EXHIBIT 13

[page 16 of 1996 Annual Report]

Selected Financial Data
<TABLE>
<CAPTION>

Dollars in millions, except per
share data                                1996          1995          1994          1993          1992

<S>                                    <C>           <C>           <C>           <C>          <C>      
Summary of Operations (a)
Gross premiums written                 $   177.0     $   110.7     $   106.4     $   127.4    $   131.1
Net premiums written                       121.0          77.6          77.8          65.0         78.4
Net premiums earned                         90.4          69.3          65.8          63.4         63.9
Net investment income                       65.1          49.0          46.6          47.9         47.0
Net income (loss)                           80.8      (b) 55.0          60.4    (c) (124.7)        43.5

Balance Sheet Data (a)
Total investments                        1,154.4       1,110.7         747.2         786.7        727.5
Total assets                             1,537.7       1,490.3       1,074.3       1,031.0      1,042.4
Deferred premium revenue, net              360.0         330.3         212.9         200.3        198.8
Loss and loss adjustment expense
  reserve, net                              42.2          50.2          35.6          36.0         58.7
Preferred stock                              0.7           0.7           0.7           -            -
Common stockholders' equity                800.6         777.2         544.7         542.0        609.2

Per Common Share Data (a)
Earnings (loss) per share                    2.64          2.13          2.32         (5.44)        1.90
Book value per share                        26.71         24.67         20.92         20.95    (d) 26.64
Dividends paid                               0.35          0.32          0.16     (e)  -        (e) 0.26

Additional Data
Qualified statutory capital                675.9         644.7         465.8         454.0        461.4
Total claims-paying resources (f)        1,359.8       1,138.7         807.1         767.3        769.6
Net par outstanding                     59,194.0      45,979.0      28,223.0      24,659.0     21,363.0
Net insurance in force
  (principal + interest)                93,704.0      75,360.0      45,825.0      41,667.0     37,334.0
Policyholders' leverage
  (risk-to-capital ratio)                  139:1         117:1          98:1          92:1         81:1
</TABLE>

(a)  Prepared according to generally accepted accounting principles (GAAP).

(b)  Includes the effect of a one-time general reserve charge of $15.4 million
     ($10.0 million after taxes) related to the Merger.

(c)  Includes restructuring charge, goodwill and other non-recurring charges
     totaling $193.8 million after tax, as discussed in prior Annual Reports.

(d)  Prior to 1993, book value per share does not include unrealized gains and
     losses, net of taxes, in accordance with SFAS No. 115.

(e)  Dividends prior to 1994 are not comparable because the Company was not
     publicly held.

(f)  Statutory capital + statutory unearned premium reserve + present value of
     future net installment premiums.
<PAGE>

[pages 18 - 24 of 1996 Annual Report]

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS

RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 1996 VERSUS YEAR ENDED DECEMBER 31, 1995

     The 1996 results of Financial Security Assurance Holdings Ltd. (the
Company) were positively affected by the Merger on December 20, 1995 of Capital
Guaranty Corporation with a subsidiary of the Company. Capital Guaranty
Corporation's operating subsidiary, Capital Guaranty Insurance Company (CGIC),
became a subsidiary of Financial Security Assurance Inc. (FSA) and changed its
name to Financial Security Assurance of Maryland Inc. The Merger provided for
each Capital Guaranty Corporation share to be exchanged for 0.6716 share of the
Company's common stock and cash of $5.69. The Company issued in the aggregate
6,051,661 common shares and aggregate cash of $51.3 million. The transaction
value of the Merger, including transaction costs, was $208.6 million. The Merger
was accounted for on a purchase accounting basis. In view of the short period
between the date of the Merger and year-end 1995, the date of the Merger for
accounting purposes is considered to be December 31, 1995. As a result, the
accounting for the Merger has no effect on 1995 results of operations, except
for the recording of a $15.4 million general loss reserve provision discussed
below.

     The Company's adjusted book value per common share at December 31, 1996 was
$34.53, up 12.0%, including dividends, since year-end 1995. Excluding realized
and unrealized capital gains and losses, adjusted book value per share rose
12.9%, including dividends. Adjusted book value per common share is used by
management and some equity analysts as a proxy for the Company's intrinsic
value, exclusive of franchise value. It is defined as book value plus net
deferred premium revenue plus the present value of future net installment
premiums less deferred acquisition costs less tax effect. Adjusted book value is
not a substitute for GAAP book value per common share.

     The Company discusses its financial results by breaking out various levels
of its income statement in order to present a better analysis of underlying
trends. Core net income represents net income before the after-tax effects of
refundings and prepayments, net realized capital gains and losses, and other
non-recurring adjustments. Core net income therefore represents the Company's
normal operating results. Operating net income is core net income plus the
after-tax effect of refundings and prepayments. This distinction between core
and operating net income is important because higher-than-normal volumes of
refundings and prepayments disproportionately increase earned premiums and could
suggest a stronger earnings trend than the pace of originations would warrant.
Net income, as reported, is operating net income plus the after-tax effects of
capital gains and losses and other non-recurring adjustments, if any.

     The Company's net income for 1996 was $80.8 million, compared with $55.0
million for the same period in 1995, an increase of 46.7%. The increase was
primarily attributable to higher core net income due to the Merger and lower
provisions to the Company's general reserve for losses, partially offset by
lower refundings and prepayments and lower capital gains. Earnings per share
increased to $2.64 for 1996 from $2.13 for the same period in 1995.

     Operating net income was $78.7 million ($2.58 per share) for 1996 versus
$60.3 million ($2.34 per share) for the comparable period in 1995, an increase
of 30.5%. Core net income was $74.9 million ($2.45 per share) for 1996 versus
$53.7 million ($2.08 per share) for the comparable period in 1995, an increase
of 39.6%.

     The Company considers two measures of gross premiums originated for a given
period. Gross premiums written captures premiums collected in the period,
whether collected up front for business originated in the period, or in
installments for business originated in prior periods. An alternative measure,
the gross present value of premiums written (gross PV premiums written) reflects
future installment premiums discounted to their present value, as well as
upfront premiums, but only for business originated in the period. The Company
considers gross PV premiums written to be the better indicator of a given
period's origination activity because a substantial part of the Company's
premiums are collected in installments, a practice typical of the asset-backed
business. To calculate PV premiums, management estimates the life of each
transaction that has installment premiums and discounts the future installment
payments at an annual rate of 9.5%, a rate the Company has used consistently
since it began calculating PV premiums.

     In a favorable operating environment, in which all of FSA's markets grew in
size, FSA's overall insurance originations reached record levels in 1996. Gross
PV premiums written increased 62.6% to $226.3 million from $139.1 million for
1995. The $125.8 million of asset-backed gross PV premiums written in 1996 was
70.4% higher than the $73.9 million written in 1995. Asset-backed production
increased due to strong volume from FSA-insured securitization programs, as well
as the execution of several large, high-premium transactions in the pooled
corporate obligations sector. Asset-backed volume reached these levels even
though FSA exercised restraint in certain highly competitive asset sectors,
particularly the home equity loan sector, in order to maintain credit quality
and acceptable returns on capital. For the municipal business, gross PV premiums
increased 53.9% to $100.5 million in 1996 from $65.3 million in 1995, due to the
Merger and increased demand for FSA-insured bonds.

     Gross premiums written increased 59.8% to $177.0 million for 1996 from
$110.7 million for 1995.
<PAGE>

     In 1996, the Company insured bonds totaling $31.1 billion, a 104.2%
increase over the same period in 1995. Compared with the combined FSA and
Capital Guaranty production in 1995, the increase would have been 68.8%. FSA's
1996 asset-backed par insured rose 91.9% to $18.9 billion while its municipal
par insured rose 126.9% to $12.2 billion. Although par originated grew faster
than PV premiums originated, average returns on equity exceeded the Company's
target rate in both the municipal and asset-backed markets. The Company
calculates a return on equity for each transaction based on a risk-weighted
allocation of capital.

     Net premiums written were $121.0 million for 1996, an increase of 56.0%
when compared with 1995. The increase in net premiums written was less than that
of gross premiums written because the Company ceded increased amounts on a
facultative basis for the asset-backed business in 1996 in order to maintain the
diversity of risk in the Company's insured portfolio. This level of reinsurance
may not continue at the same rate.

     Net premiums earned for 1996 were $90.4 million, compared with $69.3
million for 1995, an increase of 30.4%. Net premiums earned from refundings and
prepayments were $10.3 million for 1996 and $13.8 million for the same period in
1995, contributing $3.8 million and $6.6 million to after-tax earnings. Core net
premiums earned, which exclude the effects of refundings and prepayments, grew
44.3% (21.4% compared with the combined FSA and Capital Guaranty 1995 results).
No assurance can be given that refundings and prepayments will continue at the
level experienced in 1996 or 1995.

     Net investment income was $65.1 million for 1996 and $49.0 million for the
comparable period in 1995, an increase of 32.9%. The increase in investment
income is primarily due to additional invested assets acquired in the Merger.
The Company's effective tax rate on investment income decreased to 20.0% for
1996 from 21.9% for 1995 as the holdings of tax-exempt securities increased. The
Company realized $3.2 million of net capital gains for 1996, compared with
realized net capital gains of $5.1 million and the net gain on the sale of a
subsidiary of $2.2 million for the same period in 1995.

     The provisions for core losses and loss adjustment expenses for 1996 were
$6.9 million, compared with $6.3 million for 1995, representing additions to the
Company's general loss reserve. During 1996, the Company reclassified $9.0
million from its general reserve to case basis reserves. These case basis
reserves were associated predominantly with certain residential mortgage
transactions. Giving effect to all the 1996 events, the general reserve totaled
$29.7 million at December 31, 1996. In 1995, the Company also recognized a
one-time charge of $15.4 million to increase its general reserve to provide for
the Capital Guaranty portfolio in a manner consistent with FSA's general
reserving methodology. The additions to the general reserve represent
management's estimate of the amount required to cover the net cost of claims
adequately. The Company will, on an ongoing basis, monitor these reserves and
may periodically adjust such reserves based on the Company's actual loss
experience, its future mix of business, and future economic conditions.

     Total policy acquisition and other operating expenses were $40.2 million
for 1996, compared with $30.6 million for the same period in 1995, an increase
of 31.5%. Eliminating the effect of refundings and prepayments, core policy
acquisition and other operating expenses would have increased 32.5%. The
increase was primarily the result of higher deferred acquisition cost
amortization, due to a higher level of premiums earned, and increased accruals
for performance plan payouts, due to the addition of another plan year to the
accrual base.

     Income before income taxes for 1996 was $109.8 million, up from $75.0
million, or 46.3%, for the same period in 1995.

     The Company's effective tax rate for 1996 was 26.4%, compared with 26.7%
for the same period in 1995.

     The weighted average number of shares of common stock outstanding increased
to 30,547,000 for 1996 from 25,797,000 for 1995. This increase was due to the
issuance of new shares in the Merger, partially offset by a repurchase of shares
as discussed below in "Liquidity and Capital Resources."

RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 1995 VERSUS YEAR ENDED DECEMBER 31, 1994

     The Company's adjusted book value per common share at December 31, 1995 was
$31.16, up 19.4%, including dividends, since year-end 1994.

     The Company's 1995 net income was $55.0 million, compared with $60.4
million for 1994, a decrease of 8.8%. The decrease was due primarily to the
one-time charge of $15.4 million, or $10.0 million after taxes, to increase the
general reserve to provide for the CGIC insured portfolio acquired in the
Merger. As an independent company prior to the Merger, CGIC had not maintained a
general reserve. This one-time increase to the general reserve was consistent
with FSA's established reserving methodology. The decrease in earnings was
partially offset by (i) higher capital gains, which contributed $3.3 million to
net income for 1995, compared with capital losses of $2.5 million for 1994; and
(ii) the realization of a net after-tax gain of $1.4 million on the sale of a
subsidiary after writing off certain previously capitalized expenses.

     Operating net income was $60.3 million for 1995 versus $62.8 million for
1994. This 4.1% decrease can be traced to lower contributions from refundings of
$0.2 million and a decline in core net income to $53.7 million for 1995 from
$56.0 million for 1994. The 4.2% decline in core net income resulted primarily
from higher additions to the Company's general loss reserve and a higher
effective tax rate on investment income, both of which are discussed below.
<PAGE>

     The weighted average number of shares of common stock outstanding decreased
to 25,797,000 for 1995 from 26,070,000 for 1994 because the Company repurchased
stock to fund various equity-based compensation plans. Earnings per share for
the year decreased to $2.13 for 1995 from $2.32 for 1994.

     Overall business origination was strong in 1995. Gross PV premiums written
for the year 1995 increased by 34.4% to $139.1 million from the prior year's
result of $103.5 million. Almost all the growth came from asset-backed business,
where originations increased in all major product lines. Asset-backed gross PV
premiums written grew 88.1% to $73.8 million in 1995, compared with $39.3
million the prior year. FSA insured asset-backed obligations with an aggregate
gross par amount of $9.8 billion for 1995 and $5.6 billion for 1994.

     For the municipal business, gross PV premiums written in 1995 increased
1.7% to $65.3 million in 1995 from $64.2 million in 1994. Although FSA
participated selectively in the municipal market in order to mitigate the
effects of price competition and thereby achieved acceptable returns, municipal
gross par insured increased at a faster rate than PV premiums, to $5.4 billion
for 1995 from $4.4 billion for 1994. While the estimated total market par volume
of municipal new issues was $156.2 billion, a decrease of 5% from the 1994
level, the par insured by the financial guaranty industry grew to $68.1 billion
in 1995, 11% higher than in the prior year. The Company believes that the
increased penetration of municipal bond insurance reflects both increased
investor demand for insurance and efforts by some bond insurers to increase
volume by reducing premiums.

     Gross premiums written increased 4.0% to $110.7 million for 1995 from
$106.4 million for 1994. Net premiums written were $77.6 million for 1995,
approximately equal to the $77.8 million written for 1994. Net premiums written
were flat despite the increase in gross premiums written because the Company
ceded more business under facultative reinsurance on asset-backed and
international business to meet its internal single-risk limits.

     Net premiums earned for 1995 were $69.3 million, compared with $65.8
million for 1994, an increase of 5.5%. Premiums earned from refundings and
prepayments were $13.8 million for 1995 and $14.2 million for 1994, contributing
$6.6 million and $6.8 million, respectively, to after-tax earnings. Core net
premiums earned for the year grew 7.9% relative to the 1994 result.

     Net investment income was $49.0 million for 1995 and $46.6 million for
1994, an increase of 5.1%, and was adversely affected by a general decline in
market interest rate levels. Net capital gains realized by the Company were $5.1
million for 1995, compared with a loss of $3.8 million for 1994. Realized
capital gains and losses are by-products of the Company's investment strategy
and may vary substantially from period to period. Over the past year, the
Company has repositioned its investment portfolio from long-dated tax-exempt
securities into shorter-term taxable securities, resulting in the tax rate on
investment income increasing to 21.9% for 1995 from 14.4% for 1994. The
investment portfolio at December 31, 1995 had unrealized gains of $30.7 million,
compared with unrealized losses of $33.4 million at December 31, 1994.

     The provisions for core losses and loss adjustment expenses during 1995 and
1994 were $6.3 million and $3.0 million, respectively, representing additions to
the Company's general loss reserve. In December, FSA recognized the one-time
charge of $15.4 million to increase its general reserve to provide for the
Capital Guaranty insured portfolio in a manner consistent with FSA's reserving
methodology. Also during 1995, FSA reclassified $10.8 million from the general
reserve to case reserves associated predominantly with certain residential
mortgage and timeshare receivables transactions. At December 31, 1995, the
balance in the Company's general loss reserve was $31.8 million.

     Total policy acquisition and other operating expenses were $30.6 million
for 1995, compared with $28.0 million for 1994, an increase of 9.1%. Core policy
acquisition and other operating expenses were 11.2% higher due to higher
amortization of deferred acquisition costs and increased accruals for
performance-based compensation plans.

     Other income increased to $3.8 million for 1995 from $0.8 million for 1994.
This increase was primarily the result of a $2.2 million net gain recognized
from a sale of one of the Company's insurance subsidiaries, whose licenses were
no longer required, net of a write-off of certain previously capitalized costs.

     Income before income taxes for 1995 was $75.0 million, down 4.1% from $78.3
million for 1994.

     The Company's effective tax rate for 1995 was 26.7%, compared with 22.9%
for 1994. The increase in effective tax rates was due to taxable interest income
contributing a higher proportion of pre-tax income for 1995 than for 1994.

LIQUIDITY AND CAPITAL RESOURCES

     The Company's consolidated invested assets and cash equivalents at December
31, 1996, net of unsettled security transactions, was $1,140.0 million, compared
with the December 31, 1995 balance of $1,103.6 million. These balances include
the change in the market value of the investment portfolio, which had an
unrealized gain position of $30.7 million at December 31, 1995, compared with an
unrealized gain position of $14.0 million at December 31, 1996.

     At December 31, 1996, the Company had, at the holding company level, an
investment portfolio of $28.7 million available to fund the liquidity needs of
its activities outside of its insurance operations. Because the majority of the
Company's operations are conducted through FSA, the long-term ability of the
Company to service its debt
<PAGE>

and to declare and pay dividends will be largely dependent upon the receipt of
dividends from FSA and upon external financings.

     FSA's ability to pay dividends is dependent upon FSA's financial condition,
results of operations, cash requirements, rating agency approval and other
related factors and is also subject to restrictions contained in the insurance
laws and related regulations of New York and other states. Under New York State
insurance law, FSA may pay dividends out of earned surplus, provided that,
together with all dividends declared or distributed by FSA during the preceding
12 months, the dividends do not exceed the lesser of (i) 10% of policyholders'
surplus as of its last statement filed with the New York Superintendent of
Insurance or (ii) adjusted net investment income during this period. FSA paid
dividends of $18.0 million in 1996. Based upon FSA's statutory statements for
the quarter ended December 31, 1996, and considering dividends that can be paid
by its subsidiary, the maximum amount available for payment of dividends by FSA
without regulatory approval over the following 12 months is approximately $45.2
million. As a customary condition for approving, in September 1994, the
application of Fund American for a change in control of FSA, the prior approval
of the New York Superintendent was required for payment of dividends by FSA to
the Company for a period of two years following such change of control. The
prior approval requirement lapsed in September 1996. In addition, the New York
Superintendent has approved the repurchase by FSA of up to $75.0 million of its
shares from the Company through December 31, 1998, pursuant to which FSA has
repurchased $27.0 million of its shares through December 31, 1996. Future share
repurchases may not exceed cumulative statutory net income beginning January 1,
1996.

     The primary use of funds by the Company is the payment of dividends to its
shareholders, which totaled $10.5 million in 1996 and $8.3 million in 1995.
Dividends paid were greater in 1996 because of the higher number of shares
outstanding, as a result of the Merger, and an increase in dividends declared to
$0.35 per common share in 1996 from $0.32 in 1995. Other uses of funds are the
annual debt service of $2.1 million on $30.0 million of senior notes assumed by
the Company as a result of the Merger, and repurchases of the Company's common
stock to fund employee benefit plans. In connection with the Merger, FSA
repurchased a portion of its shares from the Company for $50.0 million in
December 1995. These funds replenished funds used by the Company to meet the
cash consideration required by the Merger agreement. During 1995, the Company
also paid current and former members of management $5.6 million in satisfaction
of notes that were received by them in connection with the sale of their
interests in the Company as a part of the Company's acquisition by U S WEST in
1989.

     FSA's primary uses of funds are to pay operating expenses, to pay dividends
to the Company and to repurchase stock from the Company. FSA's funds are also
required to satisfy future claims, if any, under insurance policies in the event
of default by an issuer of an insured obligation and the unavailability or
exhaustion of other liquidity sources in the transaction, such as the cash flow
or collateral underlying the obligations. FSA seeks to structure asset-backed
transactions to address liquidity risks through inclusion of such other
liquidity sources in transactions. The insurance policies issued by FSA provide,
in general, that payments of principal, interest and other amounts insured by
FSA may not be accelerated by the holder of the obligation but are paid by FSA
in accordance with the obligation's original payment schedule or, at FSA's
option, on an accelerated basis. These policy provisions prohibiting
acceleration of certain claims are mandatory under Article 69 of the New York
Insurance Law and serve to reduce FSA's liquidity requirements.

     The Company believes that FSA's expected operating liquidity needs, both on
a short- and long-term basis, can be funded from its operating cash flow. In
addition, FSA has a number of sources of liquidity that are available to pay
claims on a short- and long-term basis: cash flow from written premiums, FSA's
investment portfolio and earnings thereon, reinsurance arrangements with
third-party reinsurers, liquidity lines of credit with banks, and capital market
transactions.

     On April 30, 1996, FSA entered into an agreement with an international
Aaa/AAA-rated bank for a $125.0 million credit facility, which expires on
January 31, 2003, unless extended. This facility is a standby irrevocable
limited recourse line of credit that provides liquidity and credit support to
FSA in the event losses from municipal obligations in FSA's insured portfolio
exceed specified limits. Repayment of amounts drawn under the line will be
limited primarily to recoveries of losses related to such municipal obligations.

     In May 1996, the Company repurchased 1.0 million shares of its common stock
from U S WEST for a purchase price of $26.50 per share. At the same time, the
Company also entered into forward agreements with National Westminster Bank Plc
and Canadian Imperial Bank of Commerce (the Counterparties) in respect of 1.75
million shares (the Forward Shares) of the Company's common stock. Under the
forward agreements, the Company has the obligation either to (i) purchase the
Forward Shares from the Counterparties for a price equal to $26.50 per share
plus carrying costs or (ii) direct the Counterparties to sell the Forward
Shares, with the Company receiving any excess or making up any shortfall between
the sale proceeds and $26.50 per share plus carrying costs in cash or additional
shares, at its option. The Company made the economic benefit of 750,000 of these
shares available for subscription by certain employees and its board of
directors. If the Company were to settle these Forward Shares at the Company's
December 31, 1996 market price of $32.875, it would receive approximately
171,000 shares, net of the portion allocable to employees and directors.
<PAGE>

     In connection with the Merger, the Company assumed $30.0 million of senior
notes payable of Capital Guaranty Corporation. Interest on these notes is paid
semiannually at the rate of 7.05% per annum. These notes are due in three equal
installments of $10.0 million beginning in 2001 and ending in 2003.

     The Company has no material plans for capital expenditures within the next
twelve months.
<PAGE>

[page 25 of 1996 Annual Report]

                        REPORT OF INDEPENDENT ACCOUNTANTS

To the Shareholders and Board of Directors
   of Financial Security Assurance Holdings Ltd.:

We have audited the accompanying consolidated balance sheets of Financial
Security Assurance Holdings Ltd. and Subsidiaries as of December 31, 1996 and
1995 and the related consolidated statements of income, changes in shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 1996. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Financial Security
Assurance Holdings Ltd. and Subsidiaries at December 31, 1996 and 1995, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 1996, in conformity with generally
accepted accounting principles.

COOPERS & LYBRAND L.L.P.

New York, New York
January 24, 1997
<PAGE>

[page 26 of 1996 Annual Report]

                   FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
                                AND SUBSIDIARIES

                           CONSOLIDATED BALANCE SHEETS

                  (Dollars in thousands, except per share data)

<TABLE>
<CAPTION>

                                                                                        December 31,                December 31,
                                ASSETS                                                      1996                        1995
                                                                                         -----------                 -----------
<S>                                                                                      <C>                         <C>        
Bonds at market value (amortized cost of $1,058,417 and $1,027,414)                      $ 1,072,439                 $ 1,058,076
Equity investments at market value (cost of $8,336)                                            8,336                     --
Short-term investments                                                                        56,733                      14,567
Cash equivalents                                                                              16,908                      38,099
                                                                                          ----------                  ----------

     Total investments                                                                     1,154,416                   1,110,742
Cash                                                                                           8,146                       1,118
Deferred acquisition costs                                                                   146,233                     132,951
Prepaid reinsurance premiums                                                                 151,224                     133,548
Reinsurance recoverable on unpaid losses                                                      29,875                      61,532
Other assets                                                                                  47,848                      50,371
                                                                                          ----------                  ----------

          TOTAL ASSETS                                                                    $1,537,742                  $1,490,262
                                                                                          ==========                  ==========

                 LIABILITIES AND SHAREHOLDERS' EQUITY

Deferred premium revenue                                                                 $   511,196                 $   463,897
Losses and loss adjustment expenses                                                           72,079                     111,759
Deferred federal income taxes                                                                 41,167                      41,936
Ceded reinsurance balances payable                                                            12,599                      13,664
Payable for securities purchased                                                              14,390                       9,516
Notes payable                                                                                 30,000                      30,000
Accrued expenses and other liabilities                                                        55,051                      41,543
                                                                                          ----------                  ----------
          TOTAL LIABILITIES                                                                  736,482                     712,315
                                                                                          ----------                  ----------

COMMITMENTS AND CONTINGENCIES

Preferred stock (3,000,000 shares authorized; 2,000,000
   issued and outstanding; par value of $.01 per share)                                           20                          20
Common stock (50,000,000 shares authorized; 32,276,301
   issued; par value of $.01 per share)                                                          323                         323
Additional paid-in capital - preferred                                                           680                         680
Additional paid-in capital - common                                                          695,118                     696,253
Unrealized gain on investments (net of deferred income tax
   provision of $4,908 and $10,731)                                                            9,114                      19,931
Accumulated earnings                                                                         142,721                      72,410
Deferred equity compensation                                                                  12,069                       6,504
Less treasury stock at cost (2,303,407 and 774,276 shares held)                              (58,785)                    (18,174)
                                                                                          ----------                  ----------
          TOTAL SHAREHOLDERS' EQUITY                                                         801,260                     777,947
                                                                                          ----------                  ----------

          TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY                                      $1,537,742                  $1,490,262
                                                                                          ==========                  ==========

</TABLE>

       The accompanying Notes to Consolidated Financial Statements are an
                       integral part of these statements.
<PAGE>

[page 27 of 1996 Annual Report]

                   FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
                                AND SUBSIDIARIES

                        CONSOLIDATED STATEMENTS OF INCOME

                  (Dollars in thousands, except per share data)
<TABLE>
<CAPTION>

                                                                                Year Ended December 31,
                                                                                -----------------------
                                                                       1996             1995                  1994
                                                                       ----             ----                  ----

<S>                                                               <C>                  <C>                  <C>     
REVENUES:
   Net premiums written (net of premiums ceded of 
      $55,965, $33,166 and $28,692, of which
      $35,299, $20,582 and $15,999 were ceded to
       affiliates)                                                $121,000             $  77,576            $  77,757
   Increase in deferred premium revenue                            (30,552)               (8,229)             (12,003)
                                                                  --------             ---------            ---------
   Premiums earned (net of premiums ceded of
      $38,723, $38,013 and $35,051)                                 90,448                69,347               65,754
   Net investment income                                            65,064                48,965               46,592
   Net realized gains (losses)                                       3,189                 5,120               (3,773)
   Other income                                                        297                 3,841                  777
                                                                  --------             ---------            ---------

                   TOTAL REVENUES                                  158,998               127,273              109,350
                                                                  --------             ---------            ---------

EXPENSES:
   Losses and loss adjustment expenses:
          Related to Merger                                          --                   15,400                --
          Other (net of reinsurance recoveries of
             ($2,249), $9,101 and $56,895, of which
             ($3,084), $7,111 and $50,839 were ceded
             to affiliates)                                          6,874                 6,258                3,024
   Policy acquisition costs                                         23,829                16,888               15,057
   Other operating expenses                                         18,524                13,685               12,979
                                                                  --------             ---------            ---------

                   TOTAL EXPENSES                                   49,227                52,231               31,060
                                                                  --------             ---------            ---------

INCOME BEFORE INCOME TAXES                                         109,771                75,042               78,290
                                                                  --------             ---------            ---------

Provision (benefit) for income taxes:
   Current                                                          27,227                23,187                9,132
   Deferred                                                          1,784                (3,183)               8,783
                                                                  --------             ---------            ---------
   Total provision                                                  29,011                20,004               17,915
                                                                  --------             ---------            ---------
        NET INCOME                                                $ 80,760             $  55,038            $  60,375
                                                                  --------             ---------            ---------
        Weighted average common shares outstanding                  30,547                25,797               26,070
                                                                  --------             ---------            ---------
        Earnings per common share                                 $   2.64             $    2.13            $    2.32
                                                                  ========             =========            =========
</TABLE>

       The accompanying Notes to Consolidated Financial Statements are an
                       integral part of these statements.
<PAGE>

[page 28 of 1996 Annual Report]

                   FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
                                AND SUBSIDIARIES

           CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

                  (Dollars in thousands, except per share data)

<TABLE>
<CAPTION>
                                                      Additional  Additional  Unrealized
                                                        Paid-In    Paid-In       Gain                  Deferred
                                 Preferred   Common     Capital-   Capital-   (Loss) on  Accumulated   Equity      Treasury
                                   Stock      Stock    Preferred    Common   Investments  Earnings    Compensation  Stock    Total
                                   -----      -----    ---------    ------   -----------  --------    ------------  -----    ----- 

<S>                             <C>         <C>        <C>        <C>         <C>        <C>          <C>         <C>     <C>     
BALANCE, December 31, 1993       $   --      $259       $  --      $537,143    $35,148    (30,578)     $   --      $  --   $541,972

Issuance of 2,000,000 shares
  of preferred stock                 20                    680                                                                  700
   

Issuance of employees'
  restricted stock                              3                     7,123                                                   7,126


Net income for the year                                                                    60,375                            60,375

Net change in unrealized loss
  on investments (net of deferred                                              (56,857)                                     (56,857)
  income tax benefit of $30,616)

Dividends paid on common
  stock ($0.16 per share)                                                                  (4,150)                           (4,150)

Purchase of 182,562 shares of
   common stock                                                                                                  (3,730)     (3,730)
                                  ---        ----       ----       --------     -----    --------     -------   --------   --------

BALANCE, December 31, 1994         20         262        680        544,266    (21,709)    25,647                (3,730)    545,436

Net income for the year                                                                    55,038                            55,038

Net change in unrealized gain
  on investments (net of deferred                                               41,640                                       41,640
   income taxes of $22,421)

Issuance of common stock -
  6,051,661 shares                             61                   151,987                                                 152,048
   

Dividends paid on common
  stock ($0.32 per share)                                                                  (8,275)                           (8,275)

Deferred equity compensation                                                                            6,504                 6,504

Purchase of 591,714 shares of
   common stock                                                                                                 (14,444)    (14,444)
                                  ---        ----       ----       --------     -----    --------     -------   --------   --------

BALANCE, December 31, 1995           20       323        680        696,253     19,931     72,410      6,504    (18,174)    777,947

Net income for the year                                                                    80,760                            80,760

Net change in unrealized loss
  on investments (net of deferred                                              (10,817)                                     (10,817)
  income tax benefit of $5,823)


Dividends paid on common
   stock ($0.35 per share)                                                                (10,536)                          (10,536)
  
Deferred equity compensation                                                                           5,565                  5,565

Purchase of 1,529,131 shares
  of common stock                                                                                                (40,611)   (40,611)

Other common stock transactions                                    (1,135)                                                   (1,135)

Adjustment to prior year
disposal of subsidiary                                                                         87                               87
                                  ---        ----       ----       --------     -----    --------     -------   --------   --------

BALANCE, December 31, 1996        $20        $323       $680       $695,118     9,114    $142,721     $12,069   $(58,785)  $801,260
                                  ===        ====       ====       ========     =====    ========     =======   ========   ========
                                                                              
</TABLE>


       The accompanying Notes to Consolidated Financial Statements are an
                       integral part of these statements.
<PAGE>

[page 29 of 1996 Annual Report]

                   FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
                                AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                             (Dollars in thousands)
<TABLE>
<CAPTION>
                                                                                Year Ended December 31,
                                                                                -----------------------
                                                                    1996                     1995                 1994
                                                                    ----                     ----                 ----
<S>                                                            <C>                     <C>                   <C>      
Cash flows from operating activities:
   Premiums received, net                                      $   124,540             $  85,481             $  58,191
   Policy acquisition and other operating expenses
     paid, net                                                     (32,266)              (36,067)              (24,807)
   Recoverable advances received (paid)                             10,213                (9,419)                 (939)
   Losses and loss adjustment expenses paid                        (15,473)               (4,954)               (5,124)
   Net investment income received                                   63,533                41,939                42,408
   Federal income taxes paid                                       (34,595)              (15,890)              (15,122)
   Interest paid                                                    (2,115)                  (95)                 (578)
   Other                                                            (4,253)                9,872                (3,995)
                                                               -----------             ---------             ---------

          Net cash provided by operating activities                109,584                70,867                50,034
                                                               -----------             ---------             ---------

Cash flows from investing activities:
   Proceeds from sales of bonds                                  1,117,473               624,802               810,006
   Proceeds from maturities of bonds                                 2,965                   606                    55
   Purchases of bonds                                           (1,150,024)             (713,799)             (786,782)
   Purchases of property and equipment                              (2,188)                 (999)                 (981)
   Payment for purchase of subsidiary, net of cash
      acquired                                                     --                    (11,447)              --
   Net decrease (increase) in short-term
     investments                                                   (18,586)               56,689               (61,552)
                                                               -----------             ---------             ---------

          Net cash used for investing activities                   (50,360)              (44,148)              (39,254)
                                                               -----------             ---------             ---------

Cash flows from financing activities:
   Dividends paid                                                  (10,536)               (8,275)               (4,150)
   Treasury stock                                                  (41,660)              (14,444)               (3,730)
   Issuance of preferred stock                                     --                    --                        700
   Payment of management notes                                     --                     (5,624)               (2,811)
                                                               -----------             ---------             ---------

          Net cash used for financing activities                   (52,196)              (28,343)               (9,991)
                                                               -----------             ---------             ---------

Net increase (decrease) in cash                                      7,028                (1,624)                  789

Cash at beginning of year                                            1,118                 2,742                 1,953
                                                               -----------             ---------             ---------

Cash at end of year                                            $     8,146             $   1,118             $   2,742
                                                               ===========             =========             =========
</TABLE>

                                    Continued
<PAGE>

                   FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
                                AND SUBSIDIARIES

                CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED

                             (Dollars in thousands)
<TABLE>
<CAPTION>

                                                                                Year Ended December 31,
                                                                                -----------------------
                                                                       1996                  1995                   1994
                                                                       ----                  ----                   ----
<S>                                                               <C>                     <C>                    <C>    
Reconciliation of net income to net cash flows 
   from operating activities:
Net income                                                        $  80,760               $55,038                $60,375
   Decrease (increase) in accrued investment income                    (578)                  124                  1,433
   Increase in deferred premium revenue and related
      foreign exchange adjustment                                    29,622                 8,141                 12,585
   Increase in deferred acquisition costs                           (13,282)              (10,305)                (9,847)
   Increase (decrease) in current federal income
      taxes payable                                                  (7,368)                7,297                 (5,989)
   Increase (decrease) in unpaid losses and loss
      adjustment expenses                                            (8,023)               14,587                   (376)
   Increase (decrease) in amounts withheld for others                    52                    30                (24,675)
   Provision (benefit) for deferred income taxes                      1,784                (3,183)                 8,783
   Net realized losses (gains) on investments                        (3,189)               (5,120)                 3,773
   Deferred equity compensation                                       5,565                 5,735                   --
   Depreciation and accretion of bond discount                       (1,735)               (5,735)                (4,032)
   Change in other assets and liabilities                            25,976                 4,258                  8,004
                                                                   --------               -------                -------

Cash provided by operating activities                              $109,584               $70,867                $50,034
                                                                   ========               =======                =======
</TABLE>

     Additional common stock was issued in relation to the Merger in 1995.

     In 1996, the Company has recharacterized its cash equivalents as short-term
investments. The amounts of cash equivalents recharacterized were $16,908,
$38,099 and $13,516 as of December 31, 1996, 1995 and 1994, respectively.

       The accompanying Notes to Consolidated Financial Statements are an
                       integral part of these statements.
<PAGE>

[pages 30-44 of 1996 Annual Report]

                   FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
                                AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

              FOR THE YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994

1.   ORGANIZATION AND OWNERSHIP

     Financial Security Assurance Holdings Ltd. (the Company) is a holding
company incorporated in the State of New York. The Company is principally
engaged (through its insurance subsidiaries) in providing financial guaranty
insurance on asset-backed financings and municipal obligations. The Company's
underwriting policy is to insure asset-backed and municipal obligations that
would otherwise be investment grade without the benefit of the Company's
insurance. The asset-backed obligations insured by the Company are generally
issued in structured transactions and are backed by pools of assets such as
residential mortgage loans, consumer or trade receivables, securities or other
assets having an ascertainable cash flow or market value. The municipal
obligations insured by the Company consist primarily of general obligation bonds
that are supported by the issuers' taxing power and of special revenue bonds and
other special obligations of states and local governments that are supported by
the issuers' ability to impose and collect fees and charges for public services
or specific projects. Financial guaranty insurance written by the Company
guarantees payment when due of scheduled payments on an issuer's obligation. In
the case of a payment default on an insured obligation, the Company is generally
required to pay the principal, interest or other amounts due in accordance with
the obligation's original payment schedule or, at its option, to pay such
amounts on an accelerated basis.

     The Company expects to continue to emphasize a diversified insured
portfolio characterized by insurance of both asset-backed and municipal
obligations, with a broad geographic distribution and a variety of revenue
sources and transaction structures. The Company's insured portfolio consists
primarily of asset-backed and municipal obligations originated in the United
States, but the Company has also written and continues to pursue business in
Europe and the Pacific Rim.

     At December 31, 1993, the Company was owned 92.5% by U S WEST Capital
Corporation, a wholly owned subsidiary of U S WEST, Inc. (U S WEST) and 7.5% by
The Tokio Marine and Fire Insurance Co., Ltd. (Tokio Marine). The Company
completed an initial public offering of common shares on May 13, 1994. In
connection with the initial public offering, Fund American Enterprises Holdings,
Inc. (Fund American) acquired an interest in the Company, together with rights
to acquire additional shares of the Company from U S WEST and 2,000,000 shares
of the Company's Series A non-dividend paying, voting, convertible preferred
stock having a liquidation preference of $700,000 (see Note 8). At December 31,
1994, the Company was owned 60.9% by U S WEST, 7.7% by Fund American, 7.4% by
Tokio Marine and 24.0% by the public and employees.

     On December 20, 1995, a subsidiary of the Company merged (the Merger) with
Capital Guaranty Corporation (CGC). The Merger provided for each CGC share to be
exchanged for 0.6716 share of the Company's common stock and cash of $5.69. The
Company issued in the aggregate 6,051,661 common shares and paid aggregate cash
consideration of $51,300,000. At December 31, 1995, the Company was owned 50.3%
by U S WEST, 7.8% by Fund American, 6.1% by Tokio Marine and 35.8% by the public
and employees. At December 31, 1996, the Company was owned 40.4% by U S WEST,
11.5% by Fund American, 6.4% by Tokio Marine and 41.7% by the public and
employees.

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     The accompanying financial statements have been prepared in accordance with
generally accepted accounting principles (GAAP), which, for the insurance
company subsidiaries, differ in certain material respects from the accounting
practices prescribed or permitted by insurance regulatory authorities (see Note
6). The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities in the Company's consolidated
balance sheets at December 31, 1996 and 1995 and the reported amounts of
revenues and expenses in the consolidated statements of income during the years
ended December 31, 1996, 1995 and 1994. Such estimates and assumptions include,
but are not limited to, losses and loss adjustment expenses and the deferral and
<PAGE>

amortization of deferred policy acquisition costs. Actual results may differ
from those estimates. Significant accounting policies under GAAP are as follows:

     Basis of Presentation

     The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries, FSA Portfolio Management Inc., CGC,
Transaction Services Corporation, and Financial Security Assurance Inc. (FSA)
and its wholly owned subsidiaries, Financial Security Assurance of Maryland Inc.
(which was named Capital Guaranty Insurance Company until the Merger), Financial
Security Assurance International Inc., Financial Security Assurance of Oklahoma,
Inc. and Financial Security Assurance (U.K.) Limited (collectively, the
Subsidiaries). All intercompany accounts and transactions have been eliminated.
Certain prior-year balances have been reclassified to conform to the 1996
presentation. The Merger was accounted for on a purchase accounting basis. In
view of the short period between the date of the Merger, December 20, 1995, and
the year-end, the date of the Merger for accounting purposes is considered to be
December 31, 1995. As a result, the accounting for the Merger has no effect on
the Company's consolidated statement of income for the year ended December 31,
1995, except for recording of $15,400,000 in losses and loss adjustment expenses
to increase FSA's general reserve to provide for the insured portfolio assumed
by FSA in the Merger (see Notes 17 and 19).

     Investments

     Investments in debt securities designated as available for sale are carried
at market value. Any resulting unrealized gain or loss is reflected as a
separate component of shareholders' equity, net of applicable deferred income
taxes. All of the Company's long-term investments are classified as available
for sale.

     Bond discounts and premiums are amortized on the effective yield method
over the remaining terms of the securities acquired. For mortgage-backed
securities, and any other holdings for which prepayment risk may be significant,
assumptions regarding prepayments are evaluated periodically and revised as
necessary. Any adjustments required due to the resultant change in effective
yields are recognized in current income. Short-term investments, which are those
investments with a maturity of more than three months but less than one year at
time of purchase, are carried at market value, which approximates cost. Realized
gains or losses on sale of investments are determined on the basis of specific
identification. Investment income is recorded as earned.

     To manage adverse movements in interest rates, the Company uses exchange
traded futures and options. Primarily, these contracts are designated as hedges
of specific identified securities and any gains or losses on these hedges are
deferred and included as part of the Company's unrealized gains or losses in
stockholder's equity until the disposition of the hedged assets. The Company
will discontinue to account for these contracts as hedges if there ceases to be
a high correlation between the change in price of the hedged assets and the
hedge. Other derivative positions, also in exchange traded futures contracts,
that are not accounted for as hedges are marked-to-market on a daily basis, and
any gains or losses are included in capital gains or losses.

     Cash equivalents represent amounts deposited in money market funds and
investments with a maturity at time of purchase of three months or less.

     Premium Revenue Recognition

     Gross and ceded premiums are earned in proportion to the amount of risk
outstanding over the expected period of coverage. Deferred premium revenue and
prepaid reinsurance premiums represent that portion of premium which is
applicable to coverage of risk to be provided in the future on policies in
force. When an insured issue is retired or defeased prior to the end of the
expected period of coverage, the remaining deferred premium revenue and prepaid
reinsurance premium, less any amount credited to a refunding issue insured by
the Company, are recognized.

     Losses and Loss Adjustment Expenses

     A case basis reserve for unpaid losses and loss adjustment expenses is
recorded at the present value of the estimated loss when, in management's
opinion, the likelihood of a future loss is probable and determinable at the
balance sheet date. The estimated loss on a transaction is discounted using
current risk-free rates.

     The general reserve is calculated by applying a loss factor to the total
net par amount outstanding of the Company's insured obligations outstanding over
the term of such insured obligations and discounting the result at risk-free
rates. The loss factor used for this purpose has been determined based upon an
independent rating agency study of bond defaults and the Company's portfolio
characteristics and history. The general reserve is available to be applied
against future additions or accretions to existing case basis reserves or to new
case basis reserves to be established in the future.
<PAGE>

     Management of the Company periodically evaluates its estimates for losses
and loss adjustment expenses and establishes reserves that management believes
are adequate to cover the ultimate net cost of claims; the reserves are
necessarily based on estimates, and there can be no assurance that the ultimate
liability will not differ from such estimates. The Company will, on an ongoing
basis, monitor these reserves and may periodically adjust such reserves based on
the Company's actual loss experience, its future mix of business, and future
economic conditions.

     Deferred Acquisition Costs

     Deferred acquisition costs comprise those expenses that vary with and are
primarily related to the production of business, including commissions paid on
reinsurance assumed, compensation and related costs of underwriting and
marketing personnel, certain rating agency fees, premium taxes and certain other
underwriting expenses, reduced by ceding commission income on premiums ceded to
reinsurers. Deferred acquisition costs and the cost of acquired business are
amortized over the period in which the related premiums are earned.
Recoverability of deferred acquisition costs is determined by considering
anticipated losses and loss adjustment expenses.

     Federal Income Taxes

     The provision for income taxes consists of an amount for taxes currently
payable and a provision for tax consequences deferred to future periods
reflected at current income tax rates.

     Earnings per Common Share

     Earnings per common share is determined by dividing net income by the
weighted average number of common shares outstanding.

3.   INVESTMENTS

     Bonds at amortized cost of $17,669,000 and $11,969,000 at December 31, 1996
and 1995, respectively, were on deposit with state regulatory authorities as
required by insurance regulations.

     Consolidated net investment income consisted of the following (in
thousands):

                                              Year Ended December 31,
                                              -----------------------
                                     1996              1995              1994
                                     ----              ----              ----

    Long-term bonds                $61,740           $43,789           $47,024
    Equity investments                 928             --                --
    Short-term investments and 
      cash equivalents               3,966             6,070               935
    Investment expenses             (1,570)             (894)           (1,367)
                                   -------           -------           -------

    Net investment income          $65,064           $48,965           $46,592
                                   =======           =======           =======


        The credit quality of the investment portfolio at December 31, 1996 was
as follows:

                                                    Percent of
                      Rating                   Investment Portfolio
           ------------------------------     ----------------------

                        AAA                            68.8%
                         AA                            19.7
                         A                             11.5
<PAGE>

     The amortized cost and estimated market value of long-term bonds were as
follows (in thousands):

<TABLE>
<CAPTION>

                                                                          Gross              Gross          Estimated
                                                     Amortized         Unrealized         Unrealized         Market
December 31, 1996                                      Cost               Gains             Losses            Value
-----------------                                      ----               -----             ------            -----
<S>                                                   <C>                  <C>               <C>           <C>         
U.S. Treasury securities and obligations
   of U.S. government corporations
   and agencies                                       $   55,619           $  1,103          $   (557)     $     56,165

Obligations of states and political
    subdivisions                                         661,831             15,208            (2,870)          674,169

Foreign securities                                        15,019                197               (71)           15,145

Mortgage-backed securities                               177,818              1,432              (906)          178,344

Corporate securities                                      76,760                381              (403)           76,738

Asset-backed securities                                   71,370                680              (172)           71,878
                                                      ----------            -------          --------        ----------
                                                                                                                
     Total                                            $1,058,417            $19,001           $(4,979)       $1,072,439
                                                      ==========            =======           =======        ==========

December 31, 1995
-----------------

U.S. Treasury securities and obligations
   of U.S. government corporations  
   and agencies                                      $    45,139            $ 2,232           $  --          $   47,371

Obligations of states and political
    subdivisions                                         643,624             20,412              (330)          663,706

Foreign securities                                        28,691              1,909               (17)           30,583

Mortgage-backed securities                               265,213              5,949               (75)          271,087

Corporate securities                                       1,254                 51               --              1,305
  
Asset-backed securities                                   43,493                531               --             44,024
                                                      ----------            -------             -----        ----------
                                                                                                                
     Total                                            $1,027,414            $31,084             $(422)       $1,058,076
                                                      ==========            =======             =====        ==========
</TABLE>

     The change in net unrealized gains (losses) consisted of (in thousands):

<TABLE>
<CAPTION>
                                                                                      Year Ended December 31,
                                                                                      -----------------------
                                                                              1996              1995              1994
                                                                              ----              ----              ----

<S>                                                                        <C>                <C>              <C>      
Long-term bonds                                                            $(16,640)          $64,061          $(87,490)
Short-term investments                                                        --                --                   17
                                                                           --------           -------          -------- 
     Change in net unrealized gains (losses)                               $(16,640)          $64,061          $(87,473)
                                                                           ========           =======          ========


</TABLE>
<PAGE>

     The amortized cost and estimated market value of long-term bonds at
December 31, 1996 and 1995, by contractual maturity, are shown below (in
thousands). Actual maturities could differ from contractual maturities because
borrowers have the right to call or prepay certain obligations with or without
call or prepayment penalties.

<TABLE>
<CAPTION>
                                                           December 31, 1996                       December 31, 1995
                                                           -----------------                       -----------------
                                                                        Estimated                                Estimated
                                                      Amortized          Market                Amortized          Market
                                                         Cost              Value                  Cost             Value
                                                         ----              -----                  ----             -----

<S>                                                  <C>                <C>                  <C>              <C>         
Due in one year or less                              $    38,305        $    38,626          $     2,776      $      2,778
Due after one year through five years                     57,531             57,712               26,036            26,375
Due after five years through ten years                   105,495            105,848              157,161           162,573
Due after ten years                                      607,898            620,031              532,735           551,239
Mortgage-backed securities (stated
    maturities of 16 to 30 years)                        177,818            178,344              265,213           271,087
Asset-backed securities (stated
    maturities of 2 to 5 years)                           71,370             71,878               43,493            44,024
                                                      ----------         ----------           ----------        ----------
     Total                                            $1,058,417         $1,072,439           $1,027,414        $1,058,076
                                                      ==========         ==========           ==========        ==========
</TABLE>

     Proceeds from sales of long-term bonds during 1996, 1995 and 1994 were
$1,118,112,000, $608,773,000 and $826,261,000, respectively. Gross gains of
$15,335,000, $12,434,000 and $14,031,000 and gross losses of $12,146,000,
$7,314,000 and $17,804,000 were realized on sales in 1996, 1995 and 1994,
respectively.

     To hedge against changes in yields on certain one-year corporate
securities, the Company has entered into a series of Eurodollar futures
contracts, which are marked-to-market on a daily basis. These contracts are
accounted for as a hedge. As of year-end, the net unrealized loss on the
contracts, included in the Company's unrealized gains in stockholders' equity
section, is not material. The aggregate notional amount of these contracts is
$83,728,000 as of December 31, 1996.

     The Company holds open positions in U.S. Treasury bond futures contracts
with an aggregate notional amount of $20,600,000 as of December 31, 1996. These
positions are marked-to-market on a daily basis, and for the year ended December
31, 1996, the Company reported a net realized gain of $923,000, which is
included in gross realized capital gains above.

4.   DEFERRED ACQUISITION COSTS

     Acquisition costs deferred for amortization against future income and the
related amortization charged to expenses are as follows (in thousands):

<TABLE>
<CAPTION>

                                                                                 Year Ended December 31,
                                                                  --------------------------------------------------

                                                                      1996                  1995               1994
                                                                      ----                  ----               ----
<S>                                                                <C>                   <C>                 <C>    
Balance, beginning of period                                       $132,951              $ 91,839            $81,992
                                                                   --------              --------            -------
Costs deferred during the period:
   Ceding commission income                                         (15,956)               (9,836)            (8,476)
   Assumed commission expense                                            38                    55                 84
   Premium taxes                                                      3,718                 2,537              2,589
   Compensation and other acquisition costs                          49,311                34,437             30,707
                                                                   --------              --------            -------

                    Total                                            37,111                27,193             24,904
                                                                   --------              --------            -------

Costs amortized during the period                                   (23,829)              (16,888)           (15,057)
                                                                   --------              --------            -------

Balance of acquired subsidiary                                       --                    30,807             --
                                                                   --------              --------            -------

Balance, end of period                                             $146,233              $132,951            $91,839
                                                                   ========              ========            =======

</TABLE>
<PAGE>

5.   OTHER OPERATING EXPENSES

     Total salary expense and related benefits included in other operating
expenses were $14,596,000, $12,046,000 and $10,369,000 for the years ended
December 31, 1996, 1995 and 1994, respectively.

6.   STATUTORY ACCOUNTING PRACTICES

     GAAP for the Subsidiaries differs in certain significant respects from
accounting practices prescribed or permitted by insurance regulatory
authorities. The principal differences result from the following statutory
accounting practices:

     - Upfront premiums on municipal business are recognized as earned when
     related risk has expired rather than over the expected coverage period;

     - Acquisition costs are charged to operations as incurred rather than as
     related premiums are earned;

     - A contingency reserve is computed based on the following statutory
     requirements (rather than establishing a general loss reserve):

          a. For all policies written prior to July 1, 1989, an amount equal to
     50% of cumulative earned premiums less permitted reductions, plus;

          b. For all policies written on or after July 1, 1989, an amount equal
     to the greater of 50% of premiums written for each category of insured
     obligation or a designated percentage of principal guaranteed for that
     category. These amounts are provided each quarter as either 1/60th or
     1/80th of the total required for each category, less permitted reductions;

     - Certain assets designated as "non-admitted assets" are charged directly
     to statutory surplus but are reflected as assets under GAAP;

     - Federal income taxes are provided only on taxable income for which income
     taxes are currently payable;

     - Accruals for deferred compensation are not recognized;

     - Purchase accounting adjustments are not recognized;

     - Bonds are carried at amortized cost.

     A reconciliation of net income for the calendar years 1996, 1995 and 1994
and shareholders' equity at December 31, 1996, 1995 and 1994, reported by the
Company on a GAAP basis, to the amounts reported by the Subsidiaries on a
statutory basis, is as follows (in thousands):

<TABLE>
<CAPTION>

Net Income:                                                           1996                  1995               1994
                                                                      ----                  ----               ----
<S>                                                                 <C>                   <C>                <C>    
GAAP BASIS                                                          $80,760               $55,038            $60,375
Non-insurance companies net loss (gain)                                  95                   (50)              (111)
Premium revenue recognition                                          (5,518)               (4,805)            (5,425)
Losses and loss adjustment expenses incurred                         (2,138)               10,871            (13,908)
Deferred acquisition costs                                          (12,482)              (10,305)            (9,847)
Deferred income tax provision (benefit)                                 911                (3,055)             4,682
Amortization of bonds                                                   566                 1,195                520
Accrual of deferred compensation                                     12,737                 5,663             (9,062)
Other                                                                 1,404                (1,580)              (274)
                                                                    -------               -------            -------

STATUTORY BASIS                                                     $76,335               $52,972            $26,950
                                                                    =======               =======            =======
</TABLE>
<PAGE>

<TABLE>
<CAPTION>

                                                                                        December 31,
                                                                   ---------------------------------------------------
Shareholders' Equity:                                                 1996                  1995                  1994
                                                                      ----                  ----                  ----

<S>                                                                <C>                   <C>                   <C>     
GAAP BASIS                                                         $801,260              $777,947              $545,436
Non-insurance companies liabilities (assets), net                    14,072                12,039               (16,460)
Premium revenue recognition                                         (51,760)              (46,248)              (29,891)
Loss and loss adjustment expense reserves                            29,660                31,798                20,927
Deferred acquisition costs                                         (146,233)             (132,951)              (91,839)
Contingency reserve                                                (227,139)             (183,967)             (121,414)
Unrealized loss (gain) on investments, net of tax                   (14,084)              (30,298)               32,868
Deferred income taxes                                                41,682                43,205                10,222
Accrual of deferred compensation                                     18,390                 5,653                 --
Other                                                               (17,043)              (16,492)               (5,475)
                                                                   --------              --------              --------

STATUTORY BASIS (SURPLUS)                                          $448,805              $460,686              $344,374
                                                                   ========              ========              ========

SURPLUS PLUS CONTINGENCY RESERVE                                   $675,944              $644,653              $465,788
                                                                   ========              ========              ========
</TABLE>


7.   FEDERAL INCOME TAXES

     For periods prior to May 13, 1994, the date of the initial public offering
when the Company became less than 80% owned by U S WEST, the Company and its
Subsidiaries joined with U S WEST and its subsidiaries in filing a consolidated
federal income tax return. Under a U S WEST practice, an income tax benefit or
liability was allocated to the Company to the extent that benefits were usable
or additional liabilities were incurred by U S WEST due to the Company's
inclusion in the U S WEST tax returns. For each year since the Company's
acquisition by U S WEST, the Company's resulting income tax provision has been
the same as if the allocation of taxes were based on a separate return
calculation. For the Subsidiaries, under a separate tax sharing agreement with U
S WEST, the allocation of income taxes was based upon separate return
calculations which provided that benefits or liabilities created by the
Subsidiaries are allocated to the Subsidiaries regardless of whether the
benefits were usable or additional liabilities were incurred in the U S WEST tax
returns. For periods subsequent to May 12, 1994, the Company and all members of
its group elected to file consolidated federal income tax returns. The
calculation of each member's tax benefit or liability was controlled by a tax
sharing agreement that based the allocation of such benefit or liability upon a
separate return calculation.

     The cumulative balance sheet effects of deferred tax consequences are (in
thousands):

                                                       December 31,
                                                       ------------
                                                1996                  1995
                                                ----                  ----

Deferred acquisition costs                    $51,182               $46,533
Deferred premium revenue adjustments            3,520                 2,905
Unrealized capital gains                        7,952                15,077
Contingency reserves                           30,893                11,542
Market discounts                                1,950                   913
                                              -------               -------
     Total deferred tax liabilities            95,497                76,970
                                              -------               -------

Loss and loss adjustment expense reserves     (10,381)              (11,129)
Deferred compensation                         (10,730)               (6,046)
Tax credits                                    (7,861)               (3,813)
Tax and loss bonds                            (22,526)              (11,116)
Other, net                                     (2,832)               (2,930)
                                              -------               -------
     Total deferred tax assets                (54,330)              (35,034)
                                              -------               -------

Total deferred income taxes                   $41,167               $41,936
                                              =======               =======

     No valuation allowance was necessary at December 31, 1996 or 1995.
<PAGE>

     A reconciliation of the effective tax rate with the federal statutory rate
follows:

                                             Year Ended December 31,
                                             -----------------------
                                   1996                1995               1994
                                   ----                ----               ----

Tax at statutory rate              35.0%               35.0%              35.0%
Tax-exempt interest                (8.9)               (8.5)             (12.3)
Other                               0.3                 0.2                0.2
                                   ----                ----               ---- 

Provision for income taxes         26.4%               26.7%              22.9%
                                   ====                ====               ==== 

8.   SHAREHOLDERS' EQUITY

     Pursuant to the Supplemental Restricted Stock Plan, on May 13, 1994, awards
of outstanding units to existing employees under the FSA Profit Participation
Plan were valued at $0.20 per dollar of award ($0.70 per dollar of award in the
case of 1994 regular units granted thereunder) and, at the election of each
outstanding employee, were exchanged for restricted shares of common stock
valued at the initial public offering price of $20.00 per share. In exchange for
an accrued balance of approximately $7.1 million in such Profit Participation
Plan, the Company issued 356,345 shares of restricted stock (see Note 11).

     On September 2, 1994, the Company issued to Fund American 2,000,000 shares
of Series A, non-dividend paying, voting, convertible preferred stock having an
aggregate liquidation preference of $700,000. The preferred stock is
convertible, at the option of the holder upon payment of the conversion price
therefor, into an equal number of shares of common stock (subject to
anti-dilutive adjustment). The conversion price per share (subject to
anti-dilutive adjustment) is $29.65. The preferred stock will be redeemed (if
then outstanding) on May 13, 2004 at a redemption price of $0.35 per share. Fund
American is entitled to one vote per share of preferred stock, voting together
as a single class with the Common Stock on all matters upon which holders of
Common Stock are entitled to vote. As the holder of the preferred stock, Fund
American is not entitled to receive dividends or other distributions of any kind
payable to shareholders of the Company, except that, in the event of the
liquidation, dissolution or winding up of the Company, it is entitled to receive
out of the assets of the Company available therefor, before any distribution or
payment is made to the holders of common stock or to any other class of capital
stock of the Company ranking junior to the Company's preferred stock,
liquidation payments in the amount of $0.35 per share. Fund American may not
transfer the preferred stock, except to a majority-owned subsidiary.

     On December 20, 1995, CGC merged with a subsidiary of the Company. The
Merger provided for each CGC share to be exchanged for 0.6716 share of the
Company's common stock and cash of $5.69. The Company issued in the aggregate
6,051,661 common shares and paid aggregate cash consideration of $51,300,000.

     In May 1996, the Company repurchased 1,000,000 shares of its common stock
from U S WEST for a purchase price of $26.50 per share. At the same time, the
Company also entered into forward agreements with National Westminster Bank Plc
and Canadian Imperial Bank of Commerce (the Counterparties) in respect of
1,750,000 shares (the Forward Shares) of the Company's common stock. Under the
forward agreements, the Company has the obligation either to: (a) purchase the
Forward Shares from the Counterparties for a price equal to $26.50 per share
plus carrying costs or (b) direct the Counterparties to sell the Forward Shares,
with the Company receiving any excess or making up any shortfall between the
sale proceeds and $26.50 per share plus carrying costs in cash or additional
shares, at its option. Simultaneous with the Company entering into the forward
agreements, the Company made the economic benefit of 750,000 of these shares
available for subscription by certain employees and its board of directors. If
the Company were to settle these Forward Shares, at the Company's December 31,
1996 market price of $32.875, it would receive approximately 171,000 shares, net
of the portion allocable to employees and directors.
<PAGE>

9.   DIVIDENDS AND CAPITAL REQUIREMENTS

     Under New York Insurance Law, FSA may pay a dividend to the Company without
the prior approval of the Superintendent of the New York State Insurance
Department only from earned surplus subject to the maintenance of a minimum
capital requirement. In addition, the dividend, together with all dividends
declared or distributed by FSA during the preceding twelve months, may not
exceed the lesser of 10% of its policyholders' surplus shown on FSA's last filed
statement, or adjusted net investment income, as defined, for such twelve-month
period. As of December 31, 1996, FSA had $45,184,000 available for the payment
of dividends over the next twelve months. As a customary condition for approving
the application of Fund American for a change in control of FSA, the prior
approval of the Superintendent of the State of New York Insurance Department was
required for any payment of dividends by FSA to the Company for a period of two
years following such changed control. Such approval was provided for the payment
of dividends by FSA to the Company in 1996, 1995 and 1994 in the ordinary course
of business. Such prior approval requirement lapsed in September 1996. In
addition, the New York Superintendent has approved the repurchase by FSA of up
to $75,000,000 of its shares from the Company through December 31, 1998,
pursuant to which FSA has repurchased $27,000,000 of its shares through December
31, 1996. Future share repurchases may not exceed cumulative statutory net
income beginning January 1, 1996.

10.  CREDIT ARRANGEMENTS AND ADDITIONAL CLAIMS-PAYING RESOURCES

     The Company has a credit arrangement aggregating $150,000,000 at December
31, 1996, which is provided by commercial banks and intended for general
application to transactions insured by the Subsidiaries. At December 31, 1996,
there have been no borrowings under this arrangement. In addition, there are
credit arrangements assigned to specific insured transactions. In August 1994,
FSA entered into a facility agreement with Canadian Global Funding Corporation
and Hambros Bank Limited. Under the agreement, FSA can arrange financing for
transactions subject to certain conditions. The amount of this facility was
$186,911,000, of which $100,911,000 was unutilized at December 31, 1996.

     FSA has a standby line of credit commitment in the amount of $125,000,000
with an international Aaa/AAA-rated bank to provide loans to FSA after it has
incurred, during the term of the facility, cumulative municipal losses (net of
any recoveries) in excess of the greater of $200,000,000 or 5.75% of average
annual debt service. The obligation to repay loans made under this agreement is
a limited recourse obligation payable solely from, and collateralized by, a
pledge of recoveries realized on defaulted insured obligations including certain
installment premiums and other collateral. This commitment has a term beginning
on April 30, 1996 and expiring on January 31, 2003 and contains an annual
renewal provision subject to approval by the bank.

     In connection with the Merger, the Company assumed $30,000,000 of CGC's
senior notes. Interest on these notes is paid semiannually at the rate of 7.05%
per annum. Repayment of these notes is due in three equal installments of
$10,000,000 beginning in 2001 and ending in 2003.

11.  EMPLOYEE BENEFIT PLANS

     The Subsidiaries maintain both a qualified and a non-qualified
non-contributory defined contribution pension plan for the benefit of all
eligible employees. The Subsidiaries' contributions are based upon a fixed
percentage of employee compensation. Pension expense, which is funded as
accrued, amounted to $2,215,000, $1,898,000 and $1,965,000 for the years ended
December 31, 1996, 1995 and 1994, respectively.

     The Subsidiaries have an employee retirement savings plan for the benefit
of all eligible employees. The plan permits employees to contribute a percentage
of their salaries up to limits prescribed by the Internal Revenue Service (IRS
Code, Section 401(k)). The Subsidiaries' contributions are discretionary, and
none have been made.
<PAGE>

     During 1991, the Subsidiaries established the Profit Participation Plan as
a long-term incentive compensation plan for the benefit of certain of its
employees. Prior to the initial public offering, the Company adopted a
Supplemental Restricted Stock Plan. Pursuant to this plan, awards of outstanding
units to existing employees under the Profit Participation Plan were valued at
$0.20 per dollar of award ($0.70 per dollar of award in the case of 1994 regular
units granted thereunder) and, at the election of each outstanding employee,
were exchanged for restricted shares of common stock valued at the initial
public offering price of $20.00 per share. All employees of the Company,
including all senior executives, exchanged their outstanding interests in the
Profit Participation Plan for restricted shares of common stock at the public
offering price under the Supplemental Restricted Stock Plan. In exchange for an
accrued balance of $7,126,000 in such Profit Participation Plan, the Company
issued 356,345 shares of restricted stock. This transaction was treated as a
non-cash financing transaction for cash flow purposes. The stock was restricted
because ownership of the shares by employees required continued employment; the
shares vested ratably over a three-year period on July 1, 1994, 1995 and 1996.

     Pursuant to the 1993 Equity Participation Plan, 1,810,780 shares of common
stock, subject to anti-dilutive adjustment, were reserved for awards of options,
restricted shares of common stock, and performance shares to employees for the
purpose of providing, through the grant of long-term incentives, a means to
attract and retain key personnel and to provide to participating officers and
other key employees long-term incentives for sustained high levels of
performance. Shares available under the 1993 Equity Participation Plan were
increased from 1,810,780 to 2,110,780 in May 1995. The 1993 Equity Participation
Plan also contains provisions that permit the Human Resources Committee to pay
all or a portion of an employee's bonuses in the form of shares of common stock
credited to the employees at a 15% discount from current market value and paid
to employees five years from the date of award. Up to an aggregate of 10,000,000
shares may be allocated to such equity bonuses. Common stock to pay equity bonus
awards will be acquired by the Company through open-market purchases by a trust
established for such purpose.

     During 1994, under the Company's 1993 Equity Participation Plan, the
Company granted to officers and employees, in respect of future performance,
non-qualified options to purchase an aggregate of 1,099,000 shares of common
stock, of which 39,000 were forfeited and 1,060,000 were still outstanding at
December 31, 1994, substantially all of which have an exercise price of $20.00
per share. (As described below, 1,025,500 of these options were converted to
performance shares.) The foregoing options vest, subject to continuation of
employment and other terms of the option grants, at the rate of 20% per year,
for five one-year periods, with the first period ending on July 1, 1994. Such
options expire ten years after the effective dates of their grant. In the fourth
quarter of 1994, holders of outstanding stock options under the 1993 Equity
Participation Plan were offered the right to exchange such stock options for an
equal number of performance shares under such Plan. Also, as a result of the
Merger, the Company granted 169,956 of stock options with strike prices ranging
from $18.63 to $23.53 per share to employees of CGC in exchange for outstanding
stock options of CGC. Giving effect to such exchange and subsequent awards, at
December 31, 1996, there were outstanding 1,374,340 performance shares and
201,956 options to purchase shares of common stock.

     Performance shares granted under the 1993 Equity Participation Plan were as
follows:

       Outstanding      Granted       Forfeited     Outstanding      Market
      at Beginning       During         During        at End        Price at
         of Year        the Year       the Year       of Year      Grant Date
         -------        --------       --------       -------      ----------

1994       --          1,025,500         --          1,025,500       $21.875

1995     1,025,500        83,650         --          1,109,150        19.250

1996     1,109,150       282,490        17,300       1,374,340        25.250

     The Company applies APB Opinion 25 and related Interpretations in
accounting for its performance shares. The Company estimates the final cost of
these performance shares and accrues for this expense over the performance
period. The accrued expense for the performance shares was $13,741,000 and
$5,744,000 for the years ended December 31, 1996 and 1995, respectively. In
tandem with this accrued expense, the Company estimates those performance shares
that it expects to settle in stock and records this amount in stockholders'
equity as deferred compensation. The remainder of the accrual, which represents
the amount of performance shares that the Company estimates it will settle in
cash, is recorded in accrued expenses and other liabilities. In 1996, the
Company adopted disclosure provisions of FASB Statement 123. Had the
compensation cost for the Company's performance shares been determined based
upon fair value at the grant dates for the awards consistent with the method of
FASB Statement 123, the effect on the Company's net income and earnings per
share would have been immaterial.
<PAGE>

     In November 1994, the Company appointed an independent trustee authorized
to purchase shares of the Company's common stock in open market transactions, at
times and prices determined by the trustee. These purchases are intended to fund
future obligations relating to equity bonuses, performance shares and stock
options under the 1993 Equity Participation Plan. During 1996, 1995 and 1994,
the total number of shares purchased by the trust was 529,131, 591,714 and
182,562, respectively, at a cost of $14,111,000, $14,444,000 and $3,730,000,
respectively. The Company also repurchased stock from its employees in
satisfaction of withholding taxes on shares distributed under its restricted
stock plan.

     The Company does not currently provide post-retirement benefits, other than
pensions, to its employees, nor does it provide post-employment benefits to
former employees.

12.  COMMITMENTS AND CONTINGENCIES

     The Company and its Subsidiaries lease office space and equipment under
non-cancelable operating leases, which expire at various dates through 2005.

     Future minimum rental payments are as follows (in thousands):

         Year Ended December 31,
         -----------------------
                  1997                                  $  2,257
                  1998                                     2,267
                  1999                                     2,229
                  2000                                     2,169
                  2001                                     2,014
               Thereafter                                  6,810
                                                         -------
                 Total                                   $17,746
                                                         =======

     Rent expense for the years ended December 31, 1996, 1995 and 1994 was
$3,816,000, $3,712,000 and $3,535,000, respectively.

     During the ordinary course of business, the Subsidiaries have become
parties to certain litigation. Management believes that these matters will be
resolved with no material financial impact on the Company.

13.  REINSURANCE

     The Subsidiaries reinsure portions of their risks with affiliated (see Note
15) and unaffiliated reinsurers under quota share treaties and on a facultative
basis. The Subsidiaries' principal ceded reinsurance program consisted in 1996
of three quota share treaties and three automatic facultative facilities. One
treaty covers all of the Subsidiaries' approved regular lines of business,
except municipal obligation insurance. Under this treaty in 1996, the
Subsidiaries ceded 11.35% of each covered policy, up to a maximum of $22,700,000
insured principal per policy. At their sole option, the Subsidiaries could have
increased, and in certain instances did increase, the ceding percentage to 22.7%
up to $45,400,000 of each covered policy. A second treaty covers the
Subsidiaries' municipal obligation insurance business. Under this treaty in
1996, the Subsidiaries ceded 10% of each covered policy that is classified by
the Subsidiaries as providing municipal bond insurance as defined by Article 69
of the New York Insurance Law up to a limit of $26,667,000 per single risk,
which is defined by revenue source. At their sole option, the Subsidiaries could
have increased, and in certain instances did increase, the ceding percentage to
30% up to $80,000,000 per single risk. Under the third treaty in 1996, the
Subsidiaries ceded 5% of their retention (i.e., after cessions of policies under
the municipal obligation insurance treaty) covering substantially all teaching
hospital and higher education risks, up to limits that range from $7,500,000 to
$30,000,000 per single risk (depending on the type of obligation). At their sole
option, the Subsidiaries could have increased, and in certain instances did
increase, the ceding percentage from 5% to 15% of their retention, subject to
the same limits. This third treaty was canceled on a run-off basis as of
December 31, 1996. Under the three automatic facultative facilities in 1996, the
Subsidiaries at their option could allocate up to $20,000,000 or $25,000,000 for
each reinsurer (depending on the reinsurer) for each transaction, subject to
limits and exclusions, in exchange for which the Subsidiaries agreed to cede in
the aggregate a specified percentage of gross par insured by the Subsidiaries.
Each of the three treaties and automatic facultative facilities allows the
Subsidiaries to withhold a ceding commission to defray their expenses.
<PAGE>

     In the event (which management considers to be highly unlikely) that any or
all of the reinsuring companies were unable to meet their obligations to the
Subsidiaries, the Subsidiaries would be liable for such defaulted amounts. The
Subsidiaries have also assumed reinsurance of municipal obligations from
unaffiliated insurers.

     Amounts reinsured were as follows (in thousands):

<TABLE>
<CAPTION>

                                                                                   Year Ended December 31,
                                                                                   -----------------------

                                                                      1996                  1995                  1994
                                                                      ----                  ----                  ----
<S>                                                                  <C>                   <C>                   <C>    
Written premiums ceded                                               $55,965               $33,166               $28,692
Written premiums assumed                                               1,873                 1,684                 1,973

Earned premiums ceded                                                 38,723                38,013                35,051
Earned premiums assumed                                                6,020                 2,759                 7,059

Loss and loss adjustment expense payments
   ceded                                                              29,408                 3,060                 1,483
Loss and loss adjustment expense payments
   assumed                                                                 3                     3                     3

Incurred losses and loss adjustment expenses ceded                    (2,249)                9,101                56,895
Incurred losses and loss adjustment expenses
   assumed                                                                38                    81                   137

</TABLE>
                                                            December 31,
                                                            ------------
                                                      1996              1995
                                                      ----              ----

Principal outstanding ceded                       $20,292,615       $14,355,664
Principal outstanding assumed                       1,995,752         2,347,122

Deferred premium revenue ceded                        151,224           133,548
Deferred premium revenue assumed                       18,929             5,027

Loss and loss adjustment expense reserves ceded        29,875            61,532
Loss and loss adjustment expense reserves assumed         705               670


14.  OUTSTANDING EXPOSURE AND COLLATERAL

     The Company's policies insure the scheduled payments of principal and
interest on asset-backed and municipal obligations. The principal amount insured
(in millions) as of December 31, 1996 and 1995 (net of amounts ceded to other
insurers of $9,601 and $6,093 of asset-backed and $10,691 and $8,263 of
municipal, respectively) and the terms to maturity are as follows:

<TABLE>
<CAPTION>
                                          December 31, 1996                     December 31, 1995
                                          -----------------                     -----------------
Terms to Maturity                   Asset-Backed        Municipal       Asset-Backed        Municipal
-----------------                   ------------        ---------       ------------        ---------

<S>                                    <C>              <C>                <C>              <C>    
0 to 5 Years                            $ 7,424          $ 1,571            $ 5,931          $ 3,293
5 to 10 Years                             3,920            3,841              3,679            4,713
10 to 15 Years                            1,461            6,272              1,183            4,299
15 to 20 Years                              714           11,433                423            6,986
20 Years and Above                        9,681           12,877              5,847            9,625
------------                            -------          -------            -------          -------

                    Total               $23,200          $35,994            $17,063          $28,916
                                        =======          =======            =======          =======
</TABLE>
<PAGE>

     The principal amount ceded as of December 31, 1996 and 1995 and the terms
to maturity are as follows (in millions):

<TABLE>
<CAPTION>
                                           December 31, 1996                    December 31, 1995
                                           -----------------                   -----------------
Terms to Maturity                    Asset-Backed        Municipal       Asset-Backed        Municipal
-----------------                    ------------        ---------       ------------        ---------

<S>                                     <C>             <C>                 <C>               <C>   
0 to 5 Years                            $3,695          $     769           $2,297            $1,103
5 to 10 Years                            2,413              1,192            1,503             1,775
10 to 15 Years                             452              1,479              403             1,020
15 to 20 Years                             302              2,345              126             1,514
20 Years and Above                       2,739              4,906            1,764             2,851
                                        ------          ---------           ------            ------

                    Total               $9,601            $10,691           $6,093            $8,263
                                        ======            =======           ======            ======
</TABLE>

     The Company limits its exposure to losses from writing financial guarantees
by underwriting investment-grade obligations, by diversifying its portfolio and
by maintaining rigorous collateral requirements on asset-backed obligations. The
gross principal amounts of insured obligations in the asset-backed insured
portfolio are backed by the following types of collateral (in millions):
<PAGE>

<TABLE>
<CAPTION>

                                              Net of Amounts Ceded                     Ceded
                                                 December 31,                        December 31,
                                                 ------------                        ------------

Types of Issues                               1996             1995              1996           1995
---------------                               ----             ----              ----           ----

<S>                                         <C>             <C>                 <C>            <C>   
Residential mortgages                       $10,987         $  6,740            $3,077         $1,909
Consumer receivables                          7,548            5,105             3,735          1,320
Government securities                         1,477            1,651               449            263
Pooled corporate obligations                  1,663            1,819               852            732
Commercial mortgage portfolio:
   Commercial real estate                       113              148               463            640
   Corporate secured                             66               98               619            801
Investor-owned utility obligations              791              821               266            292
Other asset-backed obligations                  555              681               140            136
                                            -------         --------            ------         ------

            Total asset-backed obligations  $23,200          $17,063            $9,601         $6,093
                                            =======          =======            ======         ======
</TABLE>
<PAGE>

     The asset-backed insured portfolio, which aggregated $32.8 billion
principal before reinsurance at December 31, 1996, was collateralized by assets
with an estimated fair value of $38.3 billion. At December 31, 1995, it
aggregated $23.2 billion principal before reinsurance and was collateralized by
assets with an estimated fair value of $28.0 billion. Such estimates of the
collateral's fair value, which is reduced as exposure expires, are based upon
information at the inception of the insurance policy. At December 31, 1996, the
estimated fair value of collateral and reserves over the principal insured
averaged from 100% for commercial real estate to 168% for corporate secured
obligations. At December 31, 1995, the estimated fair value of collateral and
reserves over the principal insured averaged from 100% for commercial real
estate to 164% for corporate secured obligations. Collateral for specific
transactions is generally not available to pay claims related to other
transactions. The amounts of losses ceded to reinsurers are determined net of
collateral.

     The gross principal amount of insured obligations in the municipal insured
portfolio includes the following types of issues (in millions):

<TABLE>
<CAPTION>

                                              Net of Amounts Ceded                     Ceded
                                                 December 31,                        December 31,
                                                 ------------                        ------------

Types of Issues                               1996             1995              1996           1995
---------------                               ----             ----              ----           ----

<S>                                         <C>             <C>                 <C>            <C>   
General obligation bonds                    $12,523         $  8,738          $  2,423          $1,764
Housing revenue bonds                         1,794            1,674             1,033             685
Municipal utility revenue bonds               4,671            3,873             1,472           1,107
Health care revenue bonds                     2,854            2,587             2,049           1,718
Tax-supported bonds (non-general obligation)  8,805            7,090             2,152           1,741
Transportation revenue bonds                  1,479            1,365               436             293
Other municipal bonds                         3,868            3,589             1,126             955
                                            -------         --------          --------          ------

              Total municipal obligations   $35,994          $28,916           $10,691          $8,263
                                            =======          =======           =======          ======
</TABLE>
<PAGE>

     In its asset-backed business, the Company considers geographic
concentration as a factor in underwriting insurance covering securitizations of
pools of such assets as residential mortgages or consumer receivables. However,
after the initial issuance of an insurance policy relating to such
securitization, the geographic concentration of the underlying assets may not
remain fixed over the life of the policy. In addition, in writing insurance for
other types of asset-backed obligations, such as securities primarily backed by
government or corporate debt, geographic concentration is not deemed by the
Company to be significant given other more relevant measures of diversification
such as issuer or industry.

     The Company seeks to maintain a diversified portfolio of insured municipal
obligations designed to spread its risk across a number of geographic areas. The
following table sets forth, by state, those states in which municipalities
located therein issued an aggregate of 2% or more of the Company's net par
amount outstanding of insured municipal securities as of December 31, 1996:

<TABLE>
<CAPTION>

                                                                Net Par            Percent of Total            Ceded Par
                                               Number            Amount            Municipal Net Par            Amount
            State                            of Issues         Outstanding         Amount Outstanding         Outstanding
            -----                            ---------         -----------         ------------------         -----------
                                                             (in millions)                                   (in millions)

<S>                                              <C>            <C>                      <C>                    <C>     
California                                       337            $  5,669                 15.8%                  $  1,091
Florida                                           96               2,189                  6.1                        772
New York                                         218               3,508                  9.7                      1,733
Pennsylvania                                     157               2,106                  5.9                        551
New Jersey                                       175               1,733                  4.8                        461
Louisiana                                         81                 908                  2.5                        379
Michigan                                         118               1,145                  3.2                        361
Minnesota                                        113               1,080                  3.0                        102
Massachusetts                                     84               1,093                  3.0                        393
Illinois                                         193               1,320                  3.7                        210
Texas                                            248               1,804                  5.0                        412
Wisconsin                                        114                 762                  2.1                        186
All Other States                                 923              11,698                 32.5                      3,413
Non-U.S.                                          26                 979                  2.7                        627
                                               -----             -------                -----                    -------
                                                                                                            
             Total                             2,883             $35,994                100.0%                   $10,691
                                               =====             =======                =====                    =======
                                                                                                        
</TABLE>

15.  RELATED PARTY TRANSACTIONS

     The Subsidiaries ceded premiums of $19,890,000, $13,061,000 and $6,609,000
to Tokio Marine for the years ended December 31, 1996, 1995 and 1994,
respectively. The amounts included in prepaid reinsurance premiums at December
31, 1996 and 1995 for reinsurance ceded to Tokio Marine were $44,634,000 and
$33,382,000, respectively. Reinsurance recoverable on unpaid losses ceded to
Tokio Marine was $477,000 and $323,000 at December 31, 1996 and 1995,
respectively.

     The Subsidiaries ceded premiums of $15,409,000, $7,522,000 and $9,390,000
on a quota share basis to affiliates of U S WEST for the years ended December
31, 1996, 1995 and 1994, respectively, of which $372,000, $629,000 and
$1,838,000, respectively, were ceded to Commercial Reinsurance Company
(Commercial Re). The amounts included in prepaid reinsurance premiums for
reinsurance ceded to these affiliates were $49,649,000 and $39,918,000 at
December 31, 1996 and 1995, respectively, of which $8,728,000 and $10,720,000,
respectively, were ceded to Commercial Re. The amounts of reinsurance
recoverable on unpaid losses ceded to these affiliates at December 31, 1996 and
1995 were $23,473,000 and $55,024,000, respectively, of which $19,170,000 and
$42,918,000, respectively, were ceded to Commercial Re. The Commercial Re
reinsurance agreement was subject to, and received, the non-disapproval of the
State of New York Insurance Department due to its nature as an affiliate
transaction. FSA has taken credit for the reinsurance ceded to Commercial Re.
<PAGE>

16.  DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

     The following estimated fair values have been determined by the Company
using available market information and appropriate valuation methodologies.
However, considerable judgment is necessary to interpret the data to develop the
estimates of fair value. Accordingly, the estimates presented herein are not
necessarily indicative of the amount the Company could realize in a current
market exchange. The use of different market assumptions and/or estimation
methodologies may have a material effect on the estimated fair value amounts.

     Long-term bonds -- The carrying amount of long-term bonds represents fair
value. The fair value of long-term bonds is based upon quoted market price.

     Short-term investments -- The carrying amount is fair value, which
approximates cost due to the short maturity of these instruments.

     Cash and cash equivalents, receivable for investments sold and payable for
investments purchased -- The carrying amount approximates fair value because of
the short maturity of these instruments.

     Deferred premium revenue, net of prepaid reinsurance premiums -- The
carrying amount of deferred premium revenue, net of prepaid reinsurance
premiums, represents the Company's future premium revenue, net of reinsurance,
on policies where the premium was received at the inception of the insurance
contract. The fair value of deferred premium revenue net of prepaid reinsurance
premiums is an estimate of the premiums that would be paid under a reinsurance
agreement with a third party to transfer the Company's financial guaranty risk,
net of that portion of the premium retained by the Company to compensate it for
originating and servicing the insurance contract.

     Installment premiums -- Consistent with industry practice, there is no
carrying amount for installment premiums since the Company will receive premiums
on an installment basis over the term of the insurance contract. Similar to
deferred premium revenue, the fair value of installment premiums is the
estimated present value of the future contractual premium revenues that would be
paid under a reinsurance agreement with a third party to transfer the Company's
financial guaranty risk, net of that portion of the premium retained by the
Company to compensate it for originating and servicing the insurance contract.

     Losses and loss adjustment expenses, net of reinsurance recoverable on
unpaid losses -- The carrying amount is fair value, which is the present value
of the expected cash flows for specifically identified claims and potential
losses in the Company's insured portfolio.

<TABLE>
<CAPTION>
                                                         December 31, 1996                        December 31, 1995
                                                         -----------------                        -----------------
(In thousands)                                         Carrying         Estimated            Carrying          Estimated
                                                        Amount         Fair Value             Amount           Fair Value
                                                        ------         ----------             ------           ----------
<S>                                                  <C>               <C>                  <C>                <C>       
Assets:
   Long-term bonds                                   $1,072,439        $1,072,439           $1,058,076         $1,058,076
   Short-term investments                                56,733            56,733               14,567             14,567
   Cash and cash equivalents                             25,054            25,054               39,217             39,217
   Receivable for securities sold                         --                --                   2,326              2,326

Liabilities:
   Deferred premium revenue, net of
      prepaid reinsurance premiums                      359,972           251,980              330,349            263,618
   Losses and loss adjustment expenses,
      net of reinsurance recoverable on
      unpaid losses                                      42,204            42,204               50,227             50,227
   Notes payable                                         30,000            30,000               30,000             30,000
   Payable for investments purchased                     14,390            14,390                9,516              9,516

Off-balance-sheet instruments:
   Installment premiums                                   --              102,988                --                82,212

</TABLE>
<PAGE>

17.  LIABILITY FOR LOSSES AND LOSS ADJUSTMENT EXPENSES

     The Company's liability for losses and loss adjustment expenses consists of
the case basis and general reserves. Activity in the liability for losses and
loss adjustment expenses is summarized as follows (in thousands):

<TABLE>
<CAPTION>
                                                                                Year Ended December 31,
                                                                                -----------------------
                                                                      1996                  1995                  1994
                                                                      ----                  ----                  ----
<S>                                                                <C>                  <C>                     <C>    
   Balance at January 1                                            $111,759             $  91,130               $36,094
   Less reinsurance recoverable                                      61,532                55,491                    79
                                                                   --------             ---------               -------
   Net balance at January 1                                          50,227                35,639                36,015
   Incurred losses and loss adjustment expenses:
          Current year                                                5,300                 3,000                 3,024
          Prior years                                                 1,574                 3,258                 --
          Related to Merger                                           --                   15,400                 --
   Paid losses and loss adjustment expenses:
          Current year                                                --                    --                   (3,397)
          Prior years                                               (14,897)               (7,070)                   (3)
                                                                   --------             ---------               -------
   Net balance December 31                                           42,204                50,227                35,639
   Plus reinsurance recoverable                                      29,875                61,532                55,491
                                                                   --------             ---------               -------
        Balance at December 31                                     $ 72,079              $111,759               $91,130
                                                                   ========             =========               =======
</TABLE>

     In 1994, the Company increased its general reserve by $3,024,000 for
origination of new business and transferred $16,932,000 of the general reserve
to its case basis reserves for projected losses on certain transactions, the
majority of which are in its discontinued commercial mortgage portfolio.

     During 1995, the Company increased its general reserve by $6,258,000, of
which $3,000,000 was for originations of new business and $3,258,000 was to
reestablish the general reserve for transfers from general reserves to case
basis reserves. During 1995, the Company transferred $10,788,000 from its
general reserve to case basis reserves associated predominantly with certain
residential mortgage and timeshare receivables transactions. Also in December
1995, FSA recognized a one-time increase of $15,400,000 to the general reserve
to provide for the insured portfolio it had assumed in the Merger with CGC in a
manner consistent with the Company's reserving methodology. Prior to the Merger,
CGC did not maintain a general reserve. Giving effect to all the 1995 events,
the general reserve totaled $31,798,000 at December 31, 1995.

     During 1996, the Company increased its general reserve by $6,874,000, of
which $5,300,000 was for originations of new business and $1,574,000 was to
reestablish the general reserve for transfers from general reserves to case
basis reserves. During 1996, the Company transferred $9,012,000 from its general
reserve to case basis reserves associated predominantly with certain residential
mortgage and timeshare receivables transactions. Giving effect to these
transfers, the general reserve totaled $29,660,000 at December 31, 1996.

     Reserves for losses and loss adjustment expenses are discounted at
risk-free rates. The amount of discount taken was approximately $17,944,000,
$15,276,000 and $14,588,000 at December 31, 1996, 1995 and 1994, respectively.
<PAGE>

18.  QUARTERLY FINANCIAL INFORMATION (UNAUDITED)

<TABLE>
<CAPTION>

(In thousands, except share data)                    First          Second          Third         Fourth         Full Year
                                                     -----          ------          -----         ------         ---------
<S>                                                  <C>             <C>            <C>            <C>             <C>     
1996
   Gross premiums written                            $52,580         $44,762        $38,994        $40,630         $176,966
   Net premiums written                               34,139          30,726         28,449         27,686          121,000
   Net premiums earned                                22,734          19,750         21,637         26,327           90,448
   Net investment income                              15,682          15,986         16,467         16,929           65,064
   Losses and loss adjustment expenses                 1,625           1,530          1,482          2,237            6,874
   Income before taxes                                26,234          25,211         22,948         35,378          109,771
             Net income                               19,544          18,748         17,210         25,258           80,760
   Earnings per common share                            0.62            0.61           0.58           0.83             2.64

1995
   Gross premiums written                            $26,792         $29,649        $21,890        $32,412         $110,743
   Net premiums written                               19,557          20,792         14,568         22,659           77,576
   Net premiums earned                                15,215          15,330         20,292         18,510           69,347
   Net investment income                              12,354          12,311         12,212         12,088           48,965
   Losses and loss adjustment expenses                 1,700           1,605          1,517         16,836           21,658
   Income before taxes                                14,414          21,652         28,338         10,638           75,042
             Net income                               10,805          15,484         20,272          8,477           55,038
   Earnings per common share                            0.42            0.59           0.79           0.33             2.13
</TABLE>


19.  PRO FORMA RESULTS OF ACQUISITION (UNAUDITED)

     The unaudited consolidated results of operations (in thousands) on a pro
forma basis as though the Merger had been consummated on January 1, 1994, and
excluding the effect of the one-time general reserve charge in 1995 of $15,400,
are as follows:

                                                       December 31,
                                                       ------------
                                               1995                  1994
                                               ----                  ----
   Total revenues                           $157,150              $136,046
   Total expenses                             44,239                39,561
   Earnings per common share                    2.53                  2.31

     The pro forma information is presented for informational purposes only and
is not necessarily indicative of the operating results that would have occurred
had the Merger been consummated as of January 1, 1994, nor are they necessarily
indicative of future operating results.
<PAGE>

[page 48 of 1996 Annual Report]

Common Stock Data

<TABLE>
<CAPTION>

                                                                           Market Price
                                                        ----------------------------------------------------
                                   Dividends per Share        High              Low             Close

<S>                                      <C>                 <C>              <C>              <C>    
1995
Quarter ended March 31                   $0.080              $21.500          $19.000          $21.500
Quarter ended June 30                    $0.080               25.500           21.500           25.000
Quarter ended September 30               $0.080               27.750           24.250           25.375
Quarter ended December 31                $0.080               27.000           24.750           24.875

1996
Quarter ended March 31                   $0.080               26.750           24.000           25.375
Quarter ended June 30                    $0.080               28.375           25.375           27.375
Quarter ended September 30               $0.095               30.000           25.750           29.500
Quarter ended December 31                $0.095               32.875           27.625           32.875
</TABLE>