<PAGE>   1
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                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

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

                               FORM 10-K/A No. 2

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

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

                   FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997

                          COMMISSION FILE NUMBER 1-2493

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

                             NEW VALLEY CORPORATION
             (Exact Name Of Registrant As Specified In Its Charter)

                   DELAWARE                                     13-5482050
        (State or other jurisdiction of                      (I.R.S. Employer
        incorporation or organization)                    Identification Number)

    100 S.E. SECOND STREET, MIAMI, FLORIDA                        33131
   (Address of principal executive offices)                     (Zip Code)

                                 (305) 579-8000
              (Registrant's telephone number, including area code)

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

        SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: None

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

        $15.00 Class A Increasing Rate Cumulative Senior Preferred Shares
                    ($100 Liquidation Value), $.01 par value

 $3.00 Class B Cumulative Convertible Preferred Shares ($25 Liquidation Value),
                                 $.10 par value

                          Common Shares, $.01 par value

     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 Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information statement
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. Yes [X] No [ ]

     The aggregate market value of the voting stock held by non-affiliates of
the registrant as of March 20, 1998 was approximately $58,297,000 (based on the
shares of voting stock of the registrant outstanding at March 20, 1998 and the
last reported sales price on such date for each class of voting stock of the
registrant, which includes the Class A Senior Preferred Shares, Class B
Preferred Shares and Common Shares). Directors and officers and ten percent or
greater stockholders are considered affiliates for purposes of this calculation
but should not necessarily be deemed affiliates for any other purpose.

     Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [X] No [ ]

     At March 20, 1998, there were 9,577,624 Common Shares outstanding.





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                                TABLE OF CONTENTS
<TABLE>
<CAPTION>

                                                                                                          PAGE

                                                     PART I
<S>       <C>                                                                                                <C>
Item 1.   Business.....................................................................................       1
Item 2.   Properties...................................................................................       7
Item 3.   Legal Proceedings............................................................................       8
Item 4.   Submission of Matters to a Vote of Security-Holders;
              Executive Officers of the Registrant.....................................................       8

                                                     PART II

Item 5.   Market for Registrant's Common Equity and Related Stockholder Matters........................      10
Item 6.   Selected Financial Data......................................................................      12
Item 7.   Management's Discussion and Analysis of Financial Condition and
              Results of Operations....................................................................      13
Item 7A.  Quantitative and Qualitative Disclosures About Market Risk...................................      22
Item 8.   Financial Statements and Supplementary Data..................................................      22
Item 9.   Changes In and Disagreements with Accountants on Accounting and
              Financial Disclosure.....................................................................      22

                                                    PART III

Item 10.  Directors and Executive Officers of the Registrant...........................................      23
Item 11.  Executive Compensation.......................................................................      25
Item 12.  Security Ownership of Certain Beneficial Owners and Management...............................      28
Item 13.  Certain Relationships and Related Transactions...............................................      31

                                                     PART IV

Item 14.  Exhibits, Financial Statement Schedules, and Reports on Form 8-K.............................      32

SIGNATURES.............................................................................................      67
</TABLE>




<PAGE>   3
 

                                     PART I

ITEM 1.   BUSINESS

GENERAL

         New Valley Corporation (the "Company") was organized under the laws of
the State of New York in 1851. On July 29, 1996, the Company completed its
reincorporation from the State of New York to the State of Delaware and effected
a one-for-twenty reverse stock split of the Company's Common Shares. The
principal executive office of the Company is located at 100 S.E. Second Street,
Miami, Florida 33131, and the telephone number is (305) 579-8000.

         On January 18, 1995, the Company emerged from bankruptcy reorganization
proceedings and completed substantially all distributions to creditors under its
First Amended Joint Chapter 11 Plan of Reorganization, as amended (the "Joint
Plan"). The Joint Plan was confirmed by the United States Bankruptcy Court for
the District of New Jersey, Newark Division on November 1, 1994, and pursuant
thereto, the Company effected certain related asset dispositions. For further
information with respect to the Company's bankruptcy reorganization proceedings
and asset dispositions, see "Bankruptcy Reorganization" and "Discontinued
Operations", respectively, below.

         The Company is engaged, through Ladenburg Thalmann & Co. Inc.
("Ladenburg"), in the investment banking and brokerage business, through
BrookeMil Ltd. ("BML"), in real estate development in Russia and the Ukraine,
through its New Valley Realty division, in the ownership and management of
commercial real estate in the United States, and in the acquisition of operating
companies.

LADENBURG THALMANN & CO. INC.

         On May 31, 1995, the Company acquired all of the outstanding shares of
common stock and other equity interests of Ladenburg for $25.8 million, net of
cash acquired, subject to adjustment. Ladenburg is a full service broker-dealer
which has been a member of the New York Stock Exchange ("NYSE") since 1876. Its
specialties include investment banking, trading, research, market making,
private client services, institutional sales and asset management.

         Ladenburg's investment banking area maintains relationships with
businesses and provides them with research, advisory and investor relations
support. Services include merger and acquisition consulting, management of and
participation in underwriting of equity and debt financing, private debt and
equity financing, and rendering appraisals, financial evaluations and fairness
opinions. Ladenburg's listed securities, fixed income and over-the-counter
trading areas include trading a variety of financial instruments. Ladenburg's
client services and institutional sales departments serve over 20,000 accounts
worldwide and its asset management area provides investment management and
financial planning services to numerous individuals and institutions.

         Ladenburg is a wholly-owned subsidiary of Ladenburg Thalmann Group
Inc. ("Ladenburg Group"), which has other subsidiaries specializing in merchant
banking, venture capital and investment banking activities on an international
level. Ladenburg Thalmann International ("LTI"), a wholly-owned subsidiary of
Ladenburg Group, is engaged in corporate finance and capital markets activities
in Russia and Ukraine, seeking, among other things, mandates to raise capital
for local corporate issuers in the international capital markets. LTI,
headquartered in New York City, has an office in Kiev, Ukraine.

         In July 1997, LTI, together with Societe Generale, formed a fund with
an initial capitalization of US$90.5 million for investment in public and
private equity securities in Ukraine. LTI's Kiev office serves as investment
advisor to the fund.


<PAGE>   4



BROOKEMIL LTD.

         On January 31, 1997, the Company entered into a stock purchase
agreement (the "Purchase Agreement") with Brooke (Overseas) Ltd. ("Brooke
(Overseas)"), pursuant to which the Company acquired 10,483 shares (the "BML
Shares") of the common stock of BrookeMil Ltd. ("BML") from Brooke (Overseas).
The shares comprise 99.1% of the outstanding shares of BML, a real estate
development company in Russia. The following summary reflects all material terms
and is qualified in its entirety by reference to the Purchase Agreement and
the annexes thereto, copies of which are incorporated by reference as exhibits
to this report.

         The Company paid Brooke (Overseas) a purchase price of $55 million for
the BML Shares, consisting of $21.5 million in cash and a $33.5 million 9%
promissory note of the Company (the "Note"). The Note, which was collateralized
by the BML Shares, was paid during 1997. The source of funds used by the Company
for the acquisition, including the payment of the Note, was general working
capital including cash and cash equivalents and proceeds from the sale of
investment securities available for sale. The amount of consideration paid by
the Company was determined based on a number of factors including current
valuations of the assets, future development plans, local real estate market
conditions and prevailing economic and political conditions in Russia.

         The Company retained independent legal counsel and financial advisors
in connection with the evaluation and negotiation of the transaction, which was
approved by a special committee of the independent directors of the Company. In
accordance with the terms of the Joint Plan, the transaction was approved by not
less than two-thirds of the entire Board of Directors, including the approval of
at least one of the directors elected by the holders of the Company's preferred
shares, and a fairness opinion from an investment banking firm was obtained. The
shareholders of the Company did not vote on the BML transaction (nor the
acquisition of Ladenburg or the Office Buildings and Shopping Centers described
below) as their approval was not required by applicable corporate law or the
Company's constituent documents.

         Brooke (Overseas) is a wholly-owned subsidiary of BGLS Inc. ("BGLS"),
which is wholly-owned by Brooke Group Ltd. ("Brooke"). Brooke indirectly owns an
approximate 42% voting interest in the Company. See "Significant Shareholders"
and Item 12, "Security Ownership of Certain Beneficial Owners and Management".
See Note 10 (Commitments and Contingencies) to the Consolidated Financial
Statements regarding a pending lawsuit relating to the Company's purchase of the
BML Shares.

         BML is developing a three-phase complex on 2.2 acres of land in
downtown Moscow, for which it has a 49-year lease. In 1993, the first phase of
the project, Ducat Place I, a 46,500 sq. ft. Class-A office building, was
successfully built and leased. On April 18, 1997, BML sold Ducat Place I to one
of its tenants, Citibank, for approximately $7.5 million, which purchase price
had been reduced to reflect approximately $6.2 million of rent prepayments by
Citibank. In 1997, BML completed construction of Ducat Place II, a premier
150,000 sq. ft. office building. Ducat Place II has been leased to a number of
leading international companies including Motorola, Conoco, Lukoil-Arco and
Morgan Stanley. The third phase, Ducat Place III, is planned as a 350,000 sq.
ft. mixed-use complex, with construction anticipated to commence in 1999. The
Company and BML are currently involved in the planning for the development of a
number of other real estate projects in Russia and the Ukraine, including a
hotel and office building in Kiev.

         In connection with the Purchase Agreement, certain specified
liabilities of BML aggregating approximately $40 million remained as liabilities
of BML after the purchase of the BML Shares by the Company. These liabilities
included a $20.4 million loan owed to Vneshtorgbank, a Russian bank, for the
construction of Ducat Place II (the "Construction Loan"). In addition, the
liabilities of BML at the time of purchase included approximately $13.8 million
of rents and related payments prepaid by tenants in Ducat Place II for periods
generally ranging from 15 to 18 months.

         In August 1997, BML refinanced all amounts due under the Construction
Loan with borrowings under a new credit facility with the Russian bank SBS-Agro.
The new credit facility bears interest at 16% per year, matures no later than
August 2002, with principal payments commencing after the first year, and is
collateralized 




                                       2

<PAGE>   5

by a mortgage on Ducat Place II and guaranteed by the Company. At
December 31, 1997, borrowings under the new credit agreement totaled $20.1
million.

         WESTERN REALTY. In February 1998, the Company and Apollo Real Estate
Investment Fund III, L.P. ("Apollo") organized Western Realty Development LLC
("Western Realty") to make real estate and other investments in Russia. In
connection with the formation of Western Realty, the Company agreed, among other
things, to contribute the real estate assets of BML, including Ducat Place II
and the site for Ducat Place III, to Western Realty and Apollo agreed to
contribute up to $58 million.

         Under the terms of the agreement governing Western Realty (the "LLC
Agreement"), the ownership and voting interests in Western Realty will be held
equally by Apollo and the Company. Apollo will be entitled to a preference on
distributions of cash from Western Realty to the extent of its investment,
together with a 15% annual rate of return, and the Company will then be entitled
to a return of $10 million of BML-related expenses incurred by the Company since
March 1, 1997, together with a 15% annual rate of return; subsequent
distributions will be made 70% to the Company and 30% to Apollo. Western Realty
will be managed by a Board of Managers consisting of an equal number of
representatives chosen by Apollo and the Company. All material corporate
transactions by Western Realty will generally require the unanimous consent of
the Board of Managers. Accordingly, the Company will account for its
non-controlling interest in Western Realty on the equity method. See Note 22
(Subsequent Events) to the Consolidated Financial Statements.

         The Company, Brooke and their affiliates have other business
relationships with affiliates of Apollo. On January 11, 1996, the Company
acquired from an affiliate of Apollo eight shopping centers for $72.5 million.
See "New Valley Realty Division". The Company and pension plans sponsored by
BGLS have invested in investment partnerships managed by an affiliate of Apollo.
Affiliates of Apollo own a substantial amount of debt securities of BGLS and
warrants to purchase common stock of Brooke.

         On February 27, 1998, at an initial closing under the LLC Agreement,
Apollo made a $11 million loan (the "Loan") to Western Realty. The Loan, which
bears interest at the rate of 15% per annum and is due September 30, 1998, is 
collateralized by a pledge of the Company's shares of BML. Upon completion of 
the transfer of Ducat Place II and the satisfaction of other conditions under 
the LLC Agreement, the Loan and the accrued interest thereon will be converted 
intoa capital contribution by Apollo to Western Realty and the BML pledge 
released.

         Western Realty will seek to make additional real estate and other
investments in Russia. The Company and Apollo have agreed to invest, through
Western Realty or another entity, up to $25 million in the aggregate for the
potential development of a real estate project in Moscow. In addition, Western
Realty has agreed to acquire for $20 million a 30% profits interest in a company
organized by Brooke (Overseas) which will, among other things, acquire an
interest in an industrial site and manufacturing facility being constructed on
the outskirts of Moscow by a subsidiary of Brooke (Overseas). See Item 2,
"Property."

         The foregoing summary reflects all material terms and is qualified
in its entirety by reference to the LLC Agreement, a copy of which is
incorporated by reference as an exhibit to this report.

NEW VALLEY REALTY DIVISION

         On January 10 and January 11, 1996, the Company acquired four
commercial office buildings (the "Office Buildings") and eight shopping centers
(the "Shopping Centers"), respectively, for an aggregate purchase price of
$183.9 million, consisting of $23.9 million in cash and $160 million in
non-recourse mortgage financing provided by the sellers. The Office Buildings
and Shopping Centers are being operated through the Company's New Valley Realty
division.

         The Office Buildings consist of two adjacent commercial office
buildings in Troy, Michigan and two adjacent commercial office buildings in
Bernards Township, New Jersey. The Company acquired the Office 




                                       3


<PAGE>   6
Buildings in Michigan from Bellemead of Michigan, Inc. ("Bellemead Michigan")
and the Office Buildings in New Jersey from Jared Associates, L.P. (each, a
"Seller"), for an aggregate purchase price of $111.4 million. Each Seller is an
affiliate of Bellemead Development Corporation, which was indirectly
wholly-owned by The Chubb Corporation. The purchase price was paid for the
Office Buildings as follows: (i) $23.5 million for the 700 Tower Drive property,
located in Troy, Michigan; (ii) $28.1 million for the 800 Tower Drive property,
located in Troy, Michigan; (iii) $48.3 million for the Westgate I property,
located in Bernards Township, New Jersey; and (iv) $11.4 million for the
Westgate II property, located in Bernards Township, New Jersey. The two Michigan
buildings were constructed in 1987 and the two New Jersey buildings were
constructed in 1991. The gross square footage of the Office Buildings ranges
from approximately 50,300 square feet to approximately 244,000 square feet.

         The Company acquired a fee simple interest in each Office Building
(subject to certain rights of existing tenants), together with a fee simple
interest in the land underlying three of the Office Buildings and a 98-year
ground lease (the "Ground Lease") underlying one of the Office Buildings. Under
the Ground Lease, Bellemead Michigan, as lessor, is entitled to receive rental
payments of a fixed monthly amount and a specified portion of the income
received from the 700 Tower Drive property. Space in the Office Buildings is
leased to commercial tenants and, as of March 20, 1998, the Office Buildings
were fully occupied.

         Concurrently with the acquisition of the Office Buildings, the Company
engaged a property-management affiliate of the Sellers that had previously
managed the Office Buildings to act as the managing agent and leasing agent for
the Office Buildings. The agreement for the New Jersey Office Buildings has a
fifteen-year term and the agreement for the Michigan Office Buildings expires
June 30, 1998, but the agreements may be terminated by either party on 60 days'
notice without cause or economic penalty. Effective November 1997, the
agreements were assigned to Gale & Wentworth, LLC, a national real estate
company.

         On January 11, 1996, the Company acquired the Shopping Centers from
various limited partnerships (AP Century I., L.P., AP Century II, L.P., AP
Century III, L.P., AP Century IV, L.P., AP Century V, L.P., AP Century VI, L.P.,
AP Century VIII, L.P., and AP Century IX, L.P.) (each, a "Partnership") for an
aggregate purchase price of $72.5 million. Each Partnership is an affiliate of
Apollo. The Shopping Centers are located in Marathon and Royal Palm Beach,
Florida; Lincoln, Nebraska; Santa Fe, New Mexico; Milwaukee, Oregon; Richland
and Marysville, Washington; and Charleston, West Virginia. The Company acquired
a fee simple interest in each Shopping Center and the underlying land for each
property. Space in the Shopping Center is leased to a variety of commercial
tenants and, as of March 20, 1998, the aggregate occupancy of the Shopping
Centers was approximately 92%. The Shopping Centers were constructed at various
times during the period 1963-1988. The gross square footage of the Shopping
Centers ranges from approximately 108,500 square feet to approximately 222,500
square feet.

         The purchase price paid for the Shopping Centers was as follows: (i)
$3.9 million for the Marathon Shopping Center property, located in Marathon,
Florida; (ii) $9.8 million for the Village Royale Plaza Shopping Center
property, located in Royal Palm Beach, Florida; (iii) $6.0 million for the
University Place property, located in Lincoln, Nebraska; (iv) $9.6 million for
the Coronado Shopping Center property, located in Santa Fe, New Mexico; (v) $7.3
million for the Holly Farm Shopping Center property, located in Milwaukee,
Oregon; (vi) $10.6 million for the Washington Plaza property, located in
Richland, Washington; (vii) $12.4 million for the Marysville Towne Center
property, located in Marysville, Washington; and (viii) $12.9 million for the
Kanawha Mall property, located in Charleston, West Virginia (the properties
described in clauses (i), (ii), (v), (vii) and (viii) are subject to an
underlying mortgage in favor of a single lender and are referred to collectively
as the "Properties").

         Concurrently with the acquisition of the Shopping Centers, the Company
engaged a property-management firm, whose principals were the former minority
partners in the Partnerships, that had previously operated the Shopping Centers
to act as the managing agent and leasing agent for the Shopping Centers.
Effective December 31, 1996, such firm's engagement was terminated, and Kravco
Company was engaged as managing agent and leasing agent for the Kanawha Mall and
Insignia Commercial Group, Inc. as managing agent and leasing agent for the
remaining Shopping Centers.

                                       4


<PAGE>   7
         The acquisition of the Office Buildings was effected pursuant to a
purchase agreement dated January 10, 1996. The acquisition of the Shopping
Centers was effected pursuant to a purchase agreement dated January 11, 1996.
For information concerning other business relationships with affiliates of
Apollo, see "BrookeMil Ltd." The foregoing summary reflects all material terms
and is qualified in its entirety by reference to the purchase agreements,
copies of which are incorporated by reference as exhibits to this report.

         On November 10, 1997, the Company sold its Marathon, Florida Shopping
Center for $5.4 million and recognized a gain of $1.2 million on the sale.

OTHER ACQUISITIONS AND INVESTMENTS

         THINKING MACHINES CORPORATION. On January 11, 1996, Ladenburg Thalmann
Capital Corp. ("Ladenburg Capital"), the merchant banking subsidiary of
Ladenburg Group, in connection with the First Amended Joint Plan of
Reorganization (the "TMC Plan") of Thinking Machines Corporation ("Thinking
Machines") made a $10.6 million convertible bridge loan (the "Loan") to TMCA
Acquisition Corp. ("TMCA"). TMCA is an entity formed to invest the Loan proceeds
(net of certain expenses) in Thinking Machines, currently a developer and
marketer of data mining and knowledge discovery software and, through April
1997, of parallel software for high-end and networked computer systems.

         On February 8, 1996, the date of confirmation of the TMC Plan, Thinking
Machines emerged from bankruptcy and merged with TMCA pursuant to the TMC Plan.
As a result of this merger, the Loan was converted into a controlling interest
in a partnership which held approximately 61% of the outstanding common stock of
Thinking Machines. Thinking Machines used the Loan proceeds to help fund its
advanced product development and marketing. In December 1997, the Company
acquired for $3.15 million additional shares in Thinking Machines pursuant to a
rights offering by Thinking Machines to its existing shareholders which
increased the Company's ownership to approximately 73% of the outstanding
Thinking Machines shares.

         Thinking Machine designs, develops, markets and supports software
offering prediction-based management solutions under the name LoyaltyStream(TM)
for businesses such as financial services and telecommunications providers to
help reduce customer attrition, control costs, more effectively cross-sell or
bundle products or services and manage risks. Incorporated in LoyaltyStream is
Darwin(R), a data mining software tool set with which a customer can analyze
vast amounts of its pre-existing data as well as external demographics data to
predict behavior or outcomes, and then send this information through systems
integration to those divisions of the customer which can use it to more
effectively anticipate and solve business problems. To date, no material
revenues have been recognized by Thinking Machines with respect to the sale or
licensing of such software and services.

         During the fourth quarter of 1996, Thinking Machines announced its 
intention to dispose of its parallel processing computer sales and service
business. As a result, Thinking Machines wrote-down certain assets, principally
inventory, related to these operations to their net realizable value by $6.1
million. Thinking Machines sold its parallel processing software business on
November 19, 1996 for $4.3 million and sold its remaining parallel processing
service business in April 1997 for $2.4 million in cash and a percentage of
certain future operating profits. During 1997, Thinking Machines received
profit participation payments of $1.2 million.

         PC411. At December 31, 1997, the Company owned 50.1% of the outstanding
shares of PC411, Inc. ("PC411"), a development stage company which completed an
initial public offering with net proceeds of $5.9 million in May 1997, PC411,
which provides on-line electronic directory assistance to personal computer
users, is currently offering a limited version of the PC411 service over the
Internet. 

         MISCELLANEOUS INVESTMENTS. As of December 31, 1997, long-term
investments consisted primarily of investments in limited partnerships of $27.2
million. The Company determined that an other than temporary impairment in the
value of its investment in a joint venture had occurred and wrote-down this
investment to zero in 1997 with a charge to operations of $3.8 million. For
further information concerning these and other investments, see Note 8
(Long-Term Investments) to the Consolidated Financial Statements.

                                       5

<PAGE>   8

         The Company may acquire additional operating businesses through merger,
purchase of assets, stock acquisition or other means, or seek to acquire control
of operating companies through one of such means. There can be no assurance that
the Company will be successful in targeting or consummating any such
acquisitions.

DISCONTINUED OPERATIONS

         Pursuant to the Joint Plan and in accordance with the Purchase
Agreement dated as of October 20, 1994 (the "FFMC Agreement") between the
Company and First Financial Management Corporation ("FFMC"), (i) on November 15,
1994, the Company sold the assets and operations of its core business of
providing domestic and international money transfer services, bill payment
services, telephone cards, money orders and bank card services (collectively,
the "Money Transfer Business"), including the capital stock of its subsidiary,
Western Union Financial Services, Inc. ("FSI") and certain related assets, to
FFMC and (ii) on January 13, 1995, it sold to FFMC all of the trademarks and
tradenames used in the Money Transfer Business and constituting the Western
Union name and trademark. The aggregate purchase price was approximately $1,193
million, and included $893 million in cash and $300 million representing the
assumption by FFMC of substantially all of the Company's obligations under the
Western Union Pension Plan. The Company recognized a gain on this sale of
approximately $1,056 million in 1994.

         In May 1996, the Company reached an agreement with FFMC whereby FFMC
released the balance held in escrow ($28.7 million) pursuant to the FFMC
Agreement. In addition, the FFMC Agreement required the Company to pay FFMC $7
million in connection with the termination of the various service agreements the
Company had with FFMC. The Company recognized a gain on the termination of these
service agreements of approximately $1.3 million, representing the excess of the
amounts previously accrued under these agreements.

         Through October 1, 1995, the Company was engaged in the messaging
services business, including Mailgram(R), Telegram and Cablegram (the "Messaging
Services Business"), through its wholly-owned subsidiary, Western Union Data
Services Company, Inc. ("DSI"). On October 31, 1995, the Company completed the
sale of substantially all of the assets (exclusive of certain contracts) and
conveyance of substantially all of the liabilities of DSI to FFMC for $20
million, subject to certain adjustments. This transaction was effective as of
October 1, 1995. The Company recognized a gain on this sale of approximately $13
million during the fourth quarter of 1995.

         As a result of the foregoing dispositions of the Money Transfer
Business and the Messaging Services Business to FFMC, such operations have been
treated as discontinued operations in the accompanying Consolidated Financial
Statements. See Note 4 (Discontinued Operations) to the Consolidated Financial
Statements.

BANKRUPTCY REORGANIZATION

         On November 15, 1991, an involuntary petition under Chapter 11 of Title
11 of the United States Code (the "Bankruptcy Code") was commenced against the
Company in the United States Bankruptcy Court for the District of New Jersey,
Newark Division (the "Bankruptcy Court"). On March 31, 1993, the Company
consented to the entry of an order for relief under the Bankruptcy Code.

         On November 1, 1994, the Bankruptcy Court entered an order confirming
the Joint Plan. In addition to providing for the sale of assets to FFMC, the
Joint Plan provided for, among other things, (i) the satisfaction of 



                                       6



<PAGE>   9

allowed claims in full, in cash, including settlement of all issues relating to
post-petition interest, (ii) the discharge (unless otherwise specifically
provided therein) of all pending lawsuits, pre-petition indebtedness (other than
disputed claims), accrued interest and post-petition interest and (iii) the
reinstatement of all of the Company's $15.00 Class A Increasing Rate Cumulative
Senior Preferred Shares ($100 Liquidation Value), $.01 par value per share (the
"Class A Senior Preferred Shares"), all of the Company's $3.00 Class B
Cumulative Convertible Preferred Shares ($25 Liquidation Value), $.10 par value
per share (the "Class B Preferred Shares"), and all of the Company's Common
Shares, and all other equity security interests of the Company. The Joint Plan
required the Company to pay a $50 per share cash dividend to the holders of the
Class A Senior Preferred Shares and to make a tender offer to purchase up to
150,000 Class A Senior Preferred Shares, at a price of $80 per share. The
foregoing summary of the material features of the Joint Plan is qualified in its
entirety by reference to the Joint Plan, a copy of which is incorporated by
reference as an exhibit to this report.

         The Joint Plan also places restrictions on and requires approvals for
certain transactions with Brooke and its affiliates to which the Company or a
subsidiary of, or entity controlled by, the Company may be a party, including
the requirements, subject to certain exceptions for transactions involving less
than $1 million in a year or pro rata distributions on the Company's capital
stock, of approval by not less than two-thirds of the entire Board, including at
least one of the directors elected by the holders of the Company's preferred
shares, and receipt of a fairness opinion from an investment banking firm. In
addition, the Joint Plan requires that, whenever the Company's Certificate of
Incorporation provides for the vote of the holders of the Class A Senior
Preferred Shares acting as a single class, such vote must, in addition to
satisfying all other applicable requirements, reflect the affirmative vote of
either (x) 80% of the outstanding shares of that class or (y) a simple majority
of all shares of that class voting on the issue exclusive of shares beneficially
owned by Brooke.

         On January 18, 1995, the effective date of the Joint Plan, the Company
paid approximately $550 million on account of allowed prepetition claims and
emerged from bankruptcy. At December 31, 1997, the Company's remaining accruals
totaled approximately $12.6 million for unsettled prepetition claims and
restructuring accruals. See Note 17 (Prepetition Claims under Chapter 11 and
Restructuring Accruals) to the Consolidated Financial Statements.

SIGNIFICANT SHAREHOLDERS

         At March 27, 1998, Brooke held in the aggregate through BGLS' direct
and indirect ownership of Class A Senior Preferred Shares, Class B Preferred
Shares and Common Shares of the Company, approximately 42% of the combined
voting power of the Company. See Item 12, "Security Ownership of Certain
Beneficial Owners and Management".

         Bennett S. LeBow, Chairman of the Board and Chief Executive Officer of
the Company, serves as Chairman of the Board, President and Chief Executive
Officer of Brooke and of BGLS, and is the controlling stockholder of Brooke.
Howard M. Lorber, a director, President and Chief Operating Officer of the
Company, serves as a consultant to Brooke and its subsidiaries and is a
stockholder of Brooke. Richard J. Lampen, a director and Executive Vice
President of the Company, serves as Executive Vice President of Brooke and BGLS.
Marc N. Bell, Vice President, Associate General Counsel and Secretary of the
Company, serves as Vice President, General Counsel and Secretary, of Brooke and
BGLS.

EMPLOYEE RELATIONS

         At December 31, 1997, the Company had approximately 438 full-time
employees of which approximately 382 were employed by Ladenburg. The Company
believes that relations with its employees are satisfactory.

ITEM 2.   PROPERTIES

         The Company's principal executive office is in Miami, Florida, where it
shares offices with Brooke and various of their subsidiaries. The Company has
entered into an expense sharing agreement for use of such office space.
Ladenburg's principal offices are located in New York. Ladenburg leases
approximately 74,000 square feet of office space pursuant to a lease that
expires on June 30, 2015.



                                       7

<PAGE>   10

         In January 1996, the Company acquired the Office Buildings and the
Shopping Centers. Two of the Office Buildings are located in Bernards Township,
New Jersey, and the other two are located in Troy, Michigan. The Shopping
Centers are located in Marathon and Royal Palm Beach, Florida; Lincoln,
Nebraska; Santa Fe, New Mexico; Milwaukee, Oregon; Richland and Marysville,
Washington; and Charleston, West Virginia. The Company acquired a fee simple
interest in each Office Building (subject to certain rights of existing
tenants), together with a fee simple interest in the land underlying three of
the Office Buildings and a 98-year ground lease underlying one of the Office
Buildings. The Office Buildings are subject to purchase money liens in favor of
the Sellers. The Company acquired a fee simple interest in each Shopping Center
and the underlying land for each property. The Shopping Centers are subject to
purchase money liens in favor of the Partnerships and the Richland, Washington
shopping center is also subject to a prior senior lien in favor of a lender to
the Partnership (the "Senior Mortgage"). The Office Buildings and Shopping
Centers are being operated through the Company's New Valley Realty division. On
November 10, 1997, the Company sold the Marathon, Florida shopping center. See
Item 1, "Business - New Valley Realty Division".

         In January 1997, the Company acquired 99.1% of the outstanding shares
of BML. BML had a 49 year land lease for the 2.2 acres of land in downtown
Moscow, Russia, where BML is developing the three-phase Ducat Place complex, and
owned the buildings comprising Ducat Place I and Ducat Place II. Ducat Place I,
the first phase of the project, is a 46,500 square foot building completed in
1993, which was sold by BML in April 1997 to a tenant. Ducat Place II, the
second phase of the project, is a 150,000 square foot office building completed
in 1997. Ducat Place II is subject to a mortgage in favor of SBS-Agro, a Russian
bank. The site of the proposed third phase of the project is currently used by
Liggett-Ducat Ltd., an affiliate of Brooke and BGLS, as the site for its tobacco
factory pursuant to a Use Agreement with BML, terminable by BML on 270 days'
prior notice. In addition, the Company has the right under the Purchase
Agreement to require Brooke (Overseas) and BGLS to repurchase this site for the
then appraised fair market value, but in no event less than $13.6 million,
during the period Liggett-Ducat Ltd. operates the factory on such site.
Liggett-Ducat Ltd., which is constructing a new factory on the outskirts of
Moscow which is currently scheduled to be operational by early 1999, will vacate
the site upon completion of the new factory. See Item 1, "Business-BrookeMil
Ltd."

         In February 1998, the Company and Apollo formed Western Realty which
will hold the real estate assets of BML and will make real estate and other
investments in Russia. Western Realty agreed to acquire for $20 million a 30%
profits interest in a company organized by Brooke (Overseas) which will, among
other things, acquire an interest in the new factory being constructed by
Liggett-Ducat Ltd. See Item 1, "Business - BrookeMil Ltd."

ITEM 3.   LEGAL PROCEEDINGS

         Reference is made to Notes 10 and 17 to the Consolidated Financial
Statements.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS; EXECUTIVE OFFICERS
        OF THE REGISTRANT

         During the last quarter of 1997, no matter was submitted to
shareholders for their vote or approval, through the solicitation of proxies or
otherwise.

EXECUTIVE OFFICERS OF THE REGISTRANT

         The table below, together with accompanying text, presents certain
information regarding all current executive officers of the Company as of March
20, 1998. There are no family relationships among the executive officers of the
Company. Each of the executive officers of the Company serves until the election
and qualification of his successor or until his death, resignation or removal by
the Board of Directors of the Company.

                                       8
<PAGE>   11


<TABLE>
<CAPTION>

                                                                                                 YEAR INDIVIDUAL
                                                                                                    BECAME AN
NAME                               AGE                          POSITION                        EXECUTIVE OFFICER
----                               ---                          --------                        -----------------
<S>                                 <C>     <C>                                                      <C>
Bennett S. LeBow.............       60      Chairman of the Board and Chief Executive                1988
                                            Officer

Howard M. Lorber.............       49      President and Chief Operating Officer                    1994

Richard J. Lampen............       44      Executive Vice President and General Counsel             1995

J. Bryant Kirkland III.......       32      Vice President, Treasurer and Chief Financial            1998
                                            Officer

Marc N. Bell.................       37      Vice President, Associate General Counsel and            1998
                                            Secretary
</TABLE>

         BENNETT S. LEBOW has been Chairman of the Board of the Company since
January 1988 and Chief Executive Officer thereof since November 1994 and
currently holds various positions with the Company's subsidiaries. Since June
1990, Mr. LeBow has been the Chairman of the Board, President and Chief
Executive Officer of Brooke, a New York Stock Exchange-listed holding company,
and since October 1986 has been a director of Brooke. Since November 1990, he
has been Chairman of the Board, President and Chief Executive Officer of BGLS,
which directly or indirectly holds Brooke's equity interests in several private
and public companies.

         Mr. LeBow has been a director of Liggett Group Inc. ("Liggett"), a
manufacturer and seller of cigarettes, since June 1990 and was Chairman of the
Board from July 1990 to May 1993. He served as one of three interim Co-Chief
Executive Officers from March 1993 to May 1993. Liggett is a wholly-owned
subsidiary of BGLS.

         Mr. LeBow was also a director of MAI Systems Corporation, Brooke's
former indirect majority-owned subsidiary, from September 1984 to October 1995,
its Chairman of the Board from November 1990 to May 1995 and the Chief Executive
Officer from November 1990 to April 1993. In April 1993, MAI filed for
protection under Chapter 11 of Title 11 of the United States Code. In November
1993, the United States Bankruptcy Court for the District of Delaware confirmed
MAI's First Amended Joint Chapter 11 Plan of Reorganization, and it emerged from
bankruptcy reorganization proceedings. MAI is engaged in the development, sale
and service of a variety of computer and software products. From June 1990 until
August 1994, he was Chairman of the Board and/or a director of SkyBox
International Inc., Brooke's former indirect wholly-owned subsidiary. SkyBox was
a producer, marketer and distributor of collectible sports and trading cards and
related products.

         HOWARD M. LORBER has been President and Chief Operating Officer of the
Company since November 1994 and serves as a director of the Company. Mr. Lorber
has been Chairman of the Board and Chief Executive Officer of Hallman & Lorber
Assoc., Inc., consultants and actuaries to qualified pension and profit sharing
plans ("Hallman & Lorber"), and various of its affiliates since 1975. Mr. Lorber
has been a shareholder and registered representative of Aegis Capital Corp., a
broker-dealer and a member firm of the NASD, since 1984; Chairman of the Board
of Directors since 1987 and Chief Executive Officer since November 1993 of
Nathan's Famous, Inc., a chain of fast food restaurants; a consultant to Brooke
and its subsidiaries since January 1994; a director and member of the Audit
Committee of United Capital Corp., a real estate investment and diversified
manufacturing company, since May 1991; and a director and member of the Audit
Committee of Prime Hospitality Corp., a company doing business in the lodging
industry, since May 1994.

         RICHARD J. LAMPEN has been Executive Vice President and General Counsel
of the Company since October 1995 and serves as a director of the Company. Since
July 1996, Mr. Lampen has served as Executive Vice President of Brooke and BGLS.
Mr. Lampen has been a director of Thinking Machines since February 1996, PC411
since January 1997 and Spec's Music Inc. since October 1997. From May 1992
to September 1995, Mr. Lampen was a partner at Steel Hector & Davis, a law firm
located in Miami, Florida. From January 1991 to April 1992, Mr. Lampen was a
Managing Director at Salomon Brothers Inc, an investment bank, and was an
employee at Salomon Brothers Inc from 1986 to April 1992. Mr. Lampen has


                                       9




<PAGE>   12

served as a director of a number of companies, including U.S. Can Corporation
and The International Bank of Miami, N.A., as well as a court-appointed
independent director of Trump Plaza Funding, Inc.

         J. BRYANT KIRKLAND III has been Vice President, Treasurer and Chief
Financial Officer of the Company since January 1998, and since November 1994 has
served in various financial capacities with the Company and with Brooke and
BGLS. Prior to November 1994, Mr. Kirkland served as Director of Financial
Planning and Control of Liggett.

         MARC N. BELL has been the Vice President of the Company since February
1998 and has served as Associate General Counsel and Secretary of the Company
since November 1994. Since May 1994, Mr. Bell has served as General Counsel and
Secretary of Brooke and BGLS and since January 1998, as Vice President. Prior to
May 1994, Mr. Bell was with the law firm of Zuckerman, Spaeder, Taylor & Evans,
in Miami, Florida and from June 1991 to May 1993, with the law firm of Fischbein
* Badillo * Wagner * Harding in New York, New York.

                                     PART II

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

         The Common Shares (and the Preferred Shares) are quoted on the NASD OTC
Electronic Bulletin Board, an NASD sponsored and operated inter-dealer automated
quotation system, under the symbols NVYL, NVLYA and NVLYB.

         The following table sets forth, for the calendar quarters indicated,
the range of per share prices for the Common Shares. Prices reflect quotations
on the NASD OTC Electronic Bulletin Board and have been adjusted for the
one-for-twenty reverse stock split effective July 29, 1996. Such quotations
reflect inter-dealer prices in the over-the-counter market, without retail
markups, markdowns or commissions, and do not necessarily represent actual
transactions.

       YEAR                                                  HIGH          LOW
       ----                                                  ----          ---

       1997:
       Fourth Quarter...............................        $1.00         $ .47
       Third Quarter................................         1.22           .75
       Second Quarter...............................         1.56           .91
       First Quarter................................         1.94          1.38

       1996:
       Fourth Quarter...............................         4.25          1.25
       Third Quarter................................         5.50          2.13
       Second Quarter...............................         6.00          4.41
       First Quarter................................         7.80          5.41


HOLDERS

         At March 26, 1998, there were approximately 7,860 holders of
record of the Common Shares.

DIVIDENDS

         No dividends were paid on the Common Shares in 1997. The Company's
Restated Certificate of Incorporation provides that no dividends shall be paid
or declared (i) on the Class B Preferred Shares (other than a dividend payable
in junior stock) as long as there are any dividend arrearages on the Class A
Senior Preferred Shares, and (ii) on the Common Shares so long as there are
dividend arrearages on the Preferred Shares. The accrued and unpaid dividend
arrearage on the Class A Senior Preferred Shares at December 31, 1997 was
$258,638,000 or $152.41 per share. The accrued and unpaid dividend arrearage on
the Class B Preferred Shares at December 31, 1997 was $139,412,000 or $49.95 per
share. Within these constraints, the payment of future







                                    10
<PAGE>   13

dividends, if any, will be determined by the Board of Directors in light of the
Company's financial condition, cash flow, results of operations, legal dividend
capacity and other factors.

















                                       11
<PAGE>   14


ITEM 6.    SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>

                                                                     YEAR ENDED DECEMBER 31,
                                               ---------------------------------------------------------------------
                                                   1997          1996          1995          1994          1993
                                                 --------      --------      --------      --------       ------
                                                             (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S>                                              <C>           <C>           <C>           <C>          <C>      
OPERATING RESULTS:(a)
Total revenues ...........................       $114,568      $130,865      $ 67,730      $ 10,381     $   3,844
Total costs and expenses(b)...............        139,989       149,454        66,064        26,146        15,034
                                               ----------     ---------     ---------     ---------     ---------

(Loss) income from continuing operations
   before income taxes, minority interests,
   and extraordinary items................        (25,421)      (18,589)        1,666       (15,765)      (11,190)
Income tax provision (benefit)............            186           300           292          (500)         (225)
Minority interests in loss from continuing
   operations of consolidated 
   subsidiaries...........................          1,347         4,241            --            --            --
                                               ----------     ---------     ---------     ---------     ---------

(Loss) income from continuing operations
   before extraordinary items.............        (24,260)      (14,648)        1,374       (15,265)      (10,965)
Income from discontinued operations.......          3,687         7,158        16,873     1,135,706        38,368
                                               ----------     ---------     ---------     ---------     ---------

(Loss) income before extraordinary items..        (20,573)       (7,490)       18,247     1,120,441        27,403
Extraordinary items(c)....................             --            --            --      (110,500)        8,417
                                               ----------     ---------     ---------     ---------     ---------

Net (loss) income.........................        (20,573)       (7,490)       18,247     1,009,941        35,820

Dividend requirements on preferred shares(d)      (68,475)      (61,949)      (72,303)      (80,037)      (68,706)
Excess of carrying value of redeemable
   preferred shares over cost of shares
   purchased..............................             --         4,279        40,342            --            --
                                               ----------     ---------     ---------     ---------     ---------

Net (loss) income applicable to
   Common Shares..........................      $ (89,048)    $ (65,160)    $ (13,714)    $ 929,904     $ (32,886)
                                               ==========     =========     =========     =========     =========

Per Common and equivalent share:

Basic:
   Loss from continuing operations
     before extraordinary items...........         $(9.68)       $(7.55)       $(3.20)     $ (10.12)       $(8.49)
   Discontinued operations................            .38           .75          1.77        120.63          4.09
   Extraordinary items....................             --            --            --        (11.74)          .90
   Net (loss) income......................          (9.30)        (6.80)        (1.43)        98.77         (3.50)

Diluted:
   Loss from continuing operations
     before extraordinary items...........          (9.68)        (7.55)        (3.20)        (9.00)        (8.49)
   Discontinued operations................            .38           .75          1.77        107.36          4.09
   Extraordinary items....................             --            --            --        (10.45)          .90
   Net (loss) income......................          (9.30)        (6.80)        (1.43)        87.91         (3.50)

Dividends declared(d).....................             --            --            --            --            --

BALANCE SHEET DATA:
Total assets..............................       $441,391      $406,540      $385,822    $1,069,891      $269,483
Long-term obligations.....................        185,024       170,223        11,967        36,177        19,318
Prepetition claims(e).....................         12,611        15,526        33,392       619,833       791,893
Redeemable preferred shares(f)............        258,638       210,571       226,396       317,798       329,233
Shareholders' equity (deficiency).........       (130,399)      (72,364)      (30,461)      (38,444)   (1,020,656)
Working capital (deficiency)..............         (9,486)       85,610       155,565       284,849        64,695
</TABLE>

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





                                       12

<PAGE>   15

(a)   The operating results for 1993 were reclassified to reflect the
      discontinued operations of FSI and DSI. See Note 4 to the Consolidated
      Financial Statements.

(b)   Includes reorganization (benefit) expense of $(9,706), $(2,044),
      $22,734 and $9,035 in 1996, 1995, 1994 and 1993, respectively.

(c)   Represents extraordinary loss on the extinguishment of debt in 1994 and
      the extraordinary gain on the early termination of a capital lease in
      1993.

(d)   The 1997, 1996, 1995, 1994 and 1993 dividend requirements on preferred
      shares amounts include $692, $417, $521, $4,847 and $3,999, respectively,
      accrued on the redeemable Class A Senior Preferred Shares to reflect the
      effective dividend yield over the life of such securities. All preferred
      dividends, whether or not declared, are reflected as a deduction in
      arriving at income (loss) applicable to Common Shares. No dividends on
      Preferred Shares were declared in 1997 and 1993. Dividends of $40 per
      share in 1996 and $50 per share in both 1995 and 1994 were declared on the
      redeemable Class A Senior Preferred Shares.

(e)   Represents prepetition claims against the Company in its bankruptcy case.
      See Note 17 to the Consolidated Financial Statements.

(f)   Includes cumulative preferred dividends on the redeemable Class A Senior
      Preferred Shares of $163,302, $117,117, $121,893, $176,761 and $193,042 at
      December 31, 1997, 1996, 1995, 1994 and 1993, respectively. See Note 13 to
      the Consolidated Financial Statements.

(g)   All per share data have been restated to reflect the one-for-twenty
      reverse stock split completed on July 29, 1996.

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

                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

INTRODUCTION

         The following discussion provides an assessment of the results of
operations, capital resources and liquidity of the Company and its consolidated
subsidiaries and should be read in conjunction with the Consolidated Financial
Statements and Notes thereto included elsewhere in this report. The operating
results of the periods presented were not significantly affected by inflation.

         On November 1, 1994, the Bankruptcy Court confirmed the Joint Plan and,
on January 18, 1995, the Company emerged from bankruptcy. The Joint Plan
provided for, among other things, the sale of the Company's Money Transfer
Business to FFMC, the payment of all allowed claims (including post-petition
interest of $178,000), a $50 per share dividend to holders of Class A Senior
Preferred Shares and a tender offer by the Company to purchase up to 150,000
Class A Senior Preferred Shares, at a price of $80 per share. In addition, on
October 31, 1995, the Company completed the sale of the Messaging Services
Business to FFMC for $20,000, subject to certain adjustments. As a result, the
results of operations of the Money Transfer Business and the Messaging Services
Business are presented as discontinued operations. These discontinued
operations, as more fully described below, generated virtually all of the
previously reported revenues of the Company prior to 1995. See Item 1, "Business
- Bankruptcy Reorganization" and "- Discontinued Operations."

RECENT DEVELOPMENTS

         BML PURCHASE. On January 31, 1997, the Company entered into the
Purchase Agreement with Brooke (Overseas), pursuant to which the Company
acquired the BML Shares, representing 99.1% of the common stock of BML from
Brooke (Overseas), a wholly-owned subsidiary of BGLS. The Company paid to Brooke
(Overseas) a purchase price of $55,000 for the BML Shares, consisting of $21,500
in cash and the $33,500 9% Note of the 






                                       13



<PAGE>   16

Company. The Note, which was collateralized by the BML Shares, was paid during
1997. The source of funds used by the Company for the acquisition, including the
payment of the Note, was general working capital including cash and cash
equivalents and proceeds from the sale of investment securities available for
sale.

         BML, a real estate development company in Russia, is developing Ducat
Place, a three-phase complex on 2.2 acres of land in downtown Moscow. In
connection with the Purchase Agreement, certain specified liabilities of BML
aggregating approximately $40,000 remained as liabilities of BML after the
purchase of the Shares by the Company. These liabilities included the $20,400
Construction Loan owed to Vneshtorgbank. In addition, the liabilities of BML at
the time of purchase included approximately $13,800 of rents and related
payments prepaid by tenants in Ducat Place II for periods generally ranging from
15 to 18 months. See Item 1. "Business - BrookeMil Ltd.".

         In August 1997, BML refinanced all amounts due under the Construction
Loan with borrowings under a new credit facility with the Russian bank SBS-Agro.
The new credit facility bears interest at 16% per year, matures no later than
August 2002, with principal payments commencing after the first year, and is
collateralized by a mortgage on Ducat Place II and guaranteed by the Company. At
December 31, 1997, borrowings under the new credit agreement totaled $20,078.

         WESTERN REALTY. In February 1998, the Company and Apollo organized
Western Realty to make real estate and other investments in Russia. In
connection with the formation of Western Realty, the Company agreed, among other
things, to contribute the real estate assets of BML, including Ducat Place II
and the site for Ducat Place III, to Western Realty and Apollo agreed to
contribute up to $58,000. The Company will account for its non-controlling
interest in Western Realty on the equity method. See Note 22 (Subsequent Events)
to the Consolidated Financial Statements. See Item 1. "Business - BrookeMil
Ltd."

         Western Realty will seek to make additional real estate and other
investments in Russia. The Company and Apollo have agreed to invest, through
Western Realty or another entity, up to $25,000 in the aggregate for the
potential development of a real estate project in Moscow. In addition, Western
Realty has agreed to acquire for $20,000 a 30% profits interest in a company
organized by Brooke (Overseas) which will, among other things, acquire an
interest in an industrial site and manufacturing facility being constructed on
the outskirts of Moscow by a subsidiary of Brooke (Overseas). See Item 2,
"Property."

         THE COMPANY'S INVESTMENT IN RJR NABISCO. At December 31, 1997, the
Company held 612,650 shares of common stock of RJR Nabisco Holdings Corp. ("RJR
Nabisco") with a market value of $22,898 (cost of $18,780). The Company expensed
$100 in 1997, $11,724 in 1996 and $3,879 in 1995 relating to the RJR Nabisco
investment.

         In June 1996, various agreements between High River Limited Partnership
("High River"), the Company and Brooke were terminated by mutual consent.
Pursuant to these agreements the parties had agreed to take certain actions
during late 1995 and throughout 1996 designed to cause RJR Nabisco to effectuate
a spinoff of its food business, Nabisco Holdings Corp. The terminations of the
High River agreements left in effect for one year certain provisions concerning
payments to be made to High River in the event the Company achieved a profit
(after deducting certain expenses) on the sale of the shares of RJR Nabisco
common stock which were held by it or they were valued at the end of such year
at higher than their purchase price or in the event Brooke or its affiliates
engaged in certain transactions with RJR Nabisco. Based on the market price of
RJR Nabisco common stock, no amounts were payable by the Company under these
agreements.

         Pursuant to a December 27, 1995 agreement between the Company and
Brooke whereby the Company agreed to reimburse Brooke and its subsidiaries for
certain reasonable out-of-pocket expenses in connection with RJR Nabisco, the
Company paid Brooke and its subsidiaries a total of $17 and $2,370 in 1997 and
1996, respectively.

         On February 29, 1996, the Company entered into a total return equity
swap transaction (the "Swap") with an unaffiliated company (the "Counterparty")
relating to 1,000,000 shares of RJR Nabisco common stock (reduced to 750,000
shares of RJR Nabisco common stock as of August 13, 1996). The Company entered
into the Swap in order to be able to participate in any increase or decrease in
the value of the RJR Nabisco common stock during the 





                                       14



<PAGE>   17

term of the Swap. The transaction was for a period of up to six months, unless
extended by the parties, subject to earlier termination at the election of the
Company, and provided for the Company to make a payment to the Counterparty of
$1,537 upon commencement of the Swap. At the termination of the transaction, if
the price of the RJR Nabisco common stock during a specified period prior to
such date (the "Final Price") exceeded $34.42, the price of the RJR Nabisco
common stock during a specified period following the commencement of the Swap
(the "Initial Price"), the Counterparty was required to pay the Company an
amount in cash equal to the amount of such appreciation with respect to the
shares of RJR Nabisco common stock subject to the Swap plus the value of any
dividends with a record date occurring during the Swap period. If the Final
Price was less than the Initial Price, then the Company was required to pay the
Counterparty at the termination of the transaction an amount in cash equal to
the amount of such decline with respect to the shares of RJR Nabisco common
stock subject to the Swap, offset by the value of any dividends, provided that,
with respect to approximately 225,000 shares of RJR Nabisco common stock, the
Company was not required to pay any amount in excess of an approximate 25%
decline in the value of the shares. The potential obligations of the
Counterparty under the Swap were guaranteed by the Counterparty's parent, a
large foreign bank, and the Company pledged certain collateral in respect of its
potential obligations under the Swap and agreed to pledge additional collateral
under certain conditions. The Company marked its obligation with respect to the
Swap to fair value with unrealized gains or losses included in income. During
the third quarter of 1996, the Swap was terminated in connection with the
Company's reduction of its holdings of RJR Nabisco common stock, and the Company
recognized a loss on the Swap of $7,305 for the year ended December 31, 1996.

         THINKING MACHINES. On January 11, 1996, Ladenburg Capital, in
connection with the TMC Plan, made the Loan (a $10,600 convertible bridge loan)
to TMCA, an entity formed to invest the Loan proceeds (net of certain expenses)
in Thinking Machines. On February 8, 1996, the date of confirmation of the TMC
Plan, Thinking Machines emerged from bankruptcy and merged with TMCA, pursuant
to the TMC Plan. As a result of this merger, the Loan was converted into a
controlling interest in a partnership which held approximately 61% of the
outstanding common stock of Thinking Machines. Thinking Machines used the Loan
proceeds to help fund its advanced product development and marketing. In
December 1997, the Company acquired for $3,150 additional shares in Thinking
Machines pursuant to a rights offering by Thinking Machines to its existing
shareholders which increased the Company's ownership to approximately 73% of the
outstanding Thinking Machines shares. See Item 1, "Business - Other
Acquisitions and Investments".

         NEW VALLEY REALTY DIVISION. On January 11, 1996, the Company completed
the acquisition of four Office Buildings and eight Shopping Centers. The
aggregate purchase price of $183,900 consisted of $23,900 in cash and $160,000
in mortgage financing. These real estate properties are being operated through
the Company's New Valley Realty division. See Item 1, "Business - New Valley
Realty Division".

         CLASS A SENIOR PREFERRED SHARES. During the first quarter of 1996, the
Company repurchased 72,104 Class A Senior Preferred Shares for an aggregate
consideration of $10,530. The Company declared and paid cash dividends on the
Class A Senior Preferred Shares of $40 per share in 1996.

         REINCORPORATION. On July 29, 1996, the Company completed its
reincorporation from the State of New York to the State of Delaware and effected
a one-for-twenty reverse stock split of the Company's Common Shares. In
connection with the reverse stock split, all per share data have been restated
to retroactively reflect the reverse stock split and a total of $1,820 was
reclassified from the Company's Common Shares account to the Company's
additional paid-in capital account.

         NEW ACCOUNTING PRONOUNCEMENTS. In February 1997, the Financial
Accounting Standards Board (the "FASB") issued Statement of Financial Accounting
Standards ("SFAS") No. 128, "Earnings Per Share". SFAS 128 specifies new
standards designed to improve the earnings per share (EPS) information provided
in financial statements by simplifying the existing computational guidelines,
revising the disclosure requirements, and increasing the comparability of EPS
data on an international basis. Prior years' EPS have been restated to conform
with standards established by SFAS 128.

         In June 1997, the FASB released SFAS No. 130, "Reporting Comprehensive
Income). SFAS No. 130 establishes standards for the reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements and is effective for fiscal years beginning after December
15, 1997. The 


                                       15


<PAGE>   18

Company believes that adoption of SFAS No. 130 will not have a material impact
on the Company's financial statements.

         In October 1997, the AICPA issued SOP 97-2, "Software Revenue
Recognition". SOP 97-2 provides guidance in recognizing revenue on software
transactions when persuasive evidence of an arrangement exists, delivery has
occurred, the vendor's fee is fixed or determinable and collectibility is
probable. SOP 97-2 is effective for transactions entered into in fiscal years
beginning after December 15, 1997. The Company believes that adoption of SOP
97-2 will not have a material impact on the Company's financial statements.

         In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information," which establishes standards for the
way that public business enterprises report information about operating
segments. SFAS No. 131 is effective for financial statements for fiscal years
beginning after December 15, 1997. The Company is currently reviewing its
operating segment disclosures and will adopt SFAS No. 131 in the fourth quarter
of 1998.

         YEAR 2000 COSTS. The Company is in the process of completing a Year
2000 risk analysis to determine the Company's need to modify or replace a
significant portion of its software so that its computer systems will properly
utilize dates beyond December 31, 1999. Although such costs may be a factor in
describing changes in operating profit for one or more of the Company's business
segments in any given reporting period, the Company currently does not believe
that the anticipated costs of year 2000 systems conversions will have a material
impact on its future consolidated results of operations. However, due to the
interdependent nature of computer systems, the Company may be adversely impacted
in the year 2000 depending on whether it or entities not affiliated with the
Company have addressed this issue successfully.

RESULTS OF OPERATIONS

         THE YEAR 1997 COMPARED TO 1996

         Consolidated total revenues for 1997 were $114,568 as compared with
$130,865 for 1996. The decrease in revenues of $16,297 is primarily attributable
to the decrease in revenues of Ladenburg and Thinking Machines. The decrease in
Ladenburg's revenue was a result of a decline in net principal transactions of
$11,231 and a decline of $4,532 in other Ladenburg revenues. During 1997,
Ladenburg experienced a decline in syndicate and underwriting activity,
commission income, and net profits as compared to the prior year. The decrease
in Thinking Machines revenues was due to the commencement of the termination of
its parallel processing computer sales and service business in the fourth
quarter of 1996.

         For 1997 and 1996, the results of continuing operations before income
taxes and minority interests of the Company's primary operating units, which
include Ladenburg (broker-dealer), the Company's U.S. office buildings and
shopping centers and BML (real estate), and Thinking Machines (computer
software), were as follows:
<TABLE>
<CAPTION>

                                BROKER-                             COMPUTER         CORPORATE
                                 DEALER         REAL ESTATE         SOFTWARE         AND OTHER           TOTAL
                                 ------         -----------         --------         ---------           -----
<S>                              <C>               <C>            <C>                 <C>              <C>      
1997
----
Revenues..............           $56,197           $27,067         $  3,947            $27,357          $114,568
Expenses..............            66,155            34,894           12,103             26,837           139,989
                                 -------           -------         --------            -------          --------
Operating (loss) income 
   before taxes and minority
   interests..........           $(9,958)          $(7,827)        $ (8,156)           $   520          $(25,421)
                                 =======           =======         ========            =======          ======== 

1996
----
Revenues..............           $71,960           $23,559         $ 15,017            $20,329          $130,865
Expenses..............            72,305            24,304           30,099             22,746           149,454
                                 -------           -------         --------            -------          --------
Operating loss before
   taxes and minority
   interests..........           $  (345)          $  (745)        $(15,082)           $(2,417)         $(18,589)
                                 =======           =======         ========            =======          ======== 
</TABLE>

         Ladenburg's revenues for 1997 consisted of principal transactions of
$17,115, commissions of $16,727, corporate finance fees of $11,971, syndicate
and underwriting income of $3,269, and other income of $7,115. Expenses of
Ladenburg for 1997 consisted of employee compensation and benefits of $42,495
and other expenses of $23,660. For 1996, Ladenburg's revenues consisted of
principal transactions of $28,344, commissions of $17,755, corporate finance
fees of $10,230, syndicate and underwriting income of $7,104 and other income of




                                       16


<PAGE>   19

$8,527. Expenses of Ladenburg in 1996 consisted of employee compensation and
benefits of $48,613 and other expenses of $23,692.

         Revenues from the real estate operations in 1997 increased $3,508
primarily due to $3,490 in revenues of BML from February 1, 1997 (date of
acquisition). Expenses of the real estate operations increased $10,590 due
primarily to $11,448 in expenses of BML from the date of acquisition.

         Thinking Machines' revenues in 1997 resulted from parallel processing
computer sales and service of $3,386, software and maintenance revenue of $241,
service revenues of $109, interest income of $117 and other income of $94.
Thinking Machines' revenues in 1996 resulted from parallel processing computer
sales and service of $15,017. Operating expenses of Thinking Machines in 1997
consisted of cost of sales of $3,463 ($2,309 of which related to the parallel
processing computer sales and service division), selling, general and
administrative of $5,206 and research and development of $3,434. Operating
expenses of Thinking Machines in 1996 consisted of $21,239 of costs associated
with the parallel processing computer division, selling, general and
administrative of $5,984 and research and development of $2,876. In 1996,
Thinking Machines wrote down certain assets (principally inventory) associated
with its parallel processing computer sales and service division to their net
realizable value and recorded a charge of $6,200 for these reserves.

         For 1997, the Company's revenues of $27,357 related to corporate and
other activities consisted primarily of net gains on investments of $19,800 and
interest and dividends income of $3,252. The Company's revenues related to
corporate and other activities of $20,329 for 1996 consisted primarily of
$12,001 of interest and dividend income, gain on termination of various service
agreements with FFMC of $1,285, and net gain on investments of $2,528. During
1997, the principal component of net gain on investments consisted of $7,570 and
$11,392 from sales of RJR Nabisco and Milestone Scientific Inc. equity,
respectively. During 1996, the net gain on investments consisted of the gain on
the sale of the investment in a Brazilian airplane manufacturer of $4,285, the
liquidation of two limited partnerships for a gain of $4,201, and the net
realized gain on sales of investment securities held for sale of $1,347, net of
the loss on the RJR Nabisco equity swap of $7,305.

         Corporate and other expenses of $26,837 for 1997 consisted primarily of
a provision for loss on a long-term investment of $3,796, employee compensation
and benefits of $9,495 and interest expense of $1,640. Corporate and other
expenses for 1996 of $22,746 primarily consisted of expenses related to the RJR
Nabisco investment of $11,724, employee compensation and benefits of $7,262, and
interest expense of $4,116, net of $9,706 in reversals of restructuring
accruals. The $9,706 reversal of restructuring accruals in 1996 related
primarily to the settlement of certain lease obligations which were prepetition
claims. The amounts reversed were accrued in prior years upon the commencement
of purported claims against the Company in Bankruptcy Court. The Company's
accounting policy is to evaluate the remaining restructuring accruals on a
quarterly basis and adjust liabilities as claims are settled or dismissed by the
Bankruptcy Court. The Company did not reverse any restructuring accruals from
continuing operations in 1997; however, reversals of $3,687 of accruals related
to prepetition claims filed with respect to the Company's Money Transfer
Business were recorded as income from discontinued operations in 1997.

         Income tax expense for 1997 was $186 compared to $300 in 1996. Income
tax expense for 1997 and 1996 related to state income taxes at Ladenburg in 1997
and 1996 and $107 of Russian profits tax at BML in 1997.

         During the fourth quarter of 1996, the Company settled a receivable
claim originally began by Western Union Telegraph Company for a gain of $6,374
and reduced certain liabilities related to Western Union retirees by $784. The
Company recorded the gain on settlement and liability reduction as a gain on
disposal of discontinued operations of $7,158. During 1997, the Company recorded
a gain on disposal of discontinued operations of $3,687 related to reversals in
estimates of certain pre-petition claims under Chapter 11 and restructuring
which resulted from the Company's Money Transfer business.




                                       17
<PAGE>   20

         THE YEAR 1996 COMPARED TO 1995

         Consolidated total revenues for 1996 were $130,865 as compared with
$67,730 for 1995. The increase in revenues of $63,135 is primarily attributable
to the operations of Ladenburg for twelve months in 1996 versus seven months of
1995 which resulted in additional revenues of $31,542, the revenues of Thinking
Machines of $15,017 and the leasing revenues of $23,559 resulting from the
acquisition of the Office Buildings and Shopping Centers in January 1996.

         For 1996 and 1995, the results of continuing operations before income
taxes and minority interests of the Company's primary operating units, which
include Ladenburg (broker-dealer), the Company's U.S. office buildings and
shopping centers (real estate), and Thinking Machines (computer software), were
as follows:
















                                       18

<PAGE>   21

<TABLE>
<CAPTION>

                                                                            
                                BROKER-         REAL ESTATE        COMPUTER          CORPORATE
                                 DEALER          OPERATIONS        SOFTWARE           AND OTHER           TOTAL
                                 ------          ----------       -----------        ---------           -----
<S>                               <C>               <C>             <C>                 <C>              <C>    
1996
----
Revenues..............           $71,960           $23,559          $15,017            $20,329          $130,865
Expenses..............            72,305            24,304           30,099             22,746           128,209
                                 -------           -------          -------            -------          --------
Income (loss) from
   continuing operations         $  (345)          $  (745)         $(8,860)           $(6,305)         $(18,589)
                                 =======           =======          =======            =======          ======== 

1995
----
Revenues..............           $40,418                                               $27,312          $ 67,730
Expenses..............            38,943                                                27,121            66,064
                                  ------                                                ------            ------
Income (loss) from
   continuing operations         $ 1,475                                               $   191          $  1,666
                                 =======                                               =======          ========
</TABLE>

         Ladenburg's revenues for 1996 consisted of principal transactions of
$28,344, commissions of $17,755, corporate finance fees of $10,230, syndicate
and underwriting income of $7,104, and other income of $8,527. Expenses of
Ladenburg for 1996 consisted of employee compensation and benefits of $48,613
and other expenses of $23,692. For 1995, from the date of acquisition,
Ladenburg's revenues consisted of principal transactions of $18,237, commissions
of $9,888, corporate finance fees of $5,942, syndicate and underwriting income
of $1,683 and other income of $4,668. Expenses of Ladenburg for the same period
in 1995 consisted of employee compensation and benefits of $25,530 and other
expenses of $14,588.

         Revenues from the Office Buildings and Shopping Centers for 1996 were
$14,707 and $8,852, respectively. Expenses of the Office Buildings and Shopping
Centers include interest of $7,491 and $4,872, respectively, and depreciation of
$2,308 and $1,314, respectively.
         
         Thinking Machines' revenues in 1996 resulted from parallel processing
computer sales of $15,017. Operating expenses of Thinking Machines in 1996
consisted of $21,239 of costs associated with the parallel processing computer
division, selling, general and administrative of $5,984 and research and
development of $2,876. In 1996, Thinking Machines wrote down certain assets
(principally inventory) associated with its parallel processing computer sales
and service business to their net realizable value and recorded a charge of
$6,200 for these reserves.

         The Company's revenues related to corporate and other activities of
$20,329 for 1996 consisted primarily of $12,001 of interest and dividend income,
gain on termination of various service agreements with FFMC of $1,285, and net
gain on investments of $2,528. Corporate interest and dividend income decreased
$4,290 from 1995 due primarily to the reduction in interest bearing investment
securities in 1996. The net gain on investments consisted of the gain on the
sale of the investment securities in 1996. The net gain on investments consisted
of the gain on the sale of the investment in a Brazilian airplane manufacturer
of $4,285, the liquidation of two limited partnerships for a gain of $4,201, and
the net realized gain on sales of investment securities held for sale of $1,347,
net of the loss on the RJR Nabisco equity swap of $7,305.

         Corporate expenses for 1996 of $22,746 primarily consisted of expenses
related to the RJR Nabisco investment of $11,724, employee compensation and
benefits of $7,262, and interest expense of $4,116, net of $9,706 in reversals
of restructuring accruals. Corporate expenses for 1995 consisted primarily of
investment expenses of $6,279 and employee compensation and benefits of $5,464.
Also included in corporate expense is the reversal of restructuring accruals of
$9,706 in 1996 and $2,044 in 1995 resulting from the Company settling certain
claims at amounts below the accrued liability.

         Income tax expense for 1996 was $300 compared to $292 in 1995. Income
tax expense for 1996 related primarily to state income taxes at Ladenburg.
Income tax expense for 1995 represented the alternative minimum tax rate for
federal tax purposes in addition to a blended state income tax rate.




                                       19


<PAGE>   22

         During the fourth quarter of 1996, the Company settled a receivable
claim originally began by Western Union Telegraph Company for a gain of $6,374
and reduced certain liabilities related to Western Union retirees by $784. The
Company recorded the gain on settlement and liability reduction as a gain on
disposal of discontinued operations of $7,158.

LIQUIDITY AND CAPITAL RESOURCES

         The Company's working capital surplus decreased by $95,096 from $85,610
at December 31, 1996 to a deficit of $9,486 at December 31, 1997 primarily as a
result of the purchase of BML and net purchases of long-term investments of
$18,707 offset by the net sale of long-term investments of $2,807. As of
December 31, 1997, the Company was required under certain limited partnership
agreements to make additional investments for an aggregate of $5,740. The
Company did not have any material commitments for capital expenditures at
December 31, 1997.

         During 1996, the Company's cash flows were provided primarily through
the sale of its investments of $178,380 and the release of restricted assets of
$29,159. These funds were principally used to repay margin loan financing of
$75,119, to pay preferred dividends of $41,419, for purchase of and additions to
the Office Buildings and Shopping Centers for $24,496, and $22,699 to fund
operations.

         Of the $55,000 purchase price for the BML Shares acquired by the
Company on January 31, 1997 (see Item 1, "Business - BrookeMil Ltd."), the
Company paid $21,500 in cash at the closing, and executed the Note in the
principal amount of $33,500 in favor of Brooke (Overseas) for the balance of the
purchase price. The Note, which was collateralized by the BML Shares, was paid
during 1997. The source of funds used by the Company for the acquisition,
including the payment of the Note, was general working capital including cash
and cash equivalents and proceeds from the sale of investment securities
available for sale.

         In connection with the purchase of the BML Shares, certain specified
liabilities of BML aggregating approximately $40,000 remained as liabilities of
BML after the closing. These liabilities included the $20,400 Construction Loan
owed to Vneshtorgbank, a Russian bank, for the construction of Ducat Place II.
In addition, the liabilities of BML at the time of purchase included
approximately $13,800 of rents and related payments prepaid by tenants in Ducat
Place II for periods generally ranging from 15 to 18 months.

         In August 1997, BML refinanced all amounts due under the Construction
Loan with borrowings under a new credit facility with the Russian bank SBS-Agro.
The new credit facility bears interest at 16% per year, matures no later than
August 2002, with principal payments commencing after the first year, and is
collateralized by a mortgage on Ducat Place II and guaranteed by the Company. At
December 31, 1997, borrowings under the new credit agreement totaled $20,078.

         The Company expect that its available capital resources will be
sufficient to fund its currently anticipated cash requirements for 1998,
including the currently anticipated cash requirements of its operating
businesses, investments, commitments, and payments of principal and interest on
its outstanding indebtedness.

         Of the $111,400 aggregate purchase price for the Office Buildings
acquired by the Company on January 10, 1996 (see Item 1, "Business - New Valley
Realty Division"), the Company paid $11,400 in cash at the closing, and executed
four promissory notes in the aggregate principal amount of $100,000 (the "Office
Building Notes") in favor of the applicable Seller for the balance of the
purchase price. Each Office Building Note has a term of approximately 15 years
(other than the note for the 800 Tower Drive property, which has a term of
approximately 10 years), bears interest at the rate of 7.5% per annum, and is
collateralized by a first mortgage on 


                                       20



<PAGE>   23

the respective Office Building in favor of the applicable Seller, as well as by
an assignment of leases and rents. Principal is amortized to the extent of
approximately 7% (or, in the case of the 800 Tower Drive property, approximately
6%) during the term of the Office Building Notes and, with respect to the 800
Tower Drive property only, the Company must make additional prepayments of
principal to the Sellers on a quarterly basis to the extent of a specified
portion of tenants' payments for electricity and overtime heat, ventilation and
air conditioning. The Office Building Notes may be prepaid without penalty and
are non-recourse against the Company, except to a specified extent for
misappropriations of rents and certain other proceeds and failure to pay special
assessments and taxes on the mortgaged properties and except for material
misrepresentations by the Company in the purchase agreement pursuant to which it
acquired the Office Buildings.

         Of the $72,500 aggregate purchase price for the Shopping Centers
acquired by the Company on January 11, 1996 (see Item 1, "Business - New Valley
Realty Division"), the Company paid $12,500 in cash at the closing, and pursuant
to certain loan and security agreements (the "Loan and Security Agreements")
executed eight promissory notes in the aggregate principal amount of $60,000
(the "Shopping Center Notes") in favor of the applicable Partnership for the
balance of the purchase price. Each Shopping Center Note has a term of
approximately five years, and bears interest at the rate of 8% per annum for the
first two and one-half years and at the rate of 9% for the remainder of the
term. There is no amortization of principal except in connection with payments
made to obtain the release of mortgages from the property and to the extent net
operating income from the Shopping Centers is so available as provided in the
Loan and Security Agreements. On December 6, 1996, the Company sold a portion of
one of the Shopping Centers for $1,750 and on November 10, 1997, the Company
sold the Marathon Shopping Center for $5,400. At December 31, 1997, the
aggregate principal amount of the promissory notes was $54,801.

         Under agreements entered into after January 11, 1996, the closing date
of the Shopping Centers purchase, income from the Shopping Centers are paid to a
trustee bank. Under such agreements, certain payments, including regular
payments of principal and interest on existing senior mortgages (the "Senior
Mortgages") in favor of certain lenders to the Partnerships on the Richland,
Washington property and interest on the Shopping Center Notes, are to be made
before the Company receives income for such period from the Shopping Centers. In
addition, with respect to the Shopping Center Notes, if the net operating income
from the Shopping Centers is insufficient to cover the interest payments on the
Shopping Center Notes, the interest rate thereon is reduced to a rate per annum
not less than 6%, whereupon the interest otherwise payable will be deferred
until the earlier of the date on which sufficient net operating income is
available and the maturity date. The Company has also agreed to use any net
income from the Shopping Centers it receives in excess of a specified return on
its cash investment in the Shopping Centers to pay down principal on the
Shopping Center Notes.

         Each Shopping Center Note is collateralized by a purchase-money
mortgage (each, a "Purchase-Money Mortgage") and an assignment of leases and
rents, and the five Shopping Center Notes covering the Properties are also
secured by mortgages junior to the Purchase-Money Mortgages (the "Junior
Mortgages") and subordinated assignments of leases, rents and fixtures. With
respect to the Richland, Washington shopping center, the applicable
Purchase-Money Mortgage and Junior Mortgage (together with corresponding
assignments) "wraps around" and is junior to the Senior Mortgage, and is in
favor of the applicable Partnership. The five Shopping Center Notes covering the
Properties are cross-collateralized. The other three Shopping Center Notes may
also be cross-collateralized at the option of the applicable Partnerships,
provided certain conditions have been met. The Shopping Center Notes are
non-recourse against the Company, except for misappropriations of insurance and
certain other proceeds, failures to apply rent and other income to required
maintenance and taxes, environmental liabilities and certain other matters.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

         The Company and its representatives may from time to time make oral or
written "forward-looking statements" within the meaning of the Private
Securities Reform Act of 1995 (the "Reform Act"), including any statements that
may be contained in the foregoing "Management's Discussion and Analysis of
Financial Condition and Results of Operations", in this report and in other
filings with the Securities and Exchange Commission and in its reports to
shareholders, which represent the Company's expectations or beliefs with respect
to future events and financial performance. These forward-looking statements are
subject to certain risks and uncertainties and, in 



                                       21



<PAGE>   24

connection with the "safe-harbor" provisions of the Reform Act, the Company is
hereby identifying important factors that could cause actual results to differ
materially from those contained in any forward-looking statements made by or on
behalf of the Company.

         Each of the Company's operating businesses, Ladenburg, BML, New Valley
Realty and Thinking Machines, are subject to intense competition, changes in
consumer preferences, and local economic conditions. Ladenburg is further
subject to uncertainties endemic to the securities industry including, without
limitation, the volatility of domestic and international financial, bond and
stock markets, governmental regulation and litigation. BML's operations in
Russia are also subject to a high level of risk in light of Russia's substantial
political transformation from a centrally-controlled command economy under
communist rule to the early stages of a pluralist market-oriented democracy. In
connection therewith, Russia has experienced dramatic political, social and
economic reform, although there is no assurance that further reforms necessary
to complete such transformation will occur. The Russian economy remains
characterized by, among others, significant inflation, declining industrial
productions, rising unemployment and underemployment, and an unstable currency.
In addition to the foregoing, BML may be affected unfavorably by political or
diplomatic developments, regional tensions, currency repatriation restrictions,
foreign exchange fluctuations, a relatively untested judicial system, a still
evolving taxation system subject to constant changes which may be retroactive in
effect, and other developments in the law or regulations in Russia and, in
particular, the risks of expropriation, nationalization and confiscation of
assets and changes in legislation relating to foreign ownership. In addition,
the system of commercial laws, including the laws governing registration of
interests in real estate and the establishment and enforcement of security
interests, is not well developed and, in certain circumstances, inconsistent and
adds to the risk of investment in the real estate development business in
Russia. BML and New Valley Realty are additionally subject to the uncertainties
relating to the real estate business, including, without limitation, required
capital improvements to facilities, local real estate market conditions and
federal, state, city and municipal laws and regulations concerning, among
others, zoning and environmental matters. Thinking Machines is also subject to
uncertainties relating to, without limitation, the development and marketing of
computer products, including customer acceptance and required funding,
technological changes, capitalization, and the ability to utilize and exploit
its intellectual property and propriety software technology. Uncertainties
affecting the Company generally include, without limitation, the effect of
market conditions on the salability of the Company's investment securities, the
uncertainty of other potential acquisitions and investments by the Company, the
effects of governmental regulation on the Company's ability to target and/or
consummate any such acquisitions and the effects of limited management
experience in areas in which the Company may become involved.

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

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         Not Applicable.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         See the Consolidated Financial Statements and Notes thereto, together
with the report thereon of Coopers & Lybrand L.L.P. dated March 31, 1998,
beginning on page 37 of this report.

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

         None.





                                       22
<PAGE>   25
                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

         The following table sets forth certain information, as of April 15,
1998, with respect to each person who is a director of the Company. Each
director is a citizen of the United States of America. For information
concerning the executive officers of the Company, see Item 4. "Submission of
Matters to a Vote of Security-Holders; Executive Officers of the Registrant".

<TABLE>
<CAPTION>
                                                                                  DIRECTOR
         NAME AND ADDRESS            AGE          PRINCIPAL OCCUPATION              SINCE
         ----------------            ---          --------------------              -----

<S>                                  <C>     <C>                                <C> 
Bennett S. LeBow                     60      Chairman of the Board              December 1987
  New Valley Corporation                     and Chief Executive Officer
  100 S.E. Second Street                     of the Company
  Miami, FL  33131

Howard M. Lorber                     49      President and Chief Operating      January 1991
  New Valley Corporation                     Officer of the Company
  100 S.E. Second Street
  Miami, FL  33131

Richard J. Lampen                    44      Executive Vice President and       June 1996
  New Valley Corporation                     General Counsel of the
  100 S.E. Second Street                     Company
  Miami, FL  33131

Arnold I. Burns                      68      Partner, Proskauer Rose LLP        November 1994
  Proskauer Rose LLP
  1585 Broadway
  New York, NY  10036

Ronald J. Kramer                     39      Chairman and Chief Executive       November 1994
  Ladenburg, Thalmann Group Inc.             Officer of Ladenburg, Thalmann
  590 Madison Avenue                         Group Inc.
  New York, NY  10022

Henry C. Beinstein                   55      Executive Director,                November 1994
  Shulte Roth & Zabel LLP                    Schulte Roth & Zabel LLP
  900 Third Avenue
  New York, NY  10022

Barry W. Ridings                     46      Managing Director,                 November 1994
  BT Alex. Brown Incorporated                BT Alex. Brown Incorporated
  1290 Avenue of the Americas
  New York, NY 10104
</TABLE>

         The Board of Directors of the Company consists of the foregoing seven
directors, six of whom were appointed pursuant to the Joint Plan and
subsequently re-elected at the subsequent Annual Meetings of Shareholders.
Messrs. Beinstein and Ridings (together, the "Shareholder Designees) are deemed
by the Joint Plan to be directors elected pursuant to the Company's Certificate
of Incorporation by holders of the Class A Senior Preferred Shares, voting as a
class, and by the holders of the Class A Senior Preferred Shares and the Class B
Preferred Shares, voting together as a single class, in each 




                                       23
<PAGE>   26

case as a results of dividend arrearages thereon. Mr. Lampen was elected as a
director of the Company at the 1996 Annual Meeting.

BUSINESS EXPERIENCE OF DIRECTORS (OTHER THAN EXECUTIVE OFFICERS)

         ARNOLD I. BURNS has been a partner of Proskauer Rose LLP ("Proskauer"),
a New York-based law firm, since September 1988. Mr. Burns was an Associate
Attorney General at the United States Department of Justice in 1986 and Deputy
Attorney General from 1986 to 1988.

         RONALD J. KRAMER has been Chairman and Chief Executive Officer of
Ladenburg Thalmann Group Inc. ("Ladenburg Group") since June 1995 and Chairman
of the Board and Chief Executive Officer of Ladenburg Thalmann & Co. Inc.
("Ladenburg"), a broker-dealer and investment bank, since December 1995 and an
employee thereof for more than the past five years. Ladenburg Group and
Ladenburg are direct and indirect wholly-owned subsidiaries of the Company. Mr.
Kramer currently serves on the Boards of Directors of Griffon Corporation and
Grand Casinos, Inc.

         HENRY C. BEINSTEIN became the Executive Director of Schulte Roth &
Zabel LLP, a New York-based law firm, in August 1997. Prior thereto, Mr.
Beinstein had served as the Managing Director of Milbank, Tweed, Hadley & McCloy
("Milbank"), a New York-based law firm, commencing November 1995. Mr. Beinstein
was the Executive Director of Proskauer from April 1985 through October 1995.
Mr. Beinstein is a certified public accountant in the States of New York and New
Jersey and prior to joining Proskauer was a partner and National Director of
Finance and Administration at Coopers & Lybrand.

         BARRY W. RIDINGS has been a Managing Director of BT Alex. Brown
Incorporated, an investment banking firm, since March 1990. Mr. Ridings
currently serves on the Board of Directors of TransCor Waste Services, Inc.,
SubMicron Systems Corporation, Norex Industries, Inc., Noodle Kidoodle Inc.,
Search Financial Services Inc. and Telemundo Group, Inc.








                                       24
<PAGE>   27

ITEM 11. EXECUTIVE COMPENSATION

         The following table sets forth information concerning compensation
awarded to, earned by or paid during the past three years to those persons who
were, at December 31, 1997, the Company's Chief Executive Officer and the three
other executive officers whose cash compensation exceeded $100,000
(collectively, the "named executive officers").

                         SUMMARY COMPENSATION TABLE (1)

<TABLE>
<CAPTION>
                                                                           LONG-TERM
                                                                           COMPENSATION
                                                                           ------------
                                         ANNUAL COMPENSATION
                                                                                    SECURITIES
                                                                                      UNDER-
                                                                     RESTRICTED       LYING
             NAME                                                      STOCK         OPTIONS
    AND PRINCIPAL POSITION       YEAR     SALARY       BONUS          AWARD(S)         (#)
    ----------------------       ----     ------       -----          --------         ---
<S>                              <C>    <C>          <C>            <C>             <C>       
Bennett S. LeBow                 1997   $2,000,000         --               --           --
  Chairman and Chief Executive   1996    2,000,000         --               --           --
  Officer                        1995    1,894,823         --               --           --

Howard M. Lorber                 1997   $1,400,000   $976,544 (2)           --           --
  President and Chief            1996    1,250,000    300,000       $4,356,000(3)   427,000(4)
  Operating Officer              1995      956,376    500,000               --           --

Richard J. Lampen                1997   $  650,000         --               --           --
  Executive Vice President       1996      600,000   $100,000               --           --
  and General Counsel(5)         1995      150,000    100,000               --           --

Robert M. Lundgren(6)            1997   $  108,972         --               --           --
  Vice President, Chief          1996       90,000   $ 15,000          
  Financial Officer and
  Treasurer
</TABLE>

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

(1)      The aggregate value of perquisites and other personal benefits received
         by the named executive officers are not reflected because the amounts
         were below the reporting requirements established by the rules of the
         Securities and Exchange Commission (the "SEC").

(2)      Includes $476,544 paid to Mr. Lorber in connection with the Company's
         obligation to reimburse him for taxes relating to the vesting of the
         1996 restricted stock award. See "Employment Agreements".

(3)      Represents an award of 36,000 Class A Senior Preferred Shares valued
         based on the closing price on the date of issuance. Subject to earlier
         vesting upon a change of control (as defined), the shares vest in six
         equal annual installments commencing on July 1, 1997. The shares are
         identical with all other Class A Senior Preferred Shares issued and
         outstanding as of July 1, 1996, including undeclared dividends of
         $3,776,000 and declared dividends of $1,080,000. Dividends are payable
         on the shares provided that such payments will be deferred until the
         time of vesting. At December 31, 1997, the shares had a market value of
         $3,456,000 (without giving effect to any diminution in value
         attributable to the restrictions).

(4)      Represents options to purchase 330,000 Common Shares and 97,000 Class B
         Preferred Shares granted in 1996.

(5)      Mr. Lampen commenced employment with the Company in October 1995. In
         1997 and 1996, all of Mr. Lampen's salary and bonus were paid by the
         Company, and 25% (or $162,500 and $175,000 in 




                                       25
<PAGE>   28

         1997 and 1996, respectively) was subsequently reimbursed to the Company
         by Brooke. The table reflects 100% of Mr. Lampen's salary and bonus.

(6)      Mr. Lundgren resigned from the Company effective January 14, 1998.


         The following table sets forth certain information concerning
unexercised options held by the named executive officers as of December 31,
1997.

                    AGGREGATED FISCAL YEAR-END OPTION VALUES

<TABLE>
<CAPTION>
                                   NUMBER OF SECURITIES             VALUE OF UNEXERCISED
                                  UNDERLYING UNEXERCISED                IN-THE-MONEY
                               OPTIONS AT DECEMBER 31, 1997     OPTIONS AT DECEMBER 31, 1997
                               ----------------------------     ----------------------------
              NAME             EXERCISABLE    UNEXERCISABLE     EXERCISABLE    UNEXERCISABLE
              ----             -----------    -------------     -----------    -------------
<S>                            <C>            <C>               <C>            <C>     
Howard M. Lorber
  Class B Preferred Shares        16,166          80,834          $30,715*        $153,585*
  Common Shares                   55,000         275,000               --               --
</TABLE>

*        Calculated using the closing price of $3.75 per Class B Preferred Share
         on December 31, 1997 less the option exercise price.


COMPENSATION OF DIRECTORS

         In 1997, each non-employee director of the Company received an annual
fee of $35,000 for serving on the Board and a $1,000 fee for attendance at each
meeting of the Board or a committee thereof.

EMPLOYMENT AGREEMENTS

         Mr. LeBow is a party to an employment agreement with the Company dated
as of June 1, 1995, as amended effective as of January 1, 1996. The agreement
has an initial term of three years effective as of January 18, 1995 (the
"Effective Date"), with an automatic one year extension on each anniversary of
the Effective Date unless notice of non-extension is given by either party
within the sixty-day period prior to such anniversary date. As of January 1,
1998, Mr. LeBow's annual base salary was $2,000,000. Following termination of
his employment without cause (as defined therein), he would continue to receive
his base salary for a period of 36 months commencing with the next anniversary
of the Effective Date following the termination notice. Following termination of
his employment within two years of a change of control (as defined therein), he
is entitled to receive a lump sum payment equal to 2.99 times his then current
base salary. The Joint Plan provides that the annual compensation paid to Mr.
LeBow for services rendered in his capacity as an officer or director of the
Company shall not exceed $2,000,000.

         Howard M. Lorber is a party to an employment agreement with the Company
dated June 1, 1995, as amended. The agreement has an initial term of three years
effective as of January 18, 1995 (the "Effective Date"), with an automatic one
year extension on each anniversary of the Effective Date unless notice of
non-extension is given by either party within the sixty-day period prior to such
anniversary date. As of January 1, 1998, Mr. Lorber's annual base salary was
$1,400,000. The Board shall periodically 




                                       26
<PAGE>   29
review such base salary and may increase (but not decrease) it from time to
time, in its sole discretion. In addition, the Board may award an annual bonus
to Mr. Lorber at its sole discretion. The Board awarded Mr. Lorber a bonus of
$500,000 for 1997. In January 1998, Mr. Lorber and the Company entered into an
amendment to his employment agreement whereby he is entitled on an annual basis
to receive an additional bonus in an amount necessary to reimburse him, on an
after-tax basis, for all applicable taxes incurred by him during the prior
calendar year as a result of the grant to him, or vesting, of the 1996 award of
36,000 restricted Class A Senior Preferred Shares and options to acquire 330,000
Common Shares and 97,000 Class B Preferred Shares. Mr. Lorber received an
additional bonus of $476,544 in January 1998, which amount Mr. Lorber and the
Company have agreed will constitute full satisfaction of the Company's
obligations under the amendment with respect to 1997. Following termination of
his employment without cause (as defined therein), he would continue to receive
his base salary for a period of 36 months commencing with the next anniversary
of the Effective Date following the termination notice. Following termination of
his employment within two years of a change of control (as defined therein), he
is entitled to receive a lump sum payment equal to 2.99 times the sum of (i) his
then current base salary and (ii) the Bonus Amounts (as defined therein) earned
by him for the twelve-month period ending with the last day of the month
immediately preceding the month in which the termination occurs.

         Richard J. Lampen is a party to an employment agreement with the
Company dated September 22, 1995. The agreement has an initial term of two and a
quarter years from October 1, 1995 with automatic renewals after the initial
term for additional one-year terms unless notice of non-renewal is given by
either party within the ninety-day period prior to the termination date. As of
January 1, 1998, his annual base salary was $750,000. In addition, the Board may
award an annual bonus to Mr. Lampen at its sole discretion. The Board shall
review such base salary annually and may increase (but not decrease) it from
time to time, in its sole discretion. Following termination of his employment
without cause (as defined therein), he shall receive severance pay in a lump sum
equal to the amount of his base salary he would have received if he was employed
for one year after termination of his employment term.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

         The Company does not currently have a Compensation Committee. The Board
acts on compensation matters as a committee of the whole. Mr. LeBow has been
Chairman of the Board of the Company since 1988 and Chief Executive Officer
since November 1994, Mr. Lorber was named President and Chief Operating Officer
of the Company in November 1994, Mr. Kramer was named Chairman of the Board and
Chief Executive Officer of Ladenburg Group in June 1995 and Chairman of the
Board and Chief Executive Officer of Ladenburg in December 1995, and Mr. Lampen
was named Executive Vice President and General Counsel of the Company in October
1995.

         During 1997, Mr. LeBow was Chairman of the Board, President and Chief
Executive Officer of Brooke (and a member of the Compensation Committee) and
BGLS; and during 1997, Mr. Lampen was Executive Vice President of Brooke and
BGLS.

         For information on the interests of Messrs. LeBow, Lorber and Lampen in
Brooke and certain other relationships and transactions, see Item 1. "Business
-- Significant Shareholders", Item 12. "Security Ownership of Certain Beneficial
Owners and Management", and Item 13. "Certain Relationships and Related
Transactions".

PENSION PLANS

         In connection with the Company's sale of its wholly-owned subsidiary,
Western Union Financial Services, Inc. ("FSI"), to First Financial Management
Corporation on November 15, 1994 pursuant to the Joint Plan, the Western Union
Pension Plan (the "Pension Plan") was assumed by FSI and the Company was
released from all obligations thereunder.

         None of the current employees of the Company are entitled to any
benefits under the Pension Plan.




                                       27
<PAGE>   30

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

         The following table sets forth certain information regarding all
persons known by the Company to own beneficially more than 5% of any class of
its voting securities as of April 15, 1998.

<TABLE>
<CAPTION>
                                                                        NUMBER OF     PERCENTAGE
     NAME AND ADDRESS                   TITLE OF CLASS                  SHARES(1)     OF CLASS(1)
     ----------------                   --------------                  ---------     -----------
<S>                                <C>                               <C>              <C>
Bennett S. LeBow.............      Class A Senior Preferred            618,326(2)        57.7%
Brooke Group Ltd.                   Shares
BGLS Inc.
  100 S.E. Second Street
  Miami, FL 33131
New Valley Holdings, Inc.
  204 Plaza Centre
  3505 Silverside Road
  Wilmington, DE 19810

Canpartners
  Incorporated...............      Class A Senior Preferred             57,118(3)         5.3%
Canyon Capital                      Shares
  Management, L.P
Mitchell R. Julis
Joshua S. Friedman
R. Christian B. Evensen
  Suite 200
  9665 Wilshire Blvd.
  Beverly Hills, CA 90212

Bennett S. LeBow.............      Class B Preferred Shares            250,885(2)         8.9%
Brooke Group Ltd.
BGLS Inc.
  100 S.E. Second Street
  Miami, FL 33131

Bennett S. LeBow.............      Common Shares                     4,094,253(2)(4)     42.3%
Brooke Group Ltd.
BGLS Inc.
  100 S.E. Second Street
  Miami, FL 33131
New Valley Holdings, Inc.
  204 Plaza Centre
  3505 Silverside Road
  Wilmington, DE 19810

ITT Industries, Inc..........      Common Shares                       719,571(5)         7.5%
  4 West Red Oak Lane
  White Plains, NY 10604
</TABLE>

   ----------

(1)      The number of shares beneficially owned by each beneficial owner listed
         above is based upon the numbers reported by such owner in documents
         publicly filed with the SEC, publicly available information or
         information available to the Company. The percentage of each class is
         calculated based on the total number of shares of each class
         outstanding on April 15, 1998. The number of 




                                       28
<PAGE>   31

         shares and percentage of class include shares with respect to which
         such beneficial owner has the right to acquire beneficial ownership as
         specified in Rule 13d-3(d)(1) of the Securities Exchange Act of 1934,
         as amended (the "Exchange Act").

(2)      According to Amendment No. 16 to Schedule 13D dated January 30, 1996,
         relating to the Common Shares and Class A Senior Preferred Shares,
         filed jointly by Brooke, BGLS, New Valley Holdings Inc., a direct
         wholly-owned subsidiary of BGLS ("NV Holdings"), and Bennett S. LeBow,
         the beneficial owner of approximately 45% of the common stock of Brooke
         and the Chairman of the Board and Chief Executive Officer of the
         Company, and Amendment No. 1 to Schedule 13D dated January 30, 1996,
         relating to the Class B Preferred Shares, filed jointly by the
         foregoing persons (except for NV Holdings), BGLS exercises sole voting
         power and sole dispositive power over, subject to the Pledge (as
         defined below): (i) 19,748 Common Shares (less than 1% of such class);
         and (ii) 250,885 Class B Preferred Shares (approximately 8.9% of such
         class) (collectively, the "BGLS Shares"), and NV Holdings exercises
         sole voting power and sole dispositive power over, subject to the
         Pledge (as defined below): (i) 3,969,962 Common Shares (approximately
         41.4% of such class); and (ii) 618,326 Class A Senior Preferred Shares
         (approximately 57.7% of such class) (collectively, the "NV Holdings
         Shares"). Each of BGLS and NV Holdings disclaims beneficial ownership
         of the shares beneficially owned by the other under Rule 13d-3
         promulgated under the Exchange Act ("Rule 13d-3"), or for any other
         purpose. Each of Brooke and Mr. LeBow disclaims beneficial ownership of
         the BGLS Shares and NV Holdings Shares under Rule 13d-3, or for any
         other purpose.

         Pursuant to the indenture (the "Indenture") relating to BGLS' 15.75%
         Series B Senior Secured Notes due 2001 (the "Series B Notes"), BGLS has
         pledged the BGLS Shares, and NV Holdings has pledged the NV Holdings
         Shares (such pledges being referred to herein collectively as the
         "Pledge"), to secure the Series B Notes. The Indenture also provides
         for restrictions on certain affiliated transactions between the Company
         and Brooke, BGLS and their affiliates, as well as for certain
         restrictions on the use of future distributions received from the
         Company.

         For information on interests in and positions held with Brooke and its
         affiliates by Mr. LeBow and other directors and officers of the Company
         as well as voting and other provisions applicable to Brooke pursuant to
         the terms of the Joint Plan, see Item 1. "Business - Bankruptcy
         Reorganization" and "-- Significant Shareholders" and Item 11.
         "Executive Compensation - Compensation Committee Interlocks and Insider
         Participation".

(3)      Canyon Capital Management, L.P. ("CCM") is an investment advisor to
         various managed accounts. Canpartners Incorporated is the general
         partner of CCM, and Messrs. Julis, Friedman and Evensen own 100% of
         Canpartners Incorporated. The named entities and individuals have
         reported that, as of March 20, 1998, they have shared power to vote or
         to direct the voting and shared power to dispose or direct the
         disposition of 57,118 Class A Senior Preferred Shares.

(4)      Of such Common Shares, 104,543 represent shares which could be acquired
         by conversion of the Class B Preferred Shares held by BGLS (the
         "Derivative Common Shares"), as to which shares Mr. LeBow disclaims
         beneficial ownership.

(5)      ITT Industries, Inc. (as the successor in interest to ITT Corporation)
         has reported that, as of May 15, 1991, it had sole power to vote or to
         direct the voting and sole power to dispose or direct the disposition
         of 719,571 Common Shares.




                                       29
<PAGE>   32


         The following table sets forth, as of April 15, 1998, the beneficial
ownership of the Company's equity securities by (i) each of the Company's
directors, (ii) each of the named executive officers and (iii) all directors and
executive officers as a group.

<TABLE>
<CAPTION>
                                                                         NUMBER OF          PERCENT OF
          NAME                              TITLE OF CLASS               SHARES(1)          CLASS(1)
          ----                              --------------               ---------          ----------
<S>                                    <C>                               <C>                <C>  
Bennett S. LeBow(2)(5)...........      Class A Senior Preferred            618,326             57.7%
                                         Shares
                                       Class B Preferred Shares            250,885              8.9%
                                       Common Shares                     4,094,253             42.3%

Howard M. Lorber(3)(5)...........      Class A Senior Preferred             36,000              3.4%
                                         Shares
                                       Class B Preferred Shares             16,166              (*)
                                       Common Shares                        55,375              (*)

Richard J. Lampen(5).............      Class A Senior Preferred                  0              ---
                                         Shares
                                       Class B Preferred Shares                  0              ---
                                       Common Shares                             0              ---

Ronald J. Kramer(6)..............      Class A Senior Preferred                  0              ---
                                         Shares
                                       Class B Preferred Shares                  0              ---
                                       Common Shares                             0              ---

Arnold I. Burns(6)...............      Class A Senior Preferred                  0              ---
                                         Shares
                                       Class B Preferred Shares                  0              ---
                                       Common Shares                             0              ---

Henry C. Beinstein(4)(6).........      Class A Senior Preferred                  0              ---
                                         Shares
                                       Class B Preferred Shares             34,500              1.3%
                                       Common Shares                        14,376              (*)

Barry W. Ridings(6)..............      Class A Senior Preferred                  0              ---
                                         Shares
                                       Class B Preferred Shares                  0              ---
                                       Common Shares                             0              ---

Robert M. Lundgren(7)............      Class A Senior Preferred                  0              ---
                                         Shares
                                       Class B Preferred Shares                  0              ---
                                       Common Shares                             0              ---

All directors and executive
  as a group (9 persons) (2).....      Class A Senior Preferred            654,326             61.1%
                                         Shares

                                       Class B Preferred Shares            301,551             10.7%
                                       Common Shares                     4,164,004             42.7%
</TABLE>
----------

(*)      The percentage of shares beneficially owned does not exceed .1% of the
         class of securities noted.




                                       30
<PAGE>   33

(1)      The percentage of each class is calculated based on the total number of
         shares of each class outstanding on April 15, 1998. Includes shares
         with respect to which such person has the right to acquire beneficial
         ownership as specified in Rule 13d-3(d)(1) of the Exchange Act.

(2)      Includes the BGLS Shares, the NV Holding Shares and the Derivative
         Common Shares, as to which shares Mr. LeBow disclaims beneficial
         ownership. See footnotes (2) and (4) to the preceding table.

(3)      Mr. Lorber possesses voting power over his Class A Senior Preferred
         Shares. See Item 11. "Executive Compensation -- Summary Compensation
         Table". All of the Class B Preferred Shares and 55,000 of the Common
         Shares represent shares that are subject to employee stock options
         exercisable within 60 days of April 15, 1998. Of the Common Shares,
         375 are held in a Keogh Plan for the benefit of Mr. Lorber.

(4)      Includes 2,500 Class B Preferred Shares held in an individual
         retirement account for his spouse, as to which shares Mr. Beinstein
         disclaims beneficial ownership. Includes 14,376 Common Shares which
         could be acquired by conversion of the Class B Preferred Shares. Mr.
         Beinstein disclaims beneficial ownership over 1,041 of these Common
         Shares, as such shares relate to the Class B Preferred Shares
         beneficially owned by his spouse.

(5)      The named individual is a director and an executive officer of the
         Company.

(6)      The named individual is a director of the Company.

(7)      The named individual resigned as an executive officer of the Company in
         January 1998.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         Mr. Lorber, a director and executive officer of the Company, is a
stockholder and registered representative of Aegis Capital Corp. ("Aegis"), a
broker-dealer that has performed services for the Company and its affiliates
since before January 1, 1997. During 1997, Aegis received commission and other
income in the aggregate amount of approximately $522,000. Aegis, in the ordinary
course of its business in 1997, engaged in brokerage activities with Ladenburg
on customary terms. Mr. Lorber is also Chairman of the Board and Chief Executive
Officer of Hallman & Lorber and its affiliates, and serves as a consultant to
Brooke and BGLS and is a stockholder of Brooke. During 1997, Hallman & Lorber
and its affiliates received ordinary and customary insurance commissions
aggregating approximately $133,000 on various insurance policies issued for the
Company and its affiliates.

         On December 18, 1996, the Company loaned to BGLS $990,000 under a
short-term promissory note due January 31, 1997 and bearing interest at 14%. On
January 2, 1997, the Company loaned to BGLS an additional $975,000 under another
short-term promissory note due January 31, 1997 and bearing interest at 14%.
Both loans including interest were repaid on January 31, 1997.

         On January 31, 1997, the Company acquired the BML Shares, representing
99.1% of the shares of the common stock of BML. The Company paid BOL a purchase
price of $55 million, consisting of $21.5 million in cash and a $33.5 million 9%
promissory note of the Company. The note has been paid in full. See Item 1.
"Business -- BrookeMil Ltd.", as well as Notes 3 and 10 to the Company's
Consolidated Financial Statements for information concerning the transaction and
a pending lawsuit relating to the Company's purchase of the BML Shares.

         In 1995, the Company and Brooke entered into an expense sharing
agreement pursuant to which certain lease, legal and administrative expenses are
allocated to the entity incurring the expense. The Company expensed $312,000
under this agreement for the year ended December 31, 1997.

         Richard S. Ressler, a former director of the Company, is Chairman of
the Board and the beneficial owner of more than 10% of the shares of MAI Systems
Corporation ("MAI"), which in 1996 entered into certain arrangements with
Ladenburg, whereby MAI has sold computer and software products and has been
providing related professional and support services to Ladenburg. During 1997,
Ladenburg paid MAI, in the aggregate, approximately $610,000 for such products
and services. In addition, during 1997, Ladenburg paid another company
controlled by the former director approximately $143,000 for communications
consulting services.

         In March 1997, the Company acquired a membership interest in
Orchard/JFAX Investors, LLC, of which the former director serves as a managing
member, for $1 million. The LLC holds a controlling interest in a provider of
telecommunication services.

         In February 1998, the Company and Apollo organized Western Realty to
make real estate and other investments in Russia. In connection with the
formation of Western Realty, New Valley agreed, among other things, to
contribute to Western Realty the real estate assets of BML, and Apollo agreed to
contribute up to $58 million. Western Realty has agreed to invest $20 million
for a 30% profits interest in a company organized by BOL which will, among other
things, acquire an interest in an industrial site and manufacturing facility
being constructed on the outskirts of Moscow by a subsidiary of BOL. For
additional information concerning Western Realty, see Item 1. "Business -
BrookeMil Ltd. - Western Realty", as well as Note 3 to the Company's
Consolidated Financial Statements.

         Mr. Burns, a director of the Company, is a partner of Proskauer, a law
firm which has been engaged to perform legal services for the Company in the
past and which may be so engaged in the future. The fees received for such legal
services in 1997 did not exceed five percent of the law firm's revenues.

         During 1997, Mr. Beinstein, a director of the Company, served as the
Managing Director of Milbank, a law firm which has been engaged to perform legal
services for the Company in the past and which may be so engaged in the future.
The fees received for such legal services in 1997 did not exceed five percent of
the law firm's revenues.

         For information concerning certain agreements and transactions between
the Company and Brooke relating to RJR Nabisco, see Item 7. "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Recent Developments - The Company's Investment in RJR Nabisco" and Notes 5 and
18 to the Company's Consolidated Financial Statements.

         See, also, Item 11. "Executive Compensation - Compensation Committee
Interlocks and Insider Participation."



                                       31
<PAGE>   34


                                     PART IV

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

         (A) (1)   INDEX TO 1997 CONSOLIDATED FINANCIAL STATEMENTS:

         The Consolidated Financial Statements and the Notes thereto, together
with the report thereon of Coopers & Lybrand L.L.P. dated March 31, 1998,
appear on pages 38 through 63 of this report. Financial statement schedules
not included in this report have been omitted because they are not applicable or
the required information is shown in the Consolidated Financial Statements or
the Notes thereto.

         (A) (2)           FINANCIAL STATEMENT SCHEDULES:

Schedule  III - Real  Estate and  Accumulated  Depreciation  .........Page 64

         (A) (3)  EXHIBITS

*        (2) (a)    Joint Plan (incorporated by reference to Exhibit 2
                    in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended September 30, 1994).

*        (b)        Plan Amendment (incorporated by reference to Exhibit 2
                    in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended September 30, 1994).

*        (c)        Notice of Modification to the First Amended Joint
                    Chapter 11 Plan of Reorganization (incorporated by reference
                    to Exhibit 2 in the Company's Quarterly Report on Form 10-Q
                    for the quarterly period ended September 30, 1994).

*        (d)        Agreement and Plan of Merger dated as of May 22, 1996, by
                    and between the Company and NV Delaware Inc. (incorporated
                    by reference to Annex II in the Company's Definitive Proxy
                    Statement dated May 22, 1996).

*        (e)        Agreement and Plan of Merger dated as of May 22, 1996, by 
                    and between NV Delaware Inc. and NV Merger Sub Inc.
                    (incorporated by reference to Annex V in the Company's
                    Definitive Proxy Statement dated May 22, 1996).

*        (f)        Stock Purchase Agreement dated as of January 31, 1997,
                    among BML, Brooke (Overseas) Ltd. ("BOL"), BGLS and the
                    Company (incorporated by reference to Exhibit 2.1 in the
                    Company's Current Report on Form 8-K dated January 31,
                    1997).

*        (g)        Amended and Restated Limited  Liability Company Agreement
                    dated as of February 20, 1998 by and among Western Realty
                    Development LLC, the Company, BrookeMil Ltd. and Apollo Real
                    Estate Investment Fund III, L.P. (incorporated by reference
                    to Exhibit 2.1 in the Company's Current Report on Form 8-K
                    dated February 20, 1998).

*        (3)(a)     Restated Certificate of Incorporation dated July 29,
                    1996 of the Company (incorporated by reference to Exhibit
                    3(i) in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended June 30, 1996).

*        (b)        By-Laws of the Company adopted July 29, 1996
                    (incorporated by reference to Exhibit (3)(ii) in the
                    Company's Quarterly Report on Form 10-Q for the quarterly
                    period ended June 30, 1996).

*        (4)(a)     First Mortgage, Security Agreement, Assignment of
                    Leases and Rents and Fixture Filing dated January 10, 1996
                    by the Company, as Mortgagor, and Jared Associates, L.P., as
                    Mortgagee (Westgate I) (incorporated by reference to Exhibit
                    4.1 in the Company's Current Report on Form 8-K dated
                    January 25, 1996).



                                       32


<PAGE>   35

*        (b)        Secured Promissory Note of the Company dated January 10, 
                    1996 in favor of Jared Associates, L.P. (Westgate I)
                    (incorporated by reference to Exhibit 4.2 in the Company's
                    Current Report on Form 8-K dated January 25, 1996).

*        (c)        Loan and Security Agreement dated January 11, 1996 by
                    and between AP Century III, L.P., AP Century IV, L.P., AP
                    Century V, L.P., AP Century VI, L.P. and AP Century VIII,
                    L.P., as Lenders, and the Company, as Borrower (the
                    Properties) (incorporated by reference to Exhibit 4.3 in
                    Amendment No. 1 in the Company's Current Report on Form 8-K
                    dated January 25, 1996, as amended).

*        (d)        Amendment to Loan and Security Agreement, dated December 27,
                    1996, by and between AP Century III, L.P., AP Century IV,
                    L.P., AP Century V, L.P., AP Century VI, L.P. and AP
                    Century VIII, L.P.(incorporated by reference to Exhibit 4(d)
                    in the Company's Form 10-K for the fiscal year ended
                    December 31, 1996).

*        (10)(a)(i) Restricted Share Agreement, dated November 18, 1996, by and
                    between the Company and Howard M. Lorber (incorporated by
                    reference to Exhibit 10(a)(ii) in the Company's Form 10-K
                    for the fiscal year ended December 31, 1996).

*        (ii)       Option Agreement, dated November 18, 1996, between the
                    Company and Howard M. Lorber (incorporated by reference to
                    Exhibit 10(a)(iii) in the Company's Form 10-K for the
                    fiscal year ended December 31, 1996).

*        (b)(i)     Employment Agreement dated as of June 1, 1995, as
                    amended, effective as of January 1, 1996, between the
                    Company and Bennett S. LeBow (incorporated by reference to
                    Exhibit 10(b)(i) in the Company's Form 10-K for the fiscal
                    year ended December 31, 1995).

*        (ii)       Employment Agreement ("Lorber Employment Agreement")
                    dated as of June 1, 1995, as amended, effective as of
                    January 1, 1996, between the Company and Howard M. Lorber
                    (incorporated by reference to Exhibit 10(b)(ii) in the
                    Company's Form 10-K for the fiscal year ended December 31,
                    1995).

*        (iii)      Amendment dated January 1, 1998 to Lorber Employment 
                    Agreement (incorporated by reference to Exhibit 10(b)(iii)
                    in the Company's Form 10-K for the fiscal year ended 
                    December 31, 1997).

*        (iv)       Employment Agreement dated September 22, 1995, between
                    the Company and Richard J. Lampen (incorporated by reference
                    to Exhibit 10(c) in the Company's Quarterly Report on Form
                    10-Q for the quarterly period ended September 30, 1995).

*        (c)(i)     Purchase Agreement, dated as of October 20, 1994,
                    between FFMC and the Company (incorporated by reference to
                    Exhibit 10(a) in the Company's Quarterly Report on Form 10-Q
                    for the quarterly period ended September 30, 1994).

*        (ii)       Amendment No. 1 to the Purchase Agreement, dated
                    November 14, 1994, between FFMC and the Company
                    (incorporated by reference to Exhibit 10(b) in the Company's
                    Current Report on Form 8-K dated November 1, 1994).

*        (iii)      Pension and Retiree Benefits Administration Services
                    Agreement, dated November 1, 1994, between the Company and
                    FSI (incorporated by reference to Exhibit 10(e) in the
                    Company's Current Report on Form 8-K dated November 1,
                    1994).


                                       33

<PAGE>   36


*        (iv)       Settlement Agreement dated October 19, 1994 among the
                    Company, the Statutory Committee of Unsecured Creditors, the
                    Official Committee of Secured Noteholders, FSI, FFMC and the
                    Pension Benefit Guaranty Corporation (incorporated by
                    reference to Exhibit 10(c) in the Company's Quarterly Report
                    on Form 10-Q for the quarterly period ended September 30,
                    1994).

*        (v)        Stipulation dated October 20, 1994 among the Western
                    Union Employee Benefit Committee, the Company and the
                    Pension Benefit Guaranty Corporation (incorporated by
                    reference to Exhibit 10(d) in the Company's Quarterly Report
                    on Form 10-Q for the quarterly period ended September 30,
                    1994).

*        (vi)       Settlement Agreement, Stipulation and Order dated
                    October 28, 1994 among the Company, BGLS, NV Holdings, the
                    Statutory Committee of Unsecured Creditors, the Official
                    Committee of Secured Noteholders and the Official Committee
                    of Equity Security Holders, the Preferred A Stockholders'
                    Sub-Committee of the Equity Committee and certain beneficial
                    holders of Series A Senior Preferred Shares of the Company
                    (incorporated by reference to Exhibit 10(b) in the Company's
                    Quarterly Report on Form 10-Q for the quarterly period ended
                    September 30, 1994).

*        (vii)      Asset Purchase Agreement dated September 30, 1995
                    among the Company, DSI and FFMC (incorporated by reference
                    to Exhibit 10(b) in the Company's Quarterly Report on Form
                    10-Q for the quarterly period ended September 30, 1995).

*        (viii)     Release and Termination Agreement, dated September 30,
                    1995, among the Company, FSI, DSI and FFMC, which agreement
                    terminated certain agreements among such parties in
                    connection with the sale of DSI (incorporated by reference
                    to Exhibit 10(y) in the Company's Form 10-K for the fiscal
                    year ended December 31, 1995).

*        (d)        Purchase Agreement dated January 10, 1996 by and among
                    the Company, Bellemead Michigan, Inc., and Jared Associates,
                    L.P. (incorporated by reference to Exhibit 2.1 in the
                    Company's Current Report on Form 8-K dated January 25,
                    1996).

*        (e)(i)     Purchase Agreement dated January 11, 1996 between the 
                    Company and AP Century I, L.P., AP Century II, L.P., AP
                    Century III, L.P., AP Century IV, L.P., A.P. Century V,
                    L.P., A.P. Century VI, L.P., A.P. Century VIII, L.P. and AP
                    Century IX, L.P. (incorporated by 



                                       34


<PAGE>   37

                    reference to Exhibit 2.2 in the Company's Current Report on
                    Form 8-K dated January 25, 1996, as amended).

*        (ii)       Indemnity Agreement, dated January 11, 1996, from
                    Apollo Real Estate Investment to the Company regarding loan
                    document discrepancies (incorporated by reference to Exhibit
                    10(k)(i) in the Company's Form 10-K for the fiscal year
                    ended December 31, 1995).

*        (iii)      Indemnity Agreement, dated January 11, 1996, from
                    Apollo Real Estate Investment to the Company regarding
                    existing lender consents (incorporated by reference to
                    Exhibit 10(k)(ii) in the Company's Form 10-K for the fiscal
                    year ended December 31, 1995).

*        (iv)       Environmental Indemnity Agreement, dated January 11,
                    1996, from Apollo to the Company regarding University Place
                    Property (incorporated by reference to Exhibit 10(k)(iii) in
                    the Company's Form 10-K for the fiscal year ended December
                    31, 1995).

*        (v)        Environmental Indemnity Agreement, dated January 11,
                    1996, from the Company to Apollo regarding post-closing
                    contamination (incorporated by reference to Exhibit
                    10(k)(iv) in the Company's Form 10-K for the fiscal year
                    ended December 31, 1995).

*        (f)        Expense Sharing Agreement made and entered into as of
                    January 18, 1995, by and between Brooke and the Company
                    (incorporated by reference to Exhibit 10(a) in the Company's
                    Quarterly Report on Form 10-Q for the quarterly period ended
                    September 30, 1995).

*        (g)(i)     Agreement among the Company, ALKI and High River,
                    dated October 17, 1995 (incorporated by reference to Exhibit
                    10(d) in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended September 30, 1995).

*        (ii)       Letter Amendment, dated October 17, 1995, to the
                    Agreement among the Company, ALKI and High River, dated
                    October 17, 1995 (incorporated by reference to Exhibit 10(e)
                    in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended September 30, 1995).

*        (iii)      Letter Amendment, dated November 5, 1995, to the
                    Agreement among the Company, ALKI, and High River, dated
                    October 17, 1995 (incorporated by reference to Exhibit 10(f)
                    in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended September 30, 1995).

*        (iv)       Agreement of Termination made as of June 5, 1996, by
                    and among the Company, ALKI, High River, Brooke and BGLS
                    (incorporated by reference to Exhibit 16 in the Schedule 13D
                    filed by, among others, the Company with the SEC on March
                    11, 1996, as amended, with respect to the common stock of
                    RJR Nabisco (the "Schedule 13D")).

*        (h)(i)     Promissory Note of the Company dated January 31, 1997
                    in favor of BOL (incorporated by reference to Exhibit 10.1
                    in the Company's Current Report on Form 8-K dated January
                    31, 1997).

*        (ii)       Pledge Agreement dated as of January 31, 1997 entered
                    into by and between BOL and the Company (incorporated by
                    reference to Exhibit 10.2 in the Company's Current Report on
                    Form 8-K dated January 31, 1997).

*        (iii)      Use Agreement dated as of January 31, 1997, entered
                    into by and between BML and Liggett-Ducat Joint Stock
                    Company (incorporated by reference to Exhibit 10.3 in the
                    Company's Current Report on Form 8-K dated January 31,
                    1997).

*        (i)(i)     Amended and Restated Plan and Agreement of Merger by
                    and among Thinking Machines, OTMC Corporation and TMC
                    Acquisition Corp., dated as of January 9, 1996 (incorporated


                                       35


<PAGE>   38

                    by reference to Exhibit 10(q) in the Company's Form 10-K for
                    the fiscal year ended December 31, 1995).

*        (ii)       TMC Investment Partnership Agreement dated as of
                    February 2, 1996, between Ladenburg Thalmann Capital Corp.
                    and Levin-A Limited Partnership (incorporated by reference
                    to Exhibit 10(r) in the Company's Form 10-K for the fiscal
                    year ended December 31, 1995).

*        (j)        Form of Margin Agreement dated  September 12, 1995, between
                    ALKI and Bear Stearns & Co. (incorporated by reference to
                    Exhibit 2 in the Schedule 13D).

*        (k)        Agreement, dated December 27, 1995, between Brooke and the 
                    Company (incorporated by reference to Exhibit 8 in the
                    Schedule 13D).

*        (l)        International Swap Dealers Association Master Agreement (and
                    the schedules and annexes thereto) and Confirmation, dated
                    February 28, 1996, between the Company and Internationale
                    Nederlanden (U.S.) Capital Markets, Inc. (incorporated by
                    reference to Exhibit 10 in the Schedule 13D).

*        (m)        Agreement and Plan of Merger by and between the Company
                    and Ladenburg dated March 31, 1995 (schedules omitted)
                    (incorporated by reference to Exhibit 99(a) in the Company's
                    Current Report on Form 8-K dated April 4, 1995).

*        (n)(i)     Non-Negotiable Promissory Note of Western Realty
                    Development LLC dated February 27, 1998 in favor of Apollo
                    Real Estate Investment Fund III, L.P. (incorporated by
                    reference to Exhibit 10.1 in the Company's Current Report on
                    Form 8-K dated February 20, 1998).

*        (ii)       Pledge Agreement dated as of February 27, 1998 by and
                    between Apollo Real Estate Investment Fund III, L.P. and the
                    Company (incorporated by reference to Exhibit 10.2 in the
                    Company's Current Report on Form 8-K dated February 20,
                    1998).

*        (21)       Subsidiaries of the Company (incorporated by reference to
                    Exhibit 21 in the Company's Form 10-K for the fiscal year 
                    ended December 31, 1997).

         (27)       Financial Data Schedule (for SEC use only).

*        (99)(a)    Order confirming First Amended Joint Chapter 11 Plan
                    of Reorganization for the Company entered by the United
                    States Bankruptcy Court for the District of New Jersey on
                    November 1, 1994 (incorporated by reference to Exhibit 99(b)
                    in the Company's Quarterly Report on Form 10-Q for the
                    quarterly period ended September 30, 1994).

*        (b)        Order Authorizing Sale of Shares and Related Assets
                    entered by the United States Bankruptcy Court for the
                    District of New Jersey on November 1, 1994 (incorporated by
                    reference to Exhibit 99(a) in the Company's Quarterly Report
                    on Form 10-Q for the quarterly period ended September 30,
                    1994).

--------------
*        Incorporated by reference.

         The foregoing list omits instruments defining the rights of holders of
long-term debt of the Company and its consolidated subsidiaries where the total
amount of securities authorized thereunder does not exceed 10% of the total
assets of the Company and its consolidated subsidiaries. The Company hereby
agrees to furnish a copy of each such instrument or agreement to the Commission
upon request.

         Exhibits not filed herewith are incorporated by reference to the
exhibits in the prior filings indicated in parenthesis. Each management contract
or compensatory plan or arrangement required to be filed as an exhibit to this
report pursuant to Item 14(c) is listed in Exhibit Nos. 10(a) and 10(b).

         (B)      REPORTS ON FORM 8-K:

         None



                                      36

<PAGE>   39

                             NEW VALLEY CORPORATION

                 Form 10-K for the Year Ended December 31, 1997
                      Items 8, 14(a)(1) and (2), and 14(d)

         Index to Financial Statements and Financial Statement Schedules

          Financial Statements and Schedules of the Registrant and its
                subsidiaries, required to be included in Items 8,
                           14(a)(1) and (2), and 14(d)
                                are listed below:
<TABLE>
<CAPTION>

                                                                                                     PAGE
<S>                                                                                                   <C>
    FINANCIAL STATEMENTS:
         Report of Independent Accountants....................................................        38
         Consolidated Balance Sheets as of December 31, 1997 and 1996.........................        39
         Consolidated Statements of Operations for the years ended December 31, 1997, 1996
             and 1995.........................................................................        40
         Consolidated Statements of Changes in Shareholders' Equity (Deficit) for the years
             ended December 31, 1997, 1996 and 1995...........................................        42
         Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996
             and 1995.........................................................................        43
         Notes to Consolidated Financial Statements...........................................        45

    FINANCIAL STATEMENT SCHEDULES:
         Schedule III - Real Estate and Accumulated Depreciation..............................        64

         Financial Statement Schedules not listed above have been omitted
         because they are not applicable or the required information is
         contained in the Consolidated Financial Statements or accompanying
         Notes.

         Thinking Machines Corporation
         Report of Independent Accountants....................................................        66
</TABLE>







                                       37
<PAGE>   40



                        REPORT OF INDEPENDENT ACCOUNTANTS



To the Board of Directors and the
Shareholders of New Valley Corporation

    We have audited the accompanying consolidated balance sheets of New Valley
Corporation and subsidiaries as of December 31, 1997 and 1996, and the related
consolidated statements of operations, changes in shareholders' equity
(deficit), and cash flows for each of the three years for the period ended
December 31, 1997. We have also audited the financial statement schedule of New
Valley Corporation (Schedule III - Real Estate and Accumulated Depreciation as
of December 31, 1997 and 1996) listed in the index on page 37 of this Form 10-K.
These financial statements and financial statement schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements and financial statement schedule based on
our audits. We did not audit the financial statements of Thinking Machines
Corporation, a consolidated subsidiary, which statements reflect total assets
constituting 1% and 3% of consolidated total assets at December 31, 1997 and
1996, respectively and a net loss (net of minority interest therein)
constituting 25% and 90% of the consolidated net loss for the years ended
December 31, 1997 and 1996, respectively. Those statements were audited by other
auditors whose report has been furnished to us, and our opinion, insofar as it
relates to the amounts included for Thinking Machines Corporation, are based
solely upon the report of the other auditors.

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

    In our opinion, based on our audits and the report of the other auditors,
the consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of New Valley Corporation
and subsidiaries at December 31, 1997 and 1996, and the consolidated results of
their operations and their cash flows for each of the three years in the period
ended December 31, 1997 in conformity with generally accepted accounting
principles. In addition, in our opinion, the financial statement schedule
referred to above, when considered in relation to the basic financial statements
taken as a whole, presents fairly, in all material respects, the information
required to be included therein.




COOPERS & LYBRAND L.L.P.



Miami, Florida
March 31, 1998


                                       38
<PAGE>   41
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

                           CONSOLIDATED BALANCE SHEETS
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>

                                                                                           DECEMBER 31,
                                                                                    -----------------------
                                                                                      1997             1996
                                                                                    --------         ------
<S>                                                                                 <C>               <C>      
                                    ASSETS
Current assets:
     Cash and cash equivalents.............................................         $  11,606         $  57,282
     Investment securities available for sale..............................            51,993            61,454
     Trading securities owned..............................................            49,988            29,761
     Restricted assets.....................................................               232             2,080
     Receivable from clearing brokers......................................             1,205            23,870
     Other current assets..................................................             3,618             9,273
                                                                                    ---------         ---------
         Total current assets..............................................           118,642           183,720
                                                                                    ---------         ---------

Investment in real estate, net.............................................           256,645           179,571
Furniture and equipment, net...............................................            12,194                --
Investment securities available for sale...................................                --             2,716
Restricted assets..........................................................             5,484             6,766
Long-term investments, net.................................................            27,224            13,270
Other assets...............................................................            21,202            20,497
                                                                                    ---------         ---------
         Total assets......................................................         $ 441,391         $ 406,540
                                                                                    =========         =========


                LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIENCY)

Current liabilities:
     Margin loan payable...................................................         $  13,012         $      --
     Current portion of notes payable and long-term obligations............               760             2,310
     Accounts payable and accrued liabilities..............................            57,722            44,888
     Prepetition claims and restructuring accruals.........................            12,611            15,526
     Income taxes..........................................................            18,413            18,243
     Securities sold, not yet purchased....................................            25,610            17,143
                                                                                    ---------         ---------
         Total current liabilities.........................................           128,128            98,110
                                                                                    ---------         ---------

Notes payable..............................................................           173,814           157,941
Other long-term liabilities................................................            11,210            12,282
Redeemable preferred shares................................................           258,638           210,571

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

Shareholders' equity (deficiency):
     Cumulative preferred shares; liquidation preference of $69,769,
       dividends in arrears: 1997 - $139,412; 1996 - $115,944..............               279               279
     Common Shares, $.01 par value; 850,000,000 shares
       authorized; 9,577,624 shares outstanding............................                96                96
     Additional paid-in capital............................................           604,215           644,789
     Accumulated deficiency................................................          (742,427)         (721,854)
     Unearned compensation on stock options................................              (158)             (731)
     Unrealized gain on investment securities..............................             7,596             5,057
                                                                                    ---------         ---------
Total shareholders' equity (deficiency)....................................          (130,399)          (72,364)
                                                                                    ---------         --------- 

         Total liabilities and shareholders' equity (deficiency)...........         $ 441,391         $ 406,540
                                                                                    =========         =========
</TABLE>

          See accompanying Notes to Consolidated Financial Statements






                                       39
<PAGE>   42
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF OPERATIONS
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
                    
                                                                              YEAR ENDED DECEMBER 31,
                                                                 ----------------------------------------------
                                                                    1997              1996             1995
                                                                 -----------        ----------       ----------
<S>                                                                <C>              <C>                <C>     
Revenues:
    Principal transactions, net..................................  $  16,754        $  28,344          $ 18,237
    Commissions..................................................     16,727           17,755             9,888
    Corporate finance fees.......................................     12,514           10,230             5,942
    Gain on sale of investments..................................     20,492           10,014             7,078
    Real estate leasing..........................................     27,067           23,559                --
    Interest and dividends.......................................      9,417           16,951            21,047
    Computer sales and service...................................      3,947           15,017                --   
    Other income.................................................      7,650            8,995             5,538
                                                                   ---------        ---------          --------

         Total revenues..........................................    114,568          130,865            67,730
                                                                   ---------        ---------          --------

Costs and expenses:
    Selling, general and administrative expenses.................    119,205          140,399            54,216
    Interest.....................................................     16,988           17,760             2,102
    Recovery of restructuring charges............................         --           (9,706)           (2,044)
    Write-down of long-term investments .........................      3,796            1,001            11,790
                                                                   ---------        ---------          --------

         Total costs and expenses................................    139,989          149,454            66,064
                                                                   ---------        ---------          --------

(Loss) income from continuing operations before income
    taxes, minority interests....................................    (25,421)         (18,589)            1,666

Income tax provision.............................................        186              300               292
Minority interests in loss from continuing operations of
    consolidated subsidiaries....................................      1,347            4,241                --
                                                                   ---------        ---------          --------

(Loss) income from continuing operations.........................    (24,260)         (14,648)            1,374

Discontinued operations (Note 4):
    Income from discontinued operations, net of 
      income taxes of $480 in 1995...............................         --               --             4,315
    Gain on disposal of discontinued operations, net of income
      taxes of $1,400 in 1995....................................      3,687            7,158            12,558
                                                                   ---------        ---------          --------

         Income from discontinued operations.....................      3,687            7,158            16,873
                                                                   ---------        ---------          --------

Net (loss) income................................................    (20,573)          (7,490)           18,247

Dividend requirements on preferred shares........................    (68,475)         (61,949)          (72,303)
Excess of carrying value of redeemable preferred
    shares over cost of shares purchased.........................         --            4,279            40,342
                                                                   ---------        ---------          --------

Net loss applicable to Common Shares.............................  $ (89,048)       $ (65,160)         $(13,714)
                                                                   ==========       =========          ======== 
</TABLE>





          See accompanying Notes to Consolidated Financial Statements


                                       40
<PAGE>   43
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF OPERATIONS
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>

                                                        YEAR ENDED DECEMBER 31,
                                            ----------------------------------------------
                                               1997              1996             1995
                                            -----------        ----------       ----------
<S>                                         <C>              <C>               <C>    
Income (loss) per common share (Basic):

    Continuing operations ...............   $       (9.68)   $       (7.55)   $       (3.20)
    Discontinued operations .............             .38              .75             1.77
                                            -------------    -------------    -------------

         Net income (loss) ..............   $       (9.30)   $       (6.80)   $       (1.43)
                                            =============    =============    =============

Number of shares used in computation ....       9,578,000        9,578,000        9,554,000
                                            =============    =============    =============

Income (loss) per common share (Diluted):

    Continuing operations ...............   $       (9.68)   $       (7.55)   $       (3.20)
    Discontinued operations .............             .38              .75             1.77
                                            -------------    -------------    -------------

         Net income (loss) ..............   $       (9.30)   $       (6.80)   $       (1.43)
                                            =============    =============    =============

Number of shares used in computation ....       9,578,000        9,578,000        9,554,000
                                            =============    =============    =============

Supplemental information:
    Additional interest expense, absent
      the Chapter 11 filing .............                                     $       2,314
                                                                              =============
</TABLE>









          See accompanying Notes to Consolidated Financial Statements



                                       41

<PAGE>   44
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

      CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (DEFICIT)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>

                                                                                                      UNEARNED
                                               CLASS B                ADDITIONAL                    COMPENSATION
                                              PREFERRED     COMMON      PAID-IN     ACCUMULATED       ON STOCK      UNREALIZED
                                                SHARES      SHARES      CAPITAL       DEFICIT          OPTIONS        GAINS
                                                ------      ------      -------       -------          -------        -----
<S>                                              <C>       <C>         <C>           <C>               <C>           <C>
Balance, December 31, 1994...................... $ 279     $ 1,887     $692,001      $(732,611)
   Net income...................................                                        18,247
   Undeclared dividends and accretion on
     redeemable preferred shares................                        (53,821)
   Purchase of redeemable preferred shares                               40,342
   Exercise of stock options....................                29          536
   Unrealized gain on investment securities,
     net of taxes...............................                                                                       $2,650
                                                 -----     -------     --------      ---------                         ------

Balance, December 31, 1995......................   279       1,916      679,058       (714,364)                         2,650

   Net loss.....................................                                        (7,490)
   Undeclared dividends and accretion on
     redeemable preferred shares................                        (41,123)
   Purchase of redeemable preferred shares                                4,279
   Effect of 1-for-20 reverse stock split                   (1,820)       1,820
   Issuance of stock options....................                            755                        $  (755)
   Compensation expense on stock option grants..                                                            24
   Unrealized gain on investment securities.....                                                                        2,407
                                                 -----    --------     --------      ---------         -------         ------
Balance, December 31, 1996......................   279          96      644,789       (721,854)           (731)         5,057

   Net loss.....................................                                       (20,573)
   Undeclared dividends and accretion on
     redeemable preferred shares................                        (45,148)
   Unrealized gain on investment securities                                                                             2,539
   Compensation expense on stock option grants                                                              15
   Adjustment to unearned compensation
     on stock options...........................                           (558)                           558
   Public sale of subsidiaries' common
     stock, net.................................                          5,132
                                                 -----    --------     --------      ---------         -------         ------
Balance, December 31, 1997...................... $ 279    $     96     $604,215      $(742,427)        $  (158)        $7,596
                                                 =====    ========     ========      =========         =======         ======
</TABLE>






                                       42
<PAGE>   45
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
                                                                                  YEAR ENDED DECEMBER 31,
                                                                           -----------------------------------
                                                                              1997        1996         1995
                                                                           ----------   ---------    ---------
<S>                                                                        <C>          <C>          <C>     
Cash flows from operating activities:
   Net (loss) income ...................................................   $ (20,573)   $  (7,490)   $  18,247
   Adjustments to reconcile net income (loss) to net
    cash used for operating activities:
     Gain on disposal of business ......................................      (3,687)      (7,158)     (12,558)
     Income from discontinued operations ...............................          --           --       (4,315)
     Depreciation and amortization .....................................       9,414        4,757          608
     Provision for loss on long-term investments .......................       3,796        1,001       11,790
     Reversal of restructuring accruals ................................          --       (9,706)      (2,044)
     Stock compensation expense ........................................       2,934          384         --
     Changes in assets and liabilities, net of effects from acquisition:
       Increase (decrease) in receivables and other assets..............       3,184      (13,813)      11,684
       Increase (decrease) in income taxes payable and deferred taxes...         170       (2,040)     (32,517)
       Increase (decrease) in securities sold not yet purchased ........       8,467        4,096       (9,359)
       (Decrease) increase in accounts payable and accrued
         liabilities ...................................................      (3,954)       7,270        5,223
                                                                           ---------    ---------    ---------

Net cash used for continuing operations ................................        (249)     (22,699)     (13,241)
Net cash provided from discontinued operations .........................          --           --        6,105
                                                                           ---------    ---------    ---------

Net cash used for operating activities .................................        (249)     (22,699)      (7,136)
                                                                           ---------    ---------    ---------

Cash flows from investing activities:
     Sale or maturity of investment securities .........................      45,472      160,088      250,129
     Purchase of investment securities .................................     (30,756)     (12,825)    (458,017)
     Sale or liquidation of long-term investments ......................       2,807       18,292       36,109
     Purchase of long-term investments .................................     (18,707)      (3,051)     (77,411)
     Decrease (increase) in restricted assets ..........................       3,130       29,159      341,634
     Purchase of furniture and equipment ...............................      (3,478)      (5,240)        --
     Purchase of and additions to real estate ..........................      (7,454)     (24,496)        --
     Sale of real estate ...............................................       8,718           --         --
     Payment of prepetition claims and restructuring accruals ..........        (828)      (8,160)    (584,397)
     Payment for acquisitions, net of cash acquired ....................     (20,014)       1,915      (25,750)
     Collection of contract receivable .................................        --           --        300,000
     Net proceeds from disposal of business ............................        --         10,174       17,540
                                                                           ---------    ---------    ---------

Net cash (used for) provided from investing activities .................     (21,110)     165,856     (200,163)
                                                                           ---------    ---------    ---------

Cash flows from financing activities:
     Payment of preferred dividends ....................................        --        (41,419)    (132,162)
     Purchase of redeemable preferred shares ...........................        --        (10,530)     (47,761)
     Increase (decrease) in margin loan payable ........................      13,012      (75,119)      75,119
     Payment of long-term notes and other liabilities ..................     (62,739)     (10,549)     (12,890)
     Increase in long term borrowings ..................................      19,993         --           --
     Issuance of subsidiary stock ......................................       5,417         --           --
     Exercise of stock options .........................................        --           --            565
                                                                           ---------    ---------    ---------

Net cash used for financing activities .................................     (24,317)    (137,617)    (117,129)
                                                                           ---------    ---------    ---------

Net (decrease) increase in cash and cash equivalents ...................     (45,676)       5,540     (324,428)
Cash and cash equivalents, beginning of year ...........................      57,282       51,742      376,170
                                                                           ---------    ---------    ---------

Cash and cash equivalents, end of year .................................   $  11,606    $  57,282    $  51,742
                                                                           =========    =========    =========
</TABLE>



          See accompanying Notes to Consolidated Financial Statements


                                       43
<PAGE>   46
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

               CONSOLIDATED STATEMENTS OF CASH FLOWS - (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>

                                                                                        YEAR ENDED DECEMBER 31,
                                                                                 -----------------------------------
                                                                                   1997          1996          1995
                                                                                 --------      --------      ------
<S>                                                                              <C>           <C>          <C>     
Supplemental cash flow information:
   Cash paid during the year for:
     Interest..............................................................      $ 16,667      $17,482      $  2,105
     Income taxes..........................................................           116        2,341        33,662

Detail of acquisitions:
   Fair value of assets acquired...........................................      $ 94,114      $27,301       $59,066
   Liabilities assumed.....................................................        74,100       16,701        32,316
                                                                                 --------     --------      --------
   Cash paid...............................................................        20,014       10,600        26,750
                                                                                 --------     --------      --------
   Less cash acquired......................................................          --        (12,515)       (1,000)
                                                                                 --------     --------      --------
   Net cash (paid) received for acquisition................................      $(20,014)    $  1,915      $(25,750)
                                                                                 ========     ========      ========
</TABLE>






          See accompanying Notes to Consolidated Financial Statements






                                       44





<PAGE>   47
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


1.       BASIS OF PRESENTATION

         PRINCIPLES OF CONSOLIDATION

         The consolidated financial statements include the accounts of New
Valley Corporation and its majority owned subsidiaries (the "Company"). All
significant intercompany transactions are eliminated in consolidation.

         Certain amounts in the 1995 and 1996 financial statements have been
reclassified to conform to the 1997 presentation.

         NATURE OF OPERATIONS

         The Company and its subsidiaries are engaged in the investment banking
and brokerage business, in the ownership and management of commercial real
estate, and in the acquisition of operating companies. As discussed in Note 21,
the investment banking and brokerage segment accounted for 49% and 55% of the
Company's revenues and 39% and 2% of the Company's operating loss from
continuing operations for the years ended December 31, 1997 and 1996,
respectively. The Company's investment banking and brokerage segment provides
its services principally for middle market and emerging growth companies through
a coordinated effort among corporate finance, research, capital markets,
investment management, brokerage and trading professionals.

         REORGANIZATION

         On November 15, 1991, an involuntary petition under Chapter 11 of Title
11 of the United States Code (the "Bankruptcy Code") was commenced against the
Company in the United States Bankruptcy Court for the District of New Jersey
(the "Bankruptcy Court"). On March 31, 1993, the Company consented to the entry
of an order for relief placing it under the protection of Chapter 11 of the
Bankruptcy Code.

         On November 1, 1994, the Bankruptcy Court entered an order confirming
the First Amended Joint Chapter 11 Plan of Reorganization, as amended (the
"Joint Plan"). The terms of the Joint Plan provided for, among other things, the
sale of Western Union Financial Services Company, Inc. ("FSI"), a wholly-owned
subsidiary of the Company, and certain other Company assets related to FSI's
money transfer business, payment in cash of all allowed claims, payment of
postpetition interest in the amount of $178,000 to certain creditors, a $50 per
share cash dividend to the holders of the Company's $15.00 Class A Increasing
Rate Cumulative Senior Preferred Shares ($100 Liquidation Value), $.01 par value
per share (the "Class A Senior Preferred Shares"), a tender offer by the Company
for up to 150,000 shares of the Class A Senior Preferred Shares, at a price of
$80 per share, and the reinstatement of all of the Company's equity interests.

         On November 15, 1994, pursuant to the Asset Purchase Agreement, dated
as of October 20, 1994, as amended (the "Purchase Agreement"), by and between
the Company and First Financial Management Corporation ("FFMC"), FFMC purchased
all of the common stock of FSI and other assets relating to FSI's money transfer
business for $1,193,000 (the "Purchase Price"). The Purchase Price consisted of
$593,000 in cash, $300,000 representing the assumption of the Western Union
Pension Plan obligation, and $300,000 paid on January 13, 1995 for certain
intangible assets of FSI. The Purchase Agreement contained various terms and
conditions, including the escrow of $45,000 of the Purchase Price, a put option
by the Company to sell to FFMC, and a call option by FFMC to purchase, Western
Union Data Services Company, Inc., a wholly-owned subsidiary of the Company
engaged in the messaging service business (the "Messaging Services Business"),
for $20,000, exercisable during the first quarter of 1996, and various services
agreements between the Company and FFMC.

         On January 18, 1995, the effective date of the Joint Plan, the Company
paid approximately $550,000 on account of allowed prepetition claims and emerged
from bankruptcy. At December 31, 1997, the Company's remaining accruals totaled
$12,611 for unsettled prepetition claims and restructuring accruals (see 
Note 17). The Company's accounting policy is to evaluate the remaining
restructuring accruals on a quarterly basis and adjust liabilities as claims
are settled or dismissed by the Bankruptcy Court.





                                       45


<PAGE>   48
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


         On October 31, 1995, the Company completed the sale of substantially
all of the assets (exclusive of certain contracts), and conveyed substantially
all of the liabilities, of the Messaging Services Business to FFMC for $20,000,
which consisted of $17,540 in cash and $2,460 in cancellation of intercompany
indebtedness. The sale of the Messaging Services Business was effective as of
October 1, 1995, and the Company recognized a gain on the sale of such business
of $12,558, net of income taxes of $1,400.

2.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

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

         REINCORPORATION AND REVERSE STOCK SPLIT. On July 29, 1996, the Company
completed its reincorporation from the State of New York to the State of
Delaware and effected a one-for-twenty reverse stock split of the Company's
Common Shares. In connection with the reverse stock split, all per share data
have been restated to reflect retroactively the reverse stock split.

         CASH AND CASH EQUIVALENTS. The Company considers all highly liquid
financial instruments with an original maturity of less than three months to be
cash equivalents.

         FAIR VALUE OF FINANCIAL INSTRUMENTS. Investments in securities and
securities sold, not yet purchased traded on a national securities exchange or
listed on NASDAQ are valued at the last reported sales prices of the reporting
period. Futures contracts are valued at their last reported sales price.
Investments in securities, principally warrants, which have exercise or holding
period restrictions, are valued at fair value as determined by the Company's
management based on the intrinsic value of the warrants discounted for such
restrictions. For cash and cash equivalents, restricted assets, receivable from
clearing brokers, and short-term loan, the carrying value of these amounts is a
reasonable estimate of their fair value. The fair value of long-term debt,
including current portion, is estimated based on current rates offered to the
Company for debt of the same maturities. The fair value of the Company's
redeemable preferred shares is based on their last reported sales price.

         INVESTMENT SECURITIES. The Company classifies investments in debt and
marketable equity securities as either trading, available for sale, or held to
maturity. Trading securities are carried at fair value, with unrealized gains
and losses included in income. Investments classified as available for sale are
carried at fair value, with net unrealized gains and losses included as a
separate component of shareholders' equity (deficit). Debt securities classified
as held to maturity are carried at amortized cost. Realized gains and losses are
included in other income, except for those relating to the Company's
broker-dealer subsidiary which are included in principal transactions revenues.
The cost of securities sold is determined based on average cost.

         RESTRICTED ASSETS. Restricted assets at December 31, 1997 consisted
primarily of $5,484 pledged as collateral for a $5,000 letter of credit which is
used as collateral for a long-term lease of commercial office space. Restricted
assets at December 31, 1996 consisted primarily of $5,266 pledged as collateral
for a $5,000 letter of credit which is used as collateral for a long-term lease
of commercial office space, and $3,275 pledged as collateral for a letter of
credit which is used as collateral for an insurance policy.

         PROPERTY AND EQUIPMENT. Office buildings are depreciated over periods
approximating 40 years, the estimated useful life, using the straight-line
method (see Note 7). Shopping centers are depreciated over periods approximating
25 years, the estimated useful life, using the straight-line



                                       46



<PAGE>   49
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)






method. Furniture and equipment (including equipment subject to capital leases)
is depreciated over the estimated useful lives, using the straight-line method.
Leasehold improvements are amortized on a straight-line basis over their
estimated useful lives or the lease term, if shorter. The cost and the related
accumulated depreciation are eliminated upon retirement or other disposition and
any resulting gain or loss is reflected in operations. Depreciation and
amortization expense was $9,414, $4,757, and $608 in 1997, 1996, and 1995,
respectively.

         INCOME TAXES. Under Statement of Financial Accounting Standards
("SFAS") No. 109, "Accounting for Income Taxes", deferred taxes reflect the
impact of temporary differences between the amounts of assets and liabilities
recognized for financial reporting purposes and the amounts recognized for tax
purposes as well as tax credit carryforwards and loss carryforwards. These
deferred taxes are measured by applying currently enacted tax rates. A valuation
allowance reduces deferred tax assets when it is deemed more likely than not
that some portion or all of the deferred tax assets will not be realized.

         SECURITIES SOLD, NOT YET PURCHASED. Securities sold, not yet purchased
represent obligations of the Company to deliver a specified security at a
contracted price and thereby create a liability to repurchase the security in
the market at prevailing prices. Accordingly, these transactions involve, to
varying degrees, elements of market risk, as the Company's ultimate obligation
to satisfy the sale of securities sold, not yet purchased may exceed the amount
recognized in the consolidated balance sheet.

         REAL ESTATE LEASING REVENUES. The real estate properties are being
leased to tenants under operating leases. Base rental revenue is generally
recognized on a straight-line basis over the term of the lease. The lease
agreements for certain properties contain provisions which provide for
reimbursement of real estate taxes and operating expenses over base year
amounts, and in certain cases as fixed increases in rent. In addition, the lease
agreements for certain tenants provide additional rentals based upon revenues in
excess of base amounts, and such amounts are accrued as earned. The future
minimum rents scheduled to be received on non-cancelable operating leases at
December 31, 1997 are $29,130, $25,796, $21,138, $14,156, $12,341 for
the years 1998, 1999, 2000, 2001 and 2002, respectively, and $30,259 for
subsequent years.

         BASIC INCOME (LOSS) PER COMMON SHARE. Basic net income (loss) per
common share is based on the weighted average number of Common Shares
outstanding. Net income (loss) per common share represents net income (loss)
after dividend requirements on redeemable and non-redeemable preferred shares
(undeclared) and any adjustment for the difference between excess of carrying
value of redeemable preferred shares over the cost of the shares purchased.
Diluted net income (loss) per common share assuming full dilution is based on
the weighted average number of Common Shares outstanding plus the additional
common shares resulting from the conversion of convertible preferred shares and
the exercise of stock options and warrants if such conversion was dilutive.

         Options to purchase 330,000 common shares at $.58 per share and 40,417 
common shares issuable upon the conversion of Class B Preferred Shares were not
included in the computation of diluted loss per share as the effect would have
been anti-dilutive.

         In February 1997, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 128, "Earnings Per Share". SFAS No. 128 specifies new standards
designed to improve the earnings per share ("EPS") information provided in
financial statements by simplifying the existing computational guidelines,
revising the disclosure requirements, and increasing the comparability of EPS
data on an international basis. Prior years' EPS have been restated to conform
with standards established by SFAS No. 128.


         RECOVERABILITY OF LONG-LIVED ASSETS. An impairment loss is recognized
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. Beginning in 1995 with the adoption of SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of", assets are grouped and evaluated at the lowest level
for which there are identifiable cash flows that are largely independent of the
cash flows of other groups of assets. The Company considers historical
performance and future estimated results in its evaluation of potential
impairment and then compares the carrying amount of the asset to the estimated
future cash flows expected to result from the use of the asset. If the carrying
amount of the asset exceeds estimated expected undiscounted future cash flows,
the Company measures the amount of the impairment by comparing the carrying
amount of the asset to its fair value. The estimation of fair value is generally
measured by discounting expected future cash flows at the rate the Company
utilizes to evaluate potential investments. The Company estimates fair value
based on the best information available making whatever estimates, judgments and
projections are considered necessary.

 
                                       47


<PAGE>   50
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


         NEW ACCOUNTING PRONOUNCEMENTS. 

         In June 1997, the FASB released SFAS No. 130, "Reporting Comprehensive
Income). SFAS No. 130 establishes standards for the reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements and is effective for fiscal years beginning after December
15, 1997. The Company believes that adoption of SFAS No. 130 will not have a
material impact on the Company's financial statements.

         In October 1997, the AICPA issued SOP 97-2, "Software Revenue
Recognition". SOP 97-2 provides guidance in recognizing revenue on software
transactions when persuasive evidence of an arrangement exists, delivery has
occurred, the vendor's fee is fixed or determinable and collectibility is
probable. SOP 97-2 is effective for transactions entered into in fiscal years
beginning after December 15, 1997. The Company believes that adoption of SOP
97-2 will not have a material impact on the Company's financial statements.

         In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information," which establishes standards for the
way that public business enterprises report information about operating
segments. SFAS No. 131 is effective for financial statements for fiscal years
beginning after December 15, 1997. The Company is currently reviewing its
operating segments disclosures and will adopt SFAS No. 131 in the fourth quarter
of 1998. 

         The SEC recently issued new rules which will require the Company,
commencing with filings which include financial statements for fiscal year 1998,
to provide disclosure of quantitative and qualitative information relating to
derivative financial instruments, derivative commodity instruments and other
financial instruments. These disclosures are intended to provide investors with
information relating to market risk exposure, including the Company's
objectives, strategies and instruments used to manage exposures. The disclosures
are required to be presented outside of, and not incorporated into, the
Company's consolidated financial statements. This disclosure requirement will be
applicable principally to the Company's Ladenburg Thalmann broker-dealer
subsidiary. The impact of the implementation of this new disclosure requirement
is not yet determinable.

3.       ACQUISITIONS

         On May 31, 1995, the Company consummated its acquisition of Ladenburg,
Thalmann & Co. Inc. ("Ladenburg"), a registered broker-dealer and investment
bank, for $25,750, net of cash acquired. The acquisition was treated as a
purchase for financial reporting purposes and, accordingly, these consolidated
financial statements include the operations of Ladenburg from the date of
acquisition. The excess of the consideration paid over the estimated fair value
of net assets acquired of $1,342 has been recorded as goodwill to be amortized
on a straight-line basis over 15 years.

         On January 10 and January 11, 1996, the Company acquired four
commercial office buildings (the "Office Buildings") and eight shopping centers
(the "Shopping Centers") for an aggregate purchase price of $183,900, consisting
of $23,900 in cash and $160,000 in non-recourse mortgage financing provided by
the sellers. In addition, the Company has capitalized approximately $800 in
costs related to the acquisitions. The Company paid $11,400 in cash and executed
four promissory notes aggregating $100,000 for the Office Buildings. The
Shopping Centers were acquired for an aggregate purchase price of $72,500,
consisting of $12,500 in cash and $60,000 in eight promissory notes. In November
1997, the Company sold one of the Shopping Centers for $5,400 and realized a
gain of $1,200.

         On January 11, 1996, the Company provided a $10,600 convertible bridge
loan to finance Thinking Machines Corporation ("Thinking Machines"), a developer
and marketer of data mining and knowledge discovery software and services. In
February 1996, the bridge loan was converted into a controlling interest in a
partnership which held approximately 61.4% of Thinking Machines' outstanding
common shares. In December 1997, the Company acquired for $3,150 additional
shares in Thinking Machines pursuant to a rights offering by Thinking Machines
to its existing shareholders which increased the Company's ownership to
approximately 72.7% of the outstanding Thinking Machines shares. As a result of
the rights offering, the Company recorded $2,417 as additional paid-in-capital
which represented its interest in the increase in Thinking Machines'
shareholders' equity. The acquisition of Thinking Machines through the
conversion of the bridge loan was accounted for as a purchase for financial
reporting purposes, and accordingly, the operations of Thinking Machines
subsequent to January 31, 1996 are included in the operations of the Company.
The fair value of assets acquired, including goodwill of $1,726, was $27,301 and
liabilities assumed totaled $7,613. In addition, minority interests in the
amount of $9,088 were recognized at the time of acquisition. To date, no
material revenues have been recognized by Thinking Machines with respect to the
sale or licensing of such software and services. Thinking Machines is also
subject to uncertainties relating to, without limitation, the development and
marketing of computer products, including customer acceptance and required
funding, technological changes, capitalization, and the ability to utilize and
exploit its intellectual property and propriety software technology.

                                       48

<PAGE>   51
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




         On January 31, 1997, the Company entered into a stock purchase 
agreement (the "Purchase Agreement") with Brooke (Overseas) Ltd. ("Brooke
(Overseas)"), a wholly-owned subsidiary of Brooke Group Ltd. ("Brooke"), an
affiliate of the Company, pursuant to which the Company acquired 10,483 shares
(the "BML Shares") of the common stock of BrookeMil Ltd. ("BML") from Brooke
(Overseas) for a purchase price of $55,000, consisting of $21,500 in cash and a
$33,500 9% promissory note of the Company (the "Note"). The BML Shares comprise
99.1% of the outstanding shares of BML, a real estate development company in
Russia. The Note, which was collateralized by the BML Shares, was paid during
1997.

         BML is developing a three-phase complex on 2.2 acres of land in
downtown Moscow. In 1993, the first phase of the project, Ducat Place I, a
46,500 sq. ft. Class-A office building, was constructed and leased. On April 18,
1997, BML sold Ducat Place I to one of its tenants for approximately $7,500,
which purchase price had been reduced to reflect prepayments of rent. In 1997,
BML completed construction of Ducat Place II, a 150,000 sq. ft. office building.
Ducat Place II has been leased to a number of leading international companies.
The third phase, Ducat Place III, is planned as a 350,000 sq. ft. mixed-use
complex, with construction anticipated to commence in 1999. The site of Ducat
Place III, which is currently used by a subsidiary of Brooke (Overseas) as the
site for a factory, is subject to a put option held by the Company. The option
allows the Company to put this site back to Brooke (Overseas) and BGLS Inc., a
subsidiary of Brooke, at the greater of the appraised fair value of the property
at the date of exercise or $13,600, during the period the subsidiary of Brooke
(Overseas) operates the factory on such site.

         In connection with the Purchase Agreement, certain specified
liabilities of BML aggregating approximately $40,000 remained as liabilities of
BML after the purchase of the BML Shares by the Company. These liabilities
included a $20,400 loan to a Russian bank for the construction of Ducat Place II
(the "Construction Loan"). In addition, the liabilities of BML at the time of
purchase included approximately $13,800 of rents and related payments prepaid by
tenants of Ducat Place II for periods generally ranging from 15 to 18 months.

         The fair value of the assets acquired, including goodwill of $12,400,
was $95,500. The Company is amortizing the goodwill over a five year period.

         The following table presents unaudited pro forma results of continuing
operations as if the acquisition of BML had occurred on January 1, 1996. These
pro forma results have been prepared for comparative purposes only and do not
purport to be indicative of what would have occurred had this acquisition been
consummated as of such date.

<TABLE>
<CAPTION>
                                                                             Pro Forma
                                                                     Year Ended December 31, 1996
                                                                     ----------------------------
<S>                                                                  <C>
         Revenue..............................................                $ 133,540
                                                                              =========

         Loss from continuing operations......................                $ (16,811)
                                                                              =========
         Loss from continuing operations applicable
              to common shares................................                $ (74,481)
                                                                              =========
         Loss from continuing operations per common share.....                $   (7.77)
                                                                              =========
</TABLE>


         In August 1997, BML refinanced all amounts due under the Construction
Loan with borrowings under a new credit facility with another Russian bank. The
new credit facility bears interest at 16% per year, matures no later than August
2002, with principal payments commencing after the first year, and is
collateralized by a mortgage on Ducat Place II and guaranteed by the Company. At
December 31, 1997, borrowings under the new credit facility totaled $20,078.

         In February 1998, the Company entered into a joint venture to make real
estate and other investments in Russia to which the real estate assets of BML,
including Ducat Place II and the site for Ducat Place III, will be contributed
(see Note 22).

4.       DISCONTINUED OPERATIONS

         As noted above, the Company sold the Messaging Services Business
effective October 1, 1995. Accordingly, the financial statements reflect the
financial position and the results of operations of the discontinued operations
of FSI and the Messaging Services Business separately from continuing
operations.

         Summarized operating results of the discontinued operations of the
Messaging Services Business for the nine months ended September 30, 1995.


                                       49
<PAGE>   52
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


<TABLE>
<S>                                                            <C>
Revenues...........................................            $37,771
                                                                ======
Operating income...................................            $ 4,795
                                                                 =====
Income before income taxes and minority
     interests.....................................            $ 4,795
Provision for income taxes.........................                480 
Minority interests.................................                 -- 
                                                               ------- 
Net income.........................................            $ 4,315 
                                                                 =====
</TABLE>

         During the fourth quarter of 1996, the Company received $5,774 in cash
and $600 in a promissory note (paid in 1997) in settlement of a receivable claim
originally began by Western Union Telegraph Company. In addition, the Company
reduced its liability related to certain Western Union retirees by $784. The
Company recorded the gain on settlement of $6,374 and liability reduction of
$784 as gain on disposal of discontinued operations. During 1997, the Company
recorded a gain on disposal of discontinued operations of $3,687 related to
reversals in estimates of certain pre-petition claims under Chapter 11 and
restructuring which resulted from the Company's Money Transfer business.

 5.      INVESTMENT SECURITIES AVAILABLE FOR SALE

         Investment securities classified as available for sale are carried at
fair value, with net unrealized gains included as a separate component of
shareholders' equity (deficit). The Company had net unrealized gains on sales of
investment securities available for sale of $7,596 ($12,431 of unrealized gains
and $4,835 of unrealized losses) for the year ended December 31, 1997 and $1,347
($6,114 of unrealized gains and $4,767 of unrealized losses) for the year ended
December 31, 1996.






                                       50
<PAGE>   53
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




         The components of investment securities available for sale are as
follows:
<TABLE>
<CAPTION>

                                                                               GROSS          GROSS
                                                                            UNREALIZED     UNREALIZED        FAIR
                                                                 COST          GAIN           LOSS          VALUE
                                                                 ----          ----           ----          -----
<S>                                                               <C>          <C>            <C>             <C>
          1997
          ----
          Short-term investments.........................       $  6,218            --             --        $ 6,218
          Marketable equity securities...................         34,494       $ 7,492        $ 2,101         39,885
          Marketable warrants............................             --         4,939             --          4,939
          Marketable debt securities ....................          3,685            --          2,734            951
                                                                 -------     ---------          -----        -------
          Investment securities..........................       $ 44,397      $ 12,431        $ 4,835       $ 51,993
                                                                  ======        ======          =====         ======

          1996
          ----
          Marketable equity securities...................      $  55,429      $  6,501      $     476      $  61,454
          Marketable debt securities (long-term).........          3,685            --            969          2,716
                                                                  ------       -------         ------         ------
          Total securities available for sale............         59,114         6,501          1,445         64,170
          Less long-term portion of investment
                securities...............................         (3,685)           --           (969)        (2,716)
                                                                 -------       -------          -----        -------
          Investment securities - current portion........      $  55,429      $  6,501       $    476      $  61,454
                                                                  ======         =====         ======         ======
</TABLE>
         Included in marketable debt securities are acquired securities with
a face amount of $14,900 (cost of $3,185) of a company that was in default
at the time of purchase and is currently in default under its various debt
obligations.

INVESTMENT IN RJR NABISCO

         As of December 31, 1997 and 1996, the Company held 612,650 and
1,741,150, respectively, shares of common stock of RJR Nabisco Holdings Corp.
("RJR Nabisco") with a market value of $22,898 (cost of $18,780) and $59,199
(cost of $53,372), respectively. The Company expensed $100 in 1997, $11,724 in
1996 and $3,879 in 1995 relating to the RJR Nabisco investment.

         In June 1996, various agreements between High River Limited Partnership
("High River"), the Company and Brooke were terminated by mutual consent.
Pursuant to these agreements the parties had agreed to take certain actions
during late 1995 and throughout 1996 designed to cause RJR Nabisco to effectuate
a spinoff of its food business, Nabisco Holdings Corp. The termination of the
High River agreements left in effect for one year certain provisions concerning
payments to be made to High River in the event the Company achieved a profit
(after deducting certain expenses) on the sale of the shares of RJR Nabisco
common stock which were held by it or they were valued at the end of such year
at higher than their purchase price or in the event Brooke or its affiliates
engaged in certain transactions with RJR Nabisco. Based on the market price of
RJR Nabisco common stock, no amounts were payable by the Company under these
agreements.

         Pursuant to a December 31, 1995 agreement between the Company and
Brooke whereby the Company agreed to reimburse Brooke and its subsidiaries for
certain reasonable out-of-pocket expenses relating to RJR Nabisco, the Company
paid Brooke and its subsidiaries a total of $17 and $2,370 in 1997 and 1996.

         On February 29, 1996, the Company entered into a total return equity
swap transaction (the "Swap") with an unaffiliated company (the "Counterparty")
relating to 1,000,000 shares of RJR Nabisco common stock (reduced to 750,000
shares of RJR Nabisco common stock as of August 13, 1996). The Company entered
into the Swap in order to be able to participate in any increase or decrease in
the value of the RJR Nabisco common stock during the term of the Swap. The
transaction was for a period of up to six months, unless extended by the
parties, subject to earlier termination at the election of the Company, and
provided for the Company to make a payment to the Counterparty of $1,537 upon
commencement of the Swap. At the termination of the transaction, if the price of
the RJR Nabisco common stock during a specified period prior to such date (the
"Final Price") exceeded $34.42, 




                                       51



<PAGE>   54
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)



the price of the RJR Nabisco common stock during a specified period following
the commencement of the Swap (the "Initial Price"), the Counterparty was
required to pay the Company an amount in cash equal to the amount of such
appreciation with respect to the shares of RJR Nabisco common stock subject to
the Swap plus the value of any dividends with a record date occurring during the
Swap period. If the Final Price was less than the Initial Price, then the
Company was required to pay the Counterparty at the termination of the
transaction an amount in cash equal to the amount of such decline with respect
to the shares of RJR Nabisco common stock subject to the Swap, offset by the
value of any dividends, provided that, with respect to approximately 225,000
shares of RJR Nabisco common stock, the Company was not required to pay any
amount in excess of an approximate 25% decline in the value of the shares. The
potential obligations of the Counterparty under the Swap were guaranteed by the
Counterparty's parent, a large foreign bank, and the Company pledged certain
collateral in respect of its potential obligations under the Swap and agreed to
pledge additional collateral under certain conditions. The Company marked its
obligation with respect to the Swap to fair value with unrealized gains or
losses included in income. During the third quarter of 1996, the Swap was
terminated in connection with the Company's reduction of its holdings of RJR
Nabisco common stock, and the Company recognized a loss on the Swap of $7,305
for the year ended December 31, 1996.

6.       TRADING SECURITIES OWNED AND SECURITIES SOLD, NOT YET PURCHASED

         The components of trading securities owned and securities sold, not yet
purchased are as follows:
<TABLE>
<CAPTION>

                                                  DECEMBER 31, 1997              DECEMBER 31, 1996
                                                  -----------------              -----------------
                                               TRADING       SECURITIES       TRADING        SECURITIES
                                              SECURITIES    SOLD, NOT YET    SECURITIES    SOLD, NOT YET
                                                OWNED         PURCHASED        OWNED         PURCHASED
                                                -----         ---------        -----         ---------
<S>                                           <C>               <C>            <C>            <C>     
           Common stock.................      $  16,208         $ 4,513        $21,248        $  5,900
           Equity and index options.....          5,290          17,494          6,241          11,243
           Other........................         28,490           3,603          2,272              --
                                                -------         -------        -------      ----------
                                               $ 49,988        $ 25,610        $29,761         $17,143
                                                 ======          ======         ======          ======
</TABLE>


7.       INVESTMENT IN REAL ESTATE AND NOTES PAYABLE

         The components of the Company's investment in real estate and the
related non-recourse notes payable collateralized by such real estate at
December 31, 1997 are as follows:

<TABLE>
<CAPTION>
                                                  U.S.            RUSSIAN
                                                 OFFICE           OFFICE           SHOPPING
                                               BUILDINGS         BUILDINGS         CENTERS            TOTAL
                                               ---------         ---------         -------            -----
<S>                                              <C>              <C>               <C>              <C>
Land........................................     $ 19,450         $  19,300         $ 16,087         $ 54,837
Buildings...................................       92,332            66,688           51,430          210,450
                                                 --------         ---------         --------         --------
     Total..................................      111,782            85,988           67,517          265,287
Less accumulated depreciated................       (4,616)             (879)          (3,147)          (8,642)
                                                 --------         ---------         --------         --------
     Net investment in real estate..........     $107,166         $  85,109         $ 64,370         $256,645
                                                 ========         =========         ========         ========
Notes payable...............................     $ 99,302         $  20,078         $ 54,801         $174,181
Current portion of notes payable............          336               424                               760
                                                 --------         ---------         --------         --------
Notes payable - long-term portion...........     $ 98,966         $  19,654         $ 54,801         $173,421
                                                 ========         =========         ========         ========
</TABLE>


                                       52

<PAGE>   55
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


         At December 31, 1997, the Company's investment in real estate
collateralized four promissory notes aggregating $99,302 related to the Office
Buildings and eight promissory notes aggregating $54,801 related to the Shopping
Centers. The Office Building notes bear interest at 7.5%, require principal
amortization over approximately 40 years, with maturity dates ranging from 2006
to 2011. The Office Building notes have fixed monthly principal and interest
payments aggregating $648. Each Shopping Center note has a term of five years,
requires no principal amortization, and bears interest payable monthly at the
rate of 8% for the first two and one-half years and at the rate of 9% for the
remainder of the term. In November 1997, the Company sold one of the Shopping
Centers for $5,400 and realized a gain of $1,200.

         Required principal payments on the notes payable over the next five
years are $760 in 1998, $5,675 in 1999, $7,243 in 2000, $62,741 in 2001 and $462
in 2002 and $97,300 thereafter.

8.       LONG-TERM INVESTMENTS

         Long-term investments consisted of investments in the following:
<TABLE>
<CAPTION>

                                                 DECEMBER 31, 1997                 DECEMBER 31, 1996
                                            -------------------------          -------------------------
                                            CARRYING            FAIR           CARRYING            FAIR
                                              VALUE            VALUE             VALUE            VALUE
                                              -----            -----             -----            -----
<S>                                         <C>              <C>               <C>              <C>     
          Limited partnerships.......       $ 27,224         $ 33,329          $  7,054         $  7,914
          Foreign corporations.......             --               --             2,000            2,000
          Joint venture..............             --               --             3,796            3,796
          Other......................             --               --               420              420
                                             -------          -------          --------         --------

          Total .....................       $ 27,224         $ 33,329           $13,270          $14,130
                                              ======           ======            ======           ======
</TABLE>

         The principal business of the limited partnerships is investing in
investment securities. The estimated fair value of the limited partnerships was
provided by the partnerships based on the indicated market values of the
underlying investment portfolio. The Company is required under certain limited
partnership agreements to make additional investments up to an aggregate of
$5,740 as of December 31, 1997. The Company's investments in limited
partnerships are illiquid, and the ultimate realization of these investments is
subject to the performance of the underlying partnership and its management by
the general partners. During 1997, the Company sold for an amount which
approximated its $2,000 cost an investment in a foreign corporation which owned
an interest in a Russian bank. During 1997, the Company determined that an other
than temporary impairment in the value of its investment in a joint venture had
occurred and wrote-down this investment to zero with a charge to operations of
$3,796.

         In January 1997, the Company converted an investment in preferred stock
made in 1995 into a majority equity interest in a small on-line directory
assistance development stage company and, accordingly, began consolidating the
results of this company. This long-term investment of $1,001 was written off in
1996 due to continuing losses of this company. In May 1997, this development
stage company completed an initial public offering and, as a result, the Company
recorded $2,715 as additional paid-in capital which represented its 50.1%
ownership in this company's shareholders' equity after this offering.

         The Company's estimate of the fair value of its long-term investments
are subject to judgment and are not necessarily indicative of the amounts that
could be realized in the current market.


                                       53

<PAGE>   56
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




9.       PENSIONS AND RETIREE BENEFITS

         Ladenburg has a Profit Sharing Plan (the "Plan") for substantially all
its employees. The Plan includes two features: profit sharing and a deferred
compensation vehicle. Contributions to the profit sharing portion of the Plan
are made by Ladenburg on a discretionary basis. The deferred compensation
feature of the Plan enables non-salaried employees to invest up to 15% of their
pre-tax annual compensation. For the years ended December 31, 1996 and 1995,
employer contributions to the Plan were approximately $200 in each year,
excluding those made under the deferred compensation feature described above.
The Plan was inactive in 1997.

         The Company maintains 401(k) plans for substantially all employees,
except those employees of Thinking Machines. These 401(k) plans allow eligible
employees to invest a percentage of their pre-tax compensation. The Company
committed to contribute $500 of matching contributions in 1997. The Company did
not make discretionary contributions to these 401(k) plans in 1996.

10.      COMMITMENT AND CONTINGENCIES

         LEASES

         The Company, Thinking Machines and Ladenburg are currently obligated
under three noncancelable lease agreements for office space, expiring in
September 2000, October 1998 and December 2015, respectively. The following is a
schedule by fiscal year of future minimum rental payments required under the
agreements that have noncancelable terms of one year or more at December 31,
1997:

          1998......................................                   $  5,966
          1999......................................                      5,597
          2000......................................                      5,360
          2001......................................                      4,001
          2002......................................                      3,795
          2003 and thereafter.......................                     50,246
                                                                       --------

               Total................................                   $ 74,965
                                                                       ========

         Rental expense for operating leases during 1997, 1996 and 1995 was
$4,076, $3,914 and $1,677, respectively.

         LAWSUITS

         On or about March 13, 1997, a shareholder derivative suit was filed
against the Company, as a nominal defendant, its directors and Brooke in the
Delaware Chancery Court, by a shareholder of the Company. The suit alleges that
the Company's purchase of the BML Shares constituted a self-dealing transaction
which involved the payment of excessive consideration by the Company. The
plaintiff seeks (i) a declaration that the Company's directors breached their
fiduciary duties, Brooke aided and abetted such breaches and such parties are
therefore liable to the Company, and (ii) unspecified damages to be awarded to
the Company. The Company's time to respond to the complaint has not yet expired.
The Company believes that the allegations were without merit. Although there can
be no assurances, management is of the opinion, after consultation with counsel,
that the ultimate resolution of this matter will not have a material adverse
effect on the Company's consolidated financial position, results of operations
or cash flows.

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

                                       54

<PAGE>   57
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




11.      FEDERAL INCOME TAX

         At December 31, 1997, the Company had $97,444 of unrecognized net
deferred tax assets, comprised primarily of net operating loss carryforwards,
available to offset future taxable income for federal tax purposes. A valuation
allowance has been provided against this deferred tax asset as it is presently
deemed more likely than not that the benefit of the tax asset will not be
utilized. The Company continues to evaluate the realizability of its deferred
tax assets and its estimate is subject to change. The provision for income
taxes, which represented the effect of the Alternative Minimum Tax and state
income taxes, for the three years ended December 31, 1997, 1996 and 1995, does
not bear a customary relationship with pre-tax accounting income from continuing
operations principally as a consequence of the change in the valuation allowance
relating to deferred tax assets. The provision for income taxes on continuing
operations differs from the amount of income tax determined by applying the
applicable U.S. statutory federal income tax rate (35%) to pretax income from
continuing operations as a result of the following differences:
<TABLE>
<CAPTION>

                                                                           1997         1996         1995
                                                                           ----         ----         ----
<S>                                                                    <C>            <C>            <C>   
          (Loss) income from continuing operations..................    $(24,074)     $(14,348)      $1,666
                                                                         -------       -------       ------

          (Credit) provision under statutory U.S. tax rates.........      (8,426)       (5,022)         583
          Increase (decrease) in taxes resulting from:
              Nontaxable items......................................       2,603          (224)         543
              State taxes, net of Federal benefit...................          55           195          180
              Foreign Taxes.........................................         108
          Increase (decrease) in valuation reserve..................       5,846         5,351       (1,014)
                                                                         -------       -------       ------
                    Income tax provision............................      $  186        $  300       $  292
                                                                         =======       =======       ======
</TABLE>

         Income taxes associated with discontinued operations and extraordinary
items have been shown net of the utilization of the net operating loss
carryforward and the change in other deferred tax assets.

         Deferred tax amounts are comprised of the following at December 31:
<TABLE>
<CAPTION>

                                                                                 1997              1996
                                                                                 ----              ----
<S>                                                                             <C>              <C>    
          Deferred tax assets:
              Net operating loss carryforward:
                Restricted net operating loss...........................        $15,561          $18,675
                Unrestricted net operating loss.........................         70,216           65,237
              Other.....................................................         17,209           10,399
                                                                               --------         --------

              Total deferred tax assets.................................        102,986           94,311
                                                                               --------         --------

          Deferred tax liabilities:

              Other.....................................................         (5,542)          (3,039)
                                                                               --------         --------

          Total deferred tax liabilities................................         (5,542)          (3,039)
                                                                               --------         --------

          Net deferred tax assets.......................................         97,444           91,272
          Valuation allowance...........................................        (97,444)         (91,272)
                                                                               --------         --------

          Net deferred taxes............................................       $     --         $     --
                                                                               ========         ========
</TABLE>




                                       55
<PAGE>   58
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)





         In December 1987, the Company consummated certain restructuring
transactions that included certain changes in the ownership of the Company's
stock. The Internal Revenue Code restricts the amount of future income that may
be offset by losses and credits incurred prior to an ownership change. The
Company's annual limitation on the use of its net operating losses is
approximately $7,700, computed by multiplying the "long-term tax exempt rate" at
the time of change of ownership by the fair market value of the company's
outstanding stock immediately before the ownership change. The limitation is
cumulative; any unused limitation from one year may be added to the limitation
of a following year. Operating losses incurred subsequent to an ownership change
are generally not subject to such restrictions.

         As of December 31, 1997, the Company had consolidated net operating
loss carryforwards of approximately $213,000 for tax purposes, which expire at
various dates through 2008. Approximately $38,700 net operating loss
carryforwards constitute pre-change losses and $174,300 of net operating losses
were unrestricted.

12.      OTHER LONG-TERM LIABILITIES

         The components of other long-term liabilities, excluding notes payable,
are as follows:
<TABLE>
<CAPTION>

                                                                                    DECEMBER 31,
                                                                --------------------------------------------------
                                                                         1997                        1996
                                                                -----------------------     -----------------------
                                                                LONG-TERM      CURRENT      LONG-TERM      CURRENT
                                                                 PORTION       PORTION       PORTION       PORTION
                                                                ---------      -------      ---------      -------
<S>                                                              <C>           <C>          <C>             <C>   
          Retiree and disability obligations..............       $ 3,638       $ 2,000      $  6,774        $1,700
          Minority interests..............................         6,112            --         4,775            --
          Other long-term liabilities.....................         1,460            --           733           300
                                                                  ------        ------       -------        ------

          Total other long-term liabilities...............      $ 11,210       $ 2,000       $12,282        $2,000
                                                                  ======         =====        ======         =====
</TABLE>


13.      REDEEMABLE PREFERRED SHARES

         At December 31, 1997 and 1996, the Company had authorized and
outstanding 2,000,000 and 1,071,462, respectively, of its Class A Senior
Preferred Shares. At December 31, 1997 and 1996, respectively, the carrying
value of such shares amounted to $258,638 and $210,571, including undeclared
dividends of $163,302 and $117,117, or $152.41 and $109.31 per share.

         The holders of Class A Senior Preferred Shares are currently entitled
to receive a quarterly dividend, as declared by the Board, payable at the rate
of $19.00 per annum. The Class A Senior Preferred Shares are mandatorily
redeemable on January 1, 2003 at $100 per share plus accrued dividends. The
Class A Senior Preferred Shares were recorded at their market value ($80 per
share) at December 30, 1987, the date of issuance. The discount from the
liquidation value is accreted, utilizing the interest method, as a charge to
additional paid-in capital and an increase to the recorded value of the Class A
Senior Preferred Shares, through the redemption date. As of December 31, 1997,
the unamortized discount on the Class A Senior Preferred Shares was $4,918.

         In the event a required dividend or redemption is not made on the Class
A Senior Preferred Shares, no dividends shall be paid or declared and no
distribution made on any junior stock other than a dividend payable in junior
stock. If at any time six quarterly dividends payable on the Class A Senior
Preferred Shares shall be in arrears or such shares are not redeemed when
required, the number of directors will be increased by two and the



                                       56


<PAGE>   59
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




holders of the Class A Senior Preferred Shares, voting as a class, will have the
right to elect two directors until full cumulative dividends shall have been
paid or declared and set aside for payment. Such directors were designated
pursuant to the Joint Plan in November 1994.

         Pursuant to the Joint Plan, the Company declared a cash dividend in
December 1994 on the Class A Senior Preferred Shares of $50 per share which was
paid in January 1995. The Company declared and paid cash dividends on the Class
A Senior Preferred Shares of $40 per share in 1996 and $50 per share in 1995.
Undeclared dividends are accrued quarterly and such accrued and unpaid dividends
shall accrue additional dividends in respect thereof compounded monthly at the
rate of 19% per annum, both of which accruals are included in the carrying
amount of redeemable preferred shares, offset by a charge to additional paid-in
capital.

         On April 6, 1995, the Company's Board of Directors (the "Board")
authorized the Company to repurchase as many as 200,000 shares of its Class A
Senior Preferred Shares. The Company completed the repurchase for an aggregate
consideration of $18,674 and thereafter, on June 21, 1995, the Board authorized
the Company to repurchase as many as 300,000 additional shares. The Company
repurchased in the open market 33,000 of such shares in July 1995 and 106,400 of
such shares in September 1995 for an aggregate consideration of $24,732. During
the first quarter of 1996, the Company repurchased 72,104 of such shares for an
aggregate consideration of $10,530. The repurchase of the Class A Senior
Preferred Shares increased the Company's additional paid-in capital by $4,279
for the 72,104 shares acquired in 1996 and by $32,984 for the 339,400 shares
acquired in 1995 based on the difference between the purchase price and the
carrying values of the shares.

         On November 18, 1996, the Company granted to an executive officer and
director of the Company 36,000 Class A Senior Preferred Shares (the "Award
Shares"). The Award Shares are identical with all other Class A Senior Preferred
Shares issued and outstanding as of July 1, 1996, including undeclared dividends
of $3,776 and declared dividends of $1,080. The Award Shares vested one-sixth on
July 1, 1997 and one-sixth on each of the five succeeding one-year anniversaries
thereof through and including July 1, 2002. The Company recorded deferred
compensation of $5,436 representing the fair market value of the Award Shares on
November 18, 1996 and $3,020 of original issue discount representing the
difference between the book value of the Award Shares on November 18, 1996 and
their fair market value. The deferred compensation will be amortized over the
vesting period and the original issue discount will be accreted, utilizing the
interest method, through the redemption date, both through a charge to
compensation expense. During 1997 and 1996, the Company recorded $2,934 and
$359, respectively, in compensation expense related to the Award Shares and, at
December 31, 1997 and 1996, the balance of the deferred compensation and the
unamortized discount related to the Award Shares was $6,890 and $8,097,
respectively.

         For information on Class A Senior Preferred Shares owned by Brooke, see
Note 18.

14.      PREFERRED SHARES NOT SUBJECT TO REDEMPTION REQUIREMENTS

         The holders of the $3.00 Class B Cumulative Convertible Preferred
Shares ($25 Liquidation Value), $.10 par value per share (the "Class B Preferred
Shares"), 12,000,000 shares authorized and 2,790,776 shares outstanding as of
December 31, 1997 and 1996, are entitled to receive a quarterly dividend, as
declared by the Board, at a rate of $3.00 per annum. Undeclared dividends are
accrued quarterly at a rate of 12% per annum, and such accrued and unpaid
dividends shall accrue additional dividends in respect thereof, compounded
monthly at the rate of 12% per annum.

         Each Class B Preferred Share is convertible at the option of the holder
into .41667 Common Shares based on a $25 liquidation value and a conversion
price of $60 per Common Share.


                                       57

<PAGE>   60
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




         At the option of the Company, the Class B Preferred Shares are
redeemable in the event that the closing price of the Common Shares equals or
exceeds 140% of the conversion price at a specified time prior to the
redemption. If redeemed by New Valley, the redemption price would equal $25 per
share plus accrued dividends.

         In the event a required dividend is not paid on the Class B Preferred
Shares, no dividends shall be paid or declared and no distribution made on any
junior stock other than a dividend payable in junior stock. If at any time six
quarterly dividends on the Class B Preferred Shares are in arrears, the number
of directors will be increased by two, and the holders of Class B Preferred
Shares and any other classes of preferred shares similarly entitled to vote for
the election of two additional directors, voting together as a class, will have
the right to elect two directors to serve until full cumulative dividends shall
have been paid or declared and set aside for payment. Such directors were
designated pursuant to the Joint Plan in November 1994.

         No dividends on the Class B Preferred Shares have been declared since
the fourth quarter of 1988. The undeclared dividends, as adjusted for
conversions of Class B Preferred Shares into Common Shares, cumulatively
amounted to $139,412 and $115,944 at December 31, 1997 and 1996, respectively.
These undeclared dividends represent $49.95 and $41.55 per share as of the end
of each period. No accrual was recorded for such undeclared dividends as the
Class B Preferred Shares are not mandatorily redeemable.

15.      COMMON SHARES

         On November 18, 1996, the Company granted an executive officer and
director of the Company nonqualified options to purchase 330,000 Common Shares
at a price of $.58 per share and 97,000 Class B Preferred Shares at a price of
$1.85 per share. These options may be exercised on or prior to July 1, 2006 and
vest one-sixth on July 1, 1997 and one-sixth on each of the five succeeding
anniversaries thereof through and including July 1, 2002. The Company recognized
compensation expense of $15 in 1997 and $24 in 1996 from these option grants and
recorded deferred compensation of $158 and $755 representing the intrinsic value
of these options at December 31, 1997 and December 31, 1996, respectively.

         The Company applies APB Opinion No. 25 and related Interpretations in
accounting for its stock options. In 1995, the FASB issued SFAS No. 123,
"Accounting for Stock-Based Compensation", which, if fully adopted, changes the
methods of recognition of cost on certain stock options. Had compensation cost
for the nonqualified stock options been determined based upon the fair value at
the grant date consistent with SFAS No. 123, the Company's net loss in 1997 and
1996 would have been increased by $316 and $33, respectively. The fair value of
the nonqualified stock options was estimated at $1,774 using the Black-Scholes
option-pricing model with the following assumptions: volatility of 171% for the
Class B Preferred Shares and 101% for the Common Shares, a risk free interest
rate of 6.2%, an expected life of 10 years, and no expected dividends or
forfeiture.

16.      ACCOUNTS PAYABLE AND ACCRUED LIABILITIES

         The composition of accounts payable and accrued liabilities is as
follows:
<TABLE>
<CAPTION>

                                                                                          DECEMBER 31,
                                                                                      ---------------------
                                                                                      1997             1996
                                                                                      ----             ----
<S>                                                                                 <C>               <C>    
          Accounts payable and accrued liabilities:
              Accrued compensation.........................................         $11,202           $10,378
              Excise tax payable (a).......................................           4,400             6,000
              Subordinated loan payable (b)................................           2,500             4,000
              Deferred rent................................................           4,560             4,388
              Unearned revenues............................................          10,163
              Taxes (property and miscellaneous)...........................           5,029             2,637
</TABLE>



                                       58
<PAGE>   61
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)



<TABLE>
<CAPTION>

<S>                                                                                  <C>               <C>   
              Accrued expenses and other liabilities.......................          19,868            17,485
                                                                                     ------            ------
                  Total....................................................         $57,722           $44,888
                                                                                     ======            ======
</TABLE>

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

      (a)    Represents an estimated liability related to excise taxes imposed
             on annual contributions to retirement plans that exceed a certain
             percentage of annual payroll. The Company intends to vigorously
             contest this tax liability. Management's estimate of such amount is
             potentially subject to material change in the near term.

      (b)    Represents a subordinated note payable held by Ladenburg's clearing
             broker.

17.      PREPETITION CLAIMS UNDER CHAPTER 11 AND RESTRUCTURING ACCRUALS

         On January 18, 1995, approximately $550,000 of the approximately
$620,000 of prepetition claims were paid pursuant to the Joint Plan. Another
$57,000 of prepetition claims and restructuring accruals have been settled and
paid or adjusted since January 18, 1995. The remaining prepetition claims may be
subject to future adjustments depending on pending discussions with the various
parties and the decisions of the Bankruptcy Court.

<TABLE>
<CAPTION>
                                                                             DECEMBER 31,
                                                                      -------------------------
                                                                      1997                 1996
                                                                      ----                 ----
<S>                                                                  <C>                   <C>    
          Restructuring accruals(a).......................           $  8,196              $ 9,024
          Money transfer payable(b).......................              4,415                6,502
                                                                        -----                -----

                Total.....................................            $12,611              $15,526
                                                                       ======               ======
</TABLE>
---------------

      (a)  Restructuring accruals at December 31, 1997 consisted of $6,907 of
           disputed claims, primarily related to leases and former employee
           benefits, and $1,289 of other restructuring accruals. In 1997, 1996
           and 1995, the Company reversed $0, $9,706 and $2,044, respectively,
           of prior year restructuring accruals as a result of settlements on
           certain of its prepetition claims and vacated real estate lease
           obligations.

      (b)  Represents unclaimed money transfers issued by the Company prior to
           January 1, 1990. The Company is currently in litigation in Bankruptcy
           Court seeking a determination that these monies are not an obligation
           of the Company. There can be no assurance as to the outcome of the
           litigation.

18.      RELATED PARTY TRANSACTIONS

         At December 31, 1997, Brooke, a company under the control of Bennett S.
LeBow, Chairman of the Company's Board of Directors, held 3,989,710 Common
Shares (approximately 41.7% of such class), 618,326 Class A Senior Preferred
Shares (approximately 57.7% of such class), and 250,885 Class B Preferred Shares
(approximately 8.9% of such class) which represented in the aggregate 42.1% of
all voting power. Several of the other officers and directors of the Company are
also affiliated with Brooke. In 1995, the Company signed an expense sharing
agreement with Brooke pursuant to which certain lease, legal and administrative
expenses are allocated to the entity incurring the expense. The Company expensed
approximately $312, $462 and $571 under this agreement in 1997, 1996 and 1995,
respectively.


                                       59

<PAGE>   62
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




         The Joint Plan imposes a number of restrictions on transactions between
the Company and certain affiliates of the Company, including Brooke.

         On December 18, 1996, the Company loaned BGLS Inc. ("BGLS"), a
wholly-owned subsidiary of Brooke, $990 under a short-term promissory note due
January 31, 1997 and bearing interest at 14%. On January 2, 1997, the Company
loaned BGLS an additional $975 under another short-term promissory note due
January 31, 1997 and bearing interest at 14%. Both loans including interest were
repaid on January 31, 1997. At December 31, 1996, the loan and accrued interest
thereon of $996 was included in other current assets.

         Two directors of the Company are or have been affiliated with law firms
that rendered legal services to the Company. The Company paid these firms $568
and $4,141 during 1997 and 1996, respectively, for legal services. An executive
officer and director of the Company is a shareholder and registered
representative in a broker-dealer to which the Company paid $522 and $317 in
1997 and 1996, respectively, in brokerage commissions and other income, and is
also a shareholder in an insurance company that received ordinary and customary
insurance commissions from the Company and its affiliates of $133 and $136 in
1997 and 1996, respectively. The broker-dealer, in the ordinary course of its
business, engages in brokerage activities with Ladenburg on customary terms.

         As discussed in Note 5, the Company has entered into certain other
agreements with Brooke in connection with its investment in RJR Nabisco.
Further, two directors of the Company were each paid $30 by Brooke during the
fourth quarter of 1995 in connection with their agreement to serve as Brooke
nominees of RJR Nabisco's 1996 annual meeting. 

         During 1996, the Company entered into a court-approved Stipulation and
Agreement (the "Settlement") with Brooke and BGLS relating to Brooke's and
BGLS's application under the Federal Bankruptcy code for reimbursement of legal
fees and expenses incurred by them in connection with the Company's bankruptcy
reorganization proceedings. Pursuant to the Settlement, the Company reimbursed
Brooke and BGLS $655 for such legal fees and expenses. The terms of the
Settlement were substantially similar to the terms of previous settlements
between the Company and other applicants who had sought reimbursement of
reorganization-related legal fees and expenses.

         In connection with the acquisition of the Office Buildings by the
Company in 1996, a director of Brooke received a commission of $220 from the
seller.

         See Note 3 for information concerning the purchase by the Company on
January 31, 1997 of BML from a subsidiary of Brooke.

19.      OFF-BALANCE-SHEET RISK AND CONCENTRATIONS OF CREDIT RISK

         LADENBURG - As a nonclearing broker, Ladenburg's transactions are
cleared by other brokers and dealers in securities pursuant to clearance
agreements. Although Ladenburg clears its customers through other brokers and
dealers in securities, Ladenburg is exposed to off-balance-sheet risk in the
event that customers or other parties fail to satisfy their obligations. In
accordance with industry practice, agency securities transactions are recorded
on a settlement-date basis. Should a customer fail to deliver cash or securities
as agreed, Ladenburg may be required to purchase or sell securities at
unfavorable market prices.

         The clearing operations for Ladenburg's securities transactions are
provided by several brokers. At December 31, 1997, substantially all of the
securities owned and the amounts due from brokers reflected in the consolidated
balance sheet are positions held at and amounts due from one clearing broker.
Ladenburg is subject to credit risk should this broker be unable to fulfill its
obligations.



                                       60
<PAGE>   63
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




         In the normal course of its business, Ladenburg enters into
transactions in financial instruments with off-balance-sheet risk. These
financial instruments consist of financial futures contracts and written index
option contracts. Financial futures contracts provide for the delayed delivery
of a financial instrument with the seller agreeing to make delivery at a
specified future date, at a specified price. These futures contracts involve
elements of market risk in excess of the amounts recognized in the consolidated
statement of financial condition. Risk arises from changes in the values of the
underlying financial instruments or indices. At December 31, 1997, Ladenburg had
commitments to purchase and sell financial instruments under futures contracts
of $37,552 and $1,494, respectively.

         Equity index options give the holder the right to buy or sell a
specified number of units of a stock market index, at a specified price, within
a specified time from the seller ("writer") of the option and are settled in
cash. Ladenburg generally enters into these option contracts in order to reduce
its exposure to market risk on securities owned. Risk arises from the potential
inability of the counterparties to perform under the terms of the contracts and
from changes in the value of a stock market index. As a writer of options,
Ladenburg receives a premium in exchange for bearing the risk of unfavorable
changes in the price of the securities underlying the option. Financial
instruments have the following notional amounts as December 31, 1997:

                                                       LONG             SHORT
                                                     ---------       -----------

          Equity and index options.................    $60,448        $70,500
          Financial futures contracts..............     37,317          1,475

         The table below discloses the fair value at December 31, 1997 of these
commitments, as well as the average fair value during the year ended December
31, 1997, based on monthly observations.

<TABLE>
<CAPTION>
                                                             DECEMBER 31, 1997              AVERAGE
                                                          ------------------------    ----------------------
                                                            LONG          SHORT         LONG         SHORT
---------                                                 ---------      ---------    ---------     --------
<S>                                                         <C>           <C>           <C>           <C>    
          Equity and index options..................        $ 5,290       $17,495       $8,850        $18,988
          Financial futures contracts...............         37,552         1,494        6,206         1,454
</TABLE>

         For the years ended December 31, 1997, 1996 and 1995, the net loss
arising from options and futures contracts included in net gain on
principal transactions was $2,399, $6,012 and $4,504, respectively. The
Company's accounting policy related to derivatives is to value these
instruments, including financial futures contracts and written index option
contracts, at the last reported sales price. The measurement of market risk is
meaningful only when related and offsetting transactions are taken into
consideration.

20.   FAIR VALUE OF FINANCIAL INSTRUMENTS

         The estimated fair value of the Company's financial instruments have
been determined by the Company using available market information and
appropriate valuation methodologies described below. However, considerable
judgment is required to develop the estimates of fair value and, accordingly,
the estimates presented herein are not necessarily indicative of the amounts
that could be realized in a current market exchange.







                                       61

<PAGE>   64
                    NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)





<TABLE>
<CAPTION>

                                                          DECEMBER 31, 1997           DECEMBER 31, 1996
                                                          -----------------           -----------------
                                                        CARRYING        FAIR        CARRYING        FAIR
                                                         AMOUNT        VALUE         AMOUNT        VALUE
                                                         ------        -----         ------        -----

<S>                                                     <C>           <C>          <C>            <C>      
          Financial assets:
              Cash and cash equivalents...........      $ 11,606       $ 11,606    $  57,282      $  57,282
              Investments available for sale......        51,993         51,993       64,170         64,170
              Trading securities owned............        49,988         49,988       29,761         29,761
              Restricted assets...................         5,716          5,716        8,846          8,846
              Receivable from clearing brokers....         1,205          1,205       23,870         23,870
              Long-term investments (Note 8)......        27,224         33,329       13,270         14,130
          Financial liabilities:
              Notes payable.......................       174,574        174,574      158,251        158,251
              Redeemable preferred shares.........       258,638        102,860      210,571        132,908
</TABLE>


21.      BUSINESS SEGMENT INFORMATION

         The following table presents certain financial information of the
Company's continuing operations before taxes and minority interests as of and
for the years ended December 31, 1997 and 1996:
<TABLE>
<CAPTION>

                                          BROKER-                       COMPUTER       CORPORATE
                                           DEALER      REAL ESTATE      SOFTWARE       AND OTHER        TOTAL
                                           ------      -----------      --------       ---------        -----
<S>                                       <C>            <C>               <C>          <C>            <C>     
          1997
          ----
          Revenues....................    $ 56,197       $27,067         $3,947         $27,357        $114,568
          Operating (loss) income ....      (9,958)       (7,827)        (8,156)            520         (25,421)
          Identifiable assets.........      77,511       276,770          5,604          81,506         441,391
          Depreciation and
             amortization.............       1,035         7,469            815              95           9,414
          Capital expenditures........       1,627         7,454            466           1,385          10,932

          1996
          ----
          Revenues....................     $71,960     $  23,559     $    15,017      $  20,329        $130,865
          Operating loss..............        (345)         (745)        (15,082)        (2,417)        (18,589)
          Identifiable assets.........      76,302       182,645          11,686        135,787         406,540
          Depreciation and
             Amortization.............         600         3,622             532              3           4,757
          Capital expenditures........       3,644       183,193           1,596             18         188,451
</TABLE>


22.      SUBSEQUENT EVENTS

         WESTERN REALTY. In February 1998, the Company and Apollo Real Estate
Investment Fund III, L.P. ("Apollo") organized Western Realty Development LLC
("Western Realty") to make real estate and other investments in Russia. In
connection with the formation of Western Realty, the Company agreed, among other
things, to contribute the real estate assets of BML, including Ducat Place II
and the site for Ducat Place III, to Western Realty and Apollo agreed to
contribute up to $58,000.

         Under the terms of the agreement governing Western Realty, the
ownership and voting interests in Western Realty will be held equally by Apollo
and the Company. Apollo will be entitled to a preference on


                                       62


<PAGE>   65
                     NEW VALLEY CORPORATION AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)




distributions of cash from Western Realty to the extent of its investment,
together with a 15% annual rate of return, and the Company will then be entitled
to a return of $10,000 of BML-related expenses incurred by the Company since
March 1, 1997, together with a 15% annual rate of return; subsequent
distributions will be made 70% to the Company and 30% to Apollo. Western Realty
will be managed by a Board of Managers consisting of an equal number of
representatives chosen by Apollo and the Company. All material corporate
transactions by Western Realty will generally required the unanimous consent of
the Board of Managers. Accordingly, the Company will account for its
non-controlling interest in Western Realty on the equity method.

         On February 27, 1998, at an initial closing under the LLC Agreement,
Apollo made a $11,000 loan (the "Loan) to Western Realty. The Loan, which bears
interest at the rate of 15% per annum and is due September 30, 1998, is
collateralized by a pledge of the Company's shares of BML. Upon completion of
the transfer of Ducat Place II and the satisfaction of other conditions under
the LLC Agreement, the Loan and the accrued interest thereon will be converted
into a capital contribution by Apollo to Western Realty and the BML pledge
released.

         Western Realty will seek to make additional real estate and other
investments in Russia. The Company and Apollo have agreed to invest, through
Western Realty or another equity, up to $25,000 in the aggregate for the
potential development of a real estate project in Moscow. In addition, Western
Realty has agreed to acquire for $20,000 a 30% profits interest in a company
organized by Brooke (Overseas) which will, among other things, acquire an
interest in an industrial site and manufacturing facility being constructed on
the outskirts of Moscow by a subsidiary of Brooke (Overseas).











                                       63



<PAGE>   66
                                                                    Schedule III


                             NEW VALLEY CORPORATION
                    REAL ESTATE AND ACCUMULATED DEPRECIATION
                  FOR THE THREE YEARS ENDED DECEMBER 31, 1997
                             (AMOUNTS IN THOUSANDS)


<TABLE>
<CAPTION>
                                                                                    Gross Amount Carried
                                                                    Cost              At Close of Period
                                            Initial Cost         Capitalized   ----------------------------------
   Description                         -------------------------    Net of                 Buildings and               Accumulated
   And Location           Encumbrances    Land       Building      Deletions      Land      Improvements      Total    Depreciation
   ------------           ------------    ----       --------      ---------      ----      ------------    --------  ------------
<S>                       <C>           <C>          <C>           <C>          <C>            <C>          <C>        <C>       
Office Building:
 Bernards Township, NJ    $   43,838    $ 10,059     $ 38,432      $      --    $ 10,059       $  38,432    $ 48,491   $    1,922
 Bernards Township, NJ        10,283       2,342        9,172             --       2,342           9,172      11,514          452
 Troy, MI                     22,384          --       23,581             --          --          23,581      23,581        1,179
 Troy, MI                     22,798       7,049       21,147             --       7,049          21,147      28,196        1,057
 Ducat Place I                    --          --        5,561         (5,561)         --              --          --           --
 Ducat Place II               20,078       5,700       59,300          7,031       5,700          66,331      72,031          879
 Ducat Place III                  --      13,600           --            357      13,600             357      13,957           --
                          -------------------------------------------------------------------------------------------------------
                             119,381      38,750      157,193          1,827      38,750         159,020     197,770        5,496
                          -------------------------------------------------------------------------------------------------------
Shopping Centers:
 Tri Cities, WA                5,919       2,981        7,692             --       2,981           7,692      10,673          500
 Santa Fe, NM                  8,331       3,233        6,423              4       3,233           6,427       9,660          409
 Portland, OR                  4,875         949        6,374         (1,725)        722           4,876       5,598          330
 Marathon, FL                     --         624        3,299         (3,923)         --              --          --           --
 Seattle, WA                  10,717       3,354        9,069             35       3,354           9,104      12,458          552
 Charleston, WV               11,238       2,510       10,516            174       2,510          10,690      13,200          522
 Royal Palm Beach, FL          8,539       2,032        7,867              7       2,032           7,874       9,906          510
 Lincoln, NE                   5,182       1,254        4,750             18       1,254           4,768       6,022          323
                          -------------------------------------------------------------------------------------------------------
                              54,801      16,937       55,990         (5,410)     16,086          51,431      67,517        3,146
                          -------------------------------------------------------------------------------------------------------
                          $  174,182    $ 55,687     $213,183      $  (3,583)   $ 54,836       $ 210,451    $265,287   $    8,642
                          =======================================================================================================


<CAPTION>
   Date             Date        Depreciable
Constructed       Acquired         Life
-----------       --------         ----

   1991           Jan 1996          40
   1994           Jan 1996          40
   1987           Jan 1996          40
   1990           Jan 1996          40
   1993           Jan 1997          40
   1997           Jan 1997          40
   1997           Jan 1997          40




   1980           Jan 1996          25
   1964           Jan 1996          25
   1978           Jan 1996          25
   1972           Jan 1996          25
   1988           Jan 1996          25
   1985           Jan 1996          25
   1985           Jan 1996          25
   1984           Jan 1996          25





</TABLE>


                                       64
<PAGE>   67
                             NEW VALLEY CORPORATION
                    REAL ESTATE AND ACCUMULATED DEPRECIATION
                  FOR THE THREE YEARS ENDED DECEMBER 31, 1997
                             (AMOUNTS IN THOUSANDS)


RECONCILIATION OF CARRYING COSTS AND ACCUMULATED DEPRECIATION
<TABLE>
<CAPTION>



                                                       Buildings and                     Accumulated
                                           Land        Improvements      Total           Depreciation

<S>                                     <C>            <C>             <C>                <C>      
Balance at 12/31/95                     $      --      $        --     $      --          $      --
                                        ---------      -----------     ---------          ---------

Additions during period
 Acquisitions through foreclosure              --               --            --                 --
 Other acquisitions                        36,387          148,322       184,709                 --
 Improvements                                  --              209           209                 --
 Depreciation expense                          --               --            --              3,622
                                        ---------      -----------     ---------          ---------
   Total additions                         36,387          148,531       184,918              3,622
                                        ---------      -----------     ---------          ---------

Deductions during period:
 Cost of real estate sold                     227            1,498         1,725                 --
                                        ---------      -----------     ---------          ---------

Balance at 12/31/96                     $  36,160      $   147,033     $ 183,193          $   3,622
                                        ---------      -----------     ---------          ---------


Additions during period
 Acquisitions through foreclosure              --               --            --                 --
 Other acquisitions                     $  19,300      $    64,861     $  84,161                 --
 Improvements, etc.                            --            7,454         7,454                 --
 Depreciation expense                          --               --            --          $   5,197
                                        ---------      -----------     ---------          ---------
   Total additions                         19,300           72,315        91,615              5,197
                                        ---------      -----------     ---------          ---------

Deductions during period:
 Cost of real estate sold                     624            8,897         9,521                177
                                        ---------      -----------     ---------          ---------

Balance at 12/31/97                     $  54,836      $   210,451     $ 265,887          $   8,642
                                        ---------      -----------     ---------          ---------

</TABLE>







                                       65
<PAGE>   68

 

                      REPORT OF INDEPENDENT PUBLIC ACCOUNTS



To the Board of Directors of
Thinking Machines Corporation:

         We have audited the accompanying consolidated balance sheets of
Thinking Machines Corporation and subsidiaries as of December 31, 1997 and 1996,
and the related consolidated statements of operations, stockholders' investment
and cash flows for the year ended December 31, 1997 and for the period from
February 8, 1996 (inception) to December 31, 1996. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audit.

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

         In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Thinking
Machines Corporation and subsidiaries as of December 31, 1997 and 1996,
and the results of their operations and their cash flows for the year ended
December 31, 1997 and the period February 8, 1996 (inception) to December 31,
1996, in conformity with generally accepted accounting principles.

         The accompanying financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed in Note 1 to the
financial statements, the Company has been unable to generate significant
revenue and has incurred recurring losses from its operations. These factors,
among others, as described in Note 1, create substantial doubt about the
Company's ability to continue as a going concern. Management's plans in regard
to these matters are also described in Note 1. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.


ARTHUR ANDERSON LLP


Boston, Massachusetts
January 23, 1998




                                       66

<PAGE>   69



                                   SIGNATURES

         Pursuant to the requirements of Section 13 and 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.

                                       NEW VALLEY CORPORATION

                                       (REGISTRANT)

                                       By: /s/ J. Bryant Kirkland III    
                                          --------------------------------------
                                           J. Bryant Kirkland III
                                           Vice President, Treasurer 
                                           and Chief Financial Officer

Date:  May 22, 1998
         












                                       67