<PAGE>   1
================================================================================



                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549


                                    FORM 10-Q


          JOINT QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                         SECURITIES EXCHANGE ACT OF 1934
                  For The Quarterly Period Ended March 31, 2000

                                ----------------
                                BROOKE GROUP LTD.
             (Exact name of registrant as specified in its charter)

<TABLE>

    <S>                                         <C>                             <C>
               DELAWARE                                 1-5759                               65-0949535
    (State or other jurisdiction of             Commission File Number          (I.R.S. Employer Identification No.)
    incorporation or organization)
</TABLE>

                                    BGLS INC.
             (Exact name of registrant as specified in its charter)

<TABLE>

    <S>                                         <C>                             <C>
               Delaware                                33-93576                              65-0949536
    (State or other jurisdiction of             Commission File Number          (I.R.S. Employer Identification No.)
    incorporation or organization)
</TABLE>

                             100 S.E. SECOND STREET
                              MIAMI, FLORIDA 33131
                                  305/579-8000
     (Address, including zip code and telephone number, including area code,
                       of the principal executive offices)



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

         At May 12, 2000, Brooke Group Ltd. had 21,989,782 shares of common
stock outstanding, and BGLS Inc. had 100 shares of common stock outstanding, all
of which are held by Brooke Group Ltd.

================================================================================

<PAGE>   2


                                BROOKE GROUP LTD.
                                    BGLS INC.

                                    FORM 10-Q

                                TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                                                Page
<S>                                                                                             <C>
PART I. FINANCIAL INFORMATION

Item 1. Brooke Group Ltd./BGLS Inc. Consolidated Financial Statements:

   Brooke Group Ltd. Consolidated Balance Sheets as of March 31, 2000 and
         December 31, 1999 ....................................................................   2

   BGLS Inc. Consolidated Balance Sheets as of March 31, 2000 and December 31, 1999 ...........   3

   Brooke Group Ltd. Consolidated Statements of Operations for the three months ended
         March 31, 2000 and March 31, 1999 ....................................................   4

   BGLS Inc. Consolidated Statements of Operations for the three months ended
         March 31, 2000 and March 31, 1999 ....................................................   5

   Brooke Group Ltd. Consolidated Statement of Stockholders' Equity (Deficit) for the three
         months ended March 31, 2000 ..........................................................   6

   BGLS Inc. Consolidated Statement of Stockholder's Equity (Deficit) for the three months
         ended March 31, 2000 .................................................................   7

   Brooke Group Ltd. Consolidated Statements of Cash Flows for the three months ended
         March 31, 2000 and March 31, 1999 ....................................................   8

   BGLS Inc. Consolidated Statements of Cash Flows for the three months ended
         March 31, 2000 and March 31, 1999 ....................................................   9

   Notes to Consolidated Financial Statements .................................................  10

Item 2.  Management's Discussion and Analysis
         of Financial Condition and Results of Operations .....................................  35

Item 3. Quantitative and Qualitative Disclosures About Market Risk ............................  44


PART II. OTHER INFORMATION

Item 1. Legal Proceedings .....................................................................  45

Item 2. Changes in Securities and Use of Proceeds .............................................  45

Item 6. Exhibits and Reports on Form 8-K ......................................................  45

SIGNATURES ....................................................................................  46
</TABLE>


                                      -1-
<PAGE>   3


                       BROOKE GROUP LTD. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                         MARCH 31,       DECEMBER 31,
                                                                                           2000              1999
                                                                                        ----------       ------------
<S>                                                                                     <C>              <C>
ASSETS:
Current assets:
  Cash and cash equivalents....................................................         $  22,810        $  20,123
  Receivables from clearing brokers............................................            21,120           10,903
  Investment securities available for sale.....................................            48,689           48,722
  Trading securities owned.....................................................            11,106           15,707
  Accounts receivable - trade..................................................            19,103           19,658
  Other receivables............................................................             4,391            1,290
  Inventories..................................................................            59,562           45,205
  Restricted assets............................................................               937            3,239
  Deferred income taxes........................................................            21,457           21,374
  Other current assets.........................................................             4,570            2,511
                                                                                        ---------        ---------
      Total current assets.....................................................           213,745          188,732

Property, plant and equipment, net.............................................           159,430          154,260
Investment in real estate, net.................................................            53,879           53,353
Long-term investments, net.....................................................             7,757            8,731
Investment in joint venture....................................................            38,366           38,378
Restricted assets..............................................................             4,295            5,195
Deferred income taxes..........................................................            45,631           45,631
Other assets...................................................................            10,899           10,168
                                                                                        ---------        ---------
      Total assets.............................................................          $534,002         $504,448
                                                                                        ---------        ---------

LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT):

Current liabilities:
  Current portion of notes payable and long-term debt..........................          $156,414        $  41,547
  Margin loan payable..........................................................             4,306              983
  Accounts payable.............................................................            45,123           36,456
  Securities sold, not yet purchased...........................................             3,368            7,625
  Accrued promotional expenses.................................................            23,247           22,473
  Accrued taxes payable........................................................            39,385           42,408
  Deferred income taxes........................................................             2,274            2,274
  Accrued interest.............................................................             3,946            8,488
  Prepetition claims and restructuring accruals................................            12,263           12,279
  Other accrued liabilities....................................................            57,499           52,121
                                                                                        ---------        ---------
      Total current liabilities................................................           347,825          226,654

Notes payable, long-term debt and other obligations, less current portion......            54,813          148,349

Noncurrent employee benefits...................................................            16,425           23,264
Deferred income taxes..........................................................           118,378          117,285
Other liabilities..............................................................            88,428           76,628
Minority interests.............................................................            43,457           45,366

Commitments and contingencies..................................................

Stockholders' equity (deficit):
  Preferred stock, par value $1.00 per share, authorized 10,000,000 shares.....
  Common stock, par value $0.10 per share, authorized 100,000,000
    shares, issued 27,822,779 shares, outstanding 21,989,782...................             2,199            2,199
  Additional paid-in capital...................................................           191,088          196,695
  Deficit......................................................................          (300,897)        (302,155)
  Accumulated other comprehensive income.......................................             3,097            1,379
  Other........................................................................            (3,338)          (3,743)
  Less:  5,832,997 shares of common stock in treasury, at cost.................           (27,473)         (27,473)
                                                                                        ---------        ---------
      Total stockholders' equity (deficit).....................................          (135,324)        (133,098)
                                                                                        ---------        ---------

      Total liabilities and stockholders' equity (deficit).....................          $534,002         $504,448
                                                                                         ========         ========
</TABLE>


                  The accompanying notes are an integral part
                   of the consolidated financial statements.

                                      -2-
<PAGE>   4



                           BGLS INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                    MARCH 31,     DECEMBER 31,
                                                                                      2000           1999
                                                                                  ------------    ------------

<S>                                                                               <C>             <C>
ASSETS:
Current assets:
  Cash and cash equivalents ................................................      $     22,243    $     19,590
  Receivables from clearing brokers ........................................            21,120          10,903
  Investment securities available for sale .................................            48,689          48,722
  Trading securities owned .................................................            11,106          15,707
  Accounts receivable - trade ..............................................            19,103          19,658
  Other receivables ........................................................             4,336           1,237
  Inventories ..............................................................            59,562          45,205
  Restricted assets ........................................................               937           3,239
  Deferred income taxes ....................................................            21,457          21,374
  Other current assets .....................................................             4,539           2,350
                                                                                  ------------    ------------
      Total current assets .................................................           213,092         187,985

Property, plant and equipment, net .........................................           159,418         154,246
Investment in real estate, net .............................................            53,879          53,353
Long-term investments, net .................................................             7,757           8,731
Investment in joint venture ................................................            38,366          38,378
Restricted assets ..........................................................             4,295           5,195
Deferred income taxes ......................................................            45,631          45,631
Other assets ...............................................................             9,589           9,002
                                                                                  ------------    ------------
      Total assets .........................................................      $    532,027    $    502,521
                                                                                  ------------    ------------

LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIT):

Current liabilities:
  Current portion of notes payable and long-term debt ......................      $    155,865    $     41,333
  Margin loan payable ......................................................             4,306             983
  Accounts payable .........................................................            44,998          36,236
  Securities sold, not yet purchased .......................................             3,368           7,625
  Accrued promotional expenses .............................................            23,247          22,473
  Accrued taxes payable ....................................................            39,385          42,408
  Deferred income taxes ....................................................             2,274           2,274
  Accrued interest .........................................................             3,946           8,488
  Prepetition claims and restructuring accruals ............................            12,263          12,279
  Other accrued liabilities ................................................            55,474          50,254
                                                                                  ------------    ------------
      Total current liabilities ............................................           345,126         224,353

Notes payable, long-term debt and other obligations, less current portion ..            54,813         148,349

Noncurrent employee benefits ...............................................            16,425          23,264
Deferred income taxes ......................................................           118,378         117,285
Other liabilities ..........................................................            88,265          76,360
Minority interests .........................................................            43,457          45,366

Commitments and contingencies...............................................

Stockholder's equity (deficit):
  Common stock, par value $0.01 per share; 100 shares authorized, issued and
    outstanding
  Additional paid-in capital ...............................................           161,683         161,800
  Deficit ..................................................................          (299,217)       (295,635)
  Accumulated other comprehensive income ...................................             3,097           1,379
                                                                                  ------------    ------------
      Total stockholder's equity (deficit) .................................          (134,437)       (132,456)
                                                                                  ------------    ------------

      Total liabilities and stockholder's equity (deficit) .................      $    532,027    $    502,521
                                                                                  ============    ============
</TABLE>


                  The accompanying notes are an integral part
                   of the consolidated financial statements.


                                      -3-
<PAGE>   5


                       BROOKE GROUP LTD. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                       THREE MONTHS ENDED
                                                                                  ----------------------------
                                                                                    MARCH 31,       MARCH 31,
                                                                                      2000              1999
                                                                                  ------------     -----------
<S>                                                                               <C>             <C>
Revenues:
    Tobacco* ...............................................................      $    147,148    $    108,397
    Broker-dealer transactions .............................................            30,296
    Real estate leasing ....................................................               771
                                                                                  ------------     -----------
      Total revenues .......................................................           178,215         108,397

Expenses:
    Cost of goods sold* ....................................................            68,575          41,427
    Operating, selling, administrative and general expenses ................            99,503          44,722
    Settlement charges .....................................................                37             115
                                                                                  ------------     -----------
      Operating income .....................................................            10,100          22,133

Other income (expenses):
    Interest and dividend income ...........................................             1,530              60
    Interest expense .......................................................           (11,756)        (14,988)
    Equity in loss of affiliate ............................................            (1,551)         (7,629)
    Recognition of deferred gain on sale of assets .........................                             7,050
    Foreign currency gain ..................................................             1,223           2,270
    Loss in joint venture ..................................................              (226)
    Gain on sale of investments, net .......................................             4,753
    Other, net .............................................................               (23)            387
                                                                                  ------------     -----------
Income from continuing operations before provision
      for income taxes and minority interests ..............................             4,050           9,283
    Provision for income taxes .............................................               823           1,729
    Minority interests .....................................................             1,739
                                                                                  ------------     -----------
Income from continuing operations ..........................................             1,488           7,554
                                                                                  ------------     -----------
Gain on disposal of discontinued operations ................................                             1,249

Loss on extraordinary items ................................................              (230)
                                                                                  ------------     -----------

Net income .................................................................      $      1,258    $      8,803
                                                                                  ============    ============


Per basic common share:

    Income from continuing operations ......................................      $       0.07    $       0.34
                                                                                  ============    ============

    Gain from discontinued operations ......................................                      $       0.06
                                                                                  ============    ============
    Loss from extraordinary items ..........................................      $      (0.01)
                                                                                  ============    ============

    Net income applicable to common shares .................................      $       0.06    $       0.40
                                                                                  ============    ============

Basic weighted average common shares outstanding ...........................        21,989,782      21,989,782
                                                                                  ============    ============


Per diluted common share:

    Income from continuing operations ......................................      $       0.06    $       0.28
                                                                                  ============    ============
    Gain from discontinued operations ......................................                      $       0.05
                                                                                  ============    ============
    Loss from extraordinary items ..........................................      $      (0.01)
                                                                                  ============    ============
    Net income applicable to common shares .................................      $       0.05    $       0.33
                                                                                  ============    ============

Diluted weighted average common shares outstanding .........................        26,232,353      26,851,374
                                                                                  ============    ============
</TABLE>

-------------------------

*Tobacco revenues and Cost of goods sold include excise taxes of $24,701 and
$14,038 for the three months ended March 31, 2000 and 1999, respectively.


                  The accompanying notes are an integral part
                   of the consolidated financial statements.



                                      -4-
<PAGE>   6



                           BGLS INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                      THREE MONTHS ENDED
                                                                                  ----------------------------
                                                                                    MARCH 31,      MARCH 31,
                                                                                       2000          1999
                                                                                  ------------    ------------
<S>                                                                               <C>             <C>
Revenues:
    Tobacco* ...............................................................      $    147,148    $    108,397
    Broker dealer transactions .............................................            30,296
    Real estate leasing ....................................................               771
                                                                                  ------------    ------------
      Total revenues .......................................................           178,215         108,397

Expenses:
    Cost of goods sold* ....................................................            68,575          41,427
    Operating, selling, administrative and general expenses ................            98,376          44,320
    Settlement charges .....................................................                37             115
                                                                                  ------------    ------------
      Operating income .....................................................            11,227          22,535

Other income (expenses):
    Interest and dividend income ...........................................             1,530              60
    Interest expense .......................................................           (11,732)        (16,244)
    Equity in loss of affiliate ............................................            (1,551)         (7,629)
    Recognition of deferred gain on sale of assets .........................                             8,264
    Foreign currency gain ..................................................             1,223           2,270
    Loss in joint venture ..................................................              (226)
    Gain on sale of investments, net .......................................             4,753
    Other, net .............................................................               (52)            357
                                                                                  ------------    ------------

Income from continuing operations before provision for income
      taxes and minority interests .........................................             5,172           9,613
    Provision for income taxes .............................................               823           1,729
    Minority interests .....................................................             1,739
                                                                                  ------------    ------------
Income from continuing operations ..........................................             2,610           7,884
                                                                                  ------------    ------------
Gain on disposal of discontinued operations ................................                             1,249

Loss on extraordinary items ................................................              (230)
                                                                                  ------------    ------------
Net income .................................................................      $      2,380    $      9,133
                                                                                  ============    ============
</TABLE>



-------------------------

*Tobacco revenues and Cost of goods sold include excise taxes of $24,701 and
$14,038 for the three months ended March 31, 2000 and 1999, respectively.


                  The accompanying notes are an integral part
                   of the consolidated financial statements.



                                      -5-
<PAGE>   7


                       BROOKE GROUP LTD. AND SUBSIDIARIES
            CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                                            ACCUMULATED
                                                                ADDITIONAL                                    OTHER
                                           COMMON STOCK          PAID-IN               TREASURY            COMPREHENSIVE
                                        SHARES        AMOUNT     CAPITAL     DEFICIT     STOCK     OTHER      INCOME       TOTAL
                                        ------        ------   ----------    -------   ---------  -------  -------------  -------
<S>                                    <C>           <C>       <C>         <C>         <C>        <C>      <C>           <C>
Balance, December 31, 1999 ........... 21,989,782    $ 2,199   $ 196,695   $(302,155)  $(27,473)  $(3,743)     $1,379     $(133,098)

Net income ...........................                                         1,258                                          1,258
  Unrealized gain on investment
    securities .......................                                                                          1,629         1,629
  Other New Valley capital
    transactions .....................                              (117)                                          89           (28)
                                                                                                                          ---------
      Total other comprehensive
        income .......................                                                                                        1,601
                                                                                                                          ---------
Total comprehensive income ...........                                                                                        2,859
                                                                                                                          ---------

Distributions on common stock ........                            (5,498)                                                    (5,498)
Amortization of deferred
  compensation .......................                                 8                              405                       413
                                       ----------    -------   ---------   ---------   --------   -------      ------     ---------
Balance, March 31, 2000 .............. 21,989,782    $ 2,199   $ 191,088   $(300,897)  $(27,473)  $(3,338)     $3,097     $(135,324)
                                       ==========    =======   =========   =========   ========   =======      ======     =========

</TABLE>

                     The accompanying notes are an integral
                 part of the consolidated financial statements.


                                      -6-
<PAGE>   8


                           BGLS INC. AND SUBSIDIARIES
            CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY (DEFICIT)
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                                          ACCUMULATED
                                                                              ADDITIONAL                     OTHER
                                                       COMMON STOCK             PAID-IN                   COMPREHENSIVE
                                                    SHARES       AMOUNT         CAPITAL       DEFICIT         INCOME         TOTAL
                                                    ------      -------       -----------    ---------    -------------   ---------
<S>                                                 <C>         <C>           <C>          <C>            <C>            <C>
Balance, December 31, 1999.....................      100        $              $161,800      $(295,635)      $1,379      $(132,456)

Net income.....................................                                                  2,380                       2,380
  Unrealized gain on investment securities.....                                                               1,629          1,629
  Other New Valley capital transactions........                                    (117)                         89            (28)
                                                                                                                         ----------
      Total other comprehensive income.........                                                                              1,601
                                                                                                                         ----------
Total comprehensive income.....................                                                                              3,981
                                                                                                                         ----------
Distributions to parent........................                                                 (5,962)                     (5,962)
                                                     ---        ------         --------       --------       ------      ----------

Balance, March 31, 2000........................      100        $              $161,683      $(299,217)      $3,097      $(134,437)
                                                     ===        ======         ========      =========       ======      ==========
</TABLE>


                  The accompanying notes are an integral part
                   of the consolidated financial statements.


                                      -7-
<PAGE>   9

                       BROOKE GROUP LTD. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                     THREE MONTHS ENDED
                                                                                  ---------------------------
                                                                                    MARCH 31,       MARCH 31,
                                                                                      2000             1999
                                                                                  ------------    ------------
<S>                                                                               <C>             <C>
Net cash (used in) provided by operating activities ........................      $    (22,086)   $      2,571
                                                                                  ------------    ------------

Cash flows from investing activities:
  Proceeds from sale of businesses and assets, net .........................                 2              36
  Sale or maturity of investment securities ................................            14,849
  Purchase of investment securities ........................................            (5,503)
  Purchase of long-term investments ........................................              (504)
  Decrease in restricted assets ............................................             3,202
  Payment of prepetition claims ............................................               (16)
  Investment in joint venture ..............................................              (213)
  Repurchase by New Valley of common shares.................................              (166)
  Capital expenditures .....................................................            (8,029)        (19,617)
                                                                                  ------------    ------------
Net cash provided by (used in) investing activities ........................             3,622         (19,581)
                                                                                  ------------    ------------
Cash flows from financing activities:
  Proceeds from debt .......................................................             1,500           4,500
  Repayments of debt .......................................................            (8,395)           (323)
  Borrowings under revolvers ...............................................           120,442          83,986
  Repayments on revolvers ..................................................           (89,890)        (71,319)
  Decrease in cash overdraft ...............................................                               (34)
  Increase in margin loans payable .........................................             3,324
  Distributions on common stock ............................................            (5,498)         (1,358)
                                                                                  ------------    ------------
Net cash provided by financing activities ..................................            21,483          15,452
                                                                                  ------------    ------------
Effect of exchange rate changes on cash and cash equivalents ...............              (332)           (319)
Net increase (decrease) in cash and cash equivalents .......................             2,687          (1,877)
Cash and cash equivalents, beginning of period .............................            20,123           7,396
                                                                                  ------------    ------------
Cash and cash equivalents, end of period ...................................      $     22,810    $      5,519
                                                                                  ============    ============
</TABLE>


                  The accompanying notes are an integral part
                   of the consolidated financial statements.


                                      -8-
<PAGE>   10



                           BGLS INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                       THREE MONTHS ENDED
                                                                                  ----------- ----------------
                                                                                   MARCH 31,        MARCH 31,
                                                                                      2000            1999
                                                                                  ------------    ------------
<S>                                                                               <C>             <C>
Net cash (used in) provided by operating activities ........................      $    (21,321)   $      1,019
                                                                                  ------------    ------------

Cash flows from investing activities:
  Proceeds from sale of businesses and assets, net .........................                 2              36
  Sale or maturity of investment securities ................................            14,849
  Purchase of investment securities ........................................            (5,503)
  Purchase of long-term investments ........................................              (504)
  Decrease in restricted assets ............................................             3,202
  Payment of prepetition claims ............................................               (16)
  Investment in joint venture ..............................................              (213)
  Repurchase by New Valley of common shares.................................              (166)
  Capital expenditures .....................................................            (8,029)        (19,617)
                                                                                  ------------    ------------
Net cash provided by (used in) investing activities ........................             3,622         (19,581)
                                                                                  ------------    ------------
Cash flows from financing activities:
  Proceeds from debt .......................................................             1,000           4,500
  Repayments of debt .......................................................            (8,230)           (143)
  Borrowings under revolvers ...............................................           120,442          83,986
  Repayments on revolvers ..................................................           (89,890)        (71,319)
  Decrease in cash overdraft ...............................................                               (20)
  Increase in margin loans payable .........................................             3,324
  Distributions paid to parent .............................................            (5,962)
                                                                                  ------------    ------------
Net cash provided by financing activities ..................................            20,684          17,004
                                                                                  ------------    ------------

Effect of exchange rate changes on cash and cash equivalents ...............              (332)           (319)
Net increase (decrease) in cash and cash equivalents .......................             2,653          (1,877)
Cash and cash equivalents, beginning of period .............................            19,590           7,396
                                                                                  ------------    ------------
Cash and cash equivalents, end of period ...................................      $     22,243    $      5,519
                                                                                  ============    ============
</TABLE>


                  The accompanying notes are an integral part
                   of the consolidated financial statements.


                                      -9-
<PAGE>   11
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)



1.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

         (a)      Basis of Presentation:

                  The consolidated financial statements of Brooke Group Ltd.
                  (the "Company" or "Brooke") include the consolidated financial
                  statements of its wholly-owned subsidiary, BGLS Inc. ("BGLS").
                  The consolidated financial statements of BGLS include the
                  accounts of Liggett Group Inc. ("Liggett"), Brooke (Overseas)
                  Ltd. ("Brooke (Overseas)"), Liggett-Ducat Ltd.
                  ("Liggett-Ducat") and other less significant subsidiaries. As
                  of June 1, 1999, New Valley Corporation ("New Valley") became
                  a consolidated subsidiary of the Company as a result of New
                  Valley's recapitalization in which the Company's interest in
                  New Valley's common shares increased to 55.1%. (See Note 3.)
                  All significant intercompany balances and transactions have
                  been eliminated.

                  Liggett is engaged primarily in the manufacture and sale of
                  cigarettes, principally in the United States. Liggett-Ducat is
                  engaged in the manufacture and sale of cigarettes in Russia.
                  New Valley is engaged primarily in the investment banking and
                  brokerage business through its ownership of Ladenburg Thalmann
                  & Co. Inc., in the real estate development business in Russia
                  and in investment in Internet-related businesses.

                  Effective October 1, 1999, the Company was reorganized into a
                  holding company form of organizational structure. The new
                  corporate structure was implemented by the merger of a
                  wholly-owned indirect subsidiary of the former Brooke Group
                  Ltd., the predecessor of the current Brooke, with the
                  predecessor, which was the surviving corporation. As a result
                  of this merger, each share of the common stock of the
                  predecessor issued and outstanding or held in its treasury was
                  converted into one share of common stock of the current Brooke
                  (formerly known as BGL Successor Inc.). The current Brooke
                  became the holding company for the business and operations
                  previously conducted by the predecessor and its subsidiaries,
                  and the predecessor became an indirect wholly-owned subsidiary
                  of Brooke. On the effective date of the merger, the name of
                  the current Brooke was changed to Brooke Group Ltd. and the
                  name of the predecessor was changed to Brooke Group Holding
                  Inc. ("Brooke Group Holding"). The holding company
                  reorganization had no impact on these consolidated financial
                  statements.

                  At the Company's annual meeting to be held on May 24, 2000,
                  stockholders will be asked to approve a corporate name-change
                  to Vector Group Ltd. If the name-change proposal is approved,
                  the New York Stock Exchange symbol for the Company's common
                  stock will change from "BGL" to "VGR".

                  The interim consolidated financial statements of the Company
                  and BGLS are unaudited and, in the opinion of management,
                  reflect all adjustments necessary (which are normal and
                  recurring) to present fairly the Company's and BGLS'
                  consolidated financial position, results of operations and
                  cash flows. These consolidated financial statements should be
                  read in conjunction with the consolidated financial statements
                  and the notes thereto included in the Company's and BGLS'
                  Annual Report on Form 10-K for the year ended December 31,
                  1999, as filed with the Securities and Exchange Commission.
                  The


                                      -10-
<PAGE>   12
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


                  consolidated results of operations for interim periods should
                  not be regarded as necessarily indicative of the results that
                  may be expected for the entire year.

         (b)      Liquidity:

                  The Company's anticipated sources of liquidity for 2000
                  include, among other things, additional debt and/or equity
                  financing, management fees, tax sharing and other payments
                  from Liggett and certain funds available from New Valley
                  subject to limitations imposed by BGLS' indenture agreements.
                  Liggett's and New Valley's ability to make such payments is
                  subject to risks and uncertainties attendant to their
                  businesses. (Refer to Notes 3 and 12.) New Valley may also
                  acquire or seek to acquire additional operating businesses
                  through merger, purchase of assets, stock acquisition or other
                  means, or to make other investments, which may limit its
                  ability to make such distributions.

                  The BGLS 15.75% Series B Senior Secured Notes (the "Notes"),
                  together with all deferred and accrued interest, mature on
                  January 31, 2001. (Refer to Note 10.) Accordingly, as of March
                  31, 2000, the Notes and deferred interest of $101,413, net of
                  unamortized discount, are classified as current liabilities.
                  The current maturities of the Notes contribute substantially
                  to the working capital deficiency of $134,080. The principal
                  amount of the Notes currently outstanding is $82,570,
                  including $50,100 principal amount of the Notes which were
                  held by holders who have agreed to defer payment of interest.

         (c)      Risks and Uncertainties:

                  The Russian Federation continues to experience economic
                  difficulties following the financial crisis of August 1998.
                  Consequently, the country's currency continues to devalue,
                  there is continued volatility in the debt and equity market,
                  hyperinflation persists, confidence in the banking sector has
                  yet to be restored and there continues to be a general lack of
                  liquidity in the economy. In addition, laws and regulations
                  affecting businesses operating within the Russian Federation
                  continue to evolve.

                  The Russian Federation's return to economic stability is
                  dependent to a large extent on the effectiveness of the
                  measures taken by the government, decisions of international
                  lending organizations, and other actions, including regulatory
                  and political developments, which are beyond the Company's
                  control.

                  The Company's assets and operations could be at risk if there
                  are any further significant adverse changes in the political
                  and business environment. Management is unable to predict what
                  effect those uncertainties might have on the future financial
                  position of the Company. No adjustments related to these
                  uncertainties have been included in these consolidated
                  financial statements.

         (d)      Estimates and Assumptions:

                  The preparation of financial statements in conformity with
                  generally accepted accounting principles requires management
                  to make estimates and assumptions that affect the reported
                  amounts of assets and liabilities, disclosure of contingent
                  assets and liabilities


                                      -11-
<PAGE>   13
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


                  and the reported amounts of revenues and expenses. Significant
                  estimates subject to material changes in the near term include
                  deferred tax assets, allowance for doubtful accounts,
                  promotional accruals, sales returns and allowances, actuarial
                  assumptions of pension plans and litigation and defense costs.
                  Actual results could differ from those estimates.

         (e)      Reclassifications:

                  Certain amounts in the 1999 consolidated financial statements
                  have been reclassified to conform to the 2000 presentation.

         (f)      Provision for Income Taxes:

                  The effective tax rate does not bear a customary relationship
                  to pre-tax accounting income principally as a consequence of
                  foreign taxes and the change in the valuation allowance on
                  deferred tax assets.

         (g)      Earnings Per Share:

                  Information concerning the Company's common stock has been
                  adjusted to give effect to the 5% stock dividend paid to
                  Company stockholders on September 30, 1999. In connection with
                  the 5% dividend, the Company increased the number of warrants
                  and stock options by 5% and reduced the exercise prices
                  accordingly. All share amounts have been presented as if the
                  stock dividend had occurred on January 1, 1999.

                  Basic net income (loss) per share is computed by dividing net
                  income (loss) by the weighted-average number of shares
                  outstanding. Diluted net income per share includes the
                  dilutive effect of stock options, vested restricted stock
                  grants and warrants.

                  Basic and diluted EPS were calculated using the following for
                  the three-month period ended March 31, 2000 and March 31,
                  1999.

<TABLE>
<CAPTION>
                                                          MARCH 31,         MARCH 31,
                                                             2000             1999
                                                          ----------        ----------
    <S>                                                   <C>               <C>
    Weighted average shares for basic EPS.........        21,989,782        21,989,782

    Plus incremental shares from conversions:
        Stock options and warrants................         4,242,571         4,861,592
                                                          ----------        ----------
    Weighted average shares for diluted EPS.......        26,232,353        26,851,374
                                                          ----------        ----------
</TABLE>


         (h)      Other Comprehensive Income (Loss):

                  Other comprehensive income is a component of stockholders'
                  equity and includes such items as the Company's proportionate
                  interest in New Valley's capital transactions,


                                      -12-
<PAGE>   14
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


                  unrealized gains and losses on investment securities and
                  minimum pension liability adjustments. Total other
                  comprehensive income was $1,601 for the three months ended
                  March 31, 2000 and $5,920 for the three months ended March 31,
                  1999.


2.       PHILIP MORRIS BRAND TRANSACTION

         In November 1998, the Company and Liggett granted Philip Morris
         Incorporated options to purchase interests in Trademarks LLC which
         holds three domestic cigarette brands, L&M, Chesterfield and Lark,
         formerly held by Liggett's subsidiary, Eve Holdings Inc.

         Under the terms of the Philip Morris agreements, Eve contributed the
         three brands to Trademarks, a newly-formed limited liability company,
         in exchange for 100% of two classes of Trademarks' interests, the Class
         A Voting Interest and the Class B Redeemable Nonvoting Interest. Philip
         Morris acquired two options to purchase the interests from Eve. In
         December 1998, Philip Morris paid Eve a total of $150,000 for the
         options, $5,000 for the option for the Class A interest and $145,000
         for the option for the Class B interest.

         The Class A option entitled Philip Morris to purchase the Class A
         interest for $10,100. On March 19, 1999, Philip Morris exercised the
         Class A option, and the closing occurred on May 24, 1999.

         The Class B option entitles Philip Morris to purchase the Class B
         interest for $139,900. The Class B option will be exercisable during
         the 90-day period beginning on December 2, 2008, with Philip Morris
         being entitled to extend the 90-day period for up to an additional six
         months under certain circumstances. The Class B interest will also be
         redeemable by Trademarks for $139,900 during the same period the Class
         B option may be exercised.

         On May 24, 1999, Trademarks borrowed $134,900 from a lending
         institution. The loan is guaranteed by Eve and collateralized by a
         pledge by Trademarks of the three brands and Trademarks' interest in
         the trademark license agreement (discussed below) and by a pledge by
         Eve of its Class B interest. In connection with the closing of the
         Class A option, Trademarks distributed the loan proceeds to Eve as the
         holder of the Class B interest. The cash exercise price of the Class B
         option and Trademarks' redemption price were reduced by the amount
         distributed to Eve. Upon Philip Morris' exercise of the Class B option
         or Trademarks' exercise of its redemption right, Philip Morris or
         Trademarks, as relevant, will be required to obtain Eve's release from
         its guaranty. The Class B interest will be entitled to a guaranteed
         payment of $500 each year with the Class A interest allocated all
         remaining income or loss of Trademarks. The proceeds of the loan and
         the exercise of the Class A option were used to retire a portion of
         BGLS' 15.75% Senior Secured Notes. (Refer to Note 10.)

         Trademarks has granted Philip Morris an exclusive license of the three
         brands for an 11-year term expiring May 24, 2010 at an annual royalty
         based on sales of cigarettes under the brands, subject to a minimum
         annual royalty payment equal to the annual debt service obligation on
         the loan plus $1,000.


                                      -13-
<PAGE>   15
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


         If Philip Morris fails to exercise the Class B option, Eve will have an
         option to put its Class B interest to Philip Morris, or Philip Morris'
         designees, at a put price that is $5,000 less than the exercise price
         of the Class B option (and includes Philip Morris' obtaining Eve's
         release from its loan guarantee). The Eve put option is exercisable at
         any time during the 90-day period beginning March 2, 2010.

         If the Class B option, Trademarks' redemption right and the Eve put
         option expire unexercised, the holder of the Class B interest will be
         entitled to convert the Class B interest, at its election, into a Class
         A interest with the same rights to share in future profits and losses,
         the same voting power and the same claim to capital as the entire
         existing outstanding Class A interest, i.e., a 50% interest in
         Trademarks.

         Upon the closing of the exercise of the Class A option and the
         distribution of the loan proceeds on May 24, 1999, Philip Morris
         obtained control of Trademarks, and the Company recognized a pre-tax
         gain of $294,078 in its consolidated financial statements to the extent
         of the total cash proceeds received from the payment of the option
         fees, the exercise of the Class A option and the distribution of the
         loan proceeds.


3.       NEW VALLEY CORPORATION

         Until May 31, 1999, the Company was an equity investor in New Valley.
         The Class A Senior Preferred Shares and the Class B Preferred Shares of
         New Valley that the Company owned were accounted for as debt and equity
         securities, respectively, pursuant to the requirements of SFAS No. 115,
         "Accounting for Certain Investments in Debt and Equity Securities", and
         were classified as available for sale. The Common Shares were accounted
         for pursuant to APB No. 18, "The Equity Method of Accounting for
         Investments in Common Stock".

         The Company's and BGLS' investment at March 31, 1999 is summarized
         below:

<TABLE>
<CAPTION>
                                            NUMBER OF      FAIR          CARRYING
                                             SHARES        VALUE          AMOUNT
                                             ------        -----         --------
   <S>                                      <C>           <C>            <C>
   Class A Preferred Shares.......            618,326     $51,939        $ 51,939
   Class B Preferred Shares.......            250,885         847             847

   Common Shares..................          3,989,710       1,621         (52,786)
                                                          -------        --------
                                                          $54,407        $
                                                          =======        ========
</TABLE>

         Recapitalization. In connection with New Valley's recapitalization on
         June 4, 1999, New Valley's preferred shares were reclassified and
         changed into Common Shares and Warrants to purchase Common Shares. The
         Company's ownership of the Common Shares of New Valley increased from
         42.3% to 55.1%, and its total voting power increased from 42.3% to
         55.1%. As a result of the increase in ownership, New Valley became a
         consolidated subsidiary of the Company as of June 1, 1999.

         On October 5, 1999, New Valley's Board of Directors authorized the
         repurchase of up to 2,000,000 Common Shares from time to time on the
         open market or in privately negotiated


                                      -14-
<PAGE>   16
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


         transactions depending on market conditions. As of May 12, 2000, New
         Valley had repurchased 114,900 shares for approximately $475. At March
         31, 2000, the Company owned 55.5% of New Valley's Common Shares.

         BrookeMil Ltd. In connection with the sale by Brooke (Overseas) of the
         common shares of BrookeMil to New Valley in 1997, a portion of the gain
         was deferred in recognition of the fact that the Company retained an
         interest in BrookeMil through its 42% equity ownership of New Valley
         prior to recapitalization and that a portion of the property sold (the
         site of the third phase of the Ducat Place real estate project being
         developed by BrookeMil, which was used by Liggett-Ducat for its
         cigarette factory operation) was subject to a put option held by New
         Valley. The option expired when Liggett-Ducat ceased factory operations
         at the site in March 1999. The Company recognized that portion of the
         deferred gain, $7,050, in March 1999.


4.       PRO FORMA EFFECTS OF BRAND AND NEW VALLEY TRANSACTIONS

         The following table presents unaudited pro forma results of operations
         as if the Philip Morris brand transaction, New Valley's
         recapitalization and the sale of five of New Valley's shopping centers
         and the Thinking Machines assets had occurred immediately prior to
         January 1, 1999. These pro forma results have been prepared for
         comparative purposes only and do not purport to be indicative of what
         would have occurred had these transactions been consummated as of such
         date.

<TABLE>
<CAPTION>
                                                 THREE MONTHS ENDED
                                                   MARCH 31, 1999
                                                 ------------------

<S>                                              <C>
Revenues.................................             $116,965
                                                      ========

Operating income.........................             $ 10,551
                                                      ========

Income from continuing operations........             $  9,157
                                                      ========

Net income...............................             $  9,157
                                                      ========

Net income per common share:
    Basic................................             $   0.42
                                                      ========
    Diluted..............................             $   0.35
                                                      ========
</TABLE>


5.       INVESTMENT IN WESTERN REALTY

         Western Realty Development LLC. In February 1998, New Valley and Apollo
         Real Estate Investment Fund III, L.P. ("Apollo") organized Western
         Realty Development LLC ("Western Realty Development") to make real
         estate and other investments in Russia. New Valley agreed to contribute
         the real estate assets of BrookeMil, including Ducat Place II and the
         site


                                      -15-
<PAGE>   17
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


         for Ducat Place III, to Western Realty Development and Apollo agreed to
         contribute up to $69,625, including the investment in Western Realty
         Repin discussed below.

         The ownership and voting interests in Western Realty Development are
         held equally by Apollo and New Valley. Apollo will be entitled to a
         preference on distributions of cash from Western Realty Development to
         the extent of its investment commitment of $43,750, of which $40,213
         had been funded through March 31, 2000, together with a 15% annual rate
         of return. New Valley will then be entitled to a return of its
         investment commitment of $23,750, of which $20,213 has been funded
         through March 31, 2000, together with a 15% annual rate of return.
         Subsequent distributions will be made 70% to New Valley and 30% to
         Apollo. Western Realty Development is managed by a board of managers
         consisting of an equal number of representatives chosen by Apollo and
         New Valley. Material corporate transactions by Western Realty
         Development generally require the unanimous consent of the board of
         managers. Accordingly, New Valley accounts for its non-controlling
         interest in Western Realty Development using the equity method of
         accounting. New Valley recognizes losses incurred by Western Realty
         Development to the extent that cumulative earnings of Western Realty
         Development are not sufficient to satisfy Apollo's preferred return.

         Summarized financial information as of March 31, 2000 and December 31,
         1999 and for the three-month periods ended March 31, 2000 and March 31,
         1999 for Western Realty Development follows:

<TABLE>
<CAPTION>


                                               MARCH 31, 2000           DECEMBER 31, 1999
                                               --------------           -----------------

<S>                                            <C>                      <C>
Current assets.......................            $    2,950                 $  3,557
Participating loan receivable........                39,261                   37,849
Real estate, net.....................                77,579                   77,988
Furniture and fixtures, net..........                   249                      249
Other noncurrent assets..............                   273                      320
Goodwill, net........................                   636                      722
Notes payable - current..............                 6,707                    6,445
Other current liabilities............                 6,391                    7,067
Notes payable - long-term............                 6,436                    8,211
Other long-term liabilities..........                   752                      752
Members' equity......................               100,662                   98,210


<CAPTION>
                                             THREE MONTHS ENDED        THREE MONTHS ENDED
                                               MARCH 31, 2000            MARCH 31, 1999
                                             ------------------        ------------------
<S>                                           <C>                       <C>
Revenues.............................               $2,390                   $3,448
Costs and expenses...................                2,170                    4,425
Accretion of return on
      participating loan.............                1,412                    1,002
Income tax provision.................                                            16
Net income...........................                1,632                        9
</TABLE>


                                      -16-
<PAGE>   18
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


      Western Realty Development has made a $30,000 participating loan to
      Western Tobacco Investments LLC ("Western Tobacco Investments"), which
      holds Brooke (Overseas') interests in Liggett-Ducat and its new factory.
      (Refer to Note 10 for information concerning pledges of interests in
      Western Tobacco Investments.) The loan bears no fixed interest and is
      payable only out of 30% of distributions made by Western Tobacco
      Investments to Brooke (Overseas). After prior payment of debt service on
      loans to finance the construction of the new factory, 30% of distributions
      from Western Tobacco Investments to Brooke (Overseas) will be applied
      first to pay the principal of the loan and then as contingent
      participating interest on the loan. In addition, Western Realty
      Development is entitled to receive a 15% annual rate of return on amounts
      advanced on the loan under certain circumstances in the event of a sale or
      refinancing of Western Tobacco Investments or the new factory. Any rights
      of repayment on the loan are subordinate to the rights of all other
      creditors of BrookeMil. Brooke (Overseas) has recognized net interest
      expense of $1,412 for the three months ended March 31, 2000 and $1,002 for
      the three months ended March 31, 1999, which represents a 15% cumulative
      adjustment to realizable value on the loan and 30% of any net expense
      applicable to common interests in Western Tobacco Investments. The loan is
      classified in other long-term liabilities on the consolidated balance
      sheet at March 31, 2000.

      Western Realty Repin LLC. In June 1998, New Valley and Apollo organized
      Western Realty Repin to make a loan to BrookeMil. The proceeds of the loan
      will be used by BrookeMil for the acquisition and preliminary development
      of the Kremlin sites, two adjoining sites totaling 10.25 acres located in
      Moscow across the Moscow River from the Kremlin. BrookeMil is planning the
      development of a hotel, office, retail and residential complex on the
      Kremlin sites. BrookeMil owned 96.8% of one site and 100% of the other
      site at March 31, 2000. Apollo will be entitled to a preference on
      distributions of cash from Western Realty Repin to the extent of its
      investment of $25,875 together with a 20% annual rate of return, and New
      Valley will then be entitled to a return of its investment of $10,525,
      together with a 20% annual rate of return. Subsequent distributions will
      be made 50% to New Valley and 50% to Apollo. Western Realty Repin is
      managed by a board of managers consisting of an equal number of
      representatives chosen by Apollo and New Valley. Material corporate
      transactions by Western Realty Repin will generally require the unanimous
      consent of the board of managers.

      Through March 31, 2000, Western Realty Repin has advanced $36,400 to
      BrookeMil, of which $25,875 was funded by Apollo under the loan and is
      classified in other long-term liabilities on the consolidated balance
      sheet at March 31, 2000 and December 31, 1999. The loan bears no fixed
      interest and is payable only out of distributions by the entities owning
      the Kremlin sites to BrookeMil. Such distributions will be applied first
      to pay the principal of the loan and then as contingent participating
      interest on the loan. Any rights of payment on the loan are subordinate to
      the rights of all other creditors of BrookeMil. BrookeMil used a portion
      of the proceeds of the loan to repay New Valley for certain expenditures
      on the Kremlin sites previously incurred. The loan is due and payable upon
      the dissolution of BrookeMil and is collateralized by a pledge of New
      Valley's shares of BrookeMil.

      As of March 31, 2000, BrookeMil had invested $32,678 in the Kremlin sites
      and held $1,664 in cash and receivables from an affiliate, which were
      restricted for future investment in the Kremlin sites. In connection with
      the acquisition of a 34.8% interest in one of the Kremlin sites, BrookeMil
      agreed with the City of Moscow to invest an additional $22,000 by May 2000
      in the development of the property. In April 2000, Western Realty Repin
      arranged short-term


                                      -17-
<PAGE>   19
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)



         financing to fund the investment. Under the terms of the investment,
         BrookeMil is required to make additional construction expenditures of
         $22,000 on the site by June 2002. Failure to make the expenditures
         could result in forfeiture of the 34.8% interest in the site. Based on
         the distribution terms contained in the Western Realty Repin LLC
         agreement, the 20% annual rate of return preference to be received by
         Apollo on funds advanced to Western Realty is treated as interest cost
         in the consolidated statement of operations to the extent of the
         Company's net investment in the Kremlin sites. New Valley's investment
         in the Kremlin sites, net of the participating loan of $33,686, was
         $656 at March 31, 2000.

         The development of Ducat Place III and the Kremlin sites will require
         significant amounts of debt and other financing. New Valley is
         considering potential financing alternatives on behalf of Western
         Realty Development and BrookeMil. However, in light of the recent
         economic turmoil in Russia, there is a risk that financing will not be
         available on acceptable terms. Failure to obtain sufficient capital for
         the projects would force Western Realty Development and BrookeMil to
         curtail or delay the planned development of Ducat Place III and the
         Kremlin sites.


6.       INVESTMENT SECURITIES AVAILABLE FOR SALE

         Investment securities classified as available for sale are carried at
         fair value, with net unrealized gains included as a component of
         stockholders' equity, net of minority interest. The Company had
         realized gains on sales of investment securities available for sale of
         $4,753 for the three months ended March 31, 2000.

         The components of investment securities available for sale at March 31,
         2000 are as follows:

<TABLE>
<CAPTION>
                                                         GROSS         GROSS
                                                       UNREALIZED    UNREALIZED        FAIR
                                             COST         GAIN          LOSS           VALUE
                                             -------   ----------    ----------       -------
<S>                                          <C>          <C>           <C>           <C>
Marketable equity securities.........        $41,246      $14,230       $10,837       $44,639
Notes receivable.....................            437                                      437
Marketable warrants..................                       3,613                       3,613
                                             -------      -------       -------       -------
Investment securities................        $41,683      $17,843       $10,837       $48,689
                                             =======      =======       =======       =======
</TABLE>



7.       INVENTORIES

         Inventories consist of:

<TABLE>
<CAPTION>
                                                            MARCH 31,    DECEMBER 31,
                                                               2000         1999
                                                          ------------   ------------
                <S>                                       <C>            <C>
                Leaf tobacco .....................        $     13,812   $     13,599
                Other raw materials ..............               8,483          6,423
                Work-in-process ..................               3,197          3,542
                Finished goods ...................              33,524         20,662
                Replacement parts and supplies ...               5,531          4,795
                                                          ------------   ------------
                Inventories at current cost ......              64,547         49,021
                LIFO adjustments .................              (4,985)        (3,816)
                                                          ------------   ------------
                                                          $     59,562   $     45,205
                                                          ============   ============
</TABLE>


                                      -18-
<PAGE>   20
                               BROOKE GROUP LTD.
                                    BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (Dollars in Thousands, Except Per Share Amounts)
                                   (Unaudited)


         At March 31, 2000, Liggett and Liggett-Ducat had leaf tobacco purchase
         commitments of approximately $2,162 and $43,907, respectively.


8.       PROPERTY, PLANT AND EQUIPMENT

         Property, plant and equipment consist of:

<TABLE>
<CAPTION>
                                                             MARCH 31,    DECEMBER 31,
                                                               2000           1999
                                                          ------------   ------------
<S>                                                       <C>            <C>
Land and improvements ............................        $        442   $        415
Buildings ........................................              52,913         51,773
Machinery and equipment ..........................             132,626        129,693
Construction-in-progress .........................              18,810         14,605
                                                          ------------   ------------
                                                               204,791        196,486
Less accumulated depreciation ....................             (45,361)       (42,226)
                                                          ------------   ------------
                                                          $    159,430   $    154,260
                                                          ============   ============
</TABLE>


9.       LONG-TERM INVESTMENTS

         At March 31, 2000, long-term investments consisted primarily of
         investments in limited partnerships of $7,757. The Company believes the
         fair value of the limited partnerships exceeds their carrying amount by
         approximately $5,335 based on the indicated market values of the
         underlying investment portfolio provided by the partnerships. The
         Company's estimates of the fair value of its long-term investments are
         subject to judgment and are not necessarily indicative of the amounts
         that could be realized in the current market. The Company's investments
         in limited partnerships are illiquid, and the ultimate realization of
         these investments is subject to the performance of the underlying
         partnership and its management by the general partners.

         Also included in long-term investments are various Internet-related
         businesses which are carried at $4,549 at March 31, 2000. These
         investments include a 33.3% interest in AtomicPop LLC, an online music
         company, and smaller interests in other Internet companies. The Company
         accounts for its investment in AtomicPop LLC and its investment in one
         other internet company under the equity method.


                                      -19-
<PAGE>   21


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)


10.   NOTES PAYABLE, LONG-TERM DEBT AND OTHER OBLIGATIONS

      Notes payable, long-term debt and other obligations consist of:

<TABLE>
<CAPTION>
                                                                            March 31,   December 31,
                                                                              2000          1999
                                                                          ------------  ------------

<S>                                                                       <C>           <C>
BGLS:
15.75% Series B Senior Secured Notes due 2001,
      net of unamortized discount of $3,865 and $5,468 ...............    $     78,705  $     82,602
Deferred interest on 15.75% Series B Senior Secured
      Notes due 2001 .................................................          22,708        25,435

New Valley:
Notes payable ........................................................          19,743        19,813

Liggett:
Revolving credit facility ............................................          23,166
Term loan under credit facility ......................................           4,860         5,040
Notes payable ........................................................           5,116         4,232

Brooke (Overseas):
Foreign credit facilities ............................................          36,489        29,470
Notes payable ........................................................          19,891        23,090

Other ................................................................             549           214
                                                                          ------------  ------------

Total notes payable, long-term debt and other obligations ............         211,227       189,896
Less:
      Current maturities .............................................        (156,414)      (41,547)
                                                                          ------------  ------------
Amount due after one year ............................................    $     54,813  $    148,349
                                                                          ============  ============
</TABLE>

      15.75% Series B Senior Secured Notes Due 2001 - BGLS:

      During 1999, BGLS repurchased $144,794 principal amount of its Notes,
      together with accrued interest thereon. The purchases were funded
      primarily with proceeds from the Philip Morris brand transaction which
      closed on May 24, 1999. In January 2000, BGLS repurchased an additional
      $5,500 principal amount of the Notes, together with accrued interest
      thereon. At March 31, 2000, the principal amount of Notes outstanding was
      $82,570, and $50,100 principal amount of the Notes were held by the
      holders who have agreed to defer payment of interest as discussed below.

      On March 2, 1998, the Company entered into an agreement with AIF II, L.P.
      and an affiliated investment manager on behalf of a managed account
      (together the "Apollo Holders"), who held approximately 41.8% of the
      $232,864 principal amount of the Notes then outstanding. The Apollo
      Holders (and any transferees) agreed to defer the payment of interest on
      the Notes held by them, commencing with the interest payment that was due
      July 31, 1997, which they had previously agreed to defer, through the
      interest payment due July 31, 2000. The deferred interest payments are
      payable at final maturity of the Notes on January 31, 2001 or upon an
      event of default under the Indenture for the Notes. In connection with
      the agreement, the


                                     -20-
<PAGE>   22


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      Company pledged 50.1% of Western Tobacco Investments to collateralize the
      Notes held by the Apollo Holders (and any transferees). Interest on all
      of the Notes for the six-month period ended January 31, 2000 was paid in
      cash.

      In connection with the March 2, 1998 agreement with the Apollo Holders,
      the Company issued to the Apollo Holders a five-year warrant to purchase
      2,100,000 shares of the Company's common stock at a price of $4.76 per
      share. The Apollo Holders were also issued a second warrant expiring
      October 31, 2004 to purchase an additional 2,257,500 shares of the
      Company's common stock at a price of $0.095 per share. The second warrant
      became exercisable on October 31, 1999. Based on the fair value of the
      equity instruments given to the holders of the debt, imputed interest of
      approximately $23,000 is being accreted over the term of the modified
      debt based on its recorded fair value.

      The Notes outstanding are collateralized by substantially all of BGLS'
      assets, including a pledge of BGLS' equity interests in Liggett, Brooke
      (Overseas) and New Valley. The Notes Indenture contains certain covenants
      which, among other things, limit the ability of BGLS to make
      distributions to the Company to $12,000 per year (which amount increased
      from $6,000 per year in May 1999 when more than 50% of the original
      principal amount of the Notes were retired) plus any unpaid distribution
      amounts from prior years. The Notes also limit additional indebtedness of
      BGLS to $10,000, limit guaranties of subsidiary indebtedness by BGLS to
      $50,000, and restrict certain transactions with affiliates that exceed
      $2,000 in any year subject to certain exceptions which include payments
      to the Company not to exceed $6,500 per year for permitted operating
      expenses, payment of the Chairman's salary and bonus and certain other
      expenses, fees and payments. In addition, the Indenture contains certain
      restrictions on the ability of the Chairman and certain of his affiliates
      to enter into certain transactions with, and receive payments above
      specified levels from, New Valley. The Notes may be redeemed, in whole or
      in part, at a price of 100% of the principal amount plus accrued
      interest. Interest is payable at the rate of 15.75% per annum on January
      31 and July 31 of each year.

      Revolving Credit Facility - Liggett:

      Liggett has a $35,000 credit facility, under which $23,166 was
      outstanding at March 31, 2000. Availability under the credit facility was
      approximately $6,974 based on eligible collateral at March 31, 2000. The
      facility is collateralized by all inventories and receivables of Liggett.
      Borrowings under the facility, whose interest is calculated at a rate
      equal to 1.0% above Philadelphia National Bank's (the indirect parent of
      Congress Financial Corporation, the lead lender) prime rate, bore a rate
      of 9.75% at March 31, 2000. The facility requires Liggett's compliance
      with certain financial and other covenants including a restriction on the
      payment of cash dividends unless Liggett's borrowing availability under
      the facility for the 30-day period prior to the payment of the dividend,
      and after giving effect to the dividend, is at least $5,000. In addition,
      the facility, as amended, imposes requirements with respect to Liggett's
      adjusted net worth (not to fall below $8,000 as computed in accordance
      with the agreement) and working capital (not to fall below a deficit of
      $17,000 as computed in accordance with the agreement). At March 31, 2000,
      Liggett was in compliance with all covenants under the credit facility;
      Liggett's adjusted net worth was $17,977 and net working capital was
      $36,795, as


                                     -21-
<PAGE>   23


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      computed in accordance with the agreement. The facility expires on March
      8, 2003 subject to automatic renewal for an additional year unless a
      notice of termination is given by the lender at least 60 days prior to
      the anniversary date.

      In November 1999, 100 Maple Lane LLC, a new company formed by Liggett to
      purchase an industrial facility in Mebane, North Carolina, borrowed
      $5,040 from the lender under Liggett's credit facility. The loan is
      payable in 59 monthly installments of $60 including annual interest at 1%
      above the prime rate with a final payment of $1,500. Liggett has
      guaranteed the loan, and a first mortgage on the Mebane property
      collateralizes the Maple Lane loan and Liggett's credit facility. Liggett
      plans to relocate its manufacturing operations to this facility in late
      2000.

      Equipment Loans - Liggett:

      In January 1999, Liggett purchased equipment for $5,750 and borrowed
      $4,500 to fund the purchase. The loan, which is collateralized by the
      equipment and guaranteed by BGLS and the Company, is payable in 60
      monthly installments of $56 including annual interest of 7.67% with a
      final payment of $2,550. In March 2000, Liggett purchased equipment for
      $1,000 under a capital lease which is payable in 60 monthly installments
      of $21 with an effective annual interest rate of 10.14%.

      Notes Payable - New Valley:

      During the third quarter 1999, New Valley refinanced its notes payable on
      its two remaining shopping centers in Florida and West Virginia for
      $19,743, in the aggregate. Interest rates range from 7.5% to 9.03% per
      annum. The four notes are due between 2002 and 2024. Two, for $8,389 at
      March 31, 2000, are subject to call in 2001 under certain conditions.

      Foreign Credit Facilities - Liggett-Ducat:

      At March 31, 2000, Liggett-Ducat had various credit facilities with
      Russian banks under which $36,489 was outstanding. The facilities are
      denominated in dollars, bear interest at rates of 13% to 20% per annum
      and expire within the next twelve months. The facilities are
      collateralized by the new factory building, factory equipment and tobacco
      inventory.

      Notes Payable - Brooke (Overseas):

      Western Tobacco Investments has entered into several contracts for the
      purchase of cigarette manufacturing equipment. The equipment is being
      utilized at the new factory, built by Liggett-Ducat, on the outskirts of
      Moscow which began production in June 1999. Approximately 85% of the
      amount of the contracts were financed with promissory notes generally
      payable over a period of five years. The outstanding balance on these
      notes, which are denominated in various European currencies, is $15,891
      at March 31, 2000. Other short-term notes for purchases of equipment are
      approximately $4,000. The terms of these notes ranged from four to twelve
      months and carried interest rates of up to 16%. A promissory note issued
      by Brooke (Overseas) for approximately $1,290 covering deposits for
      equipment purchased for the new factory was paid in full on March 31,
      2000.


                                     -22-
<PAGE>   24


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

11.   1999 LONG-TERM INCENTIVE PLAN

      On November 4, 1999, the Company adopted its 1999 Long-Term Incentive
      Plan (the "1999 Plan") subject to approval by the stockholders of the
      Company at the 2000 annual meeting. The 1999 Plan authorizes the granting
      of up to 5,000,000 shares of common stock through awards of stock options
      (which may include incentive stock options and/or nonqualified stock
      options), stock appreciation rights and shares of restricted Company
      common stock. All officers, employees and consultants of the Company and
      its subsidiaries are eligible to receive awards under the 1999 Plan.

      On November 4, 1999, the Company granted non-qualified stock options to
      six executive officers of the Company or its subsidiaries pursuant to the
      1999 Plan. The grant of the options to the option holders is conditioned
      upon the approval of the 1999 Plan by the Company's stockholders. Under
      the options, the option holders have the right to purchase an aggregate
      of 2,100,000 shares of common stock at an exercise price of $15 7/16 per
      share (the fair market value of a share of common stock on the date of
      grant), subject to increase under certain circumstances. Common stock
      dividend equivalents will be paid currently with respect to each share
      underlying the unexercised portion of the options. The options have a
      ten-year term and become exercisable on the fourth anniversary of the
      date of grant. However, the options will earlier vest and become
      immediately exercisable upon (i) the occurrence of a "Change in Control"
      or (ii) the termination of the option holder's employment with the
      Company due to death or disability.

12.   CONTINGENCIES

      SMOKING-RELATED LITIGATION:

      Overview. Since 1954, Liggett and other United States cigarette
      manufacturers have been named as defendants in numerous direct and
      third-party actions predicated on the theory that cigarette manufacturers
      should be liable for damages alleged to have been caused by cigarette
      smoking or by exposure to secondary smoke from cigarettes. These cases
      are reported here as though having been commenced against Liggett
      (without regard to whether such cases were actually commenced against
      Brooke Group Holding, the Company's predecessor and a wholly-owned
      subsidiary of BGLS, or Liggett). There has been a noteworthy increase in
      the number of cases commenced against Liggett and the other cigarette
      manufacturers in recent years. The cases generally fall into the
      following categories: (i) smoking and health cases alleging injury
      brought on behalf of individual plaintiffs ("Individual Actions"); (ii)
      smoking and health cases alleging injury and purporting to be brought on
      behalf of a class of individual plaintiffs ("Class Actions"); (iii)
      health care cost recovery actions brought by various governmental
      entities ("Governmental Actions"); and (iv) health care cost recovery
      actions brought by third-party payors including insurance companies,
      union health and welfare trust funds, asbestos manufacturers and others
      ("Third-Party Payor Actions"). As new cases are commenced, defense costs
      and the risks attendant to the inherent unpredictability of litigation
      continue to increase. The future financial impact of the risks and
      expenses of litigation and the effects of the tobacco litigation
      settlements discussed below is not


                                     -23-
<PAGE>   25


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      quantifiable at this time. For the three months ended March 31, 2000,
      Liggett incurred counsel fees and costs totaling approximately $1,969
      compared to $1,568 for the comparable prior year period.

      Individual Actions. As of March 31, 2000, there were approximately 310
      cases pending against Liggett, and in most cases the other tobacco
      companies, where individual plaintiffs allege injury resulting from
      cigarette smoking, addiction to cigarette smoking or exposure to secondary
      smoke and seek compensatory and, in some cases, punitive damages. Of
      these, 85 were pending in Florida, 94 in New York, 39 in Massachusetts, 17
      in Texas and 24 in California. The balance of the individual cases were
      pending in 29 states. There are five individual cases pending where
      Liggett is the only named defendant.

      The plaintiffs' allegations of liability in those cases in which
      individuals seek recovery for injuries allegedly caused by cigarette
      smoking are based on various theories of recovery, including negligence,
      gross negligence, breach of special duty, strict liability, fraud,
      misrepresentation, design defect, failure to warn, breach of express and
      implied warranties, conspiracy, aiding and abetting, concert of action,
      unjust enrichment, common law public nuisance, property damage, invasion
      of privacy, mental anguish, emotional distress, disability, shock,
      indemnity and violations of deceptive trade practice laws, the Federal
      Racketeer Influenced and Corrupt Organization Act ("RICO"), state RICO
      statutes and antitrust statutes. In many of these cases, in addition to
      compensatory damages, plaintiffs also seek other forms of relief
      including, treble/multiple damages, disgorgement of profits and punitive
      damages. Defenses raised by defendants in these cases include lack of
      proximate cause, assumption of the risk, comparative fault and/or
      contributory negligence, lack of design defect, statute of limitations,
      equitable defenses such as "unclean hands" and lack of benefit, failure
      to state a claim and federal preemption.

      In February 1999, a California jury awarded $51,500 in damages to a woman
      who claimed lung cancer from smoking Marlboro cigarettes made by Philip
      Morris. The award includes $1,500 in compensatory damages and $50,000 in
      punitive damages. The court subsequently reduced the punitive damages
      award to $25,000. In March 1999, an Oregon jury awarded $80,311 in
      damages to the family of a deceased smoker who smoked Marlboro cigarettes
      made by Philip Morris. The award includes $79,500 in punitive damages.
      The court subsequently reduced the punitive damages award to $32,000.
      Philip Morris has appealed both the verdict and damage awards in both
      cases.

      In March 2000, a California jury awarded $1,700 in compensatory damages
      and $20,000 in punitive damages to a former smoker and her husband. The
      jury found Philip Morris and R.J. Reynolds Tobacco misrepresented the
      health dangers of cigarettes and that they acted with malice. The
      defendants have stated that they intend to appeal both the verdict and
      damage awards.

      Class Actions. As of March 31, 2000, there were approximately 60 actions
      pending, for which either a class has been certified or plaintiffs are
      seeking class certification, where Liggett, among others, was a named
      defendant. Many of these actions purport to constitute statewide class
      actions and were filed after May 1996 when the Fifth Circuit Court of
      Appeals, in the


                                     -24-
<PAGE>   26


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      Castano case (discussed below), reversed a Federal district court's
      certification of a purported nationwide class action on behalf of persons
      who were allegedly "addicted" to tobacco products.

      In March 1994, an action entitled Castano, et al. v. The American Tobacco
      Company Inc., et al., United States District Court, Eastern District of
      Louisiana, was filed against Liggett and others. The class action
      complaint sought relief for a nationwide class of smokers based on their
      alleged addiction to nicotine. In February 1995, the District Court
      granted plaintiffs' motion for class certification.

      In May 1996, the Court of Appeals for the Fifth Circuit reversed the
      class certification order and instructed the District Court to dismiss
      the class complaint. The Fifth Circuit ruled that the District Court
      erred in its analysis of the class certification issues by failing to
      consider how variations in state law affect predominance of common
      questions and the superiority of the class action mechanism. The appeals
      panel also held that the District Court's predominance inquiry did not
      include consideration of how a trial on the merits in Castano would be
      conducted. The Fifth Circuit further ruled that the "addiction-as-injury"
      tort is immature and, accordingly, the District Court could not know
      whether common issues would be a "significant" portion of the individual
      trials. According to the Fifth Circuit's decision, any savings in
      judicial resources that class certification may bring about were
      speculative and would likely be overwhelmed by the procedural problems
      certification brings. Finally, the Fifth Circuit held that in order to
      make the class action manageable, the District Court would be forced to
      bifurcate issues in violation of the Seventh Amendment.

      The extent of the impact of the Castano decision on smoking-related class
      action litigation is still uncertain. The Castano decision has had a
      limited effect with respect to courts' decisions regarding narrower
      smoking-related classes or class actions brought in state rather than
      federal court. For example, since the Fifth Circuit's ruling, courts in
      Louisiana (Liggett is not a defendant in this proceeding) and Maryland
      have certified "addiction-as-injury" class actions that covered only
      citizens in those states. Two other class actions, Broin and Engle, were
      certified in state court in Florida prior to the Fifth Circuit's
      decision.

      In May 1994, an action entitled Engle, et al. v. R.J. Reynolds Tobacco
      Company, et al., Circuit Court, Eleventh Judicial Circuit, Dade County,
      Florida, was filed against Liggett and others. The class consists of all
      Florida residents and citizens, and their survivors, who have suffered,
      presently suffer or have died from diseases and medical conditions caused
      by their addiction to cigarettes that contain nicotine. Phase I of the
      trial commenced in July 1998 and in July 1999, the jury returned the
      Phase I verdict. The Phase I verdict concerned certain issues determined
      by the trial court to be "common" to the causes of action of the
      plaintiff class. Among other things, the jury found that: smoking
      cigarettes causes 20 diseases or medical conditions, cigarettes are
      addictive or dependence producing, defective and unreasonably dangerous,
      defendants made materially false statements with the intention of
      misleading smokers, defendants concealed or omitted material information
      concerning the health effects and/or the addictive nature of smoking
      cigarettes and agreed to misrepresent and conceal the health effects
      and/or the addictive nature of smoking cigarettes, and defendants were
      negligent and engaged in extreme and outrageous conduct or acted with
      reckless disregard with the intent to inflict emotional distress. The
      jury also found that defendants' conduct "rose


                                     -25-
<PAGE>   27


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      to a level that would permit a potential award or entitlement to punitive
      damages." The court decided that Phase II of the trial, which commenced
      November 1999, would be a causation and damages trial for three of the
      class representatives and a punitive damages trial on a class-wide basis,
      before the same jury that returned the verdict in Phase I. On April 7,
      2000, the jury awarded compensatory damages of $12,704 to the three
      plaintiffs, to be reduced in proportion to the respective plaintiff's
      fault. The jury also decided that the claim of one of the plaintiffs, who
      was awarded compensatory damages of $5,831, was not timely filed. The
      punitive damages portion of Phase II is scheduled to begin May 15, 2000
      and is expected to last several weeks. Phase III of the trial will be
      conducted before separate juries to address absent class members' claims,
      including issues of specific causation and other individual issues
      regarding entitlement to compensatory damages. The defendants' motion to
      order the trial court to assess punitive damages on an individual basis
      was denied and the petition for review was also denied, without prejudice
      to raise the same issue on subsequent appeals.

      It is unclear how the trial court's order will be implemented. The order
      provides that the punitive damage amount, if any, should be standard as
      to each class member and acknowledges that the actual size of any class
      will not be known until the last case has withstood appeal. The order
      does not address whether defendants would be required to pay the punitive
      damage award, if any, prior to a determination of claims of all class
      members, a process that could take years to conclude. Recently,
      legislation has been enacted in Florida that limits the size of any bond
      required, pending appeal, to stay execution of a punitive damages verdict
      to the lesser of the punitive award, $100 million plus twice the statutory
      rate of interest, or 10% of the net worth of the defendant, but the
      limitation on the bond does not affect the amount of the underlying
      verdict. Although the legislation is intended to apply to the ENGLE case,
      management cannot predict the outcome of any possible challenges to its
      application. Similar legislation has been enacted in Georgia, Kentucky,
      North Carolina and Virginia.

      Class certification motions are pending in a number of putative class
      actions. Classes remain certified against Liggett in Florida (Engle) and
      Maryland (Richardson). A number of class certification denials are on
      appeal.

      Approximately 30 purported state class action complaints have been filed
      on behalf of various consumers of cigarette products against the tobacco
      manufacturers. The complaints allege that cigarette manufacturers engaged
      in illegal and unethical activities since the 1940's, many conspiratorial
      in nature, designed to increase profits at the financial and physical
      expense of customers. These alleged activities include knowingly
      increasing the addictiveness of cigarettes through crop manipulation;
      downplaying the detrimental health effects of cigarette smoking;
      conspiring to refrain from researching and introducing "safer"
      cigarettes; creating false and misleading scientific research design to
      combat the growing scientific consensus about the lethal health effects
      associated with cigarettes; aggressively marketing products to children
      and minors in an effort to addict them to cigarettes at a young age; and
      systematically covering up activities to avoid regulation of products by
      governmental agencies. The purported class actions are brought pursuant
      to various state laws.

      In February 2000, Liggett and plaintiffs sent correspondence to the
      court, in Simon v. Philip Morris' et al., a putative nationwide smokers
      class action, indicating that Liggett and the plaintiffs are engaged in
      preliminary settlement discussions. There are no assurances that any
      settlement will be reached or that the class will ultimately be
      certified.


                                     -26-
<PAGE>   28


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      Governmental Actions. As of March 31, 2000, there were approximately 20
      Governmental Actions pending against Liggett. In these proceedings, both
      foreign and domestic governmental entities seek reimbursement for
      Medicaid and other health care expenditures. The claims asserted in these
      health care cost recovery actions vary. In most of these cases,
      plaintiffs assert the equitable claim that the tobacco industry was
      "unjustly enriched" by plaintiffs' payment of health care costs allegedly
      attributable to smoking and seek reimbursement of those costs. Other
      claims made by some but not all plaintiffs include the equitable claim of
      indemnity, common law claims of negligence, strict liability, breach of
      express and implied warranty, breach of special duty, fraud, negligent
      misrepresentation, conspiracy, public nuisance, claims under state and
      federal statutes governing consumer fraud, antitrust, deceptive trade
      practices and false advertising, and claims under RICO.

      Third-Party Payor Actions. As of March 31, 2000, there were approximately
      70 Third-Party Payor Actions pending against Liggett. The claims in these
      cases are similar to those in the Governmental Actions but have been
      commenced by insurance companies, union health and welfare trust funds,
      asbestos manufacturers and others. Five United States Circuit Courts of
      Appeal have ruled that Third-Party Payors did not have standing to bring
      lawsuits against the tobacco companies. The United States Supreme Court
      recently denied petitions for certiorari filed by several of the union
      health and welfare trust funds. However, a number of Third-Party Payor
      Actions, including an action brought by 24 Blue Cross/Blue Shield Plans,
      remain pending.

      In other Third-Party Payor Actions claimants have set forth several
      additional theories of relief sought: funding of corrective public
      education campaigns relating to issues of smoking and health; funding for
      clinical smoking cessation programs; disgorgement of profits from sales
      of cigarettes; restitution; treble damages; and attorneys' fees.
      Nevertheless, no specific amounts are provided. It is understood that
      requested damages against the tobacco company defendants in these cases
      might be in the billions of dollars.

      Federal Government Action. In September 1999, the United States
      government commenced litigation against Liggett and the other tobacco
      companies in the United States District Court for the District of
      Columbia. The action seeks to recover an unspecified amount of healthcare
      costs paid for and furnished, and to be paid for and furnished, by the
      Federal Government for lung cancer, heart disease, emphysema and other
      smoking-related illnesses allegedly caused by the fraudulent and tortious
      conduct of defendants, and to restrain defendants and co-conspirators
      from engaging in fraud and other unlawful conduct in the future, and to
      compel defendants to disgorge the proceeds of their unlawful conduct. The
      complaint alleges that such costs total more than $20,000,000 annually.
      The action asserts claims under three federal statutes, the Medical Care
      Recovery Act, the Medicare Secondary Payer provisions of the Social
      Security Act and RICO. In December 1999, Liggett filed a motion to
      dismiss the lawsuit on numerous grounds, including that the statutes
      invoked by the government do not provide the basis for the relief sought.
      Oral argument on the motion is currently scheduled for June 2000.

      Settlements. In March 1996, Brooke Group Holding and Liggett entered into
      an agreement, subject to court approval, to settle the Castano class
      action tobacco litigation. The Castano class was subsequently decertified
      by the court.


                                     -27-
<PAGE>   29


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      In March 1996, March 1997 and March 1998, Brooke Group Holding and
      Liggett entered into settlements of smoking-related litigation with the
      Attorneys General of 45 states and territories. The settlements released
      both Brooke Group Holding and Liggett from all smoking-related claims,
      including claims for health care cost reimbursement and claims concerning
      sales of cigarettes to minors.

      In November 1998, Philip Morris, Brown & Williamson Tobacco Corporation,
      R.J. Reynolds Tobacco Company and Lorillard Tobacco Company
      (collectively, the "Original Participating Manufacturers" or "OPMs") and
      Liggett (together with the OPMs and any other tobacco product
      manufacturer that becomes a signatory, the "Participating Manufacturers")
      entered into the Master Settlement Agreement (the "MSA") with 46 states,
      the District of Columbia, Puerto Rico, Guam, the United States Virgin
      Islands, American Samoa and the Northern Marianas (collectively, the
      "Settling States") to settle the asserted and unasserted health care cost
      recovery and certain other claims of those Settling States.

      The MSA has been initially approved by trial courts in all Settling
      States. The MSA is subject to final judicial approval in each of the
      Settling States, which approval has been obtained, as of March 31, 2000,
      in 47 jurisdictions. If final judicial approval is not obtained in a
      jurisdiction by December 31, 2001, then, unless the settling defendants
      and the relevant jurisdiction agree otherwise, the MSA will be terminated
      with respect to such jurisdiction.

      The MSA restricts tobacco product advertising and marketing within the
      Settling States and otherwise restricts the activities of Participating
      Manufacturers. Among other things, the MSA prohibits the targeting of
      youth in the advertising, promotion or marketing of tobacco products;
      bans the use of cartoon characters in all tobacco advertising and
      promotion; limits each Participating Manufacturer to one tobacco brand
      name sponsorship during any 12-month period; bans all outdoor
      advertising, with the exception of signs 14 square feet or less in
      dimension at retail establishments that sell tobacco products; prohibits
      payments for tobacco product placement in various media; bans gift offers
      based on the purchase of tobacco products without sufficient proof that
      the intended recipient is an adult; prohibits Participating Manufacturers
      from licensing third parties to advertise tobacco brand names in any
      manner prohibited under the MSA; prohibits Participating Manufacturers
      from using as a tobacco product brand name any nationally recognized
      non-tobacco brand or trade name or the names of sports teams,
      entertainment groups or individual celebrities; and prohibits
      Participating Manufacturers from selling packs containing fewer than
      twenty cigarettes.

      The MSA also requires Participating Manufacturers to affirm corporate
      principles to comply with the MSA and to reduce underage usage of tobacco
      products and imposes requirements applicable to lobbying activities
      conducted on behalf of Participating Manufacturers.

      Liggett has no payment obligations under the MSA unless its market share
      exceeds a base share of 125% of its 1997 market share, or approximately
      1.65% of total cigarettes sold in the United States. Liggett believes,
      based on published industry sources, that its domestic shipments
      accounted for 1.2% of the total cigarettes shipped in the United States
      during 1999. In the year following any year in which Liggett's market
      share does exceed the base share, Liggett will pay on each excess unit an
      amount equal (on a per-unit basis) to that paid during


                                     -28-
<PAGE>   30


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      such following year by the OPMs under the annual and strategic
      contribution payment provisions of the MSA, subject to applicable
      adjustments, offsets and reductions. Under the annual and strategic
      contribution payment provisions of the MSA, the OPMs (and Liggett to the
      extent its market share exceeds the base share) will pay the following
      annual amounts (subject to certain adjustments):

<TABLE>
<CAPTION>
                    Year                     Amount
                    ----                     ------

             <S>                           <C>
             2000                          $4,500,000
             2001                          $5,000,000
             2002 - 2003                   $6,500,000
             2004 - 2007                   $8,000,000
             2008 - 2017                   $8,139,000
             2018 and each                 $9,000,000
               year thereafter
</TABLE>

      These annual payments will be allocated based on relative unit volume of
      domestic cigarette shipments. The payment obligations under the MSA are
      the several, and not joint, obligations of each Participating
      Manufacturer and are not the responsibility of any parent or affiliate of
      a Participating Manufacturer.

      The MSA replaces Liggett's prior settlements with all states and
      territories except for Florida, Mississippi, Texas and Minnesota. In the
      event the MSA does not receive final judicial approval in any state or
      territory, Liggett's prior settlement with that state or territory, if
      any, will be revived.

      The states of Florida, Mississippi, Texas and Minnesota, prior to the
      effective date of the MSA, negotiated and executed settlement agreements
      with each of the other major tobacco companies separate from those
      settlements reached previously with Liggett. Because these states'
      settlement agreements with Liggett provided for "most favored nation"
      protection for both Brooke Group Holding and Liggett, the payments due
      these states by Liggett (with certain possible exceptions) have been
      eliminated. With respect to all non-economic obligations under the
      previous settlements, both Brooke Group Holding and Liggett are entitled
      to the most favorable provisions as between the MSA and each state's
      respective settlement with the other major tobacco companies. Therefore,
      Liggett's non-economic obligations to all states and territories are now
      defined by the MSA.

      In April 1999, a putative class action was filed on behalf of all firms
      that directly buy cigarettes in the United States from defendant tobacco
      manufacturers. The complaint alleges violation of antitrust law, based in
      part on the MSA. Plaintiffs seek treble damages computed as three times
      the difference between current prices and the price plaintiffs would have
      paid for cigarettes in the absence of an alleged conspiracy to restrain
      and monopolize trade in the domestic cigarette market, together with
      attorneys' fees. Plaintiffs also seek injunctive relief against certain
      aspects of the MSA.

      In March 1997, Liggett, Brooke Group Holding and a nationwide class of
      individuals that allege smoking-related claims filed a mandatory class
      settlement agreement in an action entitled Fletcher, et al. v. Brooke
      Group Ltd., et al., Circuit Court of Mobile County, Alabama, where the


                                     -29-
<PAGE>   31


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      court granted preliminary approval and preliminary certification of the
      class. In July 1998, Liggett, Brooke Group Holding and plaintiffs filed
      an amended class action settlement agreement in Fletcher which agreement
      was preliminarily approved by the court in December 1998. In July 1999,
      the court denied approval of the Fletcher class action settlement. The
      parties' motion for reconsideration is still pending.

      The Company accrued $16,902 for the present value of the fixed payments
      under the March 1998 Attorneys General settlements. As a result of the
      Company's treatment under the MSA, $14,928 of net charges accrued for the
      prior settlements were reversed in 1998 and $1,051 were reversed in 1999.

      Copies of the various settlement agreements are filed as exhibits to the
      Company's Form 10-K and the discussion herein is qualified in its
      entirety by reference thereto.

      Trials. In addition to the ENGLE case, cases currently scheduled for trial
      in 2000 include Third-Party Payor Actions brought by several Blue
      Cross/Blue Shield plans in federal court in New York (September), asbestos
      companies in Mississippi (September) and New York (July) and certain
      unions in New York (November). Also, one Individual Action, ANDERSON, is
      currently being tried in State court in New York and two other Individual
      Actions are scheduled to be tried later this year. Trial dates, however,
      are subject to change.

      Management is not able to predict the outcome of the litigation pending
      against Brooke Group Holding or Liggett. Litigation is subject to many
      uncertainties. An unfavorable verdict has been returned in the first phase
      of the ENGLE smoking and health class action trial pending in Florida and
      the jury will now consider the award of lump sum punitive damages, if any,
      for the entire class. It is possible that additional cases could be
      decided unfavorably and that there could be further adverse developments
      in the ENGLE case. Management cannot predict the cash requirements related
      to any future settlements and judgments, including cash required to bond
      any appeals, if necessary, and there is a risk that those requirements
      will not be able to be met. An unfavorable outcome of a pending smoking
      and health case could encourage the commencement of additional similar
      litigation. Management is unable to make a meaningful estimate with
      respect to the amount of loss that could result from an unfavorable
      outcome of many of the cases pending against Brooke Group Holding or
      Liggett, because the complaints filed in these cases rarely detail alleged
      damages. Typically, the claims set forth in an individual's complaint
      against the tobacco industry pray for money damages in an amount to be
      determined by a jury, plus punitive damages and costs. These damage claims
      are typically stated as being for the minimum necessary to invoke the
      jurisdiction of the court.

      It is possible that the Company's consolidated financial position,
      results of operations or cash flows could be materially adversely
      affected by an unfavorable outcome in any such smoking-related
      litigation.

      Liggett's management is unaware of any material environmental conditions
      affecting its existing facilities. Liggett's management believes that
      current operations are conducted in material compliance with all
      environmental laws and regulations and other laws and regulations
      governing cigarette manufacturers. Compliance with federal, state and
      local provisions regulating the discharge of materials into the
      environment, or otherwise relating to the protection of the environment,
      has not had a material effect on the capital expenditures, earnings or
      competitive position of Liggett.


                                     -30-
<PAGE>   32


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      There are several other proceedings, lawsuits and claims pending against
      the Company and certain of its consolidated subsidiaries unrelated to
      smoking or tobacco product liability. Management is of the opinion that
      the liabilities, if any, ultimately resulting from such other
      proceedings, lawsuits and claims should not materially affect the
      Company's financial position, results of operations or cash flows.


      LEGISLATION AND REGULATION:

      In 1993, the Environmental Protection Agency ("EPA") released a report on
      the respiratory effect of secondary smoke which concludes that secondary
      smoke is a known human lung carcinogen in adults and in children, causes
      increased respiratory tract disease and middle ear disorders and
      increases the severity and frequency of asthma. In June 1993, the two
      largest of the major domestic cigarette manufacturers, together with
      other segments of the tobacco and distribution industries, commenced a
      lawsuit against the EPA seeking a determination that the EPA did not have
      the statutory authority to regulate secondary smoke, and that given the
      current body of scientific evidence and the EPA's failure to follow its
      own guidelines in making the determination, the EPA's classification of
      secondary smoke was arbitrary and capricious. Whatever the outcome of
      this litigation, issuance of the report may encourage efforts to limit
      smoking in public areas. In July 1998, a federal district court vacated
      those sections of the report relating to lung cancer, finding that the
      EPA may have reached different conclusions had it complied with relevant
      statutory requirements. The federal government has appealed the court's
      ruling.

      In February 1996, the United States Trade representative issued an
      "advance notice of rule making" concerning how tobaccos imported under a
      previously established tobacco rate quota ("TRQ") should be allocated.
      Currently, tobacco imported under the TRQ is allocated on a "first-come,
      first-served" basis, meaning that entry is allowed on an open basis to
      those first requesting entry in the quota year. Others in the cigarette
      industry have suggested an "end-user licensing" system under which the
      right to import tobacco under the quota would be initially assigned based
      on domestic market share. Such an approach, if adopted, could have a
      material adverse effect on the Company and Liggett.

      In August 1996, the Food and Drug Administration (the "FDA") filed in the
      Federal Register a Final Rule classifying tobacco as a "drug" or "medical
      device", asserting jurisdiction over the manufacture and marketing of
      tobacco products and imposing restrictions on the sale, advertising and
      promotion of tobacco products. Litigation was commenced challenging the
      legal authority of the FDA to assert such jurisdiction, as well as
      challenging the constitutionality of the rules. On March 21, 2000, the
      United States Supreme Court ruled that the FDA does not have the power to
      regulate tobacco. Liggett supported the FDA Rule and began to phase in
      compliance with certain of the proposed FDA regulations.

      In August 1996, Massachusetts enacted legislation requiring tobacco
      companies to publish information regarding the ingredients in cigarettes
      and other tobacco products sold in that state. In December 1997, the
      United States District Court for the District of Massachusetts enjoined
      this legislation from going into effect on the grounds that it is
      preempted by federal law. In November 1999, the First Circuit affirmed
      this ruling. Notwithstanding the foregoing, in


                                     -31-
<PAGE>   33


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      December 1997, Liggett began complying with this legislation by providing
      ingredient information to the Massachusetts Department of Public Health.
      Several other states have enacted, or are considering, legislation
      similar to that enacted in Massachusetts.

      As part of the 1997 budget agreement approved by Congress, federal excise
      taxes on a pack of cigarettes, which are currently 34 cents, were
      increased at the beginning of 2000 and will rise 5 cents more in the year
      2002. In general, excise taxes and other taxes on cigarettes have been
      increasing. These taxes vary considerably and, when combined with sales
      taxes and the current federal excise tax, may be as high as $1.66 per
      pack in a given locality in the United States. Congress has been
      considering significant increases in the federal excise tax or other
      payments from tobacco manufacturers, and the Clinton Administration's
      fiscal year 2001 budget proposal includes an additional increase of $.25
      per pack in the federal excise tax, as well as a contingent special
      assessment related to youth smoking rates. Increases in other
      cigarette-related taxes have been proposed at the state and local level.

      In addition to the foregoing, there have been a number of other
      restrictive regulatory actions, adverse legislative and political
      decisions and other unfavorable developments concerning cigarette smoking
      and the tobacco industry, the effects of which, at this time, management
      is not able to evaluate. These developments may negatively affect the
      perception of potential triers of fact with respect to the tobacco
      industry, possibly to the detriment of certain pending litigation, and
      may prompt the commencement of additional similar litigation.

      OTHER MATTERS:

      In March 1997, a stockholder derivative suit was filed in Delaware
      Chancery Court against New Valley, as a nominal defendant, its directors
      and Brooke Group Holding by a stockholder of New Valley. The suit alleges
      that New Valley's purchase of the BrookeMil shares from Brooke (Overseas)
      in January 1997 constituted a self-dealing transaction which involved the
      payment of excessive consideration by New Valley. The plaintiff seeks (i)
      a declaration that New Valley's directors breached their fiduciary
      duties, Brooke Group Holding aided and abetted such breaches and such
      parties are therefore liable to New Valley, and (ii) unspecified damages
      to be awarded to New Valley. In December 1999, another stockholder of New
      Valley commenced an action in Delaware Chancery Court substantially
      similar to the March 1997 action. This stockholder alleges, among other
      things, that the consideration paid by New Valley for the BrookeMil
      shares was excessive, unfair and wasteful, that the special committee of
      New Valley's board lacked independence, and that the appraisal by the
      independent appraisal firm and the fairness opinion by the independent
      investment bank were flawed. Brooke Group Holding and New Valley believe
      that the allegations in both cases are without merit. By order of the
      court, both actions were consolidated. Brooke Group Holding and New
      Valley recently filed a motion to dismiss the consolidated action.
      Although there can be no assurances, Brooke Group Holding and New Valley
      believe, after consultation with counsel, that the ultimate resolution of
      this matter will not have a material adverse effect on the Company's or
      New Valley's consolidated financial position, results of operations or
      cash flows.

      In July 1999, a purported class action was commenced on behalf of New
      Valley's former Class B preferred shareholders against New Valley, Brooke
      Group Holding and certain directors and


                                     -32-
<PAGE>   34


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

      officers of New Valley in Delaware Chancery Court. The complaint alleges
      that the recapitalization, approved by a majority of each class of New
      Valley's stockholders in May 1999, was fundamentally unfair to the Class
      B preferred shareholders, the proxy statement relating to the
      recapitalization was materially deficient and the defendants breached
      their fiduciary duties to the Class B preferred shareholders in approving
      the transaction. The plaintiffs seek class certification of the action
      and an award of unspecified compensatory damages as well as all costs and
      fees. Brooke Group Holding and New Valley believe that the allegations
      are without merit. Brooke Group Holding and New Valley recently filed a
      motion to dismiss the action. Although there can be no assurances, Brooke
      Group Holding and New Valley believe, after consultation with counsel,
      that the ultimate resolution of this matter will not have a material
      adverse effect on the Company's or New Valley's consolidated financial
      position, results of operations or cash flows.

      On October 18, 1999, an action was commenced against a subsidiary of
      Brooke Group Holding in the Supreme Court of the State of New York,
      County of New York. The complaint alleges that under the terms of a 1993
      Put Agreement, Brooke Group Holding's subsidiary was obligated to
      purchase certain shares of plaintiff's stock for $7,500. In addition, the
      complaint seeks prejudgment interest in the amount of approximately
      $3,000. Brooke Group Holding believes, and has been so advised by
      counsel, that it has a number of valid defenses to this matter.

      As of March 31, 2000, New Valley had $12,263 of prepetition claims and
      restructuring accruals. The remaining prepetition claims may be subject
      to future adjustments depending on pending discussions with the various
      parties and the decisions of the bankruptcy court.

      New Valley is a defendant in various lawsuits and may be subject to
      unasserted claims primarily concerning its activities as a securities
      broker-dealer and its participation in public underwritings. These
      lawsuits involve claims for substantial or indeterminate amounts and are
      in varying stages of legal proceedings. In the opinion of management,
      after consultation with counsel, the ultimate resolution of these matters
      will not have a material adverse effect on the Company's or New Valley's
      consolidated financial position, results of operations or cash flows.


                                     -33-
<PAGE>   35


                               BROOKE GROUP LTD.
                                   BGLS INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
         (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) - (CONTINUED)
                                  (UNAUDITED)

13.   SEGMENT INFORMATION

      Financial information for the Company's continuing operations before
      taxes and minority interest for the three months ended March 31, 2000 and
      1999 follows:

<TABLE>
<CAPTION>
                                                       United
                                                       States      Russia      Broker-    Real        Corporate
                                                       Tobacco     Tobacco     Dealer     Estate      and Other      Total
                                                      ---------   ---------   ---------  ---------    ---------    ---------
<S>                                                   <C>         <C>         <C>        <C>          <C>          <C>
2000
Revenues .........................................    $ 106,902   $  40,246   $  30,296  $     771    $            $ 178,215
Operating income .................................        9,089         498       4,883     (1,983)      (2,387)      10,100
Identifiable assets ..............................      125,900     157,827      50,039     57,826      142,410      534,002
Depreciation and amortization ....................          998       2,022         220        149            9        3,398
Capital expenditures .............................        4,514       2,775          66        674                     8,029

1999
Revenues .........................................    $  86,047   $  22,350                           $            $ 108,397
Operating income .................................       20,069       1,290                                 774       22,133
Identifiable assets ..............................       77,000     121,812                              49,533      248,345
Depreciation and amortization ....................          855         798                                   3        1,656
Capital expenditures .............................        6,369      13,248                                           19,617
</TABLE>


                                     -34-
<PAGE>   36


ITEM 2.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
           RESULTS OF OPERATIONS

                (Dollars in Thousands, Except Per Share Amounts)


INTRODUCTION

         The following discussion provides an assessment of the consolidated
results of operations, capital resources and liquidity of Brooke Group Ltd.
(the "Company") and its subsidiaries and should be read in conjunction with the
Consolidated Financial Statements and notes thereto of the Company and BGLS
Inc. ("BGLS") included elsewhere in this document. BGLS is a wholly owned
subsidiary of the Company. The consolidated financial statements include the
accounts of BGLS, Liggett Group Inc. ("Liggett"), Brooke (Overseas) Ltd.
("BOL"), Liggett-Ducat Ltd. ("Liggett-Ducat") and other less significant
subsidiaries. As of June 1, 1999, New Valley Corporation ("New Valley") became
a consolidated subsidiary of the Company as a result of New Valley's
recapitalization in which the Company's interest in New Valley's common shares
increased to 55.1%. New Valley's stock repurchase program, which began in late
1999, increased the Company's interest to 55.5% at March 31, 2000.

         The Company is a holding company for a number of businesses which it
holds through its wholly-owned subsidiary BGLS. Accordingly, a separate
Management's Discussion and Analysis of Financial Condition and Results of
Operations for BGLS is not presented herein as it would not differ materially
from the discussion of the Company's consolidated results of operations,
capital resources and liquidity. The Company is principally engaged in the
manufacture and sale of cigarettes in the United States through its subsidiary
Liggett; in the manufacture and sale of cigarettes in Russia through its
subsidiary Liggett-Ducat; and in the investment banking and brokerage business
in the United States, real estate operations in Russia and investment in
Internet-related businesses through its majority-owned subsidiary New Valley.

         At the Company's annual meeting to be held on May 24, 2000,
stockholders will be asked to approve a corporate name-change to Vector Group
Ltd. If the name-change proposal is approved, the New York Stock Exchange
symbol for the Company's common stock will change from "BGL" to "VGR".


RECENT DEVELOPMENTS IN LEGISLATION, REGULATION AND LITIGATION

         The cigarette industry continues to be challenged on numerous fronts.
New cases continue to be commenced against Liggett and other cigarette
manufacturers. As of March 31, 2000, there were approximately 310 individual
suits, 60 purported class actions and 90 governmental and other third-party
payor health care reimbursement actions pending in the United States in which
Liggett was a named defendant. Additionally, approximately 30 purported class
action complaints have been filed on behalf of consumers alleging illegal and
unethical business activities  by the tobacco manufacturers. As new cases are
commenced, the costs associated with defending such cases and the risks
attendant to the inherent unpredictability of litigation continue to increase.
An unfavorable verdict has been returned in the first phase of the Engle smoking
and health class action trial pending in Florida and the jury will now consider
the award of lump sum punitive damages, if any, for the entire class. It is
possible that additional cases could be decided unfavorably and that there could
be further adverse developments in the Engle case. Management cannot predict the
cash requirements related to any future settlements and judgments, including
cash required to bond any appeals, if necessary, and there is a risk that those
requirements will not be able to be met. In recent years, there have been a
number of restrictive regulatory actions from various Federal administrative
bodies, including the United States Environmental Protection Agency and the Food
and Drug Administration. There have also been adverse political decisions and
other unfavorable developments concerning cigarette smoking and the tobacco
industry, including the commencement and certification of class actions and the
commencement of third-party payor actions. These developments generally receive
widespread media attention. The Company is not able to evaluate the effect of
these developing


                                     -35-
<PAGE>   37


matters on pending litigation or the possible commencement of additional
litigation, but the Company's consolidated financial position, results of
operations or cash flows could be materially adversely affected by an
unfavorable outcome in any of such tobacco-related litigation. See Part II,
Item 1, "Legal Proceedings" and Note 12 to the Company's Consolidated Financial
Statements for a description of legislation, regulation and litigation.

         In March 1996, March 1997 and March 1998, the Company and Liggett
entered into settlements of tobacco-related litigation with the Attorneys
General of 45 states and territories. The settlements released the Company and
Liggett from all tobacco claims including claims for health care cost
reimbursement and claims concerning sales of cigarettes to minors. See the
discussions of the tobacco litigation settlements appearing in Note 12 to the
Company's Consolidated Financial Statements.


RESULTS OF OPERATIONS

<TABLE>
<CAPTION>
                                           Three Months Ended
                                         -----------------------
                                               March 31,
                                           2000           1999
                                         --------       --------

<S>                                     <C>            <C>
Revenues:
   Liggett......................        $ 106,902      $  86,047
   Liggett-Ducat................           40,246         22,350
                                         --------       --------
      Total tobacco.............          147,148        108,397

*Broker-dealer..................           30,296
*Real estate....................              771
                                        ---------      ---------
      Total revenues............          178,215        108,397

Operating income:
   Liggett......................            9,089         20,069
   Liggett-Ducat................              498          1,290
                                        ---------      ---------
      Total tobacco.............            9,587         21,359

*Broker-dealer..................            4,883
*Real estate....................           (1,983)
  Corporate and other...........           (2,387)           774
                                        ---------      ---------
      Total operating income....        $  10,100      $  22,133
                                         ========       ========
</TABLE>

        *New Valley became a consolidated subsidiary on June 1, 1999.
        Accordingly, results of operations for New Valley are not included for
        the three months ended March 31, 1999.

Three Months Ended March 31, 2000 Compared to Three Months Ended March 31, 1999

         Revenues. Total revenues were $178,215 for the three months ended
March 31, 2000 compared to $108,397 for the three months ended March 31, 1999.
This 64.4% increase in revenues was due to a $20,855 or 24.2% increase in
revenues at Liggett, an increase of $17,896 or 80.1% in revenues at
Liggett-Ducat and the addition of three months' revenues from New Valley of
$31,067.

         Tobacco Revenues. In August 1999, the major cigarette manufacturers,
including Liggett, announced a list price increase of $1.50 per carton. In
January 2000, an additional list price increase of $1.30 per carton was
announced.


                                     -36-
<PAGE>   38


         Total tobacco revenues were $147,148 for the three months ended March
31, 2000 compared to $108,397 for the three months ended March 31, 1999. This
35.7% increase in revenues was due to an increase in tobacco revenues at
Liggett and at Liggett-Ducat discussed above. Revenues at Liggett increased by
24.2% ($20,855) for both the premium and discount segments due to price
increases of $17,848 and a 13.9% increase in unit sales volume (approximately
149.2 million units), accounting for $11,973 in volume variance, partially
offset by an unfavorable sales mix of $8,966.

         Premium sales at Liggett for the first quarter of 2000 amounted to
$15,692 and represented 14.7% of Liggett's total sales, compared to $25,366 and
29.5% of total sales in the first quarter of 1999. In the premium segment,
revenues declined by 38.1% ($9,674) for the three months ended March 31, 2000,
compared to the prior year first quarter, due to the contribution of three of
Liggett's premium brands, Lark, Chesterfield and L & M, in the Philip Morris
brand transaction which closed on May 24, 1999. The contribution of the brands
accounted for an unfavorable volume variance in the first quarter of 2000 of
$11,704, reflecting a 46.1% decline in unit sales volume (approximately 124.3
million units). This was partially offset by price increases of $2,030. As
adjusted for the contribution of the three brands in the Philip Morris brand
transaction, Liggett's premium segment increased from the prior year period by
7.6% (approximately 10.2 million units). This compares to an overall industry
increase in the premium segment of 4.6%, or approximately 3.3 billion units, in
the first quarter of 2000 from the prior year period.

         Discount sales at Liggett (comprising the brand categories of branded
discount, private label, control label, generic, international and contract
manufacturing) for the three months ended March 31, 2000 amounted to $91,210
and represented 85.3% of Liggett's total sales, compared to $60,681 and 70.5%
of total sales for the three months ended March 31, 1999. In the discount
segment, revenues grew by 50.3% ($30,529) for the three months ended March 31,
2000 compared to the prior year period, due to price increases of $15,818,
along with a 34.1% increase in unit sales volume (approximately 273.5 million
units), accounting for $20,670 in volume variance, partially offset by an
unfavorable product mix among the discount brand categories of $5,959.

         For the three months ended March 31, 2000, fixed manufacturing costs
at Liggett on a basis comparable to 1999 were $368 lower than in the same
period in 1998, with a decrease in costs per thousand units of $2.29 per
thousand declining 20.8% ($0.60) from $2.89 in the prior period, due to the
14.1% increase in production volume.

         Net tobacco revenues at Liggett-Ducat for the three months ended March
31, 2000 increased 80.1% over the same period in 1999 due to a 102.3% increase
in unit sales volume ($22,860) (approximately 5,125 million units) and a
favorable product mix of $2,873 offset by a 43.8% decrease in prices ($7,838).

         Tobacco Gross Profit. Tobacco consolidated gross profit was $78,423
for the three months ended March 31, 2000 compared to $66,820 for the three
months ended March 31, 1999, an increase of $11,603 or 17.1% when compared to
the same period last year, reflecting an increase in gross profit at Liggett of
$10,377 and at Liggett-Ducat of $1,226 for the three months ended March 31,
2000 compared to the same period in the prior year. For the three months ended
March 31, 2000, Liggett's premium brands contributed 14.5% and discount brands
contributed 78.9% to the Company's gross tobacco profit. Liggett-Ducat
contributed 6.6%. Over the same period in 1999, Liggett's premium brands
contributed 28.6%, Liggett's discount brands contributed 65.3% and
Liggett-Ducat contributed 6.1% to the Company's gross profit.

         Gross profit at Liggett of $73,259 for the three months ended March
31, 2000 increased $10,377 from gross profit of $62,882 for the first quarter
of 1999, due primarily to the price increases discussed above. As a percent of
revenues (excluding federal excise taxes), gross profit at Liggett decreased to
84.3% for the three months ended March 31, 2000 compared to


                                     -37-
<PAGE>   39


85.6% for the same period in 1999, with gross profit for the premium segment at
85.8% in the 2000 period compared to 86.6% in the 1999 period. Gross profit for
the discount segment was 84.1% for the three months ended March 31, 2000 and
85.1% for the three months ended March 31, 1999. These decreases are primarily
the result of increased indirect costs in distribution over the prior year.

         As a percent of revenues (excluding Russian excise taxes), gross
profit at Liggett-Ducat decreased 6.0% to 14.5% for the three months ended
March 31, 2000 compared to 20.5% in the same period in 1999, primarily due to
lower prices offset in part by higher sales volumes.

         Broker-Dealer and Real Estate Revenues. For the three months ended
March 31, 2000, Ladenburg's revenues were $30,296 and real estate revenues were
$771.

         Expenses. Operating, selling, general and administrative expenses were
$99,503 for the three months ended March 31, 2000 compared to $44,722 for the
same period last year, an increase of $54,781 primarily due to increased
expenses at Liggett of $21,435, increased expenses at Liggett-Ducat of $2,108
and an increase of $30,602 caused by consolidation of New Valley, which was not
a consolidated subsidiary during the three months ended March 31, 1999. The
increase in operating expenses at Liggett was due primarily to higher spending
for promotional and marketing programs, factory relocation costs and increased
administrative expenses partially offset by a reduction in the Company's
obligation under non-current employee benefits. At Liggett-Ducat, depreciation
expense increased over the prior year period due to the opening of the new
factory in June 1999 and marketing and advertising expense increased due
primarily to the introduction of western style cigarettes.

         Other Income (Expenses). For the three months ended March 31, 2000,
other expense was $6,050 compared to expense of $12,862 for the period ended
March 31, 1999.

         Interest expense was $11,756 for the three months ended March 31, 2000
compared to $14,988 for the same period last year. This decrease of $3,232 was
primarily due to a savings of $6,939 at corporate because of the purchase by
BGLS of $150,294 principal amount of its 15.75% Series B Senior Secured Notes
(the "Notes") beginning in May 1999. This was offset by the addition of $2,167
in interest expense of New Valley and higher interest expense at Western Tobacco
Investment LLC ("Western Tobacco Investments") primarily due to non-cash
interest expense under the participating loan agreement.

         New Valley contributed gains on sale of investment securities of
$4,753 and interest and dividend income of $1,494 offset by a loss in equity of
its affiliate of $1,551.

         For the three months ended March 31, 1999, equity in earnings of
affiliate was a loss of $7,629 and related to New Valley's net loss applicable
to common shares of $23,801 for the period. This loss in the 1999 period was
offset by recognition of deferred gain of $7,050 relating to the expiration of
the put obligation on Ducat Place III (the site of the old cigarette factory in
Russia) in connection with the sale of the BrookeMil Ltd. common shares in
1997. The factory ceased operations in March 1999.

         Income from Continuing Operations. The income from continuing
operations for the three months ended March 31, 2000 was $1,488 compared to
income of $7,554 for the three months ended March 31, 1999. Income tax expense
for the first quarter of 2000 was $823 compared to $1,729 for the for the first
quarter of 1999. The effective tax rates for the three months ended March 31,
2000 and March 31, 1999 do not bear a customary relationship to pre-tax
accounting income principally as a consequence of foreign taxes and the change
in the valuation allowance on deferred tax assets.


                                     -38-
<PAGE>   40


CAPITAL RESOURCES AND LIQUIDITY

         Net cash and cash equivalents increased $2,687 for the three months
ended March 31, 2000 and decreased $1,877 for the three months ended March 31,
1999. Net cash used in operations for the three months ended March 31, 2000 was
$22,086 compared to net cash provided by operations of $2,571 for the comparable
period of 1999. Cash used in the 2000 period for operating activities resulted
principally from lower net income at Liggett, an increase in inventories of
$14,357, an increase in receivables from clearing brokers of $10,217 and a
decrease in net deferred taxes of $4,126 offset by an increase in accounts
payable and accrued expenses of $10,320. Cash provided in the 1999 period was
due to higher net income at Liggett and a reduction in debt service due to the
December 1998 bond redemption at Liggett.

         Cash provided by investing activities of $3,622 compares to cash used
of $19,581 for the periods ended March 31, 2000 and 1999, respectively. For the
three months ended March 31, 2000, proceeds are primarily attributable to net
sales of marketable securities and long-term investments in 2000 of $8,842 and
the decrease in restricted assets of $3,202 offset primarily by capital
expenditures of $8,029. Cash used in investment activities for the three months
ended March 31, 1999 was due to capital expenditures of $6,369 at Liggett for
machinery and equipment and $13,248 at Liggett-Ducat for factory construction
and equipment costs.

         Cash provided by financing activities was $21,483 for the three months
ended March 31, 2000 as compared with cash provided of $15,452 for the three
months ended March 31, 1999. Cash was provided in the 2000 period through net
borrowings under credit facilities of $30,552 and an increase in margin loans
payable. These amounts were offset by net repayments on debt of $6,895 and
distributions on common stock of $5,498. During the three months ended March
31, 1999, cash was provided by net borrowings under credit facilities of
$12,667 and net proceeds on a promissory note of $4,177. These were offset
principally by distributions on common stock of $1,358.

         Liggett. Liggett has a $35,000 credit facility under which $23,166 was
outstanding at March 31, 2000. Availability under the facility was
approximately $6,974 based on eligible collateral at March 31, 2000. The
facility is collateralized by all inventories and receivables of Liggett.
Borrowings under the facility, whose interest is calculated at a rate equal to
1.0% above Philadelphia National Bank's (the indirect parent of Congress
Financial Corporation, the lead lender) prime rate, bore a rate of 9.75% at
March 31, 2000. The facility requires Liggett's compliance with certain
financial and other covenants including a restriction on the payment of cash
dividends unless Liggett's borrowing availability under the facility for the
30-day period prior to the payment of the dividend, and after giving effect to
the dividend, is at least $5,000. In addition, the facility, as amended,
imposes requirements with respect to Liggett's adjusted net worth (not to fall
below $8,000 as computed in accordance with the agreement) and working capital
(not to fall below a deficit of $17,000 as computed in accordance with the
agreement). At March 31, 2000, Liggett was in compliance with all covenants
under the credit facility; Liggett's adjusted net worth was $17,977 and net
working capital was $36,795, as computed in accordance with the agreement. The
facility expires on March 8, 2003 subject to automatic renewal for an
additional year unless a notice of termination is given by the lender at least
60 days prior to the anniversary date.

         In November 1999, 100 Maple Lane LLC, a new company formed by Liggett
to purchase an industrial facility in Mebane, North Carolina, borrowed $5,040
from the lender under Liggett's credit facility. The loan is payable in 59
monthly installments of $60 including annual interest at 1% above the prime
rate with a final payment of $1,500. Liggett has guaranteed the loan, and a
first mortgage on the Mebane property collateralizes the Maple Lane loan and
Liggett's credit facility. Liggett plans to relocate its manufacturing
operations to this facility in late 2000.


                                     -39-
<PAGE>   41


         In January 1999, Liggett purchased equipment for $5,750 and borrowed
$4,500 to fund the purchase. The loan, which is collateralized by the
equipment, is payable in 60 monthly installments of $56 including annual
interest of 7.67% with a final payment of $2,550. In March 2000, Liggett
purchased equipment for $1,000 under a capital lease which is payable in 60
monthly installments of $21 with an effective annual interest rate of 10.14%.

         Liggett (and, in certain cases, Brooke Group Holding, the Company's
predecessor and a wholly-owned subsidiary of BGLS) and other United States
cigarette manufacturers have been named as defendants in a number of direct and
third-party actions (and purported class actions) predicated on the theory that
they should be liable for damages from cancer and other adverse health effects
alleged to have been caused by cigarette smoking or by exposure to so-called
secondary smoke from cigarettes. The Company believes, and has been so advised
by counsel handling the respective cases, that Brooke Group Holding and Liggett
have a number of valid defenses to claims asserted against them. Litigation is
subject to many uncertainties. An unfavorable verdict has been returned in the
first phase of the Engle smoking and health class action trial pending in
Florida and the jury will now consider the award of lump sum punitive damages,
if any, for the entire class. It is possible that additional cases could be
decided unfavorably and that there could be further adverse developments in the
Engle case. An unfavorable outcome of a pending smoking and health case could
encourage the commencement of additional similar litigation. Management cannot
predict the cash requirements related to any future settlements and judgments,
including cash required to bond any appeals, if necessary, and there is a risk
that those requirements will not be able to be met. In recent years, there have
been a number of adverse regulatory, political and other developments concerning
cigarette smoking and the tobacco industry. These developments generally receive
widespread media attention. Neither the Company nor Liggett is able to evaluate
the effect of these developing matters on pending litigation or the possible
commencement of additional litigation or regulation. See Note 12 to the
Company's Consolidated Financial Statements.

         Management is unable to make a meaningful estimate of the amount or
range of loss that could result from an unfavorable outcome of the cases
pending against Brooke Group Holding or Liggett or the costs of defending such
cases. It is possible that the Company's consolidated financial position,
results of operations or cash flows could be materially adversely affected by
an unfavorable outcome in any such tobacco-related litigation.

         Brooke (Overseas). Liggett-Ducat completed construction of a new
cigarette factory on the outskirts of Moscow which became operational in June
1999. The new factory, which utilizes Western cigarette making technology and
has a capacity in excess of 40 billion units per year, produces American and
international blend cigarettes, as well as traditional Russian cigarettes.
Western Realty Development has made a $30,000 participating loan to Western
Tobacco Investments, which holds Brooke (Overseas)'s interest in Liggett-Ducat
and the new factory. In addition, Western Tobacco Investments has entered into
note agreements for equipment purchases which have a liability of approximately
$19,891 at March 31, 2000. The remaining costs for construction and equipment
for the new factory and working capital requirements have been financed by loans
and credit facilities from Russian banks of $36,489.

         BGLS. On January 20, 2000, BGLS repurchased an additional $5,500
principal amount of the Notes, together with accrued interest, for a purchase
price of $8,456. Through March 31, 2000, BGLS has repurchased $150,294
principal amount of the Notes, together with accrued interest thereon. The
purchases have been made using primarily the proceeds of the Philip Morris
brand transaction which closed on May 24, 1999.

         At March 31, 2000, BGLS had outstanding $82,570 principal amount of
the Notes which mature on January 31, 2001. Of this amount, $50,100 of the
Notes carry deferred interest. On March 2, 1998, BGLS entered into a standstill
agreement with the holders of $97,239 principal amount of its notes, who were
affiliated with Apollo, under which the Apollo holders (and any transferees)
agreed to the deferral of interest payments, commencing with the interest
payment


                                     -40-
<PAGE>   42


due July 31, 1997 through the interest payment due July 31, 2000. BGLS had total
deferred interest of $22,708 as of March 31, 2000. Interest on all of the Notes
for the six month period ended January 31, 2000 was paid in cash.

         Consolidated. Brooke has substantial near-term consolidated debt
service requirements, with aggregate required principal payments of
approximately $156,500 due within the next twelve months. Brooke believes that
it will continue to meet its liquidity requirements through 2000, although the
BGLS Notes Indenture limits the amount of restricted payments BGLS is permitted
to make to the Company during the calendar year. At March 31, 2000, the
remaining amount available through December 31, 2000 in the restricted payment
basket related to BGLS' payment of dividends to the Company (as defined by the
BGLS Notes Indenture) is $18,357. Brooke expenditures (exclusive of Liggett,
Liggett-Ducat and New Valley) over the next twelve months for current
operations include cash interest expense of approximately $14,089, dividends on
Brooke's shares (currently at an annual rate of approximately $21,990) and
corporate expenses. Brooke anticipates funding its expenditures for current
operations with public and/or private debt and equity financing, management
fees from subsidiaries and tax sharing and other payments from Liggett or New
Valley. New Valley may acquire or seek to acquire additional operating
businesses through merger, purchase of assets, stock acquisition or other
means, or to make other investments, which may limit its ability to make such
distributions.


MARKET RISK

         Brooke is exposed to market risks principally from fluctuations in
interest rates, foreign currency exchange rates and equity prices. The Company
seeks to minimize these risks through its regular operating and financing
activities and its long-term investment strategy.

         Foreign Market Risk

         Europe. Brooke has foreign currency exchange risk relating to its
outstanding obligations under foreign currency denominated construction and
equipment contracts with various European companies where costs are affected by
fluctuations in the United States dollar as compared to certain European
currencies. Management believes that currencies in which it presently has such
exposure are relatively stable.

         Russia. Liggett-Ducat's, Western Tobacco Investment's, BrookeMil's and
Western Realty Development's operations are conducted in Russia. The Russian
Federation continues to experience economic difficulties following the
financial crisis of August 1998. Consequently, the country's currency continues
to devalue, there is continued volatility in the debt and equity markets,
hyperinflation persists, confidence in the banking sector has yet to be
restored and there continues to be a general lack of liquidity in the economy.
In addition, laws and regulations affecting businesses operating within the
Russian Federation continue to evolve.

         The Russian Federation's return to economic stability is dependent to
a large extent on the effectiveness of the measures taken by the government,
decisions of international lending organizations, and other actions, including
regulatory and political developments, which are beyond Brooke's control.
Brooke's Russian operations may be significantly affected by these factors for
the foreseeable future.

         Domestic Market Risk

         New Valley's market risk management procedures cover all market risk
sensitive financial instruments.

         Current and proposed underwriting, corporate finance, merchant banking
and other commitments at Ladenburg are subject to due diligence reviews by
Ladenburg's senior


                                     -41-
<PAGE>   43


management, as well as professionals in the appropriate business and support
units involved. Credit risk related to various financing activities is reduced
by the industry practice of obtaining and maintaining collateral. Ladenburg
monitors its exposure to counterparty risk through the use of credit exposure
information, the monitoring of collateral values and the establishment of
credit limits.

         Equity Price Risk. Ladenburg maintained inventories of trading
securities at March 31, 2000 with fair values of $11,106 in long positions and
$3,368 in short positions. Ladenburg performed an entity-wide analysis of its
financial instruments and assessed the related risk and materiality. Based on
this analysis, in the opinion of management, the market risk associated with
the Ladenburg's financial instruments at March 31, 2000 will not have a
material adverse effect on the consolidated financial position or results of
operations of Brooke.

         New Valley held investment securities available for sale totaling
$48,689 at March 31, 2000. Approximately 24% of these securities represent an
investment in RJ Reynolds Tobacco Holdings, Inc. and Nabisco Group Holdings
Corp., which are defendants in numerous tobacco products-related litigation,
claims and proceedings. An adverse outcome in any of these proceedings could
have a significant effect on the value of New Valley's investment.

         New Valley also holds long-term investments in limited partnerships
and limited liability companies. These investments are illiquid, and their
ultimate realization is subject to the performance of the investee entities.

NEW ACCOUNTING PRONOUNCEMENTS

         In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS 133 requires that all derivative
instruments be recorded on the balance sheet at fair value. Changes in the fair
value of derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designated as part
of a hedge transaction and, if it is, the type of hedge transaction.
Originally, the statement had been effective for all quarters of fiscal years
beginning after June 15, 1999. In June 1999, the FASB issued SFAS No. 137,
"Accounting for Derivative Instruments and Hedging Activities", which postponed
the adoption of SFAS No. 133 until fiscal years beginning after June 15, 2000.
Brooke has not yet determined the impact that the adoption of SFAS 133 will
have on its earnings or statement of financial position.

YEAR 2000 COSTS

         The "Year 2000 issue" is the result of computer programs that were
written using two digits rather than four digits to define the applicable year.
If Brooke's or its subsidiaries' computer programs with date-sensitive
functions are not Year 2000 compliant, they may recognize a date using "00" as
the Year 1900 rather than the Year 2000. This could result in system failure or
miscalculations causing disruption to operations, including, among other
things, an inability to process transactions or engage in similar normal
business activities.

         Brooke, New Valley and Liggett-Ducat. Brooke, New Valley and
Liggett-Ducat use personal computers for all transactions. All such computers
and related systems and software are less than three years old and are Year
2000 compliant. As a result, Brooke, New Valley and Liggett-Ducat are Year 2000
compliant.

         Liggett. Liggett is Year 2000 compliant. The focus of Liggett's Year
2000 compliance and verification efforts were directed at the implementation of
new customer service, inventory control and financial reporting systems at each
of the three regional Strategic Business Units formed as part of Liggett's
reorganization which began in January 1997. Liggett estimates that
approximately $138 of the expenditures for this reengineering effort related to
Year 2000 compliance, validation and testing. In November 1998, Liggett
completed a major conversion of


                                     -42-
<PAGE>   44


factory accounting, materials management and information systems at its Durham
production facility with upgrades that were successfully tested for Year 2000
compliance. Program upgrades to Liggett's payroll system were completed in July
1999 with parallel upgrades to the human resources system software completed in
August 1999. Enhancements to Liggett's warehouse management finished goods
inventory tracking systems were completed in October 1999.

         Ladenburg. Ladenburg is Year 2000 compliant. Ladenburg's plan
addressed external interfaces with third party computer systems necessary in
the broker-dealer industry. It also addressed internal operations software
necessary to continue operations on a daily basis. Ladenburg's Year 2000 plan
cost approximately $650. The cost was inclusive of hardware and software
upgrades and replacements as well as consulting.

         External Service Providers. The modifications for Year 2000 compliance
by Brooke and its subsidiaries were completed in 1999. However, the failure of
Brooke's service providers, including Ladenburg's clearing agent, to resolve
their own processing issues in a timely manner could result in a material
financial risk. Published reports have stated that Year 2000 miscalculations
could occur throughout 2000. To date, neither Brooke nor its subsidiaries have
experienced any material disruption to their business operations.

         It is unclear whether the Russian government and other organizations
that provide significant infrastructure services in Russia have addressed the
Year 2000 problem sufficiently to mitigate potential substantial disruption to
these infrastructure services. The substantial disruption to these services
would have an adverse effect on Brooke's operations. Furthermore, the current
financial crises in Russia could affect the ability of the government and other
organizations to fund Year 2000 compliance programs. To date, Brooke is not
aware of any Year 2000 related issues reported in Russia.

         Although Brooke and its subsidiaries have confirmed that their service
providers adequately addressed Year 2000 issues, there can be no complete
assurance of success, or that interaction with other service providers will not
impair Brooke's or its subsidiaries' services.


SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

         The Company and its representatives may from time to time make oral or
written "forward-looking statements" within the meaning of the Private
Securities Reform Act of 1995, including any statements that may be contained
in the foregoing discussion in "Management's Discussion and Analysis of
Financial Condition and Results of Operations", in this report and in other
filings with the Securities and Exchange Commission and in its reports to
stockholders, which reflect management's current views with respect to future
events and financial performance. These forward-looking statements are subject
to certain risks and uncertainties and, in connection with the "safe-harbor"
provisions of the Private Securities Reform Act, the Company has identified
under "Risk Factors" in Item 1 of the Company's Form 10-K for the year ended
December 31, 1999 filed with the Securities and Exchange Commission important
factors that could cause actual results to differ materially from those
contained in any forward-looking statement made by or on behalf of the Company.

         Results actually achieved may differ materially from expected results
included in these forward-looking statements as a result of these or other
factors. Due to such uncertainties and risks, readers are cautioned not to place
undue reliance on such forward-looking statements, which speak only as of the
date on which such statements are made. The Company does not undertake to update
any forward-looking statement that may be made from time to time by or on behalf
of the Company.


                                     -43-
<PAGE>   45


ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         The information under the caption "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Market Risk" is
incorporated herein by reference.




                                     -44-
<PAGE>   46


                                    PART II

                               OTHER INFORMATION


Item 1.  Legal Proceedings

         Reference is made to Note 12, incorporated herein by reference, to the
         Consolidated Financial Statements of Brooke Group Ltd. and BGLS Inc.
         included elsewhere in this Report on Form 10-Q which contains a
         general description of certain legal proceedings to which Brooke Group
         Holdings, BGLS, New Valley or their subsidiaries are a party and
         certain related matters. Reference is also made to Exhibit 99.1 for
         additional information regarding the pending smoking-related material
         legal proceedings to which Brooke Group Holding, BGLS and/or Liggett
         are party. A copy of Exhibit 99.1 will be furnished to security holders
         of the Company and its subsidiaries without charge upon written request
         to the Company at its principal executive offices, 100 S.E. Second St.,
         Miami, Florida 33131, Attn. Investor Relations.

Item 2.  Changes in Securities and Use of Proceeds

         No securities of the Company which were not registered under the
         Securities Act of 1933, as amended, have been issued or sold by the
         Company during the three months ended March 31, 2000.

Item 6.  Exhibits and Reports on Form 8-K

         (a)     Exhibits

<TABLE>
               <S>     <C>
               27.1    Brooke Group Ltd.'s Financial Data Schedule (for SEC use
                       only).

               27.2    BGLS Inc.'s Financial Data Schedule (for SEC use only).

               99.1    Material Legal Proceedings.

               99.2    Liggett Group Inc.'s Interim Consolidated
                       Financial Statements for the quarterly periods
                       ended March 31, 2000 and 1999.

            *  99.3    New Valley Corporation's Interim Consolidated
                       Financial Statements for the quarterly periods
                       ended March 31, 2000 and 1999 (incorporated by
                       reference to New Valley's Quarterly Report on Form
                       10-Q for the quarterly period ended March 31,
                       2000, Commission File No. 1-2493).

               99.4    Brooke (Overseas) Ltd.'s Interim Consolidated
                       Financial Statements for the quarterly periods
                       ended March 31, 2000 and 1999.
</TABLE>

---------------

         *Incorporated by reference

         (b)           Reports on Form 8-K

                       None.



                                     -45-
<PAGE>   47


                                   SIGNATURES





    Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed
on its behalf by the undersigned thereunto duly authorized.





                                              BROOKE GROUP LTD.
                                              (REGISTRANT)

                                              By: /s/ Joselynn D. Van Siclen
                                                 ---------------------------
                                              Joselynn D. Van Siclen
                                              Vice President and Chief
                                                  Financial Officer

Date:  May 15, 2000






                                              BGLS INC.
                                              (REGISTRANT)

                                              By: /s/ Joselynn D. Van Siclen
                                                 ---------------------------
                                              Joselynn D. Van Siclen
                                              Vice President and Chief
                                                  Financial Officer

Date:  May 15, 2000


                                     -46-