<PAGE>   1
                                                                   EXHIBIT 99.2





                               LIGGETT GROUP INC.

                       CONSOLIDATED FINANCIAL STATEMENTS


                                 JUNE 30, 1999












<PAGE>   2
                               LIGGETT GROUP INC.

                                    Index to
                              Financial Statements

<TABLE>
<CAPTION>


                                                                                             Page
                                                                                             ----
<S>                                                                                          <C>
Consolidated Balance Sheets as of June 30, 1999 and December 31, 1998....................      2

Consolidated Statements of Operations for the three and six months
     ended June 30, 1999 and 1998 .......................................................      4

Consolidated Statement of Stockholder's Equity for the six months
     ended June 30, 1999  ...............................................................      5

Consolidated Statements of Cash Flows for the six months ended June 30, 1999
     and 1998 ...........................................................................      6

Notes to Consolidated Financial Statements ..............................................      7


</TABLE>

<PAGE>   3



                               LIGGETT GROUP INC.

                          CONSOLIDATED BALANCE SHEETS

                (Dollars in thousands, except per share amounts)

<TABLE>
<CAPTION>


                                                                         June 30,            December 31,
                                                                           1999                  1998
                                                                         --------            ------------
<S>                                                                       <C>                  <C>
                                     ASSETS
Current assets:
     Accounts receivable:
         Trade, less allowances of $1,120 and $1,686, respectively        $  9,767              $14,510
         Other.......................................................        1,563                  821

     Inventories.....................................................       29,014               25,974

     Deferred tax assets.............................................        9,340               10,178

     Other current assets............................................       30,811                  383
                                                                          --------               ------

             Total current assets....................................       80,495               51,866

Property, plant and equipment, at cost, less accumulated
    depreciation of $32,450 and $30,893, respectively................       20,720               16,195

Intangible assets, at cost, less accumulated amortization
    of $20,560 and $20,550, respectively.............................          161                  171

Other assets.........................................................        8,426                6,491
                                                                          --------              -------
              Total assets...........................................     $109,802              $74,723
                                                                          ========              =======

</TABLE>




                  The accompanying notes are an integral part
                         of these financial statements.


                                       2
<PAGE>   4


                               LIGGETT GROUP INC.

                    CONSOLIDATED BALANCE SHEETS (Continued)

                (Dollars in thousands, except per share amounts)

<TABLE>
<CAPTION>


                                                                         June 30,            December 31,
                                                                           1999                  1998
                                                                         --------            ------------
<S>                                                                       <C>                  <C>
                 LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIT)

Current liabilities:
     Current maturity of note payable.............................       $     341            $      --
     Cash overdraft...............................................           1,243                   63
     Accounts payable, principally trade..........................           3,357                3,206
     Accrued expenses:
        Promotional...............................................          18,750               23,760
        Income taxes..............................................          11,660                  115
        Other taxes, principally excise taxes.....................           2,651                3,397
        Estimated allowance for sales returns.....................           7,100                7,100
        Settlement accruals.......................................           1,867                1,120
        Proceeds received for options.............................              --              150,000
        Other.....................................................           4,046               10,709
                                                                          --------            ---------
            Total current liabilities.............................          51,015              199,470

Credit facility and note payable, less current maturities.........           7,011                2,538

Non-current employee benefits.....................................          10,966               10,902

Other long-term liabilities.......................................           5,515                6,999

Commitments and contingencies (Note 7)

Stockholder's equity (deficit):
     Redeemable preferred stock (par value $1.00 per share;
       authorized 1,000 shares; no shares issued and
       outstanding)
     Common stock (par value $0.10 per share; authorized
       2,000 shares; issued and outstanding 1,000 shares)
       and contributed capital....................................          58,358               57,380
     Accumulated deficit..........................................         (23,063)            (202,566)
                                                                           -------              -------
             Total stockholder's equity (deficit).................          35,295             (145,186)
                                                                          --------            ---------
             Total liabilities and stockholder's equity (deficit).        $109,802            $  74,723
                                                                          ========            =========
</TABLE>



                  The accompanying notes are an integral part
                         of these financial statements.




                                       3
<PAGE>   5


                               LIGGETT GROUP INC.

                     CONSOLIDATED STATEMENTS OF OPERATIONS

                             (Dollars in thousands)

<TABLE>
<CAPTION>

                                                               Three Months Ended              Six Months Ended
                                                                    June 30,                       June 30,
                                                            ------------------------      -------------------------
                                                               1999           1998           1999            1998
                                                            ---------        -------       --------       ---------
<S>                                                         <C>              <C>           <C>             <C>
Net sales*...............................................   $  93,926        $83,398       $179,973        $149,024

Cost of sales*...........................................      27,464         33,082         50,629          59,270
                                                             --------        -------       --------        --------
          Gross profit...................................      66,462         50,316        129,344          89,754

Selling, general and administrative expenses.............      48,739         40,022         90,949          72,728

Settlement charges.......................................         (11)         1,399            104           1,881

Non-cash compensation expense............................         488             --            976              --

Restructuring............................................       1,100             --          1,100              --
                                                             --------        -------       --------        --------
          Operating income...............................      16,146          8,895         36,215          15,145

Other income (expense):
     Interest expense....................................        (409)        (7,352)        (1,116)        (14,434)
     Sale of assets......................................         259            468            212             836
     Gain on brand transaction...........................     294,287             --        294,287              --
                                                             --------        -------       --------        --------
           Income before income taxes....................     310,283          2,011        329,598           1,547

Income tax provision.....................................     119,763             --        127,395              --
                                                             --------        -------       --------        --------
          Net income.....................................    $190,520        $ 2,011       $202,203        $  1,547
                                                             ========        =======       ========        ========
</TABLE>

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

*    Net sales and cost of sales include federal excise taxes of $13,607,
     $17,666, $26,160 and $32,476, respectively.




                  The accompanying notes are an integral part
                         of these financial statements.




                                       4
<PAGE>   6

                               LIGGETT GROUP INC.

                 CONSOLIDATED STATEMENT OF STOCKHOLDER'S EQUITY

                             (Dollars in thousands)

<TABLE>
<CAPTION>

                                                              Common
                                                             Stock and                          Total
                                                            Contributed                      Stockholder's
                                                              Capital         Deficit           Equity
                                                            -----------      ---------       -------------
<S>                                                           <C>            <C>               <C>
Balance at December 31, 1998                                  $57,380        $(202,566)        $(145,186)

   Net income........................................              --          202,203           202,203
   Accretion of capital contribution.................             978               --               978
   Distributions and other payments..................              --          (22,700)          (22,700)
                                                              -------        ---------         ---------
Balance at June 30,1999..............................         $58,358        $ (23,063)        $  35,295
                                                              =======        == ======         =========


</TABLE>



                  The accompanying notes are an integral part
                         of these financial statements.





                                       5
<PAGE>   7

                               LIGGETT GROUP INC.

                     CONSOLIDATED STATEMENTS OF CASH FLOWS

                             (Dollars in thousands)

<TABLE>
<CAPTION>

                                                                                   Six Months Ended
                                                                                       June 30,
                                                                               -------------------------
                                                                                  1999           1998
                                                                               ---------       ---------
<S>                                                                            <C>             <C>
Cash flows from operating activities.....................................      $(122,221)      $   2,213

Cash flows from investing activities:
    Proceeds from brand transaction......................................        145,000              --
    Proceeds from sale of property, plant and equipment..................            899           1,171
    Capital expenditures.................................................         (6,972)           (694)
                                                                               ---------       ---------
            Net cash provided by investing activities....................        138,927             477

Cash flows from financing activities:
    Repayments of note...................................................           (106)            (28)
    Issuance of note payable.............................................          4,500              --
    Borrowings under revolving credit facility...........................        153,019         124,042
    Repayments under revolving credit facility...........................       (152,599)       (124,792)
    Deferred finance charges.............................................             --            (439)
    Distributions and other payments.....................................        (22,700)             --
    Increase (decrease) in cash overdraft................................          1,180            (891)
                                                                               ---------       ---------
            Net cash used in financing activities........................        (16,706)         (2,108)

Net increase in cash and cash equivalents................................             --             582
Cash and cash equivalents:
    Beginning of period..................................................             --              --
                                                                               ---------       ---------
    End of period........................................................      $     -0-       $     582
                                                                               =========       =========

</TABLE>




                  The accompanying notes are an integral part
                         of these financial statements.





                                       6
<PAGE>   8
                               LIGGETT GROUP INC.

                   Notes to Consolidated Financial Statements

                (Dollars in thousands, except per share amounts)


1. THE COMPANY

Liggett Group Inc. ("Liggett" or the "Company") is a wholly-owned subsidiary of
BGLS Inc. ("BGLS"), a wholly-owned subsidiary of Brooke Group Ltd. ("BGL").
Liggett is engaged primarily in the manufacture and sale of cigarettes,
principally in the United States. Certain management and administrative
functions are performed by affiliates. (See Note 8.)

The interim consolidated financial statements included herein are unaudited
and, in the opinion of management, reflect all adjustments necessary (which are
normal and recurring) to present fairly the Company's consolidated financial
position, results of operations and cash flows. The December 31, 1998 balance
sheet has been derived from audited financial statements. These consolidated
financial statements should be read in conjunction with the consolidated
financial statements and the notes thereto included as Exhibit 99.2 in Brooke's
and BGLS' Annual Report on Form 10-K, as amended, for the year ended December
31, 1998, as filed with the Securities and Exchange Commission. The
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.

All of the Company's common shares (1,000 shares, issued and outstanding for
all periods presented herein) are owned by BGLS. Accordingly, earnings and
dividends per share data are not presented in these consolidated financial
statements.


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


3. PHILIP MORRIS BRAND TRANSACTIONS

On November 20, 1998, Liggett and BGL granted Philip Morris Incorporated
options to purchase interests in Trademarks LLC which holds three 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. On December 2, 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. Liggett used the
payments to fund the redemption of Liggett's Senior Secured Notes on December
28, 1998.




                                       7
<PAGE>   9

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.

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.

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.

The $150,000 in proceeds received from the sale of the Class A and B options was
presented as a liability on the consolidated balance sheet until the closing of
the exercise of the Class A option and the distribution of the loan proceeds on
May 24, 1999. Upon closing, Philip Morris obtained control of Trademarks and the
Company recognized a pre-tax gain of $294,287 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.




                                       8
<PAGE>   10

4. INVENTORIES

Inventories consist of the following:

<TABLE>
<CAPTION>
                                                                            June 30,         December 31,
                                                                             1999               1998
                                                                            -------          ------------

           <S>                                                              <C>                 <C>
           Leaf tobacco.........................................            $10,734             $10,796
           Other raw materials..................................              1,963               1,741
           Work-in-process......................................              2,943               1,828
           Finished goods.......................................             15,201              12,231
           Replacement parts and supplies.......................              3,178               3,150
                                                                            -------             -------

           Inventories at current cost..........................             34,019              29,746

           LIFO adjustment......................................             (5,005)             (3,772)
                                                                            -------             -------
           Inventories at LIFO cost.............................            $29,014             $25,974
                                                                            =======             =======
</TABLE>

The Company has a leaf inventory management program whereby, among other
things, it is committed to purchase certain quantities of leaf tobacco. The
purchase commitments are for quantities not in excess of anticipated
requirements and are at prices, including carrying costs, established at the
date of the commitment. Liggett had leaf tobacco purchase commitments of
approximately $5,123 at June 30, 1999.


5.       PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment consists of the following:

<TABLE>
<CAPTION>
                                                                            June 30,         December 31,
                                                                             1999               1998
                                                                            -------          ------------
           <S>                                                              <C>                <C>
           Land and improvements..................................         $    416            $    412
           Buildings..............................................            5,852               5,823
           Machinery and equipment................................           46,902              40,853
                                                                             ------              ------

           Property, plant and equipment..........................           53,170              47,088

           Less accumulated depreciation..........................          (32,450)            (30,893)
                                                                           --------            --------
           Property, plant and equipment, net.....................         $ 20,720            $ 16,195
                                                                           ========            ========
</TABLE>




                                       9
<PAGE>   11
6.       CREDIT FACILITY AND NOTE PAYABLE

<TABLE>
<CAPTION>
                                                                              June 30,        December 31,
                                                                               1999               1998
                                                                              -------         ------------
           <S>                                                              <C>                <C>
           Borrowings outstanding under revolving credit
              facility...........................................              $2,958            $2,538
           Note payable..........................................               4,394                --
                                                                               ------            ------
                                                                                7,352             2,538

           Current portion......................................                 (341)               --
                                                                               ------            ------

           Amount due after one year............................               $7,011            $2,538
                                                                               ======            ======

</TABLE>

Revolving Credit Facility:

On March 8, 1994, Liggett entered into a revolving credit facility (the
"Facility") under which it can borrow up to $40,000 (depending on the amount of
eligible inventory and receivables as determined by the lenders) from a
syndicate of commercial lenders. The Facility is collateralized by all
inventories and receivables of the Company. Availability under the Facility was
approximately $15,634 based upon eligible collateral at June 30, 1999.
Borrowings under the Facility whose interest is calculated at a rate equal to
1.5% above Philadelphia National Bank's prime rate bore a rate of 9.25% at June
30, 1999. The Facility requires Liggett's compliance with certain financial and
other covenants including restrictions on the payment of cash dividends and
distributions by Liggett. In addition, the Facility, as amended April 8, 1998,
imposes requirements with respect to Liggett's permitted maximum adjusted net
worth (not to fall below a deficit of $195,000 as computed in accordance with
the agreement, this computation was $40,300 at June 30, 1999) and net working
capital (not to fall below a deficit of $17,000 as computed in accordance with
the agreement, this computation was $34,826 at June 30, 1999). The Facility
expires on March 8, 2000 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.

Note Payable:

In January 1999, Liggett purchased equipment for $5,750 and borrowed $4,500
from a third party to fund the purchase. The loan, which is collateralized by
the equipment and guaranteed by BGLS and BGL, is payable in 60 monthly
installments of $56 including annual interest of 7.67% with a final payment of
$2,550.


7. COMMITMENTS AND CONTINGENCIES

TOBACCO-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 from cancer and other adverse health effects alleged to have been
caused by cigarette smoking or by exposure to secondary smoke (environmental
tobacco smoke, "ETS") from cigarettes. These cases are reported hereinafter as
though having been commenced against Liggett (without regard to whether such
cases were actually commenced against Liggett or BGL). 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
four categories: (i) smoking and health cases alleging personal injury brought
on behalf of individual smokers ("Individual Actions"); (ii) smoking and health
cases alleging personal injury and purporting to be brought on behalf of a




                                      10
<PAGE>   12

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 quantifiable at this time. For
the six months ended June 30, 1999, Liggett incurred counsel fees and costs
totaling approximately $3,001, compared to $2,562 for the comparable prior year
period.

INDIVIDUAL ACTIONS. As of June 30, 1999, there were approximately 275 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 ETS and seek compensatory and, in some
cases, punitive damages. Of these, 80 were pending in Florida, 91 in New York,
31 in Massachusetts and 22 in Texas. The balance of the individual cases were
pending in 21 states. There are six individual cases pending where Liggett is
the only named defendant.

The plaintiffs' allegations of liability in those cases in which individuals
seek recovery for personal injuries allegedly caused by cigarette smoking are
based on various theories of recovery, including negligence, gross negligence,
special duty, voluntary undertaking, 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, indemnity, market share liability and
violations of deceptive trade practices laws, the Federal Racketeer Influenced
and Corrupt Organization Act ("RICO") and antitrust statutes. In many of these
cases, in addition to compensatory damages, plaintiffs also seek other forms of
relief including 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 state court jury in San Francisco 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, a state court jury in Portland awarded $80,311 in damages to the
family of a deceased smoker who smoked Marlboro made by Philip Morris. The award
includes $79,500 in punitive damages. The court subsequently reduced the
punitive damages award to $32,000. A Notice of Appeal has been filed by Philip
Morris.

CLASS ACTIONS. As of June 30, 1999, there were approximately 50 actions
pending, for which either a class has been certified or plaintiffs are seeking
class certification, where Liggett, among others, was a named defendant.

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 (the "Class Certification Order").

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




                                      11
<PAGE>   13

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 tobacco-related class
action litigation is still uncertain, although the decertification of the
Castano class by the Fifth Circuit may preclude other federal courts from
certifying a nationwide class action for trial purposes with respect to
tobacco-related claims. The Castano decision has had to date, however, only
limited effect with respect to courts' decisions regarding narrower
tobacco-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 class actions were certified in state court in Florida prior to the Fifth
Circuit's decision, Broin and Engle. The Castano decision has had no measurable
impact on litigation brought by or on behalf of single individual claimants.

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. This case was brought by plaintiffs, on
behalf of all individuals in the State of Florida, who allegedly have been
injured as a result of smoking cigarettes. In July 1998, Phase I of the trial
in this action commenced. (See "Subsequent Events".)

Class certification motions are pending in a number of putative class actions.
Class certification has been denied or reversed in several actions while
classes remain certified in two cases against the Company in Florida and one in
Maryland. A number of class certification decisions are on appeal.

GOVERMENTAL ACTIONS. As of June 30, 1999, there were approximately 20
Governmental Actions pending against Liggett. In these proceedings, the
governmental entities seek reimbursement for Medicaid and other health care
expenditures allegedly caused by use of tobacco products. 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,
violation of a voluntary undertaking or 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.

On January 19, 1999, at the State of the Union Address, President Clinton
announced that the Department of Justice ("DOJ") was preparing a litigation
plan to take the tobacco industry to court to recover monies that Medicare and
other programs allegedly expended to treat smoking-related illnesses. The
effects of this lawsuit cannot be predicted at this time; however, an adverse
verdict could have a material adverse effect on the Company and Liggett.

THIRD-PARTY PAYOR ACTIONS. As of June 30, 1999, 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. In April 1998, a group known as the "Coalition for
Tobacco Responsibility", which represents Blue Cross and Blue Shield Plans in
more than 35 states, filed federal lawsuits against the industry seeking
payment of health-care costs allegedly incurred as a result of cigarette
smoking and ETS. The lawsuits were filed in Federal District Courts in New
York, Chicago, and Seattle and seek billions of dollars in damages. The
lawsuits allege conspiracy, fraud, misrepresentation and violation of federal




                                      12
<PAGE>   14

racketeering and antitrust laws as well as other claims. In January 1999, a
federal judge in Seattle dismissed the Third-Party Payor Action brought by
seven Blue Cross/Blue Shield Plans. The court ruled that the insurance
providers did not have standing to bring the lawsuit. However, in February
1999, a federal judge in the Eastern District of New York denied pleas by the
industry to dismiss the Third-Party Payor Action brought by 24 Blue Cross/Blue
Shield Plans. Similarly, in March 1999, a federal judge in the Northern
District of Illinois denied the industry's motion to dismiss.

 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.

SETTLEMENTS. In March 1996, Liggett and BGL entered into an agreement, subject
to court approval, to settle the Castano class action tobacco litigation. Under
the Castano settlement agreement, upon final court approval of the settlement,
the Castano class would be entitled to receive up to five percent of Liggett's
pretax income (income before income taxes) each year (up to a maximum of
$50,000 per year) for the next 25 years, subject to certain reductions provided
for in the agreement and a $5,000 payment from Liggett if Liggett or BGL fail
to consummate a merger or similar transaction with another non-settling tobacco
company defendant within three years of the date of settlement. Liggett and BGL
have the right to terminate the Castano settlement under certain circumstances.
In March, 1996, Liggett, the Castano Plaintiffs Legal Committee and the Castano
plaintiffs entered into a letter agreement. According to the terms of the
letter agreement, for the period ending nine months from the date of Final
Approval (as defined in the letter), if granted, of the Castano settlement or,
if earlier, the completion by Liggett or BGL of a combination with any
defendant in Castano, except Philip Morris, the Castano plaintiffs and their
counsel agree not to enter into any more favorable settlement agreement with
any Castano defendant which would reduce the terms of the Castano settlement
agreement. If the Castano plaintiffs or their counsel enter into any such
settlement during this period, they shall pay Liggett $250,000 within 30 days
of the more favorable agreement and offer Liggett and BGL the option to enter
into a settlement on terms at least as favorable as those included in such
other settlement. The letter agreement further provides that during the same
time period, and if the Castano settlement agreement has not been earlier
terminated by Liggett in accordance with its terms, Liggett and its affiliates
will not enter into any business transaction with any third party which would
cause the termination of the Castano settlement agreement. If Liggett or its
affiliates enter into any such transaction, then the Castano plaintiffs will be
entitled to receive $250,000 within 30 days from the transacting party. In May
1996, the Castano Plaintiffs Legal Committee filed a motion with the United
States District Court for the Eastern District of Louisiana seeking preliminary
approval of the Castano settlement. In September 1996, shortly after the class
was decertified, the Castano plaintiffs withdrew the motion for approval of the
Castano settlement.

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

On November 23, 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. As
described below, Liggett and BGL had previous settlements with a number of
these Settling States and also had previously settled similar claims brought by
Florida, Mississippi, Texas and Minnesota.




                                      13
<PAGE>   15

The MSA is subject to final judicial approval in each of the Settling States,
which approval has been obtained, to date, in 42 states and territories.

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.

Pursuant to the MSA, Liggett has no payment obligations unless its market share
exceeds 125% of its 1997 market share (the "Base Share") or 1.67% of total
cigarettes sold in the United States. 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 such
following year by the OPMs pursuant to the annual and strategic contribution
payment provisions of the MSA, subject to applicable adjustments, offsets and
reductions. Pursuant to 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):


                      Year                    Amount
                      ----                    ------
              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


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 Liggett and BGL,





                                      14
<PAGE>   16

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 Liggett and BGL 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 March 1997, Liggett, BGL 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 court granted preliminary approval and
preliminary certification of the class. In July 1998, Liggett, BGL and
plaintiffs filed an amended class action settlement agreement in Fletcher which
agreement was preliminarily approved by the court in December 1998. (See
"Subsequent Events".)

Liggett previously accrued approximately $4,000 for the present value of the
fixed payments under the March 1996 Attorneys General settlements and $16,902
for the present value of the fixed payments under the March 1998 Attorneys
General settlements. As a result of Liggett's treatment under the MSA, $14,928
of net charges accrued for the prior settlements were reversed in 1998.

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

TRIALS. There are no trials involving the Company or BGL scheduled for 1999,
other than the Engle case. Cases currently scheduled for trial during the first
six months of 2000 include a lawsuit brought by several Blue Cross/Blue Shield
plans in federal court in New York (January), two asbestos company contribution
lawsuits in Mississippi and New York (February), one class action in Maryland
(February) and two third-party payor actions brought by unions in West Virginia
(March) and New York (April). Also, three individual cases and an adequacy of
warning case are currently scheduled for trial during the first six months of
2000. Trial dates, however, are subject to change.

OTHER RELATED MATTERS. A grand jury investigation is being conducted by the
office of the United States Attorney for the Eastern District of New York (the
"Eastern District Investigation") regarding possible violations of criminal law
relating to the activities of The Council for Tobacco Research - USA, Inc. (the
"CTR"). Liggett was a sponsor of the CTR at one time. In May 1996, Liggett
received a subpoena from a Federal grand jury sitting in the Eastern District
of New York, to which Liggett has responded.

In March 1996, and in each of March, July, October and December 1997, Liggett
and/or BGL received subpoenas from a Federal grand jury in connection with an
investigation by the United States Department of Justice (the "DOJ
Investigation") involving the industry's knowledge of: the health consequences
of smoking cigarettes; the targeting of children by the industry; and the
addictive nature of nicotine and the manipulation of nicotine by the industry.
Liggett has responded to the March 1996, March 1997 and July 1997 subpoenas and
is in the process of responding to the October and December 1997 subpoenas The
Company understands that the Eastern District Investigation and the DOJ
Investigation essentially have been consolidated into one investigation
conducted by the DOJ. In April 1998, BGL announced that Liggett had reached an
agreement with the DOJ to cooperate in both the Eastern District Investigation
and the DOJ Investigation. The agreement does not constitute an admission of
any wrongful behavior by Liggett. The DOJ has not provided immunity to Liggett
and has full discretion to act or refrain from acting with respect to Liggett
in the investigation. Liggett and BGL are unable, at this time, to predict the
outcome of this investigation.

In September 1998, Liggett received a subpoena from a federal grand jury in the
Eastern District of Philadelphia investigating possible antitrust violations in
connection with the purchase of tobacco by and for tobacco companies. Liggett
has responded to this subpoena. Liggett and BGL are unable, at this time, to
predict the outcome of this investigation.




                                      15
<PAGE>   17

Litigation is subject to many uncertainties, and it is possible that some of
the aforementioned actions could be decided unfavorably against Liggett or BGL.
An unfavorable outcome of a pending smoking and health case could encourage the
commencement of additional similar litigation. Liggett 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 the Company,
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 Liggett's consolidated financial position, results of
operations or cash flow could be materially adversely affected by an
unfavorable outcome in any such tobacco-related litigation.

Liggett has been involved in certain environmental proceedings, none of which,
either individually or in the aggregate, rises to the level of materiality.
Liggett's management believes that current operations are conducted in material
compliance with all environmental laws and regulations. Management is unaware
of any material environmental conditions affecting its existing facilities.
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.

There are several other proceedings, lawsuits and claims pending against BGL
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 Liggett's financial position, results of operations or
cash flows.

SUBSEQUENT EVENTS. On July 7, 1999, the jury in the Engle matter returned a
verdict in Phase I of the trial finding that smoking causes various diseases
and is addictive and finding the defendants liable on various tort and warranty
claims. Additionally, the jury found that the class may be entitled to punitive
damages from the defendants. It is expected that the defendants will appeal the
Phase I liability verdict. The court has decided that Phase II of the trial
will commence September 7, 1999, with a causation and damages trial for two of
the class representatives and a punitive damages trial on a class-wide basis.
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. On August 2,
1999, the companies filed a motion to disqualify the trial judge. On August 5,
1999, the trial judge denied the motion.

On July 22, 1999, the Circuit Court of Mobile County, Alabama denied approval
of the Fletcher class action settlement.

LEGISLATION AND REGULATION:

In 1993, the United States Environmental Protection Agency ("EPA") released a
report on the respiratory effect of ETS which concludes that ETS 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 ETS, 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 ETS 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




                                      16
<PAGE>   18

1998, the court ruled that the EPA made procedural and scientific mistakes when
it declared in its 1993 report that secondhand smoke caused as many as 3,000
cancer deaths a year among nonsmokers. On June 6, 1999, the Fourth Circuit
Court of Appeals heard oral argument in the appeal taken by the EPA from the
district court order invalidating the EPA report.

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 Liggett and BGL.

In August 1996, the FDA filed in the Federal Register a Final Rule (the "FDA
Rule") classifying tobacco as a drug, asserting jurisdiction by the FDA over
the manufacture and marketing of tobacco products and imposing restrictions on
the sale, advertising and promotion of tobacco products. Litigation was
commenced in the United States District Court for the Middle District of North
Carolina challenging the legal authority of the FDA to assert such
jurisdiction, as well as challenging the constitutionality of the rules. The
court, after argument, granted plaintiffs' motion for summary judgment
prohibiting the FDA from regulating or restricting the promotion and
advertising of tobacco products and denied plaintiffs' motion for summary
judgment on the issue of whether the FDA has the authority to regulate access
to, and labeling of, tobacco products. The Fourth Circuit reversed the district
court on appeal and in August 1998 held that the FDA cannot regulate tobacco
products because Congress had not given them the authority to do so. In April
1999, the Supreme Court granted certiorari to review the Fourth Circuit's
decision that the FDA does not have the authority to regulate access to, and
labeling of, tobacco products. Liggett and BGL support the FDA Rule and have
begun to phase in compliance with certain of the proposed interim FDA
regulations. See discussions of the Castano and Governmental Actions
settlements above.

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; however, in 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 24 cents, would rise 10 cents in
the year 2000 and 5 cents more in the year 2002. Additionally, in November
1998, the citizens of California voted in favor of a 50 cents per pack tax on
cigarettes sold in that state.

In addition to the foregoing, there have been a number of other restrictive
regulatory actions, adverse political decisions and other unfavorable
developments concerning cigarette smoking and the tobacco industry, the effects
of which, at this time, Liggett is not able to evaluate.

YEAR 2000 COSTS:

Liggett utilizes management information systems and software technology that
may be affected by Year 2000 issues throughout its operations. The Company has
evaluated the costs to implement century date change compliant systems
conversions and is in the process of executing a planned conversion of its
systems prior to the Year 2000. To date, the focus of Year 2000 compliance and
verification efforts has been directed at the implementation of new customer
service, inventory control and financial reporting systems at each of the three
regional Strategic Business Units, part of the Company's reorganization which
began in January 1997. Liggett estimates that approximately $138 of the
expenditures related to this reengineering effort related to Year 2000




                                      17
<PAGE>   19

compliance, validation and testing. In January of 1998, Liggett initiated a
major conversion of factory accounting, materials management and information
systems at its Durham production facility with upgrades that have been
successfully tested for Year 2000 compliance. This conversion was completed in
November 1998. Program upgrades to Liggett's payroll system were completed in
July of 1999, with parallel upgrades to human resources system software
scheduled for completion in August. Enhancements to the Company's finished
goods inventory system are expected to be completed in September 1999. It is
anticipated that all factory, corporate, field sales and physical distribution
systems will be completed in sufficient time to support Year 2000 compliance
and verification.

Although such costs may be a factor in describing changes in operating profit
in any given reporting period, the Company currently does not believe that the
anticipated costs of Year 2000 systems conversions will have a material impact
on its future consolidated results of operations. Based on the progress Liggett
has made in addressing Year 2000 issues and its strategy and timetable to
complete its compliance program, the Company does not foresee significant risks
associated with its Year 2000 initiatives at this time. Although the Company is
in the process of confirming that service providers are adequately addressing
Year 2000 issues, there can be no complete assurance of success, or that
interaction with other service providers will not impair the Company's service.


8. RELATED PARTY TRANSACTIONS

Liggett is party to a Tax-Sharing Agreement dated June 29, 1990 with BGL and
certain other entities pursuant to which Liggett has paid taxes to BGL as if it
were filing a separate company tax return, except that the agreement
effectively limits the ability of Liggett to carry back losses for refunds.
Liggett is entitled to recoup overpayments in a given year out of future
payments due under the agreement.

Liggett is a party to an agreement dated February 26, 1991, as amended October
1, 1995, with BGL to provide various management and administrative services to
the Company in consideration for an annual management fee of $900 paid in
monthly installments and annual overhead reimbursements of $864 paid in
quarterly installments.

In addition, Liggett has entered into an annually renewable Corporate Services
Agreement with BGLS wherein BGLS agreed to provide corporate services to the
Company at an annual fee paid in monthly installments. Corporate services
provided by BGLS under this agreement include the provision of administrative
services related to Liggett's participation in its parent company's
multi-employer benefit plan, external publication of financial results,
preparation of consolidated financial statements and tax returns and such other
administrative and managerial services as may be reasonably requested by
Liggett. The charges for services rendered under the agreement amounted to
$1,829 in the first six months of 1999 and $918 in the first six months of
1998.

The Company leases equipment from a subsidiary of BGLS for $50 per month.







                                      18