SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549

                                    FORM 10-Q


               [ X ] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934

                 For the quarterly period ended August 31, 1998

                                       OR

             [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934
           For the transition period from ____________ to ____________

                          Commission file number 1-6817

                              Lehman Brothers Inc.
             (Exact Name of Registrant As Specified In Its Charter)

              Delaware                               13-2518466
   (State or other jurisdiction of       (I.R.S. Employer Identification No.)
    incorporation or organization)

          3 World Financial Center
              New York, New York                         10285
             (Address of principal                    (Zip Code)
                executive offices)

       Registrant's telephone number, including area code: (212) 526-7000


Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the  preceding 12 months (or for such  shorter  period that the  Registrant  was
required  to file  such  reports),  and  (2) has  been  subject  to such  filing
requirements for the past 90 days.
Yes    X    No ______

As of September 30, 1998,  1,006 shares of the  Registrant's  Common Stock,  par
value $.10 per share, were outstanding.



<PAGE>



                      LEHMAN BROTHERS INC. and SUBSIDIARIES

                                    FORM 10-Q

                      FOR THE QUARTER ENDED AUGUST 31, 1998

                                      INDEX


  Part I.     FINANCIAL INFORMATION                                Page Number

     Item 1.  Financial Statements - (unaudited)                       

                   Consolidated Statement of Income -
                     Three and Nine Months Ended
                     August 31, 1998 and 1997 .........................3


                   Consolidated Statement of Financial Condition -
                     August 31, 1998 and November 30, 1997 ............5

                   Consolidated Statement of Cash Flows -
                     Nine Months Ended
                     August 31, 1998 and November 30, 1997.............7

                   Notes to Consolidated Financial Statements..........9

     Item 2.  Management's Discussion and Analysis of
                Financial Condition and Results of Operations..........14

  Part II.        OTHER INFORMATION

     Item 1.  Legal Proceedings     ...................................33

     Item 6.  Exhibits and Reports on Form 8-K          ...............34

  Signatures...........................................................35

  EXHIBIT INDEX    ....................................................36

  Exhibits

<PAGE>


                                           LEHMAN BROTHERS INC. and SUBSIDIARIES
                                              CONSOLIDATED STATEMENT of INCOME
                                                         (Unaudited)
                                            (In millions, except per share data)

                                                       Three months ended
                                                   August 31         August 31
                                                     1998               1997
                                                ---------------      ----------
      Revenues
          Investment banking                          $  406         $  295
          Principal transactions                         145            195
          Commissions                                    108             90
          Interest and dividends                       4,083          3,339
          Other                                           24              8
                                                     -------         ------
               Total revenues                          4,766          3,927
          Interest expense                             3,928          3,228
                                                       -----          -----
               Net revenues                              838            699
                                                      ------          -----
      Non-interest expenses
          Compensation and benefits                      375            391
          Brokerage, commissions and 
           clearance fees                                 50             45
          Professional services                           18             21
          Communications                                  23             22
          Occupancy and Equipment                         14             17
          Business development                            18             16
          Management fees                                 22             36
          Depreciation and amortization                   14             13
          Other                                            6             27
                                                      ------          -----
                Total non-interest expenses              540            588
                                                      ------          -----
      Income before taxes                                298            111
          Provision for income taxes                     106             27
                                                      ------         ------
      Net income                                        $192           $ 84
                                                       =====           ====


                 See notes to consolidated financial statements.


<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
                        CONSOLIDATED STATEMENT of INCOME
                                   (Unaudited)
                      (In millions, except per share data)


                                                          Nine months ended
                                                  August 31           August 31
                                                    1998                 1997
                                               ---------------        ---------
      Revenues
          Investment banking                    $ 1,088              $   697
          Principal transactions                    752                  579
          Commissions                               300                  247
          Interest and dividends                 11,486                9,224
          Other                                      33                   25
                                                -------               ------
               Total revenues                    13,659               10,772
          Interest expense                       11,067                8,897
                                                 ------                -----
               Net revenues                       2,592                1,875
                                                 ------                -----
      Non-interest expenses
          Compensation and benefits               1,251                1,010
          Brokerage, commissions and 
               clearance fees                       140                  150
          Professional services                      55                   64
          Communications                             70                   66
          Occupancy and equipment                    44                   49
          Business development                       59                   51
          Management fees                            70                  127
          Depreciation and amortization              41                   39
          Other                                      32                   53
                                                  -----                -----
                Total non-interest expenses       1,762                1,609
                                                  -----                -----
      Income before taxes                           830                  266
          Provision for income taxes                312                   76
                                                  -----                -----
      Net income                                  $ 518                $ 190
                                                   =====               =====



                 See notes to consolidated financial statements.


<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
                  CONSOLIDATED STATEMENT OF FINANCIAL CONDITION
                                   (Unaudited)
                                  (In millions)


<TABLE>
<CAPTION>

                                                                                       August 31      November 30
 ASSETS                                                                                  1997             1998
 ------                                                                                  ----             ----
<S>                                                                                     <C>           <C>      
 Cash and cash equivalents                                                              $ 604         $     220

 Cash and securities segregated and on deposit
   for regulatory and other purposes                                                    1,587             1,128

 Securities and other financial instruments owned:
    Governments and agencies                                                           25,148            17,467
    Corporate equities                                                                  8,467             5,439
    Corporate debt and other                                                            7,441             5,544
    Mortgages and mortgage-backed                                                       6,352             2,751
    Derivatives and other contractual agreements                                        5,803             5,528
    Certificates of deposit and other money market instruments                          3,430             2,248
                                                                                       ------           -------
                                                                                       56,641            38,977
                                                                                       ------            ------
 Collateralized short-term agreements:
    Securities purchased under agreements to resell                                    57,940            49,610
    Securities borrowed                                                                18,167            13,661

 Receivables:
    Brokers, dealers and clearing organizations                                         2,088             3,148
    Customers                                                                           4,793             3,874
    Others                                                                              5,570             3,107

 Property, equipment and leasehold improvements
   (net of accumulated depreciation and amortization
   of $553 in 1998 and $533 in 1997)                                                      263               262

 Other assets                                                                             251               146

 Excess of cost over fair value of net assets
   acquired (net of accumulated amortization
   of $107 in 1998 and $102 in 1997)                                                      154               158
                                                                                     --------          --------
        Total assets                                                                 $148,058          $114,291
                                                                                     ========          ========


</TABLE>



                 See notes to consolidated financial statements.


<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
            CONSOLIDATED STATEMENT OF FINANCIAL CONDITION (Continued)
                                   (Unaudited)
                        (In millions, except share data)

<TABLE>
<CAPTION>


                                                                                   August 31     November 30
                                                                                     1998           1997
                                                                                  ----------     -----------

LIABILITIES AND STOCKHOLDER'S EQUITY
<S>                                                                                  <C>            <C>   
Short-term debt                                                                      $1,067         $  740
Securities and other financial instruments sold but not yet purchased:
   Governments and agencies                                                          12,787          8,556
   Corporate equities                                                                 4,373          3,124
   Corporate debt and other                                                           1,976          1,664
   Derivatives and other contractual agreements                                       4,049          3,685
                                                                                    -------        -------
                                                                                     23,185         17,029
Collateralized short-term financings:
   Securities sold under agreements to repurchase                                    67,555         56,017
   Securities loaned                                                                  8,447          7,764
Advances from Holdings and other affiliates                                          25,344         14,777
Payables:
   Brokers, dealers and clearing organizations                                        5,715          3,127
   Customers                                                                          7,852          6,118
Accrued liabilities and other payables                                                1,948          2,166
Long-term debt:
   Senior notes                                                                         163            229
   Subordinated indebtedness                                                          4,313          4,313
                                                                                   --------      ---------
           Total liabilities                                                        145,589        112,280
                                                                                    -------        -------
Commitments and contingencies

STOCKHOLDER'S EQUITY
Preferred stock, $0.10 par value; 10,000 shares authorized;
    None outstanding
Common stock, $0.10 par value; 10,000 shares authorized;
           1,006 shares issued and outstanding
Additional paid-in capital                                                            1,756         1,756
Foreign currency translation adjustment                                                   2             3
Retained earnings                                                                       711           252
                                                                                 ------------   ---------
          Total stockholder's equity                                                  2,469         2,011
                                                                                 ------------   ----------
          Total liabilities and stockholder's equity                               $148,058      $114,291
                                                                                  =========      ========




</TABLE>

                 See notes to consolidated financial statements.


<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
                      CONSOLIDATED STATEMENT OF CASH FLOWS
                                   (Unaudited)
                                  (In millions)

<TABLE>
<CAPTION>


                                                                                        Nine months ended
                                                                                   August 31      August 31
                                                                                     1998            1997
                                                                                  ----------     ---------
   CASH FLOWS FROM OPERATING ACTIVITIES
<S>                                                                              <C>            <C>     
   Net income                                                                    $    518       $    190
   Adjustments to reconcile net income to net cash used in
        operating activities:
     Depreciation and amortization                                                     41             39
     Provisions for losses and other reserves                                          29             41
     Deferred tax benefit                                                                            (24)
     Other adjustments                                                                 20             13
   Net change in:
     Cash and securities segregated                                                  (459)          (242)
     Securities and other financial instruments owned                             (17,664)        (4,215)
     Securities purchased under agreements to resell                               (8,330)       (15,727)
     Securities borrowed                                                           (4,506)         3,823
     Receivables from brokers, dealers and clearing organizations                   1,060            940
     Receivables from customers                                                      (919)             5
     Securities and other financial instruments sold but
        not yet purchased                                                           6,156            921
     Securities sold under agreements to repurchase                                11,538          1,743
     Securities loaned                                                                683             39
     Payables to brokers, dealers and clearing organizations                        2,588          1,665
     Payables to customers                                                          1,734         (1,112)
     Accrued liabilities and other payables                                          (247)          (210)
     Other operating assets and liabilities, net                                   (2,581)           723
                                                                                 ----------       --------

             Net cash used in operating activities                               $(10,339)       $(2,958)
                                                                                 ---------        -------


</TABLE>

                 See notes to consolidated financial statements.


<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
                CONSOLIDATED STATEMENT OF CASH FLOWS (Continued)
                                   (Unaudited)
                                  (In millions)


<TABLE>
<CAPTION>



                                                                                      Nine months ended
                                                                                   August 31       August 31
                                                                                      1998            1997
                                                                                   -------         ---------
     CASH FLOWS FROM FINANCING ACTIVITIES
<S>                                                                                  <C>               <C> 
     Principal payments of senior notes                                              $(79)             $(1)
     Proceeds from issuance of subordinated indebtedness                              750              858
     Principal payments of subordinated indebtedness                                 (757)            (750)
     Net proceeds from (payments for) short-term debt                                 327           (1,541)
     Increase in advances from Holdings and other
         affiliates                                                                10,567            4,127
     Capital contributions                                                                              48
     Dividends and capital distributions paid                                         (60)             (38)
                                                                                   --------          -----
                 Net cash provided by financing activities                         10,748            2,703
                                                                                   --------          -----

     CASH FLOWS FROM INVESTING ACTIVITIES
     Purchases of property, equipment and leasehold improvements                      (25)             (12)
                                                                                   --------          -----
                Net cash used in investing activities                                 (25)             (12)
                                                                                   --------          -----
                Net change in cash and cash equivalents                               384             (267)
                                                                                   --------          -----
     Cash and cash equivalents, beginning of period                                   220              396
                                                                                   --------          -----
                Cash and cash equivalents, end of period                            $ 604             $129
                                                                                    =======           ====



</TABLE>


SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION (in millions)

         Interest  paid  totaled  $11,070 and $8,930 for the nine  months  ended
August 31, 1998 and 1997, respectively.  Income taxes paid totaled $482 and $313
for the nine months ended August 31, 1998 and 1997, respectively.


                 See notes to consolidated financial statements.

<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
                   NOTES to CONSOLIDATED FINANCIAL STATEMENTS


    1.  Basis of Presentation:

         The consolidated  financial  statements  include the accounts of Lehman
    Brothers  Inc.,  a  registered   broker-dealer   ("LBI")  and   subsidiaries
    (collectively,  the "Company").  LBI is a wholly-owned  subsidiary of Lehman
    Brothers  Holdings  Inc.  ("Holdings").  LBI is one  of the  leading  global
    investment banks serving institutional,  corporate, government and high-net-
    worth individual clients and customers. The Company's worldwide headquarters
    in New York are  complemented  by offices in  additional  locations in North
    America, Europe, the Middle East, Latin America and the Asia Pacific Region.
    The  Company  is engaged  in  providing  financial  services.  All  material
    intercompany   accounts   and   transactions   have   been   eliminated   in
    consolidation.  The  Company's  financial  statements  have been prepared in
    accordance  with the rules and  regulations  of the  Securities and Exchange
    Commission  (the "SEC") with respect to the Form 10-Q and reflect all normal
    recurring adjustments which are, in the opinion of management, necessary for
    a fair  presentation  of the  results  for the  interim  periods  presented.
    Pursuant to such rules and regulations,  certain footnote  disclosures which
    are normally required under generally  accepted  accounting  principles have
    been omitted. It is recommended that these consolidated financial statements
    be read in conjunction with the audited  consolidated  financial  statements
    included in the  Company's  Annual Report on Form 10-K for the twelve months
    ended  November 30, 1997 (the "Form 10-K").  The  Consolidated  Statement of
    Financial  Condition  at  November  30,  1997 was  derived  from the audited
    financial statements.

         The nature of the  Company's  business  is such that the results of any
    interim period may vary significantly from quarter to quarter and may not be
    indicative of the results to be expected for the fiscal year.  Certain prior
    period amounts reflect  reclassifications to conform to the current period's
    presentation.

    2.  Accounting Policies:

         On  January  1, 1998,  SFAS No.  125,  "Accounting  for  Transfers  and
    Servicing of Financial  Assets and  Extinguishments  of Liabilities"  became
    fully effective.  Previously,  the FASB had deferred until that date certain
    provisions of SFAS No. 125 pertaining to repurchase  agreements,  securities
    lending  and similar  financing  transactions.  As a result of adopting  the
    deferred  provisions  of SFAS No. 125,  the Company  has  recognized  on its
    August 31, 1998 Consolidated Statement of Financial Condition, approximately
    $100 million of collateral controlled on certain financing  transactions and
    a  corresponding  obligation to return such collateral at the termination of
    such transactions.

         In March 1998,  the  Accounting  Standards  Executive  Committee of the
    American  Institute  of Certified  Public  Accountants  issued  Statement of
    Position 98-1,  "Accounting for the Costs of Computer Software  Developed or
    Obtained for Internal Use" (the "SOP").  The SOP requires that certain costs
    incurred in connection  with  developing or obtaining  software for internal
    use be  capitalized.  The SOP  requires  prospective  application  as of the
    beginning of an entity's fiscal year without adjustment for costs that would
    have  been  capitalized  had the SOP been in effect  in prior  periods.  The
    Company  has  elected  early  adoption  of  this  accounting   pronouncement
    effective  as of the  beginning  of its 1998  fiscal  year  and  capitalized
    approximately  $6.1  million of purchased  software  and other  internal use
    software costs during the nine months of fiscal 1998.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                   NOTES to CONSOLIDATED FINANCIAL STATEMENTS


         In June 1998, the Financial  Accounting Standards Board issued SFAS No.
    133, Accounting for Derivative Instruments and for Hedging Activities, which
    requires all  derivatives to be recorded on the balance sheet at fair value.
    SFAS No. 133 is  effective  for years  beginning  after June 15,  1999.  The
    expected  impact of adoption on the Company's  results of operations has not
    yet been  determined,  however it is not likely to be material since most of
    the Company's derivatives are carried at fair value.

    3.  Long-Term Debt:

         During the nine months ended August 31, 1998,  the Company  issued $750
    million of subordinated  U.S. debt of which $600 million was fixed rate debt
    maturing in 2008, and $150 million was floating rate debt with a maturity in
    2002.

         The fixed rate debt has been  effectively  converted  to floating  rate
    obligations,  based on the London Interbank Offered Rates ("LIBOR"), through
    the use of interest rate swaps

         In addition,  $836 million of  long-term  debt matured  during the nine
     months ended August 31, 1998.

    4.  Capital Requirements:

         As a registered  broker-dealer,  LBI is subject to SEC Rule 15c3-1, the
    Net Capital  Rule,  which  requires  LBI to maintain net capital of not less
    than the  greater of 2% of  aggregate  debit  items  arising  from  customer
    transactions,  as  defined,  or 4% of funds  required to be  segregated  for
    customers'  regulated  commodity  accounts,  as defined. At August 31, 1998,
    LBI's  regulatory net capital,  as defined,  of $1,376 million  exceeded the
    minimum requirement by $1,247 million.

         The  Company's  "AAA" rated  derivatives  subsidiary,  Lehman  Brothers
    Financial  Products  Inc.  ("LBFP"),  has  established  certain  capital and
    operating  restrictions  which are reviewed by various rating  agencies.  At
    August 31, 1998, LBFP had capital which exceeded the requirement of the most
    stringent rating agency by approximately $140 million.

         Repayment  of  subordinated   indebtedness  and  certain  advances  and
    dividend  payments by LBI are  restricted by the  regulations of the SEC and
    other regulatory agencies.  In addition,  certain investments  governing the
    indebtedness of LBI contractually limit its ability to pay dividends.

    5.  Derivative Financial Instruments:

         In the normal course of business,  the Company  enters into  derivative
    transactions to satisfy the needs of its clients and to manage the Company's
    own  exposure  to  market  and  credit  risks  resulting  from  its  trading
    activities in cash instruments  (collectively,  "Trading-Related  Derivative
    Activities").

         The Company  records its  Trading-Related  Derivative  Activities  on a
    mark-to-market   basis  with  realized  and  unrealized   gains  and  losses
    recognized currently in Principal transactions in the Consolidated Statement
    of Income.  Unrealized gains and losses on derivative contracts are recorded
    on a net basis in the  Consolidated  Statement  of Financial  Condition  for
    those transactions with counterparties  executed under a legally enforceable
    master  netting  agreement and are netted  across  products and against cash
    collateral when such provisions are stated in the master netting  agreement.

<PAGE>


                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                   NOTES to CONSOLIDATED FINANCIAL STATEMENTS



    Listed in the  following  table is the fair value and average  fair value of
    the Company's Trading-Related Derivative Activities.  Average fair values of
    these  instruments  were  calculated  based  upon  month-end   statement  of
    financial  condition  values,   which  the  Company  believes  do  not  vary
    significantly  from the average  fair value  calculated  on a more  frequent
    basis.  Variances  between average fair values and period-end values are due
    to changes in the volume of activities in these  instruments  and changes in
    the  valuation of these  instruments  due to variations in market and credit
    conditions.

<TABLE>
<CAPTION>


                                                                                                     Average Fair Value*
                                                                       Fair Value*                    Nine Months Ended
                                                                      August 31, 1998                 August 31, 1998
                                                                 ------------------------        --------------------
    (in millions)                                                 Assets      Liabilities          Assets       Liabilities
-----------------------------------------------------------------------------------------------------------------------------
    Interest rate and currency swaps and options
<S>                                                               <C>           <C>              <C>             <C>   
     (including caps, collars and floors)                         $4,674        $2,781           $ 4,323         $2,435
    Foreign exchange forward contracts and options                   506           502               586            570
    Options on other fixed income securities,
     mortgage-backed securities forward contracts
     and options                                                     382           375               511            552
    Equity contracts (including equity, warrants
     and options)                                                    223           384               190            236
    Commodity contracts (including swaps, forwards,
     and options)                                                     18             7                24              7
                                                                -------------------------------------------------------
    Total                                                      $   5,803        $4,049            $5,634         $3,800
                                                               --------------------------------------------------------


</TABLE>


<TABLE>
<CAPTION>

                                                                                                    Average Fair Value*
                                                                  Fair Value*                       Twelve Months Ended
                                                                November 30, 1997                    November 30, 1997
                                                                -----------------                  -------------------
    (in millions)                                                 Assets      Liabilities          Assets         Liabilities
-----------------------------------------------------------------------------------------------------------------------------
    Interest rate and currency swaps and options
<S>                                                               <C>           <C>                <C>             <C>   
     (including caps, collars and floors)                         $4,123        $2,344             $4,227          $2,295
    Foreign exchange forward contracts and options                 1,066         1,072                847           1,120
    Options on other fixed income securities,
     mortgage-backed securities forward contracts
     and options                                                     200           200                244             221
    Equity contracts (including equity, warrants
     and options)                                                     87            63                102              50
    Commodity contracts (including swaps, forwards,
     and options)                                                     52            66                 34              19
                                                                 --------------------------------------------------------
    Total                                                         $5,528        $3,685             $5,454          $3,705
                                                                  -------------------------------------------------------


</TABLE>

  * Amounts  represent  carrying  value  (exclusive  of  collateral)  and do not
    include   receivables  or  payables  related  to   exchange-traded   futures
    contracts.

         Assets included in the table above  represent the Company's  unrealized
    gains,  net of unrealized  losses for  situations in which the Company has a
    master netting agreement. Similarly,  liabilities represent net amounts owed
    to counterparties.  Therefore, the fair value of assets/liabilities  related


<PAGE>


                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                   NOTES to CONSOLIDATED FINANCIAL STATEMENTS



    to  derivative  contracts at August 31, 1998  represents  the  Company's net
    receivable/payable for derivative financial instruments before consideration
    of  collateral.  Included  within the $5,803 million fair value of assets at
    August 31, 1998 was $5,615  million  related to swaps and OTC  contracts and
    $188  million  related  to  exchange-traded  option and  warrant  contracts.
    Included within the $5,528 million fair value of assets at November 30, 1997
    was  $5,444  million  related  to swaps and OTC  contracts  and $84  million
    related to exchange-traded option and warrant contracts.

         With respect to OTC contracts,  including  swaps, the Company views its
    net credit  exposure to be $4,666 million at August 31, 1998 (including $711
    million from  affiliates),  representing the fair value of the Company's OTC
    contracts in an unrealized gain position,  after consideration of collateral
    of $949 million.  Presented below is an analysis of the Company's net credit
    exposure  (after  allocation  of  collateral)  at  August  31,  1998 for OTC
    contracts  based upon actual ratings made by external  rating agencies or by
    equivalent  ratings  established  and  utilized by the  Company's  Corporate
    Credit Department.

    Counterparty                    S&P/Moody's
     Risk Rating                    Equivalent              Net Credit Exposure
    ------------               -------------------------    -------------------
           1                   AAA/Aaa                                  19%
           2                   AA-/Aa3 or higher                        21%
           3                   A-/A3 or higher                          49%
           4                   BBB-/Baa3 or higher                       8%
           5                   BB-/Ba3 or higher                         3%
           6                   B+/B1 or lower                            -%

         The   Company  is  also   subject  to  credit   risk   related  to  its
    exchange-traded derivative contracts.  Exchange-traded contracts,  including
    futures and certain  options,  are transacted  directly on the exchange.  To
    protect  against the potential for a default,  all exchange  clearing houses
    impose net capital  requirements  for their  membership.  Additionally,  the
    exchange clearing house requires counterparties to futures contracts to post
    margin  upon the  origination  of the  contract  and for any  changes in the
    market value of the  contract on a daily basis  (certain  foreign  exchanges
    provide for  settlement  within three days).  Therefore,  the  potential for
    losses from exchange-traded products is limited.

         For  a  further   discussion  of  the  Company's   derivative   related
    activities,  refer to  "Management's  Discussion  and  Analysis of Financial
    Condition  and  Results  of  Operations  -   Off-Balance   Sheet   Financial
    Instruments and Derivatives" and Notes 1 and 8 to the Consolidated Financial
    Statements, included in the Form 10-K.

    6.  Other Commitments and Contingencies:

         In  connection   with  its  financing   activities,   the  Company  has
    outstanding  commitments under certain lending arrangements of approximately
    $3.5 billion at August 31, 1998 and $1.9 billion at November 30, 1997. These
    commitments require borrowers to provide acceptable  collateral,  as defined
    in the  agreements,  when  amounts are drawn  under the lending  facilities.
    Advances made under the above lending arrangements are typically at variable
    interest rates and generally provide for  over-collateralization  based upon
    the borrowers' creditworthiness.



<PAGE>



                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                   NOTES to CONSOLIDATED FINANCIAL STATEMENTS



    The  Company,  through its high yield sales and  trading  activities,  makes
    commitments to extend credit in loan syndication transactions principally to
    below investment grade borrowers and then participates a significant portion
    of  these   commitments.   These   commitments,   net  of  syndications  and
    participations, totaled $2.8 billion and $1.6 billion at August 31, 1998 and
    November  30,  1997,   respectively,   are  typically  secured  against  the
    borrower's  assets and have  fixed  maturity  dates.  The draw down of these
    facilities is generally contingent upon certain representations,  warranties
    and  contractual  conditions of the borrower.  Total  commitments may not be
    indicative of actual funding requirements as the Company intends to continue
    syndicating, selling, and/or participating these commitments.

         In  addition,  the  Company  had  lending  commitments  to  high  grade
    borrowers of $474 milliion at August 31, 1998.  These  commitments  also are
    typically secured against the borrower's assets,  have fixed maturity dates,
    and are generally  contingent upon certain  representatives,  warranties and
    contractual conditions of the borrower.

         The  Company  has   commitments   to  invest  up  to  $207  million  in
    partnerships,  which in turn  will  make  direct  merchant  banking  related
    investments. These commitments will be funded as required through the end of
    the respective  partnerships'  investment periods,  principally  expiring in
    2004.

         In  June  1998,  the  Company,  together  with a  consortium  of  other
    financial  services  companies,  sponsored a $5 billion  interim  loan fund,
    designed to extend  financing to clients in connection  with a wide range of
    domestic and international leveraged  transactions,  including acquisitions,
    corporate  recapitalization  and refinancing of existing debt. In connection
    therewith,  the Company  intends to provide up to $400 million to be used by
    the fund. Any drawdowns  under the facility are expected to be repaid within
    a short-term period. At August 31, 1998, the fund had no outstanding loans.

         In the normal  course of its  business,  the  Company  has been named a
    defendant  in a number  of  lawsuits  and  other  legal  proceedings.  After
    considering all relevant facts,  available insurance coverage and the advice
    of outside counsel,  in the opinion of the Company such litigation will not,
    in  the  aggregate,   have  a  material  adverse  effect  on  the  Company's
    consolidated financial position or results of operations.

         As a leading global investment bank, risk is an inherent part of all of
    the Company's  businesses  and  activities.  The extent to which the Company
    properly and effectively identifies,  assesses, monitors and manages each of
    the various types of risks involved in its trading (including  derivatives),
    brokerage,  and investment banking activities is critical to the success and
    profitability  of the Company.  The principal types of risks involved in the
    Company's  activities  are  market  risk,  credit or  counterparty  risk and
    transaction  risk.   Management  has  developed  a  control   infrastructure
    throughout  the Company to monitor and manage these risks on a global basis.
    For  further  discussion  of  these  matters,   refer  to  Note  10  to  the
    Consolidated Financial Statements, in the Form 10-K.

    7.  Related Party Transactions:

               In the normal course of business,  the Company engages in various
    securities  trading,   investment  banking  and  financial  activities  with
    Holdings  and many of its  subsidiaries  (the  "Related  Parties").  Various
    charges,  such as compensation and benefits,  occupancy,  administration and
    computer  processing are allocated  between the Related Parties,  based upon
    specific identification and allocation methods.

<PAGE>


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


     Business Environment

     The principal business activities of the Company are investment banking and
securities trading and sales, which by their nature are subject to volatility,
primarily due to changes in interest and foreign exchange rates, and security
valuations, global economic and political trends and industry competition.  As
a result, the Company's revenues and earnings may vary significantly from
quarter and from year to year.     

     The generally  favorable market and economic  conditions that characterized
fiscal 1997  continued  into the first  eight  months of the  Company's  current
fiscal  year  ("fiscal  1998").  During the first eight  months of fiscal  1998,
investor demand in the worldwide debt and equity markets  remained strong led by
continued   growth  in  the  U.S.   economy  and  the  favorable   interest-rate
environment.  The pace of  underwriting  for  combined  fixed  income and equity
securities  accelerated  to  record  levels.  The  pace  of  global  merger  and
acquisition  activity fueled  financing of all types.  Investors were focused on
worldwide market conditions,  particularly with respect to the potential effects
of the Asian  crisis,  as well as any signs of  potential  weakening in the U.S.
economy.

     Following  this  period of  relative  stability,  the  turmoil  in  various
emerging  markets  erupted in mid-August  particularily  with respect to Russia.
Events in Russia  drove all  emerging  market bond  yields  sharply  higher.  As
investors sought safe havens,  U.S. Treasury and European government bond yields
moved  sharply  lower while  spreads on other  fixed  income  products  widened.
Ten-year  U.S.  Treasury  yields fell by over 50 basis points (bp) to just under
5%, while yields on ten-year  German Bunds fell by just over 60bp to 4.2%,  both
representing  new global lows.  The yields on bonds of lower rated  corporations
also rose abruptly.  Deleveraging and reduced risk-taking  disrupted the flow of
funds  throughout  the  financial  markets and new  issuances of debt and equity
securities slowed.

     Since reaching  record levels in the middle of July, the U.S. equity market
is in the midst of the most  serious  correction  of the 1990's with the S&P 500
index down almost 20% from its peak to the trough on August 31. The  marketplace
continues to reflect concerns over the lingering Asian economic troubles,  which
spread to Russia and threaten Latin America, as well as political uncertainty in
Washington.  This  increased  risk  aversion  has resulted in a reduction in the
availability of credit and lower equity prices. After providing an annual return
of about 24% from the  beginning  of the fiscal  year to the July  peak,  equity
returns have fallen to almost zero for the first nine months of the fiscal year.

     Over the nine months to August,  European  equities  have  returned  16% in
dollar  terms  alongside   healthy  trading   volumes,   although  this  overall
performance  masks an extremely  strong 40% gain for the FT/S&P  European  Index
through the July peak,  followed  by a 17% fall to the end of August.  While the
bond  environment was supportive  throughout,  the impact of the crisis sweeping
emerging markets, including Russia's devaluation and debt restructuring, sparked
a severe  correction  amid highly volatile  market  conditions.  Far Eastern and
Latin  American  stock  markets  became  the  focus  of the  turmoil  and lost a


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


substantial  proportion  of their value over this  period with total  returns of
minus 23% and 40% as  measured by the FT/S&P  Pacific  Basin Index and IFC Latin
America Investable Index, respectively.

     Worldwide  underwriting volumes, which had been running at an unprecedented
rate for the first seven months of fiscal 1998,  saw a  significant  slowdown in
the last two months of the third quarter. While volumes for the entire year will
be record  setting,  the  Company  is not  anticipating  a return to the flow of
issuance volume it experienced  earlier this year due to the extreme  volatility
in  the  credit  markets.  Similarly,  equity  and  equity-related  underwriting
activity  has  mirrored  the market as a whole,  with record new issuance in the
first  eight  months  of fiscal  year 1998  followed  by  significantly  reduced
activity as a result of less favorable market conditions.

     Corporate Finance Advisory activities continued at record levels during the
first nine months of fiscal 1998.  Coming off a strong pace in 1997,  the volume
of  announced  transactions  during the first nine months of 1998  continued  to
reflect  the  trend of  consolidation,  deregulation  and  globalization  across
industry sectors. However, as a direct result of global market turmoil caused by
economic   uncertainties   throughout   the  world,   the  volume  of  announced
transactions has recently slowed.

     Although strong financial  markets  characterized the first eight months of
fiscal 1998,  recent events have  highlighted  the  cyclicality of the financial
services industry.  The current adverse market conditions impact competitors and
counterparties throughout the industry to varying degrees, including the Company
and all aspects of the  Company's  activities.  Management  is responding to the
changes and risks  inherent in this  environment  by reducing the Company's risk
exposure, shifting the mix of its balance sheet and reducing certain positions.





Note:Except for the historical  information  contained herein, this Management's
     Discussion  and Analysis of Financial  Condition  and Results of Operations
     contains forward-looking statements that are based on current expectations,
     estimates  and  projections  about  the  industries  in which  the  Company
     operates.  These  statements are not guarantees of future  performance  and
     involve certain risks, uncertainties and assumptions which are difficult to
     predict.  The Company  undertakes  no  obligation  to update  publicly  any
     forward-looking statements, whether as a result of new information,  future
     events or otherwise.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS



    Results of Operations
    For the Three Months Ended August 31, 1998 and 1997

         The Company  reported net income of $192 million for the third  quarter
ended  August 31, 1998  representing  an increase of 129% from net income of $84
million for the third  quarter ended August 31, 1997.  This  increase  reflected
across the board strength in the Company's  fixed income,  equity and investment
banking businesses especially in June and July. However,  results in August were
affected by several  unfavorable  economic  factors,  including  the widening of
spreads across U.S. and European fixed income  markets.  Spreads  widened due to
the impact of significant volatility in Russia and other emerging markets.

     Net revenues  increased to $838 million for the third  quarter of 1998 from
$699 million for the third  quarter of 1997.  The increase in net revenues  from
the third quarter of 1997  resulted from  continued  strong  performance  in the
global merger and acquisition advisory business, the debt and equity origination
businesses as well as foreign exchange and municipal bonds.

     As part of its market-making  activities,  the Company maintains  inventory
positions of varying amounts across a broad range of financial  instruments that
are marked-to-market on a daily basis and, along with the Company's  proprietary
trading positions,  give rise to principal  transactions  revenues.  The Company
utilizes  various  hedging  strategies  to minimize its exposure to  significant
movements in interest and foreign exchange rates and the equity markets.

     Net revenues from the  Company's  market-making  and trading  activities in
fixed income and equity products are recognized as either principal transactions
or net interest  revenues  depending upon the method of financing and/or hedging
related to  specific  inventory  positions.  The Company  evaluates  its trading
strategies  on an overall  profitability  basis which  includes  both  principal
transactions  revenues  and net  interest.  Therefore,  changes in net  interest
should  not be viewed in  isolation  but  should be viewed in  conjunction  with
revenues from principal transactions.

     The following  table of net revenues by business unit and the  accompanying
discussion  have been prepared in order to present the Company's net revenues in
a format that reflects the manner in which the Company  manages its  businesses.
For internal  management  purposes,  the Company has been  segregated  into four
major business units:  fixed income,  equity,  corporate finance  advisory,  and
merchant  banking.  Each  business  unit  represents  a  grouping  of  financial
activities and products with similar characteristics.  These business activities
result in revenues that are recognized in multiple revenue categories  contained
in the Company's Consolidated Statement of Income. Net revenues by business unit
contain  certain  internal  allocations,  including  funding  costs,  which  are
centrally managed.



<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Three Months Ended August 31, 1998

                         Principal
                     Transactions and                Investment
                       Net Interest     Commissions    Banking  Other     Total
--------------------------------------------------------------------------------
Fixed Income                  $264         $   8        $147    $  2       $421
Equity                          21            95         108       2        226
Corporate Finance 
  Advisory                      (5)                      142                137
Merchant Banking                (5)                        9                  4
Other                           25             5                  20         50
--------------------------------------------------------------------------------
                              $300          $108        $406     $24       $838
--------------------------------------------------------------------------------

Three Months Ended August 31, 1997

                         Principal
                     Transactions and                Investment
                       Net Interest     Commissions    Banking  Other     Total
--------------------------------------------------------------------------------
Fixed Income                  $258          $  6       $  87      $2       $353
Equity                          40            81          81                202
Corporate Finance
  Advisory                                                66                 66
Merchant Banking                 4                        61                 65
Other                            4             3                   6         13
--------------------------------------------------------------------------------
                              $306           $90        $295      $8       $699
--------------------------------------------------------------------------------

         Fixed Income.  The Company's fixed income net revenues reflect customer
    flow activities (both  institutional and high-net-worth  retail),  secondary
    trading,  debt underwriting,  syndicate and financing  activities related to
    fixed income products.  Fixed income products include dollar- and non-dollar
    government securities,  mortgage- and asset-backed securities,  money market
    products, dollar- and non-dollar corporate debt securities,  emerging market
    securities, municipal securities, financing (global access to debt financing
    sources including  repurchase and reverse  repurchase  agreements),  foreign
    exchange and fixed  income  derivative  products.  Fixed income net revenues
    increased  19% to $421  million  for the  third  quarter  of 1998  from $353
    million for the third  quarter of 1997.  The  increase in the third  quarter
    results  versus  the  prior  year  reflected  improved  results  in  foreign
    exchange,  municipal  bonds  and  derivative  products.  Investment  banking
    revenues, as a component of fixed income revenues, increased to $147 million
    for the third quarter of 1998 from $87 million for the third quarter of 1997
    due to  significantly  increased  underwriting  fees in high  yield and high
    grade corporates.

         Equity.  Equity net revenues  reflect  customer flow  activities  (both
    institutional  and  high-net-worth   retail),   secondary  trading,   equity
    underwriting,  equity  finance,  equity  derivatives  and  equity  arbitrage
    activities.  The Company's equity net revenues increased to $226 million for
    the third  quarter of 1998 from $202 million for the third  quarter of 1997.
    Higher  revenues  resulted from higher levels of customer flow activities in
    certain  U.S.  and  European  listed   securities,   as  well  as  increased
    underwriting volumes in convertible securities. Investment Banking revenues,
    as a component of equity  revenues,  increased to $108 million for the third
    quarter  of 1998  from $81  million  for the  third  quarter  of 1997 due to
    increased underwriting volumes in convertible securities.

<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


         Corporate  Finance  Advisory.  Corporate finance advisory net revenues,
    classified  in the  Consolidated  Statement  of  Income  as a  component  of
    investment  banking  revenues,  result  primarily  from  fees  earned by the
    Company in its role as strategic advisor to its clients.  This role consists
    of advising  clients on mergers and  acquisitions,  divestitures,  leveraged
    buyouts,   financial   restructurings,   and  a  variety   of   cross-border
    transactions.  Net  revenues  from  corporate  finance  advisory  activities
    increased to $137 million for the third  quarter of 1998,  reflecting a 108%
    increase from the $66 million  recognized in the third quarter of 1997. This
    increase  reflected the closing of several large  transactions  in the third
    quarter of 1998.

         Merchant  Banking.  The Company is the general  partner for five active
    merchant banking partnerships.  Current merchant banking investments held by
    the partnerships  include both publicly traded and privately held companies.
    Merchant banking net revenues represent the Company's proportionate share of
    net unrealized  gains and losses from the revaluation of investments held by
    the partnerships.  Such amounts are classified in the Consolidated Statement
    of Income as a component of investment  banking  revenues.  Merchant banking
    net revenues also reflect the net interest expense relating to the financing
    of the  Company's  investment  in the  partnerships.  Merchant  banking  net
    revenues were $4 million for the third quarter of 1998 down from $65 million
    in the third  quarter of 1997.  Net  revenues  in the third  quarter of 1997
    reflects the realized gains on the sale of the Company's remaining positions
    in certain publicly traded investments held by the partnerships.

         Non-Interest Expenses.  Non-interest expenses were $540 million for the
    third  quarter  of 1998 and $588  million  for the  third  quarter  of 1997.
    Management  fees  represent  the  allocation  of  various  charges,  such as
    compensation and benefits, occupancy, administration and computer processing
    between the  Company,  Holdings,  and other  affiliates  based upon  certain
    allocation  methods.  Management fees were $22 million for the third quarter
    of 1998 and $36  million  for the third  quarter  of 1997.  During the third
    quarter of 1998,  the  decrease in  management  fees was a result of reduced
    affiliate  activities  on  behalf  of  LBI  as  well  as  increased  Company
    activities on behalf of affiliates.

         Income Taxes.  The Company's  income tax provision was $106 million for
    the third  quarter of 1998  compared to $27 million for the third quarter of
    1997.  The  effective tax rate was 36% for the third quarter of 1998 and 24%
    for the third  quarter  of 1997.  The  increase  in the  effective  tax rate
    relates primarily to a significantly  higher level of pre-tax income,  which
    minimizes the impact of permanent adjustments.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Results of Operations
    For the Nine Months Ended August 31, 1998 and 1997

         The  Company  reported  net income of $518  million for the nine months
    ended August 31, 1998,  representing  an increase of 173% from net income of
    $190 million for the nine months ended August 31, 1997.

         Net revenues  increased  to $2,592  million for the nine months of 1998
    from  $1,875  million  for the nine  months  of 1997.  The  increase  in net
    revenues for the nine months of 1998  resulted from strong  performances  in
    the  global  merger  and  acquisition  advisory,  fixed  income  and  equity
    businesses.

         Principal  transactions and net interest  revenues  increased to $1,171
    million for the nine months of 1998 from $906 million for the nine months of
    1997.  Principal   transactions   revenues  increased  as  favorable  market
    conditions through the first eight months were characterized by low interest
    rates. In addition,  low inflation supported debt markets and helped to spur
    growth in the equity  markets in both the U.S.  and Europe.  Growth in fixed
    income  revenue  was paced by  derivatives,  municipal  bonds,  and  foreign
    exchange  product lines. Net interest  revenues  increased as a result of an
    increase in inventory and a shift in the  composition of the Company's fixed
    income portfolio.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS

         The  following   table  of  net  revenues  by  business  unit  and  the
    accompanying discussion have been prepared in order to present the Company's
    net  revenues  in a format  that  reflects  the manner in which the  Company
    manages  its  businesses.  Net  revenues by business  unit  contain  certain
    internal allocations, including funding costs, which are centrally managed.

    Nine Months Ended August 31, 1998

                        Principal
                     Transactions and                Investment
                       Net Interest   Commissions    Banking    Other     Total
--------------------------------------------------------------------------------
    Fixed Income           $1,062        $  20      $  484       $ 3     $1,569
    Equity                    102          268         259         2        631
    Corporate Finance
         Advisory             (13)                     311                  298
    Merchant Banking           (7)                      35                   28
    Other                      27           12          (1)       28         66
--------------------------------------------------------------------------------
                           $1,171         $300      $1,088       $33     $2,592
--------------------------------------------------------------------------------


    Nine Months Ended August 31, 1997

                           Principal
                        Transactions and             Investment
                           Net Interest  Commissions  Banking   Other   Total
-------------------------------------------------------------------------------
    Fixed Income           $791         $  24        $240       $ 4     $1,059
    Equity                  110           213         172         1        496
    Corporate Finance 
         Advisory                                     168                  168
    Merchant Banking         (3)                      117                  114
    Other                     8            10                    20         38
-------------------------------------------------------------------------------
                           $906          $247        $697       $25     $1,875
-------------------------------------------------------------------------------

         Fixed Income. Fixed income net revenues increased to $1,569 million for
    the nine months of 1998 from $1,059 million for the nine months of 1997. The
    increase  in the nine  months  of 1998  versus  the prior  year nine  months
    reflected  improved  performances  in a  number  of  fixed  income  products
    including  both sales and trading  and  syndicate  activities  in high yield
    corporates as well as increased contributions from fixed income derivatives,
    foreign exchange and municipal bonds partially  offset by decreased  results
    in mortgages.  Investment  banking revenues,  as a component of fixed income
    revenues,  increased  to $484  million for the nine months of 1998 from $240
    million  for the nine  months of 1997 due to  increased  underwriting  fees,
    particularly in high yield corporates.

         Equity. The Company's equity net revenues increased to $631 million for
    the nine  months  of 1998  from $496  million  for the nine  months of 1997.
    Higher revenues  resulted from increased  levels of customer flow activities
    in U.S. and European listed securities,  increased  underwriting volumes and
    improved  contributions  from  convertible  securities.  Investment  banking
    revenues,  as a component of equity revenues,  increased to $259 million for
    the nine months of 1998 from $172 million for the nine months of 1997 due to
    increased underwriting volumes in U.S. listed and convertible securities.


<PAGE>


                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS

         Corporate  Finance  Advisory.   Net  revenues  from  corporate  finance
    advisory  activities  increased  to $298 million for the nine months of 1998
    reflecting  a 77%  increase  from the $168  million  recognized  in the nine
    months of 1997. This increase  reflected improved market share and continued
    strength in the  overall  merger and  acquisition  market  environment.  For
    completed M&A  transactions,  Lehman has improved its worldwide ranking from
    #8 to #4,  increasing  its market share from 6.5% to 15.4%,  in part through
    participation  in 3 of the 5 largest  deals in the first nine  months of the
    1998 calendar year based on data supplied by Securities Data Company.

         Merchant  Banking.  Merchant  banking net revenues were $28 million for
    the nine months of 1998 and $114  million in the nine  months of 1997.  1998
    net revenues  reflect the unrealized gains recognized on the publicly traded
    investments  as well as  realized  gains on the sales of other  investments.
    1997  net  revenues   reflect  the  realized  gains  on  the  sales  of  the
    partnerships' interest in certain publicly traded investments.

         Non-Interest  Expenses.  Non-interest  expenses were $1,762 million for
    the nine  months of 1998 and  $1,609  million  for the nine  months of 1997.
    Management  fees  represent  the  allocation  of  various  charges,  such as
    compensation and benefits, occupancy, administration and computer processing
    between the  Company,  Holdings,  and other  affiliates  based upon  certain
    allocation methods.  Management fees were $70 million for the nine months of
    1998 and $127 million for the nine months of 1997. During the nine months of
    1998,  the  decrease in  management  fees was a result of reduced  affiliate
    activities  on  behalf of LBI as well as  increased  Company  activities  on
    behalf of affiliates.

         Income Taxes.  The Company's  income tax provision was $312 million for
    the nine  months of 1998 as  compared  to $76 million for the nine months of
    1997. The effective tax rate was 38% for the nine months of 1998 and 29% for
    the nine months of 1997.  The  increase in the  effective  tax rate  relates
    primarily to a significantly higher level of pre-tax income, which minimizes
    the impact of permanent adjustments.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Liquidity and Capital Resources


    Overview

    As a leading global investment bank that actively participates in the global
    capital  markets,  the Company has large and diverse  capital  requirements.
    Many of the businesses in which the Company operates are capital  intensive.
    Capital is  required  to finance,  among  other  things,  the portion of the
    Company's  securities  inventories  not funded on a secured basis,  merchant
    banking  activities and investments in fixed assets.  The Company's  primary
    activities are based on the execution of customer-related transactions. This
    flow of customer  business  supports  the rapid asset  turnover  rate of the
    Company's inventory.

     The  Company's   balance  sheet   consists   primarily  of  cash  and  cash
     equivalents,   securities  and  other  financial   instruments  owned,  and
     collateralized short-term financing agreements.  The liquid nature of these
     assets provides the Company with  flexibility in financing and managing its
     business.  The vast  majority of these assets are funded on a secured basis
     through  collateralized  short-term financing agreements with the remaining
     assets being funded through unsecured financing and capital.

    The Company's  total assets  increased to $148.1  billion at August 31, 1998
    from $114.3 billion at November 30, 1997,  reflecting an increase in secured
    customer  financing  activities  and the expansion of certain  higher margin
    business   lines  in  strategic   growth   areas  (i.e.,   high  yields  and
    mortgage-backed).

    Funding and Capital Policies

    The Company's Finance Committee is responsible for establishing and managing
    the funding and liquidity  policies of the Company.  These policies  include
    recommendations for capital and balance sheet size as well as the allocation
    of capital  and balance  sheet to product  areas.  Members of the  Company's
    treasury department and business unit financing groups work with the Finance
    Committee   to  ensure   coordination   of  global   funding   efforts   and
    implementation  of the funding and liquidity  policies.  Regional  asset and
    liability committees, aligned with the Company's geographic funding centers,
    are responsible for  implementing  funding  strategies for their  respective
    regions.

    The primary goal of the Company's funding policies is to provide  sufficient
    liquidity  and  availability  of  funding  sources  to meet the needs of the
    Company's businesses. The key elements of these policies are to:

     (1)  Maintain  a  Total  Capital   structure  that  supports  the  business
          activities  in which the Company is engaged.  Total Capital is defined
          as long-term debt, preferred stock and common stockholders' equity.

     (2)  Minimize liquidity and refinancing risk by funding the Company's 
          assets primarily on a secured basis.

     (3)  Obtain  diversified  funding  through  a global  investor  base  which
          increases liquidity and reduces concentration risk.

     (4)  Maintain funding availability in excess of actual utilization.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


      (5) Maintain sufficient financial resources to enable the Company
          to meet its  obligations  in periods  of  financial  stress  through a
          combination of collateralized short-term financings and Total Capital,
          as well as the implementation of a contingency funding plan.

    Short-Term Funding

    The Company  strives to maximize the portion of the Company's  balance sheet
    that is  funded  through  collateralized  borrowing  sources,  which in turn
    minimizes the reliance placed upon unsecured short-term debt. Collateralized
    borrowing  sources  include  cash  market  securities  and  other  financial
    instruments sold but not yet purchased, as well as collateralized short-term
    financings,  defined as  securities  sold  under  agreements  to  repurchase
    ("repos")  and  securities  loaned.  Because of their secured  nature,  OECD
    government  repos  and  other  investment  grade  types  of   collateralized
    borrowings are less  credit-sensitive  and have  historically  been a stable
    financing source irrespective of market conditions.

    The amount of the Company's  collateralized  borrowing  activities will vary
    reflecting  changes in the mix and overall  levels of  securities  and other
    financial   instruments  owned  which  are  driven  by  strategic   business
    objectives  and global  market  conditions.  The  majority of the  Company's
    assets are funded with collateralized  borrowing sources. At August 31, 1998
    and  November 30, 1997,  $95 billion and $77 billion,  respectively,  of the
    Company's total balance sheet of $148 billion and $114 billion at August 31,
    1998 and November 30, 1997, respectively, were financed using collateralized
    borrowing sources.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS



    Total Capital

    The Company  increased  its Total  Capital  base in 1998 to $6.9  billion at
    August 31, 1998 from $6.6 billion at November 30, 1997  primarily due to the
    retention of earnings.

                                        August 31            November 30
    (in millions)                         1998                  1997
--------------------------------------------------------------------------------
    Long-term Debt

     Senior Notes                           $163                    $229
     Subordinated Indebtedness             4,313                   4,313
                                         -------                 -------
                                           4,476                   4,542

    Stockholders' Equity                   2,469                   2,011


--------------------------------------------------------------------------------
    Total Capital                         $6,945                  $6,553
--------------------------------------------------------------------------------

    During the first nine  months of 1998,  the Company  issued $750  million in
    long-term  debt, and $836 million of long-term debt matured.  Long-term debt
    increased to $4.48 billion at August 31, 1998 from $4.54 billion at November
    30,  1997 with a weighted  average  maturity of 4.7 years at August 31, 1998
    and 4.5 years at November 30, 1997.

    Credit Ratings

    The Company,  like other  companies in the  securities  industry,  relies on
    external  sources  to  finance  a  significant  portion  of  its  day-to-day
    operations.  The  Company's  access  to and  cost of  funding  is  generally
    dependent  upon its short- and long- term debt ratings.  In September  1998,
    Moody's  reaffirmed  the  "stable"  long-term  debt  ratings of Holdings and
    changed  its  outlook  on the  Company  from  positive  to  stable.  Also in
    September,  Standard & Poor's,  as part of its  change in outlook  for firms
    throughout the securities industry,  put the Company's debt rating on Credit
    Watch with  negative  implications.  As of August 31,  1998,  the short- and
    long-term senior debt ratings of Holdings and LBI were as follows:

                                                             LBI
                                                 ---------------------------
                                              
                                                 Short-term      Long-term**
                                                 ----------      -----------
Duff & Phelps Credit Rating Co.                     D-1             A/A-
Fitch IBCA, Inc.                                    F-1             A/A-
Moody's                                              P2           A3*/Baal
S&P                                                 A-1             A+*/A
Thomas BankWatch                                   TBW-1            A+/A

*   Provisional ratings on shelf registration
** Senior/subordinated


<PAGE>
                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Lehman Brothers Derivative Products

    On July 16, 1998, the Company  announced  that it had  established a special
    purpose subsidiary that will provide  counterparties around the world with a
    wide variety of derivative  products and services.  The new company,  Lehman
    Brothers  Derivative  Products  Inc.  has been  assigned Aaa and AAAt credit
    ratings by Moody's Investor Services Inc. and Standard & Poor's Corporation,
    respectively.

    High Yield Securities

    The Company  underwrites,  trades,  invests and makes  markets in high yield
    corporate debt securities.  The Company also syndicates,  trades and invests
    in loans to below  investment  grade-rated  companies.  For purposes of this
    discussion, high yield debt securities are defined as securities or loans to
    companies  rated BB+ or lower,  or equivalent  ratings by recognized  credit
    rating  agencies,  as well as non-rated  securities  or loans which,  in the
    opinion of management,  are  non-investment  grade. The definition  excludes
    sovereign debt.  Non-investment  grade securities  generally involve greater
    risks than investment grade securities due to the issuer's  creditworthiness
    and the  liquidity of the market for such  securities.  In  addition,  these
    issuers  have  higher  levels of  indebtedness,  resulting  in an  increased
    sensitivity to adverse  economic  conditions.  The Company  recognizes these
    risks and aims to reduce market and credit risk through the  diversification
    of its products and  counterparties.  High yield debt securities are carried
    at market value,  and  unrealized  gains or losses for these  securities are
    reflected in the Company's  Consolidated  Statement of Income. The Company's
    portfolio  of such  securities  at August 31,  1998 and  November  30,  1997
    included long positions with an aggregate market value of approximately $2.4
    billion  and  $2.6  billion,  respectively,  and  short  positions  with  an
    aggregate  market  value of  approximately  $351  million and $151  million,
    respectively.  The portfolio  may, from time to time,  contain  concentrated
    holdings  of  selected  issues.  The  Company  may also,  from time to time,
    mitigate  its  net  exposure  to  any  single  issuer  through  the  use  of
    derivatives and other financial instruments. At August 31, 1998, the Company
    had no single net  exposure to an issuer of high yield  securities  or loans
    greater than $110 million.


    Lending Activities

    The  Company,  through its high yield sales and  trading  activities,  makes
    commitments to extend credit in loan syndication transactions principally to
    below investment  grade borrowers and participates a significant  portion of
    these  commitments.  These  commitments,  which are net of syndications  and
    participations,  totaled  $2.8  billion at August 31,  1998,  are  typically
    secured  against the borrower's  assets and have fixed maturity  dates.  The
    utilization  of  these  facilities  is  generally  contingent  upon  certain
    representations,  warranties  and  contractual  conditions  of the borrower.
    Total  commitments  may not be indicative of actual funding  requirements as
    the Company intends to continue syndicating,  selling,  and/or participating
    these commitments.

    In addition,  the Company had lending commitments to high grade borrowers of
    $474  million at August  31,  1998.  These  commitments  also are  typically
    secured against the borrower's  assets,  have fixed maturity dates,  and are
    generally   contingent   upon  certain   representatives,   warranties   and
    contractual conditions of the borrower.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Merchant Banking and Related Lending Activities

    The  Company's  merchant  banking  activities  include  investments  in five
    partnerships,  for which the  Company  acts as general  partner,  as well as
    direct  investments.  At August 31, 1998, the investment in merchant banking
    partnerships  was  $22  million.  The  Company's  policy  is  to  carry  its
    investments,  including its partnership interests,  at fair value based upon
    the Company's assessment of the underlying investments.

    The  Company  has   commitments   to  invest  up  to  $207  million  in  the
    partnerships,  which in turn  will  make  direct  merchant  banking  related
    investments. These commitments will be funded as required through the end of
    the respective  partnerships'  investment periods,  principally  expiring in
    2004.

    In June 1998,  the Company,  together with a consortium  of other  financial
    services  companies,  sponsored a $5 billion interim loan fund,  designed to
    extend  financing to clients in connection with a wide range of domestic and
    international  leveraged  transactions,  including  acquisitions,  corporate
    recapitalizations   and   refinancings   of  existing  debt.  In  connection
    therewith,  the Company  intends to provide up to $400 million to be used by
    the fund. Any drawdowns  under the facility are expected to be repaid within
    a short-term period. At August 31, 1998, the fund had no outstanding loans.


<PAGE>
                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Risk Management

    As a leading global investment banking company,  risk is an inherent part of
    the Company's  businesses.  Global  markets,  by their nature,  are prone to
    uncertainty and subject  participants to a variety of risks. The Company has
    developed  policies and procedures to identify,  measure and monitor each of
    the  risks  involved  in  its  trading,  brokerage  and  investment  banking
    activities on a global basis.  The  principal  risks of Lehman  Brothers are
    market, credit,  liquidity,  legal and operational risks. Risk management is
    considered to be of paramount  importance.  The Company devotes  significant
    resources across all of its worldwide trading operations to the measurement,
    management  and  analysis  of  risk,  including  investments  in  personnel,
    information technology infrastructure and systems.

    Market Risk

    Market risk  represents  the  potential  change in value of a  portfolio  of
    financial   instruments  due  to  changes  in  market  rates,   prices,  and
    volatilities.  Market  risk is present in cash  products,  derivatives,  and
    contingent claim structures that exhibit linear as well as non-linear profit
    and loss  sensitivity.  The  Company's  exposure  to market  risk  varies in
    accordance with the volume of client driven market-making transactions,  the
    size  of  the  Company's  proprietary  and  arbitrage  positions,   and  the
    volatility of financial  instruments  traded. The Company seeks to mitigate,
    whenever  possible,  excess market risk exposures through the use of futures
    and option contracts and offsetting cash market instruments.

    The Company  participates  globally in interest  rate,  equity,  and foreign
    exchange  markets.  The  Company's  fixed  income  division  has  a  broadly
    diversified  market  presence in U.S. and foreign  government  bond trading,
    emerging market  securities,  corporate debt (investment and  non-investment
    grade), money market instruments,  mortgages and mortgage-backed securities,
    asset-backed securities, municipal bonds, and interest rate derivatives. The
    Company's equity division facilitates domestic and foreign trading in equity
    instruments,   indices,  and  related  derivatives.  The  Company's  foreign
    exchange businesses are involved in trading currencies on a spot and forward
    basis as well as through derivative products and contracts.

    Value at Risk

    For purposes of Securities and Exchange Commission disclosure  requirements,
    the Company has elected to disclose an entity-wide value at risk analysis of
    virtually all of the Company's trading activities. The value at risk related
    to non-trading  financial  instruments  has been excluded from this analysis
    and not reported separately because the amounts were not material. The value
    at risk calculation  measures  potential losses in expected  revenues and is
    based  on a  methodology  which  uses a  one-day  holding  period  and a 95%
    confidence level. Value at risk as of each date presented below was measured
    by  analyzing  the  distribution  of  actual  trading  revenues  during  the
    preceding one year period and assumed a relatively consistent portfolio mix.

    Value at risk is one  measurement  of potential  losses in revenues that may
    result from adverse market  movements over a specified period of time with a
    selected   likelihood  of   occurrence.   Value  at  risk  has   substantial
    limitations,  including its reliance on historical  performance  and data as

<PAGE>
                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    valid predictors of the future. Consequently, value at risk is only one of a
    number  of  tools  the  Company   utilizes  in  its  daily  risk  management
    activities.  The Company's  value at risk for each component of market risk,
    and in total was as follows (in millions):

                                  August 31, 1998          November 30, 1997
                                  ---------------          -----------------
    Interest rate risk                   $10.8                    $9.8
    Equity price risk                      8.7                     4.7
    Foreign exchange risk                  1.1                     1.3
    Diversification benefit               (5.9)                   (4.8)
                                          -----                   ----
    Total Company                        $14.7                   $11.0
                                          ====                    ==== 

    Value at risk increased at August 31, 1998 because of dramatic  increases in
    volatility across a broad spectrum of asset classes.

    The  Company  utilizes a wide  variety of market  risk  management  methods,
    including stress and scenario  analysis,  limits for each trading  activity;
    marking all  positions  to market on a daily  basis;  daily  profit and loss
    analyses;   position  reports;   aged  inventory  position   analyses;   and
    independent verification of all inventory pricing. The Company believes that
    these  procedures,  which stress timely  communication  between the risk and
    trading  areas and senior  management,  are  critical  elements  of the risk
    management process.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS



    Impact of EMU

    As of January 1, 1999,  11 European  countries  will enter into the European
    economic and monetary union ("EMU") and replace their local  currencies with
    a single currency,  the Euro.  During a three-year  transition  period,  the
    national   currencies   will   continue  to  circulate  but  only  as  fixed
    denominations of the Euro.  Commencing on January 1, 1999, the settlement of
    non-cash transactions  previously  denominated in the participating national
    currencies will predominately be effected in Euros.

    To date,  the Council of Ministers  of the  European  Union has approved the
    following  states for entry into EMU:  Austria,  Belgium,  Finland,  France,
    Germany, Ireland, Italy, Luxembourg, the Netherlands, Portugal, and Spain.

    In order to have  all  areas of the  Company  prepared  for EMU  before  the
    scheduled  start date of January 1, 1999,  the  Company  has  implemented  a
    worldwide  EMU  conversion  and  testing  plan.  A  full-time  team has been
    assigned to assess the impact on the Company's global  infrastructure and to
    perform all required  systems  changes.  The Company has also been reviewing
    and planning for the impact of the conversion in its various business areas.
    The Company has  completed  the  analysis,  design,  and build phases of the
    conversion and will focus on testing  throughout the next several months. In
    addition,  the Company  will be  directing  its efforts  toward the detailed
    planning of the conversion  weekend  (December 31, 1998 to January 3, 1999).
    The Company's plan is currently on schedule,  and integrated systems testing
    has commenced.

    Dress  rehearsals of conversion  weekend are planned.  These rehearsals will
    simulate the actual conversion  weekend as closely as possible.  High volume
    tests are being run with  production  volumes  to ensure  that  systems  can
    handle the conversion  volume within acceptable  time-frames.  The Company's
    test  programs  are  designed  to  establish  its  ability  to  process  all
    transactions in the new  environment.  The Company is also  participating in
    industry  testing where  practicable,  as organized by regulatory and market
    agencies.

    Many areas of the Company will be affected by the introduction of the single
    currency.  As with the Year 2000 issue,  EMU poses various  operating risks.
    EMU will require many changes to the Company's  operations  and  technology,
    including  currency  conversions,   modifications  of  trading  payment  and
    settlement systems, and the redenomination of securities.  This will require
    the  conversion  of  exceptionally  large  amounts of data in the  Company's
    systems.


    The Company has incurred  and expects to continue to incur  expenses for the
    internal  technology  and  operations  staff,  as well as costs for  outside
    consultants,  in order to  implement  its EMU  conversion  plan.  Management
    currently  estimates  that the cost of its EMU  conversion  program  will be
    approximately  $7.5  million,  of which $3 million has been incurred to date
    and expensed.

    The  changes to the  Company's  data and  computer  systems  will affect its
    clearance,  settlement and financial reporting activities,  along with other
    key operations of the Company.  If not properly  implemented,  these changes
    could lead to failed  settlements,  inability to reconcile trading positions
    and funding  disruptions.  In addition,  the Company is dependent for proper

<PAGE>


                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    transactions  clearance  and  reporting  on many  third  parties,  including
    counterparties,  clearing  agents,  banks,  exchanges,  clearing  houses and
    providers of information.  Errors arising in the Company's or third parties'
    systems  could also lead to  erroneous  entries in the  Company's  books and
    records.  These  events  could  result  in  misstatement  of  the  Company's
    financial  condition and results of operations,  could impair its ability to
    manage  its  risks,  and  result in a  material  loss,  regulatory  actions,
    reputational harm and legal liability.

         While  convergence  to the Euro has reduced  client  demand for certain
    transactions,  which has impacted the Company's  foreign  exchange and fixed
    income activities in Europe, the Company  anticipates that new opportunities
    in Europe will be created  through an expansion of activities in mergers and
    acquisitions,  investment  grade and high yield debt  capital  markets,  and
    equity issuance and asset allocation.  Overall,  management anticipates that
    implementation  of EMU will not, by itself,  materially affect the financial
    results of the Company in an adverse manner.

         Although  all key  suppliers  have  committed  that  they  will be Euro
    compliant,  the Company can give no assurance  that third parties on whom it
    depends,  will  have  the  systems  necessary  to  process  Euro-denominated
    transactions.  Moreover,  disruption in the activity in the European markets
    because of the conversion to the Euro could hurt the Company's businesses in
    those markets,  resulting in lost revenues and increased  costs.  Management
    cannot  predict the  magnitude  of any such  reduction  or its impact on the
    Company's financial results.

          As  part  of the  conversion  process,  the  Company  is  establishing
     detailed  contingency  plans. The contingency plans will provide mechanisms
     to assess  and  communicate  the  impact of any  delays.  These  plans also
     address  likely  problems in the  aftermath  of  conversion  with a view to
     maximizing the Company's ability to avoid disruption.


<PAGE>

                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    Impact of the Year 2000

    The Year 2000 issue is the result of many  computer  programs  and  imbedded
    chips  being  written  using two  digits  rather  than  four to  define  the
    applicable  year.  Many  of  the  Company's   computer  programs  that  have
    date-sensitive  software  may  recognize  a date using  "00"as the year 1900
    rather than the year 2000.

    If not addressed  and completed on a timely basis,  failure of the Company's
    computer  systems to process Year 2000 related data  correctly  could have a
    material adverse effect.  Failures of this kind could, for example,  lead to
    incomplete or inaccurate accounting,  settlement failures,  trade processing
    or recording errors in securities,  currencies, commodities or other assets.
    It could also lead to uncertainty  regarding risk,  exposures and liquidity.
    If not addressed, the potential risks to the Company include financial loss,
    legal liability, interruption to business and regulatory actions.

    The  Company  established  a team in 1996 to modify or replace and then test
    the  appropriate  software and equipment to ensure that Year 2000 issues are
    addressed.  The  Company  presently  believes  that  with  modifications  to
    existing software and conversions to new software,  the Year 2000 issue will
    be resolved for all the Company's own systems worldwide.

    However,  even if these changes are successful,  the Company remains at risk
    from Year 2000 failures  caused by third parties.  The Company has therefore
    initiated efforts with key counterparties,  exchanges,  agencies,  utilities
    and suppliers,  among others, to assess and wherever possible remediate Year
    2000 issues.  To date, the Company has not received  sufficient  information
    from certain vendors and international markets to complete its assessment of
    Year 2000 awareness.

    Examples of  problems  that could  result from the failure by third  parties
    with whom the Company interacts to remediate Year 2000 bugs include:  (i) in
    the case of exchanges and clearing agents,  funding disruptions,  failure to
    trade  in  certain  markets  and  settlement  failures;  (ii) in the case of
    counterparties and clients,  accounting and financial  difficulties to those
    parties  that may  expose  the  Company to  increased  credit  risk and lost
    business;  (iii) in the case of  vendors,  service  failures  such as power,
    telecommunications, elevator operations and loss of security access control;
    (iv) in the case of banks and other  lenders,  the  potential  for liquidity
    stress due to  disruptions  in funding  flows;  and, (v) in the case of data
    providers,  inaccurate  or out of date  information  that  would  impair the
    Company's ability to perform critical  functions such as pricing  securities
    and currencies.  Additionally,  general uncertainty regarding the success of
    remediation  may cause  many  market  participants  to reduce  their  market
    activities temporarily as they address and assess their Year 2000 efforts in
    1999.  This could  result in a general  reduction in market  activities  and
    revenue opportunities in late 1999 and early 2000. Management cannot predict
    the magnitude of any such reduction or its impact on the Company's financial
    results.  However, the Company's Risk Management Department has undertaken a
    comprehensive  review of third  party and credit  risks  posed by Year 2000.
    Additionally,  recognizing  the  uncertainty of external  dependencies,  the
    Company is preparing a contingency plan that identifies  potential problems,
    actions to minimize the  likelihood of their  occurrence and action plans to
    be invoked should they occur. These plans will include backup processes that
    do not rely on computer systems, where appropriate.


<PAGE>


                     LEHMAN BROTHERS INC. and SUBSIDIARIES
                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


    The Company has taken a lead in industry  efforts to deal with the Year 2000
    issue by actively  participating,  and in some cases leading,  industry-wide
    testing in 1998 and 1999. The Company has already successfully  participated
    in a July  industry-wide  Beta test  conducted  by the  Securities  Industry
    Association.  This industry-wide  testing is the forum in which firms within
    the  financial  industry  test the  applications  that transfer data between
    them.  However, as stated above, there can be no guarantee or assurance that
    the systems of other  companies on which the Company's  systems rely will be
    timely  converted  in a timely  fashion,  or that a failure  to  convert  by
    another  company,  or a conversion that is  incompatible  with the Company's
    systems, would not have a material adverse effect on the Company.

    The Company plans to complete the Year 2000 project, including industry-wide
    testing,  no later than August 1999. The Company has established an internal
    auditing  plan to record  results and ensure  ongoing  compliance  of tested
    applications. It should be noted that efforts focused on addressing EMU have
    delayed the finalization of internal and industry-wide testing in Europe.

    The Company's  total Year 2000 project cost is based on presently  available
    information.  The total remaining cost of the Year 2000 project is estimated
    at  approximately  $4.5 million which will be funded through  operating cash
    flows and  expensed as incurred  over the next one and one-half  years.  The
    Company has incurred and expensed approximately $2 million in 1997, and $2.7
    million through August 31, 1998, related to the Year 2000 project.

    The costs of the Year 2000 testing,  modifications and/or replacements,  and
    the date on which the  Company  plans to  complete  the project are based on
    management's  best  estimates,   which  were  derived   utilizing   numerous
    assumptions of future events including the continued availability of certain
    resources, third party modification plans and other factors.


<PAGE>





                 LEHMAN BROTHERS HOLDINGS INC. AND SUBSIDIARIES

                           PART II - OTHER INFORMATION


      ITEM 1               Legal Proceedings


         The  Company  is  involved  in a number  of  judicial,  regulatory  and
      arbitration  proceedings concerning matters arising in connection with the
      conduct of its business.  Such proceedings include actions brought against
      the Company and others with respect to  transactions in which LBI acted as
      an underwriter or financial advisor,  actions arising out of the Company's
      activities as a broker or dealer in securities and commodities and actions
      brought on behalf of various classes of claimants  against many securities
      and commodities firms, including the Company.

         Although  there can be no  assurance as to the  ultimate  outcome,  the
      Company has denied, or believes it has meritorious defenses and will deny,
      liability  in all  significant  cases  pending  against it  including  the
      matters  described below, and intends to defend vigorously each such case.
      Although  there can be no assurance as to the ultimate  outcome,  based on
      information  currently  available and  established  reserves,  the Company
      believes that the eventual  outcome of the actions  against it,  including
      the matters described below,  will not, in the aggregate,  have a material
      adverse effect on its business or consolidated financial condition.

          Actions  Relating to First Capital  Holdings  Inc.  (Reported in LBI's
     Annual  Report on Form 10-K and First and  Second  Quarter  Reports on Form
     10-Q) 

          The Virginia  Commissioner of Insurance  Action.  On July 7, 1998, the
     Commissioner filed a Notice of Appeal to the United States Court of Appeals
     for the Fourth Circuit from the Order filed on May 21, 1998.

          Actions  relating  to  National   Association  of  Securities  Dealers
     Automated   Quotations   System   ("NASDAQ")  Market  Maker  Antitrust  and
     Securities  Litigation.  (Reported in LBI's Annual Report on Form 10-K) The
     Stipulation and Order were approved by the United States District Court for
     the Southern  District of New York,  which  decision  has been  affirmed on
     appeal by the Second Circuit Court of Appeals.

          AIA Holding SA et al. v. Lehman  Brothers Inc. and Bear Stearns & Co.,
     Inc.  (Reported  in LBI's  Annual  Report on Form 10-K and First and Second
     Quarter  Reports  on Form  10-Q).  The  plaintiffs  filed  a First  Amended
     Complaint on July 3, 1998 which LBI answered on August 12, 1998.  Discovery
     is proceeding.

      Actions relating to Sales and Marketing of Limited Partnerships

          Klein,  et al. v. Lehman  Brothers  Inc.,  et al.  (Reported  in LBI's
     Annual  Report on Form 10-K).  On September  24,  1998,  the Court filed an
     opinion dismissing the complaint.



<PAGE>




ITEM 6   Exhibits and Reports on Form 8-K

The  following  exhibits  and  reports  on Form  8-K are  filed  as part of this
Quarterly  Report,  or where  indicated,  were  heretofore  filed and are hereby
incorporated by reference:

(a)      Exhibits:

         12       Computation in Support of Ratio of Earnings to Fixed Charges

         27       Financial Data Schedule


(b)      Reports on Form 8-K:

         None.


<PAGE>


                                   SIGNATURES



         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
the  Registrant  has duly  caused  this report to be signed on its behalf by the
undersigned thereunto duly authorized.



                                             LEHMAN BROTHERS INC.
                                                (Registrant)


Date:   October 15, 1998            By       /s/David Goldfarb
                                             ------------------
                                             Chief Financial Officer
                                             (Principal Financial Officer)


<PAGE>


                                  EXHIBIT INDEX


Exhibit No.        Exhibit

Exhibit 12         Computation in Support of Ratio of Earnings to Fixed Charges

Exhibit 27         Financial Data Schedule


<PAGE>



                                                            Exhibit 12


                      LEHMAN BROTHERS INC. and SUBSIDIARIES
          COMPUTATION in SUPPORT of RATIO of EARNINGS to FIXED CHARGES
                              (Dollars in millions)
                                   (Unaudited)


<TABLE>
<CAPTION>



                                         For the         For the        For the          For the        For the       For the
                                     Twelve Months   Eleven Months   Twelve Months    Twelve Months  Twelve Months   Nine Months
                                          Ended           Ended          Ended           Ended           Ended          Ended
                                       December 31     November 30    November 30      November 30    November 30     August 31
                                          1993            1994           1995             1996           1997           1998
                                          ----            ----           ----             ----           ----           ----
Fixed Charges:
Interest expense:
<S>                                    <C>            <C>             <C>            <C>               <C>           <C>     
    Subordinated indebtedness          $   192        $  184          $   204        $     221         $  236        $    179
    Bank loans and other
      borrowings*                        4,393         5,661            9,750            9,900         11,980          10,888
    Interest component of rentals
      of office and equipment               62            27               25               18             16              12
  Other adjustments**                      101            53                2                7              3               4
                                       -----------   ----------      ----------        --------      -----------       --------
    TOTAL (A)                           $4,748        $5,925          $ 9,981         $ 10,146        $12,235         $11,083
                                         ======       =========        =======          =======       ========        =======

Earnings:
  Pretax income (loss) from
    continuing operations              $  (146)        $   1        $      78       $      309        $   593       $     830
  Fixed charges                          4,748         5,925            9,981           10,146         12,235          11,083
  Other adjustments***                     (68)          (52)              (1)              (6)            (2)             (3)
                                       ----------     -------           --------        --------      ----------       ----------
    TOTAL (B)                           $4,534        $5,874          $10,058         $ 10,449        $12,826         $11,910
                                        ======        ======          =======          =======         =======         =======
(B / A)                                   ****          ****             1.01             1.03           1.05            1.07

</TABLE>

*        Includes amortization of long-term debt discount.

**       Other adjustments include capitalized interest and debt issuance costs,
         amortization of capitalized interest and preferred stock dividends of a
         wholly owned subsidiary.

***      Other adjustments  include adding the net loss of affiliates  accounted
         for  at  equity  whose  debt  is not  guaranteed  by  the  Company  and
         subtracting capitalized interest and debt issuance costs, undistributed
         net income of affiliates  accounted  for at equity and preferred  stock
         dividends of a wholly owned subsidiary.

 ****    Earnings were  inadequate to cover fixed charges and would have had to
         increase approximately $214 million in 1993 and $51 million in 1994 in
         order to cover the deficiencies.