686,032 100,00 Cost of sales .148,411,919 86.84 159,882,242 8,48 Gross profit 22,493,631 13016 18,803,790 10.52 Shipping, selling, general and administrative expenses 12,844,765 7.52 10,953,363 6.13 Operating profit 9,648,866 5.64 7,850,427 4a39 Other income 162,36o .09 1 55,840 °09 r..i 0 9,811,226 5,73 8,006,267 4.48 43. Other deductions 141 1 202 a70 958 573 54 co ~ Income before federal income taxes and ~ - , , , - . r.~ v v w ~ special items 8,609,085 5.03 7,047,694 3.94 Provision for federal income taxes 3,200,000 1087 --2,550,000 1.43 Income before special items $ 5,409,085` 3.16 ~ 4,497,694 2.51 __ , . ~

~aR-, ROSS HNO.S. 7 i y Net Sales: As indicated by the foregoing comparison of operating results, the net sales for the year ended March 31, 1947 were $7,780,482 less than the preceding year. Such decrease is 4.35 per cent of the sales for fiscal year 1946. The decrease in the dollar volume of net sales is the composite result of two principal factors, namely: ao Decrease of quantities of cigarettes and smoking tobacco sold. As shown on tabulation presented hereinafter, such decrease'was 1,833 millions of cigarettes and 1,095,000 pounds of smoking tobaccoso b. Increases of net selling prices of cigarettes. Two in- creases of approximately $_25 each in the net selling prices per thousand of all brands of cigarettes were made on April 25 and October 7, 1946, respectively, Comparison of net sales amounts by brands for the two fiscal years is set forth Cigarettes: Domestic sales: Philip Morris Marlboro Dunhill Major Spud English Ovals in the following tabulation: Fiscal Years Ended March 31 Increases 1947 194 Decreases* English Blend Fleetwood Imperial All others Total Export sales: domestic Philip Morris English Blend Fleetwood Imperial Marlboro (note) Barking Dog Spud All others Smoking tobacco: 4 Domestic sales: Bond Street Revelation Private brands Country Doctor _ -All others Export sales Total cigarettes and 147,269,996 $145,282,504 $ 1,987,492 3,431,132 11,630,951 8,199,819* 989,560 1,409,505 419,945* 962,917 2,742,936 1,780,019* 733,308 951,792 218,484* 632,788 2,151,450 1,518,662* 106,323 208 483 102,160'E- 154,126,024 164,377,621 10,251,597* 11,887,529 9,466,966 2,420,563 484,629 1,263 483,366 399,837 4,983 394,854 185,140 185,140• 160,137 122,283 37,854 111,007 13,316 97,691 $167,354,303 $173,g86,432 $ 6,632,129* $ 1,668,150 $ 1,231,573 2g5~533 198,106 47:964 119,921 1,968,586 ~ 300,436* 1,419,314 187,741* 376,872 91,339* 299,389 101,283* ' 188,911 140,947* 446,528 326,607* $ 3,551,247 $ 4,699,600 $ 1,148,353* smoking tobacco $170,905,550 $178,686,032 $ 7,780,482~ ,-,-Note: These are special sales of Marlboro for exporto In the ordinary course of business this brand of cigarette is not exported directly by the company. 4 2048020034

From the foregoing tabulation and the one which follows, dealing with quantities, the relative importance of various elements of the sales totals is indicated by percentages, as follows: Dollar Sales uantit Sales 1947 194 1947 194 Percentages of all sales: _ _ Cigarettes: Domestic go.18 91.99. Export 7.74 5.38 Total 97.92 97.37 Smoking tobaccos 2.08 2,63 Total 100,00 100.00 Philip Morris cigarettes: Domestic 86.17 81.31 Export 6.96 5030 Total 93.13 86.61 Percentages of cigarette sales: Domestic 92,10 94,48 83,26 87.48 Export 7.90 5.52 16~74 12,52 Total 100,00 100.00 100,00 100.00 Philip Morris: Domestic 88.oo 83.5o 80006 78.64 Export 7.10 5.44 14,61 12,34 Tota1 95.10 .88.g4 g4a67 go.98 Marlboro, domestic 2.05 6.69 1.51 5.04 All others, domestic and export 2.85 4.37 3.82 3.98 Total 100.00 100.00 100.00 100,00 Percentage of domestic cigarette sales: Philip Morris 95a55 88.38 96,16 89.89 Marlboro _ _ 2.23 7.08 1.81 5.77 --All others -2e22 4:54 2;03 4,34 Total - 100.00 100.00 100000 100.00 The comparison of quantities ~ sold during the tion: -J of cigarettes and smoking tobaccc two fiscal years is-presented in the following tabula-

ROSSBKOS. S'Tppw`' Fiscal Years Ended March 1 Increases Decreases* 1947 1946 Quantities Pct es Cigarettes: Domestic sales: Philip Morris English Blend 23,217,381,580 24,246,237,810 1,028,856,230* 4~2* Marlboro 437,362,470 1,555,079,880 1,117,717,410* 7109* Dunhill Major 155,975,560 234;652,000 78,676,440* 3305* Spud 151,426,980 456,568,700 305,141,720* 66.8* Fleetwood Imperial 99,683,440 358,119,330 258,435,890* 72.02* English Ovals 71,180,700 95,639,250 24,458,550* 25a6* All others 12,7459610 26,025,820 13,280,210* 51,0* 24,145,756,340 26,972,3229790 2,826,566,450* 10.5* Export sales: Philip Morris English Blend 4,238,122;320 3,804,297,983 433,824,337 11.4 Marlboro (note) 240,630,400 1,876,000 238,754,400 Fleetwood Imperial 178,112,200 503,200 177,609,000. Sp ud 78,505,200 49,014,600 29,490.,600 6oa2 Barking Dog 76,l00,000 76,l00,000 All others 42,3J0,600 4,646,600 37,684,000 4,853,800,720 3,860,338383 _ 993,462,337 25.7 Total cigarettes 28,999,557,060 30,832,661,173 1,833,104,113* 5.9} Smoking tobacco (pounds): Domestic sales: Bond Street ,478,146 .787,087 08,941* 703* Revelation 900,647 1,035,999 135,352* 1301* Private brands 220,595 299,398 78,803* 2603* Country Doctor 128,453 189,573 61,120* 32,2* All others 349161 95,766 61,6o5*, 64.3* 2,762,002 3,407,823 645,821*, 1809* Export sales 97,779 547,838 4 0 0 * 82.2* Total smoking : tobacco 2,859,781 3,955,661 1,095,880* .2707* Note: These are special sales of Marlboro for export. In the ordinary course of business this brand of cigarettes is not exported directly by the company, -_ The foregoing tabulations of-sales,= expressed in dollar amounts ° ._.-...__s F.-• _ ._ ... ..J - Y~ l r.~ Q and quantities, disclose that the decreases experienced c the fiscal ~ [o -- 4 ~ year 1947 as compared with 1946 were greater in respect of quantities~ ~ r. 0 ,than of dollars. The price increases that were made effective during ca .;the fiscal year 1947 provided~a .partial offset, in the sales totals, to

KOSSHROti, 10,000t $9,578,000 ~ 40,000 2,000t 8,000 5,000t 19,ooot 40,000 ~ 62,000 Total cigarettes and smoking tobacco 19,640,000 *Indicates an increaseo tIndicates a decrease. 7 the decreases of quantities sold„ The effects of the two factors can be expressed approximately, for the business of the full fiscal year 1947, as to the dollar amount by which sales increased as a consequence of higher prices and the dollar amount by which sales decreased because of decline in quantities sold. A computation of such amounts on the basis of annual average net selling prices for the two fiscal years indicates that the net sales for the fiscal year 1947 reflect $9,640,000 of in- creases of selling prices on the quantities sold during the year and a decrease of $17,420,000 of sales volume because of reduction of quan- tities sold. The computation is summarized by brands in the following tabulation: Net Decrease of Sales Volume Increases Due to Higher Average Net Selling Prices Cigarettes: Domestic sales: Philip Morris English Blend 8,154,000 Marlboro 16o,o00 Dunhill Major 53,000 Spud 53,000 Fleetwood Imperial 34,000 English Ovals 25,000 All others 5,000 8,484,000 Export sales: Philip Morris English Blend 1,342,000 Marlboro 239,000t Fleetwood Imperial 37,000 Spud 36,o0ot Barking Dog All others Smoking tobacco: Domestic sales: Bond Street Revelation Private brands Country Doctor All others Export sale_s Decreases Due to Decline in Quantities Sold _ Net Decrease $ 6,167,000 $ 1, 987, 000* 8,360,000 8,200,000 473,000 420,000 1,833,000 1,780,000 1,553,000 1,519,000 243,000 218,000 107,000 102,000 18,736,000 10,252,000 1,079,000* '2,421,000* 634,000* 395,000* 446,000* 483,000* 74,000* 38,000* 185,000* 185,000* 108,000* 98,0oo* $16,210,000 $ 6,632,000 $ 340,000 $ 300,000 186, ooo ---188, o00 99,000 91,000 96,000 lol,ooo 122,000 141,000 367,000 n 327,000 ~ 0 ~ 1,210,000 $ 1,148,000 $17,4209000 fi- v $7,780,000 Ss-

The annual average net selling prices used for the fore- going tabulation were influenced in some degree by variations in amounts of discounts and allowances, special allowances in respect of some of the export business, and variations in sales of the various sizes of containers of smoking tobacco on which varying prices per pound are realized. In the figures relative to variations in sales as so far presented, the domestic sales of Philip Morris cigarettes are included at the average net price of $6.3431 per thousand.for the fisc-al year 1947, At the current net price of approximately $6.50 per thousand, or $a1569 per thousand more than the annual average, the sales proceeds for the 23,217 millions of such cigarettes sold during the fiscal year 1947 would have been greater by approximately $3,643,0000 It is to be noted that the export business represents a greater proportion of quantity volume than it does of dollar volumea This is because tax stamps are not placed on products sold for export and consequently are not included in dollar volume for such shipments. Gross Profit: Percentage of net sales represented by gross profit increased from 10,52 for the fiscal year ended March 31, 1946 to 13.16 for the fiscal year ended March 31, 1947. Some of the factors which contributed to this improvement of gross profit results are as follows: 1. Increases in cigarette prices effective April 25, 1946 and October 7, 1g46o 2. Increases in volume of export sales of cigarettes. Revenue stamps are not included in the selling price and cost of export shipments and therefore the percentage of gross profit thereon is higher than on domestic sales for which revenue stamps are included in sales and costs. 3. Discontinuance of production of cigarettes at'Stephano Bros. factory which had a higher cost than the company's own plants. Approximately 4 per cent of cigarettes produced P•3 ~ -during the fiscal year 1946 was manufactured at Stephano 4, __Bros., and none for the fiscal year 1947. ~ cs aa 4. Decrease in average cost per unit of production (except 0 .leaf tobacco) at the Louisville factory at which new machinery was installed during the 1947 f1scal yeara ~ w rn 8