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                                 UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                             ---------------------

                                   FORM 10-K

               (Mark One)
              [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
                      THE SECURITIES EXCHANGE ACT OF 1934

                  FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000

                                       OR

            [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
                      THE SECURITIES EXCHANGE ACT OF 1934

                         COMMISSION FILE NUMBER: 1-6388
                             ---------------------

                      R.J. REYNOLDS TOBACCO HOLDINGS, INC.
             (Exact name of registrant as specified in its charter)
<TABLE>
<S>                                            <C>
                   DELAWARE                                      56-0950247
(State or other jurisdiction of incorporation       (I.R.S. Employer Identification No.)
               or organization)
</TABLE>

                             401 NORTH MAIN STREET
                          WINSTON-SALEM, NC 27102-2866
              (Address of principal executive offices) (Zip Code)

                                 (336) 741-5500
              (Registrant's telephone number, including area code)

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

          SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

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                                             NAME OF EACH                                                 NAME OF EACH
                                          EXCHANGE ON WHICH                                             EXCHANGE ON WHICH
         TITLE OF EACH CLASS                 REGISTERED               TITLE OF EACH CLASS                REGISTERED
---------------------------------------   -----------------   --------------------------------------    -----------------
<S>                                       <C>                 <C>                                       <C>
Common Stock, par value $.01 per share    New York            8 3/4% Senior Notes due April 15, 2004    New York
8% Notes due July 15, 2001                New York            8 3/4% Notes due August 15, 2005          New York
8 5/8% Notes due December 1, 2002         New York            8 3/4% Notes due July 15, 2007            New York
7 5/8% Notes due September 15, 2003       New York            9 1/4% Debentures due August 15, 2013     New York

</TABLE>

        SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE

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

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

     The aggregate market value of common stock held by non-affiliates of R.J.
Reynolds Tobacco Holdings, Inc. on January 31, 2001 was approximately $5.3
billion, based on the closing price of $52.95. Certain directors of R.J.
Reynolds Tobacco Holdings, Inc. are considered affiliates for purposes of this
calculation but should not necessarily be deemed affiliates for any other
purpose.

     Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date: January 31, 2001:
102,033,212 shares of common stock, par value $.01 per share.
                             ---------------------

                      DOCUMENTS INCORPORATED BY REFERENCE:

     Portions of the Definitive Proxy Statement of R.J. Reynolds Tobacco
Holdings, Inc. to be filed with the Securities and Exchange Commission pursuant
to Regulation 14A of the Securities Exchange Act of 1934 on or prior to March
15, 2001 are incorporated by reference into Part III of this report.
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                                     INDEX

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                                                                            PAGE
                                                                            ----
<S>           <C>                                                           <C>
PART I
Item 1.       Business....................................................    3
Item 2.       Properties..................................................   17
Item 3.       Legal Proceedings...........................................   17
Item 4.       Submission of Matters to a Vote of Security Holders.........   18
              Executive Officers and Certain Significant Employees of the
                Registrant................................................   18

PART II
Item 5.       Market for Registrant's Common Equity and Related
                Stockholder Matters.......................................   20
Item 6.       Selected Financial Data.....................................   21
Item 7.       Management's Discussion and Analysis of Financial Condition
                and Results of Operations.................................   22
Item 7a.      Quantitative and Qualitative Disclosures about Market
                Risk......................................................   34
Item 8.       Financial Statements and Supplementary Data.................   35
Item 9.       Changes in and Disagreements with Accountants on Accounting
                and Financial Disclosure..................................   74

PART III
Item 10.      Directors and Executive Officers of the Registrant..........   74
Item 11.      Executive Compensation......................................   74
Item 12.      Security Ownership of Certain Beneficial Owners and
                Management................................................   74
Item 13.      Certain Relationships and Related Transactions..............   74

PART IV
Item 14.      Exhibits, Financial Statement Schedules, and Reports on Form
                8-K.......................................................   74
</TABLE>

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                                     PART I

ITEM 1. BUSINESS

     R.J. Reynolds Tobacco Holdings, Inc., formerly known as RJR Nabisco, Inc.,
was incorporated as a holding company in 1970, and is listed on the NYSE as RJR.
RJR's subsidiaries include its wholly owned operating subsidiary, R. J. Reynolds
Tobacco Company, referred to as RJR Tobacco, and RJR Acquisition Corp. RJR
Tobacco operates in one industry segment and is the second largest cigarette
manufacturer in the United States. RJR Tobacco's largest selling cigarette
brands, CAMEL, WINSTON, SALEM and DORAL, were four of the top ten, best-selling
brands of cigarettes in the United States in 2000. Those brands, and its other
brands, including VANTAGE, MORE, NOW, MONARCH and BEST VALUE, are manufactured
in a variety of styles and marketed in the United States and meet a range of
smoker preferences.

     During 1999, RJR and Nabisco Group Holdings Corp., referred to as NGH,
completed a series of transactions to reorganize their businesses and capital
structures. In May 1999, RJR and RJR Tobacco substantially completed the sale of
the international tobacco business for $8 billion, including the assumption of
$200 million of net debt, to Japan Tobacco Inc. As a result of this sale, RJR
Tobacco's business consists exclusively of the manufacture and sale of
cigarettes in the United States and its territories, commonwealths,
protectorates and possessions. A portion of the proceeds from the sale of the
international tobacco business was used by RJR to repurchase $4 billion of its
debt. Additionally, RJR transferred $1.6 billion in cash proceeds, together with
its 80.5% interest in Nabisco Holdings Corp., referred to as Nabisco, to NGH
through a merger transaction. In June 1999, NGH distributed all of the
outstanding shares of RJR common stock to NGH common stockholders of record as
of May 27, 1999, and shares of RJR began trading separately on June 15, 1999.

     On December 11, 2000, through a merger, RJR acquired its former parent,
NGH, a non-operating public shell company with no material assets or
liabilities, at the time of the acquisition, other than $11.8 billion in cash.
RJR Acquisition Corp. paid $30 for each outstanding share of NGH, or $9.8
billion in the aggregate, and was merged into NGH, with NGH being the surviving
corporation. After the merger, NGH changed its name to RJR Acquisition Corp. Net
proceeds to RJR were $1.5 billion, after transaction costs and payments to NGH
stockholders.

INDUSTRY OVERVIEW

     U.S. cigarette shipments decreased at a compound annual rate of 1.6% from
1987 through 1997. After declining 4.6% in 1998 and 9% in 1999, industry
shipments stabilized during 2000 at 419.8 billion units. From December 1999 to
December 2000, wholesale cigarette prices increased $.33 per pack in response to
payment obligations under the Master Settlement Agreement with state attorneys
general and other state settlement costs. For more discussion of tobacco
litigation and the MSA, see "-- Litigation Affecting the Cigarette Industry,"
"-- Environmental Matters," "Management's Discussion and
Analysis -- Governmental Activity" in Item 7, note 14 to the consolidated
financial statements and Exhibit 99.1 to this report.

COMPETITION

     The U.S. market in which RJR Tobacco operates is highly competitive, with
several large participants. Based on data collected by Information Resources
Inc., during 2000, 1999 and 1998, Philip Morris Incorporated had an overall
retail share of market of 50.37%, 49.58% and 48.73%, respectively. During these
same years, RJR Tobacco had an overall share of 23.58%, 23.92% and 25.18%,
respectively, and the remaining participants held lesser shares.

     Competition is primarily based on a brand's positioning, consumer loyalty,
retail display and promotion, quality and price. Substantial marketing support,
merchandising display and competitive pricing generally are required to maintain
or improve a brand's market position or to introduce a new brand. Increased
selling prices and higher cigarette taxes have resulted in increased competitive
discounting and the proliferation of deep-discount brands from manufacturers not
yet impacted to a significant degree by the MSA and other state settlement
agreements.

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     Anti-smoking groups have undertaken activities designed to restrict
cigarette sales, the form and content of cigarette advertising and the testing
and introduction of new cigarette products. The MSA, signed in late 1998,
contains provisions restricting the marketing of cigarettes. See "-- Litigation
Affecting the Cigarette Industry" for more discussion of the MSA.

     Because of significant cigarette marketing restrictions in the United
States, established cigarette brands usually have a competitive advantage. RJR
Tobacco has repositioned or introduced brands designed to appeal to adult
smokers of competing brands in the United States, but there can be no assurance
that such efforts will be successful. See "-- Marketing" for more discussion of
RJR Tobacco's marketing efforts.

STRATEGY

     RJR's goals are to:

     -  stabilize, then grow earnings and cash flow;

     -  deliver an attractive return to its stockholders, including meaningful
        and sustainable dividends; and

     -  stabilize, then grow share of market for RJR Tobacco's four investment
        brands: CAMEL, WINSTON, SALEM and DORAL.

MARKETING

     RJR Tobacco is committed to providing unique products and increased value
to its adult smoking consumers. RJR Tobacco's marketing programs are designed to
strengthen each brand's image, build brand awareness and loyalty and attract
adult smokers of competing brands, primarily in an effort to stabilize, then
grow share of market of RJR Tobacco's four investment brands. These four brands
achieved combined retail share of market stability in 2000.

     CAMEL continued to show strong retail share of market growth in 2000,
resulting from its unique positioning supported by the "Pleasure to Burn"
advertising campaign, the successful launch of its Turkish Gold line extension,
the CML magalog and a continuous stream of new specialty products and
promotions. WINSTON's performance improved during 2000 by leveraging its "No
Bull" image, the launch of the "Winston Racing Nation" continuity program, which
celebrates the lifestyle and passion of motorsports fans nationwide, and new ads
featuring WINSTON's "First Cut" tobacco. SALEM has experienced recent share
growth in its emphasis markets, where full marketing support includes its unique
"It's not what you expect" positioning, innovative SLIDE BOX packaging and
interaction with adult smokers through programs such as the Orb-e talent
competition. DORAL, the industry's leading savings brand, benefited from its
"Imagine Getting More" positioning. During 2000, DORAL launched its "Packed
Tighter to Burn Slower" advertising campaign supporting a significant product
enhancement that packs more tobacco into each cigarette, resulting in a
slower-burning and longer-lasting product.

     In addition to its marketing programs discussed above, RJR Tobacco utilizes
a defensive retail pricing strategy, periodically discounting at retail, to
defend its brands' share of market against competitive pricing pressure. RJR
Tobacco enhanced the execution of its retail strategy during 2000, gaining
increased promotional coverage, broader retail presence and more competitive
pricing.

     On a combined basis, RJR Tobacco's four investment brands represent over
80% of its volume and share of market. Additional RJR Tobacco full-price and
savings products are offered to meet the diverse needs of adult smokers. Other
full-price brands include VANTAGE, MORE and NOW. In the savings category,
MONARCH, BEST VALUE and various private label brands are available for more
cost-conscious adult smokers.

     RJR Tobacco also is committed to finding ways to develop and market
consumer-acceptable cigarettes that may present less risk associated with
smoking. In 2000, RJR Tobacco expanded its test market of ECLIPSE to the
Dallas/Fort Worth area. ECLIPSE is a cigarette that primarily heats, rather than
burns tobacco, greatly reducing second-hand smoke, while leaving no ashes,
stains or lingering odor, and may present less risk of cancer, chronic
bronchitis and possibly emphysema, compared to other cigarettes.

                                        4
<PAGE>   5

     RJR Tobacco continues to use advertisements in magazines read primarily by
adults, direct mailings to age-verified adult smokers and other means to market
the brands and enhance their appeal among adult smokers. RJR Tobacco continues
to advertise and promote at retail cigarette locations and in other adult venues
where permitted. As a result of the MSA and other federal, state and local
legislative and regulatory restrictions, RJR Tobacco does not utilize
television, radio or billboard advertising or certain other marketing and
promotional tools for cigarettes.

MANUFACTURING AND DISTRIBUTION

     RJR Tobacco owns both of its cigarette manufacturing facilities, which are
located in the Winston-Salem, North Carolina area: Tobaccoville, a
two-million-square-foot facility constructed in 1985; and the Whitaker Park
complex, which includes a one-and-one-half-million-square-foot plant, RJR
Tobacco's Central Distribution Center and a pilot plant for trial manufacturing
of new products. RJR Tobacco has a combined production capacity of approximately
150 billion cigarettes per year, and believes its cigarette manufacturing
facilities are among the most technologically advanced in the United States.

     RJR Tobacco sells its cigarettes primarily to distributors and wholesalers
and to certain large retail stores. Most of RJR Tobacco's customers buy on a
spot basis rather than under long-term agreements. RJR Tobacco distributes its
cigarettes primarily to public warehouses located throughout the United States
that serve as local distribution centers for its customers. No significant
backlog of orders existed at December 31, 2000 or 1999.

     During 2000, 1999 and 1998, sales made by RJR Tobacco to McLane Company,
Inc. and its affiliate, Wal-Mart Stores, Inc., comprised 19%, 17% and 16%,
respectively, of RJR's revenue. No other customer accounted for 10% or more of
RJR's revenue during those years.

RAW MATERIALS

     In its production of cigarettes, RJR Tobacco uses domestic burley and
flue-cured leaf tobaccos, as well as oriental tobaccos, grown primarily in
Turkey and Greece, and certain other non-domestic tobaccos. RJR Tobacco believes
there is a sufficient supply in the worldwide tobacco market to satisfy its
current and anticipated production requirements.

     During 2000, RJR Tobacco primarily contracted directly with tobacco growers
to purchase flue-cured leaf, while burley tobaccos were purchased primarily at
domestic auction. In 2001, RJR Tobacco expects to contract-purchase both
flue-cured and burley tobaccos. RJR Tobacco does not expect the cost of tobacco
purchased by contract from growers to differ materially from that purchased at
auction.

     Tobacco leaf is an agricultural product subject in the United States to
government production controls and price supports that can affect market prices
substantially. The tobacco leaf price support program is subject to
congressional review and may be changed at any time. In December 1994, Congress
enacted the Uruguay Round Agreements Act to replace a domestic content
requirement with a tariff rate quota system that bases tariffs on import
volumes. The tariff rate quotas have been established by the United States with
overseas tobacco producers and became effective on September 13, 1995.

RESEARCH AND DEVELOPMENT

     RJR Tobacco's research and development activities are located in its
technologically advanced Bowman Gray Technical Center in Whitaker Park.
Scientists and engineers continue to create more efficient methods of preparing
tobacco blends and new products, as well as produce product enhancements and
packaging that differentiate CAMEL, WINSTON, SALEM, DORAL and other RJR Tobacco
brands from competitive brands. RJR Tobacco has developed a simple, practical
way to reduce tobacco-specific nitrosamines, or TSNAs, by approximately 90% in
flue-cured tobacco, and expects to switch to low-TSNA flue-cured tobacco in its
cigarette blends as soon as reasonably possible. In addition, a major focus for
research and development activity is the development of products that may
present less risk associated with smoking. See note 1 to the

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consolidated financial statements for RJR Tobacco's research and development
expense for the years ended December 31, 2000, 1999 and 1998.

INTELLECTUAL PROPERTY

     RJR Tobacco owns numerous trademarks, including the brand names of its
cigarettes and their distinctive packaging and display. Also, RJR Tobacco
considers the blends of tobacco that make each of its brands distinctive to be
trade secrets. These trade secrets generally are not patented, although certain
of RJR Tobacco's manufacturing processes are patented. All of RJR Tobacco's
material trademarks are registered with the U.S. Patent and Trademark Office.
Rights in these trademarks in the United States will last as long as RJR Tobacco
continues to use the trademarks.

     In connection with the sale of the international tobacco business, RJR
Tobacco sold most of its trademarks and patents outside the United States.

LEGISLATION AND OTHER MATTERS AFFECTING THE CIGARETTE INDUSTRY

     The tobacco industry is subject to a wide range of laws and regulations
regarding the advertising, sale, taxation and use of tobacco products imposed by
local, state, federal and foreign governments. Various state governments have
adopted or are considering, among other things, legislation and regulations
restricting displays and advertising of tobacco products, establishing fire
safety standards for cigarettes, raising the minimum age to possess or purchase
tobacco products, requiring the disclosure of ingredients used in the
manufacture of tobacco products, imposing restrictions on public smoking and
restricting the sale of tobacco products directly to consumers or other
unlicensed recipients or over the Internet. In addition, in 2001 the U.S.
Congress may consider legislation regarding increases in the federal excise tax,
regulation by the U.S. Food and Drug Administration of the manufacture and sale
of cigarettes and implementation of a national standard for "fire-safe"
cigarettes. For a discussion of the regulatory and legislative environment
applicable to the cigarette business, see "Management's Discussion and Analysis
of Financial Condition and Results of Operations -- Governmental Activity" in
Item 7.

LITIGATION AFFECTING THE CIGARETTE INDUSTRY

     Overview.  Various legal actions, proceedings and claims, including legal
actions claiming that lung cancer and other diseases, as well as addiction, have
resulted from the use of, or exposure to, RJR Tobacco's products, are pending or
may be instituted against RJR or its affiliates, including RJR Tobacco, or
indemnitees. During 2000, 1,330 new actions, 1,100 of which were filed in state
court in West Virginia in two complaints by the same law firm, were served
against RJR Tobacco and/or its affiliates or indemnitees, and 207 actions were
dismissed or otherwise resolved in favor of RJR Tobacco and/or its affiliates or
indemnitees without trial. On December 31, 2000, there were 1,664 active cases
pending, as compared with 541 on December 31, 1999 and 664 on December 31, 1998.
As of February 7, 2001, 1,668 active cases were pending against RJR Tobacco
and/or its affiliates or indemnitees: 1,665 in the United States, 2 in Puerto
Rico and 1 in the Marshall Islands. The U.S. case number does not include the
3,074 Broin II cases pending as of February 7, 2001, discussed below.

     The U.S. cases, exclusive of the Broin II cases, are pending in 38 states
and the District of Columbia. The breakdown is as follows: 1,232 in West
Virginia; 111 in New York; 57 in California; 55 in Florida; 36 in Louisiana; 18
in the District of Columbia; 11 in New Jersey; 10 in Texas; 9 in each of
Alabama, Iowa, Mississippi, Pennsylvania and Tennessee; 8 in Missouri; 7 in each
of Georgia, Illinois and New Mexico; 6 in Nevada; 5 in Michigan; 4 in each of
Indiana, Massachusetts, Minnesota, North Carolina, New Hampshire and Wisconsin;
3 in each of Connecticut, North Dakota and South Carolina; 2 in each of Arizona,
Kansas, Ohio, Oklahoma, South Dakota and Washington; and 1 in each of Hawaii,
Maryland, Maine, Oregon and Utah. Of the 1,665 active U.S. cases, 139 are
pending in federal court, 1,522 in state court and 4 in tribal court. Most of
these cases were brought by individual plaintiffs, but many of these cases seek
recovery on behalf of third parties or large classes of claimants.

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     Theories of Recovery.  The plaintiffs seek recovery on a variety of legal
theories, including strict liability in tort, design defect, negligence, special
duty, voluntary undertaking, breach of warranty, failure to warn, fraud,
misrepresentation, unfair trade practices, conspiracy, aiding and abetting,
unjust enrichment, indemnity, medical monitoring, public nuisance, and
violations of state and federal antitrust and RICO laws. Punitive damages, often
in amounts ranging into the hundreds of millions or even billions of dollars,
are specifically pleaded in a number of cases, in addition to compensatory and
other damages. Seven of the 1,665 active cases in the United States, plus the
3,074 Broin II cases, involve alleged nonsmokers claiming injuries resulting
from exposure to environmental tobacco smoke. Thirty-seven cases purport to be
class actions on behalf of thousands of individuals. Purported classes include
individuals claiming to be addicted to cigarettes, individuals and their estates
claiming illness and death from cigarette smoking, persons making claims based
on alleged exposure to environmental tobacco smoke, African-American smokers
claiming their civil rights have been violated by the sale of menthol
cigarettes, current smokers who have no tobacco-related disease but are seeking
to recover the costs of medical monitoring, purchasers of cigarettes claiming to
have been defrauded and seeking to recover their costs and Blue Cross and Blue
Shield subscribers seeking reimbursement for premiums paid. Approximately 66
cases seek recovery of the cost of Medicaid/Medicare payments or other
health-related costs paid for treatment of individuals suffering from diseases
or conditions allegedly related to tobacco use. Ten cases, brought by entities
administering asbestos liability, seek contribution for the costs of settlements
and judgments.

     Defenses.  The defenses raised by RJR Tobacco and/or its affiliates,
including RJR, include, where applicable, preemption by the Federal Cigarette
Labeling and Advertising Act of some or all such claims arising after 1969, the
lack of any defect in the product, assumption of the risk, contributory or
comparative fault, lack of proximate cause and statutes of limitations or
repose. RJR has asserted additional defenses, including jurisdictional defenses,
in many of these cases in which it is named.

     Industry Trial Results in Individual Smoker Cases.  The tobacco industry in
general, and RJR Tobacco in particular, continue to win most individual smoking
and health cases. In Anderson v. Fortune Brands, Inc., a Brooklyn, New York jury
found in favor of the industry, including RJR Tobacco, on June 27, 2000. In
Nunnally v. R.J. Reynolds Tobacco Co., a Mississippi state court jury found RJR
Tobacco not liable on July 12, 2000. On January 16, 2001, a Brooklyn, New York
state court jury returned a verdict in favor of RJR Tobacco and other cigarette
manufacturers in Apostolou v. American Tobacco Co. Most recently, in Little v.
Brown & Williamson Tobacco Corp., a South Carolina federal district court judge
granted a directed verdict in favor of RJR Tobacco. The trial of this case
continued and the jury rendered a verdict in favor of the remaining defendant,
Brown & Williamson, on February 6, 2001.

     RJR Tobacco has prevailed in all individual smoker cases that have gone to
trial except two. In Whiteley v. Raybestos-Manhattan, Inc., a tobacco-asbestos
synergy case brought in San Francisco Superior Court, the jury found against RJR
Tobacco and Philip Morris on March 20, 2000, and awarded $1.7 million in
compensatory damages. On March 27, 2000, the same jury awarded $20 million in
punitive damages ($10 million against RJR Tobacco and $10 million against Philip
Morris). RJR Tobacco and Philip Morris have filed their notice of appeal, and
RJR Tobacco believes it has valid grounds for appeal. In Jones v. R. J. Reynolds
Tobacco Co., a wrongful death case, a Tampa state court jury found against RJR
Tobacco on October 12, 2000. Although the jury found that RJR Tobacco was
negligent and liable, it refused to find that RJR Tobacco was part of a
conspiracy to defraud. The jury awarded approximately $200,000 in compensatory
damages; however, the jury refused to award punitive damages. On December 28,
2000, the trial judge granted RJR Tobacco's motion for a new trial.

     Juries have found for plaintiffs in five smoking and health cases in which
RJR Tobacco was not a defendant, although, to date, no damages have been paid.
Two of the verdicts have been overturned on appeal, and the other three remain
on appeal. In February 1999, in Henley v. Philip Morris, Inc., a San Francisco
state court jury awarded an individual smoker $1.5 million in compensatory
damages and $50 million in punitive damages. In April 1999, the trial judge
reduced the punitive damages award to $25 million, but otherwise denied Philip
Morris' post-trial motions challenging the verdict. Philip Morris is appealing
the verdict. In Williams v. Philip Morris, Inc., an Oregon state court jury
returned a verdict against Philip Morris in March 1999, in the amount of
$800,000 in actual damages, $21,500 in medical expenses and $79 million in
punitive

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damages. The judge in this case reduced the punitive damages to $32 million.
Philip Morris' appeal is pending. In the third case, Carter v. American Tobacco
Co, the Florida Supreme Court, on November 22, 2000, reversed the ruling (in
favor of Brown & Williamson) by the Florida Second District Court of Appeal, and
reinstated the jury verdict against Brown & Williamson. On January 29, 2001, the
Florida Supreme Court denied Brown & Williamson's request for a rehearing. Brown
& Williamson may appeal to the United States Supreme Court.

     Broin II Cases.  As of February 7, 2001, approximately 3,074 lawsuits,
referred to as the Broin II cases, have been filed, and are still pending, in
Florida, by individual flight attendants, for personal injury as a result of
illness allegedly caused by exposure to secondhand tobacco smoke in airline
cabins. In these lawsuits, filed pursuant to the terms of the settlement of the
Broin v. Philip Morris, Inc. class action, discussed below, each individual
flight attendant will be required to prove that he or she has a disease caused
by exposure to secondhand smoke in airplane cabins.

     On October 5, 2000, Judge Robert Kaye entered an order applicable to all
Broin II cases that the terms of the Broin settlement agreement do not require
the individual Broin II plaintiffs to prove the elements of strict liability,
breach of warranty or negligence. Rather, under this order, they will be
required only to prove that their alleged adverse health effects were actually
caused by environmental tobacco smoke exposure. Although defendants still may
prevail on causation and other theories, RJR Tobacco does not believe the order
is correct under Florida law or that it accurately reflects the intent of the
Broin settlement agreement. Accordingly, defendants appealed Judge Kaye's ruling
to the Third District Court of Appeal on November 3, 2000. Plaintiffs moved to
dismiss the appeal on November 28, 2000. However, on January 12, 2001, the Third
District Court of Appeal denied plaintiffs' motion to dismiss.
Defendants-Appellants' initial brief was filed on January 26, 2001.

     Class-Action Suits.  In May 1996, in an early class-action case, Castano v.
American Tobacco Co., the Fifth Circuit Court of Appeals overturned the
certification of a nationwide class of persons whose claims related to alleged
addiction to tobacco. Since this ruling by the Fifth Circuit, most class-action
suits have sought certification of statewide, rather than nationwide, classes.

     Class-action suits based on claims similar to those asserted in Castano
have been brought against RJR Tobacco, and in some cases RJR, in state or
federal courts in Alabama, Arkansas, California, the District of Columbia,
Florida, Hawaii, Illinois, Indiana, Iowa, Louisiana, Maryland, Massachusetts,
Michigan, Minnesota, Missouri, New Mexico, Nevada, New Jersey, New York, North
Carolina, Ohio, Oklahoma, Pennsylvania, South Carolina, Tennessee, Texas, Utah,
Virginia and West Virginia. In addition, a class action filed in Tennessee seeks
reimbursement of Blue Cross and Blue Shield premiums paid by subscribers
throughout the United States, and class-action suits against RJR Tobacco in
Illinois, Missouri, New Jersey, Ohio and Pennsylvania claim that the marketing
of "light" and "ultralight" cigarettes is deceptive. Plaintiffs have made
similar claims in other lawsuits elsewhere. Other types of class-action suits
also have been filed in additional jurisdictions. Most of these suits assert
claims on behalf of classes of individuals who claim to be addicted, injured, or
at greater risk of injury by the use of tobacco or exposure to environmental
tobacco smoke, or who are the legal survivors of such persons. A number of
unions and other third-party payors have filed health-care cost recovery actions
in the form of class actions. These cases are discussed separately below. Class
certification motions are pending in several state and federal courts.

     Few smoker class-action complaints have been certified, or if certified,
have survived on appeal. All 13 federal courts that have considered the issue,
including two courts of appeals, have rejected class certification in smoker
cases. On November 6, 2000, the United States District Court for the Eastern
District of New York denied certification to a purported class of smokers in
Simon v. Philip Morris, Inc. The class was defined as all persons residing in
the United States, or who were residents at the time of their death, who had a
20-pack-per-year history of smoking, and who had a timely claim as of April 9,
1999 for personal injury or wrongful death arising from lung cancer. Most
recently, on December 29, 2000, in Aksamit v. Brown & Williamson Tobacco Corp.,
the United States District Court for the District of South Carolina denied class
certification to a purported class defined as any and all persons who have been
addicted to, harmed or killed by, tobacco

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products that were designed, tested, manufactured, distributed and/or sold by
any of the defendants within the geographic territory of the State of South
Carolina.

     Similarly, most state courts have refused to certify smoker class actions.
On January 10, 2000, in Taylor v. American Tobacco Co., a Michigan state court
judge denied certification of another smoker class action. On April 10, 2000, a
California state court judge denied certification in Brown v. American Tobacco
Co. On May 16, 2000, in Richardson v. Philip Morris Inc., the highest state
court in Maryland reversed a trial court's decision to certify a class of
individual smokers. On September 19, 2000, in Walls v. American Tobacco Co., an
Oklahoma state court answered a series of state law questions (certified to the
state court by the federal court where the purported class was filed) in such a
way that led the parties to stipulate that the case should not be certified as a
class action in federal court and that the individual plaintiffs would dismiss
their federal court cases without prejudice. The federal court issued an order
on October 19, 2000, refusing to certify the case as a class action, and
dismissed the individual plaintiffs' cases. On December 8, 2000, in Geiger v.
American Tobacco Co., the Appellate Division of the Supreme Court of New York,
Second Judicial Department, affirmed denial of class action status to a
purported class defined as all New York residents, including their heirs,
representatives and estates, who contracted lung and/or throat cancer as a
result of smoking cigarettes. On December 19, 2000, the Court of Common Pleas of
Philadelphia County, Pennsylvania, denied plaintiffs' motion for class
certification in Oliver v. R. J. Reynolds Tobacco Co. Plaintiffs had sought
certification on behalf of residents of Pennsylvania who, on or after March 3,
1992, purchased and smoked light and/or ultralight cigarettes within
Pennsylvania that were manufactured, marketed and/or distributed by defendants.
Finally, on January 30, 2001, in Badillo v. American Tobacco Co., Inc., the
Nevada Supreme Court, in response to questions raised by a federal district
court in Nevada, held that Nevada law does not recognize medical monitoring as a
cause of action. The federal district court will consider this opinion in
determining whether or not to certify the Badillo case (a purported class of
casino workers exposed to environmental tobacco smoke) and several individual
smoker class actions.

     Classes have remained certified thus far in five state court class-action
cases in which RJR Tobacco is a defendant. On November 5, 1998, in Scott v.
American Tobacco Co., a Louisiana state appeals court affirmed the certification
of a medical monitoring and/or smoking cessation class of Louisiana residents
who were smokers on or before May 24, 1996. On February 26, 1999, the Louisiana
Supreme Court denied the defendants' petition for writ of certiorari and/or
review. Trial is scheduled to begin on June 18, 2001. On August 16, 2000, in
Blankenship v. Philip Morris, Inc., a West Virginia state court conditionally
certified (only to the extent of medical monitoring) a class of West Virginia
residents consisting of: (1) all nicotine-dependent persons who are West
Virginia residents who have purchased and smoked cigarettes manufactured,
promoted, marketed, advertised and/or sold by defendants, (2) the estates,
representatives and administrators of West Virginia residents who were or are
nicotine-dependent cigarette smokers, and (3) the spouses, children, relatives
and "significant others" of these West Virginia residents who were or are
nicotine-dependent cigarette smokers as their heirs or survivors. The trial of
this case ended on January 25, 2001, when the judge declared a mistrial.
Argument on decertification of the class, among other things, has been scheduled
for February 19, 2001. On November 30, 2000, in Daniels v. Philip Morris Cos.,
Inc., a San Diego Superior Court judge reversed a prior ruling and, based on a
California statute, certified a class consisting of all persons who, as
California resident minors, smoked one or more cigarettes in California between
April 2, 1994 and December 1, 1999.

     In addition, defendants settled one class-action suit, Broin v. Philip
Morris, Inc., in October 1997. The Florida Court of Appeal denied challenges to
this settlement on March 24, 1999, and subsequently denied motions to
reconsider. On September 7, 1999, the Florida Supreme Court dismissed all
proceedings, and the settlement and judgment became final. The Broin II cases,
discussed above, arose out of the settlement of this case.

     Trial began in July 1998 in Florida state court in Engle v. R. J. Reynolds
Tobacco Co., in which a class consisting of Florida residents, or their
survivors on their behalf, claim to have diseases or medical conditions caused
by their alleged "addiction" to cigarettes. On July 7, 1999, the jury found
against RJR Tobacco and the other cigarette manufacturer defendants in the
initial phase, which included common issues related to certain elements of
liability, general causation and a potential award of or entitlement to punitive
damages.

                                        9
<PAGE>   10

The second phase of the trial, which consisted of the claims of three of the
named class representatives, began on November 1, 1999. On April 7, 2000, the
jury returned a verdict against all defendants. They awarded plaintiff Mary
Farnan $2.85 million, the estate of plaintiff Angie Della Vecchia $4.023 million
and plaintiff Frank Amodeo $5.831 million. The jury also found, however, that
Frank Amodeo knew or should have known of his claim prior to May 5, 1990. The
legal effect of that finding should be to bar his claim based on the applicable
statute of limitations. In the second phase, the trial court also ordered the
jury to determine punitive damages, if any, on a class-wide basis. On July 14,
2000, the jury returned a punitive damages verdict in favor of the "Florida
class" of approximately $145 billion against all the defendants, with
approximately $36.3 billion being assigned to RJR Tobacco. On July 24, 2000, the
defendants, including RJR Tobacco, filed numerous post-verdict motions,
including motions for a new trial and to reduce the amount of the punitive
damages verdict. On November 6, 2000, the trial judge denied the post-trial
motions and entered judgment. On November 7, 2000, RJR Tobacco posted an appeal
bond in the amount of $100 million, pursuant to a Florida statute enacted on May
9, 2000, and initiated the appeals process. RJR Tobacco believes it has numerous
bases for a successful appeal, although it cannot predict the outcome of the
appellate process.

     Although the bond legislation described above is intended to apply to the
Engle case, RJR Tobacco cannot predict the outcome of any possible challenges to
the legislation's validity. In addition, four states, Georgia, Kentucky, North
Carolina and Virginia have enacted legislation that limits the size of the bond
required to stay execution of a punitive damages verdict pending appeal, but
does not affect the underlying verdict.

     Governmental Health-Care Cost Recovery Cases.  In June 1994, the
Mississippi attorney general brought an action, Moore v. American Tobacco Co.,
against various industry members, including RJR Tobacco. This case was brought
on behalf of the state to recover state funds paid for health care and medical
and other assistance to state citizens suffering from diseases and conditions
allegedly related to tobacco use. By making the state the plaintiff in the case
and basing its claims on economic loss rather than personal injury, the state
sought to avoid the defenses otherwise available against an individual
plaintiff. Most other states, through their attorneys general or other state
agencies, sued RJR Tobacco and other U.S. cigarette manufacturers based on
similar theories. The cigarette manufacturer defendants, including RJR Tobacco,
settled the first four of these cases scheduled to come to trial, those of
Mississippi, Florida, Texas and Minnesota, by separate agreements between each
state and those manufacturers in each case.

     On November 23, 1998, the major U.S. cigarette manufacturers, including RJR
Tobacco, entered into the Master Settlement Agreement with attorneys general
representing the remaining 46 states, the District of Columbia, Puerto Rico,
Guam, the Virgin Islands, American Samoa and the Northern Marianas. The MSA
became effective on November 12, 1999, when final approval of the settlement was
achieved in 80% of the settling jurisdictions. As of October 17, 2000, final
approval had been achieved in all settling jurisdictions. The MSA settled all
the health-care cost recovery actions brought by, or on behalf of, the settling
jurisdictions and contains releases of various additional present and future
claims.

     In the settling jurisdictions, the MSA released RJR Tobacco, its
indemnitees and RJR from: (1) all claims of the settling states and their
respective political subdivisions and other recipients of state health-care
funds, relating to past conduct arising out of the use, sale, distribution,
manufacture, development, advertising, marketing or health effects of, the
exposure to, or research, statements or warnings about, tobacco products and (2)
all monetary claims relating to future conduct arising out of the use of, or
exposure to, tobacco products that have been manufactured in the ordinary course
of business.

          - Monetary Liabilities.  In addition to the payments made in 1998,
     1999 and 2000, the MSA calls for three annual initial industry payments
     starting in 2001 of up to approximately $2.5 billion, $2.6 billion and $2.7
     billion, respectively. It also requires perpetual annual industry payments,
     increasing from the current $5 billion to $8 billion in 2004, and further
     to $9 billion in 2018 and thereafter. Ten additional payments of $861
     million are due annually beginning in April 2008. All payments are to be
     allocated among the companies on the basis of relative market share and
     most are subject to adjustments for changes in sales volume units,
     inflation and other factors. Accordingly, RJR Tobacco records its
     allocation of charges in cost of goods sold as products are shipped.

                                       10
<PAGE>   11

          The tobacco companies also agreed to (1) make a one-time payment of
     $50 million on March 31, 1999, to establish a fund for enforcement of the
     MSA and law relating to tobacco products and (2) fund activities of the
     National Association of Attorneys General relating to the MSA at the cost
     of $150,000 per year for ten years.

          In addition, the MSA calls for the creation of a national foundation
     that would establish public education and other programs, and conduct or
     sponsor research, to reduce youth smoking, and to understand, and educate
     the public about, diseases associated with tobacco product use. The tobacco
     companies agreed to fund the foundation with (1) ten annual payments of $25
     million, which began on March 31, 1999, (2) further payments of $250
     million, which began on March 31, 1999, and $300 million annually
     thereafter for four years, and (3) additional annual payments of $300
     million beginning in 2004 if, during the year preceding the year when
     payment is due, participating manufacturers collectively accounted for at
     least 99.05% of the cigarette market. Each of these payments is to be
     allocated among the companies on the basis of relative market share. Other
     than the $25 million annual payments and the $250 million payment made on
     March 31, 1999, the payments for the foundation are subject to adjustments
     for changes in sales volume units, inflation and other factors.

          The manufacturers also agreed to pay the litigation costs, including
     government attorneys' fees, of the offices of the attorneys general
     relating to the settled cases and, subject to certain quarterly and annual
     payment caps, the costs and fees of outside counsel to the jurisdictions.
     Outside counsel fees have been determined either by arbitration or in
     accordance with a negotiated fee procedure. Awards determined by
     arbitration will be paid subject to an aggregate annual cap on arbitrated
     attorneys' fees for all these and certain other settled cases of $500
     million. Fees set by the negotiated fee procedure are subject to an annual
     cap of $250 million, and will not exceed a total of $1.25 billion. As of
     February 7, 2001, awards determined by arbitration totaled $11.9 billion,
     and awards determined in accordance with a negotiated fee procedure totaled
     approximately $626 million. Reimbursement of costs is capped at $150
     million for litigation costs, including government attorneys' fees, of the
     attorneys' general offices and at $75 million annually for outside
     counsels' costs. Payments for attorneys' fees and costs are to be allocated
     on a market-share basis.

          - Growers' Trust.  As part of the MSA, the tobacco companies agreed to
     work with U.S. tobacco growers to address the possible adverse economic
     impact of the MSA on growers. As a result, RJR Tobacco and the three other
     major manufacturers agreed to participate in funding a $5.2 billion trust
     fund to be administered by a trustee, in conjunction with a certification
     entity from each of the tobacco growing states. The trust agreement
     provides for a schedule of aggregate annual payments, subject to various
     adjustments, that are payable in quarterly installments each year from 1999
     through 2010. The aggregate annual payment by all participating
     manufacturers is adjusted each year for inflation and any change in the
     total domestic cigarette volume of all participating manufacturers. In
     general, the annual payment by each participating manufacturer, including
     RJR Tobacco, is based on each manufacturer's relative market share of total
     domestic cigarette shipments during the preceding calendar year. Each
     manufacturer's annual payment is also subject to a tax offset adjustment.

          - Other MSA Obligations.  The MSA also contains provisions restricting
     the marketing of cigarettes. Among these are restrictions or prohibitions
     on the use of cartoon characters, brand name sponsorships, brand name
     non-tobacco products, outdoor and transit brand advertising, payments for
     product placement, free sampling and lobbying. The MSA also required the
     dissolution of three industry-sponsored research and advocacy
     organizations.

     The cash payments made by RJR Tobacco under the MSA and other existing
settlement agreements were $2.2 billion, $1.6 billion and $.8 billion in 2000,
1999 and 1998, respectively. RJR Tobacco estimates these payments in 2001 and
future years will exceed $2 billion per year. However, these payments will be
subject to adjustments based upon, among other things, the volume of cigarettes
sold by RJR Tobacco, RJR Tobacco's market share and inflation.

     On April 20, 1999, the Canadian Province of British Columbia brought a case
in British Columbia Provincial Court, similar to the U.S. attorneys' general
cases, against RJR Tobacco and certain other
                                       11
<PAGE>   12

Canadian and U.S. tobacco companies and their parent companies, including RJR.
This lawsuit relied heavily upon special legislation enacted in British Columbia
that was separately challenged by various Canadian tobacco companies. An
agreement was reached with the government in British Columbia to litigate the
separate constitutional challenges prior to the health-care cost recovery action
itself. On February 21, 2000, the British Columbia Supreme Court declared the
Cost Recovery Act unconstitutional and dismissed the action. That decision was
not appealed by the government.

     On September 22, 1999, the U.S. Department of Justice brought an action in
the United States District Court for the District of Columbia against various
industry members, including RJR Tobacco. The government seeks to recover federal
funds expended in providing health care to smokers who have developed diseases
and injuries alleged to be smoking-related, and, in addition, seeks, pursuant to
the federal RICO statute, disgorgement of profits the government contends were
earned as a consequence of a RICO racketeering "enterprise." On December 27,
1999, defendants filed a motion to dismiss challenging all counts included in
the action brought by the DOJ. On June 6, 2000, the trial court heard oral
argument on the motion. On September 28, 2000, federal court Judge Gladys
Kessler of the United States District Court for the District of Columbia granted
the non-Liggett defendants' motion to dismiss the following counts of
plaintiff's complaint: (1) Medical Care Recovery Act claim, and (2) Medicare
Secondary Payer claim. The court, however, denied the motion with respect to the
RICO claims. On October 13, 2000, the United States filed a motion to limit
Judge Kessler's September 28, 2000 order to claims for payments under Medicare
and the Federal Employee Health Benefits Act.

     Union Cases.  Although the MSA settled some of the most potentially
burdensome health-care cost recovery actions, many other such cases have been
brought by other types of plaintiffs. As of February 7, 2001, approximately 21
lawsuits by union trust funds against cigarette manufacturers and others are
pending. The funds seek recovery of payments made by them for medical expenses
of their participant union members and their dependents allegedly injured by
cigarettes. The claims in these cases are almost identical, and several of these
cases purport to be class actions on behalf of all union trust funds in a
particular state.

     The defendants in these actions argue, among other things, that one who
pays an injured person's medical expenses is legally too remote to maintain an
action against the person allegedly responsible for the injury. In addition,
they argue that the traditional subrogation remedy cannot be supplanted by a
direct right of action for the trust fund that strips defendants of the defenses
they would ordinarily have against the allegedly injured individual.

     On March 29, 1999, in the first of these cases to be considered by a
federal court of appeals, Steamfitters Local Union 420 v. Philip Morris, Inc.,
the U.S. Court of Appeals for the Third Circuit affirmed a district court ruling
dismissing a case on remoteness grounds. Since then, the U.S. Courts of Appeals
for the Second, Third, Fifth, Seventh, Eighth, Ninth and Eleventh Circuits have
all ruled in favor of the industry in similar union cases. On January 10, 2000,
the United States Supreme Court denied petitions for certiorari filed in cases
from the Second, Third and Ninth Circuits. On August 22, 2000, the Eleventh
Circuit ruled that the district court did not err in dismissing the plaintiff's
complaint and in denying the plaintiff's leave to amend the complaint in United
Food and Commercial Workers Unions and Employers Health and Welfare Fund v.
Philip Morris, Inc. On September 1, 2000, in Lyons v. Philip Morris, Inc., the
Eighth Circuit affirmed the trial court's dismissal.

     Numerous trial court judges also have dismissed union trust fund cases on
remoteness grounds. Nonetheless, some union, or other third-party payor, cases
have survived motions to dismiss and may proceed to trial. On August 2, 1999, a
federal district court in New York denied defendants' motions to dismiss in two
separate cases heard together, National Asbestos Workers Medical Fund v. Philip
Morris, Inc. and Blue Cross and Blue Shield of New Jersey, Inc. v. Philip
Morris, Inc. On December 21, 1999, the federal district court in the District of
Columbia denied defendants' motions to dismiss in three cases consolidated for
pretrial purposes: Service Employees International Union Health and Welfare Fund
v. Philip Morris, Inc., S.E.I.U. Local 74 Welfare Fund v. Philip Morris, Inc.
and Holland v. Philip Morris, Inc. The latter set of cases is on appeal to the
United States Court of Appeals for the District of Columbia.

                                       12
<PAGE>   13

     On March 3, 2000, a New York state court granted motions to dismiss ten
union cases, Eastern States Health & Welfare Fund v. Philip Morris, Inc.,
brought by 14 union trust funds seeking to recover money paid for medical bills
incurred by their participants and beneficiaries who suffer from alleged
tobacco-caused diseases. This group of cases is on appeal to the Appellate
Division of the Supreme Court of New York. On September 26, 2000, in
Steamfitters Local Union No. 614 Health and Welfare Fund v. Philip Morris, Inc.,
the Tennessee Court of Appeals affirmed the trial court's dismissal of the
antitrust claim and found the remaining claims in the plaintiffs' complaint were
too remote to permit recovery.

     The first and only union case to go to trial to date was Iron Workers Local
No. 17 v. Philip Morris, Inc., which was tried in federal court in Ohio. On
March 18, 1999, the jury returned a unanimous verdict for the defendants,
including RJR Tobacco. The plaintiffs dismissed their appeal of the verdict.

     Other Health-Care Cost Recovery and Aggregated Claims Plaintiffs. Native
American tribes have filed similar cases, out of which four remain pending in
tribal courts, one in federal court in each of New Mexico and Texas and one
class action in San Diego Superior Court. On December 8, 2000, in Utu Utu Gwaitu
Paiute Tribe v. Philip Morris, Inc., the San Diego Superior Court denied
plaintiffs' motion for class certification. On January 10, 2001, plaintiffs
filed a request for dismissal with the court, which has yet to be approved.
Trial in this matter had been scheduled to begin June 4, 2001. On July 11, 2000,
in Lower Brule Sioux Tribe v. American Tobacco Co., the Lower Brule Sioux Tribe
voluntarily dismissed its suit in tribal court. On November 12, 1999, in Table
Bluff Reservation v. Philip Morris, Inc., a federal district court dismissed the
plaintiffs' lawsuit. Plaintiffs have appealed this ruling to the United States
Court of Appeals for the Ninth Circuit.

     Groups of health-care insurers, as well as a private entity that purported
to self-insure its employee health-care programs, have also advanced claims
similar to those found in the union health-care cost recovery actions. Two of
these "insurer" cases, Williams & Drake v. American Tobacco Co. and Regence
Blueshield v. Philip Morris, Inc., were dismissed in their entirety on
remoteness grounds by federal district courts in Pennsylvania and Washington.
These cases are on appeal to the Third and Ninth Circuits, respectively. In a
third case, Group Health Plan, Inc. v. Philip Morris, Inc., a federal district
judge in Minnesota dismissed all claims, except a state antitrust claim and a
state conspiracy claim. The federal court certified to the Minnesota Supreme
Court the question of whether these two claims could be pursued under Minnesota
law by Group Health Plan. On January 11, 2001, the Minnesota Supreme Court ruled
that the plaintiff can pursue these claims.

     Other cost recovery suits have been brought by, among others, foreign
countries, local governmental jurisdictions, taxpayers on behalf of a government
jurisdiction, a university and hospitals. On November 4, 1999, in Allegheny
General Hospital v. Philip Morris, Inc., the U.S. District Court for the Western
District of Pennsylvania dismissed a third-party payor lawsuit filed against the
tobacco industry by a number of hospital and health-care facilities. Plaintiff
appealed this ruling to the United States Court of Appeals for the Third
Circuit, which affirmed the trial court's dismissal on October 6, 2000. On
December 14, 1999, a federal district court in Washington dismissed a similar
case, Association of Washington Public Hospital Districts v. Philip Morris, Inc.
Plaintiffs have appealed this ruling to the United States Court of Appeals for
the Ninth Circuit. On May 30, 2000, in A.O. Fox Memorial Hospital v. American
Tobacco Co., Inc., a group of approximately 175 hospitals filed suit against the
tobacco industry seeking repayment from cigarette companies for costs expended
to treat smoking-related illnesses. Plaintiffs seek at least $3.6 billion in
damages. On August 7, 2000, a federal district court in Washington, D.C.
dismissed an international health-care cost recovery action entitled Ontario v.
Imperial Tobacco, Ltd. Plaintiffs are appealing the dismissal to the United
States Court of Appeals for the District of Columbia.

     A number of foreign countries have filed suit in state and federal courts
in the United States against RJR Tobacco and other tobacco industry defendants
to recover funds for health care and medical and other assistance paid by those
foreign governments to their citizens. Of the 18 cases currently pending, eight
are pending in state court and ten are pending in federal court. Six federal
court cases have been transferred by the Panel on Multi-District Litigation to
the District Court of the District of Columbia. Other foreign governments and
entities have stated that they are considering filing such actions in the United
States. In addition, the Republic of the Marshall Islands has brought a
health-care cost recovery lawsuit in the Marshall

                                       13
<PAGE>   14

Islands against RJR Tobacco and other cigarette manufacturers. Pursuant to the
terms of the 1999 sale of RJR's international tobacco business, Japan Tobacco
Inc. assumed RJR Tobacco's liability, if any, in these cases.

     On January 5, 2000, a San Diego Superior Court judge dismissed certain
claims in two lawsuits: California v. Philip Morris, Inc. and California v.
Brown & Williamson Tobacco Corp. These lawsuits, brought by the cities of Los
Angeles and San Jose, on behalf of the people of California, claimed that the
tobacco industry violated California's Proposition 65 and several California
state laws by failing to warn nonsmokers about the State of California's
conclusions concerning the dangers of environmental tobacco smoke. The judge
found that the industry had not violated Proposition 65 and dismissed those
claims. The judge did not dismiss certain other California state law claims. The
parties in these two actions agreed to settle the remaining claims. On November
20, 2000, the court approved the settlements and entered final judgments.

     Finally, ten lawsuits are pending against RJR Tobacco in which asbestos
companies and/or asbestos-related trust funds allege that they "overpaid" claims
brought against them to the extent that tobacco use, not asbestos exposure, was
the cause of the alleged personal injuries for which they paid compensation.
Falise v. American Tobacco Co. was dismissed by the United States District Court
for the Eastern District of New York on November 2, 1999, due to a lack of
subject matter jurisdiction. This case was refiled on November 11, 1999. Trial
began on November 27, 2000. On January 22, 2001, the judge declared a mistrial.
No date has yet been set for the re-trial of this case. Other such cases pending
in New York, Mississippi and California might go to trial in 2001.

     Antitrust Cases.  Approximately 52 lawsuits have been filed by tobacco
wholesalers, or indirect purchasers, against United States cigarette
manufacturers, including RJR Tobacco, and its parent company, RJR, alleging that
cigarette manufacturers combined and conspired to set the price of cigarettes,
in violation of antitrust statutes and various state unfair business practices
statutes. Approximately 39 of these cases remain pending -- 8 in federal court
and 31 in state courts. In all cases, plaintiffs are asking the court to certify
the lawsuits as class actions, and to allow the respective plaintiffs to pursue
the lawsuits as representatives of other persons in the United States, and
throughout the world, that purchased cigarettes directly from one or more of the
defendants. The federal cases have been consolidated and sent by the Judicial
Panel on Multidistrict Litigation for pretrial in the United States District
Court for the Northern District of Georgia. On November 30, 2000, the court
dismissed plaintiffs' claims of fraudulent concealment, claims concerning
conduct outside the United States, and allegations relating to non-price
conduct. On January 12, 2001, plaintiffs moved to replead their fraudulent
concealment allegations. On January 23, 2001, the federal court certified a
class of direct-purchaser plaintiffs.

     On March 2, 2000, Liggett Group Inc. filed an antitrust action against RJR
Tobacco in the U.S. District Court for the District of New Jersey. Subsequently,
the court granted RJR Tobacco's motion to transfer this action to the United
States District Court for the Middle District of North Carolina. The suit
alleges that RJR Tobacco's Every-Day-Low-Price merchandising program, which
provides consumer discounts in retail establishments that choose to offer RJR
Tobacco products as their lowest-priced cigarettes, is a violation of the
Sherman Antitrust Act and New Jersey antitrust laws. RJR Tobacco believes that
its program is pro-competitive and that the court will find Liggett's
allegations to be without merit.

     On July 30, 1999, Cigarettes Cheaper!, a retailer, filed an antitrust
counterclaim against RJR Tobacco in a gray market trademark suit originally
brought by RJR Tobacco in the United States District Court for the Northern
District of Illinois. Cigarettes Cheaper! alleges that it was denied promotional
resources in violation of the Robinson-Patman Act. The district court declined
to dismiss the counterclaim. Discovery is ongoing. On January 19, 2001,
Cigarettes Cheaper! moved to amend its counterclaim to include a violation of
the Sherman Act sec. 1, claiming that RJR Tobacco conspired with other retailers
to deny promotions to Cigarettes Cheaper!.

     On May 10, 2000, the Customer Company, a retailer affiliated with
Cigarettes Cheaper!, filed a substantially similar antitrust claim against RJR
Tobacco in the United States District Court for the Northern District of
California. Discovery is ongoing. Trial is scheduled to begin on October 29,
2001 in Oakland, California.
                                       14
<PAGE>   15

     Tobacco Growers' Case.  On February 16, 2000, a class-action complaint,
Deloach v. Philip Morris Cos., Inc., was brought against RJR Tobacco, other
cigarette manufacturers and others, in the United States District Court for the
District of Columbia on behalf of a putative class of all tobacco growers and
tobacco allotment holders (some 5,930 of which are actually named in the first
amended complaint). Plaintiffs' current theory, as reflected in their second
amended complaint (which was filed on September 2, 2000), is that the defendants
(Philip Morris, Inc., RJR Tobacco, Brown & Williamson Tobacco Corp. and
Lorillard Tobacco Co.) engaged in bid-rigging of American tobacco auctions (both
burley and flue-cured) beginning at least by 1996 and continuing to present.
Defendants' actions are alleged to have held the auction prices of tobacco at
artificially low prices resulting in damage to tobacco growers and allotment
holders. In addition, plaintiffs allege that defendants have engaged in a
conspiracy to force the elimination or destruction of the federal government's
tobacco quota and price support program through an alleged illegal group
boycott. On October 9, 2000, defendants filed a motion to dismiss the second
amended complaint and a motion to transfer venue to the United States District
Court for the Middle District of North Carolina. On November 30, 2000, the court
granted the motion to transfer the case. On December 20, 2000, plaintiffs moved
to amend the complaint to add leaf-buying companies as defendants.

     Scheduled Trials.  RJR Tobacco is a defendant in 11 non-Broin II cases
currently scheduled for trial in the first half of 2001. These cases include
five individual smoking and health cases, four asbestos contribution cases, one
health-care cost recovery case and one medical monitoring class action.
Additionally, several Broin II cases are scheduled for trial during this period.

     Although trial schedules are subject to change and many cases are dismissed
before trial, it is likely that there will be an increased number of tobacco
cases, some involving claims for possibly billions of dollars, against RJR
Tobacco and RJR coming to trial over the next year.

     Other Developments.  RJR Tobacco is aware of a grand jury investigation
being conducted in North Carolina that relates to the cigarette business of
certain of its former affiliates. In connection with this investigation, RJR
Tobacco responded to document subpoenas dated July 7, 1999 and June 1, 2000,
respectively.

     On December 22, 1998, Northern Brands International, Inc. entered into a
plea agreement with the United States Attorney for the Northern District of New
York. Northern Brands is a now-inactive tobacco subsidiary that was part of the
business of R.J. Reynolds International B.V., a former Netherlands subsidiary of
RJR Tobacco which was managed by a former affiliate, RJR-MacDonald, Inc. On
May 12, 1999, RJR-MacDonald, Inc. was sold to Japan Tobacco Inc. and
subsequently changed its name to JTI-MacDonald, Inc. Northern Brands was charged
with aiding and abetting certain customers who brought merchandise into the
United States "by means of false and fraudulent practices . . . ."
JTI-MacDonald, Inc., Japan Tobacco's international operating company in Canada,
is cooperating with an investigation now being conducted by the Royal Canadian
Mounted Police relating to the same events that gave rise to the Northern Brands
investigation.

     On December 21, 1999, the government of Canada filed a lawsuit in the
United States District Court for the Northern District of New York against RJR
Tobacco, RJR, several currently and formerly related companies, including
Northern Brands, and the Canadian Tobacco Manufacturers Council. The lawsuit
alleges that, beginning in 1991, the defendants conspired with known
distributors and smugglers to illegally import into Canada tobacco products
originally earmarked for export from Canada, in a fashion that avoided the
imposition of certain excise and retail taxes and duty payments. On June 30,
2000, this case was dismissed by the United States District Court for the
Northern District of New York. Plaintiff appealed the dismissal to the United
States Court of Appeals for the Second Circuit on July 28, 2000; no ruling has
been issued. Although the international tobacco business was sold, RJR Tobacco
retained certain liabilities relating to the events disclosed above.

     On or about October 30, 1998, a boat manufacturer, American Marine
Holdings, Inc., filed suit against RJR Tobacco claiming that one of its boats
was not properly identified in RJR Tobacco cigarette advertising. The plaintiff
claims, among other things, violations of the Lanham Act and breach of an
alleged oral contract and seeks in excess of $20 million in damages. Trial is
scheduled for April 2, 2001.
                                       15
<PAGE>   16

     For further discussion of litigation and legal proceedings pending against
RJR, its affiliates, including RJR Tobacco, or indemnitees, see
"-- Environmental Matters" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Governmental Activity" in Item
7. For more detailed information about the class action and other aggregated
claims suits pending against RJR, its affiliates, including RJR Tobacco, or
indemnitees, see Exhibit 99.1 to this report.
                             ---------------------

     Litigation is subject to many uncertainties, and it is possible that some
of the tobacco-related legal actions, proceedings or claims could be decided
against RJR Tobacco or its affiliates, including RJR, or indemnitees.
Determinations of liability or adverse rulings against other cigarette
manufacturers that are defendants in similar actions, even if such rulings are
not final, could adversely affect the litigation against RJR Tobacco or its
affiliates or indemnitees and could encourage an increase in the number of such
claims. A number of political, legislative, regulatory and other developments
relating to the tobacco industry and cigarette smoking have received wide media
attention. These developments may negatively affect the outcomes of
tobacco-related legal actions and encourage the commencement of additional
similar litigation.

     Although it is impossible to predict the outcome of such events on pending
litigation and the rate at which new lawsuits are filed against RJR Tobacco and
RJR, a significant increase in litigation and/or in adverse outcomes for tobacco
defendants could have an adverse effect on either or both of these entities. RJR
Tobacco and RJR each believe that they have a number of valid defenses to any of
those actions and intend to defend those actions vigorously.

     RJR believes that, notwithstanding the quality of defenses available to it
and RJR Tobacco in litigation matters, it is possible that the results of
operations or cash flows of RJR in particular quarterly or annual periods or
RJR's financial condition could be materially affected by the ultimate outcome
of certain pending litigation matters, including bonding and litigation costs.
RJR's management is unable to predict the outcome of the litigation or to derive
a meaningful estimate of the amount or range of any possible loss in any
particular quarterly or annual period or in the aggregate.

ENVIRONMENTAL MATTERS

     RJR and its subsidiaries are subject to federal, state and local
environmental laws and regulations concerning the discharge, storage, handling
and disposal of hazardous or toxic substances. Such laws and regulations provide
for significant fines, penalties and liabilities, sometimes without regard to
whether the owner or operator of the property knew of, or was responsible for,
the release or presence of hazardous or toxic substances. In addition, third
parties may make claims against owners or operators of properties for personal
injuries and property damage associated with releases of hazardous or toxic
substances. In the past, RJR Tobacco has been named a potentially responsible
party with third parties under the Comprehensive Environmental Response,
Compensation and Liability Act with respect to several superfund sites. Finally,
regulations promulgated by the U.S. Environmental Protection Agency and other
governmental agencies under various statutes have resulted in, and likely will
continue to result in, substantial expenditures for pollution control, waste
treatment, plant modification and similar activities.

     RJR has been named in an insurance coverage suit brought by another company
named as a potentially responsible party under CERCLA with respect to a
superfund site in Hawaii at which a former subsidiary of RJR had operations. In
this lawsuit, Del Monte Fresh Produce v. Fireman's Fund Insurance, filed August
13, 1997 in the First Circuit Court of the State of Hawaii, the plaintiff seeks
declaratory judgment that it is entitled to insurance coverage for the site or,
in the alternative, that RJR is obligated to indemnify the plaintiff under the
terms of the agreement by which RJR sold that company in 1989. The Fireman's
Fund Insurance Company has filed a motion for summary judgment that has not yet
been heard.

     Del Monte Corporation has been named a defendant in two lawsuits related to
the same Hawaii superfund site, Board of Water Supply of the City and County of
Honolulu v. Shell Oil Company and Akee v. The Dow Chemical Co., filed in the
First Circuit Court of the State of Hawaii on September 27, 1999, and October 7,
1999, respectively. Also, Del Monte Corporation has received a demand for
indemnity from an entity that was a chemical supplier to Del Monte Corporation
and is named a defendant in one of these

                                       16
<PAGE>   17

lawsuits. Del Monte Corporation has sought indemnity from RJR under the terms of
the agreement by which RJR sold Del Monte Corporation in 1989. In connection
with any liability RJR may incur arising out of these claims, the buyers of the
Del Monte fresh fruit business are obligated to indemnify RJR under the terms of
the agreement by which RJR sold the Del Monte fresh fruit business in 1989. RJR
has provided notice of these claims to the buyers, and their successors, of the
Del Monte fresh fruit business and has asserted its right to be indemnified by
the buyers for any liability arising out of such claims.

     RJR Tobacco has been notified by the EPA of its potential liability under
CERCLA for a superfund site in Greer, South Carolina. The notice and demand for
reimbursement of costs incurred by the EPA were sent to a group of companies
previously involved as potentially responsible parties in another superfund
site, which includes RJR Tobacco. The EPA alleges that some waste from the
cleanup of the other site was transported to the site in question. RJR Tobacco
has executed a tolling agreement with the EPA. This tolling agreement provides
for entry into good faith negotiations with the EPA, and is not an admission of
fact or liability. It also should have no impact on any defense RJR Tobacco may
assert, other than a defense based on the running of the statute of limitations.
This matter is in its preliminary stage, as information is still being gathered
from other potentially responsible parties recently notified by the EPA.

     In December 1998, the EPA proposed regulations that would have imposed
restrictions on RJR Tobacco's use of certain fumigants used to protect stores of
tobacco from agricultural pests. Those proposed regulations would have required
RJR Tobacco to make significant expenditures to comply with the EPA regulations,
or risk the loss of substantial stores of tobacco to agricultural pests. The EPA
finalized approval of new regulations for use of these fumigants in November
2000. RJR Tobacco will be able to continue fumigation of stored tobacco under
new label conditions. Although some future expenditures may be required to
comply with the EPA regulations, RJR Tobacco does not expect that those
expenditures will be significant.

     RJR and its subsidiaries have been engaged in a continuing program to
assure compliance with federal, state and local environmental laws and
regulations. Although it is difficult to identify precisely the portion of
capital expenditures or other costs attributable to compliance with
environmental laws and regulations and to estimate the cost of resolving these
CERCLA matters, RJR does not expect such expenditures or other costs to have a
material adverse effect on the business, results of operations or financial
condition of RJR or its subsidiaries.

EMPLOYEES

     At December 31, 2000, RJR and its subsidiaries had approximately 8,100
employees and 1,000 part-time employees. None of these employees is unionized.
RJR Tobacco believes that it maintains good relations with its employees. In
January 2001, RJR Tobacco was included in Fortune magazine's annual list of the
"100 Best Companies to Work For."

ITEM 2. PROPERTIES

     RJR Tobacco owns two buildings in downtown Winston-Salem, North Carolina,
in which RJR's executive offices are located. For information about RJR
Tobacco's operating facilities see "Business -- Manufacturing" and
"Business -- Research and Development" in Item 1.

ITEM 3. LEGAL PROCEEDINGS

     Various legal actions, proceedings and claims, including legal actions
claiming that lung cancer and other diseases, as well as addiction, have
resulted from the use of, or exposure to, RJR Tobacco's products, are pending or
may be instituted against RJR or its affiliates, including RJR Tobacco, or
indemnitees. For information about litigation and legal proceedings pending
against RJR or its affiliates, including RJR Tobacco, or indemnitees, see
"Business -- Litigation Affecting the Cigarette Industry" and "Business --
Environmental Matters" in Item 1; "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Governmental Activity" in Item
7; note 14 to the consolidated financial statements; and Exhibit 99.1 to this
report. A copy of Exhibit 99.1 will be provided free of charge upon request by
writing

                                       17
<PAGE>   18

to the Corporate Secretary, R.J. Reynolds Tobacco Holdings, Inc., P.O. Box 2866,
401 N. Main Street, Winston-Salem, NC 27402-2866, or by phoning 336-741-5162.

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

     None.

EXECUTIVE OFFICERS AND CERTAIN SIGNIFICANT EMPLOYEES OF THE REGISTRANT

     The executive officers and certain significant employees of RJR and RJR
Tobacco are:

     Andrew J. Schindler.  Mr. Schindler, 56, has served as President and Chief
Executive Officer of RJR Tobacco since 1995 and of RJR since June 14, 1999. He
has served as Director of RJR Tobacco since 1989, and as Chairman of the Board
of RJR and RJR Tobacco since July 2, 1999. Mr. Schindler joined RJR in 1974. He
became Senior Vice President -- Operations of RJR Tobacco in June 1989 and was
elected Executive Vice President -- Operations of RJR Tobacco in 1991. In May of
1994, Mr. Schindler became President and Chief Operating Officer of RJR Tobacco.
He is a member of the North Carolina School of the Arts Foundation Board, the
Wake Forest University Baptist Medical Center Board of Visitors, the board of
trustees of the R. J. Reynolds Foundation and the boards of directors of
Winston-Salem Business, Inc. and the Winston-Salem Alliance. Mr. Schindler is
Vice Chairman of !dealliance (formerly the North Carolina Emerging Technology
Alliance).

     Thomas R. Adams.  Mr. Adams, 50, has been Senior Vice President and
Controller of RJR and RJR Tobacco since June 14, 1999. From 1985 until 1999, he
was Partner at the accounting firm of Deloitte & Touche LLP.

     Lynn J. Beasley.  Ms. Beasley, 43, has served as Executive Vice
President -- Marketing of RJR Tobacco since 1997. Ms. Beasley joined RJR Tobacco
in 1982 as a marketing assistant. After holding a number of positions at RJR
Tobacco, she became Senior Vice President of the Winston/Camel business unit in
1993. From 1995 until 1997, she was Senior Vice President of Brand Marketing for
WINSTON, CAMEL and SALEM. Ms. Beasley is a member of the Senior Services Board
and the Tanglewood Park Foundation Board.

     Charles A. Blixt.  Mr. Blixt, 49, has been Executive Vice President,
General Counsel and Director of RJR Tobacco since 1995 and Executive Vice
President, General Counsel and Assistant Secretary of RJR since June 14, 1999.
He joined RJR Tobacco as Associate Counsel -- Litigation in 1985. Mr. Blixt
serves on the Board of Visitors of Salem College and Academy and the Board of
Visitors of Wake Forest University School of Law.

     McDara P. Folan, III.  Mr. Folan, 42, joined RJR in June 1999 as Vice
President, Deputy General Counsel and Secretary. He also was Vice President,
Deputy General Council and Secretary of RJR Tobacco from June 1999 to March
2000, and currently serves as Assistant Secretary of RJR Tobacco. From 1992
until 1999, Mr. Folan served as Vice President, Secretary and General Counsel
for Allen Telecom Inc., a manufacturer and distributor of wireless
communications equipment, in Cleveland, Ohio.

     Robert R. Gordon, Jr.  Mr. Gordon, 56, has been Executive Vice
President -- Human Resources of RJR Tobacco since 1994 and of RJR since July 2,
1999, and Director of RJR Tobacco since 1991. He joined RJR Tobacco in 1967 and
became Vice President of Personnel in 1984. In 1989, he was promoted to Senior
Vice President of Personnel of RJR Tobacco. Mr. Gordon also is Chairman of the
board of trustees of the Triad North Carolina Region of Novant Health, Inc., a
non-profit system of community-based healthcare providers and inpatient
hospitals.

     Lynn L. Lane.  In June 1999, Ms. Lane, 49, rejoined RJR as Senior Vice
President and Treasurer and was named Senior Vice President and Treasurer of RJR
Tobacco. She joined RJR in 1973 and was promoted to Vice President and Assistant
Treasurer of RJR in 1991. In 1995, she was named Vice President and Treasurer of
R.J. Reynolds Tobacco Worldwide. From 1996 until 1999, Ms. Lane was Vice
President -- Treasurer and Investor Relations of Burlington Industries, a
manufacturer and distributor of fabrics and other

                                       18
<PAGE>   19

textile products. She also serves on the boards of trustees of the R. J.
Reynolds Foundation and Greensboro College and the East Carolina University
Board of Visitors and is Chair-Elect of the East Carolina University Foundation
Board.

     Kenneth J. Lapiejko.  Mr. Lapiejko, 52, has served as Executive Vice
President and Chief Financial Officer of RJR Tobacco since June 15, 1999 and of
RJR since June 14, 1999. He has been Director of RJR Tobacco since 1996. From
1995 until 1999, he served as Senior Vice President, Chief Financial Officer and
Treasurer of RJR Tobacco. Mr. Lapiejko joined R.J. Reynolds Tobacco
International as a senior financial analyst in 1977. After holding a number of
positions with RJR Tobacco, in 1991 he was promoted to Vice President of Finance
and Accounting.

     James V. Maguire.  In July 1999, Mr. Maguire, 49, was promoted to Executive
Vice President -- Sales of RJR Tobacco after serving as Senior Vice
President -- Sales of RJR Tobacco since 1994. He joined RJR Tobacco in 1973 as a
sales representative and after holding a number of positions at RJR Tobacco and
RJR, he became Vice President of Sales and Marketing Development of RJR Tobacco
in 1993.

     Tommy J. Payne.  Mr. Payne, 43, assumed his current positions as Executive
Vice President -- External Relations of RJR Tobacco and of RJR in July 1999,
after serving as Senior Vice President -- External Relations of RJR Tobacco
since 1998 and of RJR since June 1999. He joined RJR in 1988 and was promoted to
Director of Federal Government Affairs in 1995. From 1995 until 1998, he was
Vice President -- Federal Government Affairs of RJR Tobacco in Washington, D.C.
Mr. Payne serves on the boards of trustees of Winston-Salem State University,
the Southeast Center for Contemporary Art, the North Carolina Community Colleges
Foundation and the R. J. Reynolds Foundation and the East Carolina University
Board of Visitors.

     David E. Townsend.  In October 2000, Dr. Townsend, 53, was promoted to
Executive Vice President -- Research and Development of RJR Tobacco after
serving as Vice President of the Research and Development Product Development
and Assessment Group of RJR Tobacco since 1997. He joined RJR Tobacco in 1977
and, after holding a number of positions at RJR Tobacco, was promoted to Senior
Principal Scientist of RJR Tobacco in 1995, and to Director of Product
Development and Assessment of RJR Tobacco in 1996.

     James H. Wilson.  In July 1999, Mr. Wilson, 58, was promoted to Executive
Vice President -- Operations of RJR Tobacco after serving as Senior Vice
President -- Operations of RJR Tobacco since 1994 and Director of RJR Tobacco
since 1997. He joined RJR Tobacco in 1962 and was promoted to Vice President of
Manufacturing of RJR Tobacco in 1991.

                                       19
<PAGE>   20

                                    PART II

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

     RJR's common stock, par value $.01 per share, is listed on the NYSE as RJR
and began trading on June 15, 1999. On January 31, 2001, there were
approximately 38,000 holders of record of RJR's common stock. Stockholders whose
shares are held of record by a broker or clearing agency are not included in
this amount; however, each of those brokers or clearing agencies is included as
one holder of record. The common stock closing price on January 31, 2001 was
$52.95.

     The high and low sales prices per share for the common stock on the NYSE
Composite Tape, as reported by the NYSE, was:

<TABLE>
<CAPTION>
                                                               HIGH     LOW
                                                              ------   ------
<S>                                                           <C>      <C>
2000:
  First Quarter.............................................  $20.50   $15.75
  Second Quarter............................................   31.94    16.94
  Third Quarter.............................................   37.25    24.88
  Fourth Quarter............................................   50.25    30.81
1999:
  Second Quarter (from June 15, 1999).......................   32.94    30.38
  Third Quarter.............................................   32.88    24.81
  Fourth Quarter............................................   28.38    16.00
</TABLE>

     Since the third quarter of 1999, the board of directors of RJR has declared
a quarterly cash dividend of $.775 per common share, or $3.10 on an annualized
basis.

     RJR conducts its business through its subsidiaries and is dependent on the
earnings and cash flow of its subsidiaries to satisfy its obligations and other
cash needs. RJR's credit facilities limit the payment by RJR of dividends on its
common stock in excess of specific amounts. For more information see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Financial Condition" in Item 7 and note 10 to the
consolidated financial statements. RJR believes that the provisions of its
credit facilities will not impair its payment of quarterly dividends.

                                       20
<PAGE>   21

ITEM 6. SELECTED FINANCIAL DATA

     The selected historical consolidated financial data as of December 31, 2000
and 1999 and for each of the years in the three-year period ended December 31,
2000 are derived from the consolidated financial statements and accompanying
notes, which have been audited by RJR's independent auditors. The selected
historical consolidated financial data as of December 31, 1998 and 1997 and for
the years ended December 31, 1997 and 1996 are derived from audited consolidated
financial statements not presented or incorporated by reference. The selected
historical consolidated financial data as of December 31, 1996 are derived from
unaudited consolidated financial statements, which are not presented or
incorporated by reference, that reflect all adjustments, consisting only of
adjustments of a normal and recurring nature, necessary for a fair presentation.
The financial statements prior to 2000 segregate the account balances and
activities of the international tobacco business and Nabisco and report those
account balances and activities as discontinued operations. This table should be
read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" in Item 7 and the consolidated financial
statements.

<TABLE>
<CAPTION>
                                                             FOR THE YEARS ENDED DECEMBER 31,
                                                      -----------------------------------------------
                                                       2000      1999      1998      1997      1996
                                                      -------   -------   -------   -------   -------
                                                      (DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
<S>                                                   <C>       <C>       <C>       <C>       <C>
RESULTS OF OPERATIONS:
Net sales (1).......................................  $ 8,167   $ 7,567   $ 5,716   $ 5,044   $ 4,702
Income (loss) from continuing operations............      352       195      (519)       19       226
Income from discontinued operations.................       --     2,398         3       414       440
Extraordinary items - gain (loss)...................    1,475      (250)       --        --        --
Net income (loss)...................................    1,827     2,343      (516)      433       666
PER SHARE DATA:
Basic income (loss) from continuing operations......     3.48      1.80     (4.77)      .17      2.08
Diluted income (loss) from continuing operations....     3.46      1.80     (4.77)      .17      2.08
Basic income from discontinued operations...........       --     22.10       .03      3.81      4.05
Diluted income from discontinued operations.........       --     22.08       .03      3.81      4.05
Basic income (loss) from extraordinary items........    14.56     (2.30)       --        --        --
Diluted income (loss) from extraordinary items......    14.48     (2.30)       --        --        --
Basic net income (loss).............................    18.04     21.60     (4.74)     3.98      6.13
Diluted net income (loss)...........................    17.94     21.58     (4.74)     3.98      6.13
Basic weighted average shares, in thousands.........  101,264   108,495   108,691   108,691   108,691
Diluted weighted average shares, in thousands.......  101,857   108,570   108,691   108,691   108,691
Cash dividends declared per share of common stock
  (2)...............................................  $  3.10   $  1.55   $    --   $    --   $    --
BALANCE SHEET DATA (AT END OF PERIODS):
Total assets........................................   15,554    14,377    19,310    20,251    20,747
Long-term debt......................................    1,674     1,653     4,861     4,944     4,928
Stockholders' equity................................    8,436     7,064     9,886    11,079    11,669
OTHER DATA:
Ratio of earnings to fixed charges (3)..............      5.1       2.8        --       1.5       2.2
Deficiency in the coverage of fixed charges by
  earnings before fixed charges (3).................  $    --   $    --   $  (679)  $    --   $    --
</TABLE>

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

(1) Net sales and costs of products sold exclude excise taxes of $1.631 billion,
    $1.173 billion, $1.292 billion, $1.369 billion and $1.401 billion for the
    years ended December 31, 2000, 1999, 1998, 1997 and 1996, respectively.
(2) RJR began trading as a separate company on June 15, 1999. Since the third
    quarter of 1999, a quarterly dividend of $.775, or $3.10 on an annualized
    basis, has been declared.
(3) Earnings consist of income before income taxes and fixed charges. Fixed
    charges consist of interest on indebtedness, amortization of debt issuance
    costs and one-third of operating rental expense, representative of the
    interest factor.

                                       21
<PAGE>   22

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

     This discussion and analysis of the consolidated financial condition and
results of operations of RJR should be read in conjunction with the consolidated
financial statements and the related notes of RJR as of December 31, 2000 and
1999 and for each of the years in the three-year period ended December 31, 2000.

     On December 11, 2000, through a merger, RJR acquired its former parent,
NGH, a non-operating public shell company with no material assets or
liabilities, at the time of the acquisition, other than $11.8 billion in cash.
Pursuant to an agreement and plan of merger dated June 25, 2000, as amended, RJR
Acquisition Corp. was merged into NGH, with NGH being the surviving corporation.
After the merger, NGH changed its name to RJR Acquisition Corp.

     The acquisition was accounted for as a purchase, and accordingly, the cost
of the acquisition was allocated on the basis of the estimated fair market value
of the assets acquired, principally $11.8 billion cash, and liabilities assumed.
As consideration, RJR Acquisition Corp. paid $30 for each outstanding share of
NGH, or $9.8 billion in the aggregate, provided from the net cash proceeds of
the acquisition. The remaining $1.5 billion excess of net assets acquired, after
costs related to the transaction, was recognized as an extraordinary gain on
acquisition in the fourth quarter of 2000.

RESULTS OF OPERATIONS

<TABLE>
<CAPTION>
                                                               2000     1999     1998
                                                              ------   ------   ------
<S>                                                           <C>      <C>      <C>
Net sales...................................................  $8,167   $7,567   $5,716
Cost of products sold (*)...................................   3,325    3,233    1,289
Selling, general and administrative expenses................   3,562    3,082    2,844
                                                              ------   ------   ------
                                                               1,280    1,252    1,583
Tobacco settlement and related expenses (*).................      (3)      23    1,442
                                                              ------   ------   ------
Operating company contribution..............................  $1,283   $1,229   $  141
                                                              ======   ======   ======
</TABLE>

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

(*) $2,329 million, $2,178 million and $148 million of ongoing settlement
    expense was recorded in cost of products sold for the years ended 2000, 1999
    and 1998, respectively. Tobacco settlement and related expenses include only
    initial, up-front tobacco settlement and related expenses.

2000 COMPARED WITH 1999

     Net sales of $8.2 billion for the year ended December 31, 2000 increased
7.9% over 1999. This increase was driven by favorable pricing of $626 million,
as a result of price increases in 2000 and the last half of 1999, partially
offset by a $38 million unfavorable volume shift in the branded savings
price-tier to private label. RJR Tobacco's shipment volume for the year of 96.4
billion units, excluding Puerto Rico and certain other U.S. territories' volume
of 1.4 billion units, was level with the prior year, while industry volume
increased 0.1% to 419.8 billion units. Preliminary analysis indicates that RJR
Tobacco's shipment volume benefited from an increase in trade inventory levels.
RJR Tobacco's consumption volume declined 3.5%, and the industry declined 2.5%
during 2000 compared with 1999. Consumption is expected to continue to decline
in 2001.

     RJR Tobacco's full-price shipments represented 63.2% and 62.6% of its total
shipments for the years ended December 31, 2000 and 1999, respectively.
Industry-wide, full-price shipments represented 73.5% and 73.4% of total
shipments for the years ended December 31, 2000 and 1999, respectively. RJR
Tobacco's full-price shipments increased 0.9% while the industry full-price
increase was 0.2%. CAMEL shipments, excluding the non-filter style, for 2000
were up 10.2% versus 1999 and WINSTON's base styles increased 0.6% during 2000
from 1999. SALEM shipments were down 3.9% compared with the prior year.
Shipments for DORAL decreased 1.6% compared with the prior year, while the
industry savings decline was 0.2%.

     RJR Tobacco's retail share of market averaged 23.58% for the year ended
December 31, 2000, a decrease of .34 share points compared with the prior year.

                                       22
<PAGE>   23

     CAMEL, RJR Tobacco's largest full-price brand, continued to show strong
growth. Its share of market, excluding the non-filtered style, grew .42 share
points to 5.14% in 2000. CAMEL's growth was supported by its "Pleasure to Burn"
positioning, its successful launch of Turkish Gold and its creative and
integrated marketing programs.

     Base WINSTON's retail share of 4.76% for the year ended December 31, 2000
was down slightly from its 1999 share of 4.83%; however, its share increased .16
share points in the second half compared with the first half of 2000. WINSTON's
"No Bull" positioning and a more competitive retail plan contributed to the
brand's performance.

     SALEM's share averaged 3.01% in 2000 compared with 3.17% in 1999,
reflecting increased competitive activity in the menthol category. However,
SALEM's share has recently grown in its emphasis markets where the brand's full
marketing support is having a positive impact among adult menthol smokers. These
initiatives include SALEM's "It's not what you expect" positioning, unique
packaging, promotions and adult smoker events.

     DORAL's retail share of market was 6.16% in 2000, down .14 share points
compared with the prior year. Competitive pricing pressure from deep-discount
brands impacted DORAL's performance, particularly in the second quarter of 2000.
To more effectively compete against these brands, refined retail pricing
promotions were begun in mid-2000. These promotions, along with its "Imagine
Getting More" positioning, contributed to consecutive share gains in the third
and fourth quarters.

     RJR Tobacco expanded its test market of ECLIPSE to include the Dallas/Fort
Worth area, in April 2000 through direct mail and Internet sales to
age-verified, adult smokers, and in January 2001 through limited retail sales.
ECLIPSE is a cigarette that primarily heats rather than burns tobacco, greatly
reducing second-hand smoke, while leaving no ashes, stains or lingering odor.
Additionally, using a four-step scientific methodology, RJR Tobacco announced
that while the effect of ECLIPSE on the risk of cardiovascular disease is
inconclusive, ECLIPSE may present less risk of cancer, chronic bronchitis and
possibly emphysema when compared with other cigarettes. RJR Tobacco is
continuing to evaluate the test market results.

     Cost of products sold of $3.3 billion increased $92 million from 1999,
primarily due to an increase of $151 million in ongoing settlement costs partly
offset by lower raw material cost.

     Selling, general and administrative expenses of $3.6 billion in 2000
increased $480 million from the prior year. This change over the prior-year
period was primarily due to increased promotional expense, composed mainly of
retail discounting.

     Tobacco settlement and related expenses during 2000 reflect activity in the
$1.4 billion initial, up-front charge recorded in 1998 as follows:

<TABLE>
<CAPTION>
                                                                    "MOST
                                                                   FAVORED
                                                                   NATION"       RATIONALIZATION    EMPLOYEE
                                        MASTER     MINNESOTA     ADJUSTMENTS           OF           SEVERANCE
                                      SETTLEMENT   SETTLEMENT   FOR PREVIOUSLY    MANUFACTURING    AND RELATED
                                      AGREEMENT    AGREEMENT    SETTLED STATES     OPERATIONS       BENEFITS      TOTAL
                                      ----------   ----------   --------------   ---------------   -----------   -------
<S>                                   <C>          <C>          <C>              <C>               <C>           <C>
Original charge.....................    $ 620        $ 312          $ 145             $ 214           $151       $ 1,442
Utilized in 1998....................     (620)        (312)          (145)             (214)           (54)       (1,345)
                                        -----        -----          -----             -----           ----       -------
Balance, December 31, 1998..........       --           --             --                --             97            97
Utilized in 1999....................       --           --             --                --            (42)          (42)
Adjusted in 1999....................       --           --             --                --            (17)          (17)
                                        -----        -----          -----             -----           ----       -------
Balance, December 31, 1999..........       --           --             --                --             38            38
Utilized in 2000....................       --           --             --                --            (28)          (28)
Adjusted in 2000....................       --           --             --                --             (3)           (3)
                                        -----        -----          -----             -----           ----       -------
Balance, December 31, 2000..........    $  --        $  --          $  --             $  --           $  7       $     7
                                        =====        =====          =====             =====           ====       =======
</TABLE>

                                       23
<PAGE>   24

     For more information about the MSA and other state settlement agreements,
see "Business -- Litigation Affecting the Cigarette Industry" in Item 1 and note
14 to the consolidated financial statements. The rationalization of
manufacturing operations primarily represents a charge to write down the book
value of one of RJR Tobacco's production facilities and certain equipment in
Winston-Salem, North Carolina, to fair value. The employee severance and related
benefits expense was a charge for workforce reductions totaling approximately
1,300 employees. These charges were in response to the changing business
conditions expected to result from the MSA signed in November 1998. Management
believes that RJR Tobacco's price increases, which were necessary to satisfy its
ongoing annual payment obligations under the MSA, have adversely affected, and
may continue to adversely affect RJR Tobacco's volume.

     During 2000 and 1999, $3 million and $17 million, respectively, were
reversed from the liability for employee severance and related benefits to
tobacco settlement and related expenses, which reflected a less-than-expected
volume decline and a corresponding less-than-expected related workforce
reduction. Cash expenditures related to the termination of employees is expected
to be $77 million, of which $70 million was paid as of December 31, 2000. The
remaining reserve is expected to be paid from operations in 2001. Pre-tax
savings in 2000 and 1999 were approximately $85 million and $57 million,
respectively, and are expected to be $85 million in 2001.

     During 1999, RJR Tobacco recorded $40 million, $24 million after-tax, for
initial, up-front costs related to the tobacco growers' settlement.

     Operating company contribution, an alternative performance measure,
increased 4.4% to $1.3 billion for 2000 when compared with the prior year. This
increase is primarily due to the factors discussed above.

     An impairment charge of $89 million, $54 million after-tax, was incurred
during the fourth quarter of 2000 on two of RJR Tobacco's non-investment brands,
MAGNA and CENTURY. As a result of this charge, amortization expense related to
trademarks will decrease $4 million on an annual basis.

     Headquarters close-down and related charges recorded by RJR in the second
quarter of 1999 of $143 million, $93 million after-tax, reflected the
elimination of its New York corporate headquarters. Total cash expenditures
related to this charge were $122 million. The elimination of its headquarters
resulted from reorganization transactions described in note 2 to the
consolidated financial statements. Approximately $127 million of the charge was
for severance and related benefits for approximately 100 employees whose
employment was terminated on June 14, 1999, at which time RJR satisfied its
obligation in full. The remainder of the charge was primarily related to
contractual lease termination payments and the write-off of leasehold
improvements and abandoned equipment.

     Interest and debt expense was $168 million and $268 million in 2000 and
1999, respectively. This decrease resulted from the repurchase of approximately
$4 billion of debt, partly offset by the issuance of $1.25 billion of debt,
during the second quarter of 1999.

     Interest income increased $5 million during 2000 when compared with the
prior year, primarily reflecting higher cash balances and higher interest rates.

     Other expense, net decreased $27 million for the year ended December 31,
2000 from the prior year. This decrease was primarily the result of higher 1999
charges related to the spin-off. See note 2 to the consolidated financial
statements.

     Provision for income taxes was $396 million, or an effective rate of 52.9%,
in 2000 compared with $315 million recorded in 1999. The effective tax rates
exceed the federal statutory rate of 35% primarily due to the impact of certain
nondeductible items, including goodwill amortization, and to a lesser extent,
state taxes.

     Discontinued operations for the year ended December 31, 1999 included
after-tax income of $76 million related to the operations of the international
tobacco business and Nabisco. Additionally, discontinued operations included a
$2.3 billion gain on the sale of the international tobacco business, net of a
$322 million loss on the recognition of Nabisco's cumulative translation
adjustment account. See note 2 to the consolidated financial statements.

                                       24
<PAGE>   25

     Extraordinary items included a gain of $1.5 billion realized during the
fourth quarter of 2000 in connection with RJR's acquisition of NGH. See note 3
to the consolidated financial statements. An extraordinary loss of $384 million,
$250 million after-tax, was incurred during 1999 in connection with the
repurchase of approximately $4 billion of debt securities. See note 2 to the
consolidated financial statements.

1999 COMPARED WITH 1998

     Net sales of $7.6 billion for the year ended December 31, 1999 increased
32.4% over 1998. This increase was primarily due to favorable pricing of $2.5
billion, partly offset by $692 million in lower volumes. Collective price
increases since November 1998, in response to litigation settlements, adversely
impacted the shipment volume of RJR Tobacco and the industry in general. RJR
Tobacco's total shipment volume during 1999 of 96.4 billion units, excluding
Puerto Rico and certain other territories' volume of approximately 1.4 billion
units, declined 12.7% from the prior year, while industry volume declined 9.0%.
RJR Tobacco's full-price shipments represented 62.6% of total shipments for each
of the years ended December 31, 1999 and 1998, whereas industry-wide, full-price
shipments represented 73.4% and 73.0% of total shipments for the years ended
December 31, 1999 and 1998, respectively.

     Compared with 1998, the 1999 shipment volume for CAMEL, excluding the
non-filter style, was down 7.4%, but outperformed the industry full-price
decline of 8.5%. Shipments of the WINSTON styles supported by the "No Bull"
repositioning, declined 13.9% compared with 1998. WINSTON's performance was
negatively impacted by the unprecedented settlement-related price increases and
the price sensitivity among its franchise smokers. Consequently, new WINSTON "No
Bull" programs, such as "Winston Racing Nation," were introduced to enhance
loyalty among WINSTON's adult smokers. SALEM shipments were down 12.7% compared
with 1998, also negatively impacted by settlement-related price increases.
Volume for DORAL, the industry's leading savings brand, was down 13.5% from
1998. DORAL's performance reflected the savings-brand industry decline of 10.3%
during 1999, and also was impacted negatively by increased activity from
competitive deep-discount brands.

     RJR Tobacco's total retail share of market declined by 1.26 share points in
1999 compared with 25.18% in 1998. Most of this share loss occurred by the end
of the second quarter. In line with RJR Tobacco's strategy to stabilize, then
grow, market share on the four investment brands, the second-half 1999 trend
improved due to the combined performance of CAMEL, WINSTON, SALEM and DORAL.

     CAMEL's market share, excluding the non-filter style, grew almost .20 share
points on average in the last half of the year compared with the second quarter
of 1999. CAMEL finished the year at 4.72% share of market, up slightly versus
1998.

     WINSTON and SALEM experienced retail market share declines in the first
half of 1999, most of which occurred in the first quarter largely as a result of
the impact of increased prices and competitive activity. However, SALEM's retail
share of market was stable since March 1999, reflecting the positive impact of
the January 1999 "It's not what you expect" national repositioning. WINSTON
styles supported by the "No Bull" repositioning had been level since June 1999.

     Due to gains made by deep-discount brands, DORAL, the nation's leading
savings brand, experienced slight market share declines for the full year, down
 .13 points from 1998. Additional marketing programs were put into place to
stabilize, then strengthen DORAL's share of market. DORAL's 1999 share
performance, although a decline, exceeded the performance of the industry
branded savings category, which declined .75 points from 1998.

     Cost of products sold of $3.2 billion for the year ended December 31, 1999
increased $1.9 billion from 1998, primarily due to an increase of $2 billion in
ongoing settlement costs.

     Selling, general and administrative expenses of $3.1 billion for 1999
increased $238 million, or 8.4%, from the comparable prior-year period. This
increase over 1998 was primarily due to increased promotional expenses, composed
mainly of competitive discounts provided directly to retailers and passed
through to the consumer, partly offset by lower corporate expenses.

                                       25
<PAGE>   26

     Tobacco settlement and related expenses, excluding ongoing tobacco
settlement costs included in cost of products sold, of $23 million during 1999
included a $40 million charge related to the tobacco growers' settlement, partly
offset by a $17 million reversal of the liability for employee severance and
related benefits recorded in 1998.

     Operating company contribution of $1.2 billion in 1999 increased $1.1
billion, primarily due to the factors described above.

     Restructuring expense of $80 million, $52 million after-tax, was recorded
by RJR Tobacco in 1997 related to the reorganization of its operations,
including the closure of a processing facility, to enhance its competitive
position and improve its long-term earnings growth prospects. The components of
the charges included: $30 million related to employee severance and related
benefits that reflected the reductions of 192 full-time positions and 217
seasonal positions; $30 million related to the rationalization of manufacturing
operations and the write-off of equipment to be abandoned; and $20 million for
leaf contract terminations and other costs. The charge was substantially
utilized as of December 31, 1999. Cash outlays were expected to be approximately
$42 million. During 1999, $2 million was reversed from the charge reflecting
lower-than-expected expenses. See note 7 to the consolidated financial
statements for additional details.

     Headquarters close-down and related charges recorded by RJR in the second
quarter of 1999 of $143 million, $93 million after-tax, reflected the
elimination of its New York corporate headquarters. The elimination of
headquarters resulted from the reorganization transactions described in note 2
to the consolidated financial statements. Total cash expenditures related to
this charge were $122 million. Approximately $127 million of the charge was for
severance and related benefits for approximately 100 employees. The remainder of
the charge was primarily related to contractual lease termination payments and
the write-off of leasehold improvements and abandoned equipment.

     Interest and debt expense of $268 million in 1999 decreased $158 million
from the prior-year period. The 1999 decrease resulted from the repurchase of
approximately $4 billion of debt, partly offset by the issuance of $1.25 billion
of debt. See note 2 to the consolidated financial statements.

     Interest income increased to $114 million in 1999 from $7 million in 1998,
mainly due to the temporary investment of net proceeds from the sale of the
international tobacco business in the second quarter of 1999. See note 2 to the
consolidated financial statements.

     Other expense, net increased $23 million in 1999 from the prior year,
primarily due to various expenses related to the reorganization.

     Provision for (benefit from) income taxes included a 1999 tax provision of
$315 million, or an effective rate of 61.8%, compared with a $160 million tax
benefit, or an effective rate of 23.6%, in 1998. The variances of the effective
rates from the statutory rate of 35% were primarily due to the adverse impact of
nondeductible goodwill amortization on income (loss) before income taxes. This
impact increased the 1999 provision and decreased the 1998 benefit.

     Discontinued operations increased $2.4 billion, after-tax, compared with
1998. This increase was primarily due to the gain on the sale of the
international tobacco business in May of 1999, partially offset by the loss on
the recognition of Nabisco's cumulative translation adjustment account. See note
2 to the consolidated financial statements.

     Extraordinary items included a loss of $384 million, $250 million
after-tax, during 1999 in connection with the repurchase of approximately $4
billion of debt securities. See note 2 to the consolidated financial statements.

LIQUIDITY AND FINANCIAL CONDITION

LIQUIDITY

     At present, the principal sources of liquidity for RJR Tobacco's business
and operating needs are internally generated funds from its operations and
available borrowings through RJR. RJR Tobacco believes

                                       26
<PAGE>   27

that cash flows from operating activities will be sufficient for the foreseeable
future to enable it to meet its obligations under the MSA with attorneys general
for most U.S. states, territories and possessions and other existing settlement
agreements, to fund its budgeted capital expenditures and to make payments to
RJR that will enable RJR to make its required debt-service payments and to pay
dividends to RJR stockholders. Additionally, the acquisition of NGH in December
2000 provided $1.5 billion cash proceeds to RJR Acquisition Corp., a portion of
which is funding RJR's current share repurchase program. RJR and RJR Tobacco
cannot predict their cash requirements related to any future settlements or
judgments, including cash required to bond any appeals, if necessary, and make
no assurance that they will be able to meet all of those requirements.

CASH FLOWS

     Net cash flows from operating activities of $590 million in 2000 decreased
$339 million from 1999. This decrease primarily reflects an increase in cash
payments for tobacco settlements and the posting of a $100 million bond related
to the appeal of the Engle verdict, partially offset by increased revenues from
higher pricing. Net cash flows from operating activities were $929 million in
1999 in comparison to $367 million in 1998, which primarily resulted from 1999
price increases, partly offset by lower volume. In addition, the fourth quarter
of 1998 was negatively impacted by the payment of tobacco settlements.

     Net cash flows from investing activities of $1.6 billion in 2000 decreased
$6 billion from 1999. Net cash flows from 2000 investing activities included the
net proceeds from the NGH acquisition and $110 million in proceeds from the
maturities of short-term investments. Net cash flows from investing activities
for 1999 were $7.6 billion, compared to a use of $43 million in 1998, primarily
due to the proceeds received from the sale of the international tobacco
business.

     Net cash flows used in financing activities of $881 million in 2000,
compared with $5.4 billion in 1999, included $387 million repayment of long-term
debt, $322 million of dividends paid and $231 million repurchase of common
stock. Net cash flows used in financing activities were $5.4 billion in 1999,
compared with $611 million in 1998, primarily due to payments of approximately
$4.5 billion for the early extinguishment of debt and related costs, transfers
and payments of approximately $2 billion made to NGH and $85 million of
dividends paid in the fourth quarter, partially offset by proceeds from the
issuance of $1.25 billion of debt.

     Net cash flows related to discontinued operations primarily resulted from
$2.1 billion of income taxes paid on the gain on the sale of the international
tobacco business in 1999, and an $84 million refund of related taxes during
2000. Also, net cash flows related to discontinued operations provided $116
million in 1999 and $202 million in 1998.

     In connection with the spin-off from NGH, RJR has assumed, subject to
specified exceptions, all U.S. pension liabilities and related assets for
current and former tobacco employees. The additional cash required, compared
with 1998, to fund these liabilities was $58 million in each of 1999 and 2000,
and is expected to be $58 million in each of the years 2001, 2002 and 2003.

     On December 12, 2000, RJR's board of directors authorized the repurchase of
shares of its common stock from time to time in the open market, with a maximum
aggregate cost of $350 million, to enhance stockholder value. The program is
funded by dividends from RJR Acquisition Corp. utilizing the cash proceeds of
the NGH acquisition. The timing of repurchases and the number of shares
ultimately repurchased will depend upon market conditions. Under this
authorization, RJR repurchased 1,329,900 shares with an aggregate cost of $61
million during 2000.

     Authorizations in November 1999 of $125 million and in February 2000 of
$100 million were completed during 2000 through repurchases of 7,185,839 shares
with a total cost of $170 million. From November 1999 through December 31, 2000,
cumulative repurchases of all programs were 11,243,139 shares with an aggregate
cost of $286 million, and through January 31, 2001 cumulative repurchases of all
programs were 11,323,139 shares with an aggregate cost of $290 million. Shares
held by RJR through repurchase, in addition to shares

                                       27
<PAGE>   28

cancelled pursuant to employee benefit plans, are included in treasury stock in
RJR's consolidated balance sheet. See note 17 to the consolidated financial
statements for information about RJR's stock plans.

DEBT

     On May 18, 1999, RJR completed tender offers to purchase substantially all
of its outstanding debt securities which resulted in RJR repurchasing
approximately $4 billion of its debt with a portion of the proceeds from the
sale of the international tobacco business. As a result, RJR recognized an
extraordinary loss from the early extinguishment of debt of $384 million, $250
million after-tax.

     RJR entered into a $1.235 billion revolving credit facility with a
syndicate of banks effective May 18, 1999, as amended and restated on November
17, 2000. Under the amendment and restatement, the committed amount will remain
at $1.235 billion until November 2001, at which time the committed amount will
be reduced to $622 million through May 2003. RJR can use the full facility to
obtain loans or letters of credit, at its option. RJR Tobacco and, as of
November 17, 2000, RJR Acquisition Corp. have guaranteed RJR's obligations under
this revolving credit facility. If RJR's senior unsecured debt is rated below
BBB- by S&P or Baa3 by Moody's, RJR's other material subsidiaries will have to
guarantee the facility. If RJR falls below these thresholds for both of these
rating agencies, or two levels below these thresholds for either of these rating
agencies, RJR and the guarantors will have to pledge their assets to secure
their obligations. RJR is not required to maintain compensating balances;
however, commitment fees of 1% of the committed amount are payable quarterly.
The credit facility also limits RJR's ability to pay dividends, repurchase
stock, incur indebtedness, engage in transactions with affiliates, create liens,
acquire, sell or dispose of specific assets and engage in specified mergers or
consolidations. Borrowings under the revolving credit facility bear interest at
rates that vary with the prime rate or LIBOR. At December 31, 2000, RJR had $193
million in letters of credit and no borrowings outstanding, with the remaining
$1,042 million of the facility available for borrowing. RJR was in compliance
with the covenants of the facility at December 31, 2000.

     RJR had additional letters of credit outstanding outside the credit
facility of approximately $4 million at December 31, 2000. RJR also has a $30
million uncommitted, unsecured line of credit with one bank. No borrowings were
outstanding on this line of credit at December 31, 2000.

     RJR filed a registration statement, effective October 8, 1999, in order to
issue publicly registered notes of $550 million in principal amount at 7 3/8%
due 2003, $500 million in principal amount at 7 3/4% due 2006 and $200 million
in principal amount at 7 7/8% due 2009 in exchange for an aggregate $1.25
billion of private placement debt securities. The net proceeds received from the
private placement were used for general corporate purposes. These notes are
senior unsecured obligations and, unlike RJR's other non-bank debt, are
guaranteed by RJR Tobacco and RJR Acquisition Corp. In addition, any other
subsidiaries of RJR that in the future guarantee the $1.235 billion revolving
credit facility, as amended and restated, will also be required to guarantee
these notes. Generally, the terms of the notes restrict the issuance of
guarantees by subsidiaries, the pledge of collateral, sale/leaseback
transactions and the transfer of all or substantially all of the assets of RJR
and its subsidiaries. RJR was in compliance with all covenants and restrictions
imposed by its indebtedness at December 31, 2000.

     On December 10, 1999, RJR filed a shelf registration statement, which
became effective December 22, 1999, for $1.876 billion of debt securities. As of
the date of this filing, no debt securities have been issued under this
registration statement.

     On December 11, 2000, related to the acquisition of NGH, RJR acquired $98
million of 9 1/2% junior subordinated debentures, due in 2047, redeemable by RJR
on September 30, 2003. Interest is paid quarterly in arrears. These debentures
are effectively defeased by an irrevocable trust, which is included in other
assets and deferred charges in the accompanying consolidated balance sheet as of
December 31, 2000. The trust holds certain U.S. Government Obligations maturing
at such times and in such amounts sufficient to pay interest and redemption
principal.

     As of December 31, 2000, RJR also had $404 million of public notes, at
fixed interest rates of 6.8% through 10%, due in 2001 through 2013. See note 13
to the consolidated financial statements.

                                       28
<PAGE>   29

DIVIDENDS

     Since the third quarter of 1999, the board of directors of RJR has declared
a quarterly cash dividend of $.775 per common share, or $3.10 on an annualized
basis. On January 31, 2001, RJR's board of directors declared a quarterly cash
dividend of $.775 per common share payable on April 2, 2001 to stockholders of
record as of March 9, 2001.

CAPITAL EXPENDITURES

     Capital expenditures were $60 million in 2000, $55 million in 1999 and $47
million in 1998. Management expects that its capital expenditure program will
continue at a level sufficient to support the strategic and operating needs of
RJR Tobacco. RJR Tobacco plans to spend $70 million to $80 million for capital
expenditures during 2001 funded primarily by cash flows from operations. There
were no material long-term commitments for capital expenditures as of December
31, 2000.

LITIGATION AND SETTLEMENTS

     Various legal actions, proceedings and claims, including legal actions
claiming that lung cancer and other diseases, as well as addiction, have
resulted from the use of, or exposure to, RJR Tobacco's products, are pending or
may be instituted against RJR or its affiliates, including RJR Tobacco, or
indemnitees. For further discussion of litigation and legal proceedings pending
against RJR or its affiliates, including RJR Tobacco, or indemnitees, see
"Business -- Litigation Affecting the Cigarette Industry" and
"Business -- Environmental Matters" in Item 1; "-- Governmental Activity"; note
14 to the consolidated financial statements; and Exhibit 99.1 to this report.
RJR believes that, notwithstanding the quality of defenses available to it and
its affiliates in litigation matters, it is possible that its results of
operations or cash flows in particular quarterly or annual periods could be
materially affected by the ultimate outcome of various pending or future
litigation matters, including litigation costs. RJR is unable to predict the
outcome of the litigation or to derive a meaningful estimate of the amount or
range of any possible loss in any particular quarterly or annual period or in
the aggregate.

     In November 1998, RJR Tobacco and the other major U.S. cigarette
manufacturers entered into the MSA with attorneys general representing most U.S.
states, territories and possessions. As described under "Business -- Litigation
Affecting the Cigarette Industry" in Item 1, the MSA imposes a stream of future
payment obligations on RJR Tobacco and the other major U.S. cigarette
manufacturers and places significant restrictions on their ability to market and
sell cigarettes in the future. The cash payments made by RJR Tobacco under the
MSA and other existing settlement agreements were $2.2 billion, $1.6 billion and
$.8 billion in 2000, 1999 and 1998, respectively. RJR Tobacco estimates those
payments in 2001 and future years to exceed $2.0 billion per year. However,
these payments will be subject to, among other things, the volume of cigarettes
sold by RJR Tobacco, RJR Tobacco's market share and inflation adjustments. RJR
Tobacco cannot predict the impact on its business, competitive position and
results of operations of the MSA and the other existing settlement agreements,
the business activity restrictions to which it is subject under these agreements
or the price increases that it may be required to make as a result of these
agreements.

GOVERNMENTAL ACTIVITY

     The advertising, sale, taxation and use of cigarettes have been subject to
substantial regulation by government and health officials for many years.
Various state governments have adopted or are considering, among other things,
legislation and regulations restricting displays and advertising of tobacco
products, establishing fire safety standards for cigarettes, raising the minimum
age to possess or purchase tobacco products, requiring the disclosure of
ingredients used in the manufacture of tobacco products, imposing restrictions
on public smoking and restricting the sale of tobacco products directly to
consumers or other unlicensed recipients or over the Internet. In addition, in
2001 the U.S. Congress may consider legislation regarding further increases in
the federal excise tax, regulation of cigarette manufacturing and sale by the
U.S. Food and Drug Administration and implementation of a national standard for
"fire-safe" cigarettes. Together

                                       29
<PAGE>   30

with manufacturers' price increases in recent years and substantial increases in
state and federal excise taxes on cigarettes, these developments have had and
will likely continue to have an adverse effect on cigarette sales.

     Cigarettes are subject to substantial excise taxes in the United States.
The federal excise tax per pack of 20 cigarettes was $.34 as of January 1, 2000.
The federal cigarette excise tax will increase by $.05 per pack in 2002. In
addition, all states and the District of Columbia impose excise taxes at levels
ranging from $.025 per pack in Virginia to $1.11 per pack in New York.

     In 1964, the Report of the Advisory Committee to the Surgeon General of the
U.S. Public Health Service concluded that cigarette smoking was a health hazard
of sufficient importance to warrant appropriate remedial action. Since 1966,
federal law has required a warning statement on cigarette packaging. Since 1971,
television and radio advertising of cigarettes has been prohibited in the United
States. Cigarette advertising in other media in the United States is required to
include information with respect to the "tar" and nicotine yield of cigarettes,
as well as a warning statement.

     During the past three decades, various laws affecting the cigarette
industry have been enacted. In 1984, Congress enacted the Comprehensive Smoking
Education Act. Among other things, the Smoking Education Act:

     -  establishes an interagency committee on smoking and health that is
        charged with carrying out a program to inform the public of any dangers
        to human health presented by cigarette smoking;

     -  requires a series of four health warnings to be printed on cigarette
        packages and advertising on a rotating basis;

     -  increases type size and area of the warning required in cigarette
        advertisements; and

     -  requires that cigarette manufacturers provide annually, on a
        confidential basis, a list of ingredients added to tobacco in the
        manufacture of cigarettes to the Secretary of Health and Human Services.

     The warnings currently required on cigarette packages and advertisements
are:

     -  "SURGEON GENERAL'S WARNING: Smoking Causes Lung Cancer, Heart Disease,
        Emphysema, And May Complicate Pregnancy";

     -  "SURGEON GENERAL'S WARNING: Quitting Smoking Now Greatly Reduces Serious
        Risks To Your Health";

     -  "SURGEON GENERAL'S WARNING: Smoking By Pregnant Women May Result in
        Fetal Injury, Premature Birth, and Low Birth Weight"; and

     -  "SURGEON GENERAL'S WARNING: Cigarette Smoke Contains Carbon Monoxide".

     Since the initial report in 1964, the Secretary of Health, Education and
Welfare (now the Secretary of Health and Human Services) and the Surgeon General
have issued a number of other reports which purport to find the nicotine in
cigarettes addictive and to link cigarette smoking and exposure to cigarette
smoke with certain health hazards, including various types of cancer, coronary
heart disease and chronic obstructive lung disease. These reports have
recommended various governmental measures to reduce the incidence of smoking. In
1992, the federal Alcohol, Drug Abuse and Mental Health Act was signed into law.
This act requires states to adopt a minimum age of 18 for purchases of tobacco
products and to establish a system to monitor, report and reduce the illegal
sale of tobacco products to minors in order to continue receiving federal
funding for mental health and drug abuse programs. In January 1996, the U.S.
Department of Health and Human Services announced regulations implementing this
legislation.

     In December 1992, the U.S. Environmental Protection Agency issued a report
that classified environmental tobacco smoke as a Group A (known human)
carcinogen. RJR Tobacco and others filed suit to challenge the validity of the
EPA report. On July 17, 1998, a U.S. District Court judge held that the EPA's
classification of environmental tobacco smoke was invalid and vacated those
portions of the report dealing with lung cancer. The EPA appealed, and oral
argument was held before the Court of Appeals for the Fourth Circuit on June 7,
1999. RJR Tobacco is awaiting the Court's decision.

                                       30
<PAGE>   31

     In March 1994, the U.S. Occupational Safety and Health Administration
announced proposed regulations that would restrict smoking in the workplace to
designated smoking rooms that are separately exhausted to the outside. RJR
Tobacco submitted comments on the proposed regulations during the comment period
that closed in February 1996, but no regulation has been adopted to date.
Although RJR Tobacco cannot predict the form or timing of any regulations that
may be finally adopted by OSHA, if the proposed regulations are adopted, RJR
Tobacco expects that many employers who have not already done so would prohibit
smoking in the workplace rather than make expenditures necessary to establish
designated smoking areas to accommodate smokers. Because many employers
currently do not permit smoking in the workplace, RJR Tobacco cannot predict the
effect of any regulations that may be adopted, but incremental restrictions on
smokers could have an adverse effect on cigarette sales of all manufacturers.

     Legislation imposing various restrictions on public smoking also has been
enacted in 48 states and many local jurisdictions, and many employers have
initiated programs restricting or eliminating smoking in the workplace. A number
of states have enacted legislation designating a portion of increased cigarette
excise taxes to fund either anti-smoking programs, health care programs or
cancer research. In addition, educational and research programs addressing
health care issues related to smoking are being funded from industry payments
made or to be made under settlements with state attorneys general. Federal law
prohibits smoking in scheduled passenger aircraft, and the U.S. Interstate
Commerce Commission has banned smoking on buses transporting passengers
inter-state. Certain common carriers have imposed additional restrictions on
passenger smoking.

     Several states require disclosure of ingredients used in the manufacture of
tobacco products. In July 1996, Massachusetts enacted legislation requiring
manufacturers of tobacco products sold in Massachusetts to report yearly,
beginning December 15, 1997, the ingredients of each brand sold. The statute
also requires the reporting of nicotine yield ratings in accordance with
procedures established by the state. The legislation contemplates public
disclosure of all ingredients in descending quantitative order, a trade-secret
disclosure that RJR Tobacco believes could damage the competitive position of
its brands. RJR Tobacco, together with other cigarette manufacturers, filed suit
in the U.S. District Court for the District of Massachusetts seeking to have the
statute declared invalid. The court granted a preliminary injunction that
enjoined Massachusetts officials from enforcing the law relating to ingredient
reporting. That decision was upheld by the Court of Appeals for the First
Circuit. In September 2000, the district court permanently enjoined enforcement
of provisions relating to ingredient reporting. Massachusetts has appealed to
the Court of Appeals for the First Circuit, and briefing is now underway.

     In August 1998, the Massachusetts Department of Public Health issued
proposed regulations for public comment that would require annual reporting,
beginning July 1, 2000, on a brand-by-brand basis of 43 smoke constituents in
both mainstream smoke and sidestream smoke. RJR Tobacco, together with other
cigarette manufacturers, filed comments with the MDPH on October 9, 1998. RJR
Tobacco and the other manufacturers believe that the MDPH lacks legal authority
to promulgate these regulations. Nevertheless, RJR Tobacco and the other
manufacturers have conducted a cooperative benchmarking study to address certain
MDPH concerns. The benchmarking study obtained smoke constituent information on
a representative number of cigarette brand styles. The final report, including
all data, was presented to the MDPH. The MDPH has drafted additional proposed
regulations requiring further extensive testing of cigarette brands. The MDPH
has engaged in discussions about these additional proposed regulations with
representatives of the cigarette manufacturers and others, but has not formally
issued them for public comment. Although the MDPH has stated its intention to
promulgate additional reporting requirements, RJR Tobacco cannot predict the
form they will take or the effect they will have on RJR Tobacco's business or
operations.

     On May 21, 1999, RJR Tobacco, Lorillard Tobacco Company, Brown & Williamson
Tobacco Corporation and Philip Morris, Inc. filed lawsuits in the U.S. District
Court for the District of Massachusetts to enjoin implementation of certain
Massachusetts Attorney General regulations concerning the advertisement and
display of tobacco products. The regulations go beyond those required by the
MSA. RJR Tobacco is challenging regulations that prohibit point-of-sale
advertising less than five feet above ground in any retail outlet that is not
limited to adults only. RJR Tobacco is also challenging the regulation that bans
all cigarette advertising (other than a black-and-white sign reading "Tobacco
Products Sold Here") visible within 1,000

                                       31
<PAGE>   32

feet of any public playground, public park or school. This provision would
effectively ban outdoor advertising in all but the most rural areas of the
state. The district court ruled against the industry on January 25, 2000, and
the U.S. Court of Appeals for the First Circuit affirmed. The U.S. Supreme Court
granted the industry's petition for writ of certiorari on January 8, 2001, and
in April 2001 will hear arguments on pre-emption and First Amendment challenges
to the Massachusetts regulations.

     In June 2000, the New York state legislature passed legislation charging
the state's Office of Fire Prevention and Control with developing standards for
"fire-safe" or self-extinguishing cigarettes. The OFPC has until January 1, 2003
to issue final regulations. Six months from the issuance of the standards, but
no later than July 1, 2003, all cigarettes offered for sale in New York state
will be required to be manufactured to those standards. RJR Tobacco is offering
to share its ignition propensity research with the state. Similar legislation is
being considered by other state legislatures.

     A price differential exists between cigarettes manufactured for sale abroad
and cigarettes manufactured for U.S. sale; consequently, a domestic "gray
market" has developed in cigarettes manufactured for sale abroad. These
cigarettes compete with the cigarettes RJR Tobacco manufactures for domestic
sale. Forty-six states have enacted legislation prohibiting the sale and
distribution of gray market cigarettes. Similarly, federal legislation
prohibiting the sale and distribution of gray market cigarettes became effective
on January 1, 2000. In addition, RJR Tobacco has taken legal action against
certain distributors and retailers who engage in such practices.

     Tobacco leaf is an agricultural product subject to U.S. Government
production controls and price supports that can affect market prices
substantially. The tobacco leaf price support program is subject to
congressional review and may be changed at any time. In December 1994, Congress
enacted the Uruguay Round Agreements Act to replace a domestic content
requirement with a tariff rate quota system that bases tariffs on import
volumes. The tariff rate quotas have been established by the United States with
overseas tobacco producers and became effective on September 13, 1995. Because
of the importance of tobacco leaf as a raw material for RJR Tobacco's products,
substantial changes in the legislative or regulatory environment applicable to
tobacco leaf could have a material effect on RJR Tobacco's results of operations
and cash flows.

     It is not possible to determine what additional federal, state or local
legislation or regulations relating to smoking or cigarettes will be enacted or
to predict the effect of new legislation or regulations on RJR Tobacco or the
cigarette industry in general, but any new legislation or regulations could have
an adverse effect on RJR Tobacco or the cigarette industry in general.

     For further discussion of litigation and legal proceedings pending against
RJR, its affiliates, including RJR Tobacco, or indemnitees, see
"Business -- Litigation Affecting the Cigarette Industry" and "Business --
Environmental Matters" in Item 1; note 14 to the consolidated financial
statements; and Exhibit 99.1 to this report.

ENVIRONMENTAL MATTERS

     RJR and its subsidiaries are subject to federal, state and local
environmental laws and regulations concerning the discharge, storage, handling
and disposal of hazardous or toxic substances. RJR and its subsidiaries have
been engaged in a continuing program to assure compliance with these
environmental laws and regulations. Although it is difficult to identify
precisely the portion of capital expenditures or other costs attributable to
compliance with environmental laws and regulations, RJR or its subsidiaries do
not expect such expenditures or other costs to have a material adverse effect on
its business or financial condition.

     For further discussion of environmental matters involving RJR and its
affiliates, including RJR Tobacco, or indemnitees, see
"Business -- Environmental Matters" in Item 1 and note 14 to the consolidated
financial statements.

OTHER CONTINGENCIES

     Until the acquisition by merger by Philip Morris Companies, Inc. of Nabisco
from NGH on December 11, 2000, NGH and Nabisco were members of the consolidated
group of NGH for U.S. federal income

                                       32
<PAGE>   33

tax purposes. Each member of a consolidated group is jointly and severally
liable for the U.S. federal income tax liability of other members of the group
as well as for pension and funding liabilities of the other group members. NGH,
now known as RJR Acquisition Corp., continues to be jointly and severally liable
for these Nabisco liabilities for the period prior to December 11, 2000.

     In connection with Philip Morris' acquisition by merger of Nabisco and
RJR's subsequent acquisition by merger of NGH, Philip Morris, Nabisco and NGH
entered into a voting and indemnity agreement that generally seeks to allocate
tax liabilities ratably based upon NGH's taxable income and that of Nabisco, had
the parties been separate taxpayers. If Philip Morris and Nabisco are unable to
satisfy their obligations under this agreement, NGH, now known as RJR
Acquisition Corp., would be responsible for satisfying them.

     In connection with the sale of the international tobacco business to Japan
Tobacco Inc. on May 12, 1999, RJR and RJR Tobacco agreed to indemnify Japan
Tobacco against (1) any liabilities, costs and expenses arising out of the
imposition or assessment of any tax with respect to the international tobacco
business arising prior to the sale, other than as reflected on the closing
balance sheet, (2) any liabilities, costs and expenses that Japan Tobacco or any
of its affiliates, including the acquired entities, may incur after the sale in
respect of any of RJR's or RJR Tobacco's employee benefit and welfare plans and
(3) any liabilities, costs and expenses incurred by Japan Tobacco or any of its
affiliates arising out of certain activities of Northern Brands. See
"Business -- Litigation Affecting the Cigarette Industry" in Item 1 and note 14
to the consolidated financial statements for a description of the Northern
Brands litigation. Although it is impossible to predict the outcome of the
Northern Brands litigation or the amount of liabilities, costs and expenses, if
any, RJR and RJR Tobacco may be required to indemnify Japan Tobacco in
connection with the matters described in the preceding outcome, a significant
adverse outcome regarding any of these items could have an adverse effect on
either or both of RJR and RJR Tobacco.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

     During 2000, the Financial Accounting Standards Board's Emerging Issues
Task Force issued EITF No. 00-10, "Accounting for Shipping and Handling Fees and
Costs," which addresses the income statement classification of shipping and
handling costs billed to customers. EITF No. 00-10 was effective in the fourth
quarter of 2000 and did not have an impact on RJR's financial position or
results of operations.

     Also during 2000, the EITF reached consensus on Issue No. 00-14,
"Accounting for Certain Sales Incentives," which addresses the recognition,
measurement and income statement classification for certain sales incentives
including rebates, coupons and free products or services. In November 2000, the
EITF revised the effective date of EITF No. 00-14 to be the second quarter of
2001. Upon adoption, certain program costs currently included in selling,
general and administrative expenses will be reclassified as reductions of net
sales and prior period amounts will be restated for comparative purposes. RJR
Tobacco's management has determined that on an annual basis, the impact of
adoption will reduce net sales approximately 1% to 2% and will have no impact on
net income. Additionally, adoption of EITF No. 00-14 will result in a portion of
the recognition of these incentives in different interim periods than would
result from current methods of recognition. Accordingly, had RJR Tobacco adopted
EITF No. 00-14 on January 1, 2000, net income for the first, second and fourth
quarters of 2000 would have increased/(decreased) by $(1) million, $10 million
and $(9) million, respectively, and income per share would have
increased/(decreased) by $(.01), $.10 and $(.09), respectively.

     During the second quarter of 1998, the FASB issued Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities." In June 1999, the FASB issued SFAS No. 137, which amended SFAS No.
133 to delay its effective date by one year. SFAS No. 133 is effective for RJR
on January 1, 2001. SFAS No. 133 requires that all derivative instruments be
recorded on the consolidated balance sheet at their fair value. Changes in the
fair value of derivatives will be recorded each period in 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. In June 2000,
the FASB issued SFAS No. 138, which amended SFAS No. 133. RJR's management has
reviewed the terms of all material contracts and

                                       33
<PAGE>   34

financial instruments and has determined that the adoption of SFAS No. 133, as
amended, will have no material impact on its financial position or results of
operations.

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

     Statements included in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" which are not historical in nature are
forward-looking statements made pursuant to the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Forward-looking statements
regarding RJR's future performance and financial results include certain risks
and uncertainties that could cause actual results to differ materially from
those described in the forward-looking statements. These risks include the
substantial and increasing regulation and taxation of the cigarette industry;
various legal actions, proceedings and claims arising out of the tobacco
business and claimed health effects of cigarettes that are pending or may be
instituted against RJR or its subsidiaries; the substantial payment obligations
and limitations on the advertising and marketing of cigarettes, under various
litigation settlement agreements; the continuing decline in volume in the
domestic cigarette industry; competition from other cigarette manufacturers; the
success of new product innovations and acquisitions; the effect of market
conditions on the performance of pension assets and the return on corporate
cash; and the ratings of RJR securities. Due to these uncertainties and risks,
readers are cautioned not to place undue reliance on these forward-looking
statements, which speak only as of the date of this report.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     Market risk represents the risk of loss that may impact RJR's consolidated
financial position, results of operations or cash flows due to adverse changes
in financial market prices and rates. RJR is exposed to interest rate risk
directly related to its normal investing and funding activities. See note 15 to
the consolidated financial statements for more information. RJR has established
various policies and procedures to manage its exposure to market risks and uses
major institutions with high credit ratings to minimize its investment and
credit risk. RJR does not use derivative financial instruments for trading or
speculative purposes.

     RJR uses the value-at-risk model to statistically measure the maximum fair
value, cash flows or earnings loss over one year from adverse changes in
interest rates. The computation assumes a 95% confidence level under normal
market conditions. RJR believes that near term changes, if any, in interest
rates will not have a material impact on its future earnings, fair values or
cash flows, based on the historical movements in interest rates and the fair
value of market-rate sensitive instruments at December 31, 2000.

                                       34
<PAGE>   35

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

                    REPORT OF KPMG LLP, INDEPENDENT AUDITORS

The Board of Directors
R.J. Reynolds Tobacco Holdings, Inc.:

     We have audited the accompanying consolidated balance sheet of R.J.
Reynolds Tobacco Holdings, Inc. and subsidiaries as of December 31, 2000, and
the related consolidated statements of income, stockholders' equity and
comprehensive income, and cash flows for the year then ended. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.

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

     In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of R.J.
Reynolds Tobacco Holdings, Inc. and subsidiaries as of December 31, 2000, and
the results of their operations and their cash flows for the year then ended in
conformity with accounting principles generally accepted in the United States of
America.

/s/ KPMG LLP

Greensboro, North Carolina
January 24, 2001, except as to note 14, which is as of February 7, 2001

                                       35
<PAGE>   36

             REPORT OF DELOITTE & TOUCHE LLP, INDEPENDENT AUDITORS

R.J. Reynolds Tobacco Holdings, Inc.:

     We have audited the accompanying consolidated balance sheet of R.J.
Reynolds Tobacco Holdings, Inc. and subsidiaries ("RJR"), as of December 31,
1999, and the related consolidated statements of income, of cash flows and of
stockholders' equity and comprehensive income for each of the two years in the
period ended December 31, 1999. These financial statements are the
responsibility of RJR's management. Our responsibility is to express an opinion
on these financial statements based on our audits.

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

     In our opinion, such consolidated financial statements present fairly, in
all material respects, the consolidated financial position of RJR at December
31, 1999, and the results of their operations and their cash flows for each of
the two years in the period ended December 31, 1999 in conformity with
accounting principles generally accepted in the United States of America.

/s/ Deloitte & Touche LLP

Winston-Salem, North Carolina
January 27, 2000 (February 23, 2000 as to note 14)

                                        36
<PAGE>   37

         REPORT OF MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS

     The financial statements presented in this report are the responsibility of
management, and have been prepared in accordance with generally accepted
accounting principles using, where appropriate, management's best estimates and
judgment. Management maintains a system of internal controls to provide
reasonable assurance that RJR's assets are safeguarded and transactions are
executed as authorized and properly recorded. The system includes established
policies and procedures, a program of internal audits, management reviews and
careful selection and training of qualified personnel.

     The audit committee of RJR's board of directors is composed solely of
outside directors. It meets periodically with management, the internal auditors
and the independent auditors, to discuss and address internal accounting
control, auditing and financial reporting matters. Both independent and internal
auditors have unrestricted access to the audit committee.

/s/ Andrew J. Schindler
----------------------------------------------------
Chairman of the Board, President and
Chief Executive Officer

/s/ Kenneth J. Lapiejko
----------------------------------------------------
Executive Vice President
and Chief Financial Officer

                                       37
<PAGE>   38

                       CONSOLIDATED STATEMENTS OF INCOME
                (DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
                                                              FOR THE YEARS ENDED DECEMBER 31,
                                                              --------------------------------
                                                                2000        1999        1998
                                                              --------    --------    --------
<S>                                                           <C>         <C>         <C>
NET SALES*..................................................   $8,167      $7,567      $5,716
Costs and expenses:
  Cost of products sold*....................................    3,325       3,233       1,289
  Selling, general and administrative expenses..............    3,562       3,082       2,844
  Tobacco settlement and related expenses...................       (3)         23       1,442
  Amortization of trademarks and goodwill...................      366         366         366
  Impairment charge.........................................       89          --          --
  Headquarters close-down and related charges...............       --         143          --
  Restructuring expense.....................................       --          (2)         --
                                                               ------      ------      ------
     OPERATING INCOME (LOSS)................................      828         722        (225)
Interest and debt expense...................................      168         268         426
Interest income.............................................     (119)       (114)         (7)
Other expense, net..........................................       31          58          35
                                                               ------      ------      ------
     INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE INCOME
       TAXES................................................      748         510        (679)
Provision for (benefit from) income taxes...................      396         315        (160)
                                                               ------      ------      ------
     INCOME (LOSS) FROM CONTINUING OPERATIONS...............      352         195        (519)
Discontinued operations:
  Income from operations of discontinued businesses, net of
     income taxes...........................................       --          76           3
  Gain on discontinued businesses, net of income taxes......       --       2,322          --
                                                               ------      ------      ------
     INCOME (LOSS) BEFORE EXTRAORDINARY ITEMS...............      352       2,593        (516)
Extraordinary item -- gain on acquisition, net of income
  taxes.....................................................    1,475          --          --
Extraordinary item -- loss on early extinguishment of debt,
  net of income taxes.......................................       --        (250)         --
                                                               ------      ------      ------
     NET INCOME (LOSS)......................................   $1,827      $2,343      $ (516)
                                                               ======      ======      ======
BASIC INCOME (LOSS) PER SHARE:
  Income (loss) from continuing operations..................   $ 3.48      $ 1.80      $(4.77)
  Income from discontinued operations.......................       --       22.10         .03
  Extraordinary items -- gain (loss)........................    14.56       (2.30)         --
                                                               ------      ------      ------
     Net income (loss)......................................   $18.04      $21.60      $(4.74)
                                                               ======      ======      ======
DILUTED INCOME (LOSS) PER SHARE:
  Income (loss) from continuing operations..................   $ 3.46      $ 1.80      $(4.77)
  Income from discontinued operations.......................       --       22.08         .03
  Extraordinary items -- gain (loss)........................    14.48       (2.30)         --
                                                               ------      ------      ------
     Net income (loss)......................................   $17.94      $21.58      $(4.74)
                                                               ======      ======      ======
DIVIDENDS DECLARED PER SHARE................................   $ 3.10      $ 1.55      $   --
                                                               ======      ======      ======
</TABLE>

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

* Excludes excise taxes of $1,631 million, $1,173 million and $1,292 million for
  the years ended 2000, 1999 and 1998, respectively.

                 See Notes to Consolidated Financial Statements

                                       38
<PAGE>   39

                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                             (DOLLARS IN MILLIONS)

<TABLE>
<CAPTION>
                                                              FOR THE YEARS ENDED DECEMBER 31,
                                                              ---------------------------------
                                                                2000         1999        1998
                                                              ---------    ---------    -------
<S>                                                           <C>          <C>          <C>
CASH FLOWS FROM (USED IN) OPERATING ACTIVITIES:
  Net income (loss).........................................   $ 1,827      $ 2,343      $(516)
  Less income from discontinued operations..................        --        2,398          3
                                                               -------      -------      -----
  Subtotal..................................................     1,827          (55)      (519)
  Adjustments to reconcile to net cash flows from (used in)
     continuing operating activities:
     Depreciation and amortization..........................       485          482        498
     Impairment charge......................................        89           --         --
     Deferred income tax benefit............................       (31)        (307)      (374)
     Extraordinary gain on acquisition......................    (1,475)          --         --
     Extraordinary loss on early extinguishment of debt.....        --          384         --
     Other changes, net of acquisition effects, that
       provided (used) cash:
       Accounts and notes receivable........................       (12)         (32)        (5)
       Inventories..........................................       (23)         (41)       106
       Accounts payable and accrued liabilities including
          income taxes......................................      (194)         (50)       (96)
     Litigation bonds.......................................      (118)          --         --
     Tobacco settlement and related expenses................        82          564        805
     Restructuring and related expenses, net of cash........        --           (8)       (41)
     Headquarters close-down and related charges, net of
       cash.................................................        --           21         --
     Other, net.............................................       (40)         (29)        (7)
                                                               -------      -------      -----
     Net cash flows from operating activities...............       590          929        367
                                                               -------      -------      -----
CASH FLOWS FROM (USED IN) INVESTING ACTIVITIES:
  Short-term investments....................................       110         (110)        --
  Capital expenditures......................................       (60)         (55)       (47)
  Net proceeds from acquisition.............................     1,519           --         --
  Net proceeds from the sale of the international tobacco
     business...............................................        --        7,760         --
  Other, net................................................         4          (19)         4
                                                               -------      -------      -----
     Net cash flows from (used in) investing activities.....     1,573        7,576        (43)
                                                               -------      -------      -----
CASH FLOWS FROM (USED IN) FINANCING ACTIVITIES:
  Repayments of long-term debt..............................      (387)      (4,450)       (68)
  Dividends paid on common stock............................      (322)         (85)        --
  Repurchase of common stock................................      (231)         (55)        --
  Proceeds from exercise of stock options...................        59           --         --
  Proceeds from issuance of long-term debt..................        --        1,244         --
  Transfers and payments to former parent...................        --       (1,968)      (607)
  Increase (decrease) in short-term borrowing...............        --          (62)        62
  Other, net................................................        --           17          2
                                                               -------      -------      -----
     Net cash flows used in financing activities............      (881)      (5,359)      (611)
                                                               -------      -------      -----
Net cash flows related to discontinued operations (including
  income taxes paid on gain on sale of the international
  tobacco business of $2,085 in 1999).......................        84       (1,969)       202
                                                               -------      -------      -----
Net change in cash and cash equivalents.....................     1,366        1,177        (85)
Cash and cash equivalents at beginning of year..............     1,177           --         85
                                                               -------      -------      -----
Cash and cash equivalents at end of year....................   $ 2,543      $ 1,177      $  --
                                                               =======      =======      =====
Income taxes paid, net of refunds...........................   $   309      $ 2,605      $ 250
Interest paid...............................................   $   153      $   341      $ 414
Tobacco settlement and related expense payments.............   $ 2,247      $ 1,636      $ 786
</TABLE>

                 See Notes to Consolidated Financial Statements

                                       39
<PAGE>   40

                          CONSOLIDATED BALANCE SHEETS
                             (DOLLARS IN MILLIONS)

<TABLE>
<CAPTION>
                                                                DECEMBER 31,
                                                              -----------------
                                                               2000      1999
                                                              -------   -------
<S>                                                           <C>       <C>
ASSETS
Current assets:
  Cash and cash equivalents.................................  $ 2,543   $ 1,177
  Short-term investments....................................       --       110
  Accounts and notes receivable, net of allowance
     (2000 -- $11; 1999 -- $11).............................      100        84
  Inventories...............................................      588       565
  Deferred income taxes.....................................      459       437
  Prepaid excise taxes and other............................      181        95
                                                              -------   -------
     Total current assets...................................    3,871     2,468
Property, plant and equipment, at cost:
  Land and land improvements................................       94        93
  Buildings and leasehold improvements......................      666       662
  Machinery and equipment...................................    1,531     1,548
  Construction-in-process...................................       34        23
                                                              -------   -------
  Total property, plant and equipment.......................    2,325     2,326
     Less accumulated depreciation..........................    1,277     1,246
                                                              -------   -------
       Property, plant and equipment, net...................    1,048     1,080
Trademarks, net of accumulated amortization (2000 -- $1,348;
  1999 -- $1,153)...........................................    2,875     3,070
Goodwill, net of accumulated amortization (2000 -- $3,099;
  1999 -- $2,839)...........................................    7,303     7,563
Other assets and deferred charges...........................      457       196
                                                              -------   -------
                                                              $15,554   $14,377
                                                              =======   =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
  Accounts payable..........................................  $    80   $    81
  Tobacco settlement and related accruals...................    1,394     1,278
  Accrued liabilities.......................................    1,229     1,322
  Current maturities of long-term debt......................       73       387
                                                              -------   -------
     Total current liabilities..............................    2,776     3,068
Long-term debt (less current maturities)....................    1,674     1,653
Deferred income taxes.......................................    1,856     1,630
Long-term retirement benefits...............................      543       676
Other noncurrent liabilities................................      269       286
Commitments and contingencies
Stockholders' equity:
  Common stock (shares issued: 2000 -- 112,563,918;
     1999 -- 109,631,397)...................................        1         1
  Paid-in capital...........................................    7,291     7,287
  Retained earnings (accumulated deficit)...................    1,481      (131)
  Accumulated other comprehensive loss -- cumulative minimum
     pension liability adjustment...........................       (8)      (13)
  Unamortized restricted stock..............................      (41)      (25)
                                                              -------   -------
                                                                8,724     7,119
  Less treasury stock (shares: 2000 -- 11,299,092;
     1999 -- 2,728,630), at cost............................     (288)      (55)
                                                              -------   -------
          Total stockholders' equity........................    8,436     7,064
                                                              -------   -------
                                                              $15,554   $14,377
                                                              =======   =======
</TABLE>

                 See Notes to Consolidated Financial Statements

                                       40
<PAGE>   41

                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                            AND COMPREHENSIVE INCOME
                             (DOLLARS IN MILLIONS)
<TABLE>
<CAPTION>
                                                     RETAINED      ACCUMULATED
                                                     EARNINGS         OTHER       UNAMORTIZED                  TOTAL
                                COMMON   PAID-IN   (ACCUMULATED   COMPREHENSIVE   RESTRICTED    TREASURY   STOCKHOLDERS'
                                STOCK    CAPITAL     DEFICIT)     INCOME (LOSS)      STOCK       STOCK        EQUITY
                                ------   -------   ------------   -------------   -----------   --------   -------------
<S>                             <C>      <C>       <C>            <C>             <C>           <C>        <C>
Balance at December 31,
  1997........................   $  1    $11,491     $    --          $(413)         $ --        $  --        $11,079
Net loss......................     --         --        (516)            --            --           --           (516)
Foreign currency translation,
  net of tax benefit of $6
  million.....................     --         --          --            (50)           --           --            (50)
Minimum pension liability, net
  of tax expense of $1
  million.....................     --         --          --              3            --           --              3
Total comprehensive loss......     --         --          --             --            --           --             --
Dividends.....................     --       (607)         --             --            --           --           (607)
Other.........................     --        (23)         --             --            --           --            (23)
                                 ----    -------     -------          -----          ----        -----        -------
BALANCE AT DECEMBER 31,
  1998........................      1     10,861        (516)          (460)           --           --          9,886
Net income....................     --         --       2,343             --            --           --          2,343
Foreign currency translation,
  net of tax benefit of $11
  million.....................     --         --          --            (86)           --           --            (86)
Minimum pension liability, net
  of tax benefit of $4
  million.....................     --         --          --             (7)           --           --             (7)
Total comprehensive income....     --         --          --             --            --           --             --
Dividends.....................     --       (169)         --             --            --           --           (169)
Items related to international
  tobacco business (see note
  2)..........................     --         --          --            218            --           --            218
Merger transaction*...........     --     (3,435)     (1,958)           322            --           --         (5,071)
Stock options exercised.......     --          4                         --            --           --              4
Restricted stock awarded......     --         23          --             --           (32)          --             (9)
Restricted stock
  amortization................     --         --          --             --             7           --              7
Common stock repurchased......     --         --          --             --            --          (55)           (55)
Other.........................     --          3          --             --            --           --              3
                                 ----    -------     -------          -----          ----        -----        -------
BALANCE AT DECEMBER 31,
  1999........................      1      7,287        (131)           (13)          (25)         (55)         7,064
Net income....................     --         --       1,827             --            --           --          1,827
Minimum pension liability, net
  of tax expense of $3
  million.....................     --         --          --              5            --           --              5
Total comprehensive income....     --         --          --             --            --           --             --
Dividends.....................     --       (102)       (215)            --            --           --           (317)
Stock options exercised.......     --         62          --             --            --           --             62
Tax benefit on stock options
  exercised...................     --          7          --             --            --           --              7
Restricted stock awarded......     --         37          --             --           (37)          --             --
Restricted stock
  amortization................     --         --          --             --            19           --             19
Restricted stock forfeited....     --         --          --             --             2           (2)            --
Common stock repurchased......     --         --          --             --            --         (231)          (231)
                                 ----    -------     -------          -----          ----        -----        -------
BALANCE AT DECEMBER 31,
  2000........................   $  1    $ 7,291     $ 1,481          $  (8)         $(41)       $(288)       $ 8,436
                                 ====    =======     =======          =====          ====        =====        =======

<CAPTION>

                                COMPREHENSIVE
                                   INCOME
                                -------------
<S>                             <C>
Balance at December 31,
  1997........................
Net loss......................     $ (516)
Foreign currency translation,
  net of tax benefit of $6
  million.....................        (50)
Minimum pension liability, net
  of tax expense of $1
  million.....................          3
                                   ------
Total comprehensive loss......     $ (563)
                                   ======
Dividends.....................
Other.........................
BALANCE AT DECEMBER 31,
  1998........................
Net income....................     $2,343
Foreign currency translation,
  net of tax benefit of $11
  million.....................        (86)
Minimum pension liability, net
  of tax benefit of $4
  million.....................         (7)
                                   ------
Total comprehensive income....     $2,250
                                   ======
Dividends.....................
Items related to international
  tobacco business (see note
  2)..........................
Merger transaction*...........
Stock options exercised.......
Restricted stock awarded......
Restricted stock
  amortization................
Common stock repurchased......
Other.........................
BALANCE AT DECEMBER 31,
  1999........................
Net income....................     $1,827
Minimum pension liability, net
  of tax expense of $3
  million.....................          5
                                   ------
Total comprehensive income....     $1,832
                                   ======
Dividends.....................
Stock options exercised.......
Tax benefit on stock options
  exercised...................
Restricted stock awarded......
Restricted stock
  amortization................
Restricted stock forfeited....
Common stock repurchased......
BALANCE AT DECEMBER 31,
  2000........................
</TABLE>

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

* Transfer of RJR's 80.5% interest in Nabisco, together with a portion of the
  proceeds from the sale of the international tobacco business, to NGH. See note
  2.

                 See Notes to Consolidated Financial Statements

                                       41
<PAGE>   42

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

     The consolidated financial statements include the accounts of R.J. Reynolds
Tobacco Holdings, Inc., referred to as RJR, and its wholly owned subsidiaries,
including R. J. Reynolds Tobacco Company, referred to as RJR Tobacco, and RJR
Acquisition Corp. All material intercompany balances have been eliminated.

     The preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts in the consolidated financial statements and accompanying notes. Actual
results could differ from those estimates. Certain reclassifications were made
to conform prior years' financial statements to the current presentation.

     For 1999 and 1998, the account balances and activities of the international
tobacco business and Nabisco Holdings Corp., referred to as Nabisco, are
segregated and reported as discontinued operations in the accompanying
consolidated financial statements. In addition, financial data for all periods
have been restated to give effect to the number of shares issued in connection
with the distribution of RJR common stock to the stockholders of its former
parent, Nabisco Group Holdings Corp., referred to as NGH. See note 2 for more
discussion.

     Unless otherwise noted, all dollar amounts presented are in millions.

Cash Equivalents

     Cash equivalents are held primarily in money market funds, commercial paper
and time deposits, in major institutions with high credit ratings to minimize
investment risk. Debt securities included in cash equivalents are classified as
held-to-maturity. As short-term, highly liquid investments with original
maturities of three months or less and readily convertible to known amounts of
cash, cash equivalents have carrying values that approximate fair values.

Inventories

     Inventories are stated at the lower of cost or market. The cost of tobacco
inventories is determined principally under the LIFO method. The cost of work in
process and finished goods includes materials, direct labor, and variable and
full absorption of fixed manufacturing overhead. In accordance with recognized
industry practice, stocks of tobacco, which must be cured for more than one
year, are classified as current assets.

Property, Plant and Equipment

     Property, plant and equipment are recorded at cost and are depreciated
using the straight-line method over the estimated useful lives of the assets.
Useful lives range from 20 to 50 years for buildings and improvements and from 3
to 30 years for machinery and equipment. The cost and related accumulated
depreciation of assets sold or retired are removed from the accounts and the
gain or loss on disposition is recognized in income.

Intangibles

     Intangibles include primarily goodwill and trademarks, and are amortized
using the straight-line method, principally over 40 years.

Software Costs

     Certain computer software and software development costs incurred in
connection with developing or obtaining computer software for internal use are
capitalized and amortized over five years or less. During 2000

                                       42
<PAGE>   43
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

and 1999, costs of $19 million and $7 million, respectively, were capitalized
and at December 31, 2000, the unamortized balance was $24 million. Related
amortization expense was $4 million, $1 million and $0 for the years ended
December 31, 2000, 1999 and 1998, respectively.

Long-Lived Assets

     Management continually reviews goodwill for impairment, and for other
long-lived assets held for use, including trademarks and property, plant and
equipment, whenever events or changes in circumstances indicate that the book
value of the asset may not be recoverable. The carrying value of long-lived
assets would be reduced if management's best estimate of future undiscounted
cash flows over the remaining amortization period would be less than the
carrying value. If an asset is determined to be impaired, the loss is measured
using estimated fair value. Assets to be disposed of are reported at the lower
of their carrying value or estimated net realizable value.

Revenue Recognition

     Revenue from product sales is recognized upon shipment, when title and risk
of loss passes to the customer.

Advertising and Research and Development

     Advertising costs, which are expensed as incurred, were $137 million, $168
million and $245 million in the years ended December 31, 2000, 1999 and 1998,
respectively. Research and development costs, which are expensed as incurred,
were $58 million, $59 million and $64 million in the years ended December 31,
2000, 1999 and 1998, respectively.

Other Expense, Net

     Other expense, net includes certain gains and losses on foreign currency
transactions, financing-related fees and other items of a financial nature.

Income Taxes

     Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date. Income taxes are calculated for RJR, RJR Tobacco and RJR
Acquisition Corp. on a separate return basis.

Pension and Postretirement

     Unrecognized prior service costs are being amortized over the estimated
remaining service lives of employees. The unrecognized net gain or loss
resulting from changes in the amount of either the projected benefit obligation
or plan assets from experience that differs from that assumed, is amortized over
five years.

Recently Issued Accounting Pronouncements

     During 2000, the Financial Accounting Standards Board's Emerging Issues
Task Force issued EITF No. 00-10, "Accounting for Shipping and Handling Fees and
Costs," which addresses the income statement classification of shipping and
handling costs billed to customers. EITF No. 00-10 was effective in the fourth
quarter of 2000 and did not have an impact on RJR's financial position or
results of operations.

                                       43
<PAGE>   44
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Also during 2000, the EITF reached consensus on Issue No. 00-14,
"Accounting for Certain Sales Incentives," which addresses the recognition,
measurement and income statement classification for certain sales incentives
including rebates, coupons and free products or services. In November 2000, the
EITF revised the effective date of EITF No. 00-14 to be the second quarter of
2001. Upon adoption, certain program costs currently included in selling,
general and administrative expenses will be reclassified as reductions of net
sales and prior period amounts will be restated for comparative purposes. RJR
Tobacco's management has determined that on an annual basis, the impact of
adoption will reduce net sales approximately 1% to 2% and will have no impact on
net income. Additionally, adoption of EITF No. 00-14 will result in a portion of
the recognition of these incentives in different interim periods than would
result from current methods of recognition. Accordingly, had RJR Tobacco adopted
EITF No. 00-14 on January 1, 2000, net income for the first, second and fourth
quarters of 2000 would have increased/(decreased) by $(1) million, $10 million
and $(9) million, respectively, and income per share would have
increased/(decreased) by $(.01), $.10 and $(.09), respectively.

     During the second quarter of 1998, the FASB issued Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities." In June 1999, the FASB issued SFAS No. 137, which amended SFAS No.
133 to delay its effective date by one year. SFAS No. 133 is effective for RJR
on January 1, 2001. SFAS No. 133 requires that all derivative instruments be
recorded on the consolidated balance sheet at their fair value. Changes in the
fair value of derivatives will be recorded each period in 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. In June 2000,
the FASB issued SFAS No. 138, which amended SFAS No. 133. RJR's management has
reviewed the terms of all material contracts and financial instruments and has
determined that the adoption of SFAS No. 133, as amended, will have no material
impact on its financial position or results of operations.

NOTE 2 -- REORGANIZATION

     During 1999, RJR and NGH completed a series of transactions to reorganize
their businesses and capital structures. On May 12, 1999, RJR and RJR Tobacco
substantially completed the sale of the international tobacco business to Japan
Tobacco Inc. As a result of this sale, RJR Tobacco's business consists
exclusively of the manufacture and sale of cigarettes in the United States and
its territories, commonwealths, protectorates and possessions. A portion of the
proceeds from the sale of the international tobacco business were used by RJR to
repurchase approximately $4 billion of its debt, which resulted in a $384
million, $250 million after-tax, extraordinary loss from the early
extinguishment of debt. On May 18, 1999, RJR transferred its 80.5% interest in
Nabisco to NGH through a merger transaction. On June 14, 1999, NGH distributed
all of the outstanding shares of RJR common stock to NGH common stockholders of
record as of May 27, 1999. Shares of RJR began trading separately on June 15,
1999.

     The operating results of the international tobacco business until May 12,
1999, the date of sale, are segregated and reported as discontinued operations
in the consolidated financial statements. Nabisco's operating results through
May 18, 1999, the date of the merger transaction, are segregated and reported as
discontinued operations in the consolidated financial statements. Summarized
operating results of the discontinued operations were:

<TABLE>
<CAPTION>
                                                  FOR THE YEARS ENDED DECEMBER 31,
                                                 ----------------------------------
                                                   2000         1999        1998
                                                 ---------    --------    ---------
<S>                                              <C>          <C>         <C>
Net sales......................................   $    --      $3,827      $11,321
Provision for income taxes.....................        --          34          179
</TABLE>

NOTE 3 -- ACQUISITION

     On December 11, 2000, through a merger, RJR acquired its former parent,
NGH, a non-operating public shell company with no material assets or
liabilities, at the time of the acquisition, other than $11.8 billion in

                                       44
<PAGE>   45
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

cash. Pursuant to an agreement and plan of merger dated June 25, 2000, as
amended, RJR Acquisition Corp. was merged into NGH, with NGH being the surviving
corporation. After the merger, NGH changed its name to RJR Acquisition Corp.

     The acquisition was accounted for as a purchase, and accordingly, the cost
of the acquisition was allocated on the basis of the estimated fair market value
of the assets acquired, principally $11.8 billion cash, and liabilities assumed.
As consideration, RJR Acquisition Corp. paid $30 for each outstanding share of
NGH, or $9.8 billion in the aggregate, provided from the net cash proceeds of
the acquisition. The remaining $1.5 billion excess of net assets acquired, after
costs related to the transaction, was recognized as an extraordinary gain on
acquisition in the fourth quarter of 2000. Pro forma results of operations are
not applicable, as NGH was a non-operating public shell company.

NOTE 4 -- TOBACCO SETTLEMENT AND RELATED EXPENSES

     During 1998, RJR Tobacco recorded pre-tax charges totaling $1.442 billion
for tobacco settlement and related expenses as follows:

<TABLE>
<CAPTION>
                                                              "MOST
                                                             FAVORED
                                                             NATION"       RATIONALIZATION    EMPLOYEE
                                  MASTER     MINNESOTA     ADJUSTMENTS           OF           SEVERANCE
                                SETTLEMENT   SETTLEMENT   FOR PREVIOUSLY    MANUFACTURING    AND RELATED
                                AGREEMENT    AGREEMENT    SETTLED STATES     OPERATIONS       BENEFITS      TOTAL
                                ----------   ----------   --------------   ---------------   -----------   -------
<S>                             <C>          <C>          <C>              <C>               <C>           <C>
Original charge...............    $ 620        $ 312          $ 145             $ 214           $151       $ 1,442
Utilized in 1998..............     (620)        (312)          (145)             (214)           (54)       (1,345)
                                  -----        -----          -----             -----           ----       -------
Balance, December 31, 1998....       --           --             --                --             97            97
Utilized in 1999..............       --           --             --                --            (42)          (42)
Adjusted in 1999..............       --           --             --                --            (17)          (17)
                                  -----        -----          -----             -----           ----       -------
Balance, December 31, 1999....       --           --             --                --             38            38
                                  -----        -----          -----             -----           ----       -------
Utilized in 2000..............       --           --             --                --            (28)          (28)
Adjusted in 2000..............       --           --             --                --             (3)           (3)
                                  -----        -----          -----             -----           ----       -------
Balance, December 31, 2000....    $  --        $  --          $  --             $  --           $  7       $     7
                                  =====        =====          =====             =====           ====       =======
</TABLE>

     The rationalization of manufacturing operations primarily represents a
charge to write down the book value of one of RJR Tobacco's production
facilities and certain equipment in Winston-Salem, North Carolina to fair value.
The employee severance and related benefits expense was a charge for workforce
reductions totaling approximately 1,300 employees. These charges were in
response to the changing business conditions expected to result from the MSA
signed in November 1998.

     During 2000 and 1999, $3 million and $17 million, respectively, was
reversed from the liability for employee severance and related benefits to
tobacco settlement and related expenses, which reflected a less-than-expected
volume decline and a corresponding less-than-expected related workforce
reduction.

     Cash expenditures related to the termination of employees are expected to
be approximately $77 million, of which $70 million was paid as of December 31,
2000.

     During 1999, RJR Tobacco recorded $40 million, $24 million after-tax, for
initial, up-front costs related to the tobacco growers' settlement.

     Ongoing tobacco settlement costs of $2.3 billion, $2.2 billion and $148
million during 2000, 1999 and 1998, respectively, were included in cost of
products sold. For more information about the MSA and other state settlement
agreements, see note 14.

                                       45
<PAGE>   46
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 5 -- IMPAIRMENT CHARGE

     Upon the occurrence of certain events or changes in circumstances, RJR and
RJR Tobacco analyze the recoverability of the carrying value of their trademarks
based on their estimated undiscounted net future cash flows. As a result, in the
fourth quarter of 2000, RJR Tobacco determined an impairment had occurred on two
of its non-investment brands, MAGNA and CENTURY. Accordingly, RJR Tobacco
recorded an impairment charge of $89 million, $54 million after-tax, or $0.53
per diluted share, based on the excess of its carrying value over its present
value of estimated future cash flows using a discount rate of 12.0%. This
impairment charge is reflected as an increase in accumulated amortization in the
consolidated balance sheet, as an impairment charge in the consolidated income
statement and had no impact on cash flows. As a result of this charge,
amortization expense related to trademarks will decrease $4 million on an annual
basis.

NOTE 6 -- HEADQUARTERS CLOSE-DOWN AND RELATED CHARGES

     During 1999, RJR recorded a charge of $143 million, $93 million after-tax,
to reflect the elimination of its New York corporate headquarters. Total cash
expenditures related to this charge were $122 million. The elimination of its
headquarters resulted from reorganization transactions, described in note 2,
that fundamentally changed RJR's business and capital structure. Approximately
$127 million of the charge was for severance and related benefits for
approximately 100 employees at the New York headquarters. The employment of
these individuals was terminated on June 14, 1999, at which time RJR satisfied
its obligation in full. The remainder of the charge was primarily related to
contractual lease termination payments and the write-off of leasehold
improvements and abandoned equipment.

NOTE 7 -- RESTRUCTURING

     RJR Tobacco recorded a pre-tax restructuring expense of $80 million, $52
million after-tax, in 1997 related to a restructuring program that was
implemented to enhance its competitive position and improve its long-term
earnings growth prospects. The components of the charges recorded in 1997 and
utilized through December 31, 2000 were:

<TABLE>
<CAPTION>
                                           EMPLOYEE       RATIONALIZATION       CONTRACT
                                        SEVERANCE AND     OF MANUFACTURING   TERMINATION AND
                                       RELATED BENEFITS      OPERATIONS        OTHER COSTS     TOTAL
                                       ----------------   ----------------   ---------------   -----
<S>                                    <C>                <C>                <C>               <C>
Original charge......................        $ 30               $ 30              $ 20         $ 80
Utilized in 1997.....................          (5)                (2)               --           (7)
                                             ----               ----              ----         ----
Balance, December 31, 1997...........          25                 28                20           73
Utilized in 1998.....................         (15)               (28)              (20)         (63)
                                             ----               ----              ----         ----
Balance, December 31, 1998...........          10                 --                --           10
Utilized in 1999.....................          (7)                --                --           (7)
Adjusted in 1999.....................          (2)                --                --           (2)
                                             ----               ----              ----         ----
Balance, December 31, 1999...........           1                 --                --            1
Utilized in 2000.....................          (1)                --                --           (1)
                                             ----               ----              ----         ----
Balance, December 31, 2000...........        $ --               $ --              $ --         $ --
                                             ====               ====              ====         ====
</TABLE>

     Charges related to the closure of a facility included the employee
severance and related benefits charge, which reflected the reduction of 192
full-time positions and 217 seasonal positions in manufacturing and staff, the
rationalization of manufacturing operations and the write-off of equipment to be
abandoned. The contract termination and other costs related to management's
commitment in 1997 to a plan of termination of a leaf supply contract at a price
below RJR Tobacco's contract price.

     Of the $80 million total restructuring charge, cash outlays were $1
million, $7 million and $35 million during 2000, 1999 and 1998, respectively.
During 1999, RJR Tobacco reduced the accrued restructuring

                                       46
<PAGE>   47
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

charge by $2 million, reflecting lower-than-expected expenses. Pre-tax savings
were $18 million in each of 2000 and 1999, and $33 million in 1998.

NOTE 8 -- INCOME PER SHARE

     The components of the calculation of income per share were:

<TABLE>
<CAPTION>
                                                         FOR THE YEARS ENDED DECEMBER 31,
                                                         ---------------------------------
                                                           2000        1999        1998
                                                         ---------   ---------   ---------
<S>                                                      <C>         <C>         <C>
Income (loss) from continuing operations...............  $    352    $    195    $   (519)
Income from discontinued operations....................        --       2,398           3
Extraordinary items -- gain (loss).....................     1,475        (250)         --
                                                         --------    --------    --------
Net income (loss)......................................  $  1,827    $  2,343    $   (516)
                                                         ========    ========    ========
Basic weighted average shares, in thousands............   101,264     108,495     108,691
  Effect of dilutive potential shares:
     Options...........................................       371          66          --
     Restricted stock..................................       222           9          --
                                                         --------    --------    --------
Diluted weighted average shares, in thousands..........   101,857     108,570     108,691
                                                         ========    ========    ========
</TABLE>

     During 2000 and 1999, average outstanding shares of restricted stock of
1,603 thousand and 826 thousand, respectively, were excluded from the basic
share calculation, as the related vesting provisions had not been met.

NOTE 9 -- INVENTORIES

     The components of inventories at December 31 were:

<TABLE>
<CAPTION>
                                                              2000   1999
                                                              ----   ----
<S>                                                           <C>    <C>
Leaf tobacco................................................  $403   $385
Raw materials...............................................    26     26
Work in process.............................................    40     37
Finished products...........................................    93     92
Other.......................................................    26     25
                                                              ----   ----
                                                              $588   $565
                                                              ====   ====
</TABLE>

     Inventories valued under the LIFO method were approximately $543 million
and $522 million at December 31, 2000 and 1999, respectively. The current cost
of LIFO inventories at December 31, 2000 and 1999 was greater than the amount at
which these inventories were carried on the consolidated balance sheets by $125
million and $159 million, respectively.

     During 2000 and 1999, there was no significant impact on net income from
LIFO inventory liquidations. LIFO inventory liquidations increased 1998 net
income by $18 million. The LIFO liquidations resulted from programs to reduce
tobacco leaf levels to reflect forecasts of future operating requirements.

NOTE 10 -- SHORT-TERM BORROWINGS AND BORROWING ARRANGEMENTS

     RJR entered into a $1.235 billion revolving credit facility with a
syndicate of banks effective May 18, 1999, as amended and restated on November
17, 2000. Under the amendment and restatement, the committed amount will remain
at $1.235 billion until November 2001, at which time the committed amount will
be reduced to $622 million through May 2003. RJR can use the full facility to
obtain loans or letters of credit, at its option. RJR Tobacco and, as of
November 17, 2000, RJR Acquisition Corp. have guaranteed RJR's obligations under
this revolving credit facility. If RJR's senior unsecured debt is rated below
BBB- by

                                       47
<PAGE>   48
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

S&P or Baa3 by Moody's, RJR's other material subsidiaries will have to guarantee
the facility. If RJR falls below these thresholds for both of these rating
agencies, or two levels below these thresholds for either of these rating
agencies, RJR and the guarantors will have to pledge their assets to secure
their obligations. RJR is not required to maintain compensating balances;
however, commitment fees of 1% of the committed amount are payable quarterly.
The credit facility also limits RJR's ability to pay dividends, repurchase
stock, incur indebtedness, engage in transactions with affiliates, create liens,
acquire, sell or dispose of specific assets and engage in specified mergers or
consolidations. Borrowings under the revolving credit facility bear interest at
rates that vary with the prime rate or LIBOR. At December 31, 2000, RJR had $193
million in letters of credit and no borrowings outstanding, with the remaining
$1,042 million of the facility available for borrowing. RJR was in compliance
with the covenants of the facility at December 31, 2000.

     RJR had additional letters of credit outstanding outside the credit
facility of approximately $4 million at December 31, 2000. RJR also has a $30
million uncommitted, unsecured line of credit with one bank. No borrowings were
outstanding on this line of credit at December 31, 2000.

NOTE 11 -- ACCRUED LIABILITIES

     Accrued liabilities at December 31 included:

<TABLE>
<CAPTION>
                                                               2000     1999
                                                              ------   ------
<S>                                                           <C>      <C>
Payroll and employee benefits...............................  $  293   $  271
Marketing and advertising...................................     406      468
Accrued interest............................................      24       27
Accrued income taxes........................................      --       49
Other.......................................................     506      507
                                                              ------   ------
                                                              $1,229   $1,322
                                                              ======   ======
</TABLE>

NOTE 12 -- INCOME TAXES

     The components of the provision for (benefit from) income taxes from
continuing operations were:

<TABLE>
<CAPTION>
                                                          FOR THE YEARS ENDED
                                                              DECEMBER 31,
                                                          --------------------
                                                          2000   1999    1998
                                                          ----   -----   -----
<S>                                                       <C>    <C>     <C>
Current:
  Federal...............................................  $368   $ 530   $ 191
  State and other.......................................    59      92      23
                                                          ----   -----   -----
                                                           427     622     214
                                                          ----   -----   -----
Deferred:
  Federal...............................................   (30)   (265)   (374)
  State and other.......................................    (1)    (42)     --
                                                          ----   -----   -----
                                                           (31)   (307)   (374)
                                                          ----   -----   -----
Provision for (benefit from) income taxes...............  $396   $ 315   $(160)
                                                          ====   =====   =====
</TABLE>

                                       48
<PAGE>   49
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     The current deferred income tax asset shown on the consolidated balance
sheets at December 31 included:

<TABLE>
<CAPTION>
                                                              2000    1999
                                                              -----   -----
<S>                                                           <C>     <C>
Deferred tax assets:
  LIFO inventories..........................................  $(136)  $(123)
  Pension and other postretirement liabilities..............     31      23
  Tobacco settlement related accruals and other accrued
     liabilities............................................    564     537
                                                              -----   -----
                                                              $ 459   $ 437
                                                              =====   =====
</TABLE>

     The non-current deferred income tax liability shown on the consolidated
balance sheets at December 31 included:

<TABLE>
<CAPTION>
                                                               2000     1999
                                                              ------   ------
<S>                                                           <C>      <C>
Deferred tax assets:
  Pension and other postretirement liabilities..............  $ (208)  $ (254)
  Tobacco settlement related accruals and other accrued
     liabilities............................................    (109)    (108)
                                                              ------   ------
                                                                (317)    (362)
                                                              ------   ------
Deferred tax liabilities:
  Property and equipment....................................     310      311
  Trademarks................................................   1,121    1,202
  Other.....................................................     742      479
                                                              ------   ------
                                                               2,173    1,992
                                                              ------   ------
                                                              $1,856   $1,630
                                                              ======   ======
</TABLE>

     The differences between the provision for (benefit from) income taxes and
income taxes computed at statutory U.S. federal income tax rates were:

<TABLE>
<CAPTION>
                                                              FOR THE YEARS ENDED
                                                                 DECEMBER 31,
                                                              -------------------
                                                              2000   1999   1998
                                                              ----   ----   -----
<S>                                                           <C>    <C>    <C>
Income taxes computed at statutory U.S. federal income tax
  rates.....................................................  $262   $178   $(238)
State and local income taxes, net of federal tax benefits...    33     30       8
Goodwill amortization.......................................    91     91      91
Exempt foreign sales corporation earnings...................    --     --     (10)
Other items, net............................................    10     16     (11)
                                                              ----   ----   -----
Provision for (benefit from) income taxes...................  $396   $315   $(160)
                                                              ====   ====   =====
Effective tax rate..........................................  52.9%  61.8%   23.6%
                                                              ====   ====   =====
</TABLE>

NOTE 13 -- LONG-TERM DEBT

     Long-term debt at December 31 included:

<TABLE>
<CAPTION>
                                                               2000     1999
                                                              ------   ------
<S>                                                           <C>      <C>
6.8%-10% unsecured notes, due 2001 to 2013..................  $  404   $  451
5.375%-6.875% foreign currency debt.........................      --      345
7.375%-7.875% senior unsecured notes, due 2003 to 2009......   1,245    1,244
9.5% junior subordinated debentures, due 2047...............      98       --
Current maturities of long-term debt........................     (73)    (387)
                                                              ------   ------
                                                              $1,674   $1,653
                                                              ======   ======
</TABLE>

                                       49
<PAGE>   50
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     The payment of long-term debt is as follows:

<TABLE>
<CAPTION>
                YEAR                  AMOUNT
                ----                  ------
<S>                                   <C>
2002................................  $   43
2003................................     740
2004................................      56
2005................................      50
Thereafter..........................     785
                                      ------
                                      $1,674
                                      ======
</TABLE>

     On May 18, 1999, RJR completed tender offers to purchase substantially all
of its outstanding debt securities, which resulted in RJR repurchasing
approximately $4 billion of its debt with a portion of the proceeds from the
sale of the international tobacco business. As a result, RJR recognized an
extraordinary loss from the early extinguishment of debt of $384 million, $250
million after-tax.

     RJR filed a registration statement, effective October 8, 1999, in order to
issue publicly registered notes of $550 million in principal amount at 7 3/8%
due 2003, $500 million in principal amount at 7 3/4% due 2006 and $200 million
in principal amount at 7 7/8% due 2009 in exchange for an aggregate $1.25
billion of private placement debt securities. The net proceeds received from the
private placement were used for general corporate purposes. These notes are
senior unsecured obligations and, unlike RJR's other non-bank debt, are
guaranteed by RJR Tobacco and RJR Acquisition Corp. In addition, any other
subsidiaries of RJR that in the future guarantee the $1.235 billion revolving
credit facility, as amended and restated, will also be required to guarantee
these notes. Generally, the terms of the notes restrict the issuance of
guarantees by subsidiaries, the pledge of collateral, sale/leaseback
transactions and the transfer of all or substantially all of the assets of RJR
and its subsidiaries. RJR was in compliance with all covenants and restrictions
imposed by its indebtedness at December 31, 2000. See note 22 for condensed
consolidating financial information, which separates the account balances and
activities of the issuer, the guarantors and the subsidiaries of RJR and RJR
Tobacco that are not guarantors of the notes.

     On December 10, 1999, RJR filed a shelf registration statement, which
became effective December 22, 1999, for $1.876 billion of debt securities. As of
the date of this filing, no debt securities have been issued under this
registration statement.

     On December 11, 2000, related to the acquisition of NGH, RJR acquired $98
million of 9 1/2% junior subordinated debentures, due in 2047, redeemable by RJR
on September 30, 2003. Interest is paid quarterly in arrears. These debentures
are effectively defeased by an irrevocable trust, which is included in other
assets and deferred charges in the accompanying consolidated balance sheet as of
December 31, 2000. The trust holds certain U.S. Government Obligations maturing
at such times and in such amounts sufficient to pay interest and redemption
principal.

     The estimated fair value of the consolidated long-term debt of RJR was $1.7
billion as of December 31, 2000 and $1.5 billion as of December 31, 1999. The
fair values are based on available market quotes, discounted cash flows and book
values, as appropriate.

NOTE 14 -- COMMITMENTS AND CONTINGENCIES

TOBACCO LITIGATION

     Overview.  Various legal actions, proceedings and claims, including legal
actions claiming that lung cancer and other diseases, as well as addiction, have
resulted from the use of, or exposure to, RJR Tobacco's products, are pending or
may be instituted against RJR or its affiliates, including RJR Tobacco, or
indemnitees. During 2000, 1,330 new actions, 1,100 of which were filed in state
court in West Virginia in two complaints by the same law firm, were served
against RJR Tobacco and/or its affiliates or indemnitees, and 207 actions were
dismissed or otherwise resolved in favor of RJR Tobacco and/or its affiliates or
indemnitees

                                       50
<PAGE>   51
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

without trial. On December 31, 2000, there were 1,664 active cases pending, as
compared with 541 on December 31, 1999 and 664 on December 31, 1998. As of
February 7, 2001, 1,668 active cases were pending against RJR Tobacco and/or its
affiliates or indemnitees: 1,665 in the United States, 2 in Puerto Rico and 1 in
the Marshall Islands. The U.S. case number does not include the 3,074 Broin II
cases pending as of February 7, 2001, discussed below.

     The U.S. cases, exclusive of the Broin II cases, are pending in 38 states
and the District of Columbia. The breakdown is as follows: 1,232 in West
Virginia; 111 in New York; 57 in California; 55 in Florida; 36 in Louisiana; 18
in the District of Columbia; 11 in New Jersey; 10 in Texas; 9 in each of
Alabama, Iowa, Mississippi, Pennsylvania and Tennessee; 8 in Missouri; 7 in each
of Georgia, Illinois and New Mexico; 6 in Nevada; 5 in Michigan; 4 in each of
Indiana, Massachusetts, Minnesota, North Carolina, New Hampshire and Wisconsin;
3 in each of Connecticut, North Dakota and South Carolina; 2 in each of Arizona,
Kansas, Ohio, Oklahoma, South Dakota and Washington; and 1 in each of Hawaii,
Maryland, Maine, Oregon and Utah. Of the 1,665 active U.S. cases, 139 are
pending in federal court, 1,522 in state court and 4 in tribal court. Most of
these cases were brought by individual plaintiffs, but many of these cases seek
recovery on behalf of third parties or large classes of claimants.

     Theories of Recovery.  The plaintiffs seek recovery on a variety of legal
theories, including strict liability in tort, design defect, negligence, special
duty, voluntary undertaking, breach of warranty, failure to warn, fraud,
misrepresentation, unfair trade practices, conspiracy, aiding and abetting,
unjust enrichment, indemnity, medical monitoring, public nuisance, and
violations of state and federal antitrust and RICO laws. Punitive damages, often
in amounts ranging into the hundreds of millions or even billions of dollars,
are specifically pleaded in a number of cases, in addition to compensatory and
other damages. Seven of the 1,665 active cases in the United States, plus the
3,074 Broin II cases, involve alleged nonsmokers claiming injuries resulting
from exposure to environmental tobacco smoke. Thirty-seven cases purport to be
class actions on behalf of thousands of individuals. Purported classes include
individuals claiming to be addicted to cigarettes, individuals and their estates
claiming illness and death from cigarette smoking, persons making claims based
on alleged exposure to environmental tobacco smoke, African-American smokers
claiming their civil rights have been violated by the sale of menthol
cigarettes, current smokers who have no tobacco-related disease but are seeking
to recover the costs of medical monitoring, purchasers of cigarettes claiming to
have been defrauded and seeking to recover their costs and Blue Cross and Blue
Shield subscribers seeking reimbursement for premiums paid. Approximately 66
cases seek recovery of the cost of Medicaid/Medicare payments or other
health-related costs paid for treatment of individuals suffering from diseases
or conditions allegedly related to tobacco use. Ten cases, brought by entities
administering asbestos liability, seek contribution for the costs of settlements
and judgments.

     Defenses.  The defenses raised by RJR Tobacco and/or its affiliates,
including RJR, include, where applicable, preemption by the Federal Cigarette
Labeling and Advertising Act of some or all such claims arising after 1969, the
lack of any defect in the product, assumption of the risk, contributory or
comparative fault, lack of proximate cause and statutes of limitations or
repose. RJR has asserted additional defenses, including jurisdictional defenses,
in many of these cases in which it is named.

     Industry Trial Results in Individual Smoker Cases.  The tobacco industry in
general, and RJR Tobacco in particular, continue to win most individual smoking
and health cases. In Anderson v. Fortune Brands, Inc., a Brooklyn, New York jury
found in favor of the industry, including RJR Tobacco, on June 27, 2000. In
Nunnally v. R.J. Reynolds Tobacco Co., a Mississippi state court jury found RJR
Tobacco not liable on July 12, 2000. On January 16, 2001, a Brooklyn, New York
state court jury returned a verdict in favor of RJR Tobacco and other cigarette
manufacturers in Apostolou v. American Tobacco Co. Most recently, in Little v.
Brown & Williamson Tobacco Corp., a South Carolina federal district court judge
granted a directed verdict in favor of RJR Tobacco. The trial of this case
continued and the jury rendered a verdict in favor of the remaining defendant,
Brown & Williamson, on February 6, 2001.

                                       51
<PAGE>   52
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     RJR Tobacco has prevailed in all individual smoker cases that have gone to
trial except two. In Whiteley v. Raybestos-Manhattan, Inc., a tobacco-asbestos
synergy case brought in San Francisco Superior Court, the jury found against RJR
Tobacco and Philip Morris on March 20, 2000, and awarded $1.7 million in
compensatory damages. On March 27, 2000, the same jury awarded $20 million in
punitive damages ($10 million against RJR Tobacco and $10 million against Philip
Morris). RJR Tobacco and Philip Morris have filed their notice of appeal, and
RJR Tobacco believes it has valid grounds for appeal. In Jones v. R. J. Reynolds
Tobacco Co., a wrongful death case, a Tampa state court jury found against RJR
Tobacco on October 12, 2000. Although the jury found that RJR Tobacco was
negligent and liable, it refused to find that RJR Tobacco was part of a
conspiracy to defraud. The jury awarded approximately $200,000 in compensatory
damages; however, the jury refused to award punitive damages. On December 28,
2000, the trial judge granted RJR Tobacco's motion for a new trial.

     Juries have found for plaintiffs in five smoking and health cases in which
RJR Tobacco was not a defendant, although, to date, no damages have been paid.
Two of the verdicts have been overturned on appeal, and the other three remain
on appeal. In February 1999, in Henley v. Philip Morris, Inc., a San Francisco
state court jury awarded an individual smoker $1.5 million in compensatory
damages and $50 million in punitive damages. In April 1999, the trial judge
reduced the punitive damages award to $25 million, but otherwise denied Philip
Morris' post-trial motions challenging the verdict. Philip Morris is appealing
the verdict. In Williams v. Philip Morris, Inc., an Oregon state court jury
returned a verdict against Philip Morris in March 1999, in the amount of
$800,000 in actual damages, $21,500 in medical expenses and $79 million in
punitive damages. The judge in this case reduced the punitive damages to $32
million. Philip Morris' appeal is pending. In the third case, Carter v. American
Tobacco Co, the Florida Supreme Court, on November 22, 2000, reversed the ruling
(in favor of Brown & Williamson) by the Florida Second District Court of Appeal,
and reinstated the jury verdict against Brown & Williamson. On January 29, 2001,
the Florida Supreme Court denied Brown & Williamson's request for a rehearing.
Brown & Williamson may appeal to the United States Supreme Court.

     Broin II Cases.  As of February 7, 2001, approximately 3,074 lawsuits,
referred to as the Broin II cases, have been filed, and are still pending, in
Florida, by individual flight attendants, for personal injury as a result of
illness allegedly caused by exposure to secondhand tobacco smoke in airline
cabins. In these lawsuits, filed pursuant to the terms of the settlement of the
Broin v. Philip Morris, Inc. class action, discussed below, each individual
flight attendant will be required to prove that he or she has a disease caused
by exposure to secondhand smoke in airplane cabins.

     On October 5, 2000, Judge Robert Kaye entered an order applicable to all
Broin II cases that the terms of the Broin settlement agreement do not require
the individual Broin II plaintiffs to prove the elements of strict liability,
breach of warranty or negligence. Rather, under this order, they will be
required only to prove that their alleged adverse health effects were actually
caused by environmental tobacco smoke exposure. Although defendants still may
prevail on causation and other theories, RJR Tobacco does not believe the order
is correct under Florida law or that it accurately reflects the intent of the
Broin settlement agreement. Accordingly, defendants appealed Judge Kaye's ruling
to the Third District Court of Appeal on November 3, 2000. Plaintiffs moved to
dismiss the appeal on November 28, 2000. However, on January 12, 2001, the Third
District Court of Appeal denied plaintiffs' motion to dismiss.
Defendants-Appellants' initial brief was filed on January 26, 2001.

     Class-Action Suits.  In May 1996, in an early class-action case, Castano v.
American Tobacco Co., the Fifth Circuit Court of Appeals overturned the
certification of a nationwide class of persons whose claims related to alleged
addiction to tobacco. Since this ruling by the Fifth Circuit, most class-action
suits have sought certification of statewide, rather than nationwide, classes.

     Class-action suits based on claims similar to those asserted in Castano
have been brought against RJR Tobacco, and in some cases RJR, in state or
federal courts in Alabama, Arkansas, California, the District of Columbia,
Florida, Hawaii, Illinois, Indiana, Iowa, Louisiana, Maryland, Massachusetts,
Michigan, Minne-

                                       52
<PAGE>   53
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

sota, Missouri, New Mexico, Nevada, New Jersey, New York, North Carolina, Ohio,
Oklahoma, Pennsylvania, South Carolina, Tennessee, Texas, Utah, Virginia and
West Virginia. In addition, a class action filed in Tennessee seeks
reimbursement of Blue Cross and Blue Shield premiums paid by subscribers
throughout the United States, and class-action suits against RJR Tobacco in
Illinois, Missouri, Ohio and Pennsylvania claim that the marketing of "light"
and "ultralight" cigarettes is deceptive. Plaintiffs have made similar claims in
other lawsuits elsewhere. Other types of class-action suits also have been filed
in additional jurisdictions. Most of these suits assert claims on behalf of
classes of individuals who claim to be addicted, injured, or at greater risk of
injury by the use of tobacco or exposure to environmental tobacco smoke, or who
are the legal survivors of such persons. A number of unions and other
third-party payors have filed health-care cost recovery actions in the form of
class actions. These cases are discussed separately below. Class certification
motions are pending in several state and federal courts.

     Few smoker class-action complaints have been certified, or if certified,
have survived on appeal. All 13 federal courts that have considered the issue,
including two courts of appeals, have rejected class certification in smoker
cases. On November 6, 2000, the United States District Court for the Eastern
District of New York denied certification to a purported class of smokers in
Simon v. Philip Morris, Inc. The class was defined as all persons residing in
the United States, or who were residents at the time of their death, who had a
20-pack-per-year history of smoking, and who had a timely claim as of April 9,
1999 for personal injury or wrongful death arising from lung cancer. Most
recently, on December 29, 2000, in Aksamit v. Brown & Williamson Tobacco Corp.,
the United States District Court for the District of South Carolina denied class
certification to a purported class defined as any and all persons who have been
addicted to, harmed or killed by, tobacco products that were designed, tested,
manufactured, distributed and/or sold by any of the defendants within the
geographic territory of the State of South Carolina.

     Similarly, most state courts have refused to certify smoker class actions.
On January 10, 2000, in Taylor v. American Tobacco Co., a Michigan state court
judge denied certification of another smoker class action. On April 10, 2000, a
California state court judge denied certification in Brown v. American Tobacco
Co. On May 16, 2000, in Richardson v. Philip Morris Inc., the highest state
court in Maryland reversed a trial court's decision to certify a class of
individual smokers. On September 19, 2000, in Walls v. American Tobacco Co., an
Oklahoma state court answered a series of state law questions (certified to the
state court by the federal court where the purported class was filed) in such a
way that led the parties to stipulate that the case should not be certified as a
class action in federal court and that the individual plaintiffs would dismiss
their federal court cases without prejudice. The federal court issued an order
on October 19, 2000, refusing to certify the case as a class action, and
dismissed the individual plaintiffs' cases. On December 8, 2000, in Geiger v.
American Tobacco Co., the Appellate Division of the Supreme Court of New York,
Second Judicial Department, affirmed denial of class action status to a
purported class defined as all New York residents, including their heirs,
representatives and estates, who contracted lung and/or throat cancer as a
result of smoking cigarettes. On December 19, 2000, the Court of Common Pleas of
Philadelphia County, Pennsylvania, denied plaintiffs' motion for class
certification in Oliver v. R. J. Reynolds Tobacco Co. Plaintiffs had sought
certification on behalf of residents of Pennsylvania who, on or after March 3,
1992, purchased and smoked light and/or ultralight cigarettes within
Pennsylvania that were manufactured, marketed and/or distributed by defendants.
Finally, on January 30, 2001, in Badillo v. American Tobacco Co., Inc., the
Nevada Supreme Court, in response to questions raised by a federal district
court in Nevada, held that Nevada law does not recognize medical monitoring as a
cause of action. The federal district court will consider this opinion in
determining whether or not to certify the Badillo case (a purported class of
casino workers exposed to environmental tobacco smoke) and several individual
smoker class actions.

     Classes have remained certified thus far in five state court class-action
cases in which RJR Tobacco is a defendant. On November 5, 1998, in Scott v.
American Tobacco Co., a Louisiana state appeals court affirmed the certification
of a medical monitoring and/or smoking cessation class of Louisiana residents
who were smokers on or before May 24, 1996. On February 26, 1999, the Louisiana
Supreme Court denied the defendants' petition for writ of certiorari and/or
review. Trial is scheduled to begin on June 18, 2001. On

                                       53
<PAGE>   54
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

August 16, 2000, in Blankenship v. Philip Morris, Inc., a West Virginia state
court conditionally certified (only to the extent of medical monitoring) a class
of West Virginia residents consisting of: (1) all nicotine-dependent persons who
are West Virginia residents who have purchased and smoked cigarettes
manufactured, promoted, marketed, advertised and/or sold by defendants, (2) the
estates, representatives and administrators of West Virginia residents who were
or are nicotine-dependent cigarette smokers, and (3) the spouses, children,
relatives and "significant others" of these West Virginia residents who were or
are nicotine-dependent cigarette smokers as their heirs or survivors. The trial
of this case ended on January 25, 2001, when the judge declared a mistrial.
Argument on decertification of the class, among other things, has been scheduled
for February 19, 2001. On November 30, 2000, in Daniels v. Philip Morris Cos.,
Inc., a San Diego Superior Court judge reversed a prior ruling and, based on a
California statute, certified a class consisting of all persons who, as
California resident minors, smoked one or more cigarettes in California between
April 2, 1994 and December 1, 1999.

     In addition, defendants settled one class-action suit, Broin v. Philip
Morris, Inc., in October 1997. The Florida Court of Appeal denied challenges to
this settlement on March 24, 1999, and subsequently denied motions to
reconsider. On September 7, 1999, the Florida Supreme Court dismissed all
proceedings, and the settlement and judgment became final. The Broin II cases,
discussed above, arose out of the settlement of this case.

     Trial began in July 1998 in Florida state court in Engle v. R. J. Reynolds
Tobacco Co., in which a class consisting of Florida residents, or their
survivors on their behalf, claim to have diseases or medical conditions caused
by their alleged "addiction" to cigarettes. On July 7, 1999, the jury found
against RJR Tobacco and the other cigarette manufacturer defendants in the
initial phase, which included common issues related to certain elements of
liability, general causation and a potential award of or entitlement to punitive
damages. The second phase of the trial, which consisted of the claims of three
of the named class representatives, began on November 1, 1999. On April 7, 2000,
the jury returned a verdict against all defendants. They awarded plaintiff Mary
Farnan $2.85 million, the estate of plaintiff Angie Della Vecchia $4.023 million
and plaintiff Frank Amodeo $5.831 million. The jury also found, however, that
Frank Amodeo knew or should have known of his claim prior to May 5, 1990. The
legal effect of that finding should be to bar his claim based on the applicable
statute of limitations. In the second phase, the trial court also ordered the
jury to determine punitive damages, if any, on a class-wide basis. On July 14,
2000, the jury returned a punitive damages verdict in favor of the "Florida
class" of approximately $145 billion against all the defendants, with
approximately $36.3 billion being assigned to RJR Tobacco. On July 24, 2000, the
defendants, including RJR Tobacco, filed numerous post-verdict motions,
including motions for a new trial and to reduce the amount of the punitive
damages verdict. On November 6, 2000, the trial judge denied the post-trial
motions and entered judgment. On November 7, 2000, RJR Tobacco posted an appeal
bond in the amount of $100 million, pursuant to a Florida statute enacted on May
9, 2000, and initiated the appeals process. RJR Tobacco believes it has numerous
bases for a successful appeal, although it cannot predict the outcome of the
appellate process.

     Although the bond legislation described above is intended to apply to the
Engle case, RJR Tobacco cannot predict the outcome of any possible challenges to
the legislation's validity. In addition, four states, Georgia, Kentucky, North
Carolina and Virginia have enacted legislation that limits the size of the bond
required to stay execution of a punitive damages verdict pending appeal, but
does not affect the underlying verdict.

     Governmental Health-Care Cost Recovery Cases.  In June 1994, the
Mississippi attorney general brought an action, Moore v. American Tobacco Co.,
against various industry members, including RJR Tobacco. This case was brought
on behalf of the state to recover state funds paid for health care and medical
and other assistance to state citizens suffering from diseases and conditions
allegedly related to tobacco use. By making the state the plaintiff in the case
and basing its claims on economic loss rather than personal injury, the state
sought to avoid the defenses otherwise available against an individual
plaintiff. Most other states, through their attorneys general or other state
agencies, sued RJR Tobacco and other U.S. cigarette manufacturers based on
similar theories. The cigarette manufacturer defendants, including RJR Tobacco,
                                       54
<PAGE>   55
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

settled the first four of these cases scheduled to come to trial, those of
Mississippi, Florida, Texas and Minnesota, by separate agreements between each
state and those manufacturers in each case.

     On November 23, 1998, the major U.S. cigarette manufacturers, including RJR
Tobacco, entered into the Master Settlement Agreement with attorneys general
representing the remaining 46 states, the District of Columbia, Puerto Rico,
Guam, the Virgin Islands, American Samoa and the Northern Marianas. The MSA
became effective on November 12, 1999, when final approval of the settlement was
achieved in 80% of the settling jurisdictions. As of October 17, 2000, final
approval had been achieved in all settling jurisdictions. The MSA settled all
the health-care cost recovery actions brought by, or on behalf of, the settling
jurisdictions and contains releases of various additional present and future
claims.

     In the settling jurisdictions, the MSA released RJR Tobacco, indemnitees
and RJR from: (1) all claims of the settling states and their respective
political subdivisions and other recipients of state health-care funds, relating
to past conduct arising out of the use, sale, distribution, manufacture,
development, advertising, marketing or health effects of, the exposure to, or
research, statements or warnings about, tobacco products and (2) all monetary
claims relating to future conduct arising out of the use of, or exposure to,
tobacco products that have been manufactured in the ordinary course of business.

          - Monetary Liabilities.  In addition to the payments made in 1998,
     1999 and 2000, the MSA calls for three annual initial industry payments
     starting in 2001 of up to approximately $2.5 billion, $2.6 billion and $2.7
     billion, respectively. It also requires perpetual annual industry payments,
     increasing from the current $5 billion to $8 billion in 2004, and further
     to $9 billion in 2018 and thereafter. Ten additional payments of $861
     million are due annually beginning in April 2008. All payments are to be
     allocated among the companies on the basis of relative market share and
     most are subject to adjustments for changes in sales volume units,
     inflation and other factors. Accordingly, RJR Tobacco records its
     allocation of charges in cost of goods sold as products are shipped.

          The tobacco companies also agreed to (1) make a one-time payment of
     $50 million on March 31, 1999, to establish a fund for enforcement of the
     MSA and law relating to tobacco products and (2) fund activities of the
     National Association of Attorneys General relating to the MSA at the cost
     of $150,000 per year for ten years.

          In addition, the MSA calls for the creation of a national foundation
     that would establish public education and other programs, and conduct or
     sponsor research, to reduce youth smoking, and to understand, and educate
     the public about, diseases associated with tobacco product use. The tobacco
     companies agreed to fund the foundation with (1) ten annual payments of $25
     million, which began on March 31, 1999, (2) further payments of $250
     million, which began on March 31, 1999, and $300 million annually
     thereafter for four years, and (3) additional annual payments of $300
     million beginning in 2004 if, during the year preceding the year when
     payment is due, participating manufacturers collectively accounted for at
     least 99.05% of the cigarette market. Each of these payments is to be
     allocated among the companies on the basis of relative market share. Other
     than the $25 million annual payments and the $250 million payment made on
     March 31, 1999, the payments for the foundation are subject to adjustments
     for changes in sales volume units, inflation and other factors.

          The manufacturers also agreed to pay the litigation costs, including
     government attorneys' fees, of the offices of the attorneys general
     relating to the settled cases and, subject to certain quarterly and annual
     payment caps, the costs and fees of outside counsel to the jurisdictions.
     Outside counsel fees have been determined either by arbitration or in
     accordance with a negotiated fee procedure. Awards determined by
     arbitration will be paid subject to an aggregate annual cap on arbitrated
     attorneys' fees for all these and certain other settled cases of $500
     million. Fees set by the negotiated fee procedure are subject to an annual
     cap of $250 million, and will not exceed a total of $1.25 billion. As of
     February 7, 2001, awards determined by arbitration totaled $11.9 billion,
     and awards determined in accordance with a negotiated fee procedure totaled
     approximately $626 million. Reimbursement of costs is capped at $150
     million for litigation costs, including government attorneys' fees, of the
     attorneys' general offices and at
                                       55
<PAGE>   56
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     $75 million annually for outside counsels' costs. Payments for attorneys'
     fees and costs are to be allocated on a market-share basis.

          - Growers' Trust.  As part of the MSA, the tobacco companies agreed to
     work with U.S. tobacco growers to address the possible adverse economic
     impact of the MSA on growers. As a result, RJR Tobacco and the three other
     major manufacturers agreed to participate in funding a $5.2 billion trust
     fund to be administered by a trustee, in conjunction with a certification
     entity from each of the tobacco growing states. The trust agreement
     provides for a schedule of aggregate annual payments, subject to various
     adjustments, that are payable in quarterly installments each year from 1999
     through 2010. The aggregate annual payment by all participating
     manufacturers is adjusted each year for inflation and any change in the
     total domestic cigarette volume of all participating manufacturers. In
     general, the annual payment by each participating manufacturer, including
     RJR Tobacco, is based on each manufacturer's relative market share of total
     domestic cigarette shipments during the preceding calendar year. Each
     manufacturer's annual payment is also subject to a tax offset adjustment.

          - Other MSA Obligations.  The MSA also contains provisions restricting
     the marketing of cigarettes. Among these are restrictions or prohibitions
     on the use of cartoon characters, brand name sponsorships, brand name
     non-tobacco products, outdoor and transit brand advertising, payments for
     product placement, free sampling and lobbying. The MSA also required the
     dissolution of three industry-sponsored research and advocacy
     organizations.

     The cash payments made by RJR Tobacco under the MSA and other existing
settlement agreements were $2.2 billion, $1.6 billion and $.8 billion in 2000,
1999 and 1998, respectively. RJR Tobacco estimates these payments in 2001 and
future years will exceed $2 billion per year. However, these payments will be
subject to adjustments based upon, among other things, the volume of cigarettes
sold by RJR Tobacco, RJR Tobacco's market share and inflation.

     On April 20, 1999, the Canadian Province of British Columbia brought a case
in British Columbia Provincial Court, similar to the U.S. attorneys' general
cases, against RJR Tobacco and certain other Canadian and U.S. tobacco companies
and their parent companies, including RJR. This lawsuit relied heavily upon
special legislation enacted in British Columbia that was separately challenged
by various Canadian tobacco companies. An agreement was reached with the
government in British Columbia to litigate the separate constitutional
challenges prior to the health-care cost recovery action itself. On February 21,
2000, the British Columbia Supreme Court declared the Cost Recovery Act
unconstitutional and dismissed the action. That decision was not appealed by the
government.

     On September 22, 1999, the U.S. Department of Justice brought an action in
the United States District Court for the District of Columbia against various
industry members, including RJR Tobacco. The government seeks to recover federal
funds expended in providing health care to smokers who have developed diseases
and injuries alleged to be smoking-related, and, in addition, seeks, pursuant to
the federal RICO statute, disgorgement of profits the government contends were
earned as a consequence of a RICO racketeering "enterprise." On December 27,
1999, defendants filed a motion to dismiss challenging all counts included in
the action brought by the DOJ. On June 6, 2000, the trial court heard oral
argument on the motion. On September 28, 2000, federal court Judge Gladys
Kessler of the United States District Court for the District of Columbia granted
the non-Liggett defendants' motion to dismiss the following counts of
plaintiff's complaint: (1) Medical Care Recovery Act claim, and (2) Medicare
Secondary Payer claim. The court, however, denied the motion with respect to the
RICO claims. On October 13, 2000, the United States filed a motion to limit
Judge Kessler's September 28, 2000 order to claims for payments under Medicare
and the Federal Employee Health Benefits Act.

     Union Cases.  Although the MSA settled some of the most potentially
burdensome health-care cost recovery actions, many other such cases have been
brought by other types of plaintiffs. As of February 7, 2001, approximately 21
lawsuits by union trust funds against cigarette manufacturers and others are
pending. The funds seek recovery of payments made by them for medical expenses
of their participant union members and

                                       56
<PAGE>   57
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

their dependents allegedly injured by cigarettes. The claims in these cases are
almost identical, and several of these cases purport to be class actions on
behalf of all union trust funds in a particular state.

     The defendants in these actions argue, among other things, that one who
pays an injured person's medical expenses is legally too remote to maintain an
action against the person allegedly responsible for the injury. In addition,
they argue that the traditional subrogation remedy cannot be supplanted by a
direct right of action for the trust fund that strips defendants of the defenses
they would ordinarily have against the allegedly injured individual.

     On March 29, 1999, in the first of these cases to be considered by a
federal court of appeals, Steamfitters Local Union 420 v. Philip Morris, Inc.,
the U.S. Court of Appeals for the Third Circuit affirmed a district court ruling
dismissing a case on remoteness grounds. Since then, the U.S. Courts of Appeals
for the Second, Third, Fifth, Seventh, Eighth, Ninth and Eleventh Circuits have
all ruled in favor of the industry in similar union cases. On January 10, 2000,
the United States Supreme Court denied petitions for certiorari filed in cases
from the Second, Third and Ninth Circuits. On August 22, 2000, the Eleventh
Circuit ruled that the district court did not err in dismissing the plaintiff's
complaint and in denying the plaintiff's leave to amend the complaint in United
Food and Commercial Workers Unions and Employers Health and Welfare Fund v.
Philip Morris, Inc. On September 1, 2000, in Lyons v. Philip Morris, Inc., the
Eighth Circuit affirmed the trial court's dismissal.

     Numerous trial court judges also have dismissed union trust fund cases on
remoteness grounds. Nonetheless, some union, or other third-party payor, cases
have survived motions to dismiss and may proceed to trial. On August 2, 1999, a
federal district court in New York denied defendants' motions to dismiss in two
separate cases heard together, National Asbestos Workers Medical Fund v. Philip
Morris, Inc. and Blue Cross and Blue Shield of New Jersey, Inc. v. Philip
Morris, Inc. On December 21, 1999, the federal district court in the District of
Columbia denied defendants' motions to dismiss in three cases consolidated for
pretrial purposes: Service Employees International Union Health and Welfare Fund
v. Philip Morris, Inc., S.E.I.U. Local 74 Welfare Fund v. Philip Morris, Inc.
and Holland v. Philip Morris, Inc. The latter set of cases is on appeal to the
United States Court of Appeals for the District of Columbia.

     On March 3, 2000, a New York state court granted motions to dismiss ten
union cases, Eastern States Health & Welfare Fund v. Philip Morris, Inc.,
brought by 14 union trust funds seeking to recover money paid for medical bills
incurred by their participants and beneficiaries who suffer from alleged
tobacco-caused diseases. This group of cases is on appeal to the Appellate
Division of the Supreme Court of New York. On September 26, 2000, in
Steamfitters Local Union No. 614 Health and Welfare Fund v. Philip Morris, Inc.,
the Tennessee Court of Appeals affirmed the trial court's dismissal of the
antitrust claim and found the remaining claims in the plaintiffs' complaint were
too remote to permit recovery.

     The first and only union case to go to trial to date was Iron Workers Local
No. 17 v. Philip Morris, Inc., which was tried in federal court in Ohio. On
March 18, 1999, the jury returned a unanimous verdict for the defendants,
including RJR Tobacco. The plaintiffs dismissed their appeal of the verdict.

     Other Health-Care Cost Recovery and Aggregated Claims Plaintiffs. Native
American tribes have filed similar cases, out of which four remain pending in
tribal courts, one in federal court in each of New Mexico and Texas and one
class action in San Diego Superior Court. On December 8, 2000, in Utu Utu Gwaitu
Paiute Tribe v. Philip Morris, Inc., the San Diego Superior Court denied
plaintiffs' motion for class certification. On January 10, 2001, plaintiffs
filed a request for dismissal with the court, which has yet to be approved.
Trial in this matter had been scheduled to begin June 4, 2001. On July 11, 2000,
in Lower Brule Sioux Tribe v. American Tobacco Co., the Lower Brule Sioux Tribe
voluntarily dismissed its suit in tribal court. On November 12, 1999, in Table
Bluff Reservation v. Philip Morris, Inc., a federal district court dismissed the
plaintiffs' lawsuit. Plaintiffs have appealed this ruling to the United States
Court of Appeals for the Ninth Circuit.

                                       57
<PAGE>   58
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Groups of health-care insurers, as well as a private entity that purported
to self-insure its employee health-care programs, have also advanced claims
similar to those found in the union health-care cost recovery actions. Two of
these "insurer" cases, Williams & Drake v. American Tobacco Co. and Regence
Blueshield v. Philip Morris, Inc., were dismissed in their entirety on
remoteness grounds by federal district courts in Pennsylvania and Washington.
These cases are on appeal to the Third and Ninth Circuits, respectively. In a
third case, Group Health Plan, Inc. v. Philip Morris, Inc., a federal district
judge in Minnesota dismissed all claims, except a state antitrust claim and a
state conspiracy claim. The federal court certified to the Minnesota Supreme
Court the question of whether these two claims could be pursued under Minnesota
law by Group Health Plan. On January 11, 2001, the Minnesota Supreme Court ruled
that the plaintiff can pursue these claims.

     Other cost recovery suits have been brought by, among others, foreign
countries, local governmental jurisdictions, taxpayers on behalf of a government
jurisdiction, a university and hospitals. On November 4, 1999, in Allegheny
General Hospital v. Philip Morris, Inc., the U.S. District Court for the Western
District of Pennsylvania dismissed a third-party payor lawsuit filed against the
tobacco industry by a number of hospital and health-care facilities. Plaintiff
appealed this ruling to the United States Court of Appeals for the Third
Circuit, which affirmed the trial court's dismissal on October 6, 2000. On
December 14, 1999, a federal district court in Washington dismissed a similar
case, Association of Washington Public Hospital Districts v. Philip Morris, Inc.
Plaintiffs have appealed this ruling to the United States Court of Appeals for
the Ninth Circuit. On May 30, 2000, in A.O. Fox Memorial Hospital v. American
Tobacco Co., Inc., a group of approximately 175 hospitals filed suit against the
tobacco industry seeking repayment from cigarette companies for costs expended
to treat smoking-related illnesses. Plaintiffs seek at least $3.6 billion in
damages. On August 7, 2000, a federal district court in Washington, D.C.
dismissed an international health-care cost recovery action entitled Ontario v.
Imperial Tobacco, Ltd. Plaintiffs are appealing the dismissal to the United
States Court of Appeals for the District of Columbia.

     A number of foreign countries have filed suit in state and federal courts
in the United States against RJR Tobacco and other tobacco industry defendants
to recover funds for health care and medical and other assistance paid by those
foreign governments to their citizens. Of the 18 cases currently pending, eight
are pending in state court and ten are pending in federal court. Six federal
court cases have been transferred by the Panel on Multi-District Litigation to
the District Court of the District of Columbia. Other foreign governments and
entities have stated that they are considering filing such actions in the United
States. In addition, the Republic of the Marshall Islands has brought a
health-care cost recovery lawsuit in the Marshall Islands against RJR Tobacco
and other cigarette manufacturers. Pursuant to the terms of the 1999 sale of
RJR's international tobacco business, Japan Tobacco Inc. assumed RJR Tobacco's
liability, if any, in these cases.

     On January 5, 2000, a San Diego Superior Court judge dismissed certain
claims in two lawsuits: California v. Philip Morris, Inc. and California v.
Brown & Williamson Tobacco Corp. These lawsuits, brought by the cities of Los
Angeles and San Jose, on behalf of the people of California, claimed that the
tobacco industry violated California's Proposition 65 and several California
state laws by failing to warn nonsmokers about the State of California's
conclusions concerning the dangers of environmental tobacco smoke. The judge
found that the industry had not violated Proposition 65 and dismissed those
claims. The judge did not dismiss certain other California state law claims. The
parties in these two actions agreed to settle the remaining claims in these
cases. On November 20, 2000, the court approved the settlements and entered
final judgments.

     Finally, ten lawsuits are pending against RJR Tobacco in which asbestos
companies and/or asbestos-related trust funds allege that they "overpaid" claims
brought against them to the extent that tobacco use, not asbestos exposure, was
the cause of the alleged personal injuries for which they paid compensation.
Falise v. American Tobacco Co. was dismissed by the United States District Court
for the Eastern District of New York on November 2, 1999, due to a lack of
subject matter jurisdiction. This case was refiled on November 11, 1999. Trial
began on November 27, 2000. On January 22, 2001, the judge declared a mistrial.
No date has yet been set for the re-trial of this case. Other such cases pending
in New York, Mississippi and California might go to trial in 2001.
                                       58
<PAGE>   59
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     Antitrust Cases.  Approximately 52 lawsuits have been filed by tobacco
wholesalers, or indirect purchasers, against United States cigarette
manufacturers, including RJR Tobacco, and its parent company, RJR, alleging that
cigarette manufacturers combined and conspired to set the price of cigarettes,
in violation of antitrust statutes and various state unfair business practices
statutes. Approximately 39 of these cases remain pending -- 8 in federal court
and 31 in state courts. In all cases, plaintiffs are asking the court to certify
the lawsuits as class actions, and to allow the respective plaintiffs to pursue
the lawsuits as representatives of other persons in the United States, and
throughout the world, that purchased cigarettes directly from one or more of the
defendants. The federal cases have been consolidated and sent by the Judicial
Panel on Multidistrict Litigation for pretrial in the United States District
Court for the Northern District of Georgia. On November 30, 2000, the court
dismissed plaintiffs' claims of fraudulent concealment, claims concerning
conduct outside the United States, and allegations relating to non-price
conduct. On January 12, 2001, plaintiffs moved to replead their fraudulent
concealment allegations. On January 23, 2001, the federal court certified a
class of direct-purchaser plaintiffs.

     On March 2, 2000, Liggett Group Inc. filed an antitrust action against RJR
Tobacco in the U.S. District Court for the District of New Jersey. Subsequently,
the court granted RJR Tobacco's motion to transfer this action to the United
States District Court for the Middle District of North Carolina. The suit
alleges that RJR Tobacco's Every-Day-Low-Price merchandising program, which
provides consumer discounts in retail establishments that choose to offer RJR
Tobacco products as their lowest-priced cigarettes, is a violation of the
Sherman Antitrust Act and New Jersey antitrust laws. RJR Tobacco believes that
its program is pro-competitive and that the court will find Liggett's
allegations to be without merit.

     On July 30, 1999, Cigarettes Cheaper!, a retailer, filed an antitrust
counterclaim against RJR Tobacco in a gray market trademark suit originally
brought by RJR Tobacco in the United States District Court for the Northern
District of Illinois. Cigarettes Cheaper! alleges that it was denied promotional
resources in violation of the Robinson-Patman Act. The district court declined
to dismiss the counterclaim. Discovery is ongoing. On January 19, 2001,
Cigarettes Cheaper! moved to amend its counterclaim to include a violation of
the Sherman Act sec. 1, claiming that RJR Tobacco conspired with other retailers
to deny promotions to Cigarettes Cheaper!.

     On May 10, 2000, the Customer Company, a retailer affiliated with
Cigarettes Cheaper!, filed a substantially similar antitrust claim against RJR
Tobacco in the United States District Court for the Northern District of
California. Discovery is ongoing. Trial is scheduled to begin on October 29,
2001 in Oakland, California.

     Tobacco Growers' Case.  On February 16, 2000, a class-action complaint,
Deloach v. Philip Morris Cos., Inc., was brought against RJR Tobacco, other
cigarette manufacturers and others, in the United States District Court for the
District of Columbia on behalf of a putative class of all tobacco growers and
tobacco allotment holders (some 5,930 of which are actually named in the first
amended complaint). Plaintiffs' current theory, as reflected in their second
amended complaint (which was filed on September 2, 2000), is that the defendants
(Philip Morris, Inc., RJR Tobacco, Brown & Williamson Tobacco Corp. and
Lorillard Tobacco Co.) engaged in bid-rigging of American tobacco auctions (both
burley and flue-cured) beginning at least by 1996 and continuing to present.
Defendants' actions are alleged to have held the auction prices of tobacco at
artificially low prices resulting in damage to tobacco growers and allotment
holders. In addition, plaintiffs allege that defendants have engaged in a
conspiracy to force the elimination or destruction of the federal government's
tobacco quota and price support program through an alleged illegal group
boycott. On October 9, 2000, defendants filed a motion to dismiss the second
amended complaint and a motion to transfer venue to the United States District
Court for the Middle District of North Carolina. On November 30, 2000, the court
granted the motion to transfer the case. On December 20, 2000, plaintiffs moved
to amend the complaint to add leaf-buying companies as defendants.

     Scheduled Trials.  RJR Tobacco is a defendant in 11 non-Broin II cases
currently scheduled for trial in the first half of 2001. These cases include
five individual smoking and health cases, four asbestos contribution

                                       59
<PAGE>   60
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

cases, one health-care cost recovery case and one medical monitoring class
action. Additionally, several Broin II cases are scheduled for trial during this
period.

     Although trial schedules are subject to change and many cases are dismissed
before trial, it is likely that there will be an increased number of tobacco
cases, some involving claims for possibly billions of dollars, against RJR
Tobacco and RJR coming to trial over the next year.

     Other Developments.  RJR Tobacco is aware of a grand jury investigation
being conducted in North Carolina that relates to the cigarette business of
certain of its former affiliates. In connection with this investigation, RJR
Tobacco responded to document subpoenas dated July 7, 1999 and June 1, 2000,
respectively.

     On December 22, 1998, Northern Brands International, Inc. entered into a
plea agreement with the United States Attorney for the Northern District of New
York. Northern Brands is a now-inactive tobacco subsidiary that was part of the
business of R.J. Reynolds International B.V., a former Netherlands subsidiary of
RJR Tobacco which was managed by a former affiliate, RJR-MacDonald, Inc. On
May 12, 1999, RJR-MacDonald, Inc. was sold to Japan Tobacco Inc. and
subsequently changed its name to JTI-MacDonald, Inc. Northern Brands was charged
with aiding and abetting certain customers who brought merchandise into the
United States "by means of false and fraudulent practices . . . ."
JTI-MacDonald, Inc., Japan Tobacco's international operating company in Canada,
is cooperating with an investigation now being conducted by the Royal Canadian
Mounted Police relating to the same events that gave rise to the Northern Brands
investigation.

     On December 21, 1999, the government of Canada filed a lawsuit in the
United States District Court for the Northern District of New York against RJR
Tobacco, RJR, several currently and formerly related companies, including
Northern Brands, and the Canadian Tobacco Manufacturers Council. The lawsuit
alleges that, beginning in 1991, the defendants conspired with known
distributors and smugglers to illegally import into Canada tobacco products
originally earmarked for export from Canada, in a fashion that avoided the
imposition of certain excise and retail taxes and duty payments. On June 30,
2000, this case was dismissed by the United States District Court for the
Northern District of New York. Plaintiff appealed the dismissal to the United
States Court of Appeals for the Second Circuit on July 28, 2000; no ruling has
been issued. Although the international tobacco business was sold, RJR Tobacco
retained certain liabilities relating to the events disclosed above.

     On or about October 30, 1998, a boat manufacturer, American Marine
Holdings, Inc., filed suit against RJR Tobacco claiming that one of its boats
was not properly identified in RJR Tobacco cigarette advertising. The plaintiff
claims, among other things, violations of the Lanham Act and breach of an
alleged oral contract and seeks in excess of $20 million in damages. Trial is
scheduled for April 2, 2001.
                             ---------------------

     Litigation is subject to many uncertainties, and it is possible that some
of the tobacco-related legal actions, proceedings or claims could be decided
against RJR Tobacco or its affiliates, including RJR, or indemnitees.
Determinations of liability or adverse rulings against other cigarette
manufacturers that are defendants in similar actions, even if such rulings are
not final, could adversely affect the litigation against RJR Tobacco or its
affiliates or indemnitees and could encourage an increase in the number of such
claims. A number of political, legislative, regulatory and other developments
relating to the tobacco industry and cigarette smoking have received wide media
attention. These developments may negatively affect the outcomes of
tobacco-related legal actions and encourage the commencement of additional
similar litigation.

     Although it is impossible to predict the outcome of such events on pending
litigation and the rate at which new lawsuits are filed against RJR Tobacco and
RJR, a significant increase in litigation and/or in adverse outcomes for tobacco
defendants could have an adverse effect on either or both of these entities. RJR
Tobacco and RJR each believe that they have a number of valid defenses to any of
those actions and intend to defend those actions vigorously.

                                       60
<PAGE>   61
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     RJR believes that, notwithstanding the quality of defenses available to it
and RJR Tobacco in litigation matters, it is possible that the results of
operations or cash flows of RJR in particular quarterly or annual periods or
RJR's financial condition could be materially affected by the ultimate outcome
of certain pending litigation matters, including bonding and litigation costs.
RJR's management is unable to predict the outcome of the litigation or to derive
a meaningful estimate of the amount or range of any possible loss in any
particular quarterly or annual period or in the aggregate.

ENVIRONMENTAL MATTERS

     RJR and its subsidiaries are subject to federal, state and local
environmental laws and regulations concerning the discharge, storage, handling
and disposal of hazardous or toxic substances. Such laws and regulations provide
for significant fines, penalties and liabilities, sometimes without regard to
whether the owner or operator of the property knew of, or was responsible for,
the release or presence of hazardous or toxic substances. In addition, third
parties may make claims against owners or operators of properties for personal
injuries and property damage associated with releases of hazardous or toxic
substances. In the past, RJR Tobacco has been named a potentially responsible
party with third parties under the Comprehensive Environmental Response,
Compensation and Liability Act with respect to several superfund sites. Finally,
regulations promulgated by the U.S. Environmental Protection Agency and other
governmental agencies under various statutes have resulted in, and likely will
continue to result in, substantial expenditures for pollution control, waste
treatment, plant modification and similar activities. RJR and its subsidiaries
monitor their environmental matters and, dependent upon the probability of
occurrence and reasonable estimation of cost, accrue or disclose any material
liability.

     RJR has been named in an insurance coverage suit brought by another company
named as a potentially responsible party under CERCLA with respect to a
superfund site in Hawaii at which a former subsidiary of RJR had operations. In
this lawsuit, Del Monte Fresh Produce v. Fireman's Fund Insurance, filed August
13, 1997 in the First Circuit Court of the State of Hawaii, the plaintiff seeks
declaratory judgment that it is entitled to insurance coverage for the site or,
in the alternative, that RJR is obligated to indemnify the plaintiff under the
terms of the agreement by which RJR sold that company in 1989. The Fireman's
Fund Insurance Company has filed a motion for summary judgment that has not yet
been heard.

     Del Monte Corporation has been named a defendant in two lawsuits related to
the same Hawaii superfund site, Board of Water Supply of the City and County of
Honolulu v. Shell Oil Company and Akee v. The Dow Chemical Co., filed in the
First Circuit Court of the State of Hawaii on September 27, 1999, and October 7,
1999, respectively. Also, Del Monte Corporation has received a demand for
indemnity from an entity that was a chemical supplier to Del Monte Corporation
and is named a defendant in one of these lawsuits. Del Monte Corporation has
sought indemnity from RJR under the terms of the agreement by which RJR sold Del
Monte Corporation in 1989. In connection with any liability RJR may incur
arising out of these claims, the buyers of the Del Monte fresh fruit business
are obligated to indemnify RJR under the terms of the agreement by which RJR
sold the Del Monte fresh fruit business in 1989. RJR has provided notice of
these claims to the buyers, and their successors, of the Del Monte fresh fruit
business and has asserted its right to be indemnified by the buyers for any
liability arising out of such claims.

     RJR Tobacco has been notified by the EPA of its potential liability under
CERCLA for a superfund site in Greer, South Carolina. The notice and demand for
reimbursement of costs incurred by the EPA were sent to a group of companies
previously involved as potentially responsible parties in another superfund
site, which includes RJR Tobacco. The EPA alleges that some waste from the
cleanup of the other site was transported to the site in question. RJR Tobacco
has executed a tolling agreement with the EPA. This tolling agreement provides
for entry into good faith negotiations with the EPA, and is not an admission of
fact or liability. It also should have no impact on any defense RJR Tobacco may
assert, other than a defense based on the running of the statute of limitations.
This matter is in its preliminary stage, as information is still being gathered
from other potentially responsible parties recently notified by the EPA.

                                       61
<PAGE>   62
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     In December 1998, the EPA proposed regulations that would have imposed
restrictions on RJR Tobacco's use of certain fumigants used to protect stores of
tobacco from agricultural pests. Those proposed regulations would have required
RJR Tobacco to make significant expenditures to comply with the EPA regulations,
or risk the loss of substantial stores of tobacco to agricultural pests. The EPA
finalized approval of new regulations for use of these fumigants in November
2000. RJR Tobacco will be able to continue fumigation of stored tobacco under
new label conditions. Although some future expenditures may be required to
comply with the EPA regulations, RJR Tobacco does not expect that those
expenditures will be significant.

     RJR and its subsidiaries have been engaged in a continuing program to
assure compliance with federal, state and local environmental laws and
regulations. Although it is difficult to identify precisely the portion of
capital expenditures or other costs attributable to compliance with
environmental laws and regulations and to estimate the cost of resolving these
CERCLA matters, RJR does not expect such expenditures or other costs to have a
material adverse effect on the business, results of operations or financial
condition of RJR or its subsidiaries.

OTHER CONTINGENCIES

     Until the acquisition by merger by Philip Morris Companies, Inc. of Nabisco
from NGH on December 11, 2000, NGH and Nabisco were members of the consolidated
group of NGH for U.S. federal income tax purposes. Each member of a consolidated
group is jointly and severally liable for the U.S. federal income tax liability
of other members of the group as well as for pension and funding liabilities of
the other group members. NGH, now known as RJR Acquisition Corp., continues to
be jointly and severally liable for these Nabisco liabilities for the period
prior to December 11, 2000.

     In connection with Philip Morris' acquisition by merger of Nabisco and
RJR's subsequent acquisition by merger of NGH, Philip Morris, Nabisco and NGH
entered into a voting and indemnity agreement that generally seeks to allocate
tax liabilities ratably based upon NGH's taxable income and that of Nabisco, had
the parties been separate taxpayers. If Philip Morris and Nabisco are unable to
satisfy their obligations under this agreement, NGH, now known as RJR
Acquisition Corp., would be responsible for satisfying them.

     In connection with the sale of the international tobacco business to Japan
Tobacco Inc. on May 12, 1999, RJR and RJR Tobacco agreed to indemnify Japan
Tobacco against (1) any liabilities, costs and expenses arising out of the
imposition or assessment of any tax with respect to the international tobacco
business arising prior to the sale (other than as reflected on the closing
balance sheet), (2) any liabilities, costs and expenses that Japan Tobacco or
any of its affiliates, including the acquired entities, may incur after the sale
in respect of any of RJR's or RJR Tobacco's employee benefit and welfare plans,
and (3) any liabilities, costs and expenses incurred by Japan Tobacco or any of
its affiliates arising out of certain activities of Northern Brands. Although it
is impossible to predict the outcome of the Northern Brands litigation or the
amount of liabilities, costs and expenses, if any, RJR and RJR Tobacco may be
required to indemnify Japan Tobacco in connection with the matters prescribed in
the preceding outcome, a significant adverse outcome regarding any of these
items could have an adverse effect on either or both of RJR and RJR Tobacco.

COMMITMENTS

     At December 31, 2000, commitments totaled $283 million, primarily for
marketing-related activities, the purchase of leaf tobacco inventories and
operating lease commitments. The operating lease amounts for each of the next
five years are: 2001 -- $20 million; 2002 -- $10 million; 2003 -- $4 million;
2004 -- $1 million; and 2005 -- $2 million. Rent expense was $44 million during
each of 2000 and 1999, and $49 million during 1998.

                                       62
<PAGE>   63
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 15 -- FINANCIAL INSTRUMENTS

FOREIGN CURRENCY ARRANGEMENTS

     At December 31, 1999, RJR had $362 million of outstanding foreign exchange
contracts in which foreign currencies were purchased, and no contracts in which
foreign currencies were sold. These purchases were entered into primarily to
offset obligations associated with debt denominated in the Swiss franc and
German mark. See note 13 for information on foreign-denominated debt. The
weighted average maturity of the arrangements outstanding at December 31, 1999
approximated ten months.

     The net carrying value and estimated fair value of forward foreign exchange
contracts to purchase foreign currencies as of December 31, 1999 were $(26)
million and $(25) million, respectively.

     There were no foreign exchange contracts outstanding at December 31, 2000.

CREDIT RISK

     RJR minimizes counterparty credit risk related to its financial instruments
by using major institutions with high credit ratings.

NOTE 16 -- STOCKHOLDERS' EQUITY

     The authorized capital stock of RJR at December 31, 2000 consisted of 50
million shares of preferred stock, par value $.01 per share, and 290 million
shares of common stock, par value $.01 per share. The preferred stock, none of
which is issued or outstanding, ranks senior to common stock as to dividends and
liquidation preferences.

     On December 12, 2000, RJR's board of directors authorized the repurchase of
shares of its common stock from time to time in the open market, with a maximum
aggregate cost of $350 million, to enhance stockholder value. The program is
funded by dividends from RJR Acquisition Corp. utilizing the cash proceeds of
the NGH acquisition. The timing of repurchases and the number of shares
ultimately repurchased will depend upon market conditions. Under this
authorization, RJR repurchased 1,329,900 shares with an aggregate cost of $61
million during 2000. Authorizations in November 1999 of $125 million and in
February 2000 of $100 million were completed during 2000 through repurchases of
7,185,839 shares with a total cost of $170 million. From November 1999 through
December 31, 2000, cumulative repurchases of all programs were 11,243,139 shares
with an aggregate cost of $286 million.

NOTE 17 -- STOCK PLANS

     At December 31, 2000, RJR had two stock plans, the Amended and Restated
Equity Incentive Award Plan for Directors and the 1999 Long Term Incentive Plan.

     RJR's EIAP provides for grants of stock options and deferred stock units to
outside directors. Under certain circumstances, directors may elect to receive
shares of common stock in lieu of deferred stock units. A maximum of 500,000
shares of common stock may be issued under this plan, of which 383,801 shares
were available for grant as of December 31, 2000. Options granted upon becoming
a director may be exercised between six months and ten years at a price that is
the market value of the stock on the grant date. Prior to April 2000, each
outside director was awarded an annual grant of stock options that vested in
three years and was exercisable for ten years. Effective in April 2000, the
annual grant of stock options was replaced by a quarterly grant of deferred
stock units. Deferred stock units granted under the EIAP have a value equal to,
and bear dividends at the same rate as, one share of RJR common stock. The
dividends are paid as units in an amount equal to the number of common shares
that could be purchased with the dividend on the date of payment. The director
receives payment of the units in common stock, or by election, in cash, as to
the annual grants, and only in cash as to the quarterly grants, as soon as
practicable following his or her last year of service

                                       63
<PAGE>   64
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

on the board. Cash payments are based on the average closing price of RJR's
common stock during December of the year preceding payment.

     RJR's LTIP provides for grants of incentive stock options, other stock
options, stock appreciation rights, restricted stock, performance units and
performance shares to key employees. The total number of shares of common stock
authorized for grant under the plan is 8,000,000 shares, plus 5,772,814 shares
issuable under NGH awards that, in connection with the spin-off, were converted
into RJR options or shares of restricted common stock. Of this authorization,
4,377,176 shares were available for grant as of December 31, 2000.

     All stock options and restricted shares granted before June 14, 1999 were
part of the NGH plans and denominated in shares of NGH common stock. Disclosures
related to those shares and weighted average exercise prices as of December 31,
1998 would not be meaningful.

     On June 15, 1999, as a result of the distribution to shareholders,
17,065,066 options held by employees to purchase common stock of NGH, formerly
known as RJR Nabisco Holdings Corp., were equitably adjusted into 18,354,932
options for NGH shares and 5,456,114 options for RJR shares. The spin-off did
not change the value of the option grant, ratio of exercise price to market
value, vesting provision or exercise period. The allocation of RJR options was
transferred into the RJR LTIP.

     Also, in connection with the spin-off, holders of restricted stock under
the NGH LTIP received one RJR restricted share for every three NGH restricted
shares. The resulting 316,700 restricted shares were transferred into the RJR
LTIP. The five-year vesting provisions of the RJR restricted shares remain
unchanged for continuing RJR employees, lapsed on those related to the sale of
the international tobacco business and lapsed on the remaining shares in
connection with the acquisition of NGH in December 2000. Compensation expense
related to the shares held by continuing RJR employees was $.3 million and $.2
million in 2000 and 1999, respectively. At December 31, 2000, 45,333 shares
remained restricted. Unless forfeited, restrictions on all of these shares will
lapse in 2003. The unamortized portion remaining in stockholders' equity at
December 31, 2000 was $.6 million.

     In 1999, RJR granted 745,000 shares of restricted stock, net of forfeitures
of 32,000 shares, in tandem with 3,108,000 options, included in the following
option table, to eligible employees. Upon vesting, the holder may forfeit the
restricted stock and elect to receive four options for each restricted share
forfeited. Generally, these shares may not be disposed of, or transferred during
the three- to five-year restricted period. Of these restrictions, 372,500 will
lapse in 2002, 186,250 will lapse in 2003 and 186,250 will lapse in 2004, unless
the related shares are forfeited. The market price of the stock on the grant
date was charged to stockholders' equity as unearned compensation and was
amortized on a straight-line basis over the vesting periods through September
2000. As of the fourth quarter of 2000, management determined that it is more
probable that holders will forfeit the restricted stock grant at vesting and
elect to exercise the related tandem options. Accordingly, amortization of the
unamortized equity to compensation expense was suspended. Compensation expense
of $4 million and $3 million was recorded in 2000 and 1999, respectively. The
unamortized portion remaining in stockholders' equity at December 31, 2000 was
$14 million.

     During 2000, RJR granted 673,898 shares of restricted stock to eligible
employees under the 1999 LTIP. Generally, these shares may not be disposed of or
transferred during the three-year vesting period. These restrictions will lapse
in 2003, unless the related shares are forfeited. Because the actual number of
shares granted may increase or decrease based on certain performance factors,
this grant is accounted for as a variable grant and, accordingly, the fair value
is being charged to stockholders' equity as unearned compensation and is being
amortized over the three-year vesting period. During 2000, 16,314 restricted
shares were forfeited and restrictions on 3,163 shares lapsed. During 2000,
including amortization of expected performance shares and dividends on forfeited
shares, compensation expense was $11 million and the unamortized portion
remaining in stockholders' equity at December 31, 2000 was $25 million.

                                       64
<PAGE>   65
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     In the EIAP and the LTIP, at December 31, 2000, there were 6,030,342
options outstanding, of which 3,042,503 were exercisable, with a price range of
$23.32 to $33.71, and a weighted average remaining contractual life of 8.4
years. Additionally, there were 66,228 options outstanding and exercisable, with
a price range of $36.24 to $48.33, and a weighted average remaining contractual
life of 5.8 years. The changes in RJR's stock options during 2000 and 1999 were:

<TABLE>
<CAPTION>
                                                        2000                    1999
                                                ---------------------   --------------------
                                                             WEIGHTED               WEIGHTED
                                                             AVERAGE                AVERAGE
                                                             EXERCISE               EXERCISE
                                                 OPTIONS      PRICE      OPTIONS     PRICE
                                                ----------   --------   ---------   --------
<S>                                             <C>          <C>        <C>         <C>
Balance at beginning of year..................   8,492,564    $28.43           --    $   --
Options transferred in........................          --        --    5,456,114     28.02
Options granted...............................          --        --    3,199,500     29.01
Options cancelled.............................    (138,371)    27.52           --        --
Options exercised.............................  (2,257,623)    27.58     (163,050)    26.13
                                                ----------              ---------
Balance at end of year........................   6,096,570     28.76    8,492,564     28.43
                                                ==========              =========
Exercisable at end of year....................   3,108,731     28.55    5,325,068     28.09
                                                ==========              =========
</TABLE>

     RJR measures and expenses compensation costs related to employee stock
plans utilizing the intrinsic value based method. During 1999, the amortization
of tandem restricted stock held was recorded as compensation expense and, as a
result, approximated compensation expense had it been based on fair value.
Furthermore, related pro forma results would have approximated those reported.
During 2000, had compensation expense been based on the fair value, net income
would have been reduced by $3 million or $.03 per basic share and per diluted
share. The foregoing impact of pro forma compensation cost was based on fair
value at grant date, using a Black-Scholes methodology assuming a 5.96%
risk-free interest rate, a weighted average expected life of 4.2 years, expected
volatility of 33.0% and no dividend yield.

                                       65
<PAGE>   66
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 18 -- RETIREMENT BENEFITS

     RJR sponsors a number of non-contributory defined benefit pension plans
covering most employees. RJR also provides certain health and life insurance
benefits for retired employees and their dependents. The changes in benefit
obligations and plan assets, as well as the funded status of RJR's pension plans
at December 31 were:

<TABLE>
<CAPTION>
                                                                                  POSTRETIREMENT
                                                              PENSION BENEFITS       BENEFITS
                                                              -----------------   ---------------
                                                               2000      1999      2000     1999
                                                              -------   -------   ------   ------
<S>                                                           <C>       <C>       <C>      <C>
Change in benefit obligation:
Obligation at beginning of year.............................  $2,270    $2,444    $ 589    $ 652
Service cost................................................      31        39        6        7
Interest cost...............................................     176       169       49       44
Actuarial (gain) loss.......................................     148      (162)      75      (71)
Plan amendments.............................................       5        --       --       --
Special termination benefits................................      --        14       --        1
Benefits paid...............................................    (190)     (176)     (50)     (40)
Settlements.................................................     (11)       --       --       --
Acquisition of NGH..........................................      33        --        6       --
Transfer to other members of controlled group...............      --       (58)      --       (4)
                                                              ------    ------    -----    -----
Obligation at end of year...................................  $2,462    $2,270    $ 675    $ 589
                                                              ======    ======    =====    =====
Change in plan assets:
Fair value of plan assets at beginning of year..............  $2,499    $2,070    $  --    $  --
Actual return on plan assets................................    (156)      469       --       --
Employer contributions......................................      98        67       50       40
Benefits paid...............................................    (190)     (176)     (50)     (40)
Settlements.................................................     (11)       --       --       --
Acquisition of NGH..........................................      20        --       --       --
Transfer from other members of controlled group.............      --        69       --       --
                                                              ------    ------    -----    -----
Fair value of plan assets at end of year....................  $2,260    $2,499    $  --    $  --
                                                              ======    ======    =====    =====
Funded status:
Funded status...............................................  $ (202)   $  229    $(675)   $(589)
Unrecognized transition asset...............................      --        --      (21)     (26)
Unrecognized prior service cost.............................      --       (12)      --       --
Unrecognized net actuarial (gain) loss......................     117      (417)     109       35
                                                              ------    ------    -----    -----
Net amount recognized.......................................  $  (85)   $ (200)   $(587)   $(580)
                                                              ======    ======    =====    =====
Amounts recognized in the consolidated balance sheets
  consist of:
  Prepaid benefit cost......................................  $   --    $   29    $  --    $  --
  Accrued benefit liability.................................    (104)     (250)    (587)    (580)
  Intangible asset..........................................       7         1       --       --
  Accumulated other comprehensive income....................      12        20       --       --
                                                              ------    ------    -----    -----
Net amount recognized.......................................  $  (85)   $ (200)   $(587)   $(580)
                                                              ======    ======    =====    =====
</TABLE>

                                       66
<PAGE>   67
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     As of December 31, 2000, for the pension plans with accumulated benefit
obligations in excess of plan assets, the projected benefit obligation,
accumulated benefit obligation and fair value of plan assets were $89 million,
$76 million and $15 million, respectively. As of December 31, 1999, the
projected benefit obligation, accumulated benefit obligation and fair value of
plan assets were $63 million, $56 million and $0, respectively.

<TABLE>
<CAPTION>
                                                                           POSTRETIREMENT
                                                   PENSION BENEFITS           BENEFITS
                                                 ---------------------   ------------------
                                                 2000    1999    1998    2000   1999   1998
                                                 -----   -----   -----   ----   ----   ----
<S>                                              <C>     <C>     <C>     <C>    <C>    <C>
Components of total benefit cost (income):
Service cost...................................  $  31   $  39   $  42   $ 6    $ 6    $ 8
Interest cost..................................    176     169     158    49     44     40
Expected return on plan assets.................   (229)   (195)   (178)   --     --     --
Amortization of transition asset...............     --      --      --    (6)    (6)    (7)
Amortization of prior service cost.............     (3)     (3)     (4)   --     --     --
Amortization of net loss (gain)................     (7)      2       1     1      6      3
                                                 -----   -----   -----   ---    ---    ---
Net periodic benefit cost (income).............    (32)     12      19    50     50     44
Curtailment/special benefits...................     --      14      --    --      1     --
Settlements....................................      2      --      --    --     --     --
                                                 -----   -----   -----   ---    ---    ---
Total benefit cost (income)....................  $ (30)  $  26   $  19   $50    $51    $44
                                                 =====   =====   =====   ===    ===    ===
</TABLE>

     The weighted average actuarial assumptions used for the pension and
postretirement benefit plans as of December 31 were:

<TABLE>
<CAPTION>
                                                              2000    1999
                                                              ----    ----
<S>                                                           <C>     <C>
Discount rate...............................................  7.50%   8.00%
Expected return on pension plan assets......................  9.50%   9.50%
Rate of compensation increase...............................  5.00%   5.00%
</TABLE>

     For measurement purposes, a 28% annual rate of increase in the per capita
cost of covered health care was assumed for the HMO plan for 2000. The rate was
assumed to decrease to 13% for 2001 and 5% for 2002 and remain at that level
thereafter. Additionally, for the indemnity plan an 8% annual rate of increase
in the per capita cost of covered health care was assumed for 2000. The rate was
assumed to decrease 0.75% per year to 5% for 2004 and remain at that level
thereafter. Assumed health-care cost trend rates have a significant effect on
the amounts reported for the health-care plans. A one-percentage-point change in
assumed health-care cost trend rates would effect:

<TABLE>
<CAPTION>
                                               1-PERCENTAGE-POINT   1-PERCENTAGE-POINT
                                               ------------------   ------------------
                                                    INCREASE             DECREASE
                                                    --------             --------
<S>                                            <C>                  <C>
Total of service and interest cost
  components.................................         $ 2                  $ (2)
Postretirement benefit obligation............          29                   (26)
</TABLE>

     In connection with the NGH acquisition, plan assets and benefit obligations
attributable to certain former NGH employees were transferred to RJR, which
resulted in an increase in pension plan assets of $20 million and an increase in
pension plan benefit obligations of $33 million. Postretirement benefit
obligations of $6 million were also acquired by RJR. The impact of these changes
will be recognized in net periodic benefit costs over future periods.

     In connection with the reorganization in 1999, the assets and liabilities
of the Retirement Plan for Employees of RJR Nabisco, Inc., referred to as the
old plan, were split into two new plans, one for employees and former employees
of RJR and the other for employees and former employees of Nabisco and NGH. The
split of the assets and liabilities of the old plan was in accordance to an
agreement with the Pension Benefit Guaranty Corporation that resulted in an
increase in the RJR plan assets of $132 million. In addition, plan assets and
benefit obligations attributable to certain former NGH employees both in the old
plan and in other

                                       67
<PAGE>   68
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

pension plans were transferred to NGH, which resulted in a decrease in pension
plan assets of $63 million and a decrease in pension plan benefit obligations of
$58 million. Postretirement benefit obligations of $4 million were also
transferred to NGH. The impact of these changes will be recognized in net
periodic benefit costs over future periods. As a result, periodic benefit cost
for 1999 decreased by $7 million.

     The PBGC agreement described above also required contributions of $58
million in each of the five years beginning in 1999, as well as contribution of
the RJR plan's normal cost beginning in 2000 through the end of the agreement.
The agreement is expected to continue for five years; however, there are certain
circumstances under which it could be extended. The PBGC agreement also requires
a $116 million letter of credit with respect to these contributions.

     In connection with the close-down of the New York headquarters, special
termination benefits were provided to employees resulting in a 1999 one-time
charge of $14 million for pension benefits and $1 million for postretirement
benefits. These additional benefit obligations were subsequently transferred to
NGH, as described above.

     RJR sponsors a qualified defined contribution plan and matches 50% of a
participant's contribution based on a maximum of 6% of a participant's
compensation. RJR's expense related to this plan was $12 million in each of
2000, 1999 and 1998.

NOTE 19 -- SEGMENT INFORMATION

     RJR Tobacco is organized and reports its results of operations in one
operating segment that manufactures and markets cigarettes in the United States.
The nature of the product, manufacturing process, distribution method, type of
customer and regulatory environment are similar for substantially all of RJR
Tobacco's products. During 2000, 1999 and 1998, sales made by RJR Tobacco to
McLane Company, Inc. and its affiliate, Wal-Mart Stores, Inc., comprised 19%,
17% and 16%, respectively, of RJR's consolidated revenue. No other customer
accounted for 10% or more of RJR's revenue during those years.

NOTE 20 -- RELATED PARTY TRANSACTIONS

     Prior to April 2000, a member of RJR's board of directors also served as
Vice Chairman of Hershey Foods Corporation. RJR Tobacco has provided services to
Hershey Foods Corporation, for which Hershey Foods paid $1 million and $3
million to RJR Tobacco during 2000 and 1999, respectively.

     Subsequent to the 1999 spin-off from, and prior to the acquisition of, NGH,
related party transactions between RJR, RJR Tobacco and NGH consisted of several
agreements governing the relationships among the parties after the distribution
of RJR's shares to NGH stockholders, including certain tax matters,
indemnification rights and obligations and other matters. As a result of these
agreements, at December 31, 1999, NGH owed RJR $1.3 million. RJR sold its
international tobacco business to Japan Tobacco in 1999. RJR Tobacco
manufactures products for sale by Japan Tobacco, and Japan Tobacco manufactures
products for sale by RJR Tobacco. Additionally, under the sale agreement with
Japan Tobacco, RJR and RJR Tobacco have retained certain liabilities that may
arise from litigation prior to the sale. See note 2 and note 14 for further
information on contingencies.

     RJR believes that each of the related party transactions were on terms
similar to those with unaffiliated third parties.

                                       68
<PAGE>   69
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

NOTE 21 -- QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

<TABLE>
<CAPTION>
2000 (1)                                                      FIRST    SECOND   THIRD    FOURTH
--------                                                      ------   ------   ------   ------
<S>                                                           <C>      <C>      <C>      <C>
Net sales...................................................  $1,922   $2,085   $2,119   $2,041
Gross profit................................................   1,116    1,234    1,268    1,224
Income from continuing operations...........................      80      109      117       46
Extraordinary item, net of income taxes.....................      --       --       --    1,475
Net income..................................................      80      109      117    1,521
Per share data (2):
Basic:
  Income from continuing operations.........................     .77     1.08     1.17      .46
  Extraordinary item, net of income taxes...................      --       --       --    14.76
  Net income................................................     .77     1.08     1.17    15.22
Diluted:
  Income from continuing operations.........................     .77     1.07     1.16      .45
  Extraordinary item, net of income taxes...................      --       --       --    14.58
  Net income................................................     .77     1.07     1.16    15.03

1999 (3)
--------
Net sales...................................................   1,693    1,907    1,991    1,976
Gross profit................................................     951    1,078    1,166    1,139
Income (loss) from continuing operations....................      30      (39)      96      108
Income (loss) from discontinued operations, net of income
  taxes.....................................................      65    2,668     (221)    (114)
Extraordinary item, net of income taxes.....................      --     (250)      --       --
Net income (loss)...........................................      95    2,379     (125)      (6)
Per share data (2):
Basic:
  Income (loss) from continuing operations..................     .28     (.36)     .88     1.00
  Income (loss) from discontinued operations, net of income
     taxes..................................................     .60    24.54    (2.03)   (1.06)
  Extraordinary item, net of income taxes...................      --    (2.30)      --       --
  Net income (loss).........................................     .88    21.88    (1.15)    (.06)
Diluted:
  Income (loss) from continuing operations..................     .28     (.36)     .88     1.00
  Income (loss) from discontinued operations, net of income
     taxes..................................................     .60    24.54    (2.03)   (1.06)
  Extraordinary item, net of income taxes...................      --    (2.30)      --       --
  Net income (loss).........................................     .88    21.88    (1.15)    (.06)
</TABLE>

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

(1) The second quarter includes a $3 million, $2 million after-tax, reversal of
    prior tobacco settlement charges. The fourth quarter includes $1,475 million
    extraordinary gain on acquisition and an $89 million, $54 million after-tax,
    impairment charge.
(2) Income per share is computed independently for each of the periods
    presented. The sum of the income per share amounts for the quarters may not
    equal the total for the year.
(3) The second quarter includes $143 million, $93 million after-tax, charges
    related to the close-down of the New York headquarters. The third quarter
    includes $40 million, $24 million after-tax, for initial, up-front costs
    related to the tobacco growers' settlement. The fourth quarter includes a
    $17 million pre-tax reversal of 1998 accruals related to the tobacco
    settlement and related expenses.

NOTE 22 -- CONDENSED CONSOLIDATING FINANCIAL STATEMENTS

     RJR has not presented separate financial statements and other disclosures
concerning RJR Tobacco and RJR Acquisition Corp. because management has
determined that such information is not material to holders

                                       69
<PAGE>   70
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

of the exchange notes. RJR Tobacco and RJR Acquisition Corp. are wholly owned
subsidiaries of RJR, and have fully and unconditionally guaranteed the exchange
notes.

     The following condensed consolidating financial statements of RJR include:
the accounts and activities of RJR, the issuer of the exchange notes; RJR
Tobacco and RJR Acquisition Corp., the guarantors of the exchange notes; the
subsidiaries of RJR and RJR Tobacco that are not guarantors of the exchange
notes; and elimination adjustments.

                                       70
<PAGE>   71
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

                  CONDENSED CONSOLIDATING STATEMENTS OF INCOME
                       (DOLLARS IN MILLIONS) (UNAUDITED)

<TABLE>
<CAPTION>
                                                   ISSUER   GUARANTORS   NON-GUARANTORS   ELIMINATIONS   CONSOLIDATED
                                                   ------   ----------   --------------   ------------   ------------
<S>                                                <C>      <C>          <C>              <C>            <C>
FOR THE YEAR ENDED DECEMBER 31, 2000
Net sales........................................  $   --    $ 8,169         $   48         $   (50)        $8,167
Cost of products sold............................      --      3,372              3             (50)         3,325
Selling, general and administrative expenses.....      42      3,835           (315)             --          3,562
Tobacco settlement and related expenses..........      --         (3)            --              --             (3)
Amortization of trademarks and goodwill..........      --        260            106              --            366
Impairment charge................................      --         --             89              --             89
Interest and debt expense........................     164          4             --              --            168
Interest income..................................      (1)      (111)            (7)             --           (119)
Intercompany interest (income) expense...........     (11)       394           (383)             --             --
Intercompany dividend............................    (238)      (861)            --           1,099             --
Other expense (income), net......................       6         26             (1)             --             31
                                                   ------    -------         ------         -------         ------
    INCOME BEFORE INCOME TAXES...................      38      1,253            556          (1,099)           748
Provision for (benefit from) income taxes........     (64)       264            196              --            396
Equity income from subsidiaries..................   2,825        360             --          (3,185)            --
                                                   ------    -------         ------         -------         ------
    INCOME BEFORE EXTRAORDINARY ITEM.............   2,927      1,349            360          (4,284)           352
Extraordinary item -- gain (loss) on acquisition,
  net of taxes...................................      (1)     1,476             --              --          1,475
                                                   ------    -------         ------         -------         ------
        NET INCOME...............................  $2,926    $ 2,825         $  360         $(4,284)        $1,827
                                                   ======    =======         ======         =======         ======
FOR THE YEAR ENDED DECEMBER 31, 1999
Net sales........................................  $   --    $ 7,511         $   56         $    --         $7,567
Cost of products sold............................      --      3,224              9              --          3,233
Selling, general and administrative expenses.....      43      3,342           (303)             --          3,082
Amortization of trademarks and goodwill..........      --        260            106              --            366
Headquarters close-down and related charges......     143         --             --              --            143
Interest and debt expense........................     267          1             --              --            268
Interest income..................................      (4)       (85)           (25)             --           (114)
Intercompany interest (income) expense...........    (393)       620           (227)             --             --
Other expense (income), net......................     (67)        28            118              --             79
                                                   ------    -------         ------         -------         ------
    INCOME FROM CONTINUING OPERATIONS BEFORE
      INCOME TAXES...............................      11        121            378              --            510
Provision for (benefit from) income taxes........     (16)       163            168              --            315
Equity income from subsidiaries from continuing
  operations.....................................     168        209             --            (377)            --
                                                   ------    -------         ------         -------         ------
    INCOME FROM CONTINUING OPERATIONS............     195        167            210            (377)           195
Income (loss) from discontinued operations.......    (611)     1,162          1,847              --          2,398
Equity income from subsidiaries from discontinued
  operations.....................................   3,009      1,848             --          (4,857)            --
                                                   ------    -------         ------         -------         ------
    INCOME BEFORE EXTRAORDINARY ITEM.............   2,593      3,177          2,057          (5,234)         2,593
Extraordinary item -- loss on early
  extinguishment of debt, net of taxes...........    (250)        --             --              --           (250)
                                                   ------    -------         ------         -------         ------
        NET INCOME...............................  $2,343    $ 3,177         $2,057         $(5,234)        $2,343
                                                   ======    =======         ======         =======         ======
FOR THE YEAR ENDED DECEMBER 31, 1998
Net sales........................................  $   --    $ 5,663         $   53         $    --         $5,716
Cost of products sold............................      --      1,277             12              --          1,289
Selling, general and administrative expenses.....      27      3,027           (210)             --          2,844
Tobacco settlement and related expenses..........      --      1,442             --              --          1,442
Amortization of trademarks and goodwill..........      --        260            106              --            366
Interest and debt expense........................     426         --             --              --            426
Intercompany interest (income) expense...........    (951)       955             (4)             --             --
Other expense (income), net......................      28        (59)            59              --             28
                                                   ------    -------         ------         -------         ------
    INCOME (LOSS) FROM CONTINUING OPERATIONS
      BEFORE INCOME TAXES........................     470     (1,239)            90              --           (679)
Provision for (benefit from) income taxes........     124       (315)            31              --           (160)
Equity income (loss) from subsidiaries from
  continuing operations..........................    (865)        59             --             806             --
                                                   ------    -------         ------         -------         ------
    INCOME (LOSS) FROM CONTINUING OPERATIONS.....    (519)      (865)            59             806           (519)
Income from discontinued operations..............      --         --              3              --              3
Equity income from subsidiaries from discontinued
  operations.....................................       3         60             --             (63)            --
                                                   ------    -------         ------         -------         ------
        NET INCOME (LOSS)........................  $ (516)   $  (805)        $   62         $   743         $ (516)
                                                   ======    =======         ======         =======         ======
</TABLE>

                                       71
<PAGE>   72
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

                CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
                       (DOLLARS IN MILLIONS) (UNAUDITED)

<TABLE>
<CAPTION>
                                                ISSUER    GUARANTORS   NON-GUARANTORS   ELIMINATIONS   CONSOLIDATED
                                                -------   ----------   --------------   ------------   ------------
<S>                                             <C>       <C>          <C>              <C>            <C>
FOR THE YEAR ENDED DECEMBER 31, 2000
Cash flows from operating activities..........  $   615     $  641        $   432         $(1,098)       $   590
                                                -------     ------        -------         -------        -------
Cash flows from (used in) investing
  activities:
  Short-term investments......................       --        109              1              --            110
  Intercompany transfers......................        2         34            811            (847)            --
  Net proceeds from acquisition...............       --      1,519             --              --          1,519
  Other, net..................................       (5)       (50)            (1)             --            (56)
                                                -------     ------        -------         -------        -------
      Net cash flows from (used in) investing
        activities............................       (3)     1,612            811            (847)         1,573
                                                -------     ------        -------         -------        -------
Cash flows from (used in) financing
  activities:
  Repayments of long-term debt................     (387)        --             --              --           (387)
  Dividends paid on common stock..............     (322)      (238)          (860)          1,098           (322)
  Repurchase of common stock..................     (231)        --             --              --           (231)
  Intercompany payables.......................        1       (470)          (377)            846             --
  Other, net..................................      238       (164)           (16)              1             59
                                                -------     ------        -------         -------        -------
      Net cash flows used in financing
        activities............................     (701)      (872)        (1,253)          1,945           (881)
                                                -------     ------        -------         -------        -------
      Net cash flows related to discontinued
        operations............................      103        (19)            --              --             84
                                                -------     ------        -------         -------        -------
Net change in cash and cash equivalents.......       14      1,362            (10)             --          1,366
Cash and cash equivalents at beginning of
  year........................................       --      1,062            115              --          1,177
                                                -------     ------        -------         -------        -------
Cash and cash equivalents at end of year......  $    14     $2,424        $   105         $    --        $ 2,543
                                                =======     ======        =======         =======        =======
FOR THE YEAR ENDED DECEMBER 31, 1999
Cash flows from operating activities..........  $   138     $  518        $   273         $    --        $   929
                                                -------     ------        -------         -------        -------
Cash flows from (used in) investing
  activities:
  Net proceeds from the sale of the
    international tobacco business............      (35)     2,611          5,184              --          7,760
  Short-term investments......................       --       (109)            (1)             --           (110)
  Other, net..................................       --        (55)           (19)             --            (74)
                                                -------     ------        -------         -------        -------
      Net cash flows from (used in) investing
        activities............................      (35)     2,447          5,164              --          7,576
                                                -------     ------        -------         -------        -------
Cash flows from (used in) financing
  activities:
  Proceeds from issuance of long-term debt....    1,244         --             --              --          1,244
  Repayments of long-term debt................   (4,450)        --             --              --         (4,450)
  Transfers and payments to former parent.....   (1,968)        --             --              --         (1,968)
  Intercompany transfer.......................    5,216       (881)        (4,335)             --             --
  Other, net..................................     (185)        --             --              --           (185)
                                                -------     ------        -------         -------        -------
      Net cash flows used in financing
        activities............................     (143)      (881)        (4,335)             --         (5,359)
                                                -------     ------        -------         -------        -------
Cash flows related to discontinued operations
  (including income taxes paid on the gain on
  sale of the international tobacco
  business)...................................       --       (982)          (987)             --         (1,969)
                                                -------     ------        -------         -------        -------
      Net change in cash and cash
        equivalents...........................      (40)     1,102            115              --          1,177
Cash and cash equivalents at beginning of
  year........................................       40        (40)            --              --             --
                                                -------     ------        -------         -------        -------
Cash and cash equivalents at end of year......  $    --     $1,062        $   115         $    --        $ 1,177
                                                =======     ======        =======         =======        =======
FOR THE YEAR ENDED DECEMBER 31, 1998
Cash flows from operating activities..........  $   185     $   50        $   132         $    --        $   367
                                                -------     ------        -------         -------        -------
Cash flows used in investing activities.......       (1)       (42)            --              --            (43)
                                                -------     ------        -------         -------        -------
Cash flows from (used in) financing
  activities:
  Increase in short-term borrowings...........       62         --             --              --             62
  Repayments of long-term debt................      (68)        --             --              --            (68)
  Dividends paid to NGH.......................     (607)        --             --              --           (607)
  Other, net..................................      170        (32)          (136)             --              2
                                                -------     ------        -------         -------        -------
      Net cash flows used in financing
        activities............................     (443)       (32)          (136)             --           (611)
                                                -------     ------        -------         -------        -------
Cash flows related to discontinued
  operations..................................      159         39              4              --            202
                                                -------     ------        -------         -------        -------
      Net change in cash and cash
        equivalents...........................     (100)        15             --              --            (85)
Cash and cash equivalents at beginning of
  year........................................      140        (55)            --              --             85
                                                -------     ------        -------         -------        -------
Cash and cash equivalents at end of year......  $    40     $  (40)       $    --         $    --        $    --
                                                =======     ======        =======         =======        =======
</TABLE>

                                       72
<PAGE>   73
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

                     CONDENSED CONSOLIDATING BALANCE SHEETS
                             (DOLLARS IN MILLIONS)
                                  (UNAUDITED)

<TABLE>
<CAPTION>
                                         ISSUER    GUARANTORS   NON-GUARANTORS   ELIMINATIONS   CONSOLIDATED
                                         -------   ----------   --------------   ------------   ------------
<S>                                      <C>       <C>          <C>              <C>            <C>
DECEMBER 31, 2000
ASSETS
Cash and cash equivalents..............  $    14    $ 2,424         $  105         $     --       $ 2,543
Other current assets...................        7      2,221             54             (954)        1,328
Trademarks, net........................       --         --          2,875               --         2,875
Goodwill, net..........................       --      7,303             --               --         7,303
Intercompany notes receivable..........      141          5          4,103           (4,249)           --
Investment in subsidiaries.............   11,957      6,117             --          (18,074)           --
Other noncurrent assets................       69      1,429              6                1         1,505
                                         -------    -------         ------         --------       -------
     Total assets......................  $12,188    $19,499         $7,143         $(23,276)      $15,554
                                         =======    =======         ======         ========       =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Tobacco settlement and related
  accruals.............................  $    --    $ 1,394         $   --         $     --       $ 1,394
Other current liabilities..............    1,307        993             36             (954)        1,382
Intercompany notes payable.............       54      4,195             --           (4,249)           --
Long-term debt (less current
  maturities)..........................    1,576         98             --               --         1,674
Other noncurrent liabilities...........      815        843          1,009                1         2,668
Stockholders' equity...................    8,436     11,976          6,098          (18,074)        8,436
                                         -------    -------         ------         --------       -------
     Total liabilities and
       stockholders' equity............  $12,188    $19,499         $7,143         $(23,276)      $15,554
                                         =======    =======         ======         ========       =======
DECEMBER 31, 1999
ASSETS
Cash and cash equivalents..............  $    --    $ 1,062         $  115         $     --       $ 1,177
Other current assets...................       22      1,767             13             (511)        1,291
Trademarks, net........................       --         --          3,070               --         3,070
Goodwill, net..........................       --      7,563             --               --         7,563
Intercompany notes receivable..........      143         38          4,914           (5,095)           --
Investment in subsidiaries.............   10,401      6,636             --          (17,037)           --
Other noncurrent assets................       81      1,191              5               (1)        1,276
                                         -------    -------         ------         --------       -------
     Total assets......................  $10,647    $18,257         $8,117         $(22,644)      $14,377
                                         =======    =======         ======         ========       =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Tobacco settlement and related
  accruals.............................  $    --    $ 1,278         $   --         $     --       $ 1,278
Other current liabilities..............    1,175      1,095             31             (511)        1,790
Intercompany notes payable.............       53      4,664            378           (5,095)           --
Long-term debt (less current
  maturities)..........................    1,653         --             --               --         1,653
Other noncurrent liabilities...........      702        790          1,101               (1)        2,592
Stockholders' equity...................    7,064     10,430          6,607          (17,037)        7,064
                                         -------    -------         ------         --------       -------
     Total liabilities and
       stockholders' equity............  $10,647    $18,257         $8,117         $(22,644)      $14,377
                                         =======    =======         ======         ========       =======
</TABLE>

                                       73
<PAGE>   74

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

     None.

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

     Item 10 is incorporated by reference to "Item 1: Election of Class II
Directors" and "Stock Ownership-Section 16(a) beneficial ownership of reporting
compliance" of RJR's Definitive Proxy Statement to be filed with the SEC on or
before March 15, 2001. Reference is also made regarding the executive officers
of the registrant to "Executive Officers and Certain Significant Employees of
the Registrant" in Item 4 of Part I of this report.

ITEM 11. EXECUTIVE COMPENSATION

     Item 11 is incorporated by reference to "Executive Compensation and
Transactions with Management" of RJR's Definitive Proxy Statement to be filed
with the SEC on or before March 15, 2001.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     Item 12 is incorporated by reference to "Stock Ownership" of RJR's
Definitive Proxy Statement to be filed with the SEC on or before March 15, 2001.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     Item 13 is hereby incorporated by reference to "Executive Compensation and
Transactions with Management -- Transactions with directors and executive
officers," of RJR's Definitive Proxy Statement to be filed with the SEC on or
before March 15, 2001.

                                    PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)  The following documents are filed as a part of this report:

      (1)  Consolidated Statements of Income for the years ended December 31,
           2000, 1999 and 1998.
           Consolidated Statements of Cash Flows for the years ended
           December 31, 2000, 1999 and 1998.
           Consolidated Balance Sheets for the years ended December 31, 2000 and
           1999.
           Consolidated Statements of Stockholders' Equity and Comprehensive
           Income for the years ended December 31, 2000, 1999 and 1998.

      (2)  Financial Statement Schedules have been omitted because the
           information required has been separately disclosed in the
           consolidated financial statements or notes.

      (3)  See (c) below.

(b)  RJR filed a Current Report on Form 8-K, dated December 11, 2000, disclosing
     its acquisition, through a merger, of Nabisco Group Holdings Corp., a
     non-operating public shell company.

                                       74
<PAGE>   75

(c)  The following exhibits are filed as part of this report, Exhibit Numbers
     10.24 through 10.57 are management contracts, compensatory plans or
     arrangements:

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
 2.1      Distribution Agreement dated as of May 12, 1999, among RJR
          Nabisco Holdings Corp., RJR Nabisco, Inc. and R. J. Reynolds
          Tobacco Company (incorporated by reference to Exhibit 2.1 to
          Registrant's Form 8-A filed May 19, 1999).
 2.2      Certificate of Merger and Agreement and Plan of Merger among
          RJR Nabisco Holdings Corp., RJR Nabisco, Inc. and R.J.
          Reynolds Tobacco Holdings, Inc. (incorporated by reference
          to Exhibit 2.2 to Registrant's Form 8-K filed May 28, 1999).
 2.3      Agreement and Plan of Merger dated as of June 25, 2000,
          among Nabisco Group Holdings Corp., R.J. Reynolds Tobacco
          Holdings, Inc. and RJR Acquisition Corp. (incorporated by
          reference to Exhibit 2.1 to Registrant's Quarterly Report on
          Form 10-Q for the quarter ended June 30, 2000, filed August
          7, 2000).
 2.4      Amendment No. 1, dated September 20, 2000, to the Agreement
          and Plan of Merger dated as of June 25, 2000, among Nabisco
          Group Holdings Corp., R.J. Reynolds Tobacco Holdings, Inc.
          and RJR Acquisition Corp. (incorporated by reference to
          Exhibit 2.1 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended September 30, 2000, filed November 3,
          2000).
 2.5      Letter dated October 19, 2000, from R.J. Reynolds Tobacco
          Holdings, Inc. to Nabisco Group Holdings Corp., electing
          that Nabisco Group Holdings Corp. be merged with and into
          RJR Acquisition Corp. under the Agreement and Plan of Merger
          dated as of June 25, 2000, as amended, among Nabisco Group
          Holdings Corp., R.J. Reynolds Tobacco Holdings, Inc. and RJR
          Acquisition Corp. (incorporated by reference to Exhibit 2.2
          to Registrant's Quarterly Report on Form 10-Q for the
          quarter ended September 30, 2000, filed November 3, 2000).
 2.6      Letter dated November 20, 2000, from R.J. Reynolds Tobacco
          Holdings, Inc. to Nabisco Group Holdings Corp., withdrawing
          its previous election made on October 19, 2000, and electing
          that RJR Acquisition Corp. be merged with and into Nabisco
          Group Holdings Corp. under the Agreement and Plan of Merger
          dated as of June 25, 2000, as amended, among Nabisco Group
          Holdings Corp., R.J. Reynolds Tobacco Holdings, Inc. and RJR
          Acquisition Corp. (incorporated by reference to Exhibit 2.4
          to Registrant's Form 8-K filed December 21, 2000).
 2.7      Letter dated October 27, 2000, from R.J. Reynolds Tobacco
          Holdings, Inc. to Nabisco Group Holdings Corp., agreeing
          that it will pay or cause to be paid to stockholders of
          Nabisco Group Holdings Corp., in circumstances described in
          Section 2.02(b) of the Agreement and Plan of Merger dated as
          of June 25, 2000, as amended, among Nabisco Group Holdings
          Corp., R.J. Reynolds Tobacco Holdings, Inc. and RJR
          Acquisition Corp., an amount equal to 100% of the difference
          between the Net Proceeds (as defined in the Agreement and
          Plan of Merger) and $11.729 billion (incorporated by
          reference to Exhibit 2.3 to Registrant's Quarterly Report on
          Form 10-Q for the quarter ended September 30, 2000, filed
          November 3, 2000).
 3.1      Restated Certificate of Incorporation of R.J. Reynolds
          Tobacco Holdings, Inc. (incorporated by reference to Exhibit
          3.1 to Registrant's Form 8-K dated June 14, 1999).
 3.2      Bylaws of R.J. Reynolds Tobacco Holdings, Inc. (incorporated
          by reference to Exhibit 3.2 to Registrant's Form 8-K dated
          June 14, 1999).
 4.1      Rights Agreement dated as of May 18, 1999, between R.J.
          Reynolds Tobacco Holdings, Inc. and its rights agent
          (incorporated by reference to Exhibit 4.1 to Registrant's
          Form 8-K dated June 14, 1999).
 4.2      Amended and Restated Indenture dated as of July 24, 1995,
          between RJR Nabisco, Inc. and The Bank of New York
          (incorporated by reference to Exhibit 4.1 to Registrant's
          Quarterly Report on Form 10-Q for the quarter ended June 30,
          1995, filed August 8, 1995).
</TABLE>

                                       75
<PAGE>   76

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
 4.3      First Supplemental Indenture and Waiver dated as of April
          27, 1999, between RJR Nabisco, Inc. and The Bank of New
          York, to the Amended and Restated Indenture dated as of July
          24, 1995, between RJR Nabisco, Inc. and The Bank of New
          York, as successor trustee (incorporated by reference to
          Exhibit 10.3 to Registrant's Form 8-A filed May 19, 1999).
 4.4      Second Supplemental Indenture and Waiver dated as of April
          27, 1999, between RJR Nabisco, Inc. and The Bank of New
          York, to the Amended and Restated Indenture dated as of May
          18, 1992 between RJR Nabisco, Inc. and The Bank of New York,
          as successor trustee, as amended by the Form of First
          Supplemental Indenture and Waiver thereto dated as of June
          2, 1995 (incorporated by reference to Exhibit 10.4 to
          Registrant's Form 8-A filed May 19, 1999).
 4.5      Indenture dated as of May 15, 1999, among RJR Nabisco, Inc.,
          R. J. Reynolds Tobacco Company and The Bank of New York, as
          trustee (incorporated by reference to Exhibit 10.2 to
          Registrant's Form 8-A flied May 19, 1999).
 4.6      First Supplemental Indenture dated as of December 12, 2000,
          among RJR Acquisition Corp., R.J. Reynolds Tobacco Holdings,
          Inc., R. J. Reynolds Tobacco Company and The Bank of New
          York, as Trustee, to the Indenture dated as of May 15, 1999,
          among RJR Nabisco, Inc., R. J. Reynolds Tobacco Company and
          The Bank of New York, as Trustee.
10.1      Amended and Restated Credit Agreement dated as of November
          17, 2000, among R.J. Reynolds Tobacco Holdings, Inc. and the
          lending institutions listed and to be listed from time to
          time on Annex I.
10.2      Form of Amended and Restated Subsidiary Guaranty by R. J.
          Reynolds Tobacco Company and RJR Acquisition Corp. to the
          creditors defined therein, issued in connection with the
          Credit Agreement dated as of May 18, 1999 and Amended and
          Restated as of November 17, 2000, among R.J. Reynolds
          Tobacco Holdings, Inc. and the lending institutions listed
          and to be listed from time to time on Annex I.
10.3      Guarantee dated as of May 18, 1999, by R. J. Reynolds
          Tobacco Company to the holders and to The Bank of New York,
          as trustee, issued in connection with the Indenture dated as
          of May 15, 1999, among RJR Nabisco, Inc., R. J. Reynolds
          Tobacco Company and The Bank of New York, as trustee
          (incorporated by reference to Exhibit 10.6 to Registrant's
          Form 8-A filed May 19, 1999).
10.4      Tax Sharing Agreement dated as of June 14, 1999, among RJR
          Nabisco Holdings Corp., R.J. Reynolds Tobacco Holdings,
          Inc., R. J. Reynolds Tobacco Company and Nabisco Holdings
          Corp. (incorporated by reference to Exhibit 10.1 to
          Registrant's Form 8-K dated June 14, 1999).
10.5      Amendment to Tax Sharing Agreement dated June 25, 2000,
          among Nabisco Group Holdings Corp., R.J. Reynolds Tobacco
          Holdings, Inc., Nabisco Holdings Corp. and R. J. Reynolds
          Tobacco Company (incorporated by reference to Exhibit 10.2
          to Registrant's Quarterly Report on Form 10-Q for the
          quarter ended June 30, 2000, filed August 7, 2000).
10.6      Agreement dated as of May 20, 1999, among Pension Benefit
          Guaranty Corporation, RJR Nabisco Holdings Corp. and R. J.
          Reynolds Tobacco Company (incorporated by reference to
          Exhibit 10.16 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended June 30, 1999, filed August 16, 1999).
10.7      Amendment effective as of June 14, 1999, to the Agreement
          effective as of May 20, 1999, by and among the Pension
          Benefit Guaranty Corporation, R.J. Reynolds Tobacco
          Holdings, Inc. and R. J. Reynolds Tobacco Company
          (incorporated by reference to Exhibit 10.3 to Registrant's
          Quarterly Report on Form 10-Q for the quarter ended June 30,
          2000, filed August 7, 2000).
10.8      Purchase Agreement dated as of March 9, 1999, as amended and
          restated as of May 11, 1999, among R. J. Reynolds Tobacco
          Company, RJR Nabisco, Inc. and Japan Tobacco Inc.
          (incorporated by reference to Exhibit 2.1 to Registrant's
          Form 8-K dated May 12, 1999).
</TABLE>

                                       76
<PAGE>   77

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
10.9      Settlement Agreement dated August 25, 1997, between the
          State of Florida and settling defendants in The State of
          Florida v. American Tobacco Co. (incorporated by reference
          to Exhibit 2 to Registrant's Form 8-K dated August 25,
          1997).
10.10     Comprehensive Settlement Agreement and Release dated January
          16, 1998, between the State of Texas and settling defendants
          in The State of Texas v. American Tobacco Co. (incorporated
          by reference to Exhibit 2 to Registrant's Form 8-K dated
          January 16, 1998).
10.11     Settlement Agreement and Release in re: The State of
          Minnesota v. Philip Morris, Inc., by and among the State of
          Minnesota, Blue Cross and Blue Shield of Minnesota and the
          various tobacco company defendants named therein, dated as
          of May 8, 1998 (incorporated by reference to Exhibit 99.1 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended March 30, 1998, filed May 15, 1998).
10.12     Settlement Agreement and Stipulation for Entry of Consent
          Judgment in re: The State of Minnesota v. Philip Morris,
          Inc., by and among the State of Minnesota, Blue Cross and
          Blue Shield of Minnesota and the various tobacco company
          defendants named therein, dated as of May 8, 1998
          (incorporated by reference to Exhibit 99.2 to Registrant's
          Quarterly Report on Form 10-Q for the quarter ended March
          30, 1998, filed May 15, 1998).
10.13     Form of Consent Judgment by Judge Kenneth J. Fitzpatrick,
          Judge of District Court in re: The State of Minnesota v.
          Philip Morris, Inc. (incorporated by reference to Exhibit
          99.3 to Registrant's Quarterly Report on Form 10-Q for the
          quarter ended March 30, 1998, filed May 15, 1998).
10.14     Agreement to Pay State of Minnesota Attorney's Fees and
          Costs, by and among the State of Minnesota and the various
          tobacco companies, dated as of May 8, 1998 (incorporated by
          reference to Exhibit 99.4 to Registrant's Quarterly Report
          on Form 10-Q for the quarter ended March 30, 1998, filed May
          15, 1998).
10.15     Agreement to Pay Blue Cross and Blue Shield of Minnesota
          Attorney's Fees and Costs by and among Blue Cross and Blue
          Shield of Minnesota and various tobacco companies, dated as
          of May 8, 1998 (incorporated by reference to Exhibit 99.5 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended March 30, 1998, filed May 15, 1998).
10.16     Mississippi Fee Payment Agreement dated as of July 2, 1998,
          by and among Philip Morris, Inc., R. J. Reynolds Tobacco
          Company, Brown & Williamson Tobacco Corporation
          (collectively, the "Mississippi Defendants"), the State of
          Mississippi ("Mississippi") and Mississippi's private
          counsel named therein (the "Mississippi Counsel") in
          connection with Moore v. The American Tobacco Co.,
          Mississippi Litigation No. 94-1429 (the "Mississippi
          Action") (incorporated by reference to Exhibit 99.1 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended June 30, 1998, filed August 14, 1998).
10.17     Stipulation of Amendment to Settlement Agreement and for
          Entry of Agreed Order dated July 2, 1998, by and among the
          Mississippi Defendants, Mississippi and the Mississippi
          Counsel in connection with the Mississippi Action
          (incorporated by reference to Exhibit 99.2 to Registrant's
          Quarterly Report on Form 10-Q for the quarter ended June 30,
          1998, filed August 14, 1998).
10.18     Texas Fee Payment Agreement dated as of July 24, 1998, by
          and among Philip Morris, Inc., R. J. Reynolds Tobacco
          Company, Brown & Williamson Tobacco Corporation, Lorillard
          Tobacco Company and United States Tobacco Company
          (collectively, the "Texas Defendants"), the State of Texas
          ("Texas") and Texas' private counsel named therein (the
          "Texas Counsel") in connection with Texas v. The American
          Tobacco Co., Texas Litigation No. 5-96CV-91 (the "Texas
          Action") (incorporated by reference to Exhibit 99.3 to
          Registrant's quarterly Report on Form 10-Q for the quarter
          ended June 30, 1998, filed August 14, 1998).
</TABLE>

                                       77
<PAGE>   78

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
10.19     Stipulation of Amendment to Settlement Agreement and for
          Entry of Consent Decree dated July 24, 1998, by and among
          the Texas Defendants, Texas and the Texas Counsel in
          connection with the Texas Action (incorporated by reference
          to Exhibit 99.4 to Registrant's Quarterly Report on Form
          10-Q for the quarter ended June 30, 1998, filed August 14,
          1998).
10.20     Stipulation of Amendment to Settlement Agreement and for
          Entry of Consent Decree dated September 11, 1998, by and
          among the State of Florida and the tobacco companies named
          therein (incorporated by reference to Exhibit 99.1 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended September 30, 1998, filed November 12, 1998).
10.21     Florida Fee Payment Agreement dated September 11, 1998, by
          and among the State of Florida, various Florida counsel and
          the tobacco companies named therein (incorporated by
          reference to Exhibit 99.2 to Registrant's Quarterly Report
          on Form 10-Q for the quarter ended September 30, 1998, filed
          November 12, 1998).
10.22     Form of MFN Escrow Agreement by and among the State of
          Florida, the tobacco companies named therein and a bank
          acting as escrow agent (incorporated by reference to Exhibit
          99.3 to Registrant's Quarterly Report on Form 10-Q for the
          quarter ended September 30, 1998, filed November 12, 1998).
10.23     Master Settlement Agreement (the "MSA") dated November 23,
          1998, between the Settling States named in the MSA and the
          Participating Manufacturers also named therein (incorporated
          by reference to Exhibit 4 to Registrant's Form 8-K dated
          November 23, 1998).
10.24     Amended and Restated Equity Incentive Award Plan for
          Directors of R.J. Reynolds Tobacco Holdings, Inc. and
          Subsidiaries (the "EIAP") (incorporated by reference to
          Exhibit 10.1 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended March 31, 2000, filed May 9, 2000).
10.25     Form of Deferred Stock Unit Agreement between R.J. Reynolds
          Tobacco Holdings, Inc. and the Director named therein,
          pursuant to the EIAP (incorporated by reference to Exhibit
          10.9 to Registrant's Quarterly Report on Form 10-Q for the
          quarter ended June 30, 1999, filed August 16, 1999).
10.26     Form of Stock Option Agreement (Initial) between R.J.
          Reynolds Tobacco Holdings, Inc. and the Director named
          therein, pursuant to the EIAP (incorporated by reference to
          Exhibit 10.10 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended June 30, 1999, filed August 16, 1999).
10.27     Form of Stock Option Agreement (Annual) between R.J.
          Reynolds Tobacco Holdings, Inc. and the Director named
          therein, pursuant to the EIAP, dated as of June 15, 1999
          (incorporated by reference to Exhibit 10.11 to Registrant's
          Quarterly Report on Form 10-Q for the quarter ended June 30,
          1999, filed August 16, 1999).
10.28     Deferred Compensation Plan for Directors between R.J.
          Reynolds Tobacco Holdings, Inc. (Effective June 14, 1999)
          (incorporated by reference to Exhibit 10.12 to Registrant's
          Quarterly Report on Form 10-Q for the quarter ended June 30,
          1999, filed August 16, 1999).
10.29     R.J. Reynolds Tobacco Holdings, Inc. 1999 Long Term
          Incentive Plan (incorporated by reference to Exhibit 10.2 to
          Registrant's Form 8-K filed June 16, 1999).
10.30     Form of 1999 Performance Appreciation Rights Agreement under
          R.J. Reynolds Tobacco Holdings, Inc. 1999 Long Term
          Incentive Plan between R.J. Reynolds Tobacco Holdings, Inc.
          and the grantee named therein (incorporated by reference to
          Exhibit 10.1 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended September 30, 1999, filed November 12,
          1999).
</TABLE>

                                       78
<PAGE>   79

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
10.31     Form of Tandem Restricted Stock/Stock Option Agreement dated
          June 15, 1999, between R.J. Reynolds Tobacco Holdings, Inc.
          and the grantee named therein (incorporated by reference to
          Exhibit 10.2 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended September 30, 1999, filed November 12,
          1999).
10.32     Form of Tandem Restricted Stock/Stock Option Agreement dated
          June 15, 1999, between R.J. Reynolds Tobacco Holdings, Inc.
          and Andrew J. Schindler (incorporated by reference to
          Exhibit 10.3 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended September 30, 1999, filed November 12,
          1999).
10.33     Form of Tandem Restricted Stock/Stock Option Agreement dated
          July 28, 1999, between R.J. Reynolds Tobacco Holdings, Inc.
          and the grantee named therein (incorporated by reference to
          Exhibit 10.4 to Registrant's Quarterly Report on Form 10-Q
          for the quarter ended September 30, 1999, filed November 12,
          1999).
10.34     Form of Restricted Stock Agreement dated February 2, 2000,
          between R.J. Reynolds Tobacco Holdings, Inc. and the grantee
          named therein (incorporated by reference to Exhibit 10.35 to
          Registrant's Annual Report on Form 10-K for the year ended
          December 31, 1999, filed March 8, 2000).
10.35     Form of Performance Unit Agreement (three-year vesting)
          dated February 2, 2000, between R.J. Reynolds Tobacco
          Holdings, Inc. and the grantee named therein (incorporated
          by reference to Exhibit 10.36 to Registrant's Annual Report
          on Form 10-K for the year ended December 31, 1999, filed
          March 8, 2000).
10.36     Form of Restricted Stock Agreement dated January 31, 2001,
          between R.J. Reynolds Tobacco Holdings, Inc. and the grantee
          named therein.
10.37     Form of Performance Unit Agreement (one-year vesting) dated
          January 31, 2001, between R.J. Reynolds Tobacco Holdings,
          Inc. and the grantee named therein.
10.38     Form of Performance Unit Agreement (three-year vesting)
          dated January 31, 2001, between R.J. Reynolds Tobacco
          Holdings, Inc. and the grantee named therein.
10.39     Master Trust Agreement, as amended and restated as of
          October 12, 1988, between RJR Nabisco, Inc. and Wachovia
          Bank and Trust Company, N.A. (incorporated by reference to
          Exhibit 10.18 to the Registration Statement on Form S-4 of
          RJR Holdings Corp. and RJR Holdings Group, Inc.,
          Registration No. 33-27894, filed April 5, 1989, as amended).
10.40     Amendment No. 1 to Master Trust Agreement, dated January 27,
          1989 (incorporated by reference to Exhibit 10(g)(ii) to
          Registrant's Annual Report on Form 10-K for the fiscal year
          ended December 31, 1988, filed March 9, 1989).
10.41     Amendment No. 2 to Master Trust Agreement, dated January 27,
          1989 (incorporated by reference to Exhibit 10(g)(iii) to
          Registrant's Annual Report on Form 10-K for the fiscal year
          ended December 31, 1988, filed March 9, 1989).
10.42     Excess Benefit Master Trust Agreement, as amended and
          restated as of October 12, 1988, between RJR Nabisco, Inc.
          and Wachovia Bank and Trust Company, N.A. (incorporated by
          reference to Exhibit 10.21 to Registrant's Registration
          Statement on Form S-4 of RJR Holdings Corp. and RJR Holdings
          Group, Inc., Registration No. 33-27894, filed April 5, 1989,
          as amended).
10.43     Amendment No. 1 to Excess Benefit Master Trust Agreement,
          dated January 27, 1989 (incorporated by reference to Exhibit
          10(h)(ii) to Registrant's Annual Report on Form 10-K for the
          fiscal year ended December 31, 1988, filed March 9, 1989).
</TABLE>

                                       79
<PAGE>   80

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
10.44     RJR Nabisco, Inc. Supplemental Executive Retirement Plan, as
          amended on July 21, 1988 (incorporated by reference to
          Exhibit 10.32 to the Registration Statement on Form S-4 of
          RJR Holdings Corp. and RJR Holdings Group, Inc.,
          Registration No. 33-27894, filed April 5, 1989, as amended).
10.45     Amendment to Supplemental Executive Retirement Plan, dated
          November 23, 1988 (incorporated by reference to Exhibit
          10(m)(ii) to Registrant's Annual Report on Form 10-K for the
          fiscal year ended December 31, 1998, filed March 9, 1989).
10.46     Amendment No. 2 to Supplemental Executive Retirement Plan,
          dated January 27, 1989 (incorporated by reference to Exhibit
          10(m)(iii) to Registrant's Annual Report on Form 10-K for
          the fiscal year ended December 31, 1988, filed March 9,
          1989).
10.47     Amendment to Supplemental Executive Retirement Plan, dated
          April 10, 1993 (incorporated by reference to Registrant's
          Annual Report on Form 10-K for the year ended December 31,
          1993, filed February 24, 1994).
10.48     Retention Trust Agreement dated May 13, 1998, by and between
          RJR Nabisco, Inc. and Wachovia Bank, N.A. (incorporated by
          reference to Registrant's Quarterly Report on Form 10-Q for
          the quarter ended June 30, 1998, filed August 14, 1998).
10.49     Form of Employment Agreement dated as of October 31, 1988,
          by and between RJR Nabisco, Inc. and Andrew J. Schindler
          (incorporated by reference to Exhibit 10 to Registrant's
          Schedule 14D-9 filed on November 8, 1988).
10.50     Form of Special Addendum dated December 20, 1988, to the
          Employment Agreement dated as of October 31, 1988, between
          RJR Nabisco, Inc. and Andrew J. Schindler (incorporated by
          reference to Exhibit 10(d)(i) to Registrant's Annual Report
          on Form 10-K for the fiscal year ended December 31, 1988,
          filed March 8, 1989).
10.51     Amendment dated June 7, 1999, to the Employment Agreement
          dated as of October 31, 1988, and previously amended as of
          December 20, 1988, between RJR Nabisco, Inc. and Andrew J.
          Schindler (incorporated by reference to Exhibit 10.8 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended September 30, 1999, filed November 12, 1999).
10.52     Change of Control Letter Agreement dated December 5, 1995,
          by and among RJR Nabisco Holdings Corp., RJR Nabisco, Inc.
          and Andrew J. Schindler (incorporated by reference to
          Exhibit 10.44 to Registrant's Annual Report on Form 10-K for
          the fiscal year ended December 31, 1995, filed February 22,
          1996).
10.53     Participation Agreement, RJR Nabisco, Inc. Supplemental
          Executive Retirement Plan, for Andrew J. Schindler dated
          December 28, 1995 (incorporated by reference to Exhibit
          10.45 to Registrant's Annual Report on Form 10-K for the
          fiscal year ended December 31, 1995, filed February 22,
          1996).
10.54     Cash Retention Grant Letter Agreement dated August 17, 1999,
          between R.J. Reynolds Tobacco Holdings, Inc. and Andrew J.
          Schindler (incorporated by reference to Exhibit 10.9 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended September 30, 1999, filed November 12, 1999).
10.55     Form of Change of Control Letter Agreement between R.J.
          Reynolds Tobacco Holdings, Inc. and the executive officer
          named therein (incorporated by reference to Exhibit 10.5 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended September 30, 1999, filed November 12, 1999).
10.56     Form of Special Severance Benefits Letter Agreement between
          R. J. Reynolds Tobacco Company and the executive officer
          named therein (incorporated by reference to Exhibit 10.6 to
          Registrant's Quarterly Report on Form 10-Q for the quarter
          ended September 30, 1999, filed November 12, 1999).
</TABLE>

                                       80
<PAGE>   81

<TABLE>
<CAPTION>
EXHIBIT
NUMBER
-------
<C>       <S>
10.57     Form of Amendment to Special Severance Benefits Letter
          Agreement between R. J. Reynolds Tobacco Company and the
          executive officer named therein (incorporated by reference
          to Exhibit 10.7 to Registrant's Quarterly Report on Form
          10-Q for the quarter ended September 30, 1999, filed
          November 12, 1999).
12.1      Computation of Ratio of Earnings to Combined Fixed Charges
          and Preferred Stock Dividends/Deficiency in the Coverage of
          Combined Fixed Charges and Preferred Stock Dividends by
          Earnings Before Fixed Charges for each of the five years
          within the period ended December 31, 2000.
21.1      Subsidiaries of the Registrant.
23.1      Consent of Independent Auditors.
23.2      Consent of Independent Auditors.
99.1      Expanded Litigation Disclosure.
</TABLE>

                                       81
<PAGE>   82

                                   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.

                                          R.J. REYNOLDS TOBACCO HOLDINGS, INC.

Dated: March 1, 2001                      By: /s/ Andrew J. Schindler
                                            ------------------------------------
                                            Andrew J. Schindler
                                            Chairman of the Board, President,
                                              Chief Executive Officer and
                                              Director

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

<TABLE>
<CAPTION>
                      SIGNATURE                                     TITLE                    DATE
                      ---------                                     -----                    ----
<S>                                                    <C>                               <C>
/s/ Andrew J. Schindler                                Chairman of the Board,            March 1, 2001
-----------------------------------------------------    President,
Andrew J. Schindler                                      Chief Executive Officer
                                                         and Director
                                                         (principal executive officer)

/s/ Kenneth J. Lapiejko                                Executive Vice President and      March 1, 2001
-----------------------------------------------------    Chief Financial Officer
Kenneth J. Lapiejko                                      (principal financial officer)

/s/ Thomas R. Adams                                    Senior Vice President and         March 1, 2001
-----------------------------------------------------    Controller
Thomas R. Adams                                          (principal accounting officer)

/s/ Mary K. Bush                                       Director                          March 1, 2001
-----------------------------------------------------
Mary K. Bush

/s/ John T. Chain, Jr.                                 Director                          March 1, 2001
-----------------------------------------------------
John T. Chain, Jr.

/s/ A.D. Frazier, Jr.                                  Director                          March 1, 2001
-----------------------------------------------------
A.D. Frazier, Jr.

/s/ Denise Ilitch                                      Director                          March 1, 2001
-----------------------------------------------------
Denise Ilitch

/s/ John G. Medlin, Jr.                                Director                          March 1, 2001
-----------------------------------------------------
John G. Medlin, Jr.

/s/ Nana Mensah                                        Director                          March 1, 2001
-----------------------------------------------------
Nana Mensah

                                                       Director
-----------------------------------------------------
Joseph P. Viviano

/s/ Thomas C. Wajnert                                  Director                          March 1, 2001
-----------------------------------------------------
Thomas C. Wajnert
</TABLE>

                                        82
<PAGE>   83

                                  EXHIBIT INDEX
      Exhibit
      Number
      -------

        2.1       Distribution Agreement dated as of May 12, 1999, among RJR
                  Nabisco Holdings Corp., RJR Nabisco, Inc. and R. J. Reynolds
                  Tobacco Company (incorporated by reference to Exhibit 2.1 to
                  Registrant's Form 8-A filed May 19, 1999).

        2.2       Certificate of Merger and Agreement and Plan of Merger among
                  RJR Nabisco Holdings Corp., RJR Nabisco, Inc. and R.J.
                  Reynolds Tobacco Holdings, Inc. (incorporated by reference to
                  Exhibit 2.2 to Registrant's Form 8-K filed May 28, 1999).

        2.3       Agreement and Plan of Merger dated as of June 25, 2000, among
                  Nabisco Group Holdings Corp., R.J. Reynolds Tobacco Holdings,
                  Inc. and RJR Acquisition Corp. (incorporated by reference to
                  Exhibit 2.1 to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended June 30, 2000, filed August 7, 2000).

        2.4       Amendment No. 1, dated September 20, 2000, to the Agreement
                  and Plan of Merger dated as of June 25, 2000, among Nabisco
                  Group Holdings Corp., R.J. Reynolds Tobacco Holdings, Inc. and
                  RJR Acquisition Corp. (incorporated by reference to Exhibit
                  2.1 to Registrant's Quarterly Report on Form 10-Q for the
                  quarter ended September 30, 2000, filed November 3, 2000).

        2.5       Letter dated October 19, 2000, from R.J. Reynolds Tobacco
                  Holdings, Inc. to Nabisco Group Holdings Corp., electing that
                  Nabisco Group Holdings Corp. be merged with and into RJR
                  Acquisition Corp. under the Agreement and Plan of Merger dated
                  as of June 25, 2000, as amended, among Nabisco Group Holdings
                  Corp., R.J. Reynolds Tobacco Holdings, Inc. and RJR
                  Acquisition Corp. (incorporated by reference to Exhibit 2.2 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 2000, filed November 3, 2000).

        2.6       Letter dated November 20, 2000, from R.J. Reynolds Tobacco
                  Holdings, Inc. to Nabisco Group Holdings Corp., withdrawing
                  its previous election made on October 19, 2000, and electing
                  that RJR Acquisition Corp. be merged with and into Nabisco
                  Group Holdings Corp. under the Agreement and Plan of Merger
                  dated as of June 25, 2000, as amended, among Nabisco Group
                  Holdings Corp., R.J. Reynolds Tobacco Holdings, Inc. and RJR
                  Acquisition Corp. (incorporated by reference to Exhibit 2.4 to
                  Registrant's Form 8-K filed December 21, 2000).

        2.7       Letter dated October 27, 2000, from R.J. Reynolds Tobacco
                  Holdings, Inc. to Nabisco Group Holdings Corp., agreeing that
                  it will pay or cause to be paid to stockholders of Nabisco
                  Group Holdings Corp., in circumstances described in Section
                  2.02(b) of the Agreement and Plan of Merger dated as of June
                  25, 2000, as amended, among Nabisco Group Holdings Corp., R.J.
                  Reynolds Tobacco Holdings, Inc. and RJR Acquisition Corp., an
                  amount equal to 100% of the difference between the Net
                  Proceeds (as defined in the Agreement and Plan of Merger) and
                  $11.729 billion (incorporated by reference to Exhibit 2.3 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 2000, filed November 3, 2000).

        3.1       Restated Certificate of Incorporation of R.J. Reynolds Tobacco
                  Holdings, Inc. (incorporated by reference to Exhibit 3.1 to
                  Registrant's Form 8-K dated June 14, 1999).

        3.2       Bylaws of R.J. Reynolds Tobacco Holdings, Inc. (incorporated
                  by reference to Exhibit 3.2 to Registrant's Form 8-K dated
                  June 14, 1999).

        4.1       Rights Agreement dated as of May 18, 1999, between R.J.
                  Reynolds Tobacco Holdings, Inc. and its rights agent
                  (incorporated by reference to Exhibit 4.1 to Registrant's Form
                  8-K dated June 14, 1999).

        4.2       Amended and Restated Indenture dated as of July 24, 1995,
                  between RJR Nabisco, Inc. and The Bank of New York
                  (incorporated by reference to Exhibit 4.1 to Registrant's
                  Quarterly Report on Form 10-Q for the quarter ended June 30,
                  1995, filed August 8, 1995).

        4.3       First Supplemental Indenture and Waiver dated as of April 27,
                  1999, between RJR Nabisco, Inc. and The Bank of New York, to
                  the Amended and Restated Indenture dated as of July 24, 1995,
                  between RJR Nabisco, Inc. and The Bank of New York, as
                  successor trustee (incorporated by reference to Exhibit 10.3
                  to Registrant's Form 8-A filed May 19, 1999).



<PAGE>   84


      Exhibit
      Number
      -------

        4.4       Second Supplemental Indenture and Waiver dated as of April 27,
                  1999, between RJR Nabisco, Inc. and The Bank of New York, to
                  the Amended and Restated Indenture dated as of May 18, 1992
                  between RJR Nabisco, Inc. and The Bank of New York, as
                  successor trustee, as amended by the Form of First
                  Supplemental Indenture and Waiver thereto dated as of June 2,
                  1995 (incorporated by reference to Exhibit 10.4 to
                  Registrant's Form 8-A filed May 19, 1999).

        4.5       Indenture dated as of May 15, 1999, among RJR Nabisco, Inc.,
                  R. J. Reynolds Tobacco Company and The Bank of New York, as
                  trustee (incorporated by reference to Exhibit 10.2 to
                  Registrant's Form 8-A flied May 19, 1999).

        4.6       First Supplemental Indenture dated as of December 12, 2000,
                  among RJR Acquisition Corp., R.J. Reynolds Tobacco Holdings,
                  Inc., R. J. Reynolds Tobacco Company and The Bank of New York,
                  as Trustee, to the Indenture dated as of May 15, 1999, among
                  RJR Nabisco, Inc., R. J. Reynolds Tobacco Company and The Bank
                  of New York, as Trustee.

       10.1       Amended and Restated Credit Agreement dated as of November 17,
                  2000, among R.J. Reynolds Tobacco Holdings, Inc. and the
                  lending institutions listed and to be listed from time to time
                  on Annex I.

       10.2       Form of Amended and Restated Subsidiary Guaranty by R. J.
                  Reynolds Tobacco Company and RJR Acquisition Corp. to the
                  creditors defined therein, issued in connection with the
                  Credit Agreement dated as of May 18, 1999 and Amended and
                  Restated as of November 17, 2000, among R.J. Reynolds Tobacco
                  Holdings, Inc. and the lending institutions listed and to be
                  listed from time to time on Annex I.

       10.3       Guarantee dated as of May 18, 1999, by R. J. Reynolds Tobacco
                  Company to the holders and to The Bank of New York, as
                  trustee, issued in connection with the Indenture dated as of
                  May 15, 1999, among RJR Nabisco, Inc., R. J. Reynolds Tobacco
                  Company and The Bank of New York, as trustee (incorporated by
                  reference to Exhibit 10.6 to Registrant's Form 8-A filed May
                  19, 1999).

       10.4       Tax Sharing Agreement dated as of June 14, 1999, among RJR
                  Nabisco Holdings Corp., R.J. Reynolds Tobacco Holdings, Inc.,
                  R. J. Reynolds Tobacco Company and Nabisco Holdings Corp.
                  (incorporated by reference to Exhibit 10.1 to Registrant's
                  Form 8-K dated June 14, 1999).

       10.5       Amendment to Tax Sharing Agreement dated June 25, 2000, among
                  Nabisco Group Holdings Corp., R.J. Reynolds Tobacco Holdings,
                  Inc., Nabisco Holdings Corp. and R. J. Reynolds Tobacco
                  Company (incorporated by reference to Exhibit 10.2 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended June 30, 2000, filed August 7, 2000).

       10.6       Agreement dated as of May 20, 1999, among Pension Benefit
                  Guaranty Corporation, RJR Nabisco Holdings Corp. and R. J.
                  Reynolds Tobacco Company (incorporated by reference to Exhibit
                  10.16 to Registrant's Quarterly Report on Form 10-Q for the
                  quarter ended June 30, 1999, filed August 16, 1999).

       10.7       Amendment effective as of June 14, 1999, to the Agreement
                  effective as of May 20, 1999, by and among the Pension Benefit
                  Guaranty Corporation, R.J. Reynolds Tobacco Holdings, Inc. and
                  R. J. Reynolds Tobacco Company (incorporated by reference to
                  Exhibit 10.3 to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended June 30, 2000, filed August 7, 2000).

       10.8       Purchase Agreement dated as of March 9, 1999, as amended and
                  restated as of May 11, 1999, among R. J. Reynolds Tobacco
                  Company, RJR Nabisco, Inc. and Japan Tobacco Inc.
                  (incorporated by reference to Exhibit 2.1 to Registrant's Form
                  8-K dated May 12, 1999).

       10.9       Settlement Agreement dated August 25, 1997, between the State
                  of Florida and settling defendants in The State of Florida v.
                  American Tobacco Co. (incorporated by reference to Exhibit 2
                  to Registrant's Form 8-K dated August 25, 1997).

       10.10      Comprehensive Settlement Agreement and Release dated January
                  16, 1998, between the State of Texas and settling defendants
                  in The State of Texas v. American Tobacco Co. (incorporated by
                  reference to Exhibit 2 to Registrant's Form 8-K dated January
                  16, 1998).


<PAGE>   85


      Exhibit
      Number
      -------

       10.11      Settlement Agreement and Release in re: The State of Minnesota
                  v. Philip Morris, Inc., by and among the State of Minnesota,
                  Blue Cross and Blue Shield of Minnesota and the various
                  tobacco company defendants named therein, dated as of May 8,
                  1998 (incorporated by reference to Exhibit 99.1 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended March 30, 1998, filed May 15, 1998).

       10.12      Settlement Agreement and Stipulation for Entry of Consent
                  Judgment in re: The State of Minnesota v. Philip Morris, Inc.,
                  by and among the State of Minnesota, Blue Cross and Blue
                  Shield of Minnesota and the various tobacco company defendants
                  named therein, dated as of May 8, 1998 (incorporated by
                  reference to Exhibit 99.2 to Registrant's Quarterly Report on
                  Form 10-Q for the quarter ended March 30, 1998, filed May 15,
                  1998).

       10.13      Form of Consent Judgment by Judge Kenneth J. Fitzpatrick,
                  Judge of District Court in re: The State of Minnesota v.
                  Philip Morris, Inc. (incorporated by reference to Exhibit 99.3
                  to Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended March 30, 1998, filed May 15, 1998).

       10.14      Agreement to Pay State of Minnesota Attorney's Fees and Costs,
                  by and among the State of Minnesota and the various tobacco
                  companies, dated as of May 8, 1998 (incorporated by reference
                  to Exhibit 99.4 to Registrant's Quarterly Report on Form 10-Q
                  for the quarter ended March 30, 1998, filed May 15, 1998).

       10.15      Agreement to Pay Blue Cross and Blue Shield of Minnesota
                  Attorney's Fees and Costs by and among Blue Cross and Blue
                  Shield of Minnesota and various tobacco companies, dated as of
                  May 8, 1998 (incorporated by reference to Exhibit 99.5 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended March 30, 1998, filed May 15, 1998).

       10.16      Mississippi Fee Payment Agreement dated as of July 2, 1998, by
                  and among Philip Morris, Inc., R. J. Reynolds Tobacco Company,
                  Brown & Williamson Tobacco Corporation (collectively, the
                  "Mississippi Defendants"), the State of Mississippi
                  ("Mississippi") and Mississippi's private counsel named
                  therein (the "Mississippi Counsel") in connection with Moore
                  v. The American Tobacco Co., Mississippi Litigation No.
                  94-1429 (the "Mississippi Action") (incorporated by reference
                  to Exhibit 99.1 to Registrant's Quarterly Report on Form 10-Q
                  for the quarter ended June 30, 1998, filed August 14, 1998).

       10.17      Stipulation of Amendment to Settlement Agreement and for Entry
                  of Agreed Order dated July 2, 1998, by and among the
                  Mississippi Defendants, Mississippi and the Mississippi
                  Counsel in connection with the Mississippi Action
                  (incorporated by reference to Exhibit 99.2 to Registrant's
                  Quarterly Report on Form 10-Q for the quarter ended June 30,
                  1998, filed August 14, 1998).

       10.18      Texas Fee Payment Agreement dated as of July 24, 1998, by and
                  among Philip Morris, Inc., R. J. Reynolds Tobacco Company,
                  Brown & Williamson Tobacco Corporation, Lorillard Tobacco
                  Company and United States Tobacco Company (collectively, the
                  "Texas Defendants"), the State of Texas ("Texas") and Texas'
                  private counsel named therein (the "Texas Counsel") in
                  connection with Texas v. The American Tobacco Co., Texas
                  Litigation No. 5-96CV-91 (the "Texas Action") (incorporated by
                  reference to Exhibit 99.3 to Registrant's quarterly Report on
                  Form 10-Q for the quarter ended June 30, 1998, filed August
                  14, 1998).

       10.19      Stipulation of Amendment to Settlement Agreement and for Entry
                  of Consent Decree dated July 24, 1998, by and among the Texas
                  Defendants, Texas and the Texas Counsel in connection with the
                  Texas Action (incorporated by reference to Exhibit 99.4 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended June 30, 1998, filed August 14, 1998).

       10.20      Stipulation of Amendment to Settlement Agreement and for Entry
                  of Consent Decree dated September 11, 1998, by and among the
                  State of Florida and the tobacco companies named therein
                  (incorporated by reference to Exhibit 99.1 to Registrant's
                  Quarterly Report on Form 10-Q for the quarter ended September
                  30, 1998, filed November 12, 1998).


<PAGE>   86


      Exhibit
      Number
      -------

       10.21      Florida Fee Payment Agreement dated September 11, 1998, by and
                  among the State of Florida, various Florida counsel and the
                  tobacco companies named therein (incorporated by reference to
                  Exhibit 99.2 to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended September 30, 1998, filed November 12,
                  1998).

       10.22      Form of MFN Escrow Agreement by and among the State of
                  Florida, the tobacco companies named therein and a bank acting
                  as escrow agent (incorporated by reference to Exhibit 99.3 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 1998, filed November 12, 1998).

       10.23      Master Settlement Agreement (the "MSA") dated November 23,
                  1998, between the Settling States named in the MSA and the
                  Participating Manufacturers also named therein (incorporated
                  by reference to Exhibit 4 to Registrant's Form 8-K dated
                  November 23, 1998).

       10.24      Amended and Restated Equity Incentive Award Plan for Directors
                  of R.J. Reynolds Tobacco Holdings, Inc. and Subsidiaries (the
                  "EIAP") (incorporated by reference to Exhibit 10.1 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended March 31, 2000, filed May 9, 2000).

       10.25      Form of Deferred Stock Unit Agreement between R.J. Reynolds
                  Tobacco Holdings, Inc. and the Director named therein,
                  pursuant to the EIAP (incorporated by reference to Exhibit
                  10.9 to Registrant's Quarterly Report on Form 10-Q for the
                  quarter ended June 30, 1999, filed August 16, 1999).

       10.26      Form of Stock Option Agreement (Initial) between R.J. Reynolds
                  Tobacco Holdings, Inc. and the Director named therein,
                  pursuant to the EIAP (incorporated by reference to Exhibit
                  10.10 to Registrant's Quarterly Report on Form 10-Q for the
                  quarter ended June 30, 1999, filed August 16, 1999).

       10.27      Form of Stock Option Agreement (Annual) between R.J. Reynolds
                  Tobacco Holdings, Inc. and the Director named therein,
                  pursuant to the EIAP, dated as of June 15, 1999 (incorporated
                  by reference to Exhibit 10.11 to Registrant's Quarterly Report
                  on Form 10-Q for the quarter ended June 30, 1999, filed August
                  16, 1999).

       10.28      Deferred Compensation Plan for Directors between R.J. Reynolds
                  Tobacco Holdings, Inc. (Effective June 14, 1999) (incorporated
                  by reference to Exhibit 10.12 to Registrant's Quarterly Report
                  on Form 10-Q for the quarter ended June 30, 1999, filed August
                  16, 1999).

       10.29      R.J. Reynolds Tobacco Holdings, Inc. 1999 Long Term Incentive
                  Plan (incorporated by reference to Exhibit 10.2 to
                  Registrant's Form 8-K filed June 16, 1999).

       10.30      Form of 1999 Performance Appreciation Rights Agreement under
                  R.J. Reynolds Tobacco Holdings, Inc. 1999 Long Term Incentive
                  Plan between R.J. Reynolds Tobacco Holdings, Inc. and the
                  grantee named therein (incorporated by reference to Exhibit
                  10.1 to Registrant's Quarterly Report on Form 10-Q for the
                  quarter ended September 30, 1999, filed November 12, 1999).

       10.31      Form of Tandem Restricted Stock/Stock Option Agreement dated
                  June 15, 1999, between R.J. Reynolds Tobacco Holdings, Inc.
                  and the grantee named therein (incorporated by reference to
                  Exhibit 10.2 to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended September 30, 1999, filed November 12,
                  1999).

       10.32      Form of Tandem Restricted Stock/Stock Option Agreement dated
                  June 15, 1999, between R.J. Reynolds Tobacco Holdings, Inc.
                  and Andrew J. Schindler (incorporated by reference to Exhibit
                  10.3 to Registrant's Quarterly Report on Form 10-Q for the
                  quarter ended September 30, 1999, filed November 12, 1999).

       10.33      Form of Tandem Restricted Stock/Stock Option Agreement dated
                  July 28, 1999, between R.J. Reynolds Tobacco Holdings, Inc.
                  and the grantee named therein (incorporated by reference to
                  Exhibit 10.4 to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended September 30, 1999, filed November 12,
                  1999).


<PAGE>   87


      Exhibit
      Number
      -------

       10.34      Form of Restricted Stock Agreement dated February 2, 2000,
                  between R.J. Reynolds Tobacco Holdings, Inc. and the grantee
                  named therein (incorporated by reference to Exhibit 10.35 to
                  Registrant's Annual Report on Form 10-K for the year ended
                  December 31, 1999, filed March 8, 2000).

       10.35      Form of Performance Unit Agreement (three-year vesting) dated
                  February 2, 2000, between R.J. Reynolds Tobacco Holdings, Inc.
                  and the grantee named therein (incorporated by reference to
                  Exhibit 10.36 to Registrant's Annual Report on Form 10-K for
                  the year ended December 31, 1999, filed March 8, 2000).

       10.36      Form of Restricted Stock Agreement dated January 31, 2001,
                  between R.J. Reynolds Tobacco Holdings, Inc. and the grantee
                  named therein.

       10.37      Form of Performance Unit Agreement (one-year vesting) dated
                  January 31, 2001, between R.J. Reynolds Tobacco Holdings, Inc.
                  and the grantee named therein.

       10.38      Form of Performance Unit Agreement (three-year vesting) dated
                  January 31, 2001, between R.J. Reynolds Tobacco Holdings, Inc.
                  and the grantee named therein.

       10.39      Master Trust Agreement, as amended and restated as of October
                  12, 1988, between RJR Nabisco, Inc. and Wachovia Bank and
                  Trust Company, N.A. (incorporated by reference to Exhibit
                  10.18 to the Registration Statement on Form S-4 of RJR
                  Holdings Corp. and RJR Holdings Group, Inc., Registration No.
                  33-27894, filed April 5, 1989, as amended).

       10.40      Amendment No. 1 to Master Trust Agreement, dated January 27,
                  1989 (incorporated by reference to Exhibit 10(g)(ii) to
                  Registrant's Annual Report on Form 10-K for the fiscal year
                  ended December 31, 1988, filed March 9, 1989).

       10.41      Amendment No. 2 to Master Trust Agreement, dated January 27,
                  1989 (incorporated by reference to Exhibit 10(g)(iii) to
                  Registrant's Annual Report on Form 10-K for the fiscal year
                  ended December 31, 1988, filed March 9, 1989).

       10.42      Excess Benefit Master Trust Agreement, as amended and restated
                  as of October 12, 1988, between RJR Nabisco, Inc. and Wachovia
                  Bank and Trust Company, N.A. (incorporated by reference to
                  Exhibit 10.21 to Registrant's Registration Statement on Form
                  S-4 of RJR Holdings Corp. and RJR Holdings Group, Inc.,
                  Registration No. 33-27894, filed April 5, 1989, as amended).

       10.43      Amendment No. 1 to Excess Benefit Master Trust Agreement,
                  dated January 27, 1989 (incorporated by reference to Exhibit
                  10(h)(ii) to Registrant's Annual Report on Form 10-K for the
                  fiscal year ended December 31, 1988, filed March 9, 1989).

       10.44      RJR Nabisco, Inc. Supplemental Executive Retirement Plan, as
                  amended on July 21, 1988 (incorporated by reference to Exhibit
                  10.32 to the Registration Statement on Form S-4 of RJR
                  Holdings Corp. and RJR Holdings Group, Inc., Registration No.
                  33-27894, filed April 5, 1989, as amended).

       10.45      Amendment to Supplemental Executive Retirement Plan, dated
                  November 23, 1988 (incorporated by reference to Exhibit
                  10(m)(ii) to Registrant's Annual Report on Form 10-K for the
                  fiscal year ended December 31, 1998, filed March 9, 1989).

       10.46      Amendment No. 2 to Supplemental Executive Retirement Plan,
                  dated January 27, 1989 (incorporated by reference to Exhibit
                  10(m)(iii) to Registrant's Annual Report on Form 10-K for the
                  fiscal year ended December 31, 1988, filed March 9, 1989).

       10.47      Amendment to Supplemental Executive Retirement Plan, dated
                  April 10, 1993 (incorporated by reference to Registrant's
                  Annual Report on Form 10-K for the year ended December 31,
                  1993, filed February 24, 1994).

       10.48      Retention Trust Agreement dated May 13, 1998, by and between
                  RJR Nabisco, Inc. and Wachovia Bank, N.A. (incorporated by
                  reference to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended June 30, 1998, filed August 14, 1998).

       10.49      Form of Employment Agreement dated as of October 31, 1988, by
                  and between RJR Nabisco, Inc. and Andrew J. Schindler
                  (incorporated by reference to Exhibit 10 to Registrant's
                  Schedule 14D-9 filed on November 8, 1988).


<PAGE>   88


      Exhibit
      Number
      -------

       10.50      Form of Special Addendum dated December 20, 1988, to the
                  Employment Agreement dated as of October 31, 1988, between RJR
                  Nabisco, Inc. and Andrew J. Schindler (incorporated by
                  reference to Exhibit 10(d)(i) to Registrant's Annual Report on
                  Form 10-K for the fiscal year ended December 31, 1988, filed
                  March 8, 1989).

       10.51      Amendment dated June 7, 1999, to the Employment Agreement
                  dated as of October 31, 1988, and previously amended as of
                  December 20, 1988, between RJR Nabisco, Inc. and Andrew J.
                  Schindler (incorporated by reference to Exhibit 10.8 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 1999, filed November 12, 1999).

       10.52      Change of Control Letter Agreement dated December 5, 1995, by
                  and among RJR Nabisco Holdings Corp., RJR Nabisco, Inc. and
                  Andrew J. Schindler (incorporated by reference to Exhibit
                  10.44 to Registrant's Annual Report on Form 10-K for the
                  fiscal year ended December 31, 1995, filed February 22, 1996).

       10.53      Participation Agreement, RJR Nabisco, Inc. Supplemental
                  Executive Retirement Plan, for Andrew J. Schindler dated
                  December 28, 1995 (incorporated by reference to Exhibit 10.45
                  to Registrant's Annual Report on Form 10-K for the fiscal year
                  ended December 31, 1995, filed February 22, 1996).

       10.54      Cash Retention Grant Letter Agreement dated August 17, 1999,
                  between R.J. Reynolds Tobacco Holdings, Inc. and Andrew J.
                  Schindler (incorporated by reference to Exhibit 10.9 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 1999, filed November 12, 1999).

       10.55      Form of Change of Control Letter Agreement between R.J.
                  Reynolds Tobacco Holdings, Inc. and the executive officer
                  named therein (incorporated by reference to Exhibit 10.5 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 1999, filed November 12, 1999).

       10.56      Form of Special Severance Benefits Letter Agreement between R.
                  J. Reynolds Tobacco Company and the executive officer named
                  therein (incorporated by reference to Exhibit 10.6 to
                  Registrant's Quarterly Report on Form 10-Q for the quarter
                  ended September 30, 1999, filed November 12, 1999).

       10.57      Form of Amendment to Special Severance Benefits Letter
                  Agreement between R. J. Reynolds Tobacco Company and the
                  executive officer named therein (incorporated by reference to
                  Exhibit 10.7 to Registrant's Quarterly Report on Form 10-Q for
                  the quarter ended September 30, 1999, filed November 12,
                  1999).

       12.1       Computation of Ratio of Earnings to Combined Fixed Charges and
                  Preferred Stock Dividends/Deficiency in the Coverage of
                  Combined Fixed Charges and Preferred Stock Dividends by
                  Earnings Before Fixed Charges for each of the five years
                  within the period ended December 31, 2000.

       21.1       Subsidiaries of the Registrant.

       23.1       Consent of Independent Auditors.

       23.2       Consent of Independent Auditors.

       99.1       Expanded Litigation Disclosure.