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SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-K Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 1977 Commission file number 1-194 Philip Morris Incorporated (Exact name of registrant as specified in its charter) Virginia 13-1607658 (State or other jurisdiction of (I.R.S. Eniployer Identification No. ) incorporation or organization) 100 Park Avenue. New York, N. Y. 10017 (Address of principal executive offices) (Zip Code ) Registrant's telephone number, including area code: 212-679-1800 Securities registered pursuant to Section 12(b) of the Act: Name of each exchange on Title of each class nhich registered _ Common Stock (par value $1 per share )* New York Stock Exchange 6%s o Sinking Fund Debentures Due 1993 New York Stock Exchange 8'ls% Sinking Fund Debentures Due 2004 New York Stock Exchange 8.85% Notes Due 1982 New York Stock Exchange 8',~z% Notes Due 1985 -- New York Stock Exchange * At December 31, 1977, there were 59,919,917 shares outstanding. Securities registered pursuant to Section 12(g) of the Act: Cumulative Preferred Stock, 47o Series (par value $100 per share ) f•1 Cumulative Preferred Stock, 3.90 % Series ~ (par value $100 per share ) -p, tx+ : ~ ~ Indicate by check mark whether the registrant (1) has filed all reports required to be filed bN C3 Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes 1' No ts~

Item 1. Business. Philip Morris Incorporated (the "Company") is a diversified enterprise, engaged primarily in the manufacture and sale of cigarettes and beer. The Company and its subsidiaries and affiliates (hereinafter collectively referred to as "Philip Morris") employ approximately 53,000 persons. Based on unit sales, the Company is the second largest of the six major cigarette manufacturers in the United States and, excluding two national enterprises, each of which has more unit sales than Philip Morris; the second largest cigarette company in the world. Cigarettes are sold principally to wholesalers (including distributors and government-owned organizations), vending machine operators and large retail organizations. The Company's subsidiary, Miller Brewing Company, is the second largest United States brewer. Beer products are distributed in the United States, primarily through a network of independent beer wholesalers. The principal methods of competition in the cigarette and beer industries are product quality, marketing and packaging. A wide variety of advertising and sales promotion activities is pursued. Lines of Business and Industry Segments For management purposes, Philip Morris is organized into five operating companies: Philip Morris U.S.A., Philip Morris International, Miller Brewing Company, Philip Morris Industrial and Mission Viejo Company. Tobacco (Philip Morris U.S.A. and Philip Morris International) and beer (Miller Brewing Company) represent the Company's significant industry segments. Other industry segments include industrial ,products (Philip Morris Industrial), community development operations (Mission Viejo Company) and non-tobacco operations (printing and greeting cards) of wholly-owned subsidiaries included within Philip Morris International. Operating revenues and operating profit for 1977 of the Company's industry segments (the Company and all wholly-owned subsidiaries), together with a reconciliation to consolidated operating income of operating companies (see the table on p. 2), are shown in the following table. No amounts are included in respect of operating revenues and operating profit derived from intersegment transfers, because, in the opinion of management, amounts attributable to such transfers are not material. Operating Operating Revenues Profit (in thousands of dollars) Tobacco ......................................................................... $3,493,443 $615,253 Beer ................................................................................ 1,327,619 106,456 Other .............................................................................. 380,915 49,329 $5,201,977 771,038 Equity in net earnings of unconsolidated subsidiaries and affiliates .............................................................. 11,694 Consolidated operating income .................................... $782,732 Sales of tobacco products, both within and without the United States, and sales of beer by Miller Brewing Company, as percentages of consolidated operating revenues and consolidated operating income, respectively, for the last five fiscal years are set forth in the following table. No other class of similar products accounted for as much as 10% of consolidated operating revenues in any year. Years Ended December 31 OPERATING REvENuEs Tobacco products ................................ Beer ...................................................... OPERATING INCOME Tobacco products ................................ Beer ...................................................... 1977 1976 1975 1974 1973 67% 70% 74% 77% 79% 26% 23% 18% 13% 11% 80% 83% 91% 94% 97% 14% 12% 6% 2% (1 °k ) 1

Operating revenues and income for the last five fiscal years of Philip Morris U.S.A., Philip Morris International, Miller Brewing Company, Philip Morris Industrial and Mission Viejo Company are shown in the following table. Corporate expenses, interest (other than previously capitalized interest) and items which are not directly attributable to industry segments or operating companies are not allocated to them. In the opinion of management, any allocation thereof would be arbitrary and would diminish the accuracy of measurement of their performances. Years Ended December 31 1977 1976 1975 1974 1973 (in thousands of dollars ) OPERATING REVENUES Philip Morris U.S.A ................... $2,160,362 $1,963,144 $1,721,549 $1,502,267 $1,303,629 Philip Morris International........ 1,349,280 1,083,970 1,040,002 887,077 822,907 Miller Brewing Company .......... 1,327,619 982,810 658,268 403,551 275,860 Philip Morris Industrial ............. 216,699 169,096 151,960 155,390 132,126 Mission Viejo Company ............ 148,017 94,762 70,635 62,676 67,976 Consolidated Operating Revenues( a ) .................. $5,201,977 $4,293,782 $3,642,414 $3,010,961 $2,602,498 OPERATING INCOME Philip Morris U.S.A ................... $ 474,400 $ 401,426 $ 337,314 $ 286,225 $ 227,282 Philip Morris International........ 153,791 130,104 112,975 94,017 92,150 Miller Brewing Company.......... 106,456 76,056 28,628 6,291 (2,371) Philip Morris Industrial ............. 14,860 10,620 8,052 12,280 8,300 Mission Viejo Company ............ 33,225 16,333 5,875 4,772 4,122 Consolidated Operating Income(a) ...................... $ 782,732 $ 634,539 $ 492,844 $ 403,585 $ 329,483 (a) Consolidated operating revenues and income include operating revenues and income of the Company and all wholly-owned subsidiaries. Consolidated operating income also includes equity in unconsolidated subsidiaries. Philip Morris U.S.A. Philip Morris U.S.A. has responsibility for the development, manufacture and marketing of cigarettes sold in the United States. Its major cigarette brands are Marlboro, Benson & Hedges 100's, Merit, Virginia Slims, Parliament and Saratoga 120's. Since the last quarter of 1975, the Company's principal cigarette brand, Marlboro, has been reported to be the largest selling brand in the United States. Merit, a low "tar" cigarette, which was introduced nationally in January 1976, is believed to be one of the most successful new cigarette introductions ever made. The following table sets forth the industry's estimated sales of cigarettes manufactured in the United States, the Company's unit sales and the Company's share of the industry (including export sales in both cases). Years Ended December 31 Industry(a) Company Company's Share of Industry (in billion units) (in billion units) (%) 1977 ...................................... 679.2 189.0 27.8 1976 ...................................... 670.4 173.8 25.9 1975 ...................................... 664.1 159.5 24.0 1974 ...................................... 651.5 150.0 23.0 1973 ...................................... 632.2 139.1 22.0 ~ (a) Source: Morgan Stanley & Co. Incorporated (John C. Maxwell, Jr. ). 0 1 4~Ca 2

Although the Company's unit volume increased by 8.7% (5.2%, excluding export sales ) in 1977 over 1976, cigarette unit volume (including export sales) for the United States industry as a whole increased by only 1.3%. Approximately 99.0% of the cigarettes sold by the Company in 1977 for consumption within the United States were filter cigarettes as compared with 89.4% for the industry as a whole. Philip Morris U.S.A. is the leader in the 100mm. sector of the United States cigarette market, which accounted for 26.2% of total United States industry sales in 1977. Philip Morris U.S.A.'s 100mm. brands accounted for 35.5% of this market in 1977. The fastest growing sector of the cigarette industry is the so-called low "tar" category, generally considered to consist of brands delivering 15 mg. or less of "tar" per cigarette. In 1977, this category accounted for approximately 26.1% of United States industry sales, and Philip Morris U.S.A.'s low "tar" brands accounted for approximately 23.2% of that total. Current prices per thousand cigarettes (except for military sales ) of the Company's principal brands within the United States, including the Federal excise tax of $4.00 per thousand, are $14.85 for 100mm. and 120mm. cigarettes and $14.35 for other cigarettes. Excise taxes, sales taxes and other taxes levied by various states and municipalities affecting cigarettes have been increasing in recent years. These taxes vary considerably and, when combined with the Federal excise tax, may be as high as 36 cents per package of twenty and may influence the sale of cigarettes. Reports and speculation with respect to the alleged harmful physical effects of cigarette smoking have been publicized for many years and, in the opinion of the Company, have had and may continue to have an adverse effect upon the industry's sales. In 1964, the Report of the Advisory Committee to the Surgeon General of the U. S. Public Health Service was released. The Report was essentially a review of the prior literature, consisting primarily of statistical association studies, and concluded that cigarette smoking was a health hazard of sufficient importance to warrant appropriate remedial action. Since then, there have been similar governmental reports on the subject of health and cigarette smoking. Since 1966, a Federal statute has required a warning statement on cigarette packaging. The current statement is: "Warning: The Surgeon General Has Determined That Cigarette Smoking Is Dangerous to Your Health." For several years prior to 1966 and continuing thereafter, the Federal Trade Commission, in annual reports to Congress, has made recommendations that Congress enact legislation requiring a stronger warning statement. When the current warning statement legislation was adopted, the Federal Trade Commission had pending a trade regulation rule proceeding that would require a stronger statement on packaging and in cigarette advertising. That legislation provides that the Federal Trade Commission must notify Congress before taking action on this rule and, if the rule is adopted, the rule cannot take effect until six months after such notification. In 1972, the Federal Trade Commission approved consent orders requiring the Company and five other cigarette manufacturers to include in specified types of advertisements and in a prescribed format the warning statement prescribed by Congress for cigarette packaging. On October 17, 1975, the Government commenced civil actions against each of the cigarette manufacturers alleging violations of the consent orders and seeking monetary penalties, an injunction against further violations and the creation of a trust fund by each of the defendants to be used for the preparation and dissemination of advertisements in order to remedy the defendants' alleged failures to comply with the consent orders. These actions are currently pending in the United States District Court for the Southern District of New York. The Company has filed an answer to the amended complaint denying the Commission's allegations and believes that it has substantial factual and legal defenses. Since 1971, television and radio advertising of cigarettes has been prohibited in the United States. Cigarette advertising in print media in the United States includes information with respect to the "tar" and nicotine content of cigarettes as well as the warning statement. From year to year, legislation has been proposed in Congress which, if passed, could be detrimental to the tobacco industry. The most significant bills relating to cigarettes which have been introduced would: eliminate all forms of Federal financial support of tobacco as administered through the U. S. Department of Agriculture; prohibit the sale of cigarettes with more than a prescribed level of "tar"; tax cigarettes on N 3

the basis of their "tar" and nicotine content; establish maximum levels of "tar" and nicotine in cigarettes; prohibit the mailing of unsolicited samples of cigarettes; and impose an additional excise tax on cigarettes with proceeds to be used for cancer research. Legislation potentially detrimental to the tobacco industry has been introduced from time to time in various state and local legislative bodies. Such measures usually relate to the taxation of cigarettes and regulation of the advertising, labeling, promotion, sale and smoking of cigarettes. Recent enactments by regulatory agencies and other governmental authorities restrict smoking areas aboard certain common carriers and in certain public places, and anti-cigarette groups are now concentrating on attempts to ban smoking in public places. In addition, the Secretary of Health, Education and Welfare announced on January 11, 1978 the formation of an Office on Smoking and Health within the Department of Health, Education and Welfare for the purpose of co-ordinating and intensifying the Federal government's efforts in the area of smoking and health. Philip Morris International Philip Morris International has responsibility for the marketing of tobacco products outside the United States (including United States territories and possessions) and for most of the Company's international subsidiaries, affiliates and licensees. Philip Morris International sells more than 160 brands of cigarettes in more than 170 countries and territories throughout the world. Cigarettes sold by Philip Morris International are manufactured in the United States by the Company and by subsidiaries and affiliates in 22 countries. In an additional 19 countries and territories, Philip Morris International's cigarette brands are manufactured and sold by licensees. World cigarette industry unit sales (excluding the United States ) were about 3.6 trillion units in 1977. Philip Morris International's share of the world market was approximately 5.2%, up from 4.9% (as adjusted) in 1976. While regional and national brands represent more than one-half of Philip Morris International's unit volume, Marlboro, the world's leading cigarette brand since 1972, accounts for more than one-third thereof. Philip Morris International has cigarette market shares of at least 15%-and in a number of cases substantially more than 15%-in at least 20 countries, including Australia, Finland, Italy, Mexico, Nigeria, Pakistan, Switzerland and Venezuela. Prices in many of Philip Morris International's markets are government controlled and excise tax increases, higher costs, and government price restraints in a number of markets have restricted the operating income margins of Philip Morris International. In recent years, a number of countries have taken steps to restrict or prohibit cigarette advertising and to discourage cigarette smoking. Philip Morris (Australia) Limited (75% owned by the Company) owns all of the outstanding shares of Lindeman (Holdings) Limited, the leading Australian wine maker. Certain wholly-owned subsidiaries of the Company are active in the greeting card and printing businesses in the United Kingdom. Miller Brewing Company Miller Brewing Company ("Miller") became the second largest brewing company in the United States in 1977, with a 31.6% increase in 1977 over 1976 in barrels shipped. Miller manufactures Miller High Life, which is believed to be the second largest selling brand in the United States, and Lite, introduced nationally in 1975 and now the leading low-calorie, premium beer in the United States. In 1975, Miller assumed full United States distribution rights for L'bwenbrku beer and, in late September 1977, introduced domestically brewed L'bwenbr'au nationally under a multi-phase agreement with Lbwenbrau MUnchen AG. 4 2048189006

The following table sets forth the industry's sales of barrels of beer in the United States, Miller's sales and Miller's share of the industry: , Miller's Years Ended Share December 31 Industry(a) Miller of Industry (in thousands of barrels) (%) 1977 ...................................... 156,948 24,110 15.4 1976 ...................................... 150,558 18,232 12.1 1975 ...........................:.......... 148,634 12,753 8.6 1974 ...................................... 145,464 9,028 6.2 1973 ...................................... 138,468 6,877 5.0 (a) Source: United States Department of the Treasury. Philip Morris Industrial Philip Morris Industrial has responsibility for the development, manufacture and marketing of Philip Morris' industrial products, both within the United States and abroad. Included in Philip Morris Industrial are: Polymer Industries-Adhesives & Liquid Coatings Division, which manufactures specialty adhesives and coatings; Polymer Industries-Textile Chemical Division, which manufactures specialty chemical products primarily for the textile industry; Wikolin Polymer Chemie GmbH, which manufactures coatings and adhesives in Germany; Armstrong Products Division, which manufactures powder coatings; Nicolet Paper Division, which manufactures dense specialty papers; Plainwell Paper Company, Inc., a maker of printing and technical papers; Surtech Coating Division, a converter which applies specialized coatings to packaging materials; the Milprint Division, which manufactures products used primarily for food packaging; Koch Label, which produces specialized labels; and Wisconsin Tissue Mills Inc., acquired in February 1977 for 314,984 shares of the Company's Common Stock and approximately $1,126,000 in cash, which manufactures disposable tissue paper products. The 1977 increase in operating revenues and income of Philip Morris Industrial (see "Lines of Business and Industry Segments") is attributable principally to Wisconsin Tissue Mills Inc., whose operating revenues and income are not included for years prior to 1977. Mission Viejo Company Mission Viejo Company is a community development and home building corporation in Southern California and Colorado. Its principal activity is the development of a new, completely pre-planned town named Mission Viejo on approximately 10,000 acres located in Orange County, California, between Los Angeles and San Diego. It should be noted that what appears to have been a "housing boom" in this area in 1976 and 1977 may be ending. A new development, Aliso Viejo, is being planned for a recently acquired 6,700 additional acres close to Mission Viejo. Mission Viejo Company is also developing a smaller residential area located near Denver, Colorado and holds an option for a 22,000 acre tract of land in the Denver area. 5 / r

Item 2. Summary of Operations ~ The following consolidated statements of earnings and stockholders' equity of Philip Morris Incorporated and Consolidated Subsidiaries for the five years ended December 31, 1977 have been examined by Coopers & Lybrand, . independent certified public accountants, whose opinion thereon is set forth in their report included on Page F-3 herein. These statements should be read in conjunction with the consolidated financial statements and notes thereto, which appear on pages F-4 to F-23, inclusive, in this report. Operating revenues ( including the amounts of federal and foreign excise taxes shown below under "Cost of sales") ..................................... $5,201,977 Cost of sales (Note 4): Cost of products sold .................................... 2,401,680 Federal and foreign excise taxes on products sold ............................................. 1,352,487 Gross profit ........................................... 1,447,810 Marketing, administration and research costs .... 676,772 771,038 Equity in net earnings of unconsolidated for- eign subsidiaries and affiliates ......................... 11,694 Operating income of operating com- panies ................................................ 782,732 Corporate expense ............................................... 38,523 Interest expense (excluding interest capitalized of $7,163,000 in 1977, $6,424,000 in 1976, $8,024,000 in 1975, $9,427,000 in 1974 and $8,872,000 in 1973) (Notes I and 9) ............. 101,584 Currency translation and hedging costs, net (Note 1) ........................................................... 11,633 Other deductions (income), net .......................... 5,476 Earnings before income taxes .............. 625,516 Provision for federal and other income taxes (Note 13) ......................................................... 290,590 Net earnings (Note 2) ......................... $ 334,926 Earnings applicable to common stock ................. $ 334,822 Earnings per common share (Note 2 and b): Primary ......................................................... $5.60 Fully diluted ................................................. 5.60 Dividends declared per common share (Note b ) ........................................................... $1.563 I $4,293,782 $3,642,414 $3,010,961 $2,602,498 1,966,871 1,656,839 1,290,319 1,060,777 1,159,286 1,078,403 968,867 893,459 1,167,625 907,172 751,775 648,262 547,287 437,196 372,804 338,978 620,338 469,976 378,971 309,284 14,201 22,868 24,614 20,199 634,539 492,844 403,585 329,483 35,229 30,270 25,292 21,016 102,834 99,045 82,741 50,993 15,520 - - - 9,028 2,719 (1,950) 1,865 471,928 360,810 297,502 255,609 206,253 149,172 121,986 106,977 $ 265,675 $ 211,638 $ 175,516 $ 148,632 $ 265,561 $ 211,521 $ 175,394 $ 148,504 $4.47 $3.62 $3.15 $2.71 4.47 3.62 3.07 2.61 $1.150 $.925 $.775 $.674 ~ ~ NoTHS: [u ~ ~ (a) Numerical references relate to Notes to Consolidated Financial Statements. ~ ~ 0 (b) The calculation has been adjusted by giving retroactive effect to the stock split in 1974. See Note 14 of Notes a to Consolidated Financial Statements. c+ Years Ended December31 (Note a) 1977 1976 1975 1974 1973 (in thousands of dollars, except per share data)

The information necessary for the calculations of earnings per share follows: I. Primary earnings per common share: (Note 1) A. Weighted average number of shares ........... 1977 1976 1975 1974 (in thousands of dollars, except per share data) B. Net earnings .................................................. Less preferred dividends ...................... Earnings applicable to commn stock ......... C. Primary earnings per common share (B -t- A) .............................................................. II. Fully diluted earnings per common share: (Note 1 ) A. Weighted average number of shares, as above ....................................................••••• Add weighted average number of shares applicable to: Convertible debentures outstanding at end of year, from beginning of year. Convertible debentures converted during the year, assumed converted from beginning of year to date of conversion ......................................... Common stock under option at end of year, less shares assumed to have been acquired (Note 2) .................... Common stock options exercised during the year to date of exercise, less shares assumed to have been acquired (Note 2) ............................. Number of shares used in fully diluted earnings per share com- putation ...................................... B. Earnings applicable to common stock, as above ..................................................•••.••• Interest expense on convertible debentures less applicable income tax benefit........ :... Earnings applicable to fully diluted com- monshares ................................................ 1973 59,822,487 59,408,484 58,442,362 55,649,417 54,804,174 $ 334,926 $ 265,675 104 114 $ 211,638 117 $ 175,516 122 S 148,632 128 $ 334,822 S 265,561 $ 211,521 $ 175,394 $ 148,504 $5.60 $4.47 $3.62 $3.15 $2.71 59,822,487 59,408,484 58,442,362 55,649,417 54,804,174 - - - - 1,821,400 - - - 1,581,430 472,542 - - - 78,711 152,628 29,697 65,040 59,822,487 59,408,484 58,442,362 57,339,255 57,315,784 $ 334,822 $ 265,561 $ 211,521 $ 175,394 $ 148,504 - -- -- 387 835 $ 334,822 $ 265,561 $ 211,521 $ 175,781 $ 149,339 C. Fully diluted earnings per common share (B + A) ................................................... $5.60 $4.47 $3.62 $3.07 $2_61 NOTES: (1) In determining 1977, 1976 and 1975 earnings per share, shares issuable upon exercise of outstanding stock options and units have not been included since the effect of such inclusion would be insignificant, and there were no other dilutive issues outstanding during these periods. (2) Funds assumed to have been received from exercise of stock options were assumed to have been used to acquire shares for the treasury at the higher of the average market price during the periods or the market price at the close of the periods. 7

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY for the five years ended December 31, 1977 (in thousands of dollars) Preferred Stock, S100 Par Value Common Stock,S1 Par Value Additional Paid-In Capital Earnings Reinvested inthe Business Cost of Treasury Stock Total Stockholders Equity Balance, January 1, 1973 ............................................. $24,773 $27,315 $179,581 $473,925 $( 10,045 ) S 695,549 Net earnings for the year 1973 .................................... 148,632 148,632 Cash dividends declared: Preferred stock ..................................................... (128) (128) Common stock, $.674 per share ........................... (37,128) (37,128) Preferred stock purchased for treasury ....................... (6,739) (6,739) Common stock issued upon conversion of deben- tures .......................................................................... 353 10,129 389 10,871 Proceeds from common stock issued upon exercise ofstockoptions ......................................................... 86 3,885 3,971 Preferred stock retired ................................................. (14,504) 3,753 10,751 - Balance, December 3 1, 1973 ................ 10,269 27,754 197,348 585,301 (5,644) 815,028 Net earnings for the year 1974 .................................... . 175,516 175,516 Two-for-one common stock split effected in the form of a 100% stock dividend ......................................... 27,886 (27,886) - Cash dividends declared: Preferred stock .................................................... _ - (122) ( 122; Common stock, $.775 per share ........................... (43,504) ( 43,504 t Preferred stock purchased for treasury ....................... (126) ( 126) Common stock issued upon conversion of deben- tures .......................................................................... 1,566 23,596 857 26,019 Proceeds from common stock issued upon exercise of stock options ......................................................... 61 1,801 1,862 Preferred stock retired ................................................. (590) 163 427 - Balance, December 31, 1974 ................ 9,679 57,267 195,022 717,191 (4,486) 974,673 Net earnings for the year 1975 .................................... 211,638 211,638 Proceeds from public issuance of two million shares of common stock ...................................................... 2,000 91,375 93,375 Cash dividends declared: Preferred stock ..................................................... (117) (117) Common stock, $.925 per share ........................... (54,419) (54,419) Preferred stock purchased for treasury ....................... (31) (31) Proceeds from common stock issued upon exercise ofstock options ......................................................... 93 2,569 2,662 Preferred stock retired ................................................. (492) 140 352 - Balance, December 31, 1975 ................ 9,187 59,360 289,106 874,293 (4,165) 1,227,781 Net earnings for the year 1976 .................................... 265,675 265,675 Cash dividends declared: Preferred stock ..................................................... (114) (114) Common stock, $ L.15 per share ........................... (68,366) (68,366) Preferred stock purchased for treasury ....................... - (121) ( 121 ; Proceeds from common stock issued upon exercise ofstockoptions ......................................................... 130 4,997 5,127 Preferred stock retired ................................................. (375) 122 253 - Balance, December 31, 1976 ................ 8,812 59,490 294,225 1,071,488 (4,033) 1,429,982 Net earnings for the year 1977 .................................... 334,926 334,926 Cash dividends declared: Preferred stock ..................................................... (l04) (I04 Common stock, $1.563 per share ......................... (93,529) (93,529 Preferred stock purchased for treasury ....................... (147) (l47 Proceeds from common stock issued upon exercise of stock options ......................................................... 117 6,138 6,255 Common stock issued for acquisition .......................... 315 12,368 12,683 Preferred stock retired ................................................. (550) 175 375 - Balance, December 31, 1977 ................ $ 8,262 $59,922 $300,538 - $1,325,149 $(3,805) $1,690,066 ( ) Denotes deduction. See Notes 3, 10, 11 and 12 of Notes to Consolidated Financial Statements. 8 20`IP,1 E9G1 r

Management's Discussion and Analysis of the Consolidated Statements of Earnings The following discussion is limited to changes between 1977-1976 and 1976-1975. Operating Rqvenues Consolidated operating revenues in 1977 were $908 million (21.2%) higher than in 1976. Revenues from worldwide sales of tobacco products were up $505 million (16.9%), of which $230 million is attributable to increased cigarette unit sales, $237 million to increases in selling prices (including increases in certain foreign excise tax rates) and $38 million to translation of foreign currencies at average rates in effect during 1977. Operating revenues from beer sales were up $345 million (35.1%), with $309 million of the increase coming from greater volume and $36 million from price increases. In 1976, consolidated operating revenues were $651 million (17.9%) higher than in 1975. Revenues from worldwide sales of tobacco products were up $284 million (10.5%), with increases of $193 million from higher unit sales and $206 million from increases in selling prices (including increases in certain foreign excise tax rates) being partially offset by translation of foreign currencies, $40 million, and deconsolidation of a foreign subsidiary, $75 million. Operating revenues from beer sales in 1976 exceeded 1975 by $325 million (49.3%), with $282 million attributable to volume and $43 million to price increases. Cost and Expenses Cost of sales, which includes cost of products sold and federal and foreign excise taxes on products sold, increased $628 million (20.1%) in 1977 over 1976 and $391 million (14.3%) in 1976 over 1975. Cost of tobacco products accounted for $291 million of the 1977 increase, of which $161 million is attributable to volume, $102 million to cost increases (including increases in certain foreign excise tax rates) and $28 million to translation of foreign currencies. The 1977 increase in cost of beer products sold was $287 million, with $262 million from greater volume and $25 million of cost increases. The increase in 1976 over 1975 includes cost increases of $113 million for tobacco products and $256 million for beer. Increases in the cost of tobacco products of $112 million from higher unit volume and $87 million of cost increases (including increases in certain foreign excise tax rates) were reduced by translation of foreign currencies, $14 million, and by deconsolidation of a foreign subsidiary, $72 million. The $256 million higher cost of beer products sold, included $247 million from higher volume and $9 million of cost increases. Marketing, administrative and research costs in 1977 were $129 million (23.7%) higher than in 1976 and $110 million (25.2%) higher in 1976 than in 1975, reflecting new cigarette and beer brand introductions, increases from growth in operations, and inflation. Currency translation and hedging costs of $12 million in 1977 were $4 million (25%) less than in 1976. Such costs were first stated in the statement of earnings in 1976 in compliance with a pronouncement of the Financial Accounting Standards Board. Equity in Unconsolidated Subsidiaries and Affiliates The decrease in 1977 compared to 1976 of $2.5 million (17.7%) in equity in net earnings of partly- owned unconsolidated subsidiaries and affiliates was principally attributable to the impact on currency translation of the Australian dollar devaluation in late 1976, a retroactive Australian corporate income tax increase in 1977, and an increase in losses from Brazilian operations, all of which were partially offset by improved results in certain other subsidiaries and affiliates. Equity in net earnings of partly-owned unconsolidated subsidiaries and affiliates decreased $8.7 million (37.9%) in 1976 from 1975 mainly due to the devaluation of the Australian dollar and the Mexican peso. Income Taxes The $84 million increase in income taxes in 1977 and $57 million increase in 1976 reflect the applicable tax on the increased income for the years. Reference is made to Note 13 of Notes to Consolidated Financial Statements for additional information. 9