<PAGE>   1

                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

                  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

                     OF THE SECURITIES EXCHANGE ACT OF 1934.

FOR THE YEAR ENDED DECEMBER 31, 2000            COMMISSION FILE NUMBER 333-1083

                       VALLEY FORGE LIFE INSURANCE COMPANY
             (Exact name of registrant as specified in its charter)

         PENNSYLVANIA                                         23-6200031
(State or other jurisdiction of                             (IRS Employer
Incorporation or organization)                           Identification No.)

            CNA PLAZA                                           60685
         CHICAGO, ILLINOIS                                    (Zip Code)
(Address of principal executive offices)

                                 (312) 822-5000
              (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
        Securities registered pursuant to Section 12(b) of the Act: None
        Securities registered pursuant to Section 12(g) of the Act: None

         Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]

         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 periods that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [X] Yes [ ] No

         As of March 15, 2001, 50,000 shares of Common Stock (all held by the
parent, Continental Assurance Company) were outstanding. There is no market
value for any such shares. See ITEM 5 of this Form 10-K.

         THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION I
(1) (a) AND (b) OF FORM 10-K AND IS THEREFORE FILING THIS FORM 10-K WITH THE
REDUCED DISCLOSURE FORMAT.


<PAGE>   2



                       VALLEY FORGE LIFE INSURANCE COMPANY


                           ANNUAL REPORT ON FORM 10-K

                      FOR THE YEAR ENDED DECEMBER 31, 2000

<TABLE>
<CAPTION>

ITEM                                                                      PAGE
NUMBER                                                                   NUMBER
<S> <C>                                                                  <C>

                                     PART I

1.  Business.............................................................     3

2.  Properties...........................................................     5

3.  Legal Proceedings....................................................     5

4.  Submission of Matters to a Vote of Security Holders..................     5

                                    PART II

5.  Market for Registrant's Common Stock and Related Stockholder Matters..    6

6.  Selected Financial Data...............................................    6

7.  Management's Discussion and Analysis of Financial Condition and
    Results of Operations.................................................    7

7A. Market Risk...........................................................    9

8.  Financial Statements and Supplementary Data...........................   13

9.  Changes in and Disagreements with Accountants on Accounting and
    Financial Disclosure..................................................   37

                                    PART III

10. Directors and Executive Officers of the Registrant....................   37

11. Executive Compensation................................................   37

12. Security Ownership of Certain Beneficial Owners and Management........   37

13. Certain Relationships and Related Transactions........................   37

                                    PART IV

14. Financial Statements, Schedules, Exhibits and Reports on Form 8-K.....   37
</TABLE>

                                       2


<PAGE>   3


                                     PART I

ITEM 1.  BUSINESS

         Valley Forge Life Insurance Company (VFL) was incorporated under the
laws of the Commonwealth of Pennsylvania in 1956. VFL is a wholly owned
subsidiary of Continental Assurance Company (Assurance). Assurance is a wholly
owned subsidiary of Continental Casualty Company (Casualty) which is wholly
owned by CNA Financial Corporation (CNAF). CNAF is a holding company whose
primary subsidiaries consist of property-casualty and life insurance companies,
collectively CNA. As of December 31, 2000, Loews Corporation owned approximately
87% of the outstanding common stock of CNAF.

         VFL sells a variety of individual and group insurance products. The
individual insurance products consist primarily of term and universal life
insurance policies and individual annuities. Group insurance products include
life insurance, pension products and accident and health insurance, consisting
primarily of major medical and hospitalization insurance. VFL also markets a
portfolio of variable Separate Account products, consisting primarily of annuity
and universal life products. These products offer policyholders the option of
allocating payments to one or more variable Separate Accounts or to a guaranteed
income account or both. Cash receipts and deposits received for the variable
Separate Accounts are invested in investment portfolios, as allocated by the
contractholders, where the investment risk is borne by the contractholder. Cash
receipts and deposits received for these products that are allocated to the
guaranteed income account earn a minimum guaranteed rate of interest for a
specified period of time for annuity contracts and for one year for life
products.

         The operations and liabilities of VFL and its parent, Assurance, are
managed on a combined basis. Pursuant to a Reinsurance Pooling Agreement, as
amended July 1, 1996, VFL cedes all of its business, excluding its Separate
Account business, to its parent, Assurance. This ceded business is then pooled
with the business of Assurance, which excludes Assurance's participating
contracts and Separate Account business, and 10% of the combined pool is assumed
by VFL.

COMPETITION

         VFL is engaged in a business that is highly competitive due to the
large number of stock and mutual life insurance companies and other entities
marketing competing insurance products. VFL also faces competition in the
Separate Account markets from financial institutions that market mutual funds
and unit investment trusts as an alternative for investors. The combined
operations of VFL and Assurance compete for both producers and customers and
Assurance and VFL must continuously allocate resources to refine and improve
insurance products and services. There are approximately 1,500 companies selling
life insurance (including health insurance and pension products) in the United
States. The combined companies of VFL and Assurance rank as the thirty-sixth
largest life insurance organization based on 1999 combined statutory premium
volume.

REGULATION

         VFL is domiciled in and is subject to the laws of the Commonwealth of
Pennsylvania governing insurance companies and to the regulations of the
Pennsylvania Department of Insurance (Insurance Department). VFL is licensed in
49 states and Puerto Rico.

         VFL is also subject to regulation under the insurance laws of all
jurisdictions in which it operates. The laws of the various jurisdictions
establish supervisory agencies with broad administrative powers with respect to
various matters, including licensing to transact business, overseeing trade
practices, examining the affairs of insurance companies, including periodic
financial and market conduct examinations, licensing agents, approving contract
forms, establishing reserve requirements, establishing maximum interest rates on
life insurance contract loans and minimum rates for accumulation of surrender
values, prescribing the form and content of required financial information and
related filings and regulating the type and amounts of investments permitted.

                                       3


<PAGE>   4


         Further, many states regulate affiliated groups of insurers, such as
VFL and its affiliates, under insurance holding company legislation. Under such
laws, inter-company transfers of assets and dividend payments from insurance
subsidiaries may be subject to prior notice or approval, depending on the size
of the transfer payments in relation to the financial positions of the companies
involved.

         Under insurance guaranty fund laws in most states, insurers doing
business therein can be assessed as a result of insolvency of other insurers.
The assessments are based on formulas, subject to prescribed limits, and are
intended to fund the benefits and continuation of coverage for policyholders of
the insolvent insurers. Most of these laws provide that an assessment may be
excused or deferred if it would threaten an insurer's own solvency.

         Although the Federal government generally does not directly regulate
the business of insurance, Federal initiatives often have an impact on the
business in a variety of ways. Certain insurance products of VFL are subject to
various Federal securities laws and regulations. In addition, current and
proposed Federal measures that may significantly affect the insurance business
include: regulation of insurance company solvency; employee benefit regulation;
permitting banks and similar financial institutions to engage in the insurance
business; tax law changes affecting the taxation of insurance companies and the
tax treatment of insurance products.

         Increased scrutiny of state regulated insurer solvency requirements by
certain members of the U.S. Congress resulted in the National Association of
Insurance Commissioners (NAIC) developing, a number of years ago, the industry
minimum Risk-Based Capital (RBC) requirements. The RBC requirements establish a
formal state accreditation process designed to regulate for solvency more
closely, thus minimizing the diversity of approved statutory accounting and
actuarial practices, and to increase the annual statutory statement disclosure
requirements.The RBC formulas are designed to identify an insurer's minimum
capital requirements based upon the inherent risks (e.g., asset default, credit
and underwriting) of its operations. In addition to the minimum capital
requirements, the RBC formula and related regulations identify various levels of
capital adequacy and corresponding actions that the state insurance departments
should initiate. The level of capital adequacy, below which insurance
departments would take action, is defined as the Company Action Level. As of
December 31, 2000, VFL's capital exceeded the Company Action Level.

CERTAIN AGREEMENTS

         VFL is party to a Reinsurance Pooling Agreement with Assurance which is
discussed in the Note 9 to the Financial Statements, included herein in Item 8.
In addition, VFL is party to the CNA Intercompany Expense Agreement whereby
expenses incurred by CNAF and each of its subsidiaries are allocated to the
appropriate companies. All acquisition and underwriting expenses allocated to
VFL are further subject to the Reinsurance Pooling Agreement with Assurance, so
that acquisition and underwriting expenses recognized by VFL are ten percent of
the acquisition and underwriting expenses of the combined pool. For information
regarding expenses pursuant to the CNA Intercompany Expense Agreement see Note 9
to the Financial Statements, included herein in Item 8.

REINSURANCE

         Information as to VFL's reinsurance activities is set forth in Note 8
to the Financial Statements, included herein in Item 8.

EMPLOYEE RELATIONS

         As of December 31, 2000, VFL had no employees as it has contracted with
Casualty for services provided by Casualty employees. Casualty has experienced
satisfactory labor relations and has never had any work stoppages due to labor
disputes.


                                       4


<PAGE>   5


GOVERNMENT CONTRACTS

         Assurance's premium revenue includes premium under contracts involving
U.S. government employees and their dependents. VFL's share of such premium was
approximately $138 million, $207 million and $201 million for the three years
ended December 31, 2000, 1999, and 1998, respectively. These premiums related to
the Federal Employee Health Benefit Plan (FEHBP) business formerly written by
Assurance and assumed by VFL as part of the Reinsurance Pooling Agreement. The
FEHBP business was transferred to another insurance entity owned by CNA
effective September 1, 2000. All assets and liabilities of this business were
transferred through a novation agreement, and VFL was relieved of any ongoing
direct or contingent liability with respect to this business. See Note 13 to the
Financial Statements, included herein in Item 8.

BUSINESS SEGMENTS

         Information as to VFL's business segments is set forth in Note 11 to
the Financial Statements, included herein in Item 8.

INVESTMENTS

         Information as to VFL's investments is set forth in Note 2 to the
Financial Statements, included herein in Item 8.

ITEM 2.  PROPERTIES

         VFL does not own or directly lease any office space. VFL reimburses
Casualty for its proportionate share of office facilities.

ITEM 3.  LEGAL PROCEEDINGS

         Information as to VFL's legal proceedings is set forth in Note 10 to
the Financial Statements, included herein in Item 8.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

         OMITTED PURSUANT TO GENERAL INSTRUCTION I (2)(C) OF FORM 10-K.


                                       5

<PAGE>   6

                                     PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS

(a)      There is no established public trading market for VFL's common stock.

(b)      Assurance owns all of the common stock of VFL.

(c)      VFL has declared no cash dividends on its common stock in 1998, 1999
         or 2000 or through the date of filing this Form 10-K.

(d)      -    On March 8, 2000, CNA announced that it was exploring the sale of
              its individual life insurance and life reinsurance businesses.
         -    On August 3, 2000, CNA announced that the company will retain the
              individual life, long term care and retirement services
              businesses. It also announced that CNA will continue to explore
              the separate sale of the viatical settlements and life reinsurance
              businesses.
         -    On October 6, 2000, CNA announced the sale of its life reinsurance
              (Life Re) business to Munich American Reassurance Company (MARC),
              the U.S. subsidiary of Munich Re. A portion of the life
              reinsurance business is conducted through VFL as part of the
              Reinsurance Pooling Agreement. See Item 1 Business, Certain
              Agreements.
         -    On January 4, 2001, CNA announced the closing of the sale of its
              Life Re business to MARC. Under terms of the agreement, MARC is
              acquiring the Life Re business via a reinsurance agreement
              See Note 13 to Financial Statements, included herein in Item 8.
         -    On January 5, 2001, CNA announced that it will retain the
              viatical settlement business.

ITEM 6.  SELECTED FINANCIAL DATA

         OMITTED PURSUANT TO GENERAL INSTRUCTION I (2)(A) OF FORM 10-K.

                                       6

<PAGE>   7

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
         RESULTS OF OPERATIONS

         Valley Forge Life Insurance Company (VFL) is a wholly owned subsidiary
of Continental Assurance Company (Assurance). Assurance is a wholly owned
subsidiary of Continental Casualty Company (Casualty) which is wholly owned by
CNA Financial Corporation (CNAF). CNAF is a holding company whose primary
subsidiaries consist of property-casualty and life insurance companies,
collectively CNA. As of December 31, 2000, Loews Corporation owned approximately
87% of the outstanding common stock of CNAF.

         The operations, assets and liabilities of VFL and its parent,
Assurance, are managed on a combined basis. Pursuant to a Reinsurance Pooling
Agreement, as amended July 1, 1996, VFL cedes all of its business after external
reinsurance, excluding its Separate Account business, to its parent, Assurance.
This ceded business is then pooled with the business of Assurance, which
excludes Assurance's participating contracts and Separate Account business,
(Assurance pool) and 10% of the combined pool is assumed by VFL.

         VFL, along with its parent, Assurance, markets and underwrites products
designed to satisfy the life insurance, health insurance and retirement needs of
individuals and groups. The individual products consist primarily of term and
universal life insurance policies and individual annuities. Group products
include life insurance, pension products and accident and health insurance,
consisting primarily of major medical and hospitalization insurance. VFL and
Assurance also market a portfolio of variable Separate Account products,
consisting primarily of annuity and universal life products. These variable
Separate Account products offer policyholders the option of allocating payments
to one or more variable Separate Accounts or to a guaranteed income account or
both. Cash receipts and deposits received for the variable Separate Accounts are
invested in investment portfolios, as allocated by the contractholder, where the
investment risk is borne by the contractholder. Cash receipts and deposits
received for these products that are allocated to the guaranteed income account
earn a minimum guaranteed rate of interest for a specified period of time for
annuity contracts and one year for life products.

         On March 8, 2000, CNA announced that it was exploring the sale of its
individual life insurance and life reinsurance businesses. This potential sale
would have included the sale of VFL and Assurance. CNA engaged the services of
an investment-banking firm to assist with this effort. As expected, several of
the major rating agencies placed the ratings of the Assurance Pool under review
as a result of this announcement. Each rating agency has slightly different
terms for this special review: Standard & Poor's placed the rating on
CreditWatch with developing implications; A.M. Best placed the rating under
review with developing implications; Fitch placed the rating on Rating Watch -
Uncertain, implying it could be upgraded or downgraded in the future. When an
insurance company experiences a significant event, which might be pertinent to
its financial strength rating, the major rating agencies generally place that
company's rating under special review. Such events may include merger, sale,
recapitalization, regulatory action, or another significant event.

         On August 3, 2000, CNA announced that the process of exploring the sale
of its life insurance related businesses was complete. CNA announced that it
would retain the individual life, long term care and retirement services
businesses. Further, at that time, CNA announced that it would continue to
explore the separate sale of the viatical settlements and individual life
reinsurance businesses. Following this announcement, Moody's, Fitch, A.M. Best
and Standard & Poor's removed the ratings from under review and affirmed the
ratings for CAC and VFL. Moody's, Fitch and A.M. Best cited their outlook for
CAC and VFL's rating as negative. The outlook from Standard & Poor's was stable.

         On October 6, 2000, CNA issued a press release announcing the sale of
its individual life reinsurance (Life Re) business to Munich American
Reassurance Company (MARC), the U.S. subsidiary of Munich Re. A portion of the
Life Re business is conducted through VFL as part of the Reinsurance Pooling
Agreement.

         On January 4, 2001, CNA announced the closing of the sale of its Life
Re business to MARC. Under terms of the agreement, MARC is acquiring the Life Re
business via a reinsurance agreement.

         On January 5, 2001, CNA announced that it would retain the viatical
settlement business.

         VFL conducts its business through one reportable segment as a result of
its participation the Reinsurance Pooling Agreement with Assurance, as
previously discussed herein.


                                       7

<PAGE>   8
RESULTS OF OPERATIONS

         The following table summarizes VFL's operating results for the years
ended December 31, 2000 and 1999:

<TABLE>
<CAPTION>

    -----------------------------------------------------------------------------------------------------------------
    YEAR ENDED DECEMBER 31,                                                                2000           1999
    -----------------------------------------------------------------------------------------------------------------
    <S>                                                                                   <C>           <C>
    (In thousands of dollars)
    Operating revenues
       Net earned premiums                                                                 $250,519        $310,719
       Net investment income                                                                 46,665          39,148
       Other revenues                                                                         9,412           4,545
                                                                                       -------------   ------------
          Total operating revenues                                                          306,596         354,412
    Benefits and expenses                                                                   270,569         329,229
                                                                                       -------------   ------------
       Operating income before income tax expense and cumulative
          effect of change in accounting principle                                           36,027          25,183
    Income tax expense                                                                      (12,665)         (8,766)
                                                                                       -------------   ------------
       Net operating income before realized investment losses
          and cumulative effect of change in accounting principle                            23,362          16,417
       Realized investment losses, net of tax                                                (3,438)        (12,402)
                                                                                       -------------   ------------
       Income before cumulative effect of change in accounting principle                     19,924           4,015
       Cumulative effect of change in accounting principle,  net of tax                           -            (234)
    -----------------------------------------------------------------------------------------------------------------
         NET  INCOME                                                                       $ 19,924         $  3,781
    =================================================================================================================
</TABLE>


2000 COMPARED WITH 1999

         VFL's operating revenues, excluding net realized investment gains and
losses declined 13.5% to $306.6 million in 2000 as compared to 1999. This
decline was attributable to a decrease in net earned premiums of 19.4% to $250.5
million, partially offset by a 19.2% increase in net investment income and an
increase in other revenues of 107.1%. The decrease in net earned premiums in
2000 was primarily due to the transfer of the Federal Employee Health Benefit
Plan (FEHBP) business to another insurance entity owned by CNAF. This transfer
was effective September 1, 2000, and resulted in a decrease of $69.7 million in
earned premiums in 2000 as compared to 1999. Total premiums earned for this
transferred business were $137.7 million, and $207.4 million, in 2000 and 1999
respectively.

         The increase in net investment income of $7.5 million to $46.7 million
in 2000 from $39.1 million in 1999 was a result of the combined effects of an
increase in the average investments held and improved market rate returns.

         The increase in other revenues of $4.9 million to $9.4 million in 2000
from $4.5 million in 1999 was a result of increased fee and other income from
the Separate Account business and increased surrender charges and loads
associated with policyholder account transactions.

         VFL's benefits and expenses declined 17.8% to $270.6 million in 2000 as
compared to $329.9 million in 1999. This decrease was primarily related to the
transfer of the FEHBP business described above. Benefits and expenses decreased
by $68.6 million in 2000 as compared to 1999 as a result of this transfer. Total
benefits and expenses from this business were $136.3 million and $205.5 million
in 2000 and 1999, respectively.

         Net operating income, before realized investment gains and losses and a
cumulative effect of a change in accounting principle, increased by $6.9 million
or 42.3% in 2000 as compared to 1999. This increase was attributable to
increases in net investment income and other revenues, partially offset by the
net effect of the transfer of the FEHBP business, described above.


                                       8

<PAGE>   9
ACCOUNTING PRONOUNCEMENTS

         In the first quarter of 2000, VFL adopted the American Institute of
Certified Public Accountants' Statement of Position No. 98-7, Deposit
Accounting: Accounting for Insurance and Reinsurance Contracts That Do Not
Transfer Insurance Risk (SOP 98-7). Adoption of SOP 98-7 did not have a
significant impact on the results of operations or the equity of VFL.

         In December 1999, the Securities and Exchange Commission (SEC) issued
Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements
(SAB 101). SAB 101 summarizes the SEC Staff's view in applying accounting
principles generally accepted in the United States of America to revenue
recognition in financial statements. This bulletin, through its subsequent
revised releases SAB No. 101A and No. 101B, was effective for registrants no
later than the fourth fiscal quarter of fiscal years beginning after December
15, 1999. Adoption of this bulletin, which occurred on October 1, 2000, did not
have a significant impact on the results of operations or the equity of VFL.

         In 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard No. 133, Accounting for Derivative
Instruments and Hedging Activities (SFAS 133). SFAS 133 was subsequently amended
by Statement of Financial Accounting Standard No. 137, Accounting for Derivative
Instruments and Hedging Activities-Deferral of the Effective Date of FASB
Statement No. 133, which delayed the effective date of SFAS 133 by one year, and
Statement of Financial Accounting Standards No. 138, Accounting for Certain
Derivative Instruments and Certain Hedging Activities (SFAS 138). SFAS 138
addresses a limited number of issues causing implementation difficulties for
entities applying SFAS 133. SFAS 133 requires that an entity recognize all
derivative instruments as either assets or liabilities in the balance sheet and
measure those instruments at fair value. If certain conditions are met, a
derivative may be specifically designated as a hedge of the exposures to changes
in the fair value, cash flows of foreign currencies, or a hedge of the foreign
currency exposure of a net investment in a foreign operation, an unrecognized
firm commitment, an available-for-sale security, or a
foreign-currency-denominated forecasted transaction. The accounting for changes
in the fair value of a derivative depends on the intended use of the derivative
and the resulting designation.

         VFL has adopted SFAS 133 effective January 1, 2001. The transition
adjustments resulting from adoption must be reported in net income or other
comprehensive income, as appropriate, as the cumulative effect of a change in
accounting principle. Adoption of SFAS 133 will not have a significant impact on
the equity or the results of operations of VFL. VFL already carries its
investment-related derivatives at fair value and the resulting changes in fair
values are recognized through net income.

         In March 1998, the National Association of Insurance Commissioners
(NAIC) adopted the Codification of Statutory Accounting Principles
(Codification). Codification, which is intended to standardize regulatory
accounting and reporting to state insurance departments, is effective January 1,
2001. However, statutory accounting principles will continue to be established
by individual state laws and permitted practices. The states in which VFL
conducts business will require adoption of Codification (with certain
modifications) for the preparation of statutory financial statements effective
January 1, 2001. VFL estimates that the adoption of Codification, as modified,
will increase statutory capital and surplus as of January 1, 2001 by
approximately $1.3 million, which primarily relates to the recognition of the
deferred tax assets partially offset by establishment of liabilities for
insurance-related assessments and pensions.


ITEM 7A. MARKET RISK

         Market risk is a broad term related to economic losses due to adverse
changes in the fair value of a financial instrument. According to the SEC
disclosure rules, discussions regarding market risk focus on only one element of
market risk: price risk. Price risk relates to changes in the level of prices
due to changes in interest rates, equity prices, foreign exchange rates or other
factors that relate to market volatility of the rate, index or price underlying
the financial instrument. VFL's primary market risk exposures are due to changes
in interest rates, although VFL has certain exposures to changes in equity
prices and has had exposure to foreign currency exchange rates. The fair value
of the financial instruments are adversely affected when interest rates rise,
equity markets decline, and the dollar strengthens against foreign currencies.

                                       9

<PAGE>   10


         Active management of market risk is integral to VFL's operations. VFL
may manage its exposure to market risk, within defined tolerance ranges by: 1)
changing the character of future investments purchased or sold, 2) using
derivatives to offset the market behavior of existing assets and liabilities, or
assets expected to be purchased and liabilities expected to be incurred, or 3)
rebalancing its existing asset and liability portfolios.

         For purposes of this disclosure, market risk sensitive instruments are
divided into two categories: 1) instruments entered into for trading purposes
and 2) instruments entered into for purposes other than trading.

         Credit Risk: Credit risk arises from the potential inability of
counter-parties to perform on an obligation in accordance with the terms of the
contract. VFL is exposed to credit risk in its capacity as counter party in
financial and insurance contracts, reinsurance arrangements and as a holder of
securities. VFL accepts risk whenever a counter party is obligated to perform
under a contract. As a holder of securities, VFL is exposed to default by the
issuer or to the possibility of market price deterioration. As a purchaser of
reinsurance, VFL has exposure that a reinsurer may not be able to reimburse VFL
under the terms of the reinsurance agreement. VFL has established policies and
procedures to manage credit risk, including collateral requirements and master
"netting arrangements."

         Interest Rate Risk: VFL has exposure to economic losses due to interest
rate risk arising from changes in the level or volatility of interest rates. VFL
attempts to mitigate its exposure to interest rate risk through active portfolio
management. VFL may also reduce this risk by utilizing instruments such as
interest rate swaps, interest rate caps, and commitments to purchase securities,
options, futures and forwards. This exposure is also mitigated by VFL's
asset/liability matching strategy.

         Equity Price Risk: VFL is exposed to equity price risk as a result of
its investment in equity securities and equity derivatives. Equity price risk
results from changes in the level or volatility of equity prices, which affect
the value of equity securities or instruments that derive their value from such
securities or indexes. VFL attempts to mitigate its exposure to such risks by
diversifying into many types of securities or indices.

         Foreign Exchange Risk: Foreign exchange rate risk arises from the
possibility that changes in foreign currency exchange rates will impact the
value of financial instruments. The Company has foreign exchange rate exposure
when it buys or sells foreign currencies or financial instruments denominated in
a foreign currency. Currently, VFL has no security denominated in a foreign
currency.

         Sensitivity Analysis: VFL monitors its sensitivity to interest rate
risks by evaluating the change in its financial assets and liabilities relative
to fluctuations in interest rates. The evaluation is made using an instantaneous
change in interest rates of varying magnitudes on a static balance sheet to
determine the effect such a change in rates would have on the recorded market
value of VFL investments and the resulting effect on stockholder's equity. The
range of change chosen reflects VFL's view of changes, which are reasonably
possible over a one-year period. The selection of the range of values chosen to
represent changes in interest rates should not be construed as VFL's prediction
of future market events, but rather as an illustration of the impact of such
events. Accordingly, the analysis may not be indicative of, is not intended to
provide, and does not provide a precise forecast of the effect of changes of
market interest rates on VFL's income or stockholder's equity. Further, the
computations do not contemplate any actions VFL would undertake in response to
changes in interest rates.

         The accompanying sensitivity analyses modeled an instantaneous increase
and decrease in the market interest rates of 100 and 150 basis points from their
levels at December 31, 2000 with all other variables held constant. A 100 and a
150 basis point increase in market interest rates would result in a pre-tax
decrease in the net financial instrument position of $29.3 million and $43.8
million, respectively. Similarly, a 100 and 150 basis point decrease in market
interest rates would result in a pre-tax increase in the net financial
instrument position of $29.8 million and $44.9 million, respectively.

         Equity price risk was measured assuming an instantaneous 10% and 25%
change in the Standard & Poor's 500 (S&P 500)(R) index from its level as of
December 31, 2000 with all other variables held constant. VFL's equity holdings
were assumed to be highly and positively correlated with the S&P 500(R) index.
At December 31, 2000, a 10% and 25% decrease in the S&P 500(R) index would
result in a $45.5 million and $113.5 million decrease, respectively, in the
market value of VFL's equity investments, primarily equity investments in the
Separate Accounts. Most of the changes would be offset by decreases in Separate
Account liabilities to customers under variable annuity contracts. Conversely,
increases in the S&P

                                       10

<PAGE>   11


500(R) index would result in increase in the market value of VFL's equity
investments and increases in Separate Account liabilities to customers under
variable annuity contracts.

         The accompanying sensitivity analyses also assumes an instantaneous 10%
and 20% change in the foreign currency exchange rates versus the U.S. dollar
from their levels at December 31, 2000 with all other variables held constant.
Since no securities or other investments are denominated in a foreign currency,
the market value of such investments are not affected by changes in foreign
currency exchange rates. The following table reflects the estimated effects on
the market value of VFL's financial instruments due to an increase in interest
rates of 100 basis points, a 10% decline in the S&P 500 Index, and a decline of
10% in foreign currency exchange rates.

<TABLE>
<CAPTION>
   ---------------------------------------------------------------------------------------------------------------------
                                                                              MARKET         INTEREST        EQUITY
   DECEMBER  31, 2000                                                         VALUE          RATE RISK        RISK
   ---------------------------------------------------------------------------------------------------------------------
   <S>                                                                        <C>            <C>             <C>
   (In thousands of dollars)
   Held for Trading Purposes
      Separate Account Business:
         Short-term investments                                                  $    523             -             -
         Other derivative securities                                                  117             -        $  (117)
   ---------------------------------------------------------------------------------------------------------------------
   Total trading securities                                                           640             -           (117)
   ---------------------------------------------------------------------------------------------------------------------
   Held for Other Than Trading Purposes
      General account:
         Fixed maturity securities                                                557,866        (28,858)           -
         Equity securities                                                         10,215             -         (1,022)
         Policy loans and other investments                                        98,178             -             -
         Short-term investments                                                    62,429            (17)           -
         Interest rate caps                                                            87             78            -
   ---------------------------------------------------------------------------------------------------------------------
   Total general account                                                          728,775        (28,797)       (1,022)
   ---------------------------------------------------------------------------------------------------------------------
      Separate Accounts Business:
         Fixed maturity securities                                                  8,708           (505)           -
         Equity securities                                                        443,386             -        (44,339)
         Short-term investments                                                    77,965            (29)           -
   ---------------------------------------------------------------------------------------------------------------------
   Total Separate Accounts business                                               530,059           (534)      (44,339)
   ---------------------------------------------------------------------------------------------------------------------
      Total securities held for other than trading purposes                     1,258,834        (29,331)      (45,361)
   ---------------------------------------------------------------------------------------------------------------------
         Total all securities                                                  $1,259,474      $ (29,331)     $(45,478)
   =====================================================================================================================
</TABLE>

                                       11


<PAGE>   12


         The following table reflects the estimated effects on the market value
of VFL's financial instruments due to an increase in interest rates of 150 basis
points, a 25% decline in the S&P 500 Index, and a decline of 20% in foreign
currency exchange rates.

<TABLE>
<CAPTION>
  --------------------------------------------------------------------------------------------------------------------
                                                                         MARKET          INTEREST         EQUITY
  DECEMBER  31, 2000                                                     VALUE           RATE RISK         RISK
  --------------------------------------------------------------------------------------------------------------------
  <S>                                                                    <C>             <C>               <C>

  (In thousands of dollars)
  Held for Trading Purposes
     Separate Account business:
        Short-term investments                                         $    523                -              -
        Other derivative securities                                         117                -        $  (117)
  --------------------------------------------------------------------------------------------------------------------
  Total trading securities                                                  640                -           (117)
  --------------------------------------------------------------------------------------------------------------------
  Held for Other Than Trading Purposes
     General account:
        Fixed maturity securities                                       557,866          (43,149)             -
        Equity securities                                                10,215                -         (2,554)
        Policy loans and other investments                               98,178                -              -
        Short-term investments                                           62,429              (25)             -
        Interest rate caps                                                   87              161              -
  --------------------------------------------------------------------------------------------------------------------
  Total general account                                                 728,775          (43,013)        (2,554)
  --------------------------------------------------------------------------------------------------------------------
     Separate Accounts Business:
        Fixed maturity securities                                         8,708             (725)             -
        Equity securities                                               443,386                -       (110,846)
        Short-term investments                                           77,965              (43)             -
  --------------------------------------------------------------------------------------------------------------------
  Total Separate Account business                                       530,059             (768)      (110,846)
  --------------------------------------------------------------------------------------------------------------------
     Total securities held for other than trading purposes            1,258,834          (43,781)      (113,400)
  --------------------------------------------------------------------------------------------------------------------
  Total all securities                                               $1,259,474         $(43,781)     $(113,517)
  --------------------------------------------------------------------------------------------------------------------
</TABLE>

FORWARD-LOOKING STATEMENTS

         The statements contained in this management discussion and analysis,
which are not historical facts, are forward-looking statements. When included in
this management discussion and analysis, the words "believe," "expects,"
"intends," "anticipates," "estimates," and analogous expressions are intended to
identify forward-looking statements. Such statements inherently are subject to a
variety of risks and uncertainties that could cause actual results to differ
materially from those projected. Such risks and uncertainties include, among
others, the impact of competitive products, policies and pricing; product and
policy demand and market responses; development of claims and the effect on loss
reserves; the performance of reinsurance companies under reinsurance contracts
with VFL; general economic and business conditions; changes in financial markets
(interest rate, credit, currency, commodities and stocks); changes in foreign,
political, social and economic conditions; regulatory initiatives and compliance
with governmental regulations; judicial decisions and rulings; the effect on VFL
of changes in rating agency policies and practices; the results of financing
efforts; changes in VFL's composition of operating segments; the actual closing
of contemplated transactions and agreements and various other matters and risks
(many of which are beyond VFL's control) detailed in VFL's Securities and
Exchange Commission filings. These forward-looking statements speak only as of
the date of this management discussion and analysis. VFL expressly disclaims any
obligation or undertaking to release publicly any updates or revisions to any
forward-looking statement contained herein to reflect any change in VFL's
expectations with regard thereto or any change in events, conditions or
circumstances on which any statement is based.

                                       12

<PAGE>   13

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

<TABLE>
<S>                                                                        <C>

Independent Auditors' Report............................................    14
Statements of Operations, each of the three years in the period ended
December 31, 2000.......................................................    15
Balance Sheets, December 31, 2000 and 1999..............................    16
Statements of Cash Flows, each of the three years in the period ended
December 31, 2000.......................................................    17
Statements of Stockholder's Equity, each of the three years in the
period ended December 31, 2000..........................................    18
Notes to Financial Statements...........................................    19
</TABLE>


                                       13

<PAGE>   14


                          INDEPENDENT AUDITORS' REPORT

The Board of Directors and Stockholder
Valley Forge Life Insurance Company

         We have audited the accompanying balance sheets of Valley Forge Life
Insurance Company (a wholly-owned subsidiary of Continental Assurance Company,
which is a wholly-owned subsidiary of Continental Casualty Company, a
wholly-owned subsidiary of CNA Financial Corporation, an affiliate of Loews
Corporation) as of December 31, 2000 and 1999, and the related statements of
operations, stockholder's equity and cash flows for each of the three years in
the period ended December 31, 2000. Our audits also included Schedule III -
Supplementary Insurance Information and Schedule V - Valuation and Qualifying
Accounts and Reserves. These financial statements and financial statement
schedules are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and financial statement
schedules based on our audits.

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

         In our opinion, such financial statements present fairly, in all
material respects, the financial position of Valley Forge Life Insurance Company
as of December 31, 2000 and 1999, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 2000 in
conformity with accounting principles generally accepted in the United States of
America. Also, in our opinion, such financial statement schedules, when
considered in relation to the basic financial statements taken as a whole,
present fairly, in all material respects, the information set forth therein.

         As discussed in Note 12 to the financial statements, the Company
changed its method of accounting for liabilities for insurance-related
assessments in 1999.

Deloitte & Touche LLP

Chicago, Illinois
March 27, 2001


                                       14

<PAGE>   15


                       VALLEY FORGE LIFE INSURANCE COMPANY
                            STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>

  ------------------------------------------------------------------------------------------------------------------
  YEAR ENDED DECEMBER 31,                                                  2000            1999            1998
  ------------------------------------------------------------------------------------------------------------------
  <S>                                                                     <C>              <C>             <C>

  (In thousands of dollars)
  Revenues:
     Net earned premiums                                                   $ 250,519       $ 310,719      $ 315,599
     Net investment income                                                    46,665          39,148         35,539
     Realized investment (losses) gains                                       (5,289)        (19,081)        16,967
     Other revenues                                                            9,412           4,545          7,959
                                                                       --------------  --------------  -------------
                                                                             301,307         335,331        376,064
                                                                       -------------- ---------------  -------------
  Benefits and expenses:
     Insurance claims and policyholders' benefits                            235,149         291,547        301,900
     Amortization of deferred acquisition costs                               14,428          13,942         11,807
     Other operating expenses                                                 20,992          23,740         35,813
                                                                       -------------- ---------------  -------------
                                                                             270,569         329,229        349,520
                                                                       -------------- ---------------  -------------
     Income before income tax expense and cumulative
        effect of change in accounting principle                              30,738           6,102         26,544
  Income tax expense                                                          10,814           2,087          9,091
                                                                       -------------- ---------------  -------------
     Income before cumulative effect of change
        in accounting principle                                               19,924           4,015         17,453
     Cumulative effect of change in accounting
        principle, net of tax                                                      -            (234)             -
  ------------------------------------------------------------------------------------------------------------------
       NET INCOME                                                            $19,924         $ 3,781        $17,453
  ==================================================================================================================
</TABLE>


   The accompanying Notes are an integral part of these Financial Statements.


                                       15

<PAGE>   16
                       VALLEY FORGE LIFE INSURANCE COMPANY
                                 BALANCE SHEETS
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------
DECEMBER 31,                                                                                    2000              1999
----------------------------------------------------------------------------------------------------------------------------
<S>                                                                                             <C>               <C>
(In thousands of dollars, except share data)
ASSETS
   Investments:
     Fixed maturity securities available-for-sale (amortized cost: $556,302 and $548,444)        $ 557,866        $ 530,512
     Equity securities available-for-sale (cost: $9,994 and $0)                                     10,215               51
     Policy loans                                                                                   98,178           93,575
     Other invested assets                                                                              87              433
     Short-term investments                                                                         62,429           24,714
                                                                                           ----------------  ---------------
          TOTAL INVESTMENTS                                                                        728,775          649,285
     Cash                                                                                            9,319            3,529
     Receivables:
       Reinsurance ($2,128,409 and $2,084,800 from Assurance)                                    2,770,755        2,414,553
       Premium and other                                                                            67,163           82,852
       Allowance for doubtful accounts                                                                 (28)             (12)
     Deferred acquisition costs                                                                    126,352          127,297
     Accrued investment income                                                                      12,551           11,066
     Receivables for securities sold                                                                     -            2,426
     Federal income tax recoverable (from Assurance)                                                     -            4,316
     Other assets                                                                                    6,280            4,883
     Separate Account business                                                                     532,017          209,183
----------------------------------------------------------------------------------------------------------------------------
          TOTAL ASSETS                                                                         $ 4,253,184      $ 3,509,378
============================================================================================================================
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities:
     Insurance reserves:
       Future policy benefits                                                                  $ 3,038,477      $ 2,751,396
       Claims and claim expense                                                                    110,418          139,653
       Policyholders' funds                                                                         40,338           43,466
     Payables for securities purchased                                                                   -            2,421
     Federal income taxes payable (to Assurance)                                                     9,536                -
     Deferred income taxes                                                                           9,040            2,694
     Due to affiliates                                                                              84,042           12,435
     Commissions and other payables                                                                144,888           95,976
     Separate Account business                                                                     532,017          209,183
                                                                                           ----------------  ---------------
          TOTAL LIABILITIES                                                                      3,968,756        3,257,224
                                                                                           ----------------  ---------------

Commitments and contingent liabilities (Notes 1 and 10)
Stockholder's Equity:
     Common stock ($50 par value; Authorized 200,000 shares; Issued 50,000 shares)                   2,500            2,500
     Additional paid-in capital                                                                     69,150           69,150
     Retained earnings                                                                             211,388          191,464
     Accumulated other comprehensive income (loss)                                                   1,390          (10,960)
                                                                                           ----------------  ---------------
          TOTAL STOCKHOLDER'S EQUITY                                                               284,428          252,154
----------------------------------------------------------------------------------------------------------------------------
          TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY                                           $ 4,253,184      $ 3,509,378
============================================================================================================================
</TABLE>


   The accompanying Notes are an integral part of these Financial Statements.


                                       16


<PAGE>   17


                       VALLEY FORGE LIFE INSURANCE COMPANY
                            STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
-------------------------------------------------------------------------------------------------------------------------
DECEMBER 31,                                                                  2000             1999             1998
-------------------------------------------------------------------------------------------------------------------------
<S>                                                                          <C>               <C>              <C>

(In thousands of dollars)
CASH FLOWS FROM OPERATING ACTIVITIES
   Net income                                                                 $ 19,924          $  3,781        $ 17,453
   Adjustments to reconcile net income to net cash flows from
      operating activities:
   Cumulative effect of changes in accounting principle, net of tax                  -               234               -
   Deferred income tax provision                                                (1,159)            4,924           2,058
   Net realized investment losses (gains), pre-tax                               5,289            19,081         (16,967)
   Accretion of bond discount                                                   (4,216)           (2,999)         (4,821)
   Changes in:
      Receivables, net                                                        (318,672)         (300,832)       (544,920)
      Deferred acquisition costs                                               (14,240)          (13,866)        (16,746)
      Accrued investment income                                                 (1,485)           (3,345)         (2,476)
      Due to affiliates                                                         64,985           (10,489)         37,945
      Federal income taxes payable and recoverable                              13,852           (10,784)            493
      Insurance reserves                                                       291,444           380,939         541,560
      Commissions and other payables and other                                  45,175            25,408         (18,804)
      Transfer of Federal Employee Health Benefits Plan                          6,622                 -               -
      Transfer of Life Re business                                              (4,134)                -               -
                                                                          -------------    --------------   -------------
            Total adjustments                                                   83,461            88,271        (22,678)
                                                                          -------------    --------------   -------------
            NET CASH FLOWS FROM (USED IN) OPERATING ACTIVITIES                 103,385            92,052         (5,225)
                                                                          -------------    --------------   -------------
CASH FLOWS FROM INVESTING ACTIVITIES
   Purchases of fixed maturity securities                                     (695,586)       (1,512,848)       (744,431)
   Proceeds from fixed maturity securities:
      Sales                                                                    618,202         1,339,905         741,277
      Maturities, calls and redemptions                                         65,727            58,263          33,635
   Purchases of equity securities                                               (9,994)                -              (5)
   Proceeds from sale of equity securities                                           -             2,647               5
   Change in short-term investments                                            (34,527)           59,455         (73,233)
   Change in policy loans                                                       (4,603)          (19,424)         (7,179)
   Change in other invested assets                                                (115)              205             (82)
                                                                          -------------    --------------   -------------
          NET CASH FLOWS USED IN INVESTING ACTIVITIES                          (60,896)          (71,797)        (50,013)
                                                                          -------------    --------------   -------------
CASH FLOWS FROM FINANCING ACTIVITIES
   Receipts for investment contracts credited to policyholder accounts          11,240            15,901          30,007
   Return of policyholder account balances on investment contracts             (47,939)          (36,377)        (25,584)
   Capital contribution from Assurance                                               -                 -          30,000
                                                                          -------------    --------------   -------------
          NET CASH FLOWS (USED IN) FROM  FINANCING ACTIVITIES                  (36,699)          (20,476)         34,423
                                                                          -------------    --------------   -------------
          NET CASH FLOWS                                                         5,790              (221)        (20,815)
Cash at beginning of period                                                      3,529             3,750          24,565
-------------------------------------------------------------------------------------------------------------------------
CASH AT END OF PERIOD                                                          $ 9,319          $  3,529         $ 3,750
=========================================================================================================================
Supplemental disclosures of cash flow information:
        Federal income taxes (refunded) or paid                              $ ( 1,924)         $  8,260        $  6,651
=========================================================================================================================
</TABLE>


   The accompanying Notes are an integral part of these Financial Statements.

                                       17


<PAGE>   18



                       VALLEY FORGE LIFE INSURANCE COMPANY
                       STATEMENTS OF STOCKHOLDER'S EQUITY

<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------
                                                                                               Accumulated
                                                   Additional                                     Other           Total
                                         Common      Paid-in    Comprehensive     Retained    Comprehensive   Stockholder's
                                          Stock      Capital    Income (Loss)     Earnings    Income (Loss)       Equity
-----------------------------------------------------------------------------------------------------------------------------
<S>                                      <C>       <C>           <C>            <C>              <C>            <C>

(In thousands of dollars)
Balance, December 31, 1997               $2,500     $39,150                     $ 170,230         $  4,380       $216,260

Capital contribution from Assurance           -      30,000                             -                -         30,000
Comprehensive income:
   Net income                                 -           -       $ 17,453         17,453                -         17,453
   Other comprehensive income                 -           -            107              -              107            107
                                                                  ---------
Total comprehensive income                                        $ 17,560
                                                                  =========

------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1998                2,500      69,150                       187,683            4,487        263,820

Comprehensive income (loss):
   Net income                                 -           -       $  3,781          3,781                -          3,781
   Other comprehensive loss                   -           -        (15,447)             -          (15,447)       (15,447)
                                                                  ---------
Total comprehensive loss                                          $(11,666)
                                                                  =========
------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1999                2,500      69,150                       191,464          (10,960)       252,154

Comprehensive income:
   Net income                                 -           -       $ 19,924         19,924                -         19,924
   Other comprehensive income                 -           -         12,350              -           12,350         12,350
                                                                  ---------
Total comprehensive income                                        $ 32,274
                                                                  =========
------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2000               $2,500     $69,150                     $ 211,388         $  1,390       $284,428
=============================================================================================================================

</TABLE>

   The accompanying Notes are an integral part of these Financial Statements.


                                       18


<PAGE>   19
                       VALLEY FORGE LIFE INSURANCE COMPANY
                          NOTES TO FINANCIAL STATEMENTS

NOTE 1.  SIGNIFICANT ACCOUNTING POLICIES

BASIS OF PRESENTATION

          Valley Forge Life Insurance Company (VFL) is a wholly owned subsidiary
of Continental Assurance Company (Assurance). Assurance is a wholly owned
subsidiary of Continental Casualty Company (Casualty) which is wholly owned by
CNA Financial Corporation (CNAF). As of December 31, 2000, Loews Corporation
owned approximately 87% of the outstanding common stock of CNAF.

          VFL markets and underwrites insurance products designed to satisfy the
life, health insurance and retirement needs of individuals and groups. Products
available in individual policy form include annuities as well as term and
universal life insurance. Products available in group policy form includes life
insurance, pension products and accident and health insurance. VFL also markets
a portfolio of variable Separate Account products, consisting primarily of
annuity and universal life products. These products offer policyholders the
option of allocating payments to one or more variable investment portfolios or
to a guaranteed income account or both. Cash receipts and deposits received for
the variable Separate Accounts are invested in investment portfolios, as
allocated by the contractholders, where the investment risk is borne by the
contractholder. Cash receipts and deposits received for these products that are
allocated to the guaranteed income account earn a minimum guaranteed rate of
interest for a specified period of time.

         The operations and liabilities of VFL and its parent, Assurance, are
managed on a combined basis. Pursuant to a Reinsurance Pooling Agreement, as
amended, VFL cedes all of its business, excluding its Separate Account business,
to its parent, Assurance. This ceded business is then pooled with the business
of Assurance, which excludes Assurance's participating contracts and Separate
Account business, and 10% of the combined pool is assumed by VFL.

         The accompanying financial statements have been prepared in conformity
with accounting principles generally accepted in the United States of America
(GAAP).

         The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.

INSURANCE

         Earned premium revenue- Revenues on interest sensitive type contracts
are comprised of contract charges and fees, which are recognized over the
coverage period. Accident and health insurance premiums are earned ratably over
the duration of the policies after provision for estimated adjustments on
retrospectively rated policies and deductions for ceded insurance. Premiums for
other life insurance products and annuities are recognized as revenue when due,
after deductions for ceded insurance.

         Claim and claim adjustment expense reserves- Claim and claim adjustment
expense reserves represent management's estimates of ultimate liabilities based
on currently available facts and case law. The ultimate liability may vary
significantly from such estimates. VFL regularly reviews its reserves, and any
adjustments to the previously established reserves are recognized in operating
income in the period that the need for such adjustments becomes apparent.

                                       19

<PAGE>   20

         Future policy benefits reserves- Reserves for traditional life
insurance products (whole and term life products) and long-term care products
are computed using the net level premium method, which incorporates actuarial
assumptions as to interest rates, mortality, morbidity, withdrawals and
expenses. Actuarial assumptions generally vary by plan, age at issue and policy
duration, and include a margin for adverse deviation. Interest rates range from
3% to 9% and mortality, morbidity and withdrawal assumptions are based on VFL
and industry experience prevailing at the time of issue. Expense assumptions
include the estimated effects of inflation and expenses to be incurred beyond
the premium paying period. Reserves for interest sensitive contracts are equal
to the account balances that accrue to the benefit of the policyholders.
Interest crediting rates ranged from 4.30% to 6.85% for the three years ended
December 31, 2000.

         Insurance-related assessments- VFL's participation in involuntary risk
pools is mandatory and is generally a function of its proportionate share of the
voluntary market, by line of insurance, in each state in which it does business.
In the first quarter of 1999, VFL adopted Statement of Position No. 97-3,
Accounting by Insurance and Other Enterprises for Insurance-Related Assessments
(SOP 97-3). SOP 97-3 requires that insurance companies recognize liabilities for
insurance-related assessments when an assessment is probable, when it can be
reasonably estimated and when the event obligating the entity to pay an imposed
or probable assessment has occurred on or before the date of the financial
statements. Adoption of SOP 97-3 resulted in an after-tax charge of $234
thousand as a cumulative effect of a change in accounting principle for the year
1999. The pro forma effect of adoption on reported results for prior periods was
not significant. Insurance related assessment liabilities are not discounted or
recorded net of premium taxes. These liabilities are included as part of other
liabilities in the balance sheets.

         Reinsurance- Amounts recoverable from reinsurers are estimated in a
manner consistent with claim and claim adjustment expense reserves or future
policy benefits reserves and reported as a recoverable in the balance sheets.
Reinsurance contracts that do not meet the criteria for risk transfer are
recorded in accordance with Statement of Position No. 98-7, Deposit Accounting:
Accounting for Insurance and Reinsurance Contracts That Do Not Transfer
Insurance Risk.

         In addition to the Reinsurance Pooling Agreement with Assurance, VFL
also assumes and cedes insurance with other insurers and reinsurers and members
of various reinsurance pools and associations. VFL utilizes reinsurance
arrangements to limit its maximum loss, provide greater diversification of risk
and minimize exposures on larger risks. The reinsurance coverages are tailored
to the specific risk characteristics of each product line with VFL's retained
amount varying by type of coverage. VFL's reinsurance includes coinsurance,
yearly renewable term and facultative programs.

         Deferred acquisition costs- Life insurance business acquisition costs
are deferred and amortized based on assumptions consistent with those used for
computing future policy benefits reserves. Such costs include commissions,
premium taxes and certain underwriting and policy issuance costs. Anticipated
investment income is considered in the determination of the recoverability of
deferred acquisition costs. Deferred acquisition costs on traditional life
business are amortized over the assumed premium paying periods. The amortization
of deferred acquisition costs for interest sensitive and annuity contracts are
matched to the recognition of gross profits on these contracts. To the extent
that unrealized gains or losses on available-for-sale securities would result in
an adjustment of deferred policy acquisition costs had they actually been
realized, an adjustment is recorded to deferred acquisition costs and to
unrealized investment gains or losses.

INVESTMENTS

         Valuation of investments- VFL classifies its fixed maturity securities
(bonds and redeemable preferred stocks) and its equity securities as
available-for-sale, and as such, they are carried at fair value. The amortized
cost of fixed maturity securities is adjusted for amortization of premiums and
accretion of discounts to maturity, and such adjustments are included in net
investment income. Changes in fair value are reported as a component of other
comprehensive income. Investments are written down to estimated fair value and
losses are recognized in income when a decline is determined to be other than
temporary.

         Policy loans are carried at unpaid balances. Short-term investments are
carried at amortized cost, which approximates market value. VFL has no
investments in real estate or mortgage loans.

                                       20

<PAGE>   21


         Investments in derivative securities are carried at fair value at the
reporting date, and changes in fair value are recognized in realized investment
gains and losses. VFL's derivative investments are made up of interest rate caps
and purchased options and are classified as other invested assets.

         Investment gains and losses- All securities transactions are recorded
on the trade date. Realized investment gains and losses are determined on the
basis of the cost or amortized cost of the specific securities sold.

         Securities lending activities- VFL lends securities to unrelated
parties, primarily major brokerage firms. Borrowers of these securities must
deposit collateral with VFL equal to 100% of the fair value of the securities if
the collateral is cash or 102% if the collateral is securities. Cash deposits
from these transactions are invested in short-term investments (primarily
commercial paper) and a liability is recognized for the obligation to return the
collateral. VFL continues to receive the interest on loaned debt securities as
beneficial owner, and accordingly, loaned debt securities are included in fixed
maturity securities. VFL had no securities on loan at December 31, 2000 or 1999.

         Separate Account business- VFL writes certain variable annuity
contracts and universal life policies. The supporting assets and liabilities of
certain of these contracts and policies are legally segregated and reported as
assets and liabilities of Separate Account business. VFL guarantees principal
and a specified return to the contractholders on approximately 16.9% and 15.7%
of the Separate Account assets at December 31, 2000 and 1999. Substantially all
assets of the Separate Account business are carried at fair value. Separate
Account liabilities are principally obligations due to contractholders and are
carried at contract values. Investment income and realized capital gains and
losses of the Separate Account business accrue directly to the contractholders
and therefore, are not included in VFL's statement of operations. Revenues to
VFL from the Separate Account business consist of contract maintenance fees,
administration fees and mortality and expense risk charges, and are included
in other revenue.

INCOME TAXES

          VFL accounts for income taxes under the liability method. Under the
liability method, deferred income taxes are recognized for temporary differences
between the financial statement and tax return bases of assets and liabilities.
Temporary differences primarily relate to insurance reserves, deferred
acquisition costs and net unrealized investment gains or losses.

ACCOUNTING PRONOUNCEMENTS

         In the first quarter of 2000, VFL adopted the American Institute of
Certified Public Accountants' Statement of Position No. 98-7, Deposit
Accounting: Accounting for Insurance and Reinsurance Contracts That Do Not
Transfer Insurance Risk (SOP 98-7). Adoption of SOP 98-7 did not have a
significant impact on the results of operations or the equity of VFL.

         In December 1999, the Securities and Exchange Commission (SEC) issued
Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements
(SAB 101). SAB 101 summarizes the SEC Staff's view in applying GAAP to revenue
recognition in financial statements. This bulletin, through its subsequent
revised releases SAB No. 101A and No. 101B, was effective for registrants no
later than the fourth fiscal quarter of fiscal years beginning after December
15, 1999. Adoption of this bulletin, which occurred on October 1, 2000, did not
have a significant impact on the results of operations or the equity of VFL.

         In 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard No. 133, Accounting for Derivative
Instruments and Hedging Activities (SFAS 133). SFAS 133 was subsequently amended
by Statement of Financial Accounting Standard No. 137, Accounting for Derivative
Instruments and Hedging Activities-Deferral of the Effective Date of FASB
Statement No. 133, which delayed the effective date of SFAS 133 by one year, and
Statement of Financial Accounting Standards No. 138, Accounting for Certain
Derivative Instruments and Certain Hedging Activities (SFAS 138). SFAS 138
addresses a limited number of issues causing implementation difficulties for
entities applying SFAS 133. SFAS 133 requires that an entity recognize all
derivative instruments as either assets or liabilities in the balance sheet and
measure those instruments at fair value. If certain conditions are met, a
derivative may be specifically designated as a hedge of the exposures to changes



                                       21

<PAGE>   22


in the fair value, cash flows of foreign currencies, or a hedge of the foreign
currency exposure of a net investment in a foreign operation, an unrecognized
firm commitment, an available-for-sale security, or a
foreign-currency-denominated forecasted transaction. The accounting for changes
in the fair value of a derivative depends on the intended use of the derivative
and the resulting designation.

         VFL has adopted SFAS 133 effective January 1, 2001. The transition
adjustments resulting from adoption must be reported in net income or other
comprehensive income, as appropriate, as the cumulative effect of a change in
accounting principle. Adoption of SFAS 133 will not have a significant impact on
the equity or results of operations of VFL. VFL already carries its
investment-related derivatives at fair value and the resulting changes in fair
values are recognized through net income.

NOTE 2.  INVESTMENTS

         The significant components of net investment income are presented in
the following table:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
NET INVESTMENT INCOME
-----------------------------------------------------------------------------------------------------------------------------------
Year ended December 31,                                                                   2000           1999           1998
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                     <C>              <C>             <C>

(In thousands of dollars)
Interest:
     Fixed maturity securities--Taxable bonds                                            $ 36,879        $30,851         $27,150
     Policy loans                                                                           6,011          4,963           4,760
     Short-term investments                                                                 3,798          2,969           3,803
Dividend and other:
     Equity securities                                                                        227             54              72
     Other                                                                                    271            778             105
                                                                                      ---------------------------------------------
Gross investment income                                                                    47,186         39,615          35,890
Investment expense                                                                            521            467             351
-----------------------------------------------------------------------------------------------------------------------------------
  NET INVESTMENT INCOME                                                                   $46,665        $39,148         $35,539
===================================================================================================================================
</TABLE>


                                       22


<PAGE>   23


         Net realized investment gains (losses) and unrealized appreciation
(depreciation) in investments are set forth in the following table:

<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------------
NET INVESTMENT APPRECIATION (DEPRECIATION)
-----------------------------------------------------------------------------------------------------------------------------------
Year ended December 31,                                                                   2000            1999           1998
-----------------------------------------------------------------------------------------------------------------------------------
(In thousands of dollars)
<S>                                                                                     <C>               <C>            <C>
Realized investment (losses) gains:
     Fixed maturity securities:
        Gross realized gains                                                             $  2,648        $  4,399      $ 17,604
        Gross realized losses                                                              (7,350)        (25,380)         (697)
                                                                                    -------------   -------------   -----------
     Net realized (losses) gains on fixed maturity securities                              (4,702)        (20,981)       16,907
     Equity securities:
        Gross realized gains                                                                    -           1,667             -
                                                                                    -------------   -------------   -----------
     Net realized (losses) gains on equity securities                                           -           1,667             -
     Other realized investment (losses) gains
                                                                                            (587)             233            60
                                                                                    -------------   -------------   -----------
                                                                                          (5,289)         (19,081)       16,967
Income tax benefit (expense)                                                               1,851            6,679        (5,938)
                                                                                    -------------   -------------   -----------
          Net realized investment (losses) gains                                          (3,438)         (12,402)       11,029
                                                                                    -------------   -------------   -----------
Net change in unrealized appreciation (depreciation) in investments:
     Fixed maturity securities                                                            19,496          (23,813)          441
     Equity securities                                                                       171           (1,186)          (42)
     Adjustment to deferred policy acquisition costs
          related to unrealized (losses) gains and other                                    (667)           1,235          (235)
                                                                                    -------------   -------------   -----------
                                                                                          19,000          (23,764)          164
Deferred income tax (expense) benefit                                                     (6,650)           8,317           (57)
                                                                                    -------------   -------------   -----------
     Net change in unrealized appreciation (depreciation) in investments                  12,350          (15,447)          107
-----------------------------------------------------------------------------------------------------------------------------------
     NET REALIZED AND CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION)
     IN  INVESTMENTS                                                                    $  8,912       $  (27,849)     $ 11,136
===================================================================================================================================
</TABLE>



<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
ANALYSIS OF NET UNREALIZED INVESTMENT GAINS (LOSSES)
INCLUDED IN ACCUMULATED OTHER COMPREHENSIVE INCOME
-----------------------------------------------------------------------------------------------------------------------------------
                                                                           2000                                1999
                                                             ---------------------------------    ---------------------------------
December 31                                                    GAINS      LOSSES      NET           Gains     Losses       Net
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                            <C>        <C>         <C>           <C>       <C>         <C>
(In thousands of dollars)
Fixed maturity securities                                    $ 9,327   $(7,763)     $1,564        $  666   $(18,598)   $(17,932)
Equity securities                                                222         -         222            51          -          51
Adjustment to deferred policy acquisition
   costs related to unrealized
   (losses) gains and other                                    1,789    (1,436)        353         1,468       (448)      1,020
-----------------------------------------------------------------------------------------------------------------------------------
                                                             $11,338   $(9,199)      2,139        $2,185   $(19,046)    (16,861)
                                                             ==================                   ==================
Deferred income tax (expense) benefit                                                 (749)                               5,901
-----------------------------------------------------------------------------------------------------------------------------------
      NET UNREALIZED INVESTMENT GAINS (LOSSES)                                      $1,390                             $(10,960)
===================================================================================================================================
</TABLE>


                                       23

<PAGE>   24
<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------------
SUMMARY OF INVESTMENTS IN FIXED MATURITY
AND EQUITY SECURITIES AVAILABLE FOR SALE
-----------------------------------------------------------------------------------------------------------------------------------
(In thousands of dollars)                                                     COST OR         GROSS         GROSS
                                                                             AMORTIZED     UNREALIZED    UNREALIZED        FAIR
December 31, 2000                                                               COST          GAINS        LOSSES         VALUE
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                           <C>          <C>           <C>             <C>
U.S. Treasuries and obligations of government agencies                       $ 18,670        $  434      $  (431)       $ 18,674
Asset-backed securities                                                       142,774         1,028         (818)        142,983
Corporate securities                                                          313,026         7,114       (4,964)        315,176
Other debt securities                                                          81,832           751       (1,550)         81,033
                                                                         ----------------------------------------------------------
    Total fixed maturity securities                                           556,302         9,327       (7,763)        557,866
Equity securities                                                               9,994           221            -          10,215
-----------------------------------------------------------------------------------------------------------------------------------
    TOTAL                                                                    $566,296        $9,548      $(7,763)       $568,081
===================================================================================================================================

-----------------------------------------------------------------------------------------------------------------------------------
December 31, 1999
-----------------------------------------------------------------------------------------------------------------------------------
U.S. Treasuries and obligations of government agencies                       $253,041         $   -      $ 6,988       $246,053
Asset-backed securities                                                       107,275            50        4,200        103,125
Corporate securities                                                          164,140            98        6,914        157,324
Other debt securities                                                          23,988           518          496         24,010
                                                                         ----------------------------------------------------------
    Total fixed maturity securities                                           548,444           666       18,598        530,512
Equity securities                                                                   -            51            -             51
-----------------------------------------------------------------------------------------------------------------------------------
    TOTAL                                                                    $548,444        $  717      $18,598       $530,563
===================================================================================================================================

</TABLE>

<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------------
SUMMARY OF INVESTMENTS IN FIXED MATURITY SECURITIES BY CONTRACTUAL MATURITY
-----------------------------------------------------------------------------------------------------------------------------------
                                                                                               AMORTIZED               FAIR
DECEMBER 31, 2000                                                                                 COST                 VALUE
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                            <C>                   <C>
(In thousands of dollars)
Due in one year or less                                                                        $      -             $      -
Due after one year through five years                                                           180,482              184,174
Due after five years through ten years                                                          152,543              150,662
Due after ten years                                                                              80,503               80,047
Asset-backed securities not due at a single maturity date                                       142,774              142,983
-----------------------------------------------------------------------------------------------------------------------------------
        TOTAL                                                                                  $556,302             $557,866
===================================================================================================================================
</TABLE>

         Actual maturities may differ from contractual maturities because
securities may be called or prepaid with or without call or prepayment
penalties.

         There are no investments, other than equity securities, that did not
produce income for the years ended December 31, 2000 and 1999. Except for
investments in securities of the U.S. Government and its agencies, there are no
investments in a single issuer that when aggregated exceed 10% of stockholder's
equity at December 31, 2000.

         Securities with carrying values of $2.7 million were deposited by VFL
under requirements of regulatory authorities as of both December 31, 2000 and
1999.

                                       24

<PAGE>   25
NOTE 3.  FINANCIAL INSTRUMENTS

         In the normal course of business, VFL invests in various financial
assets, incurs various financial liabilities and enters into agreements
involving derivative securities, including off-balance sheet financial
instruments.

         Fair values are disclosed for all financial instruments, for which it
is practicable to estimate that value, whether or not recognized in the balance
sheets. Management attempts to obtain quoted market prices for the purpose of
these disclosures. Where quoted market prices are not available, fair values are
estimated using present value or other valuation techniques. These techniques
are significantly affected by management's assumptions, including discount rates
and estimates of future cash flows. Potential taxes and other transaction costs
have not been considered in estimating fair value. The estimates presented
herein are not necessarily indicative of the amounts VFL would realize in a
current market exchange.

         Non-financial instruments such as deferred acquisition costs and
deferred income taxes and certain financial instruments such as insurance
reserves and reinsurance receivables are excluded from the fair value
disclosures. Therefore, the fair value amounts cannot be aggregated to determine
the underlying economic value of VFL.

         The carrying amounts reported on the balance sheet for cash, short-term
investments, accrued investment income, receivables for securities sold,
payables for securities purchased and certain other assets and other liabilities
approximate fair value because of the short-term nature of these items. These
assets and liabilities are not listed in the following table.

         The following methods and assumptions were used by VFL in estimating
the fair value amounts for financial instruments:

         The fair values of fixed maturity and equity securities were based on
quoted market prices, where available. For securities not actively traded, fair
values were estimated using values obtained from independent pricing services,
costs to settle, or quoted market prices of comparable instruments.

         The fair values for policy loans were estimated using discounted cash
flow analyses at interest rates currently offered for similar loans to borrowers
with comparable credit quality. Loans with similar characteristics were
aggregated for purposes of the calculations.

         Premium deposits and annuity contracts were valued based on cash
surrender values and the outstanding fund balances.

         Valuation techniques to determine fair value of other invested assets
and other separate account business assets consisted of discounting cash flows,
obtaining quoted market prices of the investments and comparing the investments
to similar instruments of the underlying assets of the investments.

         The fair values of the liabilities for variable separate account
business were based on the quoted market values of the underlying assets of each
variable separate account, adjusted for policyholder surrender charges.
Regarding the general account products, the fair value of annuities with a
surrender charge was approximated as the cash surrender value, while the fair
value of other funds and annuities was assumed to equal their carrying value, as
most of these are of a short-term nature.

                                       25

<PAGE>   26



         The carrying amount and estimated fair value of VFL's financial
instrument assets and liabilities are listed below:

<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------------
                                                                           2000                               1999
                                                              -------------------------------    ----------------------------------
                                                              CARRYING           ESTIMATED        Carrying             Estimated
December 31,                                                   AMOUNT           FAIR VALUE         Amount             Fair Value
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                           <C>                 <C>               <C>                <C>

     (In thousands of dollars)
     FINANCIAL ASSETS
     General account business:
        Fixed maturity securities                             $557,866           $557,866           $530,512           $530,512
        Equity securities                                       10,215             10,215                 51                 51
        Policy loans                                            98,178             90,626             93,575             87,156
        Other                                                       87                 87                433                433
     Separate Account business:
        Fixed maturity securities                                8,708              8,708             12,999             12,999
        Equity securities (primarily mutual funds)             443,385            443,385            175,772            175,772
        Other                                                      117                117                119                119
     FINANCIAL LIABILITIES
     General account business:
        Guaranteed investment contracts                         35,073             35,073             36,218             36,218
        Deferred annuities                                      47,380             44,533             60,024             55,884
        Other                                                      256                256                367                367
     Separate Account business:
        Variable separate accounts                             518,838            480,071            198,160            186,332
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

         VFL invests in derivative financial instruments in the normal course of
business primarily to reduce its exposure to market risk (principally interest
rate risk, equity stock price risk and foreign currency risk). Financial
instruments used for such purposes may include interest rate caps, put and call
options, commitments to purchase securities, futures and forwards. VFL also uses
derivatives to mitigate the risk associated with certain guaranteed annuity
contracts by purchasing certain options in a notional amount equal to the
original customer deposit. VFL generally does not hold or issue these
instruments for trading purposes.

         An interest rate cap consists of a guarantee given by the issuer to the
purchaser in exchange for the payment of a premium. This guarantee states that
if interest rates rise above a specified rate, the issuer will pay to the
purchaser the difference between the then current market rate and the specified
rate on the notional principal amount.

         Options are contracts that grant the purchaser, for a premium payment,
the right, but not the obligation, to either purchase or sell a financial
instrument at a specified price within a specified period of time. The option
purchaser pays a premium to the option seller (writer) for the right to exercise
the option. The option seller is obligated to buy (put) or sell (call) the item
underlying the contract at a set price, if the option purchaser chooses to
exercise.

         Derivative financial instruments consist of interest rate caps in the
general account and purchased options in the Separate Accounts at December 31,
2000. The gross notional principal or contractual amounts of derivative
financial instruments in the general account at December 31, 2000 and 1999
totaled $50 million. The gross notional principal or contractual amounts of
derivative financial instruments in the Separate Accounts was $295 thousand at
December 31, 2000 and December 31, 1999. The contractual or notional amounts are
used to calculate the exchange of contractual payments under the agreements and
are not representative of the potential for gain or loss on these instruments.


                                       26

<PAGE>   27
         The fair values associated with derivative financial instruments are
generally affected by interest rates, equity stock prices and foreign exchange
rates. The credit exposure associated with non-performance by the
counter-parties to these instruments is generally limited to the gross fair
value of the asset related to the instruments recognized in the balance sheet.
VFL continuously monitors credit worthiness of its counter-parties. Due
to the nature of the derivative securities, VFL does not generally require
collateral from its counter-parties.

         The fair value of derivatives generally represents the estimated
amounts that VFL would expect to receive or pay upon termination of the
contracts at the reporting date. Dealer quotes are available for substantially
all of VFL's derivatives. For derivative financial instruments not actively
traded, fair values are estimated using values obtained from independent pricing
services, costs to settle or quoted market prices of comparable instruments.

         The fair value of derivative financial assets (liabilities) the
contractual or notional amounts and net realized gains and losses on derivative
financial instruments, in the general account and Separate Accounts at December
31, 2000 and 1999 are shown below. There is no difference between the gross
values and net values.

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
                                                                      CONTRACTUAL             FAIR VALUE              RECOGNIZED
                                                                        NOTIONAL          --------------------          GAINS
FOR THE YEARS ENDED DECEMBER 31,                                         AMOUNT         ASSET    (LIABILITY)         (LOSSES)
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                      <C>             <C>        <C>                 <C>
(In thousands of dollars)
-----------------------------------------------------------------------------------------------------------------------------------
2000
-----------------------------------------------------------------------------------------------------------------------------------
General account:
    Interest rate caps                                                   $50,000         $ 87        $   -               $(268)
-----------------------------------------------------------------------------------------------------------------------------------
TOTAL                                                                    $50,000         $ 87        $   -               $(268)
-----------------------------------------------------------------------------------------------------------------------------------
Separate Accounts:
    Options purchased                                                    $   295         $117        $  -                $  (2)
-----------------------------------------------------------------------------------------------------------------------------------
TOTAL                                                                    $   295         $117        $  -                $  (2)
-----------------------------------------------------------------------------------------------------------------------------------

-----------------------------------------------------------------------------------------------------------------------------------
1999
-----------------------------------------------------------------------------------------------------------------------------------
General account:
    Interest rate caps                                                   $50,000         $433           -                $ 396
    Commitments to purchase Mortgage backed securities                         -            -                            $ (30)
-----------------------------------------------------------------------------------------------------------------------------------
TOTAL                                                                    $50,000         $433           -                $ 366
-----------------------------------------------------------------------------------------------------------------------------------
Separate Accounts:
    Options purchased                                                    $   295         $119           -                $  54
-----------------------------------------------------------------------------------------------------------------------------------
TOTAL                                                                    $   295         $119           -                $  54
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>


NOTE 4.  STATUTORY CAPITAL AND SURPLUS  (UNAUDITED)

         Statutory capital and surplus and net income for VFL are determined in
accordance with accounting practices prescribed or permitted by the Pennsylvania
Insurance Department. Prescribed statutory accounting practices are set forth in
a variety of publications of the National Association of Insurance Commissioners
as well as state laws, regulations, and general administrative rules. VFL has no
material permitted accounting practices.

<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------------
For the year ended December 31,                                                           2000           1999            1998
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                     <C>            <C>               <C>

(In thousands of dollars)
Statutory capital and surplus                                                           $166,285      $153,097          $147,100
Statutory net income (loss)                                                                  456         8,319            (8,099)
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>


         The payment of dividends by VFL to Assurance without prior approval of
the Pennsylvania Insurance Department is limited to formula amounts. As of
December 31, 2000, dividends of approximately $16.6 million were not subject to
prior Insurance Department approval.

                                       27

<PAGE>   28
         In March 1998, the NAIC adopted the Codification of Statutory
Accounting Principles (Codification). Codification, which is intended to
standardize regulatory accounting and reporting to state insurance departments,
is effective January 1, 2001. However, statutory accounting principles will
continue to be established by individual state laws and permitted practices. The
states in which VFL conducts business will require adoption of Codification
(with certain modifications) for the preparation of statutory financial
statements effective January 1, 2001. VFL estimates that the adoption of
Codification, as modified, will increase statutory capital and surplus as of
January 1, 2001 by approximately $1.3 million, which primarily relates to the
recognition of  deferred tax assets partially offset by establishment of
liabilities for insurance related-assessments and pensions.


NOTE 5.  COMPREHENSIVE INCOME

         Comprehensive income is comprised of all changes to stockholder's
equity, including net income, except those changes resulting from transactions
with stockholders in their capacity as stockholders. Accumulated other
comprehensive income (loss) is comprehensive income exclusive of net income. The
change in the components of comprehensive income (loss) are shown in the
following table:


<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,                                                                    2000            1999          1998
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                     <C>               <C>            <C>
(In thousand of dollars)
Net income (loss)                                                                        $19,924        $  3,781       $17,453
Other comprehensive income:
    Change in unrealized gains(losses) on general account investments                          -               -             -
         Holding gains arising during the period                                           9,907         (20,919)        3,991
         Less:  unrealized gains at beginning of period included in
                realized gains during the period                                          (9,760)          4,080         3,592
                                                                                   --------------   -------------   -----------
    Net change in unrealized gains(losses) on general account investments                 19,667         (24,999)          399
    Net change in unrealized gains(losses) on separate accounts and  other                  (667)          1,235          (235)
                                                                                   --------------   -------------   -----------
    Other comprehensive income (loss), before income tax                                  19,000         (23,764)          164
    Deferred income tax (expense) benefit related to other comprehensive
    income                                                                                (6,650)          8,317           (57)
                                                                                   --------------   -------------   -----------
Other comprehensive income (loss), net of tax                                             12,350         (15,447)          107
                                                                                   --------------   -------------   -----------
Total comprehensive income (loss)                                                        $32,274        $(11,666)      $17,560
===================================================================================================================================
</TABLE>



NOTE 6.  BENEFIT PLANS

         VFL has no employees as it has contracted with Casualty for services
provided by Casualty employees. As Casualty is a wholly owned subsidiary of
CNAF, all Casualty employees are covered by CNAF's Benefit Plans. CNAF's plans
are discussed below.

PENSION PLAN

         CNAF has noncontributory pension plans covering full time employees age
21 or over who have completed at least one year of service. While the benefits
for the plans vary, they are generally are based on years of credited service
and the employees' highest sixty consecutive months of compensation. Casualty is
included in the CNA Retirement Plan and VFL is allocated a share these expenses.
The net pension cost allocated to VFL was $0.4 million, $1.0 million, and $1.1
million for the years-ended December 31, 2000, 1999, and 1998, respectively.

         In 2000, employees of Casualty who were employed at December 31, 1999
and remained employed at April 24, 2000 were required to make a choice regarding
their continued participation in the pension plan. Employees who elected to
forgo earning additional benefits in the pension plan and all employees hired by


                                       28

<PAGE>   29
Casualty on or after January 1, 2000 receive enhanced contributions in the
Savings and Capital Accumulation Plan (S-CAP) (see Savings Plan discussion
below).

POSTRETIREMENT HEALTH CARE AND LIFE INSURANCE BENEFITS

         CNAF provides certain healthcare and life insurance benefits to
eligible retired employees, their covered dependents and their beneficiaries.
The funding for these plans is generally to pay covered expenses as they are
incurred. Net postretirement benefit cost allocated to VFL was $0.2 million,
$0.3 million, and $0.5 million for the years-ended December 31, 2000, 1999, and
1998, respectively.

SAVINGS PLAN

         Casualty employees are eligible to participate in the S-CAP, which is a
contributory plan that allows most employees to contribute a maximum of 13% of
their eligible compensation, subject to certain limitations prescribed by the
Internal Revenue Service. Casualty contributes an amount equal to 70% of the
first 6% of salary contributed by the employee. VFL is allocated a share of the
S-CAP expenses incurred by Casualty.

         As noted above, during 2000 Casualty employees were required to make a
choice regarding their continued participation in the pension plan. Employees
who elected to forego earning additional benefits in the pension plan and all
employees hired by Casualty on or after January 1, 2000 receive a company
contribution of 3% or 5% of their eligible compensation, depending on their age.
In addition, these employees are eligible to receive an additional discretionary
contribution of up to 2% of eligible compensation and an additional company
match of up to 80% of the first 6% of salary contributed by the employee. These
contributions are made at the discretion of management and are contributed to
participant accounts in the first quarter of the following year.

         CNAF contributions allocated to and expensed by VFL for the S-CAP were
$0.6 million, $0.2 million, and $0.2 million for the years ended December 31,
2000, 1999, and 1998, respectively.

NOTE 7.  INCOME TAXES

         VFL is taxed under the provisions of the Internal Revenue Code, as
applicable to life insurance companies, and is included along with Assurance,
its parent company, in the consolidated Federal income tax return of Loews. The
Federal income tax provision of VFL is computed on a stand-alone basis, as if
VFL was filing its own separate tax return.

         VFL maintains a special tax memorandum account designated as the
"Shareholder's Surplus Account." Dividends from this account may be distributed
to the shareholder without resulting in any additional tax. The amount in the
Shareholder's Surplus Account was $173.8 million, and $151.6 million at December
31, 2000 and 1999, respectively. Another tax memorandum account, defined as the
"Policyholders' Surplus Account," totaled $5.4 million and $5.4 million at
December 31, 2000 and 1999 respectively. No further additions to this account
are allowed. Amounts accumulated in the Policyholders' Surplus Account are
subject to income tax if distributed to the stockholder. VFL has no plans for
such a distribution and as a result, has not provided for such a tax.

                                       29

<PAGE>   30
          A reconciliation between VFL's federal income tax expense at
statutory rates and the recorded income tax expense before the cumulative
effect of a 1999 change in accounting principle is as follows:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
                                                               % OF                      % of                            % of
                                                              PRE-TAX                   Pre-tax                         Pre-tax
Year Ended December 31                            2000        INCOME         1999       Income          1998            Income
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                              <C>          <C>            <C>         <C>            <C>             <C>
(In thousands of dollars)
Income taxes at statutory rates                  $10,758      35.0          $2,136       35.0          $9,290            35.0
Other                                                 56       0.2             (49)      (0.8)           (199)           (0.8)
-----------------------------------------------------------------------------------------------------------------------------------
INCOME TAX AT EFFECTIVE RATES                    $10,814      35.2          $2,087       34.2          $9,091            34.2
===================================================================================================================================
</TABLE>


         The components of income tax expense are as follows:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
Year Ended December 31                                                             2000               1999               1998
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                             <C>                  <C>                 <C>
(In thousands of dollars)

Current tax expense (benefit)                                                   $11,973             $(2,837)            $7,033
Deferred tax expense                                                             (1,159)              4,924              2,058
-----------------------------------------------------------------------------------------------------------------------------------
    TOTAL INCOME TAX EXPENSE                                                    $10,814             $ 2,087             $9,091
===================================================================================================================================

</TABLE>

         Significant components of VFL's net deferred tax liabilities as of
December 31, 2000 and 1999 are shown in the table below:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
DECEMBER 31,                                                                                   2000                  1999
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                          <C>                   <C>
(In thousands of dollars)
Insurance reserves                                                                           $ 26,491               $ 20,715
Deferred acquisition costs                                                                    (48,730)               (45,457)
Investment valuation                                                                            4,925                  4,166
Net unrealized gains                                                                             (749)                 5,901
Annuity deposits and other                                                                      1,170                  9,349
Life Re Sale                                                                                    6,130                      -
Other, net                                                                                      1,723                  2,632
                                                                                       ---------------      ----------------
    NET DEFERRED TAX LIABILITIES                                                              $(9,040)               $(2,694)
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

         At December 31, 2000, gross deferred tax assets and liabilities
amounted to $42.0 million and $51.0 million, respectively. Gross deferred tax
assets and liabilities, at December 31, 1999, amounted to $44.3 million and
$47.0 million, respectively.



NOTE 8.  REINSURANCE

         The ceding of insurance does not discharge VFL of its primary liability
to its policyholders. Therefore, a credit exposure exists with respect to
reinsurance ceded to the extent that any reinsurer is unable to meet the
obligations assumed under reinsurance agreements. VFL places reinsurance with
other carriers only after careful review of the nature of the contract and a
thorough assessment of the reinsurers' credit quality and claim settlement
performance. For carriers that are not authorized reinsurers in VFL's state of
domicile, VFL receives collateral, primarily in the form of bank letters of
credit. Such collateral was approximately $79,082 and $99,590 for December 31,
2000 and 1999 respectively.

         In the table below, the majority of life premium revenue is from long
duration type contracts, while the majority of accident and health insurance
premiums are from short duration contracts. The effects of reinsurance on
premium revenues are shown in the following table:


                                       30

<PAGE>   31
<TABLE>
<CAPTION>

-----------------------------------------------------------------------------------------------------------------------------------
                                                                                      PREMIUMS                         ASSUMED/NET
                                                             ----------------------------------------------------------------------
YEAR ENDED DECEMBER 31                                        DIRECT           ASSUMED         CEDED          NET            %
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                          <C>               <C>             <C>            <C>          <C>
(In thousands of dollars)
    2000
         LIFE                                                $745,983          $111,346       $778,556       $78,773        141%
         ACCIDENT & HEALTH                                      9,947           171,930         10,131       171,746        100
                                                             ----------------------------------------------------------------------
              TOTAL PREMIUMS                                 $755,930          $283,276       $788,687      $250,519        113%
                                                             ----------------------------------------------------------------------

    1999
         Life                                                $633,764          $109,964       $666,003      $ 77,725        141%
         Accident & Health                                      6,539           232,994          6,539       232,994        100
                                                             ----------------------------------------------------------------------
              Total Premiums                                 $640,303          $342,958       $672,542      $310,719        110%
                                                             ----------------------------------------------------------------------

    1998
         Life                                                $687,644          $ 78,156       $690,541      $ 75,259        104%
         Accident & Health                                      4,158           240,340          4,158       240,340        100
                                                             ----------------------------------------------------------------------
              Total Premiums                                 $691,802          $318,496       $694,699      $315,599        101%
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>


         Transactions with Assurance, as part of the Reinsurance Pooling
Agreement described in Note 1, are reflected in the above table. Premium
revenues ceded to non-affiliated companies were $503.5 million, $395.2 million,
and $263.4 million for the years ended December 31, 2000, 1999, and 1998,
respectively. Additionally, benefits and expenses for insurance claims and
policyholder benefits are net of reinsurance recoveries from non-affiliated
companies of $ 397.4 million, $263.4 million, and $203.4 million for the years
ended December 31, 2000, 1999, and 1998, respectively.

         Reinsurance receivables reflected on the balance sheets are amounts
recoverable from reinsurers who have assumed a portion of VFL's insurance
reserves. These balances are principally due from Assurance pursuant the
Reinsurance Pooling Agreement.

         The impact of reinsurance, including transactions with Assurance, on
life insurance in force is shown in the following schedule:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
                                                                                 LIFE INSURANCE IN FORCE             ASSUMED/NET
                                                              DIRECT         ASSUMED       CEDED         NET               %
                                                       ----------------------------------------------------------------------------
<S>                                                         <C>              <C>           <C>           <C>          <C>
(in millions of dollars)
DECEMBER 31,  2000                                          $298,676        $37,712        $319,593      $16,795       224.5%
December 31,  1999                                          $267,102        $42,629        $281,883      $27,848       153.1
December 31,  1998                                          $224,615        $32,253        $230,734      $26,134       123.4
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

NOTE 9.  RELATED PARTIES

         As discussed in Note 1, VFL is party to a Reinsurance Pooling Agreement
with its parent, Assurance. In addition, VFL is party to the CNA Intercompany
Expense Agreement whereby expenses incurred by CNAF and each of its subsidiaries
are allocated to the appropriate companies. All acquisition and underwriting
expenses allocated to VFL are further subject to the Reinsurance Pooling
Agreement with Assurance, so that acquisition and underwriting expenses
recognized by VFL are ten percent of the acquisition and underwriting expenses
of the combined pool. Pursuant to the foregoing agreements, VFL recorded
amortization of deferred acquisition costs and other operating expenses totaling
$35.4 million, $37.5 million, and $47.6 million for 2000, 1999, and 1998,
respectively. Expenses of VFL exclude $ 12.2 million, $5.6 million, and $9.2
million of general and administrative expenses incurred by VFL and allocated to
CNAF for the years ended December 31, 2000,

                                       31

<PAGE>   32
1999, and 1998 respectively. VFL had a payable of $84.0 million and $12.4
million at December 31, 2000 and 1999 respectively to its affiliates.

         There were no interest charges on intercompany receivables or payables
for 2000, 1999 and 1998. In 2000 and 1999, Assurance made no capital
contributions to VFL. Assurance contributed $30.0 million in the form of
additional paid-in-capital in 1998 to VFL.

NOTE 10.  LEGAL

         VFL is party to litigation arising in the ordinary course of business.
The outcome of this litigation will not, in the opinion of management,
materially affect the financial position or results of operations of VFL.


NOTE 11.  BUSINESS SEGMENTS

         VFL operates in one reportable segment, the business of which is to
market and underwrite insurance products designed to satisfy the life, health
and retirement needs of individuals and groups. VFL products are distributed
primarily in the United States. Premium revenues earned outside the United
States are not material.

         The operations, assets and liabilities of VFL and its parent,
Assurance, are managed on a combined basis. Pursuant to a Reinsurance Pooling
Agreement, as amended, VFL cedes all of its business, excluding its Separate
Account business, to Assurance which is then pooled with the business of
Assurance, excluding Assurance's participating contracts and Separate Account
business, and 10% of the combined pool is assumed by VFL.

         The following presents net earned premiums by product group for each of
the years in the three years ended December 31, 2000:

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
(In thousands of dollars)                                                    2000                   1999                  1998
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                       <C>                  <C>                      <C>
Life                                                                       $ 78,773            $ 77,725                 $ 75,259
Accident and Health                                                         171,746             232,994                  240,340
-----------------------------------------------------------------------------------------------------------------------------------
Total                                                                      $250,519            $310,719                 $315,599
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

         During 1998, 1999, and through August 31, 2000, Assurance provided
health insurance benefits to postal and other federal employees under the
Federal Employees Health Benefit Plan (FEHBP). Premiums under this contract
between Assurance and FEHBP totaled $1.4 billion, $2.1 billion, and $2.0 billion
for the years ended December 31, 2000, 1999, and 1998, respectively, and the
portion of these premiums assumed by VFL under the Reinsurance Pooling Agreement
totaled $138 million, $207 million, and $201 million for the years ended
December 31, 2000, 1999 and 1998 respectively. Effective September 1, 2000, the
FEHBP business was transferred to another insurance entity owned by CNA. All the
assets and liabilities of this business were transferred through a novation
agreement, and VFL was relieved of any ongoing direct or contingent liability
with respect to this business. See Note 13 to the Financial Statements, included
herein.

                                       32


<PAGE>   33

NOTE 12.  CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE

         In the first quarter of 1999, VFL adopted Statement of Position 97-3
"Accounting by Insurance and Other Enterprises for Insurance-Related
Assessments" (SOP 97-3). SOP 97-3 requires that insurance companies recognize
liabilities for insurance-related assessments when an assessment is probable and
will be imposed, when it can be reasonably estimated, and when the event
obligating the entity to pay or probable assessment has occurred on or before
the date of the financial statements. Adoption of SOP 97-3 resulted in an after
tax charge of $234 thousand ($360 thousand, pre-tax) as a cumulative effect of a
change in accounting principle for the year 1999. The pro forma effect of
adoption on reported results for 1998 is not significant.

NOTE 13. OTHER EVENTS

FEDERAL HEALTH BENEFIT PLAN TRANSACTIONS

         The Federal Employee Health Benefit Plan (FEHBP) business formerly
written by Assurance and assumed by VFL as part of the Reinsurance Pooling
Agreement was transferred to another insurance entity owned by CNA effective
September 1, 2000. All assets and liabilities of this business were transferred
through a novation agreement, and VFL was relieved of any ongoing direct or
contingent liability with respect to this business.

INDIVIDUAL LIFE REINSURANCE TRANSACTION

         Effective December 31, 2000, CNA completed a transaction with Munich
American Reassurance Company (MARC), whereby MARC acquired CNA's individual Life
reinsurance business (Life Re) via a reinsurance agreement. CNA will continue to
accept and retrocede business on existing Life Re contracts until such time that
CNA and MARC are able to execute novations of each of Life Re's assumed and
retro-ceded reinsurance contracts.

         MARC assumed approximately $294 million of liabilities (primarily
future policy benefits and claim reserves) and approximately $209 million in
assets (primarily uncollected premium and deferred policy acquisition costs from
Assurance). A portion of the Life Re business is conducted through VFL as part
of the Reinsurance Pooling Agreement. VFL's share of the net gain from the
reinsurance transaction, which is subject to certain post-closing adjustments,
has been recorded as deferred revenue and will be recognized in income over the
next 12 to 18 months as Life Re's assumed contracts are novated to MARC.

         The following table summarizes VFL's share of the premiums, income
(loss) before income tax and total assets for FEHBP and Life Re business.

<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
YEAR-ENDED DECEMBER 31                                                                2000              1999              1998
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                  <C>                <C>               <C>
(In thousands of dollars)
 FEDERAL EMPLOYEE HEALTH BENEFIT PLAN:
       Premiums                                                                      $137,681           $207,383         $200,420
       Net operating income (loss)                                                      1,400              2,180              306
 LIFE RE:
       Premiums                                                                      $ 22,883           $ 19,417         $ 13,106
       Net operating income                                                             3,370              2,819            1,263
-----------------------------------------------------------------------------------------------------------------------------------
</TABLE>



                                       33

<PAGE>   34
<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------
YEAR-ENDED DECEMBER 31                                       2000              1999
---------------------------------------------------------------------------------------
<S>                                                         <C>                <C>
(In thousands of dollars)
TOTAL ASSETS:
 FEDERAL EMPLOYEE HEALTH BENEFIT PLAN (FEHBP)*              $     --           $ 35,283
 LIFE RE                                                    $ 33,641             27,669
---------------------------------------------------------------------------------------
</TABLE>

*FEHBP business transferred September 1, 2000

NOTE 14. SUBSEQUENT EVENT

         VFL and Assurance along with Casualty (collectively, the "Insurers")
have entered into an indemnity reinsurance agreement (the "Agreement") with CNA
Group Life Assurance Company ("CNAGLAC"), a newly formed and wholly-owned
subsidiary of Casualty whereby most of the existing group life and health
insurance business (excluding the FEHBP business which was transferred to
another insurance subsidiary of CNA via a novation agreement as discussed in
Note 13, and some runoff group and life insurance lines of business that will
remain with the Insurers) of the Insurers will be transferred to CNAGLAC via a
reinsurance agreement, effective January 1, 2001. The purpose of this
transaction, along with the FEHBP transaction that was completed on
September 1, 2000, is to move, over time, substantially all of the group life
and health insurance business from VFL and Assurance to other insurance
subsidiaries of CNAF.

         When CNAGLAC obtains the appropriate licenses to write group life and
health insurance business, CNAGLAC will replace the group life and health
insurance inforce contracts of the Insurers, excluding the FEHBP business, with
equivalent contracts issued directly by CNAGLAC.

          Excluding the FEHBP business, which was transferred out of VFL
effective September 1, 2000, the remaining group life and health insurance
business accounted for approximately $62.4 million and $43.0 million in assets
as of December 31, 2000 and 1999, respectively, and $1.7 million, $2.2 million
and $(2.0) million in net operating income (loss) for the three years ended
December 31, 2000, 1999, and 1998, respectively.

         The impact of this reinsurance agreement will result in VFL
transferring approximately $62.4 in liabilities along with an equal amount of
assets resulting in no impact on the equity of VFL.




                                       34
<PAGE>   35
SCHEDULE III

                       VALLEY FORGE LIFE INSURANCE COMPANY
                       SUPPLEMENTARY INSURANCE INFORMATION
<TABLE>
<CAPTION>

------------------------------------------------------------------------------------------------------------------------------------
                                        GROSS INSURANCE RESERVES                            INSURANCE
                                    ----------------------------------                      CLAIMS AND   AMORTIZATION
                        DEFERRED     CLAIM AND    FUTURE      POLICY-     NET       NET       POLICY-    OF DEFERRED       OTHER
YEAR ENDED             ACQUISITION     CLAIM      POLICY      HOLDERS'  PREMIUM  INVESTMENT  HOLDERS'     ACQUISITION    OPERATING
DECEMBER 31,              COSTS       EXPENSE    BENEFITS     FUNDS     REVENUE    INCOME    BENEFITS        COSTS        EXPENSES
------------------------------------------------------------------------------------------------------------------------------------
<S>                       <C>        <C>         <C>         <C>        <C>       <C>        <C>            <C>           <C>

(In thousands of dollars)
   2000                  $126,352    $110,418   $3,038,477   $40,338    $250,519  $46,665    $235,149       $14,428       $20,992
                         ========    ========   ==========   =======    ========  =======    ========       =======       =======
   1999                  $127,297    $139,653   $2,751,396   $43,466    $310,719  $39,148    $291,547       $13,942       $23,740
                         ========    ========   ==========   =======    ========  =======    ========       =======       =======
   1998                  $111,963    $ 93,001   $2,438,305   $42,746    $315,599  $35,539    $301,900       $11,807       $35,813
                         ========    ========   ==========   =======    ========  =======    ========       =======       =======
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>


                                       35


<PAGE>   36
SCHEDULE V

                       VALLEY FORGE LIFE INSURANCE COMPANY
                 VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------------------
                                                          BALANCE         CHARGED        CHARGED                        BALANCE
                                                            AT              TO             TO                             AT
                                                         BEGINNING       COSTS AND        OTHER                         END OF
                                                         OF PERIOD       EXPENSES       ACCOUNTS       DEDUCTIONS       PERIOD
-----------------------------------------------------------------------------------------------------------------------------------
<S>                                                     <C>             <C>               <C>               <C>          <C>

(In thousands of dollars)
YEAR ENDED DECEMBER 31, 2000
   Deducted from assets:
      Allowance for doubtful accounts:
        Receivables                                     $ 12            $ 16              $  -              $  -          $ 28
                                                        ====            ====              ====              ====          ====
YEAR ENDED DECEMBER 31, 1999
   Deducted from assets:
      Allowance for doubtful accounts:
        Receivables                                     $ 26            $ 43              $  -              $ 57          $ 12
                                                        ====            ====              ====              ====          ====
YEAR ENDED DECEMBER 31, 1998
   Deducted from assets:
      Allowance for doubtful accounts:
        Receivables                                     $285            $  9              $  -              $268          $ 26
                                                        ====            ====              ====              ====          ====
</TABLE>


                                       36


<PAGE>   37


                       VALLEY FORGE LIFE INSURANCE COMPANY

ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
         FINANCIAL DISCLOSURE

         None.


                                    PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
         OMITTED PURSUANT TO GENERAL INSTRUCTION I(2)(c) OF FORM 10-K.

ITEM 11. EXECUTIVE COMPENSATION
         OMITTED PURSUANT TO GENERAL INSTRUCTION I(2)(c) OF FORM 10-K.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
         OMITTED PURSUANT TO GENERAL INSTRUCTION I(2)(c) OF FORM 10-K.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
         OMITTED PURSUANT TO GENERAL INSTRUCTION I (2)(c) OF FORM 10-K.

                                     PART IV
ITEM 14. FINANCIAL STATEMENTS, SCHEDULES, EXHIBITS AND REPORTS ON FORM 8-K

(a)(1)FINANCIAL STATEMENTS.

A listing of all financial statements filed as part of this Annual Report on
Form 10-K is included on page 13 in Item 8.

(a)(2)FINANCIAL STATEMENT SCHEDULES.

The following are included in Item 8 of this report:

Schedule III - Supplementary Insurance Information page 35.
Schedule IV - Reinsurance, Note 8, page 30-31.
Schedule V - Valuation and Qualifying Accounts and Reserves page 36.

Other schedules are omitted because of the absence of conditions under which
they are required or because the required information is provided in the
Financial Statements or notes thereto.


                                       37

<PAGE>   38

                       VALLEY FORGE LIFE INSURANCE COMPANY

 (a)(3)EXHIBITS.

3(i)     Articles of Incorporation are incorporated herein by reference to
         exhibit number 6 to the Form N-4EL Registration Statement filed with
         the Securities and Exchange Commission on February 20, 1996 (File No.
         333-1087).

3(ii)    Bylaws are incorporated herein by reference to exhibit number 6 to the
         Form N-EL Registration Statement filed with the Securities and Exchange
         Commission on February 20, 1996 (File No. 333-1087).

4(a)     Form of Flexible Premium Deferred Variable Annuity Contract is
         incorporated herein by reference to exhibit number 4 to the Form N-4EL
         Registration Statement filed with the Securities and Exchange
         Commission on February 20, 1996 (File No. 333-1087).

4(b)     Form of Qualified Plan Endorsement to Flexible Premium Deferred
         variable Annuity Contract is incorporated herein by reference to
         exhibit number 4 to the Form N-4EL Registration Statement filed with
         the Securities and Exchange Commission on February 20, 1996 (File No.
         333-1087).

4(c)     Form of IRA Endorsement to Flexible Premium Deferred Variable Annuity
         Contract is incorporated herein by reference to exhibit number 4 to the
         Form N-4EL Registration Statement filed with the Securities and
         Exchange Commission on February 20, 1996 (File No. 333-1087).

4(d)     Form of Nursing Home Confinement, Terminal Medical Condition, Total
         Disability Endorsement to Flexible Premium Deferred Variable Annuity
         Contract is incorporated herein by reference to exhibit number 4 to the
         Form N-4EL Registration Statement filed with the Securities and
         Exchange Commission on February 20, 1996 (File No. 333-1087).

4(e)     Policy Application is incorporated herein by reference to exhibit
         number 5 to the Form N-4EL Registration Statement filed with the
         Securities and Exchange Commission on February 20, 1996 (File No.
         333-1087).

4(f)     Form of Single Premium Deferred Modified Guaranteed Annuity Certificate
         is incorporated herein by reference to exhibit number 4 to the Form S-1
         Registration Statement filed with the Securities and Exchange
         Commission on March 29, 1996 (File No. 333-2093).

4(g)     Form of Index Rider to Single Premium Deferred Modified Guaranteed
         Annuity Certificate is incorporated herein by reference to exhibit
         number 4 to the Form S-1 Registration Statement filed with the
         Securities and Exchange Commission on March 29, 1996 (File No.
         333-2093).

4(h)     Form of Qualified Plan Rider to Single Premium Deferred Modified
         Guaranteed Annuity Certificate is incorporated herein by reference to
         exhibit number 4 to the Form S-1 Registration Statement filed with the
         Securities and Exchange Commission on March 29, 1996 (File No.
         333-2093).

4(i)     Form of Individual Retirement Annuity Rider to Single Premium Deferred
         Modified Guaranteed Annuity Certificate is incorporated herein by
         reference to exhibit number 4 to the Form S-1 Registration Statement
         filed with the Securities and Exchange Commission on March 29, 1996
         (File No. 333-2093).

4(j)     Form of Nursing Home Confinement/Terminal Medical Condition Rider to
         Single Premium Deferred Modified Guaranteed Annuity Certificate is
         incorporated herein by reference to exhibit number 4 to the Form S-1
         Registration Statement filed with the Securities and Exchange
         Commission on March 29, 1996 (File No. 333-2093).

                                       38

<PAGE>   39

4(k)     Form of Group Contract and Individual Certificate to Single Premium
         Deferred Modified Guaranteed Annuity Certificate is incorporated herein
         by reference to exhibit number 4 filed with Pre-Effective Amendment No.
         1 to the Form S-1 Registration Statement filed with the Securities and
         Exchange Commission on October 17, 1996 (File No. 333-2093).

4(l)     Specimen of Individual Flexible Premium Variable and Fixed Life
         Insurance Policy is incorporated herein by reference to the initial
         filing of the Form S-6 Registration Statement filed with the Securities
         and Exchange Commission on March 25, 1996 (File No. 333-01949).

4(m)     Form of Waiver of Monthly Deduction Rider to Individual Flexible
         Premium Variable and Fixed Life Insurance Policy is incorporated herein
         by reference to the initial filing of the Form S-6 Registration
         Statement filed with the Securities and Exchange Commission on March
         25, 1996 (File No. 333-01949).

4(n)     Form of Term Insurance on Spouse Rider to Individual Flexible Premium
         Variable and Fixed Life Insurance Policy is incorporated herein by
         reference to the initial filing of the Form S-6 Registration Statement
         filed with the Securities and Exchange Commission on March 25, 1996
         (File No. 333-01949).

4(o)     Form of Term Insurance on Children Rider to Individual Flexible Premium
         Variable and Fixed Life Insurance Policy is incorporated herein by
         reference to the initial filing of the Form S-6 Registration Statement
         filed with the Securities and Exchange Commission on March 25, 1996
         (File No. 333-01949).

10(a)    Form of Participation Agreement between VFL and Federated Insurance
         Series is incorporated herein by reference to exhibit number 8 to the
         Form N-4EL/A Registration Statement filed with the Securities and
         Exchange Commission on August 30, 1996 (File No. 333-1087).

10(b)    Form of Participation Agreement between VFL and Variable Insurance
         Products Fund is incorporated herein by reference to exhibit number 8
         to the Form N-4EL/A Registration Statement filed with the Securities
         and Exchange Commission on August 30, 1996 (File No. 333-1087).

10(c)    Form of Participation Agreement between VFL and The Alger American Fund
         is incorporated herein by reference to exhibit number 8 to the Form
         N-4EL/A Registration Statement filed with the Securities and Exchange
         Commission on August 30, 1996 (File No. 333-1087).

10(d)    Form of Participation Agreement between VFL and MFS Variable Insurance
         Trust is incorporated herein by reference to exhibit number 8 to the
         Form N-4EL/A Registration Statement filed with the Securities and
         Exchange Commission on August 30, 1996 (File No. 333-1087).

10(e)    Form of  Participation  Agreement  between VFL and First  EagleSoGen
         Variable Funds, Inc. (formerly known as SoGen Variable Funds, Inc.) is
         incorporated  herein by reference to exhibit number 8 to the Form
         N-4EL/A  Registration  Statement filed with the Securities and Exchange
         Commission on August 30, 1996 (File No. 333-1087).

10(f)    Form of Participation Agreement between VFL and Van Eck Worldwide
         Insurance Trust is incorporated herein by reference to exhibit number 8
         to the Form N-4EL/A Registration Statement filed with the Securities
         and Exchange Commission on August 30, 1996 (File No. 333-1087).




                                       39

<PAGE>   40
10(g)    CNA Inter-Company Expense Agreement is incorporated herein by reference
         to exhibit number 10g to the Form S-1/A Registration Statement filed
         with the Securities and Exchange Commission on September 3, 1996 (File
         No. 333-1083).

10(h)    Amendment to the CNA Inter-Company Expense Agreement is incorporated
         herein by reference to exhibit number 10h to the Form S-1/A
         Registration Statement filed with the Securities and Exchange
         Commission on September 3, 1996 (File No. 333-1083).

10(i)    Reinsurance Pooling Agreement is incorporated herein by reference to
         exhibit number 10i to the Form S-1/A Registration Statement filed with
         the Securities and Exchange Commission on September 3, 1996 (File No.
         333-1083).

10(j)    Amendment to the Reinsurance Pooling Agreement is incorporated herein
         by reference to exhibit number 10j to the Form S-1/A Registration
         Statement filed with the Securities and Exchange Commission on
         September 3, 1996 (File No. 333-1083).

10(k)    Form of Participation Agreement between VFL and Janus Aspen Series is
         incorporated herein by reference to exhibit number 8 to the Form N-4
         Registration Statement Post-Effective Amendment No. 5 filed with the
         Securities and Exchange Commission on September 2, 1999 (File No.
         333-1087)

10(l)    Form of Participation Agreement between VFL and Lazard Retirement
         Series, Inc. is incorporated herein by reference to exhibit number 8
         to the Form N-4 Registration Statement Post-Effective Amendment No. 7
         filed with the Securities and Exchange Commission on April 26, 2000
         (File No. 333-1087)

10(m)    Form of Participation Agreement between VFL and Franklin Templeton
         Variable Insurance Products Trust is incorporated herein by reference
         to exhibit number 8 to the Form N-4 Registration Statement
         Post-Effective Amendment No. 7 filed with the Securities and Exchange
         Commission on April 26, 2000 (File No. 333-1087)

10(n)    Form of Participation Agreement between VFL and Alliance Fund
         Distributors, Inc. on behalf of Alliance Variable Products Series Fund,
         Inc. is incorporated herein by reference to exhibit number 8 to the
         Form N-4 Registration Statement Post-Effective Amendment No. 7 filed
         with the Securities and Exchange Commission on April 26, 2000 (File
         No. 333-1087)

10(o)    Form of Shareholder Services Agreement between VFL and American Century
         Investment Management, Inc. on behalf of American Century Variable
         Portfolios, Inc. is incorporated herein by reference to exhibit number
         8 to the Form N-4 Registration Statement Post-Effective Amendment
         No. 7 filed with the Securities and Exchange Commission on April 26,
         2000 (File No. 333-1087)

10(p)    Form of Participation Agreement between VFL and Universal Institutional
         Funds, Inc. is incorporated herein by reference to exhibit number 8 to
         the Form N-4 Registration Statement Post-Effective Amendment No. 7
         filed with the Securities and Exchange Commission on April 26, 2000
         (File No. 333-1087)

27       EXHIBITS AND REPORTS ON FORM 8-K

(a)      Exhibits - None

(b)      Reports on Form 8-K. None


                                       40

<PAGE>   41
                                   SIGNATURES

         Pursuant to the requirements of Section 13 or 15(d) 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.

                           Valley Forge Life Insurance Company

                           By            Bernard L. Hengesbaugh
                             --------------------------------------------------
                                         Bernard L. Hengesbaugh
                                         Chairman of the Board and
                                         Chief Executive Officer
                                         Principal Executive Officer

                           By            Robert V. Deutsch
                             --------------------------------------------------
                                         Robert V. Deutsch
                                         Director, Senior Vice President
                                         and Chief Financial Officer
                                         Principal Accounting Officer

Date: March 30, 2001
                    -


         Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant in the capacities indicated on the.

SIGNATURE                                 TITLE
---------                                 -----
Bernard L. Hengesbaugh                    Chairman of the Board,
----------------------
Bernard L. Hengesbaugh                    Chief Executive Officer and Director

Robert V. Deutsch                         Chief Financial Officer
-----------------
Robert V. Deutsch                         and Director

Lawrence J. Boysen                        Director
------------------
Lawrence J. Boysen

Jonathan D. Kantor                        Director
------------------
Jonathan D. Kantor

Donald P. Lofe, Jr.                       Director
-------------------
Donald P. Lofe, Jr.

Thomas Pontarelli                         Director
-------------------
Thomas Pontarelli