##### 









UNITED STATES SECURITIES AND EXCHANGE
COMMISSION

WASHINGTON, DC 20549




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Form 10-Q/A-1



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|           |  |                                                                                             
|---------- |  | --------------------------------------------------------------------------------------------
|(Mark One) |  |                                                                                             
|þ          |  | QUARTERLY REPORT PURSUANT TO SECTION 13
    OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
|          
|           |  | For the quarterly period ended
    September 30, 2003                                       
|          
|or        
|          
|o          |  | TRANSITION REPORT PURSUANT TO SECTION 13
    OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|          
|           |  | For the transition period
    from           to                                             

Commission File Number 1-16561

ANNUITY AND LIFE RE (HOLDINGS), LTD.

(Exact Name of Registrant as Specified in Its
Charter)


|                                                                   |  |                                      
|------------------------------------------------------------------ |  | -------------------------------------
|Bermuda                                                            |  | 66-0619270                           
|(State or Other Jurisdiction of
    Incorporation or Organization) |  | (IRS Employer
    Identification No.)
|                                                                  
|Cumberland House,
    1 Victoria Street,
    Hamilton, Bermuda     |  | HM11                                 
|(Address of Principal Executive
    Offices)                       |  | (Zip Code)                           

441-296-7667

(Registrants Telephone Number, Including
Area Code)


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

Indicate by check mark whether the registrant is
an accelerated filer (as defined in Rule 12b-2 of the
Exchange Act). Yes þ No
o

The number of the registrants Common Shares
(par value $1.00 per share) outstanding as of
November 5, 2003 was 26,473,728.



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##### 



INDEX TO FORM 10-Q/A

|           |  |                                                                                                                                                    |    |      |    | 
|---------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------- | -- | ---- | -- | 
|           |  |                                                                                                                                                    |    | Page
|           |  |                                                                                                                                                    |    |     
|           |  | PART I
    FINANCIAL INFORMATION                                                                                                                   |    |      |    | 
|           |  | Explanatory Note                                                                                                                                   |    |      | 1  | 
|          
|Item 1.    |  | Unaudited Consolidated Financial Statements                                                                                                        |    |      |    | 
|           |  | Consolidated Balance Sheets September 30,
    2003 (as restated) and December 31, 2002                                                             |    |      | 2  | 
|           |  | Consolidated Statements of Operations Three
    Months and Nine Months ended September 30, 2003 (as
    restated) and September 30, 2002           |    |      | 3  | 
|           |  | Consolidated Statements of Comprehensive (Loss)
    Three Months and Nine Months ended September 30, 2003 (as
    restated) and September 30, 2002 |    |      | 4  | 
|           |  | Consolidated Statements of Cash Flows Nine Months
    ended September 30, 2003 (as restated) and
    September 30, 2002                            |    |      | 5  | 
|           |  | Consolidated Statements of Changes in
    Stockholders Equity Nine Months ended September 30,
    2003 (as restated) and September 30, 2002       |    |      | 6  | 
|           |  | Notes to Unaudited Consolidated Financial
    Statements                                                                                           |    |      | 7  | 
|          
|Item 2.    |  | Managements Discussion and Analysis of
    Financial Condition and Results of Operations                                                          |    |      | 20 | 
|          
|Item 4.    |  | Controls and Procedures                                                                                                                            |    |      | 40 | 
|           |  | PART II
    OTHER INFORMATION                                                                                                                      |    |      |    | 
|Item 6.    |  | Exhibits and Reports on Form 8-K                                                                                                                   |    |      | 41 | 
|Signatures |  |                                                                                                                                                    | 42 |     



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##### 






Explanatory Note

This Amendment No. 1 to our Quarterly Report
on Form 10-Q for the fiscal quarter ended
September 30, 2003 is being filed to restate our financial
statements for the three and nine month periods ended
September 30, 2003 to reflect the effect of an increase in
the interest sensitive contracts liability associated with our
annuity reinsurance agreement with Transamerica Occidental Life
Insurance Company (Transamerica). In the third
quarter of 2003, we incorrectly reduced the liability associated
with our annuity reinsurance contract with Transamerica by
$3,820,297. The restatement reflects an increase in previously
reported interest sensitive contracts liability as of
September 30, 2003 from $700,977,967 to $704,798,264, and a
corresponding increase of $3,820,297 in interest credited to
interest sensitive products expense for each of the three and
nine month periods ended September 30, 2003. As a result of
this restatement, previously reported net income (loss) for the
three and nine months ended September 30, 2003 of $33,392
and $(121,157,865), respectively, has been restated to net
(losses) of $(3,786,905) and $(124,978,162), respectively, or a
$3,820,297 negative adjustment to previously reported net income
(loss) for each period. In addition, previously reported
stockholders equity of $146,399,823 has been restated to
$142,579,526, also a decrease of $3,820,297. This restatement
does not increase the amount of the deferred acquisition costs
asset recorded by us at September 30, 2003. In addition,
the restatement has no effect on our net cash flows used by
operating activities for the nine month period ended
September 30, 2003. Certain information provided in
response to Item 2: Managements Discussion and
Analysis of Financial Condition and Results of Operations has
been revised to reflect this restatement. In addition, we have
revised Item 4: Controls and Procedures to reflect the
recent appointment of John W. Lockwood as our Chief Financial
Officer.

Except for Note 12 to the Unaudited
Consolidated Financial Statements included in this Amendment
No. 1 to our Quarterly Report on Form 10-Q for the
fiscal quarter ended September 30, 2003, this amendment
does not update information that was presented in our original
Quarterly Report on Form 10-Q to reflect developments that
have occurred since we filed our original Form 10-Q.

Additional information about our company can be
found in the other filings we have made with the Securities and
Exchange Commission.

1



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##### 






PART I

FINANCIAL INFORMATION






|        |                                                
|------- | -----------------------------------------------
|Item 1. | Unaudited Consolidated Financial
    Statements



ANNUITY AND LIFE RE (HOLDINGS), LTD.

CONSOLIDATED BALANCE SHEETS

(U.S. dollars)


|                                                                                                                                                                     |                                            |                |              |               |  |   |               |               | 
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | -------------- | ------------ | ------------- |  | - | ------------- | ------------- | 
|                                                                                                                                                                     |                                            | September 30,  |              | December 31, 
|                                                                                                                                                                     |                                            | 2003           |              | 2002         
|                                                                                                                                                                     |                                            |                |              |              
|                                                                                                                                                                     |                                            | (Unaudited and |              |              
|                                                                                                                                                                     |                                            | as restated)   |              |              
|Assets                                                                                                                                                               |                                            |                |              |               |  |   |               |              
|Cash and cash equivalents                                                                                                                                            |                                            | $              | 113,859,239  |               |  | $ | 152,930,908   |              
|Fixed maturity investments at fair value
    (amortized cost of $96,058,034 and $146,487,903 at
    September 30, 2003 and December 31, 2002)                        |                                            |                | 98,810,759   |               |  |   | 153,415,429   |              
|Funds withheld at interest                                                                                                                                           |                                            |                | 695,573,638  |               |  |   | 1,427,093,380 |              
|Accrued investment income                                                                                                                                            |                                            |                | 1,083,924    |               |  |   | 2,141,338     |              
|Receivable for reinsurance ceded                                                                                                                                     |                                            |                | 89,506,699   |               |  |   | 93,669,173    |              
|Other reinsurance receivables                                                                                                                                        |                                            |                | 6,775,426    |               |  |   | 25,025,453    |              
|Deferred policy acquisition costs                                                                                                                                    |                                            |                | 74,844,406   |               |  |   | 187,913,648   |              
|Other assets                                                                                                                                                         |                                            |                | 965,194      |               |  |   | 2,508,858     |              
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              
|                                                                                                                                                                     | Total Assets                               |                | $            | 1,081,419,285 |  |   | $             | 2,044,698,187 | 
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              
|Liabilities                                                                                                                                                          |                                            |                |              |               |  |   |               |              
|Reserves for future policy benefits                                                                                                                                  |                                            | $              | 187,391,334  |               |  | $ | 269,619,809   |              
|Interest sensitive contracts liability                                                                                                                               |                                            |                | 704,798,264  |               |  |   | 1,443,143,080 |              
|Other reinsurance liabilities                                                                                                                                        |                                            |                | 38,013,037   |               |  |   | 51,139,164    |              
|Accounts payable and accrued expenses                                                                                                                                |                                            |                | 8,637,124    |               |  |   | 12,459,423    |              
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              
|                                                                                                                                                                     | Total Liabilities                          |                | $            | 938,839,759   |  |   | $             | 1,776,361,476 | 
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              
|Stockholders Equity                                                                                                                                                 |                                            |                |              |               |  |   |               |              
|Preferred shares (par value $1.00;
    50,000,000 shares authorized; no shares outstanding)                                                                          |                                            | $              |             |               |  | $ |              |              
|Common shares (par value $1.00;
    100,000,000 shares authorized; 26,473,728 and
    26,106,328 shares outstanding at September 30, 2003
    and December 31, 2002) |                                            |                | 26,473,728   |               |  |   | 26,106,328    |              
|Additional paid-in capital                                                                                                                                           |                                            |                | 334,481,610  |               |  |   | 335,334,932   |              
|Notes receivable from stock sales                                                                                                                                    |                                            |                |             |               |  |   | (1,626,493    | )            
|Unamortized stock grant compensation                                                                                                                                 |                                            |                | (1,732,985   | )             |  |   | (2,514,693    | )            
|Stock warrants                                                                                                                                                       |                                            |                | 1,250,000    |               |  |   |              |              
|Accumulated other comprehensive income                                                                                                                               |                                            |                | 2,211,223    |               |  |   | 6,162,525     |              
|(Accumulated deficit)                                                                                                                                                |                                            |                | (220,104,050 | )             |  |   | (95,125,888   | )            
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              
|                                                                                                                                                                     | Total Stockholders Equity                 |                | $            | 142,579,526   |  |   | $             | 268,336,711   | 
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              
|                                                                                                                                                                     | Total Liabilities and Stockholders Equity |                | $            | 1,081,419,285 |  |   | $             | 2,044,698,187 | 
|                                                                                                                                                                     |                                            |                |              |               |  |   |               |              

See accompanying Notes to Unaudited Consolidated
Financial Statements

2



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##### 






ANNUITY AND LIFE RE (HOLDINGS), LTD.

CONSOLIDATED STATEMENTS OF
OPERATIONS

(Unaudited and in U.S. dollars)


|                                                          |         |                            |            |                           |   |               |             |       |   |   |              |       |   |   |             |       |  
|--------------------------------------------------------- | ------- | -------------------------- | ---------- | ------------------------- | - | ------------- | ----------- | ----- | - | - | ------------ | ----- | - | - | ----------- | ----- | -
|                                                          |         |                            |            |                          
|                                                          |         | For the Three Months Ended |            | For the Nine Months Ended
|                                                          |         | September 30,              |            | September 30,            
|                                                          |         |                            |            |                          
|                                                          |         | 2003                       |            | 2002                      |   | 2003          |             | 2002 
|                                                          |         |                            |            |                           |   |               |             |      
|                                                          |         | (As restated)              |            |                           |   | (As restated) |             |      
|Revenues                                                  |         |                            |            |                           |   |               |             |      
|Net premiums                                              |         | $                          | 28,657,263 |                           |   | $             | 84,934,401  |       |   | $ | 148,586,899  |       |   | $ | 255,007,035 |      
|Investment income, net of related expenses                |         |                            | 16,250,225 |                           |   |               | 31,127,396  |       |   |   | 30,143,651   |       |   |   | 82,083,855  |      
|Net realized investment (losses) gains                    |         |                            | (52,025    | )                         |   |               | 9,297,351   |       |   |   | 6,508,019    |       |   |   | 10,813,315  |      
|Net change in fair value of embedded derivatives          |         |                            | 2,808,427  |                           |   |               | (13,277,823 | )     |   |   | 14,845,749   |       |   |   | (18,254,530 | )    
|Surrender fees and other revenues                         |         |                            | 1,667,997  |                           |   |               | 3,549,362   |       |   |   | 6,061,022    |       |   |   | 13,606,694  |      
|                                                          |         |                            |            |                           |   |               |             |       |   |   |              |       |   |   |             |      
|Total Revenues                                            |         | $                          | 49,331,887 |                           |   | $             | 115,630,687 |       |   | $ | 206,145,340  |       |   | $ | 343,256,369 |      
|                                                          |         |                            |            |                           |   |               |             |       |   |   |              |       |   |   |             |      
|Benefits and Expenses                                     |         |                            |            |                           |   |               |             |      
|Claim and policy benefits                                 |         | $                          | 19,075,004 |                           |   | $             | 91,381,831  |       |   | $ | 178,589,650  |       |   | $ | 224,640,576 |      
|Interest credited to interest sensitive products          |         |                            | 7,642,151  |                           |   |               | 18,345,349  |       |   |   | 16,731,452   |       |   |   | 57,215,862  |      
|Policy acquisition costs and other insurance
    expenses |         |                            | 22,796,448 |                           |   |               | 17,492,342  |       |   |   | 119,928,722  |       |   |   | 73,700,329  |      
|Collateral costs                                          |         |                            |           |                           |   |               | 3,731,580   |       |   |   |             |       |   |   | 6,080,321   |      
|Operating expenses                                        |         |                            | 3,605,189  |                           |   |               | 3,826,602   |       |   |   | 15,873,678   |       |   |   | 10,626,666  |      
|                                                          |         |                            |            |                           |   |               |             |       |   |   |              |       |   |   |             |      
|Total Benefits and Expenses                               |         | $                          | 53,118,792 |                           |   | $             | 134,777,704 |       |   | $ | 331,123,502  |       |   | $ | 372,263,754 |      
|                                                          |         |                            |            |                           |   |               |             |       |   |   |              |       |   |   |             |      
|Net (Loss)                                                |         | $                          | (3,786,905 | )                         |   | $             | (19,147,017 | )     |   | $ | (124,978,162 | )     |   | $ | (29,007,385 | )    
|                                                          |         |                            |            |                           |   |               |             |       |   |   |              |       |   |   |             |      
|Net (loss) per common share                               |         |                            |            |                           |   |               |             |      
|                                                          | Basic   |                            | $          | (0.15                     | ) |               | $           | (0.74 | ) |   | $            | (4.83 | ) |   | $           | (1.13 | )
|                                                          | Diluted |                            | $          | (0.15                     | ) |               | $           | (0.74 | ) |   | $            | (4.83 | ) |   | $           | (1.13 | )

See accompanying Notes to Unaudited Consolidated
Financial Statements

3



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##### 






ANNUITY AND LIFE RE (HOLDINGS), LTD.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE
(LOSS)

(Unaudited and in U.S. dollars)


|                                                                                 |  |                            |            |                           |  |               |             |      |  |   |              |   |  |   |             |  
|-------------------------------------------------------------------------------- |  | -------------------------- | ---------- | ------------------------- |  | ------------- | ----------- | ---- |  | - | ------------ | - |  | - | ----------- | -
|                                                                                 |  |                            |            |                          
|                                                                                 |  | For the Three Months Ended |            | For the Nine Months Ended
|                                                                                 |  | September 30,              |            | September 30,            
|                                                                                 |  |                            |            |                          
|                                                                                 |  | 2003                       |            | 2002                      |  | 2003          |             | 2002
|                                                                                 |  |                            |            |                           |  |               |             |     
|                                                                                 |  | (As restated)              |            |                           |  | (As restated) |             |     
|Net (loss) for the period                                                        |  | $                          | (3,786,905 | )                         |  | $             | (19,147,017 | )    |  | $ | (124,978,162 | ) |  | $ | (29,007,385 | )
|Other comprehensive (loss) income:                                               |  |                            |            |                           |  |               |             |      |  |   |              |   |  |   |             |  
|Unrealized holding (losses) gains on securities
    arising during the period    |  |                            | (482,029   | )                         |  |               | 17,633,359  |      |  |   | 2,556,717    |   |  |   | 20,486,539  |  
|Less reclassification adjustment for realized
    losses and gains in net (loss) |  |                            | (52,025    | )                         |  |               | 9,297,351   |      |  |   | 6,508,019    |   |  |   | 10,813,315  |  
|                                                                                 |  |                            |            |                           |  |               |             |      |  |   |              |   |  |   |             |  
|Other comprehensive (loss) income                                                |  | $                          | (430,004   | )                         |  | $             | 8,336,008   |      |  | $ | (3,951,302   | ) |  | $ | 9,673,224   |  
|                                                                                 |  |                            |            |                           |  |               |             |      |  |   |              |   |  |   |             |  
|Total Comprehensive (Loss)                                                       |  | $                          | (4,216,909 | )                         |  | $             | (10,811,009 | )    |  | $ | (128,929,464 | ) |  | $ | (19,334,161 | )
|                                                                                 |  |                            |            |                           |  |               |             |      |  |   |              |   |  |   |             |  

See accompanying Notes to Unaudited Consolidated
Financial Statements

4



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##### 






ANNUITY AND LIFE RE (HOLDINGS), LTD.

CONSOLIDATED STATEMENTS OF CASH
FLOWS

(Unaudited and in U.S. dollars)


|                                                                                         |                                                      |                           |              |             |   |   |              |             |  
|---------------------------------------------------------------------------------------- | ---------------------------------------------------- | ------------------------- | ------------ | ----------- | - | - | ------------ | ----------- | -
|                                                                                         |                                                      |                          
|                                                                                         |                                                      | For the Nine Months Ended
|                                                                                         |                                                      | September 30,            
|                                                                                         |                                                      |                          
|                                                                                         |                                                      | 2003                      |              | 2002       
|                                                                                         |                                                      |                           |              |            
|                                                                                         |                                                      | (As restated)             |              |            
|Cash flows from operating activities                                                     |                                                      |                           |              |             |   |   |              |            
|Net (loss)                                                                               |                                                      | $                         | (124,978,162 | )           |   | $ | (29,007,385  | )          
|Adjustments to reconcile net (loss) to cash
    (used) provided by operating activities: |                                                      |                           |              |             |   |   |              |            
|Net realized investment (gains)                                                          |                                                      |                           | (6,508,019   | )           |   |   | (10,813,315  | )          
|Net change in fair value of embedded derivatives                                         |                                                      |                           | (14,845,749  | )           |   |   | 18,254,530   |            
|Amortization of stock grant compensation                                                 |                                                      |                           | 295,786      |             |   |   | 541,344      |            
|Unrealized loss on interest rate swap                                                    |                                                      |                           |             |             |   |   | 2,005,000    |            
|Stock warrants expense                                                                   |                                                      |                           | 1,250,000    |             |   |   |             |            
|Changes in:                                                                              |                                                      |                           |              |             |   |   |              |            
|Accrued investment income                                                                |                                                      |                           | 1,057,414    |             |   |   | 833,266      |            
|Deferred policy acquisition costs                                                        |                                                      |                           | 113,069,242  |             |   |   | (19,015,030  | )          
|Other reinsurance receivables                                                            |                                                      |                           | 22,412,502   |             |   |   | (2,215,364   | )          
|Other assets                                                                             |                                                      |                           | 1,543,664    |             |   |   | 1,834,484    |            
|Reserves for future policy benefits                                                      |                                                      |                           | (82,228,475  | )           |   |   | 59,050,154   |            
|Interest sensitive contracts, net of funds
    withheld                                  |                                                      |                           | 8,020,675    |             |   |   | 1,386,015    |            
|Other reinsurance liabilities                                                            |                                                      |                           | (13,126,127  | )           |   |   | 5,560,803    |            
|Accounts payable and accrued expenses                                                    |                                                      |                           | (3,822,299   | )           |   |   | 2,980,910    |            
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|                                                                                         | Net cash (used) provided by operating
    activities |                           | $            | (97,859,548 | ) |   | $            | 27,726,444  |  
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|Cash flows from investing activities                                                     |                                                      |                           |              |             |   |   |              |            
|Proceeds from sales of fixed maturity investments                                        |                                                      | $                         | 329,135,148  |             |   | $ | 467,314,155  |            
|Purchase of fixed maturity investments                                                   |                                                      |                           | (271,973,762 | )           |   |   | (485,627,324 | )          
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|                                                                                         | Net cash provided (used) by investing
    activities |                           | $            | 57,161,386  |   |   | $            | (18,313,169 | )
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|Cash flows from financing activities                                                     |                                                      |                           |              |             |   |   |              |            
|Interest accrued on notes receivable                                                     |                                                      | $                         | (43,998      | )           |   | $ | (74,437      | )          
|Interest collected on notes receivable                                                   |                                                      |                           | 420,491      |             |   |   | 38,620       |            
|Repayments (issuances) of notes receivable                                               |                                                      |                           | 1,250,000    |             |   |   | (250,000     | )          
|Dividends paid to stockholders                                                           |                                                      |                           |             |             |   |   | (3,867,909   | )          
|Increase in deposit liability                                                            |                                                      |                           |             |             |   |   | 10,000,000   |            
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|                                                                                         | Net cash provided by financing activities            |                           | $            | 1,626,493   |   |   | $            | 5,846,274   |  
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|(Decrease) increase in cash and cash equivalents                                         |                                                      | $                         | (39,071,669  | )           |   | $ | 15,259,549   |            
|Cash and cash equivalents, beginning of period                                           |                                                      |                           | 152,930,908  |             |   |   | 104,793,019  |            
|                                                                                         |                                                      |                           |              |             |   |   |              |            
|Cash and cash equivalents, end of period                                                 |                                                      | $                         | 113,859,239  |             |   | $ | 120,052,568  |            
|                                                                                         |                                                      |                           |              |             |   |   |              |            

See accompanying Notes to Unaudited Consolidated
Financial Statements

5



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##### 






ANNUITY AND LIFE RE (HOLDINGS), LTD.

CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS EQUITY

(Unaudited and in U.S. dollars)


|                                            |  |                           |              |      |  |   |             |  
|------------------------------------------- |  | ------------------------- | ------------ | ---- |  | - | ----------- | -
|                                            |  |                          
|                                            |  | For the Nine Months Ended
|                                            |  | September 30,            
|                                            |  |                          
|                                            |  | 2003                      |              | 2002
|                                            |  |                           |              |     
|                                            |  | (As restated)             |              |     
|Preferred shares par value $1.00            |  |                           |              |      |  |   |             |  
|Balance at beginning and end of period      |  | $                         |             |      |  | $ |            |  
|                                            |  |                           |              |      |  |   |             |  
|Common shares par value $1.00               |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         | 26,106,328   |      |  | $ | 25,705,328  |  
|Issuance of shares                          |  |                           | 575,000      |      |  |   | 401,000     |  
|(Cancellation) of shares                    |  | $                         | (207,600     | )    |  | $ |            |  
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         | 26,473,728   |      |  | $ | 26,106,328  |  
|                                            |  |                           |              |      |  |   |             |  
|Additional paid-in capital                  |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         | 335,334,932  |      |  | $ | 332,447,062 |  
|Issuance of shares                          |  |                           | 353,250      |      |  |   | 2,887,870   |  
|(Cancellation) of shares                    |  |                           | (1,206,572   | )    |  |   |            |  
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         | 334,481,610  |      |  | $ | 335,334,932 |  
|                                            |  |                           |              |      |  |   |             |  
|Notes receivable from stock sales           |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         | (1,626,493   | )    |  | $ | (1,317,259  | )
|Repayments (issuances)                      |  |                           | 1,250,000    |      |  |   | (250,000    | )
|Interest collected on notes receivable      |  |                           | 420,491      |      |  |   | 38,620      |  
|Accrued interest during period              |  |                           | (43,998      | )    |  |   | (74,437     | )
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         |             |      |  | $ | (1,603,076  | )
|                                            |  |                           |              |      |  |   |             |  
|Unamortized stock grant compensation        |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         | (2,514,693   | )    |  | $ |            |  
|(Issuance) of stock grants                  |  |                           | (928,250     | )    |  |   | (3,288,870  | )
|Cancellation of stock grants                |  |                           | 1,414,172    |      |  |   |            |  
|Amortization of stock grants                |  |                           | 295,786      |      |  |   | 541,344     |  
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         | (1,732,985   | )    |  | $ | (2,747,526  | )
|                                            |  |                           |              |      |  |   |             |  
|Stock warrants outstanding                  |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         |             |      |  | $ |            |  
|Issuance of warrants                        |  |                           | 1,250,000    |      |  |   |            |  
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         | 1,250,000    |      |  | $ |            |  
|                                            |  |                           |              |      |  |   |             |  
|Accumulated other comprehensive
    income  |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         | 6,162,525    |      |  | $ | 6,418,469   |  
|Net unrealized (losses) gains on securities |  |                           | (3,951,302   | )    |  |   | 9,673,224   |  
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         | 2,211,223    |      |  | $ | 16,091,693  |  
|                                            |  |                           |              |      |  |   |             |  
|(Accumulated deficit) retained
    earnings |  |                           |              |      |  |   |             |  
|Balance at beginning of period              |  | $                         | (95,125,888  | )    |  | $ | 38,935,242  |  
|Net (loss)                                  |  |                           | (124,978,162 | )    |  |   | (29,007,385 | )
|Stockholder dividends                       |  |                           |             |      |  |   | (3,867,909  | )
|                                            |  |                           |              |      |  |   |             |  
|Balance at end of period                    |  | $                         | (220,104,050 | )    |  | $ | 6,059,948   |  
|                                            |  |                           |              |      |  |   |             |  
|Total Stockholders Equity                  |  | $                         | 142,579,526  |      |  | $ | 379,242,299 |  
|                                            |  |                           |              |      |  |   |             |  

See accompanying Notes to Unaudited Consolidated
Financial Statements

6



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.



NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS




|   |             
|-- | ------------
|1. | Organization

Annuity and Life Re (Holdings), Ltd.
(Holdings) was incorporated on December 2, 1997
under the laws of Bermuda. Holdings provides annuity and life
reinsurance to insurers and reinsurers through its wholly-owned
subsidiaries: Annuity and Life Reassurance, Ltd., which is
licensed under the laws of Bermuda as a long term insurer; and
Annuity and Life Re America, Inc., an insurance holding
company based in the United States, and Annuity and Life
Reassurance America, Inc., a life insurance company
domiciled in the United States. Holdings, Annuity and Life
Reassurance, Annuity and Life Re America and Annuity and Life
Reassurance America are collectively referred to herein as the
Company. The Company completed an initial public
offering of its equity securities and commenced operations on
April 17, 1998.



|   |            
|-- | -----------
|2. | Restatement

The Company has restated its financial statements
for the three and nine month periods ended September 30,
2003. In the third quarter of 2003, the Company incorrectly
reduced the liability associated with its annuity reinsurance
contract with Transamerica Occidental Life Insurance Company
(Transamerica) by $3,820,297. The restatement
reflects an increase in previously reported interest sensitive
contracts liability as of September 30, 2003 from
$700,977,967 to $704,798,264, and a corresponding increase of
$3,820,297 in interest credited to interest sensitive products
expense for each of the three and nine month periods ended
September 30, 2003. As a result of this restatement,
previously reported net income (loss) for the three and nine
months ended September 30, 2003 of $33,392 and
$(121,157,865), respectively, has been restated to net (losses)
of $(3,786,905) and $(124,978,162), respectively, or a
$3,820,297 negative adjustment to previously reported net income
(loss) for each period. In addition, previously reported
stockholders equity of $146,399,823 has been restated to
$142,579,526, also a decrease of $3,820,297. This restatement
does not increase the amount of the deferred acquisition costs
asset recorded by the Company at September 30, 2003. In
addition, the restatement has no effect on the Companys
net cash flows used by operating activities for the nine month
period ended September 30, 2003.

Certain other components of the Companys
unaudited consolidated financial statements including the notes
to the unaudited consolidated financial statements have changed
as a result of this restatement.



|   |                                    
|-- | -----------------------------------
|3. | Going Concern Basis of Presentation

The accompanying unaudited consolidated financial
statements of the Company have been prepared in accordance with
accounting principles generally accepted in the United States of
America (U.S. GAAP) for interim financial
information and in accordance with Regulation S-X.
Accordingly, they do not include all of the information and
footnotes required by U.S. GAAP for complete financial
statements. These consolidated financial statements should be
read in conjunction with the audited consolidated financial
statements and notes thereto contained in the Companys
Form 10-K for the fiscal year ended December 31, 2002,
as amended. In the opinion of management, all adjustments
considered necessary for a fair presentation have been included
in these financial statements.

The accompanying unaudited consolidated financial
statements of the Company have been prepared on a going concern
basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business.
However, the Company incurred significant operating losses in
2002 and the first nine months of 2003. Further, the financial
strength ratings of the Companys operating subsidiaries
were downgraded in 2002 and 2003 by A.M. Best,
Standard & Poors, and Fitch Ratings to C+, BB-,
and C, respectively. At the Companys request, all three
financial ratings have been withdrawn.

In addition, the Company is required to post
collateral for the statutory reserves ceded to it by
U.S. based insurers and reinsurers. As of
September 30, 2003, the Company did not have sufficient
available cash and investments to satisfy the collateral
requirements asserted by CIGNA, the cedent under the
Companys only

7



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

guaranteed minimum death benefit
(GMDB) and guaranteed minimum income benefit
(GMIB) agreement. The collateral requirement for
this agreement is determined at the end of each calendar year
and does not change in interim periods. As of December 31,
2002, CIGNA asserted that the Company was required to satisfy
additional collateral requirements of approximately
$59.0 million in excess of the $11.0 million of
collateral posted. The Company has not agreed with CIGNAs
computation of the $70.0 million collateral requirement and
has not posted any additional collateral under the agreement. As
a result, CIGNA has alleged that the Company is in breach of its
agreement, and may institute arbitration or litigation
proceedings to seek remedies for the alleged breach. If the
Company does not prevail in any such arbitration or litigation
proceedings, it would have a material adverse effect on the
Companys financial condition and the Company may be
required to liquidate its operations. As of September 30,
2003, the Company had met the collateral requirements of its
other cedents, and the Company expects to be able to meet any
collateral requirements asserted at December 31, 2003,
other than CIGNA.

As of September 30, 2003, the Company had
$26.7 million of outstanding unsecured letters of credit
issued on its behalf by Citibank that expire on
December 31, 2003. In November 2003, Citibank agreed to
renew the Companys unsecured letter of credit facility
until December 31, 2004 if the Company reduces the
unsecured balance of the letter of credit facility to
$17.0 million by November 30, 2003. If the Company
does not reduce the unsecured balance of the letter of credit
facility to $17.0 million by November 30, 2003 and
Citibank does not renew the letters of credit, the letters of
credit will expire on December 31, 2003 and the
Companys cedents will be entitled to draw on the letters
of credit. The Company would then be obligated to repay Citibank
for any amounts drawn.

Under Bermuda law, a single creditor could make a
statutory demand upon the Company for satisfaction of
obligations owed to that creditor. If the statutory demand is
held to be valid, and the Company is unable to satisfy its
obligations to that creditor, the creditor may institute
proceedings seeking the liquidation of the Company. As of the
date of this report, the Company has been served with three
statutory demands under Bermuda law. The Company satisfied or
otherwise eliminated its obligations to two of the parties
making those demands. The third demand relates to an allegation
that the Company owes $640,000 to Imagine Re, a Bermuda based
reinsurance company, as reimbursement for expenses incurred by
Imagine Re in connection with a proposed December 2002 capital
raising transaction with the Company that was not consummated.
The Company believes that Imagine Re is not entitled to
reimbursement of these expenses under the applicable agreement
and intends to defend against Imagine Res claims. If an
undisputed creditor of the Company successfully pursues this
statutory process and the Company is unable to discharge its
obligations, liquidation proceedings could be commenced against
the Company.

Transamerica has alleged that the Company owes
$14.9 million under its annuity reinsurance agreement with
it. The Company has not agreed that such amount currently is
owed to Transamerica and the parties are attempting to resolve
their issues. Transamerica has indicated that if the parties
cannot resolve their issues, it will attempt to put the
Companys Bermuda operating subsidiary into liquidation.

In addition to the discussions with Transamerica
related to the alleged amounts owed to it, the Company has been
attempting to engage Transamerica, and ultimately IL Annuity and
Insurance Company, the primary insurance company under the
Transamerica agreement, in discussions aimed at improving
investment returns from the convertible bond portfolio and
potentially redesigning the Vision Mark product to reduce the
minimum guarantee exposures from the Transamerica agreement. If
the Company is not successful in convincing Transamerica and IL
Annuity to restructure the portfolio and/or to redesign the
product, the Company may incur additional write downs of
deferred acquisition costs in the future.

On November 20, 2002, the State of
Connecticut Insurance Department and the Companys United
States domiciled operating subsidiary entered into a letter
agreement acknowledging that the Connecticut Insurance
Department is monitoring the financial condition of the
Companys United States domiciled operating subsidiary. The
letter agreement requires that certain financial transactions
entered into by the

8



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

subsidiary, including the disposal of assets,
payment of dividends and settlement of inter-company balances
with the Companys Bermuda operating subsidiary, be
pre-approved by the insurance department. In addition, the
Connecticut Insurance Department has requested weekly updates
from senior management of the U.S. operating subsidiary on
the status of the Company and any changes in the status of the
U.S. operating subsidiary. The letter agreement continues
to be effective until March 1, 2004.

In January 2003, the Company instituted
substantial premium rate increases on all of its non-guaranteed
premium yearly renewable term agreements. All of the
Companys cedents subject to the rate increase, except The
Metropolitan Life Insurance Companies (MetLife) and
one other cedent who has accepted the rate increase, have
recaptured their reinsurance agreements. MetLife has made the
rate increase a subject of arbitration with the Company, and has
indicated that its election to recapture is dependent upon the
arbitration panels conclusion about the validity of the
rate increase. On October 3, 2003, MetLife drew
approximately $7.4 million of assets held in trust for its
benefit. The Company believes the draw was inappropriate due to
the pending arbitration, but has chosen at this time not to
attempt to challenge the draw, as the Company will likely
request that the arbitration panel make it a subject of the
arbitration. The arbitration proceeding is scheduled to commence
on December 15, 2003.

The MetLife reinsurance agreement is the
Companys largest life reinsurance agreement. During the
first nine months of 2003, it produced $29.9 million of
premium revenue and $6.3 million of loss for the Company.
If the Company is not successful in obtaining the rate increase
through the arbitration and MetLife does not recapture the
agreement, the Company is likely to continue to incur losses
from this agreement for the foreseeable future. If the Company
is successful in the arbitration and MetLife recaptures the
agreement, the Companys annual premium revenues will
decline, but the Company would no longer incur losses under the
agreement.

The Company continues to consider its strategic
alternatives, including the possibility of raising new capital,
but has not been able to successfully raise new capital to date.
The Company has ceased to write new reinsurance agreements and
is not accepting any new business under existing treaties on
their current terms. The Company does not anticipate writing new
reinsurance agreements in the foreseeable future. In addition,
the Company is a defendant in a shareholder class action suit.
The plaintiffs have not disclosed the damages sought. These
aforementioned factors raise substantial doubt about the
Companys ability to continue as a going concern.

To date, the Companys plans have involved
reducing its collateral requirements by negotiating the
recapture, retrocession, novation or sale of certain of its
reinsurance agreements. During the first nine months of 2003,
these types of transactions resulted in significant losses for
the Company. While the Company may enter into similar
transactions in the future, it is not actively seeking to do so.

There can be no assurance that the Company will
be able to improve its operations and liquidity. If the Company
is unable to reposition its general account investment portfolio
to achieve a substantially higher yield within its investment
guidelines, successfully defend against the pending shareholder
class action suit, attain a favorable outcome from the MetLife
arbitration, and settle its issues with Transamerica regarding
their annuity reinsurance agreement, the Company may not be able
to meet its obligations. The Companys failure to achieve
any one of the foregoing items could have a material adverse
effect on its financial condition and results of operations. The
accompanying unaudited consolidated financial statements do not
include any adjustments that might be necessary should the
Company be unable to continue as a going concern.

9



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

4.     (Loss) Per
Share

The following table sets forth the computation of
basic and diluted (loss) per share for the three month and nine
month periods ended September 30:

|                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|-------------------------------------------------------- |  | ------------------ | ---------- | ----------------- |  | ------------- | ----------- | ---- |  | - | ------------ | - |  | - | ----------- | -
|                                                         |  |                    |            |                  
|                                                         |  | Three Months Ended |            | Nine Months Ended
|                                                         |  | September 30,      |            | September 30,    
|                                                         |  |                    |            |                  
|                                                         |  | 2003               |            | 2002              |  | 2003          |             | 2002
|                                                         |  |                    |            |                   |  |               |             |     
|                                                         |  | (As restated)      |            |                   |  | (As restated) |             |     
|Net (loss) available to common shareholders              |  | $                  | (3,786,905 | )                 |  | $             | (19,147,017 | )    |  | $ | (124,978,162 | ) |  | $ | (29,007,385 | )
|                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Basic:                                                   |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Weighted average number of common shares
    outstanding |  |                    | 25,893,861 |                   |  |               | 25,733,141  |      |  |   | 25,848,999   |   |  |   | 25,722,016  |  
|Net (loss) per share                                     |  | $                  | (0.15      | )                 |  | $             | (0.74       | )    |  | $ | (4.83        | ) |  | $ | (1.13       | )
|                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Diluted:                                                 |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Weighted average number of common shares
    outstanding |  |                    | 25,893,861 |                   |  |               | 25,733,141  |      |  |   | 25,848,999   |   |  |   | 25,722,016  |  
|Net (loss) per share                                     |  | $                  | (0.15      | )                 |  | $             | (0.74       | )    |  | $ | (4.83        | ) |  | $ | (1.13       | )
|                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  

5.     Business
Segments

The Company separately tracks financial results
of the Companys life and annuity operations in segments.
Each segment is defined by a dominant risk characteristic
inherent in all products in that segment. The life segment
consists of all products where the dominant risk characteristic
is mortality risk. The annuity segment comprises all products
where the dominant risk characteristic is investment risk,
including those products that provide minimum guarantees on
variable annuity products. In addition, certain of the
Companys modified coinsurance annuity reinsurance
agreements have features that constitute embedded derivatives
that require bifurcation and separate accounting under
FAS 133  Accounting for Derivative Instruments
and Hedging Activities. The change in the fair value of these
embedded derivatives is included in the annuity segment. Both
the life and annuity segments have specific assets, liabilities,
stockholders equity, revenue, benefits and expenses that
apply only to them. The corporate segment contains all
stockholders equity not otherwise deployed to the life or
annuity segment. In addition, the corporate segment includes all
capital gains and losses from sales of securities in the
Companys portfolio and investment income on undeployed
invested assets. Operating expenses are allocated to the
segments proportionately based upon the amount of
stockholders equity deployed to the segment, except for
capital raising costs, which are charged directly to the
corporate segment. Capital raising costs incurred in 2002 have
been reallocated to the corporate segment to maintain
comparability with the presentation for 2003. The Company
believes that investors will better understand the
Companys profitability, risk profile, and capital
deployment through this segment reporting method. There are no
intersegment transactions. The following table displays several
key measurements for each of the Companys business
segments:

|                      |  |             |             |             |  |           |             |              |  |   |            |   |  |   |               |  
|--------------------- |  | ----------- | ----------- | ----------- |  | --------- | ----------- | ------------ |  | - | ---------- | - |  | - | ------------- | -
|Three Months Ended    |  | Life        |             | Annuity     |  |           |             |             
|September 30, 2003    |  | Reinsurance |             | Reinsurance |  | Corporate |             | Consolidated
|                      |  |             |             |             |  |           |             |             
|(As restated)         |  |             |             |             |  |           |             |             
|Revenues              |  | $           | 30,013,563  |             |  | $         | 19,107,200  |              |  | $ | 211,124    |   |  | $ | 49,331,887    |  
|Benefits and Expenses |  |             | 29,434,795  |             |  |           | 22,548,719  |              |  |   | 1,135,278  |   |  |   | 53,118,792    |  
|                      |  |             |             |             |  |           |             |              |  |   |            |   |  |   |               |  
|Segment Income (Loss) |  | $           | 578,768     |             |  | $         | (3,441,519  | )            |  | $ | (924,154   | ) |  | $ | (3,786,905    | )
|                      |  |             |             |             |  |           |             |              |  |   |            |   |  |   |               |  
|Total Assets          |  | $           | 273,604,371 |             |  | $         | 730,598,264 |              |  | $ | 77,216,650 |   |  | $ | 1,081,419,285 |  
|                      |  |             |             |             |  |           |             |              |  |   |            |   |  |   |               |  

10



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  
|--------------------- |  | ----------- | ----------- | ----------- |  | --------- | ------------- | ------------ |  | - | ----------- |  |  | - | ------------- | -
|Three Months Ended    |  | Life        |             | Annuity     |  |           |               |             
|September 30, 2002    |  | Reinsurance |             | Reinsurance |  | Corporate |               | Consolidated
|                      |  |             |             |             |  |           |               |             
|Revenues              |  | $           | 86,708,167  |             |  | $         | 18,535,565    |              |  | $ | 10,386,955  |  |  | $ | 115,630,687   |  
|Benefits and Expenses |  |             | 96,647,003  |             |  |           | 36,789,209    |              |  |   | 1,341,492   |  |  |   | 134,777,704   |  
|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  
|Segment (Loss) Income |  | $           | (9,938,836  | )           |  | $         | (18,253,644   | )            |  | $ | 9,045,463   |  |  | $ | (19,147,017   | )
|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  
|Total Assets          |  | $           | 657,422,016 |             |  | $         | 1,549,867,709 |              |  | $ | 113,368,735 |  |  | $ | 2,320,658,460 |  
|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  

|                      |  |             |             |             |  |           |             |              |  |   |            |  |  |   |               |  
|--------------------- |  | ----------- | ----------- | ----------- |  | --------- | ----------- | ------------ |  | - | ---------- |  |  | - | ------------- | -
|Nine Months Ended     |  | Life        |             | Annuity     |  |           |             |             
|September 30, 2003    |  | Reinsurance |             | Reinsurance |  | Corporate |             | Consolidated
|                      |  |             |             |             |  |           |             |             
|(As restated)         |  |             |             |             |  |           |             |             
|Revenues              |  | $           | 147,690,979 |             |  | $         | 50,977,130  |              |  | $ | 7,477,231  |  |  | $ | 206,145,340   |  
|Benefits and Expenses |  |             | 231,596,707 |             |  |           | 95,353,065  |              |  |   | 4,173,730  |  |  |   | 331,123,502   |  
|                      |  |             |             |             |  |           |             |              |  |   |            |  |  |   |               |  
|Segment (Loss) Income |  | $           | (83,905,728 | )           |  | $         | (44,375,935 | )            |  | $ | 3,303,501  |  |  | $ | (124,978,162  | )
|                      |  |             |             |             |  |           |             |              |  |   |            |  |  |   |               |  
|Total Assets          |  | $           | 273,604,371 |             |  | $         | 730,598,264 |              |  | $ | 77,216,650 |  |  | $ | 1,081,419,285 |  
|                      |  |             |             |             |  |           |             |              |  |   |            |  |  |   |               |  

|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  
|--------------------- |  | ----------- | ----------- | ----------- |  | --------- | ------------- | ------------ |  | - | ----------- |  |  | - | ------------- | -
|Nine Months Ended     |  | Life        |             | Annuity     |  |           |               |             
|September 30, 2002    |  | Reinsurance |             | Reinsurance |  | Corporate |               | Consolidated
|                      |  |             |             |             |  |           |               |             
|Revenues              |  | $           | 260,319,388 |             |  | $         | 66,846,670    |              |  | $ | 16,090,311  |  |  | $ | 343,256,369   |  
|Benefits and Expenses |  |             | 256,465,768 |             |  |           | 111,901,285   |              |  |   | 3,896,701   |  |  |   | 372,263,754   |  
|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  
|Segment Income (Loss) |  | $           | 3,853,620   |             |  | $         | (45,054,615   | )            |  | $ | 12,193,610  |  |  | $ | (29,007,385   | )
|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  
|Total Assets          |  | $           | 657,422,016 |             |  | $         | 1,549,867,709 |              |  | $ | 113,368,735 |  |  | $ | 2,320,658,460 |  
|                      |  |             |             |             |  |           |               |              |  |   |             |  |  |   |               |  



|   |                     
|-- | --------------------
|6. | Accounting Standards

FASB Statement Number 148

In December 2002, the FASB issued Statement
Number 148  Accounting for Stock-Based
Compensation  Transition and Disclosure, an amendment
of FASB Statement Number 123. This statement provides
alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee
compensation. On January 1, 2003, the Company voluntarily
adopted the fair value based method of accounting for
stock-based employee compensation under the prospective method
described in FASB Statement Number 148. Under this method,
the Company applies fair value accounting to all grants of
employee stock options subsequent to December 31, 2002.
Previously, the Company had applied the intrinsic value method
when accounting for its stock-based compensation and continues
to apply the intrinsic value method to stock-based compensation
issued prior to January 1, 2003. FASB Statement Number 148
also amends the disclosure requirements of FASB Statement Number
123 to require more prominent disclosures in both annual and
interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method
used on reported results. The following table provides the
required

11



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

disclosure for grants made prior to the
Companys adoption of the prospective method described in
FASB Statement Number 148.

|                                                                                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|------------------------------------------------------------------------------------------------------------------------ |  | ------------------ | ---------- | ----------------- |  | ------------- | ----------- | ---- |  | - | ------------ | - |  | - | ----------- | -
|                                                                                                                         |  |                    |            |                  
|                                                                                                                         |  | Three Months Ended |            | Nine Months Ended
|                                                                                                                         |  | September 30,      |            | September 30,    
|                                                                                                                         |  |                    |            |                  
|                                                                                                                         |  | 2003               |            | 2002              |  | 2003          |             | 2002
|                                                                                                                         |  |                    |            |                   |  |               |             |     
|                                                                                                                         |  | (As restated)      |            |                   |  | (As restated) |             |     
|Net (loss)  as reported                                                                                                 |  | $                  | (3,786,905 | )                 |  | $             | (19,147,017 | )    |  | $ | (124,978,162 | ) |  | $ | (29,007,385 | )
|Pro forma effect on net (loss) of applying fair
    value accounting to pre January 1, 2003 option grants                |  |                    | (345,248   | )                 |  |               | (862,121    | )    |  |   | (1,440,849   | ) |  |   | (2,586,363  | )
|                                                                                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Net (loss)  pro forma                                                                                                   |  | $                  | (4,132,153 | )                 |  | $             | (20,009,138 | )    |  | $ | (126,419,011 | ) |  | $ | (31,593,748 | )
|                                                                                                                         |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|(Loss) per share as reported:                                                                                            |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Basic                                                                                                                    |  | $                  | (0.15      | )                 |  | $             | (0.74       | )    |  | $ | (4.83        | ) |  | $ | (1.13       | )
|Diluted                                                                                                                  |  | $                  | (0.15      | )                 |  | $             | (0.74       | )    |  | $ | (4.83        | ) |  | $ | (1.13       | )
|Pro forma effect on net (loss) per share of
    applying fair value accounting to pre January 1, 2003
    option grants: |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Basic                                                                                                                    |  | $                  | (0.01      | )                 |  | $             | (0.04       | )    |  | $ | (0.06        | ) |  | $ | (0.10       | )
|Diluted                                                                                                                  |  | $                  | (0.01      | )                 |  | $             | (0.04       | )    |  | $ | (0.06        | ) |  | $ | (0.10       | )
|Pro forma (loss) per share:                                                                                              |  |                    |            |                   |  |               |             |      |  |   |              |   |  |   |             |  
|Basic                                                                                                                    |  | $                  | (0.16      | )                 |  | $             | (0.78       | )    |  | $ | (4.89        | ) |  | $ | (1.23       | )
|Diluted                                                                                                                  |  | $                  | (0.16      | )                 |  | $             | (0.78       | )    |  | $ | (4.89        | ) |  | $ | (1.23       | )

AICPA Statement of Position (SOP
03-1)

In July 2003, the Accounting Standards Executive
Committee of the AICPA issued Statement of Position
(SOP) 03-1, Accounting and Reporting by Insurance
Enterprises for Certain Non-Traditional Long-Duration Contracts
and for Separate Accounts. The SOP provides guidance on
accounting and reporting by insurance enterprises for certain
nontraditional long-duration contracts and for separate
accounts. The SOP will change the manner in which life insurance
companies account for certain types of insurance and reinsurance
contracts including those that cover risks such as guaranteed
minimum death benefits and guaranteed minimum income benefits.
Additionally, the SOP provides accounting guidance for sales
inducements paid to contract holders and provides guidance for
establishing liabilities for contracts with features that may
result in more than one potential account balance. The SOP is
effective for financial statements for fiscal years beginning
after December 15, 2003, with earlier adoption encouraged.
The SOP may not be applied retroactively to prior years
financial statements, and initial application should be as of
the beginning of an entitys fiscal year. The Company has
an annuity reinsurance agreement with Transamerica and a
combined GMDB/GMIB contract with CIGNA that may be affected by
the adoption of this new SOP. Management is in the process of
reviewing the SOP and assessing its impact on the Companys
financial reporting, but has not yet completed its analysis.
Management believes that the impact on the Companys
accounting for the annuity reinsurance agreement with
Transamerica could be significant as a result of adopting the
SOP. Management also believes that the Companys carried
reserves for its GMDB/GMIB contract will not change
significantly as a result of adopting the SOP.

12



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



|   |                           
|-- | --------------------------
|7. | Related Party Transactions

XL Life Ltd

On December 31, 2002, the Company entered
into a transaction with XL Life Ltd (XL Life), a
subsidiary of XL Capital, pursuant to which the Company
transferred certain blocks of life reinsurance business to XL
Life. Under the agreement with XL Life, the Company novated five
blocks of life reinsurance business to XL Life, which in turn
entered into a 50% quota share reinsurance agreement with the
Company with respect to four of those blocks of business. As a
result of the transaction, the Company incurred a loss of
approximately $26.5 million, primarily as a result of a
write down of deferred acquisition costs of $38.7 million
(which was partially offset by a net ceding commission to the
Company of $18.0 million), a write down of prepaid expenses
of $2.4 million and transaction costs of approximately
$3.2 million. The agreement also provided that XL Life
would receive an additional payment of $5.0 million if,
during the 18 months following the agreement, the Company
received new capital funding of at least $35.0 million and
the Companys stock traded at a price at or above
$5.00 per share for a period of 20 out of any 30
consecutive trading days.

On August 5, 2003, XL Life served the
Company with notice of its intention to recapture the 50% quota
share reinsurance agreement with the Company. As a result, the
Company determined it would not be able to recover the deferred
acquisition costs carried for this agreement from future
expected income, and wrote down approximately $21.0 million
of such deferred acquisition costs in the three months ended
June 30, 2003.

The Company and XL Life have been in discussions
with respect to each partys rights and obligations under
the novation and retrocession agreements entered into at
December 31, 2002, as well as a $10.0 million excess
of loss reinsurance policy and a catastrophe excess of loss
cover that were each purchased by the Company from XL Life in
the first quarter of 2002 and two annuity reinsurance agreements
ceded to the Company by an affiliate of XL Life. The
$10.0 million excess of loss reinsurance policy was
purchased to protect against lifetime minimum interest guarantee
(LMIG) payments under the Companys annuity
reinsurance agreement with Transamerica, and full recovery under
the policy had been anticipated in establishing the
Companys deferred acquisition cost asset. The catastrophe
excess of loss cover expired by its terms on December 31,
2002, but the parties had continued to discuss with XL Life
the remaining obligations asserted under the agreement. The two
annuity reinsurance agreements had been in effect since
December 17, 1999, and represented approximately
$95.9 million (including a cumulative loss from embedded
derivatives of approximately $2.8 million) of the
Companys Funds withheld at interest and approximately
$95.6 million of the Companys Interest sensitive
contract and other liabilities at June 30, 2003.

As a result of the Companys discussions
with XL Life, the Company and XL Life and its affiliate
agreed to mutually discharge their respective rights and
obligations under all of the agreements described in the
preceding paragraph in a comprehensive settlement effective as
of July 1, 2003. Under the terms of the comprehensive
settlement, the Company paid $6.0 million to XL Life and
was released from any and all obligations to XL Life and its
affiliate under all of the agreements among the parties. In
addition, as part of the comprehensive settlement, the Company
is obligated to pay $2.0 million to XL Life if prior to
June 30, 2004 the Companys stock trades above
$2.00 per share for a period of 20 out of any 30
consecutive trading days and the Company raises an aggregate
$35.0 million of equity or debt.

Transactions with Management

During 1998, certain of the Companys
officers purchased 163,121 shares in the Company, and the
Company made loans to the officers to partially finance such
purchases. The loans accrued interest at 7% per annum and
certain unpaid loans became due and payable in April 2003. In
connection with the renegotiation or termination of certain
officers employment agreements, the Company has deemed the
outstanding loans of those officers to have been repaid in
exchange for the officers agreeing to forego certain bonus,
severance or

13



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

other payments that are or may become payable to
them. During the nine months ended September 30, 2003,
loans of $1.0 million with accrued interest of $402,812
were deemed repaid in this manner.



|   |                 
|-- | ----------------
|8. | Restricted Stock

In 2002, the Board of Directors adopted a
Restricted Stock Plan under which it may grant common shares to
key employees. The aggregate number of common shares that may be
granted under the Restricted Stock Plan is 1,200,000. The
Compensation Committee of the Board of Directors administers the
Restricted Stock Plan. During 2002, the Company made two awards
to employees. Under the first award to employees, the Company
issued 133,500 shares of restricted stock that vest on the
third anniversary of the grant date. Under the second award,
certain employees of the Company were irrevocably offered shares
of restricted stock, conditioned upon the execution of a
retention agreement with the Company. The Company issued an
aggregate 267,500 shares to those employees who chose to
execute retention agreements and such shares vest in three equal
annual installments commencing on the first anniversary of the
grant date.

During the first quarter of 2003, the Company
issued 200,000 shares of restricted stock to the
Companys President and Chief Executive Officer. These
shares vest in three equal annual installments commencing on the
first anniversary of the grant date. In addition, during the
second quarter of 2003, the Company issued an additional
375,000 shares of restricted stock in connection with
retention grants to employees. These shares also vest in three
equal annual installments commencing on the first anniversary of
the grant date. During the first nine months of 2003,
207,600 shares of restricted stock were cancelled as a
result of certain employees terminating their employment with
the Company. The fair value as determined at the date of grant
of the restricted stock awards that remain outstanding on
September 30, 2003 was approximately $2,500,000 and is
reflected in the Companys balance sheet as common shares
and additional paid-in-capital. The fair value of the
outstanding restricted stock is being amortized on a
straight-line basis over the three-year vesting period. The
unamortized balance of outstanding restricted stock is reflected
in the balance sheet as a component of unamortized stock grant
compensation.



|   |                                    
|-- | -----------------------------------
|9. | Vulnerability Due to Concentrations

The Company has entered into a significant
deferred annuity reinsurance agreement with Transamerica and a
significant life reinsurance agreement with MetLife. Due to the
size of these agreements, there is a material concentration of
net premiums, net investment income, interest credited to
interest sensitive products, funds withheld at interest,
deferred policy acquisition costs and interest sensitive
contract liabilities with one or both of the underlying parties
to these agreements.

At September 30, 2003 and December 31,
2002, approximately $625.3 million and $733.7 million,
respectively, of the Companys funds withheld at interest
receivable and approximately $631.9 million and
$755.9 million, respectively of the Companys interest
sensitive contracts liability related to its reinsurance
agreement with Transamerica, which is a retrocessional
reinsurance arrangement covering policies issued by IL Annuity.
In addition, deferred acquisition costs of approximately
$33.6 million and $50.0 million related to the
Transamerica reinsurance agreement at September 30, 2003
and December 31, 2002, respectively. Transamericas
agreement with IL Annuity is structured on a modified
coinsurance basis, so IL Annuity maintains ownership and control
of the assets supporting the Companys obligations to
Transamerica. At September 30, 2003, IL Annuitys
financial strength rating was BB+ from Standard &
Poors. At September 30, 2003, Transamerica had
financial strength or claims paying ratings of A+, AA, Aa3 and
AA+ (with a negative outlook) from A.M. Best,
Standard & Poors, Moodys Ratings and Fitch
Ratings, respectively.

During 2002, the Company recorded a write down of
deferred acquisition costs in connection with the Transamerica
agreement of approximately $27.5 million. This charge was
the result of a high level of surrenders of the underlying
policies coupled with poor investment performance on the
premiums paid by the holders of policies underlying the
reinsurance agreement. In writing down the deferred acquisition
costs to

14



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

their estimated recoverable amount, management
estimated the future levels of surrenders of the underlying
policies together with the estimated future level of investment
return on the invested premiums. As a result of the
comprehensive settlement with XL Life, approximately
$6.2 million of minimum interest guarantee payments that
would have been recovered subsequent to June 30, 2003 were
deemed recovered in the third quarter. In connection with this
deemed recovery, deferred acquisition costs of approximately
$6.2 million were amortized in the quarter ended
September 30, 2003. The comprehensive settlement did not
impact the Companys expected income under the Transamerica
agreement. While management has established its deferred
acquisition cost asset at what it believes to be an appropriate
level based upon reasonable assumptions about future investment
performance and surrenders, if actual experience varies
significantly from the assumptions used to establish the
deferred acquisition cost asset, additional write downs may be
needed in the future.

For the three and nine months ended
September 30, 2003, the Company recorded losses of
approximately $2.4 million and $6.3 million,
respectively, related to its life reinsurance agreement with
MetLife. Premiums associated with this agreement for the three
and nine months ended September 30, 2003, were
approximately $10.0 million and $29.9 million,
respectively.

In January 2003, the Company provided written
notice to MetLife of a premium rate increase in connection with
this agreement, effective March 5, 2003, which has become a
subject of the Companys arbitration with MetLife. On
October 3, 2003, MetLife drew approximately
$7.4 million of assets held in trust for its benefit. The
Company believes the draw was inappropriate due to the pending
arbitration, but has chosen at this time not to attempt to
challenge the draw, as the Company will likely request that the
arbitration panel make it a subject of the arbitration. As a
result of novations and recaptures of certain of the
Companys life reinsurance agreements during the year ended
December 31, 2002 and the first nine months of 2003,
MetLife now represents a significant percentage of the
Companys premium, revenue and net loss. If the Company is
not successful in obtaining the rate increase through the
arbitration and MetLife does not recapture the agreement, the
Company is likely to continue to incur losses from this
agreement for the foreseeable future. If the Company is
successful in the arbitration and MetLife recaptures the
agreement, the Companys annual premium revenues will
decline, but the Company would no longer incur losses under the
agreement.

On December 31, 2002, the Company entered
into a transaction with XL Life pursuant to which the
Company transferred certain blocks of life reinsurance business
to XL Life. Under the agreement with XL Life, the
Company novated five blocks of life reinsurance business to
XL Life, which in turn entered into a 50% quota share
reinsurance agreement with the Company with respect to four of
those blocks of business. On August 5, 2003, XL Life served
the Company with notice of its intention to recapture the 50%
quota share reinsurance agreement with the Company. The Company
and XL Life and its affiliate agreed to mutually discharge
their respective rights and obligations under this agreement,
along with four other agreements, in a comprehensive settlement
effective as of July 1, 2003. Under the terms of the
comprehensive settlement, the Company paid $6.0 million to
XL Life and was released from any and all obligations to XL Life
and its affiliate under all of the reinsurance agreements among
the parties.

As a result of the recapture or termination of
many of the Companys reinsurance agreements, certain of
the Companys remaining agreements, which previously did
not represent a significant percentage of the Companys
business, have become more prominent. For the three and nine
months ended September 30, 2003, the Company recorded
losses of approximately $2.2 million and $1.8 million,
respectively, related to its life reinsurance agreement with
Phoenix Home Life. Premiums associated with this agreement for
the three and nine months ended September 30, 2003 were
approximately $3.2 million and $11.6 million,
respectively. For the three and nine months ended
September 30, 2003, the Company recorded losses of
approximately $0.4 million and $2.4 million,
respectively, related to its life reinsurance agreement with
National States Life. Premiums associated with this agreement
for the three and nine months ended September 30, 2003
were

15



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

approximately $3.1 million and
$9.1 million, respectively. For the three and nine months
ended September 30, 2003, the Company recorded income of
approximately $0.2 million and losses of $1.5 million,
respectively, related to its remaining life reinsurance
agreement with Fidelity & Guarantee Life. Premiums
associated with this agreement for the three and nine months
ended September 30, 2003, were approximately
$4.5 million and $11.8 million, respectively.

The Companys United States domiciled
operating subsidiary, Annuity and Life Reassurance America, was
purchased from a subsidiary of SwissRe on May 31, 2000.
Immediately prior to the acquisition, 100% of Annuity and Life
Reassurance Americas life and annuity policies were
reinsured with Reassure America Life Insurance Company
(Reassure), a subsidiary of SwissRe, under an
indemnity co-insurance agreement. Following the acquisition, the
policies continue to be 100% reinsured with Reassure; however,
Annuity and Life Reassurance America remains the primary
carrier. Reassure is required to indemnify Annuity and Life
Reassurance America for any losses associated with these
policies. Reserves ceded under its reinsurance agreement
amounted to approximately $87.9 million and
$92.0 million at September 30, 2003 and
December 31, 2002, respectively. Reassure is rated A++ by
AM Best, its highest rating.



|    |              
|--- | -------------
|10. | Contingencies

As of September 30, 2003, the Company did
not have sufficient available cash and investments to post
collateral to satisfy the collateral requirements asserted by
CIGNA, the cedent under the Companys only guaranteed
minimum death benefit and guaranteed minimum income benefit
agreement. As of December 31, 2002, CIGNA asserted that the
Company was required to satisfy additional collateral
requirements of approximately $59.0 million in excess of
the $11.0 million of collateral the Company had posted. The
Company has not agreed with CIGNA regarding the computation of
the $70.0 million collateral requirement and has not posted
any additional collateral under the agreement. As a result,
CIGNA has alleged that the Company is in breach of its agreement
and may institute arbitration or litigation proceedings to seek
remedies for the alleged breach. If the Company does not prevail
in any such arbitration or litigation proceedings, it would have
a material adverse effect on the Companys financial
condition and the Company may be required to liquidate its
operations.

While the Company plans to attempt to continue
receiving premiums and paying claims under its remaining
reinsurance treaties, the Company has ceased to write new
reinsurance agreements and is not accepting any new business
under existing treaties on their current terms. The Company does
not anticipate writing new reinsurance agreements in the
foreseeable future. To date, the Companys plans have
involved reducing its collateral requirements by negotiating the
recapture, retrocession, novation or sale of certain of its
reinsurance agreements. During the first nine months of
2003, these types of transactions resulted in significant losses
for the Company. While the Company may enter into similar
transactions in the future, it is not actively seeking to do so.

In April 2002, the Company served written notice
of arbitration on MetLife, the cedent under its largest life
reinsurance agreement, seeking equitable relief and monetary
damages based on MetLifes misrepresentation of and failure
to disclose material facts relating to the agreement. In January
2003, the Company also provided written notice to MetLife of a
premium rate increase, effective March 5, 2003, which also
has become a subject of this arbitration. On October 3,
2003, MetLife drew approximately $7.4 million of assets
held in trust for its benefit. The Company believes the draw was
inappropriate due to the pending arbitration, but has chosen at
this time not to attempt to challenge the draw, as the Company
will likely request that the arbitration panel make it a subject
of the arbitration. If the Company is not successful in
obtaining the rate increase through the arbitration and MetLife
recaptures the agreement, the Company is likely to continue to
incur losses from this agreement for the foreseeable future. If
the Company is successful in the arbitration and MetLife
recaptures the agreement, the Companys annual premium
revenues will decline, but the Company would no longer incur
losses under the agreement. The arbitration is scheduled to
commence on December 15, 2003.

16



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

As of September 30, 2003, the Company had
$26.7 million of outstanding unsecured letters of credit
issued on its behalf by Citibank that expire on
December 31, 2003. In November 2003, Citibank agreed to
renew the Companys unsecured letter of credit facility
until December 31, 2004 if the Company reduces the
unsecured balance of the letter of credit facility to
$17.0 million by November 30, 2003. If the Company
does not reduce the unsecured balance of the letter of credit
facility to $17.0 million by November 30, 2003 and
Citibank does not renew the letters of credit, the letters of
credit will expire on December 31, 2003 and the
Companys cedents will be entitled to draw on the letters
of credit. The Company would then be obligated to repay Citibank
for any amounts drawn.

On November 20, 2002, the State of
Connecticut Insurance Department and the Companys United
States domiciled operating subsidiary entered into a letter
agreement acknowledging that the Connecticut Insurance
Department is monitoring the financial condition of the
Companys United States domiciled operating subsidiary. The
letter agreement requires that certain financial transactions
entered into by the subsidiary, including the disposal of
assets, payment of dividends and settlement of inter-company
balances with the Companys Bermuda operating subsidiary,
be pre-approved by the insurance department. In addition, the
Connecticut Insurance Department has requested weekly updates
from senior management of the U.S. operating subsidiary on
the status of the Company and any changes in the status of the
U.S. operating subsidiary. The letter agreement continues
to be effective until March 1, 2004.

On and since December 4, 2002, certain of
the Companys shareholders filed purported shareholder
class action lawsuits against the Company and certain of its
present and former officers and directors in the United States
District Court for the District of Connecticut seeking
unspecified monetary damages. The plaintiffs claim that the
defendants violated certain provisions of the United States
securities laws by making various alleged material misstatements
and omissions in public filings and press releases. No assurance
can be given that the Company will not be required to pay
monetary damages in connection with these lawsuits.

As discussed in Note 7 above, on
December 31, 2002, the Company entered into a transaction
with XL Life pursuant to which the Company transferred
certain blocks of life reinsurance business to XL Life. Under
the agreement with XL Life, the Company novated five blocks of
life reinsurance business to XL Life, which in turn entered into
a 50% quota share reinsurance agreement with the Company with
respect to four of those blocks of business. On August 5,
2003, XL Life served the Company with notice of its intention to
recapture the 50% quota share reinsurance agreement with the
Company. As a result, the Company determined it would not be
able to recover the deferred acquisition costs carried for this
agreement from future expected income, and wrote down
approximately $21.0 million of such deferred acquisition
costs in the three months ended June 30, 2003.

The Company and XL Life have been in discussions
with respect to each partys rights and obligations under
the novation and retrocession agreements entered into at
December 31, 2002, as well as a $10.0 million excess
of loss reinsurance policy and a catastrophe excess of loss
cover that were each purchased by the Company from XL Life in
the first quarter of 2002 and two annuity reinsurance agreements
ceded to the Company by an affiliate of XL Life. The
$10.0 million excess of loss reinsurance policy was
purchased to protect against LMIG payments under the
Companys annuity reinsurance agreement with Transamerica,
and full recovery under the policy had been anticipated in
establishing the Companys deferred acquisition cost asset.
The catastrophe excess of loss cover expired by its terms on
December 31, 2002, but the Company had continued to discuss
with XL Life the remaining obligations asserted under the
agreement. The two annuity reinsurance agreements had been in
effect since December 17, 1999, and represented
approximately $95.9 million (including a cumulative loss
from embedded derivatives of approximately $2.8 million) of
the Companys Funds withheld at interest and approximately
$95.6 million of the Companys Interest sensitive
contract and other liabilities at June 30, 2003.

As a result of the Companys discussions
with XL Life, the Company and XL Life and its affiliate agreed
to mutually discharge their respective rights and obligations
under all of the agreements described in the

17



---



##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

preceding paragraph in a comprehensive settlement
effective as of July 1, 2003. Under the terms of the
comprehensive settlement, the Company paid $6.0 million to
XL Life and was released from any and all obligations to XL Life
and its affiliate under all of the agreements among the parties.
In addition, as part of the comprehensive settlement, the
Company is obligated to pay $2.0 million to XL Life if
prior to June 30, 2004 the Companys stock trades
above $2.00 per share for a period of 20 out of 30
consecutive trading days and the Company raises an aggregate
$35.0 million of equity or debt.

On April 8, 2003, the Company received
notice from the New York Stock Exchange that it did not
satisfy the NYSEs continued listing standards as of that
date because the average closing price of the Companys
common shares had been below $1.00 for a 30 consecutive trading
day period. The notice stated that if the Company did not
achieve (i) a $1.00 average share price for the 30
consecutive trading days prior to October 7, 2003, the
expiration of the six month period following the date of
the receipt of the notification, and (ii) a
$1.00 share price on October 7, 2003, then the NYSE
would commence suspension and delisting procedures with respect
to the Companys common shares. In addition, the NYSE
informed the Company that it was considering whether it
continued to meet certain of the NYSEs qualitative
continued listing standards due to concerns over the
Companys financial condition. On October 14, 2003,
the NYSE informed the Company that it had satisfied the
NYSEs continued listing standards, and as a result would
not be delisted from the Exchange.

On October 8, 2003, the Company was served
with a statutory demand for $640,000 from Imagine Re, a Bermuda
based reinsurance company. Imagine Re alleges that the Company
is obligated to reimburse it for expenses incurred by Imagine Re
in connection with a proposed December 2002 capital raising
transaction that was not consummated. The Company believes that
Imagine Re is not entitled to reimbursement of these expenses
under the applicable agreement and intends to defend against
Imagine Res claims.

Transamerica has alleged that the Company owes
$14.9 million under its annuity reinsurance agreement with
it. The Company has not agreed that such amount currently is
owed to Transamerica and the parties are attempting to resolve
their issues. Transamerica has indicated that if the parties
cannot resolve their issues, it will attempt to put the
Companys Bermuda operating subsidiary into liquidation.

In addition to the discussions with Transamerica
related to the alleged amounts owed to it, the Company has been
attempting to engage Transamerica, and ultimately IL Annuity, in
discussions aimed at improving investment returns from the
convertible bond portfolio and potentially redesigning the
VisionMark product to reduce the minimum guarantee exposures
from the Transamerica agreement. If the Company is not
successful in convincing Transamerica and IL Annuity to
restructure the portfolio and/ or to redesign the product, the
Company may incur additional write downs of deferred acquisition
costs in the future.

There can be no assurance that the Company will
be able to improve its operations and liquidity. If the Company
is unable to reposition its general account investment portfolio
to achieve a substantially higher yield within its investment
guidelines, successfully defend against the pending shareholder
class action suit, attain a favorable outcome from the MetLife
arbitration, and settle its issues with Transamerica regarding
their annuity reinsurance agreement, the Company may not be able
to meet its obligations. The Companys failure to achieve
any one of the foregoing items could have a material adverse
effect on its financial condition and results of operations. The
accompanying unaudited consolidated financial statements do not
include any adjustments that might be necessary should the
Company be unable to continue as a going concern.



|    |               
|--- | --------------
|11. | Stock Warrants

On June 30, 2003, the Company issued
warrants to purchase an aggregate one million common shares
of the Company at an exercise price of $1.25 per share to
Hartford Life, the cedent under the Companys then largest
guaranteed minimum death benefit reinsurance agreement. The
warrants were issued in connection with the recapture of that
agreement and expire on June 30, 2013. At June 30,
2003, the fair value of warrants,

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##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

using a Black-Scholes pricing model, was
estimated at $1,250,000, which was included in the charge
associated with the recapture. The expense of issuing these
warrants is reflected as a component of Claim and policy
benefits expense in the Companys Consolidated Statements
of Operations and as Stock warrants in the Companys
Consolidated Balance Sheet.



|    |                  
|--- | -----------------
|12. | Subsequent Events

On December 19, 2003, the panel in the
arbitration proceeding between the Company and MetLife ruled
that the Companys rate increase on its reinsurance
agreement with MetLife was valid effective as of May 5,
2003. As a result of the ruling, MetLife chose to recapture its
reinsurance agreement. The impact of the ruling and
MetLifes recapture was to release funds the Company had
previously posted as collateral under that agreement. The
Company utilized a large portion of those funds to fully
collateralize Citibanks letter of credit facility with the
Company and to pay Transamerica an amount that the Company
believes was due to Transamerica as of October 31, 2003
under the Companys annuity reinsurance agreement with
Transamerica. The Company offset the amounts it paid to
Transamerica by $5.0 million for investment related
expenses that the Company felt were owed to it by Transamerica.
Transamerica is currently pursuing arbitration with the Company,
asserting that the $5.0 million offset is not justified and
that the Company owes Transamerica that amount and interest on
the amounts that Transamerica previously alleged were due.

19



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ANNUITY AND LIFE RE (HOLDINGS), LTD.


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)





|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|Item 2. | Managements Discussion and Analysis
    of Financial Condition and Results of Operations

General

Annuity and Life Re (Holdings), Ltd. was
incorporated on December 2, 1997 under the laws of Bermuda.
We provide annuity and life reinsurance to select insurers and
reinsurers through our wholly-owned subsidiaries: Annuity and
Life Reassurance, Ltd., which is licensed under the insurance
laws of Bermuda as a long term insurer; and Annuity and Life Re
America, Inc., an insurance holding company based in the
United States, and its subsidiary, Annuity and Life Reassurance
America, Inc., a life insurance company authorized to
conduct business in over 40 states of the United States and
the District of Columbia. We acquired Annuity and Life
Reassurance America on June 1, 2000. For more information
regarding the business and operations of our company and its
subsidiaries, please see our Annual Report on Form 10-K for
the year ended December 31, 2002, as amended.

As discussed in greater detail elsewhere in this
report, our company continued to encounter significant
difficulties during the nine month period ended
September 30, 2003. In addition to reporting a significant
operating loss for the first nine months of 2003, we
currently do not have sufficient available cash and investments
to satisfy the collateral requirements asserted by CIGNA, the
cedent under our only guaranteed minimum death benefit
(GMDB) and guaranteed minimum income benefit
(GMIB) agreement. CIGNA has asserted that we must satisfy
additional collateral requirements of approximately $59,000,000
in excess of the $11,000,000 of collateral we currently have
posted under the agreement. We have not agreed with CIGNAs
computation of the $70,000,000 collateral requirement and have
not posted any additional collateral under the agreement. As a
result, CIGNA has alleged that we are in breach of our
agreement, and may institute arbitration or litigation
proceeding to seek remedies for the alleged breach. If we do not
prevail in any such arbitration or litigation proceedings, it
would have a material adverse effect on our financial condition
and we may be required to liquidate our operations. As of
September 30, 2003, we had met the collateral requirements
of our other cedents, and we expect to be able to meet any
collateral requirements asserted at December 31, 2003,
other than CIGNA.

As of September 30, 2003, we had $26,700,000
of outstanding unsecured letters of credit issued on our behalf
by Citibank that expire on December 31, 2003. In November
2003, Citibank agreed to renew our unsecured letter of credit
facility until December 31, 2004 if we reduce the unsecured
balance of the letter of credit facility to $17,000,000 by
November 30, 2003. If we do not reduce the unsecured
balance of the letter of credit facility to $17,000,000 by
November 30, 2003 and Citibank does not renew the letters
of credit, the letters of credit will expire on
December 31, 2003 and our cedents will be entitled to draw
on the letters of credit. We would then be obligated to repay
Citibank for any amounts drawn.

As discussed in Note 7 to our unaudited
consolidated financial statements included elsewhere in this
report, on December 31, 2002, we entered into a transaction
with XL Life Ltd pursuant to which we transferred certain blocks
of life reinsurance business to XL Life. Under the agreement
with XL Life, we novated five blocks of life reinsurance
business to XL Life, which in turn entered into a 50% quota
share reinsurance agreement with us with respect to four of
those blocks of business. On August 5, 2003, XL Life served
us with notice of its intention to recapture the 50% quota share
reinsurance agreement with us. As a result, we determined we
would not be able to recover the deferred acquisition costs
carried for this agreement from future expected income, and we
wrote down approximately $21,000,000 of such deferred
acquisition costs during the three months ended June 30,
2003.

We have been in discussions with XL Life with
respect to each partys rights and obligations under the
novation and retrocession agreements entered into at
December 31, 2002, as well as a $10,000,000 excess of loss
reinsurance policy and a catastrophe excess of loss cover that
were each purchased by us in the first quarter of 2002 from XL
Life and two annuity reinsurance agreements ceded to us by an
affiliate of XL Life. The $10,000,000 excess of loss reinsurance
policy was purchased to protect against lifetime minimum
interest guarantee (LMIG) payments under our annuity
reinsurance agreement with Transamerica Occidental Life
Insurance Company (Transamerica), and full recovery under the
policy had been anticipated in establishing our deferred
acquisition cost asset. The catastrophe excess of loss cover
expired by its terms on December 31, 2002, but we had
continued to discuss with XL Life the remaining obligations
asserted under the agreement.

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The two annuity reinsurance agreements had been
in effect since December 17, 1999, and represented
approximately $95,900,000 (including a cumulative loss from
embedded derivatives of approximately $2,800,000) of our Funds
withheld at interest and approximately $95,600,000 of our
Interest sensitive contract and other liabilities at
June 30, 2003.


As a result of our discussions with XL Life, we
and XL Life and its affiliate agreed to mutually discharge our
respective rights and obligations under all of the agreements
described in the preceding paragraph in a comprehensive
settlement effective as of July 1, 2003. Under the terms of
the comprehensive settlement, we paid $6,000,000 to XL Life and
were released from any and all obligations to XL Life and its
affiliate under all of the agreements among the parties. In
addition, as part of the comprehensive settlement, we are
obligated to pay $2,000,000 to XL Life if prior to June 30,
2004 our stock trades above $2.00 per share for a period of
20 out of 30 consecutive trading days and we raise an aggregate
$35,000,000 of equity or debt.

In January 2003, we instituted substantial
premium rate increases on all of our non-guaranteed premium
yearly renewable term agreements. All of our cedents subject to
the rate increase, except The Metropolitan Life Insurance
Companies (MetLife) and one other cedent who has accepted the
rate increase, have recaptured their reinsurance agreements.
MetLife has made the rate increase a subject of arbitration with
us, and has indicated that its election to recapture is
dependent upon the arbitration panels conclusion about the
validity of the rate increase. On October 3, 2003, MetLife
drew approximately $7,400,000 of assets held in trust for its
benefit. We believe the draw was inappropriate due to the
pending arbitration, but have chosen at this time not to attempt
to challenge the draw, as we will likely request that the
arbitration panel make it a subject of the arbitration. If we
are not successful in obtaining the rate increase through
arbitration and MetLife does not recapture the agreement, we are
likely to continue to incur losses from this agreement for the
foreseeable future. If we are successful in the arbitration and
MetLife recaptures the agreement, our future annual premium
revenues will decline, but we would no longer incur losses under
the agreement. The arbitration is scheduled to commence on
December 15, 2003.

Transamerica has alleged that we owe $14,900,000
under our annuity reinsurance agreement with it. We have not
agreed that such amount currently is owed to Transamerica and we
are attempting to resolve our issues with Transamerica.
Transamerica has indicated that if we cannot resolve our issues,
it will attempt to put our Bermuda operating subsidiary into
liquidation.

In addition to the discussions with Transamerica
related to the alleged amounts owed to it, we have been
attempting to engage Transamerica, and ultimately IL Annuity and
Reinsurance Company (IL Annuity), the primary insurance company
under the Transamerica agreement, in discussions aimed at
improving investment returns from the convertible bond portfolio
and potentially redesigning the VisionMark product to reduce the
minimum guarantee exposures from the Transamerica agreement. If
we are not successful in convincing Transamerica and IL Annuity
to restructure the portfolio and/ or to redesign the product, we
may incur additional write downs of deferred acquisition costs
in the future.

To date, our plans have involved reducing our
collateral requirements by negotiating the recapture,
retrocession, novation or sale of certain of our reinsurance
agreements. During the first nine months of 2003, these types of
transactions resulted in significant losses for us. While we may
enter into similar transactions in the future, we are not
actively seeking to do so.

There can be no assurance that we will be able to
improve our operations and liquidity. If we are unable to
reposition our general account investment portfolio to achieve a
substantially higher yield within our investment guidelines,
successfully defend against the pending shareholder class action
suit, attain a favorable outcome from the MetLife arbitration,
and settle our issues with Transamerica regarding our annuity
reinsurance agreement, we may not be able to meet our
obligations. Our failure to achieve any one of the foregoing
items could have a material adverse effect on our financial
condition and results of operations. The accompanying unaudited
consolidated financial statements do not include any adjustments
that might be necessary should we be unable to continue as a
going concern.

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Critical Accounting Policies

Our consolidated financial statements are
prepared in accordance with accounting principles generally
accepted in the United States of America, which require our
management to make estimates and assumptions that affect the
amounts of our assets, liabilities, stockholders equity
and net income. We believe that the following critical
accounting policies, as well as those set forth in our
Form 10-K for the year ended December 31, 2002, as
amended, detail the more significant estimates and assumptions
used in the preparation of our consolidated financial statements.

Deferred Policy Acquisition
Costs.The costs of acquiring new
business, principally allowances, which vary with and are
primarily related to the production of new business, are
deferred. For traditional life and annuity policies with life
contingencies, deferred policy acquisition costs are charged to
expense using assumptions consistent with those used in
computing policy reserves. Assumptions as to anticipated
premiums are estimated at the date of the policy issuance, or
the effective date of the most recent premium rate increase, and
are consistently applied during the life of the agreements.
Deviations from estimated experience are reflected in earnings
in the period such deviations occur. For these agreements, the
amortization periods are generally the estimated life of the
policies. As discussed elsewhere in this report, we have novated
and recaptured a majority of our reinsurance agreements during
the first nine months of 2003. We may novate or recapture other
reinsurance agreements in the future. If these novations and
recaptures are done on unfavorable terms, we will incur
additional deferred acquisition cost write-downs.

In preparing our financial statements, we make
assumptions about our proportionate share of future investment
income that will be earned from the investment of premiums
received from underlying policyholders by our ceding companies
and about future rates of lapse of policies underlying our
annuity reinsurance agreements when estimating gross profits
arising from such agreements. These assumptions have a direct
impact on the amount of expected future LMIG payments and our
estimated expected gross profits on these annuity reinsurance
agreements and, therefore, on the recoverability of the deferred
acquisition costs carried on our balance sheet for these
agreements. While these estimates are based upon historical
results and information provided to us by our cedents, actual
results could differ (and, in the past, have differed)
materially from our estimates for a variety of reasons,
including the failure of our ceding companies to report timely
information regarding material developments under our
reinsurance agreements. Such differences could be material to
our future results. If our assumptions for investment returns
prove to be inaccurate, or if lapse rates exceed our
assumptions, we may be required to make additional LMIG payments
and record additional charges, which would adversely impact our
earnings.

Embedded
Derivatives.We have concluded that
there are embedded derivatives within the Funds withheld at
interest receivable related to one of our annuity reinsurance
agreements written on a modified coinsurance basis that require
bifurcation and separate accounting under Statement of Financial
Accounting Standards No. 133  Accounting for
Derivative Instruments and Hedging Activities. These embedded
derivatives are similar to a total return swap arrangement on
the underlying assets held by our ceding company under the
reinsurance agreement. The net fair value of these embedded
derivatives is classified as part of our Funds withheld asset on
our balance sheet. We have developed a cash flow model with the
assistance of outside advisors to arrive at an estimate of the
fair value of this total return swap that uses various
assumptions regarding future cash flows under the affected
annuity reinsurance agreement. The fair value of the embedded
derivative is influenced by changes in credit risk, changes in
expected future cash flows under the annuity agreement and
interest rates. The change in fair value of these embedded
derivatives is recorded in our statement of operations as Net
change in fair value of embedded derivatives, which is a
non-cash item. The change in fair value of these embedded
derivatives also impacts the emergence of expected gross profits
for purposes of amortizing deferred acquisition costs associated
with this agreement. The application of this accounting policy
has increased the volatility of our reported earnings. While we
have made an estimate of the fair value of these embedded
derivatives using a model that we believe to be appropriate and
based upon reasonable assumptions, the assumptions used are
subjective and may require adjustment in the future. In
addition, as industry standards for estimating the fair value of
embedded derivatives develop, it is possible that we may modify
our methodology. Changes in our assumptions and industry
standards could have a significant impact on the fair value of
the embedded derivatives and our reported earnings. We do not
bifurcate and

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separately account for the embedded derivatives
contained in our Transamerica annuity reinsurance agreement or
our GMDB/GMIB reinsurance agreement with CIGNA, because we
acquired those agreements prior to the transition date elected
by us under FAS 133, as amended by FAS 137 and
FAS 149. Because of the nature of the assets underlying our
Transamerica agreement, which were roughly 65% convertible
bonds at September 30, 2003, the bifurcation and separate
accounting for the embedded derivatives contained in that
agreement would add significant volatility to our reported
results. If we bifurcated and separately accounted for the
embedded derivative contained in our GMBD/GMIB reinsurance
agreement, it also would add volatility to our reported results.


Recognition of Revenues and
Expenses.Reinsurance premium revenues
from life products with mortality risk are recognized when due
from the policyholders. Premiums from universal life and
investment-type agreements are recorded on our balance sheet as
interest sensitive contracts liability. Revenues from these
investment-type agreements consist of income earned on the
assets and amounts assessed during the period against
policyholders account balances for mortality charges,
policy administration charges and surrender charges. Items that
are charged to expense represent interest credited to
policyholder accounts and other benefits in excess of related
policyholders account balances, including LMIG payments.
Such LMIG payments are recognized when paid upon the surrender
of the underlying policy and are not charged to the
policyholders account balances. We make estimates at the
end of each reporting period regarding premiums and benefits for
cedents who do not report such information in a timely manner.
These estimates can have a significant effect on the amounts we
report in our financial statements.

Reserves for Policy Benefits, Including Claims
Incurred but not Reported (IBNR) and Interest Sensitive
Contracts Liability.The development
of reserves for policy benefits and for claims incurred but not
reported for our life reinsurance agreements requires us to make
estimates and assumptions regarding mortality, lapse,
persistency, expense and investment experience. Such estimates
are primarily based on historical experience and information
provided by ceding companies. Actual results could differ
materially from those estimates. We monitor actual experience,
and where circumstances warrant, will revise our assumptions and
the related reserve estimates.

We reinsure certain minimum guarantees associated
with variable annuity agreements. These have historically
included GMDB, GMIB, and enhanced earnings benefits (EEB),
although, as of September 30, 2003, our combined GMDB/ GMIB
agreement with CIGNA was the only reinsurance agreement we had
covering minimum guarantees associated with variable annuity
agreements. Our accounting policy is designed to establish
reserves for expected claim payments based upon the view of
expected losses over the life of the underlying policies, based
upon original pricing assumptions. Our reserving policy allows
us to increase reserves if reported claim amounts or claims
volume exceed what was anticipated in pricing.

Policy benefit liabilities for fixed annuity
agreements are reflected on our balance sheet as Interest
sensitive contracts liability and are reported at the
accumulated policyholder balance of these accounts.

If actual events differ significantly from the
underlying estimates and assumptions used by us in the
application of these accounting policies, there could be a
material adverse effect on our results of operations and
financial condition.

AICPA Statement of Position (SOP
03-1).In July 2003, the Accounting
Standards Executive Committee of the AICPA issued Statement of
Policy (SOP) 03-1, Accounting and Reporting by Insurance
Enterprises for Certain Non-Traditional Long-Duration Contracts
and for Separate Accounts. The SOP provides guidance on
accounting and reporting by insurance enterprises for certain
nontraditional long-duration contracts and for separate
accounts. The SOP will change the manner in which life insurance
companies account for certain types of insurance and reinsurance
contracts including those that cover risks such as guaranteed
minimum death benefits and guaranteed minimum income benefits.
Additionally, the SOP provides accounting guidance for sales
inducements paid to contract holders and provides guidance for
establishing liabilities for contracts with features that may
result in more than one potential account balance. The SOP is
effective for financial statements for fiscal years beginning
after December 15, 2003, with earlier adoption encouraged.
The SOP may not be applied retroactively to prior years
financial statements, and initial application should be as of
the beginning of an entitys fiscal year. We have an
annuity reinsurance agreement

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with Transamerica and a combined GMDB/ GMIB
contract with CIGNA that may be affected by the adoption of this
new SOP. We are in the process of reviewing the SOP and
assessing its impact on our financial reporting, but have not
yet completed our analysis. We believe that the impact on our
accounting for the annuity reinsurance agreement with
Transamerica could be significant as a result of adopting the
SOP. We also believe that our carried reserves for our GMDB/
GMIB contract will not change significantly as a result of
adopting the SOP.


Operating Results

Net (Loss).For the
three months ended September 30, 2003, we had a net loss of
$(3,786,905), or $(0.15) per basic and fully diluted common
share, as compared with a net loss of $(19,147,017), or $(0.74)
per basic and fully diluted common share, for the three months
ended September 30, 2002. For the nine months ended
September 30, 2003, we had a net loss of $(124,978,162), or
$(4.83) per basic and fully diluted common share, as compared to
a net loss of $(29,007,385), or $(1.13) per basic and fully
diluted common share, for the nine months ended
September 30, 2002. Net loss in the third quarter of 2003
was primarily the result of a loss of approximately $4,450,000
on the Transamerica annuity reinsurance agreement due to a
reduction in deferred acquisition costs in excess of net
interest earned on the agreement during the third quarter, a
$2,397,000 loss on our MetLife agreement, a $2,174,000 loss on
our now second largest life reinsurance agreement due to
seasonal fluctuations in premiums and a large claim under that
agreement during the quarter, a loss of $1,180,000 on recaptured
life reinsurance agreements other than those recaptured in
connection with the comprehensive settlement with XL Life,
litigation costs of approximately $1,000,000, employee
compensation expenses of approximately $1,000,000 and an
increase in the reserve for our combined GMDB/GMIB agreement
with CIGNA of approximately $800,000. These losses were
partially offset by a $9,000,000 benefit resulting from the
comprehensive settlement between XL Life and us. The loss
for the first nine months of 2003 was primarily the result of
losses associated with recaptures and terminations of life and
annuity reinsurance agreements, as well as adverse claims
experience under our life reinsurance agreements.

During the nine months ended September 30,
2003, we negotiated the recapture and termination of certain of
our life and annuity reinsurance agreements. During the three
months ended September 30, 2003, we experienced a gain of
approximately $7,820,000 associated with recaptures and
terminations, reflecting the effect of a $9,000,000 benefit from
our comprehensive settlement with XL Life, partially offset
by net charges resulting from other recaptures and terminations
of approximately $1,180,000. These charges resulted from the
write down of deferred acquisition costs and cash payments made
to cedents net of reserve releases associated with the
recaptures. We incurred charges related to recaptures and
terminations of approximately $86,200,000 for the nine months
ended September 30, 2003, including charges incurred in the
second quarter with respect to Hartford Lifes recapture of
our then largest GMDB agreement of approximately $20,400,000 and
the write down in the second quarter of deferred acquisition
costs of approximately $21,000,000 associated with the expected
recapture of our 50% quota share reinsurance agreement with
XL Life. We also recorded income of approximately $620,000
and a loss of approximately $20,000,000, respectively, for the
three and nine month periods ended September 30, 2003 on
the life, annuity and GMDB agreements that were recaptured or
terminated during the respective periods. Reduced investment
gains and increased operating expenses due to litigation costs
and employee compensation also contributed to our net loss for
the nine month period ended September 30, 2003.

Net Premiums.Net
premium revenue for the three and nine month periods ended
September 30, 2003 was $28,657,264 and $148,586,899,
respectively, a decrease of 66% and 42%, respectively, from net
premium revenue of $84,934,401 and $255,007,035, respectively,
for the three and nine month periods ended September 30,
2002. Substantially all premium revenue was derived from
traditional ordinary life reinsurance. The decline in premium
revenue reflects the significant reduction of business in force
resulting from the novation and recapture of life reinsurance
agreements in the fourth quarter of 2002 and the first nine
months of 2003. At September 30, 2003, the total face
amount of life reinsurance in force had decreased to
approximately $30 billion, as compared with approximately
$151 billion at September 30, 2002. Approximately
$17 billion of business covered by our 50% quota share
reinsurance agreement with XL Life was recaptured during
the third quarter of 2003. Of the $30 billion still in
force at September 30, 2003,

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approximately $10.4 billion related to our
MetLife agreement, which is currently the subject of
arbitration, as described elsewhere in this report. Our next
largest life reinsurance agreement represented approximately
$7.2 billion of the business in force at September 30,
2003. We have stopped writing new reinsurance agreements and are
not accepting any new business under existing treaties on their
current terms. The novation, termination and recaptures of
reinsurance agreements during the first nine months of 2003 will
reduce net premiums in future periods.


Net Investment
Income.Total net investment income
for the three and nine month periods ended September 30,
2003 was $16,250,225 and $30,143,651, respectively, as compared
with $31,127,396 and $82,083,855, respectively, for the three
and nine month periods ended September 30, 2002. Net
investment income is comprised of income earned on our general
account assets and income earned on assets held and managed by
our reinsurance cedents under modified coinsurance agreements,
which we refer to as Funds withheld. Both sources of investment
income declined from the comparable prior periods.

Net investment income earned on general account
assets for the three and nine month periods ended
September 30, 2003 was approximately $1,100,000 and
$4,408,000, respectively, as compared to approximately
$5,845,000 and $19,080,000, respectively, for the three and nine
month periods ended September 30, 2002. The decrease in net
investment income for the three and nine months periods ended
September 30, 2003 was primarily the result of our return
of approximately $147,000,000 of invested assets on
December 31, 2002 related to the termination of a
reinsurance agreement that provided cash deposits to us that
were used to secure collateral obligations of our
U.S. based cedents, as well as lower investment returns
resulting from the shift in our general account assets towards a
greater cash position. Because the amount of our cash and
invested assets has decreased significantly due to our operating
losses, as well as the recapture and termination of certain of
our reinsurance agreements, we expect our net investment income
for the balance of 2003 to be substantially less than the
comparable period of 2002.

The average annualized yield rate earned on our
general account assets for the three and nine months ended
September 30, 2003 was approximately 2.01% and 2.45%,
respectively, as compared with approximately 5.14% and 5.28%,
respectively, for the three and nine months ended
September 30, 2002. The decline in yield rates primarily
reflects our decision to invest funds supporting our letters of
credit in cash equivalents in an effort to maximize our
collateral funding ability and to minimize the impact of
changing interest rates on our collateral obligations.

Net investment income earned on Funds withheld
for the three and nine month periods ended September 30,
2003 was approximately $15,151,000 and $24,623,000,
respectively, as compared to approximately $25,282,000 and
$63,004,000, respectively, for the three and nine month periods
ended September 30, 2002. The decrease in investment income
on our Funds withheld for the three and nine month periods ended
September 30, 2003 is primarily due to a significant
reduction in Funds withheld as a result of terminations of
several large annuity reinsurance agreements and continued
lapses under remaining reinsurance agreements, which reduce the
invested asset base that generates investment returns.

The average annualized yield rates earned on
Funds withheld were approximately 5.16% and 3.03%, respectively,
for the three and nine months ended September 30, 2003, as
compared with 6.97% and 5.90%, respectively, for the three and
nine months ended September 30, 2002. This reduction in
yield rates is primarily the result of the termination of our
annuity reinsurance agreement with Ohio National in the first
quarter of 2003 and lower investment returns on the assets
underlying our Transamerica annuity reinsurance agreement in
2003.

Net Realized Investment (Losses)
Gains.Net realized investment
(losses) gains for the three and nine month periods ended
September 30, 2003 were $(52,025) and $6,508,019,
respectively, as compared with net realized investment gains of
$9,297,351 and $10,813,315, respectively, for the three and nine
month periods ended September 30, 2002. The decrease in net
realized investment gains for the three and nine months ended
September 30, 2003 was the result of a smaller invested
asset base and our decision to maintain a significant portion of
our investment portfolio in cash and cash equivalents. We plan
to shift a significant portion of our cash position into other
investments during the fourth quarter if market opportunities
present themselves.

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Realized gains and losses will fluctuate from
period to period, and we make decisions concerning the sales of
our invested assets based on a variety of market, business and
other factors.


Net Change in Fair Value of Embedded
Derivatives.For the three and nine
month periods ended September 30, 2003, the net change in
fair value of our embedded derivatives was a gain of $2,808,427
and $14,845,749, respectively. For the three and nine month
periods ended September 30, 2002, the net change in fair
value of our embedded derivatives was a loss of $(13,277,823)
and $(18,254,530), respectively. The net change in fair value of
our embedded derivatives during the three month period ended
September 30, 2003 largely reflects the termination of an
annuity reinsurance agreement with an affiliate of XL Life
in the third quarter of 2003 as part of our comprehensive
settlement with XL Life. The primary reason for the net
change in fair value of our embedded derivatives for the nine
month period ended September 30, 2003 was the termination
of certain of our annuity reinsurance agreements, including our
agreement with Ohio National. Widening credit spreads and bond
defaults in the portfolio of assets supporting these agreements
had caused unrealized losses in our embedded derivatives in
prior periods.

Surrender Fees and Other
Revenue.Surrender fees and other
revenue for the three and nine month periods ended
September 30, 2003 were $1,667,997 and $6,061,022,
respectively, as compared with $3,549,362 and $13,606,694,
respectively, for the three and nine month periods ended
September 30, 2002. This income is primarily derived from
surrender fees related to our annuity reinsurance agreement with
Transamerica. The decrease in revenue for the three and nine
month periods ended September 30, 2003 is mainly due to a
smaller policyholder base resulting in a lower absolute level of
withdrawals, as well as reduced lapse rates during those periods
as compared with the three and nine month periods ended
September 30, 2002.

Claims and Policy
Benefits.Claims and policy benefits
for the three month period ended September 30, 2003 and
2002 were $19,075,004 and $91,381,831, or 67% and 108% of net
premiums, respectively. The large decline was the result of a
reduction of life insurance in force from $151 billion at
September 30, 2002 to approximately $30 billion at
September 30, 2003 and reserve releases associated with our
comprehensive settlement with XL Life. Approximately
$7,300,000 of the reduction in claims and policy benefits for
the three months ended September 30, 2003 was attributable
to the recapture or termination in 2003 of life and annuity
reinsurance agreements that were in effect during the comparable
prior period. For the nine months ended September 30, 2003
and 2002, claims and policy benefits were $178,589,650 and
$224,640,576, or 120% and 88% of net premiums, respectively. The
decrease for the nine months ended September 30, 2003 was
primarily due to the reduced amount of life insurance in force
as a result of recaptures of life reinsurance agreements and the
Hartford Life and XL Life reserve releases, offset by
approximately $24,000,000 of costs resulting from the
termination of life and annuity reinsurance agreements. Claims
and policy benefits as a percentage of net premiums have been
adversely affected by the recaptures and terminations during the
first nine months of 2003. Claims and policy benefits for the
three and nine months ended September 30, 2003 includes
$800,000 and $3,750,000, respectively of reserve increases
related to our remaining GMDB/GMIB agreement with CIGNA.

We continue to monitor and analyze our experience
under our remaining agreements. If claim experience continues at
the levels observed during the fourth quarter of 2002 and the
first nine months of 2003, or increases from those levels, our
operating results would be materially and adversely affected.
The novation, termination and recaptures of reinsurance
agreements during the nine months of 2003 will reduce claims and
policy benefits in future periods and may affect the level of
claims and policy benefits as a percentage of premiums.

During October 2003, we updated our analysis of
carried reserves for incurred but not reported
(IBNR) claims. In determining the amount of IBNR required
at September 30, 2003, we considered the full trending of
claims reported through September 30, 2003. As a result of
our review, our reserve for IBNR at September 30, 2003 was
$6,500,000. We will continue to examine these IBNR levels in
relation to past experience each quarter.

We are currently seeking relief from MetLife, our
largest cedent of life insurance, with respect to a reinsurance
agreement that has generated mortality experience beyond our
initial pricing parameters and

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is currently producing losses. If we are unable
to rescind or recapture this agreement, we may incur additional
losses in future periods. This life reinsurance agreement is
currently in arbitration with respect to representations made to
us at the time we underwrote the agreement and with respect to a
rate increase we instituted in the first quarter of 2003. In
April 2003, MetLife informed us that if the arbitration panel
scheduled to hear these claims in December 2003 finds the rate
increase is valid, MetLife would recapture the reinsurance
agreement effective as of March 5, 2003, the effective date
of the increase. On October 3, 2003, MetLife drew
approximately $7,400,000 of assets held in trust for its
benefit. We believe the draw is inappropriate due to the pending
arbitration, but have chosen not to attempt to block the draw
and will likely request that the arbitration panel make it a
subject of the arbitration. If we are not successful in
obtaining the rate increase through the arbitration and MetLife
does not recapture the agreement, we are likely to continue to
incur losses from this agreement for the foreseeable future. If
we are successful in the arbitration and MetLife recaptures the
agreement, annual premium revenues will decline, but we would no
longer incur losses under the agreement. The arbitration is
scheduled to commence on December 15, 2003.


Interest Credited to Interest Sensitive
Contracts Liabilities.Interest
credited to Interest sensitive contract liabilities, which are
liabilities we assume under certain annuity reinsurance
agreements, was $7,642,151 and $16,731,452, respectively, for
the three and nine month periods ended September 30, 2003,
as compared with $18,345,349 and $57,215,862, respectively, for
the three and nine month periods ended September 30, 2002.
Included in Interest credited to interest sensitive contracts
liabilities for the three and nine month periods ended
September 30, 2003 are LMIG payments under our Transamerica
annuity reinsurance agreement of approximately $3,196,000 and
$13,022,000, respectively, as compared to LMIG payments of
approximately $8,977,000 and $21,750,000, respectively, for the
comparable prior periods in 2002. The decline in Interest
credited to interest sensitive contracts liabilities for the
three and nine month periods ended September 30, 2003 was
primarily the result of our comprehensive settlement with
XL Life, the terminations of annuity reinsurance
agreements, particularly our agreement with Ohio National, which
was our second largest annuity agreement at the time of its
termination, and a smaller base of policyholders account values
as well as reduced lapse rates on our annuity reinsurance
agreement with Transamerica. We terminated our annuity
reinsurance agreement with Ohio National on February 14,
2003, another large annuity reinsurance agreement on
April 1, 2003 and two annuity reinsurance agreements with
an affiliate of XL Life as of July 1, 2003.

Policy Acquisition and Other Insurance
Expenses.Policy acquisition and other
insurance expenses, consisting primarily of allowances and
amortization and write downs of deferred policy acquisition
costs, for the three and nine month periods ended
September 30, 2003 were $22,796,448 and $119,928,722,
respectively, as compared with $17,492,342 and $73,700,329,
respectively, for the comparable prior periods in 2002. The
increase for the three and nine months ended September 30,
2003 is primarily due to the net write down of deferred
acquisition costs associated with the recapture and termination
of agreements of approximately $4,660,000 and $78,870,000,
respectively, for the three and nine month periods ended
September 30, 2003. During the nine months ending
September 30, 2002, we wrote down $24,796,000 of deferred
acquisition costs associated with our Transamerica annuity
reinsurance agreement.

Operating Expenses.Operating expenses for the three month period ended
September 30, 2003 were $3,605,189 or 7.7% of total revenue
(excluding the net change in fair value of embedded
derivatives), as compared with $3,826,602 or 3% of total revenue
(excluding the net change in fair value of embedded derivatives)
for three month period ended September 30, 2002. Operating
expenses for the nine month period ended September 30, 2003
were $15,873,678 or 8.3% of total revenue (excluding the net
change in fair value of embedded derivatives), as compared to
$10,626,666 or 3% of total revenue (excluding the net change in
fair value of embedded derivatives) for the comparable prior
period in 2002. The increase in operating expenses for the nine
month period of 2003 reflects the write off of approximately
$2,100,000 of goodwill associated with our United States
operating subsidiary in the second quarter of 2003, costs
associated with renegotiating employment arrangements and other
employee compensation, increased costs of directors and officers
liability insurance coverage and increased legal and audit fees.

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Segment Results

We separately track financial results of our life
and annuity operations in segments. Each segment is defined by a
dominant risk characteristic inherent in products in that
segment. The life segment consists of all products where the
dominant risk characteristic is mortality risk. The annuity
segment comprises all products where the dominant risk
characteristic is investment risk. In addition, certain of our
remaining modified coinsurance annuity reinsurance agreements
have features that constitute embedded derivatives that require
bifurcation and separate accounting under
FAS 133  Accounting for Derivative Instruments
and Hedging Activities. The change in the fair value of these
embedded derivatives is included in the annuity segment. Both
the life and annuity segments have specific assets, liabilities,
stockholders equity, revenue, benefits and expenses that
apply only to them. The corporate segment contains all
stockholders equity not otherwise deployed to the life or
annuity segment. In addition, the corporate segment includes all
capital gains and losses from sales of securities in our
portfolio and investment income on undeployed invested assets.
Operating expenses are generally allocated to the segments
proportionately based upon the amount of stockholders
equity deployed to the segment, except for capital raising
costs, which are charged directly to the corporate segment.
Segment results are reported in Note 5 to our unaudited
consolidated financial statements included elsewhere in this
report.

Life Segment.Our
life reinsurance segment is the reinsurance of ordinary life
insurance, primarily for mortality risks. Ordinary life
reinsurance generally is the reinsurance of individual term life
insurance policies, whole life insurance policies and joint and
survivor insurance policies on a yearly renewable term basis. In
addition, we reinsured the mortality risk inherent in universal
life insurance policies, variable universal life insurance
policies and variable life insurance policies.

Life segment income for the three month period
ended September 30, 2003 was $578,768, as compared with
segment loss of $(9,938,836) for the comparable prior period of
2002. Life segment income in the third quarter of 2003 was
primarily the result of a $6,800,000 benefit resulting from our
comprehensive settlement with XL Life, partially offset by
a loss of approximately $2,397,000 on our MetLife agreement, a
loss of approximately $2,174,000 on our now second largest life
reinsurance agreement due to seasonal fluctuations in premiums
and a large claim under that agreement during the quarter and a
loss of $1,180,000 on recaptured life reinsurance agreements
other than those recaptured in connection with the comprehensive
settlement with XL Life, as well as increased litigation
costs and employee compensation expenses. Segment loss for the
nine months ended September 30, 2003 was $(83,905,728)
compared to segment income of $3,853,620 for the nine months
ended September 30, 2002. Segment loss for the nine months
ended September 30, 2003 reflects charges for recaptures of
life reinsurance agreements of approximately $54,600,000,
including the second quarter write down of deferred acquisition
costs of approximately $21,000,000 associated with the expected
recapture of our 50% quota share reinsurance agreement with
XL Life. These charges reflect the write down of deferred
acquisition costs and cash payments made to cedents net of
reserve releases associated with the recaptures. The net cost of
recaptures in the third quarter of 2003 was not significant. Our
results for the nine month period ending September 30, 2003
were also adversely affected by reported claims from deaths
prior to 2003 exceeding our estimated reserves for such claims
at December 31, 2002 by approximately $5,000,000.

Segment revenues for the three month period ended
September 30, 2003 declined 65% to $30,013,563 from
$86,708,167 in the third quarter of 2002. Segment revenues for
the nine month period ended September 30, 2003 declined 43%
to $147,690,979 from $260,319,388 for the first nine months of
2002. These declines reflect our reduced levels of life
reinsurance in force as a result of novations and recaptures of
life reinsurance agreements during the fourth quarter of 2002
and the first nine months of 2003. We anticipate similar
declines in segment revenue in the fourth quarter of 2003,
relative to prior years, as the result of these novations and
recaptures. In addition, net investment income attributable to
the life segment for the first nine months of 2003 decreased
approximately $8,400,000, as compared with the first nine months
of 2002, reflecting a reduction in invested assets in the
segment and lower asset yields.

Segment policy benefits and expenses decreased
69% to $29,434,795 for the three month period ended
September 30, 2003, as compared with $96,647,003 for the
three month period ended September 30, 2002. Segment policy
benefits and expenses for the nine month period ended
September 30, 2003 were $231,596,707

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compared to $256,465,768 for the comparable prior
period. The impact of recaptures and the comprehensive
settlement with XL Life was a net reduction of policy benefits
and expenses of approximately $5,600,000 for the three month
period ended September 30, 2003 and a net increase in
policy benefits and expenses of approximately $54,600,000 for
the nine month period ended September 30, 2003. For the
third quarter of 2003, recapture costs were comprised of write
downs of deferred acquisition costs of approximately
$20,110,000, and the return of unearned premium reserves to our
cedents of $1,900,000, both offset by policy benefit reserve
reductions of $20,830,000. Policy benefits and expenses for the
nine month period ended September 30, 2003 included the
second quarter write down of deferred acquisition costs of
approximately $21,000,000 associated with the expected recapture
of our 50% quota share reinsurance agreement with XL Life
and reported claims for deaths prior to 2003 that exceeded our
estimated reserves for such claims at December 31, 2002 by
approximately $5,000,000. This includes $7,800,000 of reduced
benefits and claims resulting from the comprehensive settlement
with XL Life. If claim experience continues at the levels
observed during the fourth quarter of 2002 and the first nine
months of 2003, or increases from those levels, our operating
results would be materially and adversely affected. The
novation, termination and recapture of additional reinsurance
agreements will reduce claims and policy benefits at an
aggregate level in future periods, and may affect the level of
claims and policy benefits as a percentage of premiums.


During October 2003, we updated our analysis of
carried reserves for incurred but not reported (IBNR) claims. In
determining the amount of IBNR required at September 30,
2003, we considered the full trending of claims reported through
September 30, 2003. As a result of our review, our reserve
for IBNR at September 30, 2003 was $6,500,000. We will
continue to examine these IBNR levels in relation to past
experience each quarter.

Annuity Segment.Our
annuity reinsurance segment is the reinsurance of general
account fixed deferred annuities and certain risks arising from
variable annuities. With respect to the general account fixed
annuities we reinsure, our agreements generally relate to
individual general account single premium deferred annuity
policies, which involve the tax-deferred accumulation of
interest on a single premium paid by the policyholder
(accumulation phase policies). Accumulation phase policies are
subject primarily to investment risk and persistency (lapse)
risk. We have also historically reinsured certain guarantees
associated with variable annuity agreements, including GMDB, EEB
and GMIB. As of September 30, 2003, we reinsured only GMDB
and GMIB through a single reinsurance agreement with CIGNA.

Our annuity segment contains the majority of our
assets. While we would expect it be a small contributor to our
net income, it contains significant volatility from two sources.
First, under FAS 133  Accounting for Derivative
Instruments and Hedging Activities we must value embedded
derivatives in certain of our annuity reinsurance agreements.
This unrealized change in the value of the derivative is
reported in our income statement each quarter. The change in the
value of the derivative can be large, and is driven by financial
market conditions, most notably credit risk related changes.
Second, our Transamerica annuity reinsurance agreement has
exhibited volatility due to write downs of our deferred
acquisition cost balance which are based upon managements
estimates of future investment performance and lapse experience.
Our annuity reinsurance agreement with Transamerica, which
represented 90% of our annuity segment assets at
September 30, 2003, is not expected to generate significant
income going forward.

Segment loss was $(3,441,519) for the three month
period ended September 30, 2003, as compared with a loss of
$(18,253,644) for the three month period ended
September 30, 2002. Annuity segment loss for the three
months ended September 30, 2003 includes a loss of
approximately $4,450,000 on the Transamerica annuity reinsurance
agreement due to a reduction in deferred acquisition costs in
excess of interest earned on the agreement during the third
quarter, a $568,000 loss from the termination of two annuity
reinsurance agreements associated with our comprehensive
settlement with XL Life, and an increase in the reserves
for our GMDB/GMIB agreement with CIGNA of approximately
$800,000, offset by a net gain from embedded derivatives of
approximately $2,808,000. For the first nine months of 2003,
segment loss was $(44,375,935), as compared with $(45,054,615)
for the first nine months of 2002. The 2003 loss includes the
items noted above plus a $38,200,000 charge related to costs of
recaptures and associated experience during the first six months
of 2003 (including the recapture of our then largest GMDB
agreement and our then second largest deferred

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annuity reinsurance agreement). The nine months
ended September 30, 2002 includes the $24,796,000 write
down of deferred acquisition costs associated with our annuity
reinsurance agreement with Transamerica.


Under FAS 133, we are required to bifurcate
and separately account for embedded derivatives contained in
certain of our annuity reinsurance agreements. The change in the
fair value of the embedded derivatives is influenced by changes
in credit risk, changes in expected future cash flows under the
annuity reinsurance agreements and interest rate changes. For
the three and nine month periods ended September 30, 2003,
the net change in fair value of our embedded derivatives was a
gain of $2,808,427 and $14,845,749, respectively. For the three
and nine month periods ended September 30, 2002, the net
change in fair value of our embedded derivatives was a loss of
$(13,277,823) and $(18,254,530) respectively. The net change in
fair value of our embedded derivatives during the three month
period ended September 30, 2003 largely reflects the
termination of an annuity reinsurance agreement with an
affiliate of XL Life in the third quarter of 2003 as part of our
comprehensive settlement with XL Life. The primary reason for
the net change in fair value of our embedded derivatives for the
nine month period ended September 30, 2003 was the
termination of certain of our annuity reinsurance agreements,
including our agreement with Ohio National. Widening credit
spreads and bond defaults in the portfolio of assets supporting
these agreements had caused unrealized losses in our embedded
derivatives in prior periods.

As a result of the recapture of our GMDB
agreement with Hartford Life, we decreased our reserves for
expected claim payments associated with GMDB and EEB agreements
by approximately $10,850,000 in the second quarter of 2003.
During the third quarter, we increased our reserve for our
GMDB/GMIB reinsurance agreement with CIGNA by $800,000, bringing
our total carried reserves for all minimum guarantees associated
with variable annuity agreements to $10,200,000 at
September 30, 2003. Our reinsurance agreement with CIGNA is
our only remaining GMDB and GMIB reinsurance agreement.

Total revenue for our annuity segment increased
3% to $19,107,200 for the three month period ended
September 30, 2003, as compared with $18,535,565 for the
three month period ended September 30, 2002. This is due to
the increase in net change in the fair value of embedded
derivatives of $16,086,000 for the three month period ended
September 30, 2003 as compared with the comparable prior
period of 2002, offset by lower policy premiums of approximately
$2,000,000, lower surrender fees of approximately $1,900,000 and
reduced investment income of approximately $11,600,000.

Total revenue for our annuity segment declined
24% to $50,977,130 for the nine month period ended
September 30, 2003, as compared with $66,846,670 for the
nine month period ended September 30, 2002. This decrease
is primarily related to lower GMDB/GMIB premiums and surrender
fees of approximately $9,700,000 for the nine months ending
September 30, 2003, as well as reduced investment income
attributable to Funds Withheld of $38,900,000. This reduction is
a result of annuity agreement terminations during the first nine
months of 2003, most notably our annuity reinsurance agreements
with Ohio National. Surrender fees from our Transamerica annuity
reinsurance agreement also decreased by approximately $7,500,000
for the nine months ended September 30, 2003 as compared
with the first nine months of 2002, which is reflected in lower
revenues as mentioned above. The decline in segment revenue was
offset by an increase in the net change in the fair value of
embedded derivatives of $33,100,000 for the nine month period
ended September 30, 2003 as compared with the first nine
months of 2002.

Policy benefits and expenses for the annuity
segment, which include interest credited to policyholders,
segment specific expenses, and allocated expenses, declined 39%
to $22,548,719 for the three month period ended
September 30, 2003, as compared with $36,789,209 for the
three month period ended September 30, 2002. As a result of
the recapture of our GMDB agreement with Hartford Life in the
second quarter of 2003, our policy benefit and expenses in the
third quarter of 2003 declined by approximately $12,100,000, as
compared to the same quarter last year. Also, as a result of a
smaller base of policyholders and slightly lower lapse rates on
the Transamerica annuity reinsurance agreement, LMIG payments in
the third quarter of 2003 declined by approximately $5,800,000,
as compared to the same quarter last year.

Policy benefits and expenses declined 15% to
$95,353,065 for the nine months ended September 30, 2003,
as compared with $111,901,285 for the nine months ended
September 30, 2002. The nine months ended
September 30, 2003 includes a charge of $20,400,000 for the
recapture of our GMDB agreement with

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Hartford Life and LMIG payments of approximately
$13,022,000. The nine months ended September 30, 2002
includes a write off of $24,796,000 of deferred acquisition
costs associated with our annuity reinsurance agreement with
Transamerica and LMIG payments of $21,750,000.


Corporate Segment.The corporate segment includes all of our capital gains and
losses, investment income on undeployed invested assets, capital
raising costs and a proportionate share of operating expenses
based upon the relative distribution of stockholders
equity to all three segments. As a result, the corporate
segment, while small relative to our total company, will likely
have volatile results. For the three and nine month periods
ended September 30, 2003, segment (loss) income was
$(924,154) and $3,303,501, respectively, as compared with
segment income of $9,045,463 and $12,193,610, respectively, for
the three and nine month periods ended September 30, 2002.
Revenues diminished 98% to $211,124 for the three month period
ended September 30, 2003, as compared with $10,386,955 for
the three month period ended September 30, 2002, and
declined by 54% to $7,477,231 for the nine month period ended
September 30, 2003, as compared with $16,090,311 for the
nine month period ended September 30, 2002. Net realized
investment (losses) gains of $(52,025) and $6,508,019 in the
three and nine month periods ended September 30, 2003,
respectively, as compared to $9,297,351 and $10,813,315,
respectively, for the three and nine month periods ended
September 30, 2002 were the principal reason for the
declines.

Segment benefits and expenses changed slightly to
$1,135,278 and $4,173,730 for the three and nine month periods
ended September 30, 2003, respectively, as compared with
$1,341,492 and $3,896,702, respectively, for the comparable
prior periods in 2002.

Financial Condition

Investments

At September 30, 2003 and December 31,
2002, virtually all of our invested assets were posted as
collateral to secure our obligations under reinsurance
agreements and letter of credit facilities or were required to
maintain the statutory capital and surplus requirements of our
U.S. operating subsidiary. At September 30, 2003, our
invested assets, including cash and cash equivalents, had an
aggregate fair value of $212,669,998, including unrealized gains
of $2,211,223, as compared with an aggregate fair value of
$306,346,337, including unrealized gains of $6,162,525, at
December 31, 2002. The decline in our invested assets was
primarily the result of claim payments on recaptured or
terminated reinsurance agreements and unearned premium payments
made to effect the recaptures. At September 30, 2003 and
December 31, 2002, the weighted average duration of the
fixed income securities included in our invested assets was 3.7
and 3.8 years respectively and the weighted average
investment quality rating was AA- and AA
respectively.

Our investments are governed by investment
guidelines established and approved by our Board of Directors.
Our investment objectives are to achieve above average
risk-adjusted total returns, maintain a high quality portfolio,
maximize current income, maintain an adequate level of liquidity
in our portfolio and match the cash flows of our investments to
our related insurance liabilities. Our investment guidelines
require our overall fixed income portfolio to maintain a minimum
weighted average credit quality of A. A fixed income
security rated A by Standard & Poors
is considered to be somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than
higher rated issuer; however, the issuers capacity to meet
its financial commitment on the security is still considered to
be strong. As of July 31, 2002, our investment guidelines
were amended to prohibit us from investing in fixed income
securities that are rated below investment grade at the time of
purchase. We do not invest in any fixed income securities in
emerging markets or securities that are not rated by a major
rating agency.

At both September 30, 2003 and
December 31, 2002, less than 1% of our fixed income
securities consisted of below investment grade securities. The
fair value of such investments varies depending on economic and
market conditions, the level of interest rates and the perceived
creditworthiness of the issuer. As noted above, our investment
guidelines prohibit the purchase of below investment grade
securities, as these investments are subject to a higher degree
of credit risk than investment grade securities. We monitor the
creditworthiness of the portfolio as a whole, and when the fair
market value of a security declines for reasons

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other than changes in interest rates or other
perceived temporary conditions, the security is written down to
its fair value.


At September 30, 2003, mortgage-backed
securities represented approximately 12% of our invested assets,
including cash and cash equivalents, as compared with
approximately 10% at December 31, 2002. Investors in these
securities are compensated primarily for reinvestment risk
rather than credit quality risk. Investments in mortgage-backed
securities include collateralized mortgage obligations
(CMOs) and mortgage-backed pass-through securities.
Mortgage-backed securities generally are collateralized by
mortgages issued by the Government National Mortgage Association
(GNMA), the Federal National Mortgage Association and the
Federal Home Loan Mortgage Corporation. Of these, only GNMA
mortgages are backed by the full faith and credit of the
U.S. government. Credit risk generally is not a
consideration when investing in agency mortgage backed
securities. Our mortgage backed securities portfolio had a
weighted average investment quality rating of AAA at
both September 30, 2003 and December 31, 2002.

At September 30, 2003, none of our
mortgage-backed investment portfolio consisted of securities
with planned repayment schedules, as compared with 7% at
December 31, 2002. These investments are designed to
amortize in a more predictable manner by shifting the primary
risk of prepayment of the underlying collateral to investors in
other tranches of the CMO.

The following table summarizes our investment
results (excluding investment income on assets held and managed
by our ceding companies or others on their behalf) for the
periods indicated:

Investment Results

|                                                                  |  |                        |         |                     |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  
|----------------------------------------------------------------- |  | ---------------------- | ------- | ------------------- |  | ---- | ------- | ---- |  | ---- | ------- | - |  | - | ------- | - |  | - | ------- | -
|                                                                  |  |                        |         |                    
|                                                                  |  | Nine Months Ended      |         | Twelve Months Ended
|                                                                  |  | September 30,          |         | December 31,       
|                                                                  |  |                        |         |                    
|                                                                  |  | 2003                   |         | 2002                |  | 2002 |         | 2001 |  | 2000
|                                                                  |  |                        |         |                     |  |      |         |      |  |     
|                                                                  |  |                       
|                                                                  |  | (Dollars in thousands)
|Total invested assets, including cash and cash
    equivalents(1) |  | $                      | 212,670 |                     |  | $    | 475,213 |      |  | $    | 306,346 |   |  | $ | 423,780 |   |  | $ | 321,819 |  
|Investment income, net of related expenses                        |  | $                      | 4,508   |                     |  | $    | 19,080  |      |  | $    | 25,931  |   |  | $ | 20,165  |   |  | $ | 20,126  |  
|Effective annualized yield rate(2)                                |  |                        | 2.45    | %                   |  |      | 5.28    | %    |  |      | 5.28    | % |  |   | 5.74    | % |  |   | 6.85    | %
|Realized investment gains (losses)                                |  | $                      | 6,508   |                     |  | $    | 10,813  |      |  | $    | 19,749  |   |  | $ | 1,230   |   |  | $ | (4,817  | )



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|    |                                                                                                                                                                                                          
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Fair value at end of the indicated period.                                                                                                                                                               
|   
|(2) | The effective yield rate equals (i) net
    investment income divided by (ii) the average of total
    adjusted invested assets at the end of each calendar quarter
    included in the indicated period.

The effective annualized yield rate on our
invested assets has declined significantly during the first nine
months of 2003. This decline is the result of the shift in our
general account assets towards a greater cash position. We had
increased our cash position to maximize the amount of collateral
we can provide to our cedents and letter of credit providers and
to minimize market risk related to our collateral requirements.
Our investment portfolio is approximately 54% invested in cash
and cash equivalents at September 30, 2003. However, we
plan to invest a significant percentage of this money during the
fourth quarter if market opportunities present themselves.

Funds Withheld at Interest

At September 30, 2003, our Funds withheld
receivable was approximately $696,000,000, as compared with
approximately $1.4 billion at December 31, 2002.
Historically, when a ceding company enters into a reinsurance
agreement structured as a modified coinsurance or coinsurance
funds withheld arrangement with us, a portion of the ceding
companys liability to the policyholders or, in the case of
a retrocessional arrangement, the primary insurer, is ceded to
us. Our remaining modified coinsurance arrangements are on a
quota share basis, so the portion that is ceded to us is a fixed
percentage of the liabilities arising from the underlying
policies. Our share of the ceding companys liability is
included on our balance sheet as Interest

32



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##### 



sensitive contracts liabilities. However,
unlike other reinsurance arrangements in which we receive cash
or investments as consideration for assuming a portion of the
ceding companys liability, under these types of
arrangements, we have established a receivable called
Funds withheld at interest. For annuity reinsurance
agreements, the Funds withheld at interest receivable is equal
to our fixed portion of the statutory reserves carried by the
ceding company. For life reinsurance agreements, the Funds
withheld at interest receivable is equal to the value of the
ceding companys GAAP reserves related to the policies
underlying our life reinsurance agreements, which includes
reserves for pending claims and reserves for incurred but not
reported claims. We are allocated our share of the investment
income and realized capital gains and losses that arise from the
securities in the investment portfolio underlying the Funds
withheld at interest under each type of agreement.


At September 30, 2003, our Funds withheld at
interest receivable related to our annuity reinsurance
agreements had a carrying value of approximately $688,000,000.
Our agreement with Transamerica accounted for approximately 90%
of annuity related Funds withheld at interest receivable as
September 30, 2003, as compared to 51% at December 31,
2002. The increase in the proportion of our Funds withheld at
interest asset related to the Transamerica agreement generally
reflects the termination of our annuity reinsurance agreement
with Ohio National, as well as other annuity agreements, during
2003. At September 30, 2003, the assets held and managed by
our ceding companies under our annuity reinsurance agreements
were invested in convertible bonds and fixed income securities
having a weighted average credit quality of A and a
weighted average duration of 5.9 years. In addition, at
September 30, 2003, approximately 5.5% of such assets were
invested in below investment grade securities, as compared with
4.2% of such assets at December 31, 2002. At
December 31, 2002, these assets had a weighted average
credit quality of A and a weighted average duration
of 5.3 years.

The average annualized yield rate earned on the
assets held and managed by our ceding companies under our
annuity reinsurance agreements was approximately 5.16% and 3.03%
for the three and nine month periods ended September 30,
2003, as compared to 6.97% and 5.90% for the three and nine
month periods ended September 30, 2002. The average
annualized yield rate earned on the assets funding our annuity
obligations to Transamerica was approximately 5.11% and 2.59%
for the three and nine month periods ended September 30,
2003, as compared with 7.18% and 5.30% for the three and nine
month periods ended September 30, 2002. For purposes of
calculating the average yield rate earned on assets held and
managed by our ceding companies, including Transamerica, we
include net realized capital gains and losses as reported to us
by our ceding companies.

Transamerica

Our annuity reinsurance agreement with
Transamerica is our largest annuity reinsurance agreement. As of
September 30, 2003, approximately $625,000,000, or 90% of
our Funds withheld at interest receivable, approximately
$632,000,000, or 90% of our Interest sensitive contracts
liability and approximately $34,000,000 of our Deferred policy
acquisition costs asset related to this agreement. As a result
of the changes to our company resulting from the recapture,
termination, and novations of numerous blocks of business, we
expect that the assets and liabilities associated with the
Transamerica agreement will also represent a significant portion
of our total assets and liabilities in future periods. We do not
expect the Transamerica agreement to generate significant income
in future periods.

At September 30, 2003, the assets funding
the policyholder obligations under the Transamerica agreement
had an average credit quality of A and an average
duration of 6.2 years, as compared with an average credit
quality of A- and an average duration of
4.2 years at December 31, 2002. The agreement is a
retrocessional arrangement covering VisionMark fixed annuity
products issued by IL Annuity and Insurance Company, the
primary insurance company. AmerUS Capital Management, the
investment manager appointed by IL Annuity, manages the
assets underlying the Transamerica agreement. At
September 30, 2003 and December 31, 2002, AmerUS
Capital Management had invested approximately 65% of the
premiums paid in connection with the underlying policies in
investment grade convertible bonds and had invested the
remaining premiums in investment grade bonds, high yield bonds
and mortgage-backed securities. The value of convertible bonds
is a function of their investment value (determined by comparing
their yield with the

33



---



##### 



yields of other securities of comparable maturity
and quality that do not have a conversion privilege) and their
conversion value (at market value, if converted into the
underlying common stock). To the extent the market price of the
underlying common stock approaches or exceeds the conversion
price, the price of the convertible bonds will be increasingly
influenced by their conversion value. Consequently, the value of
convertible bonds may be influenced by changes in the equity
markets.


While convertible bonds would typically be
expected to produce lower investment income than other fixed
income securities, convertible bonds provide the potential for
higher total returns through the underlying equity component of
the bonds, which are passed on to VisionMark policyholders
through the total return adjustment upon surrender of the
policies. As with the holders of other single premium deferred
annuity policies, a VisionMark policyholder is guaranteed a
return of premiums paid plus a guaranteed minimum interest rate
of 3% to 3.5% per annum over the life of the policy. During
the nine months ended September 30, 2003 and the year ended
December 31, 2002, we paid approximately $13,022,000 and
$26,763,000, respectively, under our annuity reinsurance
agreement with Transamerica to cover our proportionate share of
the shortfall that arose because the net investment returns on
the assets related to these policies substantially
underperformed the LMIG for surrendered policies.

According to data provided to us by Transamerica,
at September 30, 2003, the assets held by IL Annuity
and managed by AmerUS Capital were comprised of the following:

|                                            |                                                             |               |             |              |  |              |             |             |  |  |      |       |  
|------------------------------------------- | ----------------------------------------------------------- | ------------- | ----------- | ------------ |  | ------------ | ----------- | ----------- |  |  | ---- | ----- | -
|                                            |                                                             |               |             |              |  | % of Total  
|Type of Security                            |                                                             | Book Value(1) |             | Market Value |  | Market Value
|                                            |                                                             |               |             |              |  |             
|Investment grade convertible bonds          |                                                             | $             | 410,652,803 |              |  | $            | 402,837,815 |             |  |  | 65.2 | %    
|Investment grade U.S. corporate bonds       |                                                             |               | 113,512,308 |              |  |              | 117,430,283 |             |  |  | 19.0 | %    
|Below investment grade U.S. corporate bonds |                                                             |               | 33,224,270  |              |  |              | 34,141,139  |             |  |  | 5.5  | %    
|Mortgage-backed securities                  |                                                             |               | 30,993,440  |              |  |              | 31,009,308  |             |  |  | 5.0  | %    
|Short term securities                       |                                                             |               | 32,285,333  |              |  |              | 32,324,401  |             |  |  | 5.2  | %    
|                                            |                                                             |               |             |              |  |              |             |             |  |  |      |      
|                                            | Total invested assets                                       |               | $           | 620,668,154  |  |              | $           | 617,742,947 |  |  |      | 100.0 | %
|                                            |                                                             |               |             |              |  |              |             |             |  |  |      |      
|Accrued investment income                   |                                                             |               |             |              |  |              | 3,875,935   |             |  |  |      |      
|                                            |                                                             |               |             |              |  |              |             |             |  |  |      |      
|                                            | Total market value, including accrued investment
    income |               |             |              |  |              | $           | 621,618,882 |  |  |      |       |  
|                                            |                                                             |               |             |              |  |              |             |             |  |  |      |      



---



|    |                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Book values are those reported to us by the
    cedent for the underlying investments and do not represent the
    value of our Funds withheld at interest receivable.

34



---



##### 



According to data provided to us by Transamerica,
at September 30, 2003, the credit ratings of the assets
(excluding accrued investment income) held by IL Annuity
and managed by AmerUS Capital were approximately as follows:

|                          |                                                             |               |             |              |  |              |             |             |  |  |      |       |  
|------------------------- | ----------------------------------------------------------- | ------------- | ----------- | ------------ |  | ------------ | ----------- | ----------- |  |  | ---- | ----- | -
|                          |                                                             |               |             |              |  | % of Total  
|Ratings(1)                |                                                             | Book Value(2) |             | Market Value |  | Market Value
|                          |                                                             |               |             |              |  |             
|AAA                       |                                                             | $             | 128,497,001 |              |  | $            | 127,977,688 |             |  |  | 20.7 | %    
|AA                        |                                                             |               | 47,648,955  |              |  |              | 45,680,422  |             |  |  | 7.4  | %    
|A                         |                                                             |               | 157,940,656 |              |  |              | 158,941,039 |             |  |  | 25.7 | %    
|BBB                       |                                                             |               | 252,040,161 |              |  |              | 249,762,779 |             |  |  | 40.4 | %    
|BB and below              |                                                             |               | 34,541,381  |              |  |              | 35,381,019  |             |  |  | 5.7  | %    
|                          |                                                             |               |             |              |  |              |             |             |  |  |      |      
|                          | Total invested assets                                       |               | $           | 620,668,154  |  |              | $           | 617,742,947 |  |  |      | 100.0 | %
|                          |                                                             |               |             |              |  |              |             |             |  |  |      |      
|Accrued investment income |                                                             |               |             |              |  |              | 3,875,935   |             |  |  |      |      
|                          |                                                             |               |             |              |  |              |             |             |  |  |      |      
|                          | Total market value, including accrued investment
    income |               |             |              |  |              | $           | 621,618,882 |  |  |      |       |  
|                          |                                                             |               |             |              |  |              |             |             |  |  |      |      



---



|    |                                                                                                                                                                                  
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | As assigned by Standard & Poors,
    or, if unrated by Standard & Poors, based on an
    equivalent rating assigned by the National Association of
    Insurance Commissioners.
|   
|(2) | Book values are those reported to us by the
    cedent for the underlying investments and do not represent the
    value of our Funds withheld at interest receivable.           

According to data provided to us by Transamerica,
at September 30, 2003, the maturity distribution of the
assets held by IL Annuity and managed by AmerUS Capital was
approximately as follows:

|                       |                 |               |             |              |  |            |             |             |  |  |      |       |  
|---------------------- | --------------- | ------------- | ----------- | ------------ |  | ---------- | ----------- | ----------- |  |  | ---- | ----- | -
|                       |                 |               |             |              |  | % of Total
|Maturity               |                 | Book Value(1) |             | Market Value |  | Book Value
|                       |                 |               |             |              |  |           
|Within one year        |                 | $             | 49,113,545  |              |  | $          | 49,150,872  |             |  |  | 8.0  | %    
|From one to five years |                 |               | 129,715,360 |              |  |            | 130,174,555 |             |  |  | 21.0 | %    
|From six to ten years  |                 |               | 134,401,515 |              |  |            | 135,734,041 |             |  |  | 22.0 | %    
|More than ten years    |                 |               | 307,437,734 |              |  |            | 302,683,479 |             |  |  | 49.0 | %    
|                       |                 |               |             |              |  |            |             |             |  |  |      |      
|                       | Total all years |               | $           | 620,668,154  |  |            | $           | 617,742,947 |  |  |      | 100.0 | %
|                       |                 |               |             |              |  |            |             |             |  |  |      |      



---



|    |                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Book values are those reported to us by the
    cedent for the underlying investments and do not represent the
    value of our Funds withheld at interest receivable.

Other Annuity Reinsurance Agreement

At September 30, 2003, we had one other
annuity reinsurance agreement that guaranteed crediting rates
that vary in amount and duration. At September 30, 2003,
the assets funding the policyholder obligations under this
agreement had an average credit quality of A- and an
average duration of approximately 3.77 years, as compared
with an average credit quality of A and an average
duration of approximately 7.04 years for the other annuity
agreements in force at December 31, 2002.

35



---



##### 



According to information provided by the ceding
company under this annuity reinsurance agreement, at
September 30, 2003, the assets held and managed by this
ceding company were comprised of as follows:

|                                    |                                                             |               |            |              |  |              |            |            |  |  |      |       |  
|----------------------------------- | ----------------------------------------------------------- | ------------- | ---------- | ------------ |  | ------------ | ---------- | ---------- |  |  | ---- | ----- | -
|                                    |                                                             |               |            |              |  | % of Total  
|Type of Security                    |                                                             | Book Value(1) |            | Market Value |  | Market Value
|                                    |                                                             |               |            |              |  |             
|Investment grade US corporate bonds |                                                             | $             | 58,788,630 |              |  | $            | 62,651,550 |            |  |  | 82.9 | %    
|Short term securities               |                                                             |               | 5,389,555  |              |  |              | 5,389,555  |            |  |  | 7.1  | %    
|Mortgage securities                 |                                                             |               | 4,441,242  |              |  |              | 5,083,146  |            |  |  | 6.7  | %    
|Below investment grade bonds        |                                                             |               | 3,540,278  |              |  |              | 2,454,656  |            |  |  | 3.3  | %    
|                                    |                                                             |               |            |              |  |              |            |            |  |  |      |      
|                                    | Total invested assets                                       |               | $          | 72,159,705   |  |              | $          | 75,578,907 |  |  |      | 100.0 | %
|                                    |                                                             |               |            |              |  |              |            |            |  |  |      |      
|Accrued investment income           |                                                             |               |            |              |  |              | 1,105,237  |            |  |  |      |      
|                                    |                                                             |               |            |              |  |              |            |            |  |  |      |      
|                                    | Total market value, including accrued investment
    income |               |            |              |  |              | $          | 76,684,144 |  |  |      |       |  
|                                    |                                                             |               |            |              |  |              |            |            |  |  |      |      



---



|    |                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Book values are those reported to us by the
    cedent for the underlying investments and do not represent the
    value of our Funds withheld at interest receivable.

According to information provided by the ceding
company under this annuity reinsurance agreement, at
September 30, 2003, the credit ratings of the assets
(excluding accrued investment income) held and managed by this
ceding company were approximately as follows:

|                          |                                                             |               |            |              |  |              |            |            |  |  |      |       |  
|------------------------- | ----------------------------------------------------------- | ------------- | ---------- | ------------ |  | ------------ | ---------- | ---------- |  |  | ---- | ----- | -
|                          |                                                             |               |            |              |  | % of Total  
|Ratings(1)                |                                                             | Book Value(2) |            | Market Value |  | Market Value
|                          |                                                             |               |            |              |  |             
|AAA                       |                                                             | $             | 5,990,875  |              |  | $            | 5,978,700  |            |  |  | 7.9  | %    
|AA                        |                                                             |               | 3,585,596  |              |  |              | 3,818,954  |            |  |  | 5.1  | %    
|A                         |                                                             |               | 24,109,602 |              |  |              | 25,769,487 |            |  |  | 34.1 | %    
|BBB                       |                                                             |               | 34,933,354 |              |  |              | 37,557,110 |            |  |  | 49.7 | %    
|BB and below              |                                                             |               | 3,540,278  |              |  |              | 2,454,656  |            |  |  | 3.2  | %    
|                          |                                                             |               |            |              |  |              |            |            |  |  |      |      
|                          | Total invested assets                                       |               | $          | 72,159,705   |  |              | $          | 75,578,907 |  |  |      | 100.0 | %
|                          |                                                             |               |            |              |  |              |            |            |  |  |      |      
|Accrued investment income |                                                             |               |            |              |  |              | 1,105,237  |            |  |  |      |      
|                          |                                                             |               |            |              |  |              |            |            |  |  |      |      
|                          | Total market value, including accrued investment
    income |               |            |              |  |              | $          | 76,684,144 |  |  |      |       |  
|                          |                                                             |               |            |              |  |              |            |            |  |  |      |      



---



|    |                                                                                                                                                                                  
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | As assigned by Standard & Poors,
    or, if unrated by Standard & Poors, based on an
    equivalent rating assigned by the National Association of
    Insurance Commissioners.
|   
|(2) | Book values are those reported to us by the
    cedent for the underlying investments and do not represent the
    value of our Funds withheld at interest receivable.           

36



---



##### 



According to information provided by the ceding
companies under this annuity reinsurance agreement, at
September 30, 2003, the maturity distribution of the assets
held and managed by this ceding company was approximately as
follows:

|                       |                 |               |            |              |  |            |            |            |  |  |      |       |  
|---------------------- | --------------- | ------------- | ---------- | ------------ |  | ---------- | ---------- | ---------- |  |  | ---- | ----- | -
|                       |                 |               |            |              |  | % of Total
|Maturity               |                 | Book Value(1) |            | Market Value |  | Book Value
|                       |                 |               |            |              |  |           
|Within one year        |                 | $             | 13,319,669 |              |  | $          | 13,410,982 |            |  |  | 17.7 | %    
|From one to five years |                 |               | 24,212,414 |              |  |            | 26,132,038 |            |  |  | 34.6 | %    
|From six to ten years  |                 |               | 27,231,188 |              |  |            | 28,252,552 |            |  |  | 37.4 | %    
|More than ten years    |                 |               | 7,396,434  |              |  |            | 7,783,335  |            |  |  | 10.3 | %    
|                       |                 |               |            |              |  |            |            |            |  |  |      |      
|                       | Total all years |               | $          | 72,159,705   |  |            | $          | 75,578,907 |  |  |      | 100.0 | %
|                       |                 |               |            |              |  |            |            |            |  |  |      |      



---



|    |                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Book values are those reported to us by the
    cedent for the underlying investments and do not represent the
    value of our Funds withheld at interest receivable.

Liquidity and Capital Resources

Our liquidity and capital resources are a measure
of our overall financial strength and our ability to generate
cash flows from our operations to meet our operating and growth
needs. Our principal sources of funds are premiums received, net
investment income, proceeds from investments called, redeemed or
sold and cash and short-term investments. The principal
obligations and uses of the funds are to post collateral for the
statutory reserves ceded to us by U.S. based insured and
reinsurers, the payment of policy benefits, operating expenses
and the purchase of investments. Under the terms of our
reinsurance agreements, we are required to provide letters of
credit or fund trust accounts with liquid assets to satisfy the
collateral requirements of our cedents. At September 30,
2003 and December 31, 2002, letters of credit totaling
$75,000,000 and $174,000,000, respectively, had been issued in
the ordinary course of our business by our bankers in favor of
certain ceding insurance companies (including our
U.S. operating subsidiary) to provide security and meet
regulatory requirements. At September 30, 2003 and
December 31, 2002, cash and investments of approximately
$64,000,000 and $115,000,000, respectively, were pledged as
collateral for letters of credit. At September 30, 2003 and
December 31, 2002, cash and investments of $98,675,000 and
$125,085,000 respectively were held in trust for the benefit of
certain ceding insurance companies to provide security and to
meet regulatory requirements.

We have two reinsurance operating subsidiaries,
the largest of which is based in and operates out of Bermuda.
Our other reinsurance operating subsidiary is based in and
operates out of the United States. Our Bermuda operating
subsidiary reinsures a large portion of the reinsurance business
written by our U.S. operating subsidiary. The primary
purpose of this reinsurance is to provide reinsurance capacity
to our U.S. operating subsidiary so that it can compete in
its market place. Our Bermuda operating subsidiary has made
capital infusions into the U.S. operating subsidiary to
allow the U.S. company to maintain targeted statutory
surplus levels and to provide cash and securities as collateral
for the reinsurance cessions the U.S. operating subsidiary
makes to the Bermuda operating company. At September 30,
2003, approximately $49,000,000 of our cash and cash equivalents
and fixed income securities were held by the U.S. operating
subsidiary and were not available to our Bermuda operating
subsidiary to fund our liquidity or collateral needs. In
addition, our U.S. operating company has entered into a
letter agreement with the Connecticut Insurance Department that,
among other things, restricts the U.S. operating company
from paying dividends or settling inter-company balances with us
or our Bermuda operating company.

As discussed in Note 7 to our unaudited
consolidated financial statements included elsewhere in this
report, on December 31, 2002, we entered into a transaction
with XL Life pursuant to which we novated five blocks of
life reinsurance business to XL Life, which in turn entered
into a 50% quota share reinsurance agreement with us with
respect to four of those blocks of business. On August 5,
2003, XL Life served us with notice of its intention to
recapture the 50% quota share reinsurance agreement with us. As
a result, we determined we would not be able to recover our
deferred acquisition costs carried for this agreement from

37



---



##### 



future expected income, and wrote down
approximately $21,000,000 of such deferred acquisition costs in
the three months ended June 30, 2003.


We have been in discussions with XL Life
with respect to each partys rights and obligations under
the novation and retrocession agreements entered into at
December 31, 2002, as well as a $10,000,000 excess of loss
reinsurance policy and a catastrophe excess of loss cover that
were each purchased by us from XL Life in the first quarter
of 2002 and two annuity reinsurance agreements between our
company and XL Life or its affiliates. The excess of loss
reinsurance policy was purchased to protect against LMIG
payments under our annuity reinsurance agreement with
Transamerica, and full recovery under the policy has been
anticipated in establishing our deferred acquisition cost asset.
The catastrophe excess of loss cover expired by its terms on
December 31, 2002, but we continued to discuss with
XL Life remaining obligations asserted under the agreement.
The two annuity reinsurance agreements represent approximately
$95,900,000 (including a cumulative loss from embedded
derivatives of approximately $2,800,000) of our Funds withheld
at interest and approximately $95,600,000 of our Interest
sensitive contract and other liabilities.

As a result of our discussions with XL Life,
we and XL Life and its affiliate agreed to mutually
discharge our respective rights and obligations under all of the
agreements described in the preceding paragraph in a
comprehensive settlement effective as of July 1, 2003.
Under the terms of the comprehensive settlement, we paid
$6,000,000 to XL Life and were released from any and all
obligations to XL Life and its affiliate under all of the
agreements among the parties. In addition, as part of the
comprehensive settlement, we are obligated to pay $2,000,000 to
XL Life if prior to June 30, 2004 our stock trades
above $2.00 per share for a period of 20 out of
30 consecutive trading days and we raise an aggregate
$35,000,000 of equity or debt.

We did not have sufficient available cash and
investments at September 30, 2003 to satisfy the collateral
requirements asserted by CIGNA, the cedent under our only GMDB/
GMIB agreement. As of December 31, 2002, CIGNA asserted
that we must satisfy additional collateral requirements of
approximately $59,000,000 in excess of the $11,000,000 of
collateral we currently have posted. We have not agreed with
CIGNAs computation of the $70,000,000 collateral
requirement and have not posted any additional collateral under
the agreement. As a result, CIGNA has alleged that we have
breached our agreement and may institute arbitration or
litigation proceedings to seek remedies for the alleged breach.
If we do not prevail in any such arbitration or litigation
proceedings, it would have a material adverse effect on our
financial condition and we may be required to liquidate our
operations. As of September 30, 2003, we had met the
collateral requirements of our other cedents, and we expect to
be able to meet any collateral requirements asserted at
December 31, 2003, other than CIGNA.

As of September 30, 2003, we had $26,700,000
of outstanding unsecured letters of credit issued on its behalf
by Citibank that expire on December 31, 2003. In November
2003, Citibank agreed to renew our unsecured letter of credit
facility until December 31, 2004 if we reduce the unsecured
balance of the letter of credit facility to $17,000,000 by
November 30, 2003. If we do not reduce the unsecured
balance of the letter of credit facility to $17,000,000 by
November 30, 2003 and Citibank does not renew the letters
of credit, the letters of credit will expire on
December 31, 2003 and our cedents will be entitled to draw
on the letters of credit. We would then be obligated to repay
Citibank for any amounts drawn.

At September 30, 2003, our total
capitalization, which consisted entirely of equity, was
$142,579,526. For the nine months ended September 30, 2003,
we utilized $97,859,548 of our cash and cash equivalents to fund
our operating activities, as compared with generating cash and
cash equivalents of $27,726,444 from our operating activities
for the nine months ended September 30, 2002. The
utilization of our cash and cash equivalents during the first
nine months was primarily the result of claim payments on
recaptured or terminated reinsurance agreements and unearned
premium payments made to effect the recaptures.

In January 2003, we instituted substantial
premium rate increases on all of our non-guaranteed premium
yearly renewable term agreements. All of our cedents subject to
the rate increase, except MetLife and one other cedent who has
accepted the rate increase, have recaptured their reinsurance
agreements. MetLife has made the rate increase a subject of
arbitration with us, and has indicated that its election to
recapture is dependent upon the arbitration panels
conclusion about the validity of the rate increase. If we are
not successful in obtaining the rate increase through
arbitration and MetLife does not recapture the agreement, we

38



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are likely to continue to incur losses from this
agreement for the foreseeable future. If we are successful in
the arbitration and MetLife recaptures the agreement, our annual
premium revenues will decline, but we would no longer incur
losses under the agreement. The arbitration is scheduled to
commence on December 15, 2003.


Transamerica has alleged that we owe $14,900,000
under our annuity reinsurance agreement with it. We have not
agreed that such amount currently is owed to Transamerica, and
we are attempting to resolve our issues with Transamerica.
Transamerica has indicated that if we cannot resolve our issues,
it will attempt to put our Bermuda operating subsidiary into
liquidation.

In addition to the discussions with Transamerica
related to the alleged amounts owed to it, we have been
attempting to engage Transamerica, and ultimately
IL Annuity, in discussions aimed at improving investment
returns from the convertible bond portfolio and potentially
redesigning the VisionMark product to reduce the minimum
guarantee exposures from the Transamerica agreement. If we are
not successful in convincing Transamerica and IL Annuity to
restructure the portfolio and/or to redesign the product, we may
incur additional write downs of deferred acquisition costs in
the future.

While we plan to continue receiving premiums and
paying claims under our remaining reinsurance treaties, we have
ceased to write new reinsurance agreements and are not accepting
any new business under existing treaties on their current terms.
We do not anticipate writing new reinsurance agreements in the
foreseeable future. To date, our plans have involved reducing
our collateral requirements by negotiating the recapture,
retrocession, novation or sale of certain of our reinsurance
agreements. During the first nine months of 2003, these types of
transactions resulted in significant losses for us. While we may
enter into similar transactions in the future, we are not
actively seeking to do so.

Both we and our Bermuda operating subsidiary,
Annuity and Life Reassurance, are required to comply with the
provisions of the Bermuda Companies Act that regulate the
payment of dividends and the making of distributions from
contributed surplus. Neither we nor Annuity and Life Reassurance
may declare or pay a dividend, or make a distribution out of
contributed surplus, if there are reasonable grounds for
believing that: (i) the relevant company is, or would be
after the payment, unable to pay its liabilities as they become
due; or (ii) the realizable value of the relevant
companys assets would thereby be less than the aggregate
of its liabilities and its issued share capital and share
premium accounts. As of December 31, 2002, we could not
reasonably determine that we met these grounds. Accordingly, on
February 19, 2003, we announced that we would not declare
or pay a dividend on our common shares during the first quarter
of 2003. No dividends have been paid since. The declaration and
payment of future dividends to holders of our common shares will
be at the discretion of our Board of Directors and will depend
upon our earnings and financial condition, capital requirements
of our subsidiaries, the ability of our operating subsidiaries
to pay dividends to us, regulatory considerations and other
factors the Board of Directors deems relevant. We do not expect
to declare or pay dividends in the near future.

During 2001, our Board of Directors approved a
share repurchase program of up to $25,000,000 of our common
stock. While our Board has given us the flexibility to
repurchase our common stock in the future if market conditions
so dictate, at the present time we do not anticipate
repurchasing any common shares.

We had no material commitments for capital
expenditures as of September 30, 2003, but as noted above,
we have significant obligations that we may not be able to
satisfy. There can be no assurance that the actions taken by us
have been sufficient to improve our operations and liquidity. In
addition, we cannot predict the outcome of several pending
issues and the impact those outcomes may have on us. If we are
unable to reposition our general account investment portfolio to
achieve a substantially higher yield within our investment
guidelines, successfully defend ourselves against the pending
shareholder class action suit, attain a favorable outcome from
the MetLife arbitration and settle our issues with Transamerica
regarding our annuity reinsurance agreement, we may not be able
to meet our obligations. Any failure to achieve one of the
foregoing items could have a material adverse effect on our
financial condition and results of operations. The accompanying
unaudited consolidated financial statements do not include any
adjustments that might be necessary should we be unable to meet
such obligations.

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Forward-Looking and Cautionary
Statements

This report, together with other statements and
information we may provide, contains forward-looking
statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. These statements may include, but are not
limited to, projections of revenues, income or loss, capital
expenditures, plans for future operations and financing needs or
plans, as well as assumptions relating to the foregoing. The
words expect, project,
estimate, predict,
anticipate, believe and similar
expressions are intended to identify forward-looking statements,
although not all forward-looking statements include these
expressions. Forward-looking statements are inherently subject
to risks and uncertainties, some of which cannot be predicted or
quantified. Future events and actual results, performance and
achievements could differ materially from those set forth in,
contemplated by or underlying the forward-looking statements.
Factors that could materially and adversely affect our
operations and financial condition and/or cause our actual
results of operations or financial condition to differ from
those expressed or implied in our forward-looking statements
include, but are not necessarily limited to, our ability to meet
the obligations associated with our current business and to fund
our continuing operations; our ability to reduce or otherwise
satisfy our collateral obligations through novations, recaptures
or otherwise; the outcome of pending legal proceedings involving
us; our ability to obtain adequate financial ratings; the
ability of our cedents to manage successfully assets they hold
on our behalf; our success in managing our investments; our
ability to maintain the listing of our common shares on the
New York Stock Exchange; changes in mortality, morbidity
and claims experience; our ability to make accurate estimates
and assumptions regarding future mortality, persistency, lapses,
expenses and investment performance based upon historical
results and information provided to us by our cedents; our
ability to underwrite business; unanticipated withdrawal or
surrender activity; changes in market conditions, including
changes in interest rate levels; the competitive environment;
the impact of recent and possible future terrorist attacks and
the U.S. governments response thereto; our ability to
attract and retain clients; the loss of a key executive;
regulatory changes (such as changes in U.S. tax law and
insurance regulation that directly affect the competitive
environment for our products); and a prolonged economic
downturn. Investors are also directed to consider the risks and
uncertainties discussed in other documents we have filed with
the Securities and Exchange Commission, and in particular, our
Annual Report on Form 10-K for the year ended
December 31, 2002, as amended. We do not undertake to
update any forward-looking statement that may be made from time
to time by or on our behalf.






|        |                        
|------- | -----------------------
|Item 4. | Controls and Procedures

As of the end of the period covered by this
Form 10-Q, the Companys management, including its
Chief Executive Officer and Chief Financial Officer, conducted
an evaluation of the effectiveness of the Companys
disclosure controls and procedures. Based on that evaluation,
the Chief Executive Officer and Chief Financial Officer
concluded that the Companys disclosure controls and
procedures were effective. There have been no changes in the
Companys internal controls over financial reporting during
the period ended September 30, 2003 that have materially
affected, or are reasonably likely to materially affect, the
Companys internal controls over financial reporting.

40



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##### 






PART II

OTHER INFORMATION






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

(a) Exhibits 

|     |  |                                                                                                                                                                                                                                                                                                                                                                                                         
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|4    |  | Form of Warrant issued to Hartford Life and
    Annuity Insurance Company and Hartford Life Insurance Company
    (incorporated by reference to Exhibit 4 to the
    registrants Form 10-Q for the quarterly period ended
    June 30, 2003).                                                                                                                                                          
|10.1 |  | Amended and Restated Employment Agreement, dated
    as of July 28, 2003, by and between Annuity and Life Re
    (Holdings), Ltd., Annuity and Life Reassurance, Ltd. and John F.
    Burke (incorporated by reference to Exhibit 10.1 to the
    registrants Form 10-Q for the quarterly period ended
    June 30, 2003).                                                                             
|10.2 |  | Recapture Agreement and General Release of
    Guaranteed Minimum Death Benefit Reinsurance Agreements, dated
    as of June 30, 2003, among Hartford Life and Annuity
    Insurance Company, Hartford Life Insurance Company and Annuity
    and Life Reassurance, Ltd. (incorporated by reference to
    Exhibit 10.3 to the registrants Form 10-Q for
    the quarterly period ended June 30, 2003).
|10.3 |  | Settlement and Commutation Agreement, dated as of
    November 4, 2003, by and among XL Life Ltd, XL Re Ltd
    (formerly known as XL MidOcean Reinsurance Ltd), Annuity and
    Life Reassurance Ltd., and Annuity and Life Re (Holdings), Ltd.
    (incorporated by reference to Exhibit 10.3 to the
    registrants Form 10-Q for the quarterly period ended
    September 30, 2003).               
|31.1 |  | Rule 13a-14(a)/15d-14(a) Certification of
    the Companys Chief Executive Officer.                                                                                                                                                                                                                                                                                                                    
|31.2 |  | Rule 13a-14(a)/15d-14(a) Certification of
    the Companys Chief Financial Officer.                                                                                                                                                                                                                                                                                                                    
|32.1 |  | Section 1350 Certification of the
    Companys Chief Executive Officer.                                                                                                                                                                                                                                                                                                                                
|32.2 |  | Section 1350 Certification of the
    Companys Chief Financial Officer.                                                                                                                                                                                                                                                                                                                                

(b) Reports on Form 8-K 

Current Report on Form 8-K (Items 7 and
12) dated and filed on August 7, 2003, reporting
several recent developments that had occurred with respect to
the Company, including the recapture of the Companys
largest guaranteed minimum death benefits reinsurance agreement
and the announcement that XL Life Ltd had served notice that it
intended to recapture four life reinsurance agreements ceded to
the Company on a 50% quota share basis.

Current Report on Form 8-K (Items 7 and
12) dated August 14, 2003 and filed on August 15,
2003, regarding the Companys release of its financial
results for the three month period ended June 30, 2003.

41



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##### 



ANNUITY AND LIFE RE (HOLDINGS), LTD.




SIGNATURES

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



| |                                     
| | ------------------------------------
| | ANNUITY AND LIFE RE (HOLDINGS), LTD.
|
| | /s/ JOHN F. BURKE                   
| |                                     
| | Name: John F. Burke                 

| |        |                                      
| | ------ | -------------------------------------
| | Title: | Chief Executive Officer and President

Date: March 15, 2004



| |                       
| | ----------------------
| | /s/ JOHN W. LOCKWOOD  
| |                       
| | Name: John W. Lockwood

| |        |                        
| | ------ | -----------------------
| | Title: | Chief Financial Officer

Date: March 15, 2004

42



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##### 



EXHIBIT INDEX

|     |  |                                                                                                                                                                                                                                                                                                                                                                                                         
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|4    |  | Form of Warrant issued to Hartford Life and
    Annuity Insurance Company and Hartford Life Insurance Company
    (incorporated by reference to Exhibit 4 to the
    registrants Form 10-Q for the quarterly period ended
    June 30, 2003).                                                                                                                                                          
|10.1 |  | Amended and Restated Employment Agreement, dated
    as of July 28, 2003, by and between Annuity and Life Re
    (Holdings), Ltd., Annuity and Life Reassurance, Ltd. and John F.
    Burke (incorporated by reference to Exhibit 10.1 to the
    registrants Form 10-Q for the quarterly period ended
    June 30, 2003).                                                                             
|10.2 |  | Recapture Agreement and General Release of
    Guaranteed Minimum Death Benefit Reinsurance Agreements, dated
    as of June 30, 2003, among Hartford Life and Annuity
    Insurance Company, Hartford Life Insurance Company and Annuity
    and Life Reassurance, Ltd. (incorporated by reference to
    Exhibit 10.3 to the registrants Form 10-Q for
    the quarterly period ended June 30, 2003).
|10.3 |  | Settlement and Commutation Agreement, dated as of
    November 4, 2003, by and among XL Life Ltd, XL Re Ltd
    (formerly known as XL MidOcean Reinsurance Ltd), Annuity and
    Life Reassurance Ltd., and Annuity and Life Re (Holdings), Ltd.
    (incorporated by reference to Exhibit 10.3 to the
    registrants Form 10-Q for the quarterly period ended
    September 30, 2003).               
|31.1 |  | Rule 13a-14(a)/15d-14(a) Certification of
    the Companys Chief Executive Officer.                                                                                                                                                                                                                                                                                                                    
|31.2 |  | Rule 13a-14(a)/15d-14(a) Certification of
    the Companys Chief Financial Officer.                                                                                                                                                                                                                                                                                                                    
|32.1 |  | Section 1350 Certification of the
    Companys Chief Executive Officer.                                                                                                                                                                                                                                                                                                                                
|32.2 |  | Section 1350 Certification of the
    Companys Chief Financial Officer.