-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, DZKiNcs35cDFfLKcUTDIZHcEJONaZmJcT36bKxvaoIUUMlHoL0WVtLB1xwmZeibN BbhiEIkgNv5L9AEi5zek7g== 0001005477-97-002274.txt : 19970926 0001005477-97-002274.hdr.sgml : 19970926 ACCESSION NUMBER: 0001005477-97-002274 CONFORMED SUBMISSION TYPE: 8-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19970924 ITEM INFORMATION: ITEM INFORMATION: FILED AS OF DATE: 19970925 SROS: NYSE SROS: PSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: TRAVELERS GROUP INC CENTRAL INDEX KEY: 0000831001 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 521568099 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 8-K SEC ACT: SEC FILE NUMBER: 001-09924 FILM NUMBER: 97685196 BUSINESS ADDRESS: STREET 1: 388 GREENWICH ST STREET 2: LEGAL DEPT 20TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10013 BUSINESS PHONE: 2128168000 MAIL ADDRESS: STREET 1: 388 GREENWICH ST STREET 2: LEGAL DEPT 20TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10013 FORMER COMPANY: FORMER CONFORMED NAME: TRAVELERS INC DATE OF NAME CHANGE: 19940103 FORMER COMPANY: FORMER CONFORMED NAME: PRIMERICA CORP /NEW/ DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: COMMERCIAL CREDIT GROUP INC DATE OF NAME CHANGE: 19890102 8-K 1 FORM 8-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------------ FORM 8-K CURRENT REPORT Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 Date of Report (Date of earliest event reported) September 24, 1997 ---------------------------- Travelers Group Inc. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 1-9924 52-1568099 --------------- ------------ ------------------- (State or other (Commission (IRS Employer jurisdiction of File Number) Identification No.) incorporation) 388 Greenwich Street, New York, New York 10013 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (212) 816-8000 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) TRAVELERS GROUP INC. Current Report on Form 8-K Item 5. Other Events. On September 24, 1997, Travelers Group Inc. (the "Company") and Salomon Inc ("Salomon") announced that they have entered into a definitive agreement pursuant to which a wholly owned subsidiary of the Company will merge with and into Salomon. The transaction has been approved by the Boards of Directors of both the Company and Salomon. Pursuant to the Merger Agreement, Salomon common stockholders will receive 1.13 shares of the Company's common stock for each share of Salomon common stock that they own, for a total value of approximately $9 billion; each share of preferred stock of Salomon will be converted into a share of a substantially identical series of preferred stock of the Company; and Salomon will become a wholly owned subsidiary of the Company. After the merger, Salomon and Smith Barney Holdings Inc., a wholly owned subsidiary of the Company, will merge to form Salomon Smith Barney Holdings Inc. The transaction is expected to be completed by year-end 1997. It is subject to various regulatory approvals, including under the Hart-Scott-Rodino Antitrust Improvements Act and by certain regulatory entities, and approval by Salomon stockholders. The merger will be a tax-free exchange and will be accounted for on a "pooling of interests" basis. The consolidated financial statements of Salomon and its subsidiaries as of December 31, 1996 and 1995 and for each of the three years in the period ended December 31, 1996 are being filed as Exhibit 99.01 to this Form 8-K and are incorporated herein by reference. The unaudited consolidated financial statements of Salomon and its subsidiaries as of June 30, 1997 and for the six-month periods ended June 30, 1997 and 1996 are being filed as Exhibit 99.02 to this Form 8-K and are incorporated herein by reference. Certain pro forma financial information with respect to the proposed transaction is being filed as Exhibit 99.03 to this Form 8-K and is incorporated herein by reference. 2 Item 7. Financial Statements, Pro Forma Financial Information and Exhibits. (c) Exhibits: Exhibit No. Description - ----------- ----------- 2.01 Agreement and Plan of Merger among Travelers Group Inc., Diamonds Acquisition Corp. and Salomon Inc, dated as of September 24, 1997 23.01 Consent of Arthur Andersen LLP 99.01 Consolidated financial statements of Salomon Inc and its subsidiaries as of December 31, 1996 and 1995 and for each of the years in the three-year period ended December 31, 1996, together with the notes thereto and the report of the independent auditors 99.02 Unaudited consolidated financial statements of Salomon Inc as of June 30, 1997 and for the six-month periods ended June 30, 1997 and 1996, together with the notes thereto 99.03 Unaudited Pro Forma Condensed Combined Statement of Financial Position as of June 30, 1997, and Unaudited Pro Forma Condensed Combined Statement of Income for the six months ended June 30, 1997 and 1996 and for each of the years in the three-year period ended December 31, 1996 3 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. Dated: September 25, 1997 TRAVELERS GROUP INC. By: /s/ Charles O. Prince, III ---------------------------- Charles O. Prince, III Executive Vice President, General Counsel and Secretary EX-2.01 2 AGREEMENT AND PLAN OF MERGER AGREEMENT AND PLAN OF MERGER AMONG TRAVELERS GROUP INC. DIAMONDS ACQUISITION CORP. AND SALOMON INC DATED AS OF SEPTEMBER 24, 1997 TABLE OF CONTENTS PAGE ---- ARTICLE I THE MERGER SECTION 1.1 The Merger . . . . . . . . . . . . . . . . 2 SECTION 1.2 Closing . . . . . . . . . . . . . . . . . 2 SECTION 1.3 Effective Time . . . . . . . . . . . . . . 2 SECTION 1.4 Effects of the Merger . . . . . . . . . . 3 SECTION 1.5 Certificate of Incorporation and By-laws of the Surviving Corporation . . . . . . . 3 SECTION 1.6 Directors and Officers . . . . . . . . . . 3 ARTICLE II EFFECT OF THE MERGER ON THE CAPITAL STOCK OF THE CONSTITUENT CORPORATIONS; EXCHANGE OF CERTIFICATES SECTION 2.1 Effect on Capital Stock . . . . . . . . . 4 (a) Cancellation of Treasury Stock . . . 4 (b) Conversion of Company Common Stock . 4 (c) Conversion of Company Preferred Stock . . . . . . . . . . . . . . . . 5 (d) Conversion of Common Stock of Sub . . 7 (e) Assumption of Obligations under Deposit Agreements . . . . . . . . . 7 SECTION 2.2 Exchange of Certificates . . . . . . . . . 7 (a) Exchange Agent . . . . . . . . . . . 7 (b) Exchange Procedures . . . . . . . . . 8 (c) Distributions with Respect to Unexchanged Shares . . . . . . . . . 9 (d) No Further Ownership Rights in Company Common Stock . . . . . . . . 10 (e) No Fractional Shares . . . . . . . . 10 (f) Termination of Exchange Fund . . . . 12 (g) No Liability . . . . . . . . . . . . 13 (h) Investment of Exchange Fund . . . . . 13 (i) Lost Certificates . . . . . . . . . . 13 SECTION 2.3 Certain Adjustments . . . . . . . . . . . 13 TABLE OF CONTENTS PAGE ---- ARTICLE III REPRESENTATIONS AND WARRANTIES SECTION 3.1 Disclosure Schedules . . . . . . . . . . . 14 SECTION 3.2 Standard . . . . . . . . . . . . . . . . . 14 SECTION 3.3 Representations and Warranties of the Company . . . . . . . . . . . . . . . . . 15 (a) Organization, Standing and Corporate Power . . . . . . . . . . . . . . . . 15 (b) Subsidiaries . . . . . . . . . . . . 16 (c) Capital Structure . . . . . . . . . . 16 (d) Authority; Noncontravention . . . . . 19 (e) SEC Documents; Undisclosed Liabilities . . . . . . . . . . . . . 20 (f) Information Supplied . . . . . . . . 21 (g) Absence of Certain Changes or Events . . . . . . . . . . . . . . . 22 (h) Compliance with Applicable Laws; Litigation . . . . . . . . . . . . . 23 (i) Absence of Changes in Benefit Plans . 24 (j) ERISA Compliance . . . . . . . . . . 25 (k) Taxes . . . . . . . . . . . . . . . . 27 (l) Voting Requirements . . . . . . . . . 28 (m) State Takeover Statutes . . . . . . . 28 (n) Accounting Matters . . . . . . . . . 28 (o) Brokers . . . . . . . . . . . . . . . 28 (p) Ownership of Parent Capital Stock . . 29 (q) Intellectual Property . . . . . . . . 29 (r) Certain Contracts . . . . . . . . . . 29 (s) Rights Agreement . . . . . . . . . . 30 (t) Environmental Liability . . . . . . . 30 (u) Derivative Transactions . . . . . . . 31 (v) Investment Securities and Commodities . . . . . . . . . . . . . 32 (w) Ineligible Persons . . . . . . . . . 32 SECTION 3.4 Representations and Warranties of Parent . 33 (a) Organization, Standing and Corporate Power . . . . . . . . . . . . . . . . 33 (b) Subsidiaries . . . . . . . . . . . . 34 (c) Capital Structure . . . . . . . . . . 34 (d) Authority; Noncontravention . . . . . 37 (e) SEC Documents; Undisclosed Liabilities . . . . . . . . . . . . . 38 (f) Information Supplied . . . . . . . . 39 (g) Absence of Certain Changes or Events 40 (h) Compliance with Applicable Laws; Litigation . . . . . . . . . . . . . 41 (i) Absence of Changes in Benefit Plans . 41 (j) ERISA Compliance . . . . . . . . . . 42 (k) Taxes . . . . . . . . . . . . . . . . 44 (l) Accounting Matters . . . . . . . . . 44 (m) Brokers . . . . . . . . . . . . . . . 45 (n) Ownership of Company Capital Stock . 45 (o) Voting Requirements . . . . . . . . . 45 (p) Environmental Liability . . . . . . . 45 TABLE OF CONTENTS PAGE ---- ARTICLE IV COVENANTS RELATING TO CONDUCT OF BUSINESS SECTION 4.1 Conduct of Business . . . . . . . . . . . 46 (a) Conduct of Business by the Company . 46 (b) Conduct of Business by Parent . . . . 50 (c) Compensation Matters . . . . . . . . 51 (d) Coordination of Dividends . . . . . . 53 (e) Other Actions . . . . . . . . . . . . 53 (f) Advice of Changes . . . . . . . . . . 54 SECTION 4.2 No Solicitation by the Company . . . . . . 54 ARTICLE V ADDITIONAL AGREEMENTS SECTION 5.1 Preparation of the Form S-4 and the Proxy Statement; Stockholders Meetings . . . . . 57 SECTION 5.2 Letters of the Company's Accountants . . . 58 SECTION 5.3 Letters of Parent's Accountants . . . . . 59 SECTION 5.4 Access to Information; Confidentiality . . 59 SECTION 5.5 Best Efforts . . . . . . . . . . . . . . . 60 SECTION 5.6 Employee Stock Options, Incentive and Benefit Plans . . . . . . . . . . . . . . . . . . 62 SECTION 5.7 Indemnification, Exculpation and Insurance 64 SECTION 5.8 Fees and Expenses . . . . . . . . . . . . 66 SECTION 5.9 Public Announcements . . . . . . . . . . . 67 SECTION 5.10 Affiliates . . . . . . . . . . . . . . . . 68 SECTION 5.11 Stock Exchange Listing . . . . . . . . . . 69 SECTION 5.12 Stockholder Litigation . . . . . . . . . . 69 SECTION 5.13 Tax Treatment . . . . . . . . . . . . . . 69 SECTION 5.14 Pooling of Interests . . . . . . . . . . . 70 SECTION 5.15 Standstill Agreements; Confidentiality Agreements . . . . . . . . . . . . . . . . 70 SECTION 5.16 Conveyance Taxes . . . . . . . . . . . . . 70 SECTION 5.17 Company Convertible Notes; Company Series F Preferred Stock . . . . . . . . . . . . . 71 SECTION 5.18 Compliance with 1940 Act Section 15 . . . 71 SECTION 5.19 Certain Contracts . . . . . . . . . . . . 72 SECTION 5.20 Investment Advisory Agreements. . . . . . 73 ARTICLE VI CONDITIONS PRECEDENT SECTION 6.1 Conditions to Each Party's Obligation to Effect the Merger . . . . . . . . . . . . 73 (a) Stockholder Approval . . . . . . . . 73 (b) HSR Act . . . . . . . . . . . . . . . 73 (c) Governmental and Regulatory Approvals . . . . . . . . . . . . . . 73 (d) No Injunctions or Restraints . . . . 74 (e) Form S-4 . . . . . . . . . . . . . . 74 (f) NYSE Listing . . . . . . . . . . . . 74 SECTION 6.2 Conditions to Obligations of Parent . . . 74 (a) Representations and Warranties . . . 75 (b) Performance of Obligations of the Company . . . . . . . . . . . . . . . 75 (c) Tax Opinion . . . . . . . . . . . . . 75 SECTION 6.3 Conditions to Obligations of the Company . 75 (a) Representations and Warranties . . . 75 (b) Performance of Obligations of Parent 76 (c) Tax Opinions . . . . . . . . . . . . 76 SECTION 6.4 Frustration of Closing Conditions . . . . 76 TABLE OF CONTENTS PAGE ---- ARTICLE VII TERMINATION, AMENDMENT AND WAIVER SECTION 7.1 Termination . . . . . . . . . . . . . . . 76 SECTION 7.2 Effect of Termination . . . . . . . . . . 78 SECTION 7.3 Amendment . . . . . . . . . . . . . . . . 78 SECTION 7.4 Extension; Waiver . . . . . . . . . . . . 78 SECTION 7.5 Procedure for Termination, Amendment, Extension or Waiver . . . . . . . . . . . 79 ARTICLE VIII GENERAL PROVISIONS SECTION 8.1 Nonsurvival of Representations and Warranties . . . . . . . . . . . . . . . . 79 SECTION 8.2 Notices . . . . . . . . . . . . . . . . . 79 SECTION 8.3 Definitions . . . . . . . . . . . . . . . 80 SECTION 8.4 Interpretation . . . . . . . . . . . . . . 82 SECTION 8.5 Counterparts . . . . . . . . . . . . . . . 83 SECTION 8.6 Entire Agreement; No Third-Party Beneficiaries . . . . . . . . . . . . . . 83 SECTION 8.7 Governing Law . . . . . . . . . . . . . . 83 SECTION 8.8 Assignment . . . . . . . . . . . . . . . . 83 SECTION 8.9 Consent to Jurisdiction . . . . . . . . . 83 SECTION 8.10 Headings . . . . . . . . . . . . . . . . . 84 SECTION 8.11 Severability . . . . . . . . . . . . . . . 84 AGREEMENT AND PLAN OF MERGER dated as of September 24, 1997, by and among TRAVELERS GROUP INC., a Delaware corporation ("Parent"), DIAMONDS ACQUISITION CORP., a Delaware corporation ("Sub"), and SALOMON INC, a Delaware corporation (the "Company"). WHEREAS, the respective Boards of Directors of Parent, Sub and the Company have each approved the merger of Sub with and into the Company (the "Merger"), upon the terms and subject to the conditions set forth in this Agreement, whereby (a) each issued and outstanding share of common stock, par value $1.00 per share, of the Company ("Company Common Stock"), other than shares owned by the Company, will be converted into the right to receive the Merger Consideration (as defined in Section 2.1(b)) and (b) each issued and outstanding share of Company Preferred Stock (as defined in Section 2.1(c)), other than shares owned by the Company, will be converted into the right to receive one share of a corresponding series of preferred stock of Parent pursuant to Article II; WHEREAS, the respective Boards of Directors of Parent, Sub and the Company have each determined that the Merger and the other transactions contemplated hereby are consistent with, and in furtherance of, their respective business strategies and goals and are in the best interests of their respective stockholders; WHEREAS, the parties desire to make certain representations, warranties, covenants and agreements in connection with the Merger and also to prescribe various conditions to the Merger; WHEREAS, for federal income tax purposes, it is intended that the Merger will qualify as a reorganization under the provisions of Section 368(a) of the Internal Revenue Code of 1986, as amended (the "Code"); WHEREAS, for financial accounting purposes, it is intended that the Merger will be accounted for as a pooling of interests transaction under United States generally accepted accounting principles ("GAAP"); and WHEREAS, concurrently with the execution of this Agreement, and as an inducement to Parent and Sub to enter into this Agreement, a stockholder of the Company has entered into a Voting Agreement, dated as of the date hereof (the "Voting Agreement"), between Parent and the stockholder providing, among other things, that such stockholder will vote, or cause to be voted, at the Company Stockholders Meeting (as defined in Section 5.1(b)) all of the Company's voting securities owned at the time of such meeting by such stockholder and its subsidiaries in favor of the Merger and will grant or cause to be granted proxies to Parent for that purpose. NOW, THEREFORE, in consideration of the representations, warranties, covenants and agreements contained in this Agreement, the parties agree as follows: ARTICLE I THE MERGER SECTION 1.1 The Merger. Upon the terms and subject to the conditions set forth in this Agreement, and in accordance with the Delaware General Corporation Law (the "DGCL"), Sub shall be merged with and into the Company at the Effective Time (as defined in Section 1.3). Following the Effective Time, the Company shall be the surviving corporation (the "Surviving Corporation") and become a wholly owned subsidiary of Parent and shall succeed to and assume all the rights and obligations of Sub in accordance with the DGCL. SECTION 1.2 Closing. Subject to the satisfaction or waiver of all the conditions to closing contained in Article VI hereof, the closing of the Merger (the "Closing") will take place at 10:00 a.m. on a date to be specified by the parties (the "Closing Date"), which shall be no later than the second day after satisfaction or waiver of the conditions set forth in Article VI, unless another time or date is agreed to by the parties hereto; provided that in no event shall the Closing Date be other than a Friday, Saturday or Sunday. The Closing will be held at such location in the City of New York as is agreed to by the parties hereto. SECTION 1.3 Effective Time. Subject to the provisions of this Agreement, as soon as practicable on the Closing Date, the parties shall cause the Merger to be consummated by filing a certificate of merger or other appropriate documents (in any such case, the "Certificate of Merger") executed in accordance with the relevant provisions of the DGCL and shall make all other filings or recordings required under the DGCL. The Merger shall become effective at such time as the Certificate of Merger is duly filed with the Secretary of State of Delaware, or at such subsequent date or time as Sub and the Company shall agree and specify in the Certificate of Merger (the time the Merger becomes effective being hereinafter referred to as the "Effective Time"). 2 SECTION 1.4 Effects of the Merger. The Merger shall have the effects set forth in Section 259 of the DGCL. SECTION 1.5 Certificate of Incorporation and By-laws of the Surviving Corporation. The certificate of incorporation of the Company shall be amended as of the Effective Time to read in its entirety like the certificate of incorporation of Sub except that Article First of such certificate of incorporation shall read in its entirety as follows: "The name of the Corporation is Salomon Smith Barney Holdings Inc." and, as amended, such certificate of incorporation shall be the certificate of incorporation of the Surviving Corporation until thereafter changed or amended as provided therein or by applicable law. The by-laws of Sub, as in effect immediately prior to the Effective Time, shall become the by-laws of the Surviving Corporation until thereafter changed or amended as provided therein or by applicable law. SECTION 1.6 Directors and Officers. The directors identified in Section 1.6 of the Parent Disclosure Schedule (as defined in Section 3.1) and the officers of Sub shall, from and after the Effective Time, become the directors and officers, respectively, of the Surviving Corporation until their successors shall have been duly elected or appointed or qualified or until their earlier death, resignation or removal in accordance with the certificate of incorporation and the by-laws of the Surviving Corporation. 3 ARTICLE II EFFECT OF THE MERGER ON THE CAPITAL STOCK OF THE CONSTITUENT CORPORATIONS; EXCHANGE OF CERTIFICATES SECTION 2.1 Effect on Capital Stock. As of the Effective Time, by virtue of the Merger and without any action on the part of the holder of any shares of Company Common Stock or Company Preferred Stock (together, "Company Capital Stock"): (a) Cancellation of Treasury Stock. Each share of Company Common Stock and Company Preferred Stock that is owned directly by the Company shall automatically be cancelled and retired and shall cease to exist, and no consideration shall be delivered in exchange therefor; provided, however, that any shares of Company Common Stock or Company Preferred Stock (i) held by the Company in connection with any market-making or proprietary trading activity or for the account of another person, (ii) as to which the Company is or may be required to act as a fiduciary or in a similar capacity or (iii) the cancellation of which would violate any legal duties or obligations of the Company shall not be cancelled but, instead, shall be treated as set forth in Section 2.1(b) (in the case of Company Common Stock) or 2.1(c) (in the case of Company Preferred Stock). (b) Conversion of Company Common Stock. Subject to Section 2.2(e), each issued and outstanding share of Company Common Stock (other than shares to be cancelled in accordance with Section 2.1(a)), together with the rights (the "Company Rights") attached thereto to purchase the Company's Series B Junior Participating Preferred Stock ("Company Junior Preferred Stock") issued pursuant to the Rights Agreement, dated as of February 8, 1988, as amended, between the Company and First Chicago Trust Company of New York, as successor to Morgan Shareholder Services Trust Company, as Rights Agent (the "Rights Agreement"), shall be converted into the right to receive 1.13 (the "Exchange Ratio") validly issued, fully paid and nonassessable shares of common stock, par value $.01 per share ("Parent Common Stock"), of Parent. The consideration to be issued to holders of Company Common Stock is referred to herein as the "Merger Consideration." As of the Effective Time, all such shares of Company Common Stock shall no longer be outstanding and shall automatically be cancelled and retired and shall cease to exist, and each holder of a certificate representing any such shares of Company Common Stock shall cease to have any rights with respect thereto, except the right to receive the Merger Consideration and any cash in lieu of fractional shares of Parent Common Stock to be issued or paid in consideration therefor upon surrender of such certificate in accordance with Section 2.2 and any dividends or distributions to which such holder is entitled pursuant to Section 2.2(c), in each case without interest. 4 (c) Conversion of Company Preferred Stock. (i) Each issued and outstanding share of Series A Cumulative Convertible Preferred Stock of the Company ("Company Series A Convertible Preferred Stock), other than shares to be cancelled in accordance with Section 2.1(a), together with the Rights attached thereto, shall be converted into the right to receive one validly issued, fully paid and nonassessable share of Series I Cumulative Convertible Preferred Stock of Parent ("Parent Convertible Preferred Stock"). Each share of Parent Convertible Preferred Stock shall have terms that are substantially identical to the terms of Company Series A Convertible Preferred Stock, provided that (A) as a result of the Merger the issuer thereof shall be Parent rather than the Company, (B) the number of shares of Parent Common Stock into which each share of Parent Convertible Preferred Stock shall be convertible (at the same times and subject to the same terms and conditions under which Company Series A Convertible Preferred Stock is convertible into shares of Company Common Stock immediately prior to the Effective Time) shall equal 26.31579 (which number shall be subject to adjustment under the same circumstances, in the same manner and to the same extent as set forth in the existing Certificate of Designation relating to the Company Series A Convertible Preferred Stock) times the Exchange Ratio and (C) each share of Parent Convertible Preferred Stock, when voting together with the Parent Common Stock (and any other shares of capital stock of Parent at the time entitled to vote) as a single class, shall be entitled to a number of votes equal to the number of shares of Parent Common Stock into which one share of Parent Convertible Preferred Stock will be convertible immediately following the Merger. 5 (ii) Each issued and outstanding share of 8.08% Cumulative Preferred Stock, Series D, of the Company ("Company 8.08% Preferred Stock"), other than shares to be cancelled in accordance with Section 2.1(a), shall be converted into the right to receive one validly issued, fully paid and nonassessable share of 8.08% Cumulative Preferred Stock, Series J, of Parent ("Parent 8.08% Preferred Stock"). Each share of Parent 8.08% Preferred Stock shall have terms that are substantially identical to Company 8.08% Preferred Stock, provided that (A) as a result of the Merger the issuer thereof shall be Parent rather than the Company and (B) each share of Parent 8.08% Preferred Stock shall be entitled to three votes per share, voting together as a class with the Parent Common Stock (and any other shares of capital stock of Parent at the time entitled to vote), on all matters submitted to a vote of stockholders of Parent, and shall be entitled to one vote per share on all matters on which the Company 8.08% Preferred Stock is entitled to vote, voting together as a class with any other shares of preferred stock of Parent at the time entitled to vote. (iii) Each issued and outstanding share of 8.40% Cumulative Preferred Stock, Series E, of the Company ("Company 8.40% Preferred Stock," and together with Company Series A Convertible Preferred Stock and Company 8.08% Preferred Stock, "Company Preferred Stock"), other than shares to be cancelled in accordance with Section 2.1(a), shall be converted into the right to receive one validly issued, fully paid and nonassessable share of 8.40% Cumulative Preferred Stock, Series K, of Parent ("Parent 8.40% Preferred Stock," and together with Parent Convertible Preferred Stock and Parent 8.08% Preferred Stock, "Parent New Preferred Stock"). Each share of Parent 8.40% Preferred Stock shall have terms that are substantially identical to Company 8.40% Preferred Stock, provided that (A) as a result of the Merger the issuer thereof shall be Parent rather than the Company and (B) each share of Parent 8.40% Preferred Stock shall be entitled to three votes per share, voting together as a class with the Parent Common Stock (and any other shares of capital stock of Parent at the time entitled to vote), on all matters submitted to a vote of stockholders of Parent, and shall be entitled to one vote per share on all matters on which the Company 8.40% Preferred Stock is entitled to vote, voting together as a class with any other shares of preferred stock of Parent at the time entitled to vote. 6 (d) Conversion of Common Stock of Sub. Each issued and outstanding share of common stock, par value $.01 per share, of Sub shall be converted into one validly issued, fully paid and nonassessable share of common stock of the Surviving Corporation. (e) Assumption of Obligations under Deposit Agreements. At the Effective Time, Parent shall assume the obligations of the Company under the Deposit Agreement, dated as of February 23, 1993, among the Company, First Chicago Trust Company of New York, as Depositary, and the depositary receipt holders (with respect to Company 8.08% Preferred Stock), and the Deposit Agreement, dated as of February 13, 1996, among the Company, First Chicago Trust Company of New York, as Depositary, and the depositary receipt holders (with respect to Company 8.40% Preferred Stock). Parent shall instruct the depositary to treat the shares of Parent 8.08% Preferred Stock and the shares of Parent 8.40% Preferred Stock received by such depositary in exchange for and upon conversion of the shares of Company 8.08% Preferred Stock and Company 8.40% Preferred Stock, respectively, as new deposited securities under the applicable deposit agreement. In accordance with the terms of the relevant deposit agreement, the depositary receipts then outstanding shall thereafter represent the shares of Parent 8.08% Preferred Stock and Parent 8.40% Preferred Stock so received upon conversion and exchange for the shares of Company 8.08% Preferred Stock and Company 8.40% Preferred Stock, respectively. Promptly following the Effective Time, Parent shall request that the depositary call for the surrender of all outstanding receipts to be exchanged for new receipts specifically describing the relevant series of Parent New Preferred Stock. SECTION 2.2 Exchange of Certificates. (a) Exchange Agent. As of the Effective Time, Parent shall enter into an agreement with such bank or trust company as may be designated by Parent and reasonably satisfactory to the Company (the "Exchange Agent"), which shall provide that Parent shall deposit with the Exchange Agent as of the Effective Time, for the benefit of the holders of shares of Company Common Stock and Company Preferred Stock, for exchange in accordance with this Article II, through the Exchange Agent, certificates representing the shares of Parent Common Stock and Parent New Preferred Stock (such shares of Parent Common Stock and Parent New Preferred Stock, together with any dividends or distributions with respect thereto with a record date after the Effective Time, any Excess Shares (as defined in Section 2.2(e)) and any cash (including cash proceeds from the sale of the Excess Shares) payable in lieu of any fractional shares of Parent Common Stock being hereinafter referred to as the "Exchange Fund") issuable pursuant to Section 2.1 in exchange for outstanding shares of Company Common Stock and Company Preferred Stock. 7 (b) Exchange Procedures. As soon as reasonably practicable after the Effective Time, the Exchange Agent shall mail to each holder of record of a certificate or certificates which immediately prior to the Effective Time represented outstanding shares of Company Common Stock or Company Preferred Stock (the "Certificates") whose shares were converted into the right to receive the Merger Consideration or shares of Parent New Preferred Stock, as applicable, pursuant to Section 2.1, (i) a letter of transmittal (which shall specify that delivery shall be effected, and risk of loss and title to the Certificates shall pass, only upon delivery of the Certificates to the Exchange Agent and shall be in such form and have such other provisions as the Company and Parent may reasonably specify) and (ii) instructions for use in surrendering the Certificates in exchange for the Merger Consideration or shares of Parent New Preferred Stock, as applicable. Upon surrender of a Certificate for cancellation to the Exchange Agent, together with such letter of transmittal, duly executed, and such other documents as may reasonably be required by the Exchange Agent, the holder of such Certificate shall be entitled to receive in exchange therefor a certificate representing that number of whole shares of Parent Common Stock or Parent New Preferred Stock which such holder has the right to receive pursuant to the provisions of this Article II, certain dividends or other distributions in accordance with Section 2.2(c) and cash in lieu of any fractional share of Parent Common Stock in accordance with Section 2.2(e), and the Certificate so surrendered shall forthwith be cancelled. In the event of a surrender of a Certificate representing shares of Company Common Stock or Company Preferred Stock which are not registered in the transfer records of the Company under the name of the person surrendering such Certificate, a certificate representing the proper number of shares of Parent Common Stock or Parent New Preferred Stock may be issued to a person other than the person in whose name the Certificate so surrendered is registered if such Certificate shall be properly endorsed or otherwise be in proper form for transfer and the person requesting such issuance shall pay any transfer or other taxes required by reason of the issuance of shares of Parent Common Stock or Parent New Preferred Stock to a person other than the registered holder of such Certificate or establish to the satisfaction of Parent that such tax has been paid or is not applicable. Until surrendered as contemplated by this Section 2.2, each Certificate shall be deemed at any time after the Effective Time to represent only the right to receive upon such surrender the Merger Consideration or shares of Parent New Preferred Stock, as applicable, which the holder thereof has the right to receive in respect of such Certificate pursuant to the provisions of this Article II, certain dividends or other distributions in accordance with Section 2.2(c) and cash in lieu of any fractional share of Parent Common Stock in accordance with Section 2.2(e). No interest shall be paid or will accrue on any cash payable to holders of Certificates pursuant to the provisions of this Article II. 8 (c) Distributions with Respect to Unexchanged Shares. No dividends or other distributions with respect to Parent Common Stock or Parent New Preferred Stock with a record date after the Effective Time shall be paid to the holder of any unsurrendered Certificate with respect to the shares of Parent Common Stock or Parent New Preferred Stock issuable hereunder in respect thereof, and, in the case of Certificates representing Company Common Stock, no cash payment in lieu of fractional shares shall be paid to any such holder pursuant to Section 2.2(e), and all such dividends, other distributions and cash in lieu of fractional shares of Parent Common Stock shall be paid by Parent to the Exchange Agent and shall be included in the Exchange Fund, in each case until the surrender of such Certificate in accordance with this Article II, subject to Section 2.2(f). Subject to the effect of applicable escheat or similar laws, following surrender of any such Certificate there shall be paid to the holder of the certificate representing whole shares of Parent Common Stock or Parent New Preferred Stock issued in exchange therefor, without interest, (i) at the time of such surrender, the amount of dividends or other distributions with a record date after the Effective Time theretofore paid with respect to such whole shares of Parent Common Stock or Parent New Preferred Stock and, in the case of Certificates representing Company Common Stock, the amount of any cash payable in lieu of a fractional share of Parent Common Stock to which such holder is entitled pursuant to Section 2.2(e) and (ii) at the appropriate payment date, the amount of dividends or other distributions with a record date after the Effective Time and with a payment date subsequent to such surrender payable with respect to such whole shares of Parent Common Stock or Parent New Preferred Stock. 9 (d) No Further Ownership Rights in Company Common Stock. All shares of Parent Common Stock or Parent New Preferred Stock issued upon the surrender for exchange of Certificates in accordance with the terms of this Article II (including any cash paid pursuant to this Article II) shall be deemed to have been issued (and paid) in full satisfaction of all rights pertaining to the shares of Company Common Stock or Company Preferred Stock, as applicable, theretofore represented by such Certificates, subject, however, to the Surviving Corporation's obligation to pay any dividends or make any other distributions with a record date prior to the Effective Time which may have been declared or made by the Company on such shares of Company Common Stock or Company Preferred Stock which remain unpaid at the Effective Time, and there shall be no further registration of transfers on the stock transfer books of the Surviving Corporation of the shares of Company Common Stock or Company Preferred Stock which were outstanding immediately prior to the Effective Time. If, after the Effective Time, Certificates are presented to the Surviving Corporation or the Exchange Agent for any reason, they shall be cancelled and exchanged as provided in this Article II, except as otherwise provided by law. (e) No Fractional Shares. (i) No certificates or scrip representing fractional shares of Parent Common Stock shall be issued upon the surrender for exchange of Certificates, no dividend or distribution of Parent shall relate to such fractional share interests and such fractional share interests will not entitle the owner thereof to vote or to any rights of a stockholder of Parent. (ii) As promptly as practicable following the Effective Time, the Exchange Agent shall determine the excess of (A) the number of whole shares of Parent Common Stock delivered to the Exchange Agent by Parent pursuant to Section 2.2(a) over (B) the aggregate number of whole shares of Parent Common Stock to be distributed to former holders of Company Common Stock pursuant to Section 2.2(b) (such excess being herein called the "Excess Shares"). Following the Effective Time, the Exchange Agent shall, on behalf of the former stockholders of the Company, sell the Excess Shares at then-prevailing prices on the New York Stock Exchange, Inc. ("NYSE"), all in the manner provided in Section 2.2(e)(iii). 10 (iii) The sale of the Excess Shares by the Exchange Agent shall be executed on the NYSE through one or more member firms of the NYSE and shall be executed in round lots to the extent practicable. The Exchange Agent shall use reasonable efforts to complete the sale of the Excess Shares as promptly following the Effective Time as, in the Exchange Agent's sole judgment, is practicable consistent with obtaining the best execution of such sales in light of prevailing market conditions. Until the net proceeds of such sale or sales have been distributed to the holders of Certificates formerly representing Company Common Stock, the Exchange Agent shall hold such proceeds in trust for such holders (the "Common Shares Trust"). The Surviving Corporation shall pay all commissions, transfer taxes and other out-of-pocket transaction costs, including the expenses and compensation of the Exchange Agent incurred in connection with such sale of the Excess Shares. The Exchange Agent shall determine the portion of the Common Shares Trust to which each former holder of Company Common Stock is entitled, if any, by multiplying the amount of the aggregate net proceeds comprising the Common Shares Trust by a fraction, the numerator of which is the amount of the fractional share interest to which such former holder of Company Common Stock is entitled (after taking into account all shares of Company Common Stock held of record at the Effective Time by such holder) and the denominator of which is the aggregate amount of fractional share interests to which all former holders of Company Common Stock are entitled. 11 (iv) Notwithstanding the provisions of Section 2.2(e)(ii) and (iii), the Surviving Corporation may elect at its option, exercised prior to the Effective Time, in lieu of the issuance and sale of Excess Shares and the making of the payments hereinabove contemplated, to pay each former holder of Company Common Stock an amount in cash equal to the product obtained by multiplying (A) the fractional share interest to which such former holder (after taking into account all shares of Company Common Stock held of record at the Effective Time by such holder) would otherwise be entitled by (B) the closing price of the Parent Common Stock as reported on the NYSE Composite Transaction Tape (as reported in The Wall Street Journal, or, if not reported therein, any other authoritative source) on the Closing Date, and, in such case, all references herein to the cash proceeds of the sale of the Excess Shares and similar references shall be deemed to mean and refer to the payments calculated as set forth in this Section 2.2(e)(iv). (v) As soon as practicable after the determination of the amount of cash, if any, to be paid to holders of Certificates formerly representing Company Common Stock with respect to any fractional share interests, the Exchange Agent shall make available such amounts to such holders of Certificates formerly representing Company Common Stock subject to and in accordance with the terms of Section 2.2(c). (f) Termination of Exchange Fund. Any portion of the Exchange Fund which remains undistributed to the holders of the Certificates for six months after the Effective Time shall be delivered to Parent, upon demand, and any holders of the Certificates who have not theretofore complied with this Article II shall thereafter look only to Parent for payment of their claim for Merger Consideration or shares of Parent New Preferred Stock, any dividends or distributions with respect to Parent Common Stock or Parent New Preferred Stock, as applicable, and any cash in lieu of fractional shares of Parent Common Stock. 12 (g) No Liability. None of Parent, Sub, the Company, the Surviving Corporation or the Exchange Agent shall be liable to any person in respect of any shares of Parent Common Stock or Parent New Preferred Stock, any dividends or distributions with respect thereto, any cash in lieu of fractional shares of Parent Common Stock or any cash from the Exchange Fund, in each case delivered to a public official pursuant to any applicable abandoned property, escheat or similar law. (h) Investment of Exchange Fund. The Exchange Agent shall invest any cash included in the Exchange Fund, as directed by Parent (provided that such cash shall be invested only in high quality short-term instruments with low risk of loss of principal), on a daily basis. Any interest and other income resulting from such investments shall be paid to Parent. (i) Lost Certificates. If any Certificate shall have been lost, stolen or destroyed, upon the making of an affidavit of that fact by the person claiming such Certificate to be lost, stolen or destroyed and, if required by the Surviving Corporation, the posting by such person of a bond in such reasonable amount as the Surviving Corporation may direct as indemnity against any claim that may be made against it with respect to such Certificate, the Exchange Agent shall issue in exchange for such lost, stolen or destroyed Certificate the Merger Consideration or shares of Parent New Preferred Stock and, if applicable, any unpaid dividends and distributions on shares of Parent Common Stock or Parent New Preferred Stock deliverable in respect thereof and any cash in lieu of fractional shares of Parent Common Stock, in each case pursuant to this Agreement. SECTION 2.3 Certain Adjustments. If after the date hereof and on or prior to the Closing Date the outstanding shares of Parent Common Stock shall be changed into a different number of shares by reason of any reclassification, recapitalization, split-up, combination or exchange of shares, or any dividend payable in stock or other securities shall be declared thereon with a record date within such period, or any similar event shall occur (any such action, an "Adjustment Event"), the Exchange Ratio shall be adjusted accordingly to provide to the holders of Company Common Stock and Company Series A Convertible Preferred Stock the same economic effect as contemplated by this Agreement prior to such reclassification, recapitalization, split-up, combination, exchange or dividend or similar event. 13 ARTICLE III REPRESENTATIONS AND WARRANTIES SECTION 3.1 Disclosure Schedules. Prior to the execution of this Agreement, the Company has delivered to Parent a schedule (the "Company Disclosure Schedule") and Parent has delivered to the Company a schedule (the "Parent Disclosure Schedule" and, together, the "Disclosure Schedules") each setting forth, among other things, items the disclosure of which is necessary or appropriate in relation to any or all of their respective representations and warranties in accordance with the standard established by Section 3.2; provided, however, that notwithstanding anything in this Agreement to the contrary, the mere inclusion of an item in a Disclosure Schedule shall not be deemed an admission by the disclosing party that such item represents a material exception or fact, event or circumstance or that such item constitutes or is reasonably likely to result in a material adverse effect or material adverse change (each as defined in Section 8.3). SECTION 3.2 Standard. No representation or warranty of the Company or Parent contained in Sections 3.3 and 3.4, respectively, other than Sections 3.3(a), 3.3(b), 3.3(c), 3.3(d), 3.3(e), 3.3(f), 3.3(g)(i), (ii) and (iii), 3.3(l), 3.3(m), 3.3(n), 3.3(o), 3.3(s) or 3.3(w) or Sections 3.4(a), 3.4(b), 3.4(c), 3.4(d), 3.4(e), 3.4(f), 3.4(g)(i), (ii) and (iii), 3.4(l) or 3.4(m) (collectively, the "Other Paragraphs"), shall be deemed untrue or incorrect, and no party hereto shall be deemed to have breached a representation or warranty, as a consequence of the existence of any fact, circumstance or event unless such fact, circumstance or event, individually or taken together with all other facts, circumstances or events inconsistent with any paragraph of Section 3.3 or 3.4, as the case may be, other than the Other Paragraphs, has had or is reasonably likely to have a material adverse effect. 14 SECTION 3.3 Representations and Warranties of the Company. Subject to Sections 3.1 and 3.2 and except as disclosed in Company Filed SEC Documents (as defined in Section 3.3(g)) or as set forth on the Company Disclosure Schedule and making reference to the particular subsection of this Agreement to which exception is being taken (regardless of whether such subsection refers to the Company Disclosure Schedule), the Company represents and warrants to Parent as follows: (a) Organization, Standing and Corporate Power. (i) Each of the Company and its subsidiaries (as defined in Section 8.3) is a corporation or other legal entity duly organized, validly existing and in good standing (with respect to jurisdictions which recognize such concept) under the laws of the jurisdiction in which it is organized and has the requisite corporate or other power, as the case may be, and authority to carry on its business as now being conducted, except, as to subsidiaries, for those jurisdictions where the failure to be duly organized, validly existing and in good standing individually or in the aggregate would not have a material adverse effect (as defined in Section 8.3) on the Company. Each of the Company and its subsidiaries is duly qualified or licensed to do business and is in good standing (with respect to jurisdictions which recognize such concept) in each jurisdiction in which the nature of its business or the ownership, leasing or operation of its properties makes such qualification or licensing necessary, except for those jurisdictions where the failure to be so qualified or licensed or to be in good standing individually or in the aggregate would not have a material adverse effect on the Company. (ii) The Company has delivered to Parent prior to the execution of this Agreement complete and correct copies of its certificate of incorporation and by-laws, as amended to date. (iii) In all material respects, the minute books of the Company contain accurate records of all meetings and accurately reflect all other actions taken by the stockholders, the Board of Directors and all committees of the Board of Directors of the Company since January 1, 1994. 15 (b) Subsidiaries. Exhibit 21 to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1996 includes all the subsidiaries of the Company which as of the date of this Agreement are Significant Subsidiaries (as defined in Rule 1-02 of Regulation S-X of the Securities and Exchange Commission (the "SEC")). All the outstanding shares of capital stock of, or other equity interests in, each such Significant Subsidiary have been validly issued and are fully paid and nonassessable; are owned directly or indirectly by the Company, free and clear of all pledges, claims, liens, charges, encumbrances and security interests securing indebtedness or similar obligations (collectively, "Liens"); and are free of any other restriction on the right to vote, sell or otherwise dispose of such capital stock or other ownership interests that would prevent the operation by the Surviving Corporation of such Significant Subsidiary's business as currently conducted. (c) Capital Structure. The authorized capital stock of the Company consists of 250,000,000 shares of Company Common Stock and 5,000,000 shares of preferred stock, without par value, of the Company ("Company Authorized Preferred Stock"), of which 700,000 shares have been designated as Company Series A Convertible Preferred Stock, 2,500,000 shares have been designated as Series B Junior Participating Preferred Stock, 244,375 shares have been designated as 9.50% Cumulative Preferred Stock, Series C ("Company Series C Preferred Stock"), 400,000 shares have been designated as Company 8.08% Preferred Stock, 500,000 shares have been designated as Company 8.40% Preferred Stock, 690,000 shares have been designated as 9.50% Cumulative Preferred Stock, Series F, of the Company ("Company Series F Preferred Stock") and 893,000 shares have been designated as $4.25 Convertible Preferred Stock ("Company $4.25 Preferred Stock"). At the close of business on September 19, 1997: (i) 107,460,248 shares of Company Common Stock were issued and outstanding; (ii) 51,891,428 shares of Company Common Stock were held by the Company in its 16 treasury; (iii) 2,500,000 shares of Company Junior Preferred Stock were reserved for issuance pursuant to the Rights Agreement; (iv) 420,000 shares of Company Series A Convertible Preferred Stock were issued and outstanding; (v) no shares of Company Series C Preferred Stock were issued and outstanding; (vi) 400,000 shares of Company 8.08% Preferred Stock were issued and outstanding (evidenced by 8,000,000 depositary shares, each of which represents a one-twentieth interest in a share of Company 8.08% Preferred Stock); (vii) 500,000 shares of Company 8.40% Preferred Stock were issued and outstanding (evidenced by 10,000,000 depositary shares, each of which represents a one-twentieth interest in a share of Company 8.40% Preferred Stock); (viii) 690,000 shares of Company Series F Preferred Stock were reserved for issuance upon exercise of purchase contracts comprising a part of the 13,800,000 9-1/2% Trust Preferred Stock (TRUPS) Units of SI Financing Trust I; (ix) no shares of Company $4.25 Preferred Stock were issued and outstanding; (x) except as set forth on the Company Disclosure Schedule, no shares of Company Preferred Stock were held by the Company in its treasury, other than shares held for purposes of market making, proprietary trading or otherwise on behalf of customers; (xi) 4,741,602 shares of Company Common Stock were reserved for issuance pursuant to the Company Non-Qualified Stock Option Plan of 1984, the Company Stock Incentive Plan and the Company Employee Stock Purchase Plan (such plans, collectively, the "Company Stock Plans"), of which 1,660,100 shares are subject to outstanding employee stock options or other rights to purchase or receive Company Common Stock granted under the Company Stock Plans (collectively, "Company Employee Stock Options"); (xii) 14,736,843 shares of Company Common Stock were reserved for issuance upon conversion of Company Series A Convertible Preferred Stock; (xiii) 394,429 shares of Company Common Stock were reserved for issuance upon conversion of the Company's Amended and Restated 5.5% Restricted Convertible Subordinated Note Due 1997 and the Company's Amended and Restated 1.25% Restricted Convertible Subordinated Note Due 2000 (collectively with Company 17 Series A Convertible Preferred Stock, "Company Convertible Securities"); and (xiv) other than as set forth above, no other shares of Company Authorized Preferred Stock have been designated or issued. All outstanding shares of capital stock of the Company are, and all shares thereof which may be issued will be, when issued, duly authorized, validly issued, fully paid and nonassessable and not subject to preemptive rights. Except as set forth in this Section 3.3(c) and except for changes since September 19, 1997 resulting from the issuance of shares of Company Common Stock pursuant to Company Employee Stock Options, Company Convertible Securities and other rights referred to above in this Section 3.3(c) or as permitted by Section 4.1(a)(ii), (x) there are not issued, reserved for issuance or outstanding (A) any shares of capital stock or other voting securities of the Company, (B) any securities of the Company or any Company subsidiary convertible into or exchangeable or exercisable for shares of capital stock or voting securities of the Company, (C) any warrants, calls, options or other rights to acquire from the Company or any Company subsidiary, and any obligation of the Company or any Company subsidiary to issue, any capital stock, voting securities or securities convertible into or exchangeable or exercisable for capital stock or voting securities of the Company, and (y) there are no outstanding obligations of the Company or any Company subsidiary to repurchase, redeem or otherwise acquire any such securities or to issue, deliver or sell, or cause to be issued, delivered or sold, any such securities. There are no outstanding (A) securities of the Company or any Company subsidiary convertible into or exchangeable or exercisable for shares of capital stock or other voting securities in any Company subsidiary, (B) warrants, calls, options or other rights to acquire from the Company or any Company subsidiary, and any obligation of the Company or any Company subsidiary to issue, any capital stock, voting securities or other ownership interests in, or any securities convertible into or exchangeable or exercisable for any capital stock, voting securities or ownership interests in, any Company subsidiary or (C) obligations of the Company or any Company subsidiary to repurchase, redeem or otherwise acquire any such outstanding securities of Company subsidiaries or to issue, deliver or sell, or cause to be issued, delivered or sold, any such securities. To the Company's knowledge, neither the Company nor any Company subsidiary is a party to any agreement restricting the transfer of, relating to the voting of, requiring registration of, or granting any preemptive or, except as provided by the terms of Company Employee Stock Options and Company Convertible Securities, antidilutive rights with respect to, any securities of the type referred to in the two preceding sentences. The Company has delivered to Parent prior to the execution of this Agreement a complete and correct copy of the Rights Agreement. 18 (d) Authority; Noncontravention. The Company has all requisite corporate power and authority to enter into this Agreement and, subject, in the case of the Merger, to the Company Stockholder Approval (as defined in Section 3.3(1)) to consummate the transactions contemplated by this Agreement. The execution and delivery of this Agreement by the Company and the consummation by the Company of the transactions contemplated by this Agreement have been duly authorized by all necessary corporate action on the part of the Company, subject, in the case of the Merger, to the Company Stockholder Approval. This Agreement has been duly executed and delivered by the Company and, assuming the due authorization, execution and delivery by Parent and Sub, constitutes the legal, valid and binding obligation of the Company, enforceable against the Company in accordance with its terms. Except as set forth in Section 3.3(d) of the Company Disclosure Schedule, the execution and delivery of this Agreement do not, and the consummation of the transactions contemplated by this Agreement and compliance with the provisions of this Agreement will not, conflict with, or result in any violation of, or default (with or without notice or lapse of time, or both) under, or give rise to a right of termination, cancellation or acceleration of any obligation or loss of a benefit under, or result in the creation of any Lien upon any of the properties or assets of the Company or any of its subsidiaries under, (i) the certificate of incorporation or by-laws of the Company or the comparable organizational documents of any of its Significant Subsidiaries, (ii) any loan or credit agreement, note, bond, mortgage, indenture, lease or other agreement, instrument, permit, concession, franchise, license or similar authorization applicable to the Company or any of its subsidiaries or their respective properties or assets or (iii) subject to the governmental filings and other matters referred to in the following sentence, any judgment, order, decree, statute, law, ordinance, rule or regulation applicable to the Company or any of its subsidiaries or their respective properties or assets, other than, in the case of clauses (ii) and (iii), any such conflicts, violations, defaults, rights, losses or Liens that individually or in the aggregate would not (x) have a material adverse effect on the Company or (y) reasonably be expected to impair the ability of the Company to perform its obligations under this Agreement. No consent, approval, order or authorization of, action by or in respect of, or registration, declaration or filing with, any federal, state, local or foreign government, any court, administrative, regulatory or other governmental agency, commission or authority or any nongovernmental self-regulatory agency, commission or authority (a "Governmental Entity") is required by or with respect to the Company or any of its subsidiaries in connection with the execution and delivery of this Agreement by the Company or the consummation by the Company of the transactions contemplated by this Agreement, except for (1) the filing of a pre-merger notification and report form by the Company under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the "HSR Act"); (2) the filing with the SEC of (A) a proxy statement relating to the Company Stockholders Meeting (as defined in Section 5.1(b)) (such proxy statement, as amended or supplemented from time to time, the "Proxy Statement"), and (B) such reports under Section 13(a), 13(d), 15(d) or 16(a) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), as may be required in connection with this Agreement and the transactions contemplated by this Agreement; (3) the filing of the Certificate of Merger with the Secretary of State of Delaware and such filings with Governmental Entities to satisfy the applicable requirements of the laws of states in which the Company and its subsidiaries are qualified or licensed to do business or state securities or "blue sky" laws; (4) the consents, approvals and notices required under the Investment Company Act of 1940, as amended (the "Investment Company Act"), and the Investment Advisers Act of 1940, as amended (the "Investment Advisers Act"); (5) filings in respect of, and approvals and authorizations of, any Governmental Entity having jurisdiction over the securities, commodities, banking, insurance, or other financial services businesses; and (6) such consents, approvals, orders or authorizations the failure of which to be made or obtained individually or in the aggregate would not (x) have a material adverse effect on the Company or (y) reasonably be expected to impair the ability of the Company to perform its obligations under this Agreement. 19 (e) SEC Documents; Undisclosed Liabilities. Since January 1, 1995, the Company has filed all required reports, schedules, forms, statements and other documents (including exhibits and all other information incorporated therein) with the SEC ("Company SEC Documents"). As of their respective dates, the Company SEC Documents complied in all material respects with the requirements of the Securities Act of 1933, as amended (the "Securities Act"), or the Exchange Act, as the case may be, and the rules and regulations of the SEC promulgated thereunder applicable to such Company SEC Documents, and no Company SEC Document when filed (as amended and restated and as supplemented by subsequently filed Company SEC Documents) contained any untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. The financial statements of the Company included in Company SEC Documents complied as to form, as of their respective dates of filing with the SEC, in all material respects with applicable accounting requirements and the published rules and regulations of the SEC with respect thereto, have been prepared in accordance with GAAP (except, in the case of unaudited statements, as permitted by Form 10-Q of the SEC) applied on a consistent basis during the periods involved (except as may be indicated in the notes thereto) and fairly present the consolidated financial position of the Company and its consolidated subsidiaries as of the dates thereof and the consolidated results of their operations and cash flows for the periods then ended (subject, in the case of unaudited statements, to normal year-end audit adjustments). Except (i) as reflected in such financial statements or in the notes thereto or (ii) for liabilities incurred in connection with this Agreement or the transactions contemplated hereby, neither the Company nor any of its subsidiaries has any liabilities or obligations of any nature which, individually or in the aggregate, would have a material adverse effect on the Company. 20 (f) Information Supplied. None of the information supplied or to be supplied by the Company specifically for inclusion or incorporation by reference in (i) the registration statement on Form S-4 to be filed with the SEC by Parent in connection with the issuance of Parent Common Stock and Parent New Preferred Stock in the Merger (the "Form S-4") will, at the time the Form S-4 becomes effective under the Securities Act, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading or (ii) the Proxy Statement will, at the date it is first mailed to the Company's stockholders or at the time of the Company Stockholders Meeting, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements therein, in light of the circumstances under which they are made, not misleading. The Proxy Statement will comply as to form in all material respects with the requirements of the Exchange Act and the rules and regulations thereunder, except that no representation or warranty is made by the Company with respect to statements made or incorporated by reference therein based on information supplied by Parent specifically for inclusion or incorporation by reference in the Proxy Statement. 21 (g) Absence of Certain Changes or Events. Except for liabilities incurred in connection with this Agreement or the transactions contemplated hereby and except as permitted by Section 4.1(a), since January 1, 1997, the Company and its subsidiaries have conducted their business only in the ordinary course or as disclosed in any Company SEC Document filed since such date and prior to the date hereof (as amended to the date hereof, "Company Filed SEC Documents"), and there has not been (i) any material adverse change in the Company, including, but not limited to, any material adverse change arising from or relating to fraudulent or unauthorized activity, (ii) any declaration, setting aside or payment of any dividend or other distribution (whether in cash, stock or property) with respect to any of the Company's capital stock, other than regular quarterly cash dividends on the Company Common Stock and dividends payable on the Company Preferred Stock in accordance with their terms, (iii) any split, combination or reclassification of any of the Company's capital stock or any issuance or the authorization of any issuance of any other securities in respect of, in lieu of or in substitution for shares of the Company's capital stock, except for issuances of Company Common Stock upon conversion of Company Convertible Securities or upon the exercise of Company Employee Stock Options, in each case awarded prior to the date hereof in accordance with their present terms, (iv) prior to the date hereof (A) any granting by the Company or any of its subsidiaries to any current or former director, executive officer or other key employee of the Company or its subsidiaries of any increase in compensation, bonus or other benefits, except for increases in the ordinary course of business, (B) any granting by the Company or any of its subsidiaries to any such current or former director, executive officer or key employee of any increase in severance or termination pay, or (C) any entry by the Company or any of its subsidiaries into, or any amendment of, any employment, deferred compensation, consulting, severance, termination or indemnification agreement with any such current or former director, executive officer or key employee, (v) except insofar as may have been disclosed in Company Filed SEC Documents or required by a change in GAAP, any change in accounting methods, principles or practices by the Company affecting its assets, liabilities or business, or (vi) except insofar as may have been disclosed in Company Filed SEC Documents, any tax election by the Company or its subsidiaries or any settlement or compromise of any income tax liability by the Company or its subsidiaries. 22 (h) Compliance with Applicable Laws; Litigation. (i) The Company, its subsidiaries and employees hold all permits, licenses, variances, exemptions, orders, registrations and approvals of all Governmental Entities which are required for the operation of the businesses of the Company and its subsidiaries (the "Company Permits"). The Company and its subsidiaries are in compliance with the terms of the Company Permits and all applicable statutes, laws, ordinances, rules and regulations. As of the date of this Agreement, except as disclosed in the Company SEC Documents or set forth in Section 3.3(h) of the Company Disclosure Schedule, no action, demand, requirement or investigation by any Governmental Entity and no suit, action or proceeding by any person, in each case with respect to the Company or any of its subsidiaries or any of their respective properties is pending or, to the knowledge (as defined in Section 8.3) of the Company, threatened, other than, in each case, those the outcome of which individually or in the aggregate would not reasonably be expected to impair the ability of the Company to perform its obligations under this Agreement or prevent or materially delay the consummation of any of the transactions contemplated by this Agreement. (ii) Neither the Company nor any of its subsidiaries is subject to any outstanding order, injunction or decree or is a party to any written agreement, consent agreement or memorandum of understanding with, or is a party to any commitment letter or similar undertaking to, or is subject to any order or directive by, or is a recipient of any supervisory letter from or has adopted any resolutions at the request of any Governmental Entity that restricts the conduct of its business or that in any manner relates to its capital adequacy, its credit policies, its management or its business (each, a "Regulatory Agreement"), nor has the Company or any of its subsidiaries or affiliates (as defined in Section 8.3) (A) been advised since January 1, 1996 by any Governmental Entity that it is considering issuing or requesting any such Regulatory Agreement or (B) have knowledge of any pending or threatened regulatory investigation. After the date of this Agreement, no matters referred to in this Section 3.3(h) shall have arisen. 23 (i) Absence of Changes in Benefit Plans. The Company has provided to Parent a true and complete list of (i) all severance and employment agreements of the Company with directors or executive officers or key employees, (ii) all severance programs, policies and practices of each of the Company and each of its Significant Subsidiaries, and (iii) all plans or arrangements of the Company and each of its Significant Subsidiaries relating to its current or former employees, officers or directors which contain change in control provisions. Since January 1, 1997 there has not been any adoption or amendment in any respect by the Company or any of its subsidiaries of any equity-based Company Benefit Plan. For purposes of this Agreement, "Company Benefit Plan" shall mean collective bargaining agreement, employment agreement, consulting agreement, severance agreement or any material bonus, pension, profit sharing, deferred compensation, incentive compensation, stock ownership, stock purchase, stock option, phantom stock, retirement, vacation, severance, disability, death benefit, hospitalization, medical or other plan, arrangement or understanding providing benefits to any current or former employee, officer or director of the Company or any of its wholly owned subsidiaries. Since January 1, 1997, there has not been any change in any actuarial or other assumptions used to calculate funding obligations with respect to any Company pension plans or post-retirement benefit plans, or any change in the manner in which contributions to any Company pension plans or post-retirement benefit plans are made or the basis on which such contributions are determined which, individually or in the aggregate, would result in an increase of the Company's or its subsidiaries' liabilities thereunder. 24 (j) ERISA Compliance. (i) With respect to Company Benefit Plans, no event has occurred and, to the knowledge of the Company, there exists no condition or set of circumstances, in connection with which the Company or any of its subsidiaries could be subject to any liability that individually or in the aggregate would have an adverse effect on the Company under the Employee Retirement Income Security Act of 1974, as amended ("ERISA"), the Code or any other applicable law. (ii) Each Company Benefit Plan has been administered in accordance with its terms. The Company, its subsidiaries and all the Company Benefit Plans have been operated, and are in compliance with the applicable provisions of ERISA, the Code and all other applicable laws and the terms of all applicable collective bargaining agreements. (iii) Neither the Company nor any trade or business, whether or not incorporated (an "ERISA Affiliate"), which together with the Company would be deemed a "single employer" within the meaning of Section 4001(b) of ERISA, has incurred any unsatisfied liability under Title IV of ERISA in connection with any Company Benefit Plan and no condition exists that presents a risk to the Company or any ERISA Affiliate of incurring any such liability (other than liability for premiums to the Pension Benefit Guaranty Corporation arising in the ordinary course). No Company Benefit Plan has incurred an "accumulated funding deficiency" (within the meaning of Section 302 of ERISA or Section 412 of the Code) whether or not waived. (iv) No Company Benefit Plan is subject to Title IV of ERISA. No Company Benefit Plan is a "multiemployer plan" within the meaning of Section 3(37) of ERISA. 25 (v) Except as set forth in Section 3.3(j) of the Company Disclosure Schedule and except for the Company's Post-Retirement Medical Benefit Plan, no Company Benefit Plan provides medical benefits (whether or not insured), with respect to current or former employees after retirement or other termination of service (other than coverage mandated by applicable law or benefits, the full cost of which is borne by the current or former employee). (vi) Except for the Company's Post-Retirement Medical Benefit Plan, each Company Benefit Plan which is a welfare benefit plan as defined in Section 3(1) of ERISA (including any such plan covering former employees of the Company or any subsidiary of the Company) may be amended or terminated by the Company and Parent on or at any time after the Closing Date. (vii) As of the date of this Agreement, neither the Company nor any of its subsidiaries is a party to any collective bargaining or other labor union contract applicable to persons employed by the Company or any of its subsidiaries and no collective bargaining agreement is being negotiated by the Company or any of its subsidiaries. As of the date of this Agreement, there is no labor dispute, strike or work stoppage against the Company or any of its subsidiaries pending or, to the knowledge of the Company, threatened which may interfere with the respective business activities of the Company or any of its subsidiaries. (viii) No amounts payable under Company Benefit Plans will fail to be deductible for federal income tax purposes by virtue of section 280G of the Code. The consummation of the transactions contemplated by this Agreement will not, either alone or in combination with another event undertaken by the Company or any of its subsidiaries prior to the date hereof, (A) entitle any current or former employee or officer of the Company or any ERISA Affiliate to severance pay, unemployment compensation or any other payment, except as expressly provided in this Agreement, (B) accelerate the time of payment or vesting, or increase the amount of compensation due any such employee or officer or (C) constitute a "change in control" under any Company Benefit Plan, and the Company and its board of directors have taken all required actions to effect the foregoing. 26 (k) Taxes. (i) Each of the Company and its subsidiaries has filed all tax returns and reports required to be filed by it and all such returns and reports are complete and correct in all respects, or requests for extensions to file such returns or reports have been timely filed, granted and have not expired. The Company and each of its subsidiaries has paid (or the Company has paid on its behalf) all taxes (as defined herein) shown as due on such returns, and the most recent financial statements contained in Company Filed SEC Documents reflect an adequate reserve in accordance with GAAP for all taxes payable by the Company and its subsidiaries for all taxable periods and portions thereof accrued through the date of such financial statements. (ii) No deficiencies for any taxes have been proposed, asserted or assessed against the Company or any of its subsidiaries that are not adequately reserved for. The federal income tax returns of the Company and each of its subsidiaries consolidated in such returns for tax years through 1986 have closed by virtue of the applicable statute of limitations. (iii) Neither the Company nor any of its subsidiaries has taken any action or knows of any fact, agreement, plan or other circumstance that is reasonably likely to prevent the Merger from qualifying as a reorganization within the meaning of Section 368(a) of the Code. (iv) As used in this Agreement, "taxes" shall include all (x) federal, state, local or foreign income, property, sales, excise and other taxes or similar governmental charges, including any interest, penalties or additions with respect thereto, (y) liability for the payment of any amounts of the type described in (x) as a result of being a member of an affiliated, consolidated, combined or unitary group, and (z) liability for the payment of any amounts as a result of being party to any tax sharing agreement or as a result of any express or implied obligation to indemnify any other person with respect to the payment of any amounts of the type described in clause (x) or (y). 27 (l) Voting Requirements. The affirmative vote at the Company Stockholders Meeting (the "Company Stockholder Approval") of a (i) majority of the voting power of all outstanding shares of Company Common Stock and Company Series A Convertible Preferred Stock, voting together as a single class, and (ii) two-thirds of the number of outstanding shares of Company Preferred Stock (with all series voting together as a single class) to adopt this Agreement are the only votes of the holders of any class or series of the Company's capital stock necessary to approve and adopt this Agreement and the transactions contemplated hereby, including the Merger. (m) State Takeover Statutes. The Board of Directors of the Company has approved this Agreement and the Voting Agreement and the transactions contemplated hereby and thereby and, assuming the accuracy of Parent's representation and warranty contained in Section 3.4(n), such approval constitutes approval of the Merger and the Voting Agreement and the other transactions contemplated hereby and thereby by the Company Board of Directors under the provisions of Section 203 of the DGCL such that Section 203 of the DGCL does not apply to this Agreement and the Voting Agreement and the transactions contemplated hereby and thereby. To the knowledge of the Company, no other state takeover statute is applicable to the Merger or the Voting Agreement or the other transactions contemplated hereby or thereby. (n) Accounting Matters. The Company has disclosed to its independent public accountants all actions taken by it or its subsidiaries that would impact the accounting of the business combination to be effected by the Merger as a pooling of interests. As of the date hereof, the Company, based on advice from its independent public accountants, believes that the Merger will qualify for "pooling of interests" accounting. In connection with the foregoing, the Company has received a letter from the Company's independent accountants stating that accounting for the Merger as a pooling of interests under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations is appropriate if the Merger is closed and consummated as contemplated by this Agreement. (o) Brokers. No broker, investment banker, financial advisor or other person is entitled to any broker's, finder's, financial advisor's or other similar fee or commission in connection with the transactions contemplated by this Agreement based upon arrangements made by or on behalf of the Company. 28 (p) Ownership of Parent Capital Stock. Except for shares owned by Company Benefit Plans or shares held or managed for the account of another person or as to which the Company is required to act as a fiduciary or in a similar capacity or as otherwise disclosed in the Company SEC Documents, as of the date hereof, neither the Company nor, to its knowledge without independent investigation, any of its affiliates, (i) beneficially owns (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, or (ii) except as set forth in Section 3.3(p) of the Company Disclosure Schedule, is party to any agreement, arrangement or understanding for the purpose of acquiring, holding, voting or disposing of, in each case, shares of capital stock of Parent, other, in each case, than the shares of Parent capital stock held, directly or indirectly, in trust accounts, managed accounts or the like or held for the account of another person. (q) Intellectual Property. (i) The Company and its subsidiaries own or have a valid license to use all trademarks, service marks and trade names (including any registrations or applications for registration of any of the foregoing) (collectively, the "Company Intellectual Property") necessary to carry on its business substantially as currently conducted and the consummation of the Merger and the other transactions contemplated hereby will not result in the loss of any such rights. (ii) The consummation of the Merger and the other transactions contemplated hereby will not result in the loss of any rights to use computer and telecommunication software including source and object code and documentation and any other media (including, without limitation, manuals, journals and reference books) necessary to carry on its business substantially as currently conducted. (r) Certain Contracts. Except as set forth in the Company SEC Documents filed prior to the date hereof or as permitted pursuant to Section 4.1(a), neither the Company nor any of its subsidiaries is a party to or bound by (i) any agreement relating to the incurring of indebtedness (including sale and leaseback and capitalized lease transactions and other similar financing transactions) providing for payment or repayment in excess of $1 billion, other than such agreements relating to indebtedness incurred in the ordinary course of business of the Company's subsidiaries to finance their securities and commodity portfolio positions, (ii) any "material contract" (as such term is defined in Item 601(b)(10) of Regulation S-K of the SEC), or (iii) any non-competition agreement or any other agreement or obligation which purports to limit in any respect the manner in which, or the localities in which, all or any substantial portion of the business of the Company and its subsidiaries, taken as a whole, is or would be conducted (the agreements, contracts and obligations specified in clauses (ii) and (iii) above, collectively the "Company Material Contracts"). 29 (s) Rights Agreement. The Company has taken all action (including, if required, amending or terminating the Rights Agreement) so that the entering into of this Agreement and the Voting Agreement and the consummation of the transactions contemplated hereby and thereby do not and will not enable or require the Company Rights to be exercised or distributed. (t) Environmental Liability. Except as set forth in the Company SEC Documents or the Company Disclosure Schedule, there are no legal, administrative, arbitral or other proceedings, claims, actions, causes of action, private environmental investigations or remediation activities or governmental investigations of any nature seeking to impose on the Company or any of its subsidiaries, or that reasonably could be excepted to result in the imposition on the Company or any of its subsidiaries of, any liability or obligation arising under applicable common law standards relating to pollution or protection of the environment, human health or safety, or under any local, state or federal environmental statute, regulation, ordinance, decree, judgment or order relating to pollution or protection of the environment including, without limitation, the Comprehensive Environmental Response, Compensation, and Liability Act of 1980, as amended (collectively, the "Environmental Laws"), pending or, to the knowledge of the Company, threatened, against the Company or any of its subsidiaries. To the knowledge of the Company, each of the Company and each of its subsidiaries is, and each former subsidiary of the Company was, for so long as such subsidiary was a subsidiary of the Company, in compliance with all Environmental Laws and has or at such time had all permits required under Environmental Laws and there is no reasonable basis for any proceeding, claim, action or governmental investigation under any Environmental Law that would impose any liability or obligation on the Company or its subsidiaries based on any failure to have, obtain or comply with such permits. Except as set forth in the Company SEC Documents or the Company Disclosure Schedule, neither the Company nor any of its subsidiaries is subject to any agreement (including any indemnification agreement), order, judgment, decree, letter or memorandum by or with any court, governmental authority, regulatory agency or third party imposing any material liability or obligation pursuant to or under any Environmental Law. 30 (u) Derivative Transactions. (i) All Derivative Transactions (as defined below) entered into by the Company or any of its subsidiaries were entered into in accordance with applicable rules, regulations and policies of any regulatory authority, and in accordance with the Policies, Practices and Procedures (as defined in Section 3.3(v)), and were entered into with counterparties believed at the time to be financially responsible and able to understand (either alone or in consultation with their advisers) and to bear the risks of such Derivative Transactions. (ii) For purposes of this Section 3.3(u), "Derivative Transactions" means any swap transaction, option, warrant, forward purchase or sale transaction, futures transaction, cap transaction, floor transaction or collar transaction relating to one or more currencies, commodities, bonds, equity securities, loans, interest rates, credit-related events or conditions or any indexes, or any other similar transaction (including any option with respect to any of these transactions) or combination of any of these transactions, including collateralized mortgage obligations or other similar instruments or any debt or equity instruments evidencing or embedding any such types of transactions, and any related credit support, collateral or other similar arrangements related to such transactions. 31 (v) Investment Securities and Commodities. (i) Each of the Company and its subsidiaries has good title to all securities and commodities owned by it (except those sold under repurchase agreements or held in any fiduciary or agency capacity), free and clear of any Lien, except to the extent such securities or commodities are pledged in the ordinary course of business to secure obligations of the Company or its subsidiaries. Such securities and commodities are valued on the books of the Company in accordance with GAAP. (ii) The Company and its subsidiaries and their respective businesses employ investment, securities, commodities, risk management and other policies, practices and procedures (the "Policies, Practices and Procedures") which the Company believes are prudent and reasonable in the context of such businesses. Prior to the date hereof, the Company has identified to Parent in writing, in the form previously agreed between the parties, those material Policies, Practices and Procedures which are capable of identification as of the date hereof and, as soon as reasonably practicable after the date hereof, the Company and its subsidiaries will have disclosed to Parent or its representatives those material Policies, Practices and Procedures with respect to which Parent or its representatives reasonably request disclosure, including the previously-agreed information, that are not capable of identification as of the date hereof, it being understood by Parent that many of the Policies, Practices and Procedures are not in writing and that such disclosure of such requested non-written Policies, Practices and Procedures will be made orally and reduced to writing. Parent agrees to keep all such disclosure confidential in accordance with the terms of the Confidentiality Agreements (as defined in Section 5.4). (w) Ineligible Persons. Neither the Company, nor, to the knowledge of the Company, any "affiliated person" (as defined in the Investment Company Act) of the Company, is ineligible pursuant to Section 9(a) or 9(b) of the Investment Company Act to serve as an investment advisor (or in any other capacity contemplated by the Investment Company Act) to a registered investment company. Neither the Company nor, to the knowledge of the Company, any "person associated with an investment adviser" (as defined in the Investment Advisers Act) of the Company, is ineligible pursuant to Section 203 of the Investment Advisers Act to serve as an investment advisor or as an associated person to a registered investment adviser. To the knowledge of the Company, neither the Company nor any "associated person of a broker or dealer" (as defined in the Exchange Act) of the Company, is ineligible pursuant to Section 15(b) of the Exchange Act to serve as a broker-dealer or as an associated person to a registered broker-dealer. 32 SECTION 3.4 Representations and Warranties of Parent. Subject to Sections 3.1 and 3.2 and except as disclosed in the Parent Filed SEC Documents (as defined in Section 3.4(g)) or as set forth on the Parent Disclosure Schedule and making reference to the particular subsection of this Agreement to which exception is being taken (regardless of whether such subsection refers to the Parent Disclosure Schedule), Parent represents and warrants to the Company as follows: (a) Organization, Standing and Corporate Power. (i) Each of Parent and its subsidiaries (including Sub) is a corporation or other legal entity duly organized, validly existing and in good standing (with respect to jurisdictions which recognize such concept) under the laws of the jurisdiction in which it is organized and has the requisite corporate or other power, as the case may be, and authority to carry on its business as now being conducted, except, as to subsidiaries, for those jurisdictions where the failure to be duly organized, validly existing and in good standing individually or in the aggregate would not have a material adverse effect on Parent. Each of Parent and its subsidiaries is duly qualified or licensed to do business and is in good standing (with respect to jurisdictions which recognize such concept) in each jurisdiction in which the nature of its business or the ownership, leasing or operation of its properties makes such qualification or licensing necessary, except for those jurisdictions where the failure to be so qualified or licensed or to be in good standing individually or in the aggregate would not have a material adverse effect on Parent. (ii) Parent has delivered to the Company prior to the execution of this Agreement complete and correct copies of its certificate of incorporation and by-laws, as amended to date. (iii) In all material respects, the minute books of Parent contain accurate records of all meetings and accurately reflect all other actions taken by the stockholders, the Board of Directors and all committees of the Board of Directors of Parent since January 1, 1994. 33 (b) Subsidiaries. Exhibit 21 to Parent's Annual Report on Form 10-K for the fiscal year ended December 31, 1996 includes all the Significant Subsidiaries of Parent as of the date of this Agreement. Except as set forth in Section 3.4(b) of the Parent Disclosure Schedule, all the outstanding shares of capital stock of, or other equity interests in, each such Significant Subsidiary have been validly issued and are fully paid and nonassessable; are owned directly or indirectly by Parent, free and clear of all Liens; and are free of any other restriction on the right to vote, sell or otherwise dispose of such capital stock or other ownership interests that would prevent the operation by the Surviving Corporation of such Significant Subsidiary's business as currently conducted. (c) Capital Structure. The authorized capital stock of Parent consists of 1,500,000,000 shares of Parent Common Stock and 30,000,000 shares of preferred stock, par value $1.00 per share, of Parent ("Parent Authorized Preferred Stock"), of which 1,200,000 shares have been designated as 8.125% Cumulative Preferred Stock, Series A ("Parent Series A Preferred Stock"), 2,500,000 shares have been designated as 5.50% Convertible Preferred Stock, Series B ("Parent Series B Preferred Stock"), 8,000,000 shares have been designated as $4.53 ESOP Convertible Preferred Stock, Series C ("Parent Series C Preferred Stock"), 7,500,000 shares have been designated as 9.25% Preferred Stock, Series D ("Parent Series D Preferred Stock"), 1,600,000 shares have been designated as 6.365% Cumulative Preferred Stock, Series F ("Parent Series F Preferred Stock"), 800,000 shares have been designated as 6.213% Cumulative Preferred Stock, Series G ("Parent Series G Preferred Stock"), 800,000 shares have been designated as 6.231% Cumulative Preferred Stock, Series H ("Parent Series H Preferred Stock"), 5,000 shares have been designated as Cumulative Adjustable Rate Preferred Stock, Series Y ("Parent Series Y Preferred Stock") and 4,444 shares have been designated as $45,000 Cumulative Redeemable Preferred 34 Stock, Series Z ("Parent Series Z Preferred Stock"). At the close of business on August 31, 1997: (i) 640,258,150 shares of Parent Common Stock were issued and outstanding; (ii) 111,848,134 shares of Parent Common Stock were held by Parent in its treasury or by subsidiaries of Parent; (iii) no shares of Parent Series A Preferred Stock were issued and outstanding; (iv) no shares of Parent Series B Preferred Stock were issued and outstanding; (v) 2,925,921 shares of Parent Series C Preferred Stock were issued and outstanding; (vi) no shares of Parent Series D Preferred Stock were issued and outstanding; (vii) 1,600,000 shares of Parent Series F Preferred Stock were issued and outstanding (evidenced by 8,000,000 depositary shares, each of which represents a one-fifth interest in a share of Parent Series F Preferred Stock); (viii) 800,000 shares of Parent Series G Preferred Stock were issued and outstanding (evidenced by 4,000,000 depositary shares, each of which represents a one-fifth interest in a share of Parent Series G Preferred Stock); (ix) 800,000 shares of Parent Series H Preferred Stock were issued and outstanding (evidenced by 4,000,000 depositary shares, each of which represents a one-fifth interest in a share of Parent Series H Preferred Stock); (x) 2,262 shares of Parent Series Y Preferred Stock were issued and outstanding; (xi) no shares of Parent Series Z Preferred Stock were issued and outstanding; (xii) 6,959,368 shares of Parent Common Stock were reserved for issuance pursuant to outstanding warrants to purchase shares of Parent Common Stock at an exercise price of $19.50 per share, which warrants are exercisable until July 31, 1998 (collectively with the Parent Series C Preferred Stock, the "Parent Convertible Securities"); (xiii) 4,724,222 shares were reserved for issuance upon conversion of the Parent Series C Preferred Stock; (xiv) shares of Parent Common Stock reserved for issuance pursuant to the stock-based plans identified in Section 3.4(c) of the Parent Disclosure Schedule (such plans, collectively, the "Parent Stock Plans"), of which 42,057,074 shares are subject to outstanding employee stock options or other rights to purchase or receive Parent Common Stock granted under the Parent Stock Plans (collectively, "Parent Employee Stock Options"); and (xv) other than as set forth above, no other shares of Parent Authorized Preferred Stock have been designated or 35 issued. All outstanding shares of capital stock of Parent are, and all shares thereof which may be issued pursuant to this Agreement or otherwise will be, when issued, duly authorized, validly issued, fully paid and nonassessable and not subject to preemptive rights. Except as set forth in this Section 3.4(c) and except for changes since August 31, 1997 resulting from the issuance of shares of Parent Common Stock pursuant to the Parent Stock Plans, Parent Employee Stock Options or Parent Convertible Securities and other rights referred to in this Section 3.4(c), as of the date hereof, (x) there are not issued, reserved for issuance or outstanding (A) any shares of capital stock or other voting securities of Parent, (B) any securities of Parent or any Parent subsidiary convertible into or exchangeable or exercisable for shares of capital stock or voting securities of Parent, (C) any warrants, calls, options or other rights to acquire from Parent or any Parent subsidiary, and any obligation of Parent or any Parent subsidiary to issue, any capital stock, voting securities or securities convertible into or exchangeable or exercisable for capital stock or voting securities of Parent, and (y) there are no outstanding obligations of Parent or any Parent subsidiary to repurchase, redeem or otherwise acquire any such securities or to issue, deliver or sell, or cause to be issued, delivered or sold, any such securities. As of the date hereof, except with respect to Travelers Property Casualty Corp., there are no outstanding (A) securities of Parent or any Parent subsidiary convertible into or exchangeable or exercisable for shares of capital stock or other voting securities in any Parent subsidiary, (B) warrants, calls, options or other rights to acquire from Parent or any Parent subsidiary, and any obligation of Parent or any Parent subsidiary to issue, any capital stock, voting securities or other ownership interests in, or any securities convertible into or exchangeable or exercisable for any capital stock, voting securities or ownership interests in, any Parent subsidiary or (C) obligations of Parent or any Parent subsidiary to repurchase, redeem or otherwise acquire any such outstanding securities of Parent subsidiaries or to issue, deliver or sell, or cause to be issued, delivered or sold, any such securities. To Parent's knowledge, except as set forth in Section 3.4(c) of the Parent Disclosure Schedule, neither Parent nor any Parent subsidiary is a party to any agreement restricting the transfer of, relating to the voting of, requiring registration of, or granting any preemptive or, except as provided by the terms of Parent Stock Plans, Parent Employee Stock Options and Parent Convertible Securities, antidilutive rights with respect to, any securities of the type referred to in the two preceding sentences. 36 (d) Authority; Noncontravention. Parent and Sub each has all requisite corporate power and authority to enter into this Agreement and to consummate the transactions contemplated by this Agreement. The execution and delivery of this Agreement by each of Parent and Sub and the consummation by each of Parent and Sub of the transactions contemplated by this Agreement have been duly authorized by all necessary corporate action on the part of Parent and Sub. This Agreement has been duly executed and delivered by each of Parent and Sub and, assuming the due authorization, execution and delivery by the Company, constitutes the legal, valid and binding obligation of each of Parent and Sub, enforceable against each of Parent and Sub in accordance with its terms. The execution and delivery of this Agreement does not, and the consummation of the transactions contemplated by this Agreement and compliance with the provisions of this Agreement will not, conflict with, or result in any violation of, or default (with or without notice or lapse of time, or both) under, or give rise to a right of termination, cancellation or acceleration of any obligation or loss of a benefit under, or result in the creation of any Lien upon any of the properties or assets of Parent or any of its subsidiaries (including Sub) under, (i) the certificate of incorporation or by-laws of Parent or the comparable organizational documents of any of its Significant Subsidiaries (including Sub), (ii) any loan or credit agreement, note, bond, mortgage, indenture, lease or other agreement, instrument, permit, concession, franchise, license or similar authorization applicable to Parent or any of its subsidiaries (including Sub) or their respective properties or assets or (iii) subject to the governmental filings and other matters referred to in the following sentence, any judgment, order, decree, statute, law, ordinance, rule or regulation applicable to Parent or any of its subsidiaries (including Sub) or their respective properties or assets, other than, in the case of clauses (ii) and (iii), any such conflicts, violations, defaults, rights, losses or Liens that individually or in the aggregate would not (x) have a material adverse effect on Parent or (y) reasonably be expected to impair the ability of Parent to perform its obligations under this Agreement. No consent, approval, order or authorization of, action by, or in respect of, or registration, declaration or filing with, any Governmental Entity is required by or with respect to Parent or any of its subsidiaries (including Sub) in connection with the execution and delivery of this Agreement by each of Parent or Sub or the consummation by Parent and Sub of the transactions contemplated by this Agreement, except for (1) the filing of a pre-merger notification and report form by Parent under the HSR Act; (2) the filing with the SEC of (A) the Form S-4 and (B) such reports under Section 13(a), 13(d), 15(d) or 16(a) of the Exchange Act as may be required in connection with this Agreement and the transactions contemplated by this Agreement; (3) the filing of the Certificate of Merger with the Secretary of State of Delaware and such filings with Governmental Entities to satisfy the applicable requirements of the laws of states in which Parent and its subsidiaries are qualified or licensed to do business or state securities or "blue sky" laws; (4) such filings with and approvals of the NYSE and the Pacific Stock Exchange (the "PSE") to permit the shares of Parent Common Stock to be issued in the Merger and under the Company Stock Plans to be listed on the NYSE and the PSE and to permit the depositary shares representing the Parent New Preferred Stock that are to be issued in the Merger to be listed on the NYSE (to the extent the corresponding depositary shares representing Company Preferred Stock were listed on the NYSE immediately prior to the Effective Time); (5) filings in respect of, and approvals and authorizations of, any Governmental Entity having jurisdiction over the securities, commodities, banking, insurance, or other financial services businesses; and (6) such consents, approvals, orders or authorizations the failure of which to be made or obtained individually or in the aggregate would not (x) have a material adverse effect on Parent or (y) reasonably be expected to impair the ability of Parent to perform its obligations under this Agreement. 37 (e) SEC Documents; Undisclosed Liabilities. Since January 1, 1995, Parent has filed all required reports, schedules, forms, statements and other documents (including exhibits and all other information incorporated therein) with the SEC (the "Parent SEC Documents"). As of their respective dates, the Parent SEC Documents complied in all material respects with the requirements of the Securities Act or the Exchange Act, as the case may be, and the rules and regulations of the SEC promulgated thereunder applicable to such Parent SEC Documents, and none of the Parent SEC Documents when filed (as amended and restated and as supplemented by subsequently filed Parent SEC Documents) contained any untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. The financial statements of Parent included in the Parent SEC Documents complied as to form, as of their respective dates of filing with the SEC, in all material respects with applicable accounting requirements and the published rules and regulations of the SEC with respect thereto, have been prepared in accordance with GAAP (except, in the case of unaudited statements, as permitted by Form 10-Q of the SEC) applied on a consistent basis during the periods involved (except as may be indicated in the notes thereto) and fairly present the consolidated financial position of Parent and its consolidated subsidiaries as of the dates thereof and the consolidated results of their operations and cash flows for the periods then ended (subject, in the case of unaudited statements, to normal year-end audit adjustments). Except (i) as reflected in such financial statements or in the notes thereto or (ii) for liabilities incurred in connection with this Agreement or the transactions contemplated hereby, neither Parent nor any of its subsidiaries has any liabilities or obligations of any nature which, individually or in the aggregate, would have a material adverse effect on Parent. 38 (f) Information Supplied. None of the information supplied or to be supplied by Parent specifically for inclusion or incorporation by reference in (i) the Form S-4 will, at the time the Form S-4 becomes effective under the Securities Act, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading or (ii) the Proxy Statement will, at the date it is first mailed to the Company's stockholders or at the time of the Company Stockholders Meeting, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements therein, in light of the circumstances under which they are made, not misleading. The Form S-4 and the Proxy Statement will comply as to form in all material respects with the requirements of the Securities Act and the Exchange Act and the rules and regulations thereunder, except that no representation or warranty is made by Parent with respect to statements made or incorporated by reference therein based on information supplied by the Company specifically for inclusion or incorporation by reference in the Form S-4 or the Proxy Statement. 39 (g) Absence of Certain Changes or Events. Except for liabilities incurred in connection with this Agreement or the transactions contemplated hereby, and except as permitted by Section 4.1(b), since January 1, 1997, Parent and its subsidiaries have conducted their business only in the ordinary course or as disclosed in any Parent SEC Document filed since such date and prior to the date hereof (as amended to the date hereof, the "Parent Filed SEC Documents"), and there has not been (i) any material adverse change in Parent, including, but not limited to, any material adverse change arising from or relating to fraudulent or unauthorized activity, (ii) any declaration, setting aside or payment of any dividend or other distribution (whether in cash, stock or property) with respect to any of Parent's capital stock, other than regular quarterly cash dividends on the Parent Common Stock and dividends payable on Parent's preferred stock in accordance with their terms, (iii) any split, combination or reclassification of any of Parent's capital stock or any issuance or the authorization of any issuance of any other securities in respect of, in lieu of or in substitution for shares of Parent's capital stock, except for issuances of Parent Common Stock upon exercise of Parent Employee Stock Options, upon conversion of Parent Convertible Securities or in accordance with the terms of the Parent Stock Plans, (iv) except insofar as may have been disclosed in Parent Filed SEC Documents or required by a change in GAAP, any change in accounting methods, principles or practices by Parent affecting its assets, liabilities or business or (v) except insofar as may have been disclosed in the Parent Filed SEC Documents, any tax election by Parent or its subsidiaries or any settlement or compromise of any income tax liability by Parent or its subsidiaries. 40 (h) Compliance with Applicable Laws; Litigation. (i) Parent, its subsidiaries and employees hold all permits, licenses, variances, exemptions, orders, registrations and approvals of all Governmental Entities which are required for the operation of the businesses of Parent and its subsidiaries (the "Parent Permits"). Parent and its subsidiaries are in compliance with the terms of the Parent Permits and all applicable statutes, laws, ordinances, rules and regulations. As of the date of this Agreement, except as disclosed in Parent SEC Documents or set forth in Section 3.4(h) of the Parent Disclosure Schedule, no action, demand, requirement or investigation by any Governmental Entity and no suit, action or proceeding by any person, in each case with respect to Parent or any of its subsidiaries or any of their respective properties, is pending or, to the knowledge of Parent, threatened, other than, in each case, those the outcome of which individually or in the aggregate would not reasonably be expected to impair the ability of Parent to perform its obligations under this Agreement or prevent or materially delay the consummation of any of the transactions contemplated by this Agreement. (ii) Neither Parent nor any of its subsidiaries is subject to any outstanding order, injunction or decree or is a party to any Regulatory Agreement, nor has Parent or any of its subsidiaries or affiliates (A) been advised since January 1, 1996 by any Governmental Entity that it is considering issuing or requesting any such Regulatory Agreement or (B) have knowledge of any pending or threatened regulatory investigation. After the date of this Agreement, no matters referred to in this Section 3.4(h) shall have arisen. (i) Absence of Changes in Benefit Plans. Except as set forth in Section 3.4(i) of the Parent Disclosure Schedule, since January 1, 1997 there has not been any adoption or amendment in any respect by Parent or any of its subsidiaries of any equity-based Parent Benefit Plan. For purposes of this Agreement, "Parent Benefit Plan" shall mean collective bargaining agreement, employment agreement, consulting agreement, severance agreement or any material bonus, pension, profit sharing, deferred compensation, incentive compensation, stock ownership, stock purchase, stock option, phantom stock, retirement, vacation, severance, disability, death benefit, hospitalization, medical or other plan, arrangement or understanding providing benefits to any current or former employee, officer or director of the Parent or any of its wholly owned subsidiaries. Since January 1, 1997, there has not been any change in any actuarial or other assumptions used to calculate funding obligations with respect to any Parent pension plans or post-retirement benefit plans, or any change in the manner in which contributions to any Parent pension plans or post-retirement benefit plans are made or the basis on which such contributions are determined which, individually or in the aggregate, would result in an increase of the Parent's or its subsidiaries' liabilities thereunder. 41 (j) ERISA Compliance. (i) With respect to Parent Benefit Plans, no event has occurred and, to the knowledge of Parent, there exists no condition or set of circumstances, in connection with which Parent or any of its subsidiaries could be subject to any liability that individually or in the aggregate would have an adverse effect on Parent under ERISA, the Code or any other applicable law. (ii) Each Parent Benefit Plan has been administered in accordance with its terms. Parent, its subsidiaries and all the Parent Benefit Plans have been operated, and are in compliance with the applicable provisions of ERISA, the Code and all other applicable laws and the terms of all applicable collective bargaining agreements. (iii) Neither Parent nor any trade or business, whether or not incorporated (an "ERISA Affiliate"), which together with Parent would be deemed a "single employer" within the meaning of Section 4001(b) of ERISA, has incurred any unsatisfied liability under Title IV of ERISA in connection with any Parent Benefit Plan and no condition exists that presents a risk to Parent or any ERISA Affiliate of incurring any such liability (other than liability for premiums to the Pension Benefit Guaranty Corporation arising in the ordinary course). No Parent Benefit Plan has incurred an "accumulated funding deficiency" (within the meaning of Section 302 of ERISA or Section 412 of the Code) whether or not waived. (iv) Except as set forth in Section 3.4(j) of the Parent Disclosure Schedule, no Parent Benefit Plan is subject to Title IV of ERISA. No Parent Benefit Plan is a "multiemployer plan" within the meaning of Section 3(37) of ERISA. 42 (v) Except as set forth in Section 3.4(j) of the Parent Disclosure Schedule, no Parent Benefit Plan provides medical benefits (whether or not insured), with respect to current or former employees after retirement or other termination of service (other than coverage mandated by applicable law or benefits, the full cost of which is borne by the current or former employee). (vi) Each Parent Benefit Plan which is a welfare benefit plan as defined in Section 3(1) of ERISA (including any such plan covering former employees of Parent or any subsidiary of the Parent) may be amended or terminated by Parent or any subsidiary of Parent on or at any time after the Closing Date. (vii) As of the date of this Agreement, neither Parent nor any of its subsidiaries is a party to any collective bargaining or other labor union contract applicable to persons employed by Parent or any of its subsidiaries and no collective bargaining agreement is being negotiated by Parent or any of its subsidiaries. As of the date of this Agreement, there is no labor dispute, strike or work stoppage against Parent or any of its subsidiaries pending or, to the knowledge of Parent, threatened which may interfere with the respective business activities of Parent or any of its subsidiaries. (viii) No amounts payable under Parent Benefit Plans will fail to be deductible for federal income tax purposes by virtue of section 280G of the Code. The consummation of the transactions contemplated by this Agreement will not, either alone or in combination with another event, (A) entitle any current or former employee or officer of Parent or any ERISA Affiliate to severance pay, unemployment compensation or any other payment, except as expressly provided in this Agreement, (B) accelerate the time of payment or vesting, or increase the amount of compensation due any such employee or officer or (C) constitute a "change in control" under any Parent Benefit Plan, and Parent and its board of directors have taken all required actions to effect the foregoing. 43 (k) Taxes. (i) Each of Parent and its subsidiaries has filed all tax returns and reports required to be filed by it and all such returns and reports are complete and correct in all respects, or requests for extensions to file such returns or reports have been timely filed, granted and have not expired. Parent and each of its subsidiaries has paid (or Parent has paid on its behalf) all taxes shown as due on such returns, and the most recent financial statements contained in the Parent Filed SEC Documents reflect an adequate reserve in accordance with GAAP for all taxes payable by Parent and its subsidiaries for all taxable periods and portions thereof accrued through the date of such financial statements. (ii) No deficiencies for any taxes have been proposed, asserted or assessed against Parent or any of its subsidiaries that are not adequately reserved for. The federal income tax returns of Parent and each of its subsidiaries consolidated in such returns for tax years through 1988 have closed by virtue of the applicable statute of limitations, except as set forth on Schedule 3.4(k). (iii) Neither Parent nor any of its subsidiaries has taken any action or knows of any fact, agreement, plan or other circumstance that is reasonably likely to prevent the Merger from qualifying as a reorganization within the meaning of Section 368(a) of the Code. (l) Accounting Matters. Parent has disclosed to its independent public accountants all actions taken by it or its subsidiaries that would impact the accounting of the business combination to be effected by the Merger as a pooling of interests. Parent, based on advice from its independent public accountants, believes that the Merger will qualify for "pooling of interest" accounting. In connection with the foregoing, Parent has received a letter from Parent's independent accountants stating that accounting for the Merger as a pooling of interests under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations is appropriate if the Merger is closed and consummated as contemplated by this Agreement. 44 (m) Brokers. No broker, investment banker, financial advisor or other person is entitled to any broker's, finder's, financial advisor's or other similar fee or commission in connection with the transactions contemplated by this Agreement based upon arrangements made by or on behalf of Parent. (n) Ownership of Company Capital Stock. Except for shares owned by Parent Benefit Plans or shares held or managed for the account of another person or as to which Parent is required to act as a fiduciary or in a similar capacity or as otherwise disclosed in the Parent SEC Documents, as of the date hereof, except for the Voting Agreement, neither Parent nor, to its knowledge without independent investigation, any of its affiliates, (i) beneficially owns (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, or (ii) is party to any agreement, arrangement or understanding for the purpose of acquiring, holding, voting or disposing of, in each case, shares of capital stock of the Company, other, in each case, than the shares of the Company's capital stock held directly or indirectly, in trust accounts, managed accounts or the like or held for the account of another person. (o) Voting Requirements. Assuming the accuracy of the Company's representation and warranty contained in Section 3.3(c), no vote of the holders of Parent Common Stock or Parent's preferred stock is necessary to authorize the issuance of Parent Common Stock or Parent New Preferred Stock pursuant to the Merger or otherwise in connection with the transactions contemplated by this Agreement, including the stock exchange listings contemplated by Section 5.11 (except as contemplated by Section 5.6(c)). (p) Environmental Liability. Except as set forth in the Parent SEC Documents or the Company Disclosure Schedule, there are no legal, administrative, arbitral or other proceedings, claims, actions, causes of action, private environmental investigations or remediation activities or governmental investigations of any nature seeking to impose on Parent or any of its subsidiaries, or that reasonably could be expected to result in the imposition on Parent or any of its subsidiaries of, any liability or obligation arising under applicable Environmental Laws, pending or, to the knowledge of Parent, threatened, against Parent or any of its subsidiaries. To the knowledge of Parent, each of Parent and each of its subsidiaries is, and each former subsidiary of Parent was, for so long as such subsidiary was a subsidiary of Parent, in compliance with all Environmental Laws and has or at such time had all permits required under Environmental Laws and there is no reasonable basis for any proceeding, claim, action or governmental investigation under any Environmental Law that would impose any liability or obligation on Parent or its subsidiaries based on any failure to have, obtain or comply with such permits. Except as set forth in the Parent SEC Documents, the Parent Disclosure Schedule or the reports, schedules, forms, statements and other documents (including exhibits and all other information incorporated therein) filed by Travelers Property Casualty Corp. with the SEC since January 1, 1995, neither Parent nor any of its subsidiaries is subject to any agreement (including any indemnification agreement), order, judgment, decree, letter or memorandum by or with any court, governmental authority, regulatory agency or third party imposing any material liability or obligation pursuant to or under any Environmental Law. 45 ARTICLE IV COVENANTS RELATING TO CONDUCT OF BUSINESS SECTION 4.1 Conduct of Business. (a) Conduct of Business by the Company. Except as set forth in Section 4.1(a) of the Company Disclosure Schedule, as otherwise expressly contemplated by this Agreement or as consented to by Parent in writing, such consent not to be unreasonably withheld or delayed, during the period from the date of this Agreement to the Effective Time, the Company shall, and shall cause its subsidiaries to, carry on their respective businesses in the ordinary course consistent with past practice and in compliance in all material respects with all applicable laws and regulations and, to the extent consistent therewith, use all reasonable efforts to preserve intact their current business organizations, use all reasonable efforts to keep available the services of their current officers and other key employees and preserve their relationships with those persons having business dealings with them to the end that their goodwill and ongoing businesses shall be unimpaired at the Effective Time. Without limiting the generality of the foregoing, senior officers of Parent and the Company shall meet on a regular basis to review the financial and operational affairs of the Company and its subsidiaries. Such review shall be conducted in accordance with applicable law and shall not cover current or future pricing of specific products, marketing or strategic plans, specific breakdowns of sales by customers, or plans to introduce new competitive products. Without limiting the generality of the foregoing (but subject to the above exceptions), during the period from the date of this Agreement to the Effective Time, the Company shall not, and shall not permit any of its subsidiaries to: (i) other than dividends and distributions by a direct or indirect wholly owned subsidiary of the Company to its parent, or by a subsidiary that is partially owned by the Company or any of its subsidiaries, provided that the Company or any such subsidiary receives or is to receive its proportionate share thereof, (x) declare, set aside or pay any dividends on, make any other distributions in respect of, or enter into any agreement with respect to the voting of, any of its capital stock (except (A) for regular quarterly cash dividends on Company Common Stock at a rate not in excess of $.16 per share (which amount per share may be increased in accordance with Section 4.1(d)) and (B) for regular quarterly cash dividends on Company Preferred Stock in accordance with their present terms), (y) split, combine or reclassify any of its capital stock or issue 46 or authorize the issuance of any other securities in respect of, in lieu of or in substitution for shares of its capital stock, except for issuances of Company Common Stock upon conversion of Company Convertible Securities or upon the exercise of Company Employee Stock Options that are, in each case, outstanding as of the date hereof in accordance with their present terms, or (z) purchase, redeem or otherwise acquire any shares of capital stock of the Company or any of its subsidiaries or any other securities thereof or any rights, warrants or options to acquire any such shares or other securities other than pursuant to the terms of the Company Series A Convertible Preferred Stock; (ii) issue, deliver, sell, pledge or otherwise encumber or subject to any Lien any shares of its capital stock, any other voting securities or any securities convertible into, or any rights, warrants or options to acquire, any such shares, voting securities or convertible securities (other than (w) the issuance of Company Common Stock upon conversion of Company Convertible Securities in accordance with their present terms at the option of the holders thereof, (x) the issuance of Company Common Stock upon the exercise of Company Employee Stock Options that are, in each case, outstanding as of the date hereof in accordance with their present terms, (y) the issuance of Company Common Stock pursuant to the Company's Employee Stock Purchase Plan, in accordance with the present terms of such plan) and (z) pursuant to the Rights Agreement; (iii) amend its certificate of incorporation, by-laws or other comparable organizational documents; 47 (iv) acquire or agree to acquire by merging or consolidating with, or by purchasing a substantial portion of the assets of, or by any other manner, any business or any person; (v) sell, lease, license, mortgage or otherwise encumber or subject to any Lien or otherwise dispose of any of its properties or assets that is material in relation to the Company and its subsidiaries, taken as a whole (including securitizations), other than in the ordinary course of business; (vi) except for borrowings under existing credit facilities or lines of credit, incur any indebtedness for borrowed money or issue any debt securities or assume, guarantee or endorse, or otherwise become responsible for the obligations of any person, or make any loans, advances or capital contributions to, or investments in, any person other than its wholly owned subsidiaries, except in the ordinary course of business consistent with past practice or except as attributable to the execution of this Agreement and the transactions contemplated hereby; (vii) change its methods of accounting (or underlying assumptions) in effect at December 31, 1996, except as required by changes in GAAP, or change any of its methods of reporting income and deductions for federal income tax purposes from those employed in the preparation of the federal income tax returns of the Company for the taxable years ending December 31, 1996, except as required by changes in law or regulation; (viii) change the investment and risk management and other policies of the Company and the other Policies, Practices and Procedures without Parent's prior written consent; (ix) with respect to the business conducted by Phibro Inc. and its subsidiaries, (A) manage its net risk position other than in a manner consistent with that employed during the last six months, which the Company represents to be a net risk position substantially below the Company's current nominal risk limits or (B) permit its targeted annualized value at risk, computed in accordance with the Company's prior practices, to exceed the number specified in Section 4.1(a)(ix) of the Company Disclosure Schedule; 48 (x) create, renew, amend, terminate or cancel, or take any other action that may result in the creation, renewal, amendment, termination or cancellation of any Company Material Contract except in the ordinary course of business; (xi) except (A) pursuant to agreements or arrangements in effect on the date hereof, (B) for dividends paid in accordance with Section 4.1(a) and (C) in accordance with Section 4.1(c), pay, loan or advance any amount to, or sell, transfer or lease any properties or assets (real, personal or mixed, tangible or intangible) to, or enter into any agreement or arrangement with, any of its officers or directors or any affiliate or the immediate family members or associates of any of its officers or directors other than compensation in the ordinary course of business consistent with past practice; or (xii) authorize, or commit or agree to take, any of the foregoing actions; provided that the limitations set forth in this Section 4.1(a) (other than clause (iii)) shall not apply to any transaction between the Company and any wholly owned subsidiary or between any wholly owned subsidiaries of the Company. 49 (b) Conduct of Business by Parent. Except as set forth in Section 4.1(b) of the Parent Disclosure Schedule, as otherwise expressly contemplated by this Agreement or as consented to by the Company in writing, such consent not to be unreasonably withheld or delayed, during the period from the date of this Agreement to the Effective Time, Parent shall, and shall cause its subsidiaries to, carry on their respective businesses in the ordinary course consistent with past practice and in compliance in all material respects with all applicable laws and regulations and, to the extent consistent therewith, use all reasonable efforts to preserve intact their current business organizations, use reasonable efforts to keep available the services of their current officers and other key employees and preserve their relationships with those persons having business dealings with them to the end that their goodwill and ongoing businesses shall be unimpaired at the Effective Time. Without limiting the generality of the foregoing (but subject to the above exceptions), during the period from the date of this Agreement to the Effective Time, Parent shall not, and shall not permit any of its subsidiaries to: (i) other than pursuant to Adjustment Events and other than dividends and distributions by a direct or indirect wholly owned subsidiary of Parent to its parent, or by a subsidiary that is partially owned by Parent or any of its subsidiaries, provided that Parent or any such subsidiary receives or is to receive its proportionate share thereof, declare, set aside or pay any dividends on or make any other distributions in respect of any of its capital stock (except (A) for regular quarterly cash dividends (which may be increased by Parent) on the Parent Common Stock and (B) for regular quarterly cash dividends on the Parent Authorized Preferred Stock); provided, however, that this Section 4.1(b)(i) shall not apply to Travelers Property Casualty Corp. and its wholly owned subsidiaries; (ii) except as contemplated hereby, amend its certificate of incorporation (other than in connection with the issuance of a new class or series of Parent Authorized Preferred Stock); provided, however, that this Section 4.1(b)(ii) shall not apply to Parent's subsidiaries other than Sub; (iii) enter into any agreement to acquire all or substantially all of the capital stock or assets of any other person or business unless upon advice of counsel such transaction would not reasonably be expected to materially delay or impede the consummation of the Merger; (iv) authorize, or commit or agree to take, any of the foregoing actions; provided that the limitations set forth in this Section 4.1(b) shall not apply to any transaction between Parent and any wholly owned subsidiary or between any wholly owned subsidiaries of Parent. 50 (c) Compensation Matters. (i) Notwithstanding anything in this Agreement to the contrary, until the Effective Time, the senior officers of the Company referred to below, after consultation with Parent, shall recommend to the Compensation Committee of the Board of Directors of the Company (the "Compensation Committee") incentive compensation for employees of the Company and its subsidiaries for the 1997 compensation year. Such Committee shall, after considering such recommendation and any other input separately provided by Parent, determine such incentive compensation for such employees (provided that it makes its determination in a manner that is consistent with past practice). Such aggregate incentive compensation, together with aggregate 1997 base compensation, shall not exceed the aggregate incentive compensation accruals (including the accruals for the quarter ended September 30, 1997, and an accrual for 1997 set forth in Section 4.1(c) of the Company Disclosure Schedule based upon the representations set forth therein), plus accruals in respect of 1997 base compensation. The Compensation Committee may make such determinations at an earlier time in the calendar year (after the date hereof) than is the usual practice of the Company. Incentive compensation for the 1997 compensation year shall be paid not earlier than December 29, 1997. For purposes of the foregoing, recommendations to the Compensation Committee regarding incentive compensation for the 1997 compensation year shall be made (i) by the individual who is the 51 Chairman and Chief Executive Officer of Salomon Brothers Inc and an Executive Vice President of the Company, in the case of employees of subsidiaries of the Company (other than Phibro Inc., Phibro Resources Corp., Philipp Brothers, Inc., Phibro Energy Production, Inc. and their subsidiaries (collectively, "Phibro")) who are not also officers of the Company, (ii) by the Chairman and Chief Executive Officer of the Company, in the case of employees of Phibro and officers of the Company (other than such Chief Executive Officer) who are not employees of subsidiaries of the Company and (iii) jointly by the executive officers referred to in clauses (i) and (ii), in the case of officers of the Company (other than its Chief Executive Officer) who are also employees of subsidiaries of the Company (other than Phibro). Notwithstanding the foregoing, the 1997 incentive compensation of the Chief Executive Officer of the Company shall be determined by the Compensation Committee in its sole discretion, subject to the limit on aggregate compensation for the 1997 compensation year referred to above. Parent and the Surviving Corporation shall implement all incentive compensation decisions made in accordance with the terms of this Section 4.1(c) following the Effective Time if such decisions were not implemented prior to the Effective Time. Until the Effective Time, the Company shall not, without the prior written consent of Parent, amend any of the Company's or its subsidiaries' employee plans or take action under such plans inconsistent with the Company's or its subsidiaries' ordinary course of conduct prior to the date hereof. Until the Effective Time, the Company and its subsidiaries shall not approve any severance or similar payments outside the ordinary course of conduct consistent with prior practice, including, without limitation, for employees whose employment is expected to terminate, or who have indicated an interest in terminating their employment, as a result of the Merger. 52 (d) Coordination of Dividends. The Company shall change its customary quarterly dividend record dates for the Company Common Stock to occur on the customary quarterly dividend record dates for the Parent Common Stock commencing with the dividend record date expected to be November 3, 1997. The first dividend to be paid by the Company on the Company Common Stock following such record date change shall be an amount equal to (x) the product of (i) the amount of the quarterly dividend on the Parent Common Stock (as it may have been increased) and (ii) the Exchange Ratio, multiplied by (y) a fraction, the numerator is the number of days elapsed since the Company's last dividend record date on the Company Common Stock and the denominator is 90. Notwithstanding anything in Section 4.1(a)(i) to the contrary, in the event that Parent increases the dividend rate on the Parent Common Stock (assuming that no Adjustment Event has occurred) and any such dividend has a record date prior to the Effective Time, the Company shall be entitled to increase the quarterly dividend on the Company Common Stock (subject, if applicable, to pro ration as described in the immediately preceding sentence) to an amount equal to the product of (i) the amount of the quarterly dividend on the Parent Common Stock (as so increased) and (ii) the Exchange Ratio. Parent will notify the Company promptly following approval by the Parent Board of Directors of any increase in Parent's dividend rate. It is the intent of the parties that all actions taken pursuant to this Agreement shall be consistent with their intention that the Merger will be accounted for as a pooling of interests. In furtherance of the foregoing, the parties agree to cooperate with each other regarding these matters in an attempt to carry out such intention to the fullest extent. (e) Other Actions. Except as required by law, the Company and Parent shall not, and shall not permit any of their respective subsidiaries to, voluntarily take any action that would, or that could reasonably be expected to, result in (i) any of the representations and warranties of such party set forth in this Agreement that are qualified as to materiality (including as a result of the provisions of Section 3.2) becoming untrue at the Effective Time, (ii) any of such representations and warranties that are not so qualified becoming untrue in any material respect at the Effective Time, or (iii) any of the conditions to the Merger set forth in Article VI not being satisfied. 53 (f) Advice of Changes. The Company and Parent shall promptly advise the other party orally and in writing to the extent it has knowledge of (i) any representation or warranty made by it contained in this Agreement that is qualified as to materiality (including as a result of the provisions of Section 3.2) becoming untrue or inaccurate in any respect or any such representation or warranty that is not so qualified becoming untrue or inaccurate in any material respect, (ii) the failure by it to comply in any material respect with or satisfy in any material respect any covenant, condition or agreement to be complied with or satisfied by it under this Agreement and (iii) any change or event having, or which, insofar as can reasonably be foreseen, could reasonably be expected to have a material adverse effect on such party or on the truth of their respective representations and warranties or the ability of the conditions set forth in Article VI to be satisfied; provided, however, that no such notification shall affect the representations, warranties, covenants or agreements of the parties (or remedies with respect thereto) or the conditions to the obligations of the parties under this Agreement. SECTION 4.2 No Solicitation by the Company. (a) The Company shall not, nor shall it permit any of its subsidiaries to, nor shall it authorize or permit any of its directors, officers or employees or any investment banker, financial advisor, attorney, accountant or other representative retained by it or any of its subsidiaries to, directly or indirectly through another person, (i) solicit, initiate or encourage (including by way of furnishing information), or take any other action designed to facilitate, any inquiries or the making of any proposal which constitutes a Company Takeover Proposal (as defined below) or (ii) participate in any discussions or negotiations regarding any Company Takeover Proposal; provided, however, that if the Board of Directors of the Company determines in good faith, after consultation with outside counsel, that it is necessary to do so in order to act in a manner consistent with its fiduciary duties to the Company's stockholders under applicable law, the Company may, in response to any Company Takeover Proposal which was not solicited by it and which did not otherwise result from a breach of this Section 4.2(a), and subject to providing prior written notice of its decision to take such action to Parent 54 and compliance with Section 4.2(c), (x) furnish information with respect to the Company and its subsidiaries to any person making a Company Takeover Proposal pursuant to a customary confidentiality agreement (as determined by the Company based on the advice of its outside counsel) and (y) participate in discussions or negotiations regarding such Company Takeover Proposal. For purposes of this Agreement, "Company Takeover Proposal" means any inquiry, proposal or offer from any person relating to any direct or indirect acquisition or purchase of a business that constitutes 30% or more of the net revenues, net income or assets of the Company and its subsidiaries, taken as a whole, or 30% or more of any class of equity securities of the Company, any tender offer or exchange offer that if consummated would result in any person beneficially owning 30% or more of any class of any equity securities of the Company, or any merger, consolidation, business combination, recapitalization, liquidation, dissolution or similar transaction involving the Company (or any Company subsidiary whose business constitutes 30% or more of the net revenues, net income or assets of the Company and its subsidiaries, taken as a whole), other than the transactions contemplated by this Agreement. (b) Except as expressly permitted by this Section 4.2, neither the Board of Directors of the Company nor any committee thereof shall (i) withdraw or modify, or propose publicly to withdraw or modify, in a manner adverse to Parent, the approval or recommendation by such Board of Directors or such committee of the Merger or this Agreement, (ii) approve or recommend, or propose publicly to approve or recommend, any Company Takeover Proposal, or (iii) cause the Company to enter into any letter of intent, agreement in principle, acquisition agreement or other similar agreement (each, a "Company Acquisition Agreement") related to any Company Takeover Proposal. Notwithstanding the foregoing, the Board of Directors of the Company, to the extent that it determines in good faith, after consultation with outside counsel, that in light of a Company Superior Proposal it is necessary to do so in order to act in a 55 manner consistent with its fiduciary duties to the Company's stockholders under applicable law, may terminate this Agreement solely in order to concurrently enter into a Company Acquisition Agreement with respect to any Company Superior Proposal, but only at a time that is after the second business day following Parent's receipt of written notice advising Parent that the Board of Directors of the Company is prepared to accept a Company Superior Proposal, specifying the material terms and conditions of such Company Superior Proposal and identifying the person making such Company Superior Proposal, all of which information will be kept confidential by Parent in accordance with the terms of the Confidentiality Agreements. For purposes of this Agreement, a "Company Superior Proposal" means any proposal made by a third party to acquire, directly or indirectly, including pursuant to a tender offer, exchange offer, merger, consolidation, business combination, recapitalization, liquidation, dissolution or similar transaction, for consideration consisting of cash and/or securities, more than 50% of the combined voting power of the shares of the Company's capital stock then outstanding or all or substantially all the assets of the Company and otherwise on terms which the Board of Directors of the Company determines in its good faith judgment to be more favorable to the Company's stockholders than the Merger and for which financing, to the extent required, is then committed or which, in the good faith judgment of the Board of Directors of the Company, is reasonably capable of being obtained by such third party. (c) In addition to the obligations of the Company set forth in paragraphs (a) and (b) of this Section 4.2, the Company shall immediately advise Parent orally and in writing of any request for information or of any Company Takeover Proposal, the material terms and conditions of such request or Company Takeover Proposal and the identity of the person making such request or Company Takeover Proposal. The Company will keep Parent reasonably informed of the status and details (including amendments or proposed amendments) of any such request or Company Takeover Proposal. (d) Nothing contained in this Section 4.2 shall prohibit the Company from taking and disclosing to its stockholders a position contemplated by Rule 14e-2(a) promulgated under the Exchange Act or from making any disclosure to the Company's stockholders if, in the good faith judgment of the Board of Directors of the Company, after consultation with outside counsel, failure so to disclose would be inconsistent with its obligations under applicable law; provided, however, that, neither the Company nor its Board of Directors nor any committee thereof shall withdraw or modify, or propose publicly to withdraw or modify, its position with respect to this Agreement or the Merger or approve or recommend, or propose publicly to approve or recommend, a Company Takeover Proposal. 56 ARTICLE V ADDITIONAL AGREEMENTS SECTION 5.1 Preparation of the Form S-4 and the Proxy Statement; Stockholders Meetings. (a) As soon as practicable following the date of this Agreement, the Company and Parent shall prepare and file with the SEC the Proxy Statement and Parent shall prepare and file with the SEC the Form S-4, in which the Proxy Statement will be included as a prospectus. Each of the Company and Parent shall use best efforts to have the Form S-4 declared effective under the Securities Act as promptly as practicable after such filing. The Company will use all best efforts to cause the Proxy Statement to be mailed to the holders of Company Common Stock and Company Preferred Stock as promptly as practicable after the Form S-4 is declared effective under the Securities Act. Parent shall also take any action (other than qualifying to do business in any jurisdiction in which it is not now so qualified or to file a general consent to service of process) required to be taken under any applicable state securities laws in connection with the issuance of the Parent Common Stock and the Parent New Preferred Stock in the Merger and the Company shall furnish all information concerning the Company and the holders of Company Common Stock as may be reasonably requested in connection with any such action. No filing of, or amendment or supplement to, the Form S-4 or the Proxy Statement will be made by Parent or the Company without providing the other with the opportunity to review and comment thereon. Parent will advise the Company, promptly after it receives notice thereof, of the time when the Form S-4 has become effective or any supplement or amendment has been filed, the issuance of any stop order, the suspension of the qualification of the Parent Common Stock and the Parent New Preferred Stock issuable in connection with the Merger for offering or sale in any jurisdiction, or any request by the SEC for amendment of the Proxy Statement or the Form S-4 or comments thereon and responses thereto or requests by the SEC for additional information. If at any time prior to the Effective Time any information relating to the Company or Parent, or any of their respective affiliates, officers or directors, should be discovered by the Company or Parent which should be set forth in an amendment or supplement to any of the Form S-4 or the Proxy Statement, so that any of such documents would not include any misstatement of a material fact or omit to state any material fact necessary to make the statements therein, in light of the circumstances under which they were made, not misleading, the party which discovers such information shall promptly notify the other parties hereto and an appropriate amendment or supplement describing such information shall be promptly filed with the SEC and, to the extent required by law, disseminated to the stockholders of the Company and Parent. 57 (b) The Company shall, as promptly as practicable after the Form S-4 is declared effective under the Securities Act, duly call, give notice of, convene and hold a meeting of its stockholders (the "Company Stockholders Meeting") in accordance with the DGCL for the purpose of obtaining the Company Stockholder Approval and, subject to its rights to terminate this Agreement pursuant to Section 4.2(b), shall, through its Board of Directors, recommend to its stockholders the approval and adoption of this Agreement, the Merger and the other transactions contemplated hereby. Without limiting the generality of the foregoing but subject to its rights to terminate this Agreement pursuant to Section 4.2(b), the Company agrees that its obligations pursuant to the first sentence of this Section 5.1(b) shall not be affected by the commencement, public proposal, public disclosure or communication to the Company of any Company Takeover Proposal. SECTION 5.2 Letters of the Company's Accountants. (a) The Company shall use best efforts to cause to be delivered to Parent two letters from the Company's independent accountants, one dated a date within two business days before the date on which the Form S-4 shall become effective and one dated a date within two business days before the Closing Date, each addressed to Parent, in form and substance reasonably satisfactory to Parent and customary in scope and substance for comfort letters delivered by independent public accountants in connection with registration statements similar to the Form S-4. (b) The Company shall use best efforts to cause to be delivered to Parent and Parent's independent accountants two letters from the Company's independent accountants addressed to Parent and the Company, one dated as of the date the Form S-4 is declared effective and one dated as of the Closing Date, in each case stating that accounting for the Merger as a pooling of interests under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations is appropriate if the Merger is closed and consummated as contemplated by this Agreement. 58 SECTION 5.3 Letters of Parent's Accountants. (a) Parent shall use best efforts to cause to be delivered to the Company two letters from Parent's independent accountants, one dated a date within two business days before the date on which the Form S-4 shall become effective and one dated a date within two business days before the Closing Date, each addressed to the Company, in form and substance reasonably satisfactory to the Company and customary in scope and substance for comfort letters delivered by independent public accountants in connection with registration statements similar to the Form S-4. (b) Parent shall use best efforts to cause to be delivered to the Company and the Company's independent accountants two letters from Parent's independent accountants addressed to the Company and Parent, one dated as of the date the Form S-4 is declared effective and one dated as of the Closing Date, in each case stating that accounting for the Merger as a pooling of interests under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations is appropriate if the Merger is closed and consummated as contemplated by this Agreement. SECTION 5.4 Access to Information; Confidentiality. Subject to the two Confidentiality Agreements, each dated September 9, 1997, between Parent and the Company (the "Confidentiality Agreements"), and subject to the restrictions contained in confidentiality agreements to which such party is subject (which such party will use its best efforts to have waived) and applicable law, each of the Company and Parent shall, and shall cause each of its respective subsidiaries to, afford to the other party and to the officers, employees, accountants, counsel, financial advisors and other representatives of such other party, reasonable access during normal business hours during the period prior to the Effective Time to all their respective properties, books, contracts, commitments, personnel and records and, during such period, each of the Company and Parent shall, and shall cause each of its respective subsidiaries to, furnish promptly to the other party (a) a copy of each report, schedule, registration statement and other document filed by it during such period pursuant to the requirements of federal or state securities laws and (b) all other information concerning its business, properties and personnel as such other party may reasonably request. In addition, the Company will deliver, or cause to be delivered, to Parent the internal or external reports reasonably required by Parent promptly after such reports are made available to the Company's personnel. No review pursuant to this Section 5.4 shall affect any representation or warranty given by the other party hereto. Each of the Company and Parent will hold, and will cause its respective officers, employees, accountants, counsel, financial advisors and other representatives and affiliates to hold, any nonpublic information in accordance with the terms of the Confidentiality Agreements. 59 SECTION 5.5 Best Efforts. (a) Upon the terms and subject to the conditions set forth in this Agreement, each of the parties agrees to use best efforts to take, or cause to be taken, all actions, and to do, or cause to be done, and to assist and cooperate with the other parties in doing, all things necessary, proper or advisable to consummate and make effective, in the most expeditious manner practicable, the Merger and the other transactions contemplated by this Agreement, including (i) the obtaining of all necessary actions or nonactions, waivers, consents and approvals from Governmental Entities and the making of all necessary registrations and filings and the taking of all steps as may be necessary to obtain an approval or waiver from, or to avoid an action or proceeding by, any Governmental Entity, (ii) the obtaining of all necessary consents, approvals or waivers from third parties, (iii) the defending of any lawsuits or other legal proceedings, whether judicial or administrative, challenging this Agreement or the consummation of the transactions contemplated by this Agreement, including seeking to have any stay or temporary restraining order entered by any court or other Governmental Entity vacated or reversed, and (iv) the execution and delivery of any additional instruments necessary to consummate the transactions contemplated by, and to fully carry out the purposes of, this Agreement. Nothing set forth in this Section 5.5(a) will limit or affect actions permitted to be taken pursuant to Section 4.2. (b) In connection with and without limiting the foregoing, the Company and Parent shall (i) take all action necessary to ensure that no state takeover statute or similar statute or regulation is or becomes applicable to this Agreement or the Voting Agreement or the Merger or any of the other transactions contemplated hereby or thereby and (ii) if any state takeover statute or similar statute or regulation becomes applicable to this Agreement or the Voting Agreement or the Merger or any other transaction contemplated hereby or thereby, take all action necessary to ensure that the Merger and the other transactions contemplated by this Agreement and the Voting Agreement may be consummated as promptly as practicable on the terms contemplated by this Agreement or the Voting Agreement and otherwise to minimize the effect of such statute or regulation on the Merger and the other transactions contemplated by this Agreement or the Voting Agreement. 60 (c) Each of the Company and Parent shall cooperate with each other in obtaining opinions of Cravath, Swaine & Moore, counsel to the Company, and Skadden, Arps, Slate, Meagher & Flom LLP, counsel to Parent, dated as of the Effective Time, to the effect that the Merger will constitute a reorganization within the meaning of Section 368(a) of the Code. In connection therewith, each of Parent, Sub and the Company shall deliver to Cravath, Swaine & Moore and Skadden, Arps, Slate, Meagher & Flom LLP customary representation letters in form and substance reasonably satisfactory to such counsel and the Company shall use its best efforts to obtain any representation letters from appropriate stockholders and shall deliver any such letters obtained to Cravath, Swaine & Moore and Skadden, Arps, Slate, Meagher & Flom LLP (the representation letters referred to in this sentence are collectively referred to as the "Tax Certificates"). (d) Each of Parent and Sub shall use its best efforts to assist the Company in the preparation and filing, on the earliest practicable date after the date of this Agreement, of a Current Report on Form 8-K for the Company containing the information required by Item 512(a)(1)(ii) of Regulation S-K of the SEC, including the historical financial statements of Parent and Sub required by Rule 3-05 of Regulation S-X of the SEC and the pro forma financial information with respect to the business combination contemplated by this Agreement required by Article 11 of Regulation S-X of the SEC, and each of Parent and Sub shall take all other action necessary to allow the Company to issue and sell securities, subject to Section 4.1(a) hereof, on a continuous or delayed basis in one or more public offerings registered under the Securities Act. 61 (e) The Company shall use its best efforts to assist Parent and certain of its subsidiaries that are subject to the reporting requirements of the Exchange Act (the "Reporting Subs") in the preparation and filing, on the earliest practicable date after the date of this Agreement, of Current Reports on Form 8-K for each of Parent and the Reporting Subs containing the information required by Item 512(a)(1)(ii) of Regulation S-K of the SEC, including the historical financial statements of the Company required by Rule 3-05 of Regulation S-X of the SEC and the pro forma financial information with respect to the business combination contemplated by this Agreement required by Article 11 of Regulation S-X of the SEC, and the Company shall take all other action necessary to allow Parent and the Reporting Subs to issue and sell securities on a continuous or delayed basis in one or more public offerings registered under the Securities Act. SECTION 5.6 Employee Stock Options, Incentive and Benefit Plans. (a) As of the Effective Time, (i) each outstanding Company Employee Stock Option shall be converted into an option (an "Adjusted Option") to purchase the number of shares of Parent Common Stock equal to the number of shares of Company Common Stock subject to such Company Employee Stock Option immediately prior to the Effective Time multiplied by the Exchange Ratio, at an exercise price per share equal to the exercise price for each such share of Company Common Stock subject to such option divided by the Exchange Ratio, and all references in each such option to the Company shall be deemed to refer to Parent, where appropriate, and (ii) Parent shall assume the obligations of the Company under the Company Stock Plans. The other terms of each such option, and the plans under which they were issued, shall continue to apply in accordance with their terms. (b) As of the Effective Time, (i) each outstanding award (including restricted stock, deferred stock, phantom stock, stock equivalents and stock units) (each a "Company Award") under any Company Stock Plan shall be converted into the same instrument of Parent, in each case with such adjustments (and no other adjustments) to the terms of such Company Awards as are necessary to preserve the value inherent in such Company Awards with no detrimental effects on the holder thereof and (ii) Parent shall assume the obligations of the Company under the Company Awards. The other terms of each Company Award, and the plans or agreements under which they were issued, shall continue to apply in accordance with their terms. (c) The Company and Parent agree that each of the Company Stock Plans and Parent Stock Plans shall be amended, to the extent necessary, to reflect the transactions contemplated by this Agreement, including, but not limited to the conversion of shares of Company Common Stock held or to be awarded or paid pursuant to such benefit plans, programs or arrangements into shares of Parent Common Stock on a basis consistent with the transactions contemplated by this Agreement. The Company and Parent agree to submit the amendments to the Parent Stock Plans or the Company Stock Plans to their respective stockholders, if such submission is determined to be necessary by counsel to the Company or Parent after consultation with one another; provided, however, that such approval shall not be a condition to the consummation of the Merger. 62 (d) Parent shall (i) reserve for issuance the number of shares of Parent Common Stock that will become subject to the benefit plans, programs and arrangements referred to in this Section 5.6 and (ii) issue or cause to be issued the appropriate number of shares of Parent Common Stock pursuant to applicable plans, programs and arrangements, upon the exercise or maturation of rights existing thereunder on the Effective Time or thereafter granted or awarded. No later than the Effective Time, Parent shall prepare and file with the SEC a registration statement on Form S-8 (or other appropriate form) registering a number of shares of Parent Common Stock necessary to fulfill Parent's obligations under this Section 5.6. Such registration statement shall be kept effective (and the current status of the prospectus required thereby shall be maintained) for at least as long as Adjusted Options or Company Awards remain outstanding. (e) As soon as practicable after the Effective Time, Parent shall deliver to the holders of Company Employee Stock Options and Company Awards appropriate notices setting forth such holders' rights pursuant to the respective Company Stock Plans and the agreements evidencing the grants of such Company Employee Stock Options and Company Awards and that such Company Employee Stock Options and Company Awards and the related agreements shall be assumed by Parent and shall continue in effect on the same terms and conditions (subject to the adjustments required by this Section after giving effect to the Merger). (f) To the extent that any compensation paid to a current or former employee of the Company or any of its subsidiaries would, if paid, fail to be deductible by the Company, Parent or any of their respective subsidiaries under Section 162(m) of the Code, such payment shall, consistent with the Company's existing policy regarding the deferral of compensation in order to preserve the tax deductibility thereof (as described in the Company's Proxy Statement for the Company's 1997 Annual Meeting of Stockholders), be made in the first taxable year in which it will be deductible by the Company, Parent or their subsidiaries. 63 SECTION 5.7 Indemnification, Exculpation and Insurance. (a) Parent and Sub agree that all rights to indemnification and exculpation from liabilities for acts or omissions occurring at or prior to the Effective Time now existing in favor of the current or former directors or officers of the Company and its subsidiaries as provided in their respective certificates of incorporation or by-laws (or comparable organizational documents) and any indemnification agreements or arrangements of the Company shall survive the Merger and shall continue in full force and effect in accordance with their terms. The Surviving Corporation shall pay any expenses of any indemnified person under this Section 5.7 in advance of the final disposition of any action, proceeding or claim relating to any such act or omission to the fullest extent permitted under the DGCL upon receipt from the applicable indemnified person to whom advances are to be advanced of any undertaking to repay such advances required under the DGCL. The Surviving Corporation shall cooperate in the defense of any such matter. In addition, from and after the Effective Time, directors or officers of the Company who become directors or officers of Parent will be entitled to the same indemnity rights and protections as are afforded to other directors and officers of Parent. (b) In the event that either of the Surviving Corporation or Parent or any of its successors or assigns (i) consolidates with or merges into any other person and is not the continuing or surviving corporation or entity of such consolidation or merger or (ii) transfers or conveys all or substantially all of its properties and assets to any person, then, and in each such case, proper provision will be made so that the successors and assigns of Parent or the Surviving Corporation, as applicable, will assume the obligations thereof set forth in this Section 5.7. (c) The provisions of this Section 5.7 (i) are intended to be for the benefit of, and will be enforceable by, each indemnified party, his or her heirs and his or her representatives and (ii) are in addition to, and not in substitution for, any other rights to indemnification or contribution that any such person may have by contract or otherwise. 64 (d) For six years after the Effective Time, Parent or the Surviving Corporation shall maintain in effect the Company's current directors' and officers' liability insurance covering acts or omissions occurring prior to the Effective Time with respect to those persons who are currently covered by the Company's directors' and officers' liability insurance policy on terms with respect to such coverage and amount no less favorable to the Company's directors and officers currently covered by such insurance than those of such policy in effect on the date hereof; provided that Parent may substitute therefor policies of Parent or its subsidiaries containing terms with respect to coverage and amount no less favorable to such directors or officers; provided, further, that in no event shall Parent or the Surviving Corporation be required to pay aggregate premiums for insurance under this Section 5.7(d) in excess of 200% of the aggregate premiums paid by the Company in 1997 on an annualized basis for such purpose. (e) Parent shall cause the Surviving Corporation or any successor thereto to comply with its obligations under this Section 5.7. 65 SECTION 5.8 Fees and Expenses. (a) Except as provided in this Section 5.8, all fees and expenses incurred in connection with the Merger, this Agreement, and the transactions contemplated by this Agreement shall be paid by the party incurring such fees or expenses, whether or not the Merger is consummated. (b)(i) In the event that this Agreement is terminated by the Company pursuant to Section 7.1(e) or, after the date hereof but prior to any termination of this Agreement, the Company or its Board of Directors shall have taken any action to make the Rights Agreement inapplicable (through termination or otherwise) to any person other than Parent, Sub or another wholly owned subsidiary of Parent, then, concurrently with any such termination, the Company shall pay Parent a fee equal to $300 million by wire transfer of same day funds. (ii) In the event that (A) a Pre-Termination Takeover Proposal Event (as defined below) shall occur and thereafter this Agreement is terminated by either Parent or the Company pursuant to Section 7.1(b)(i) and (B) prior to the date that is 18 months after the date of such termination the Company enters into a Company Acquisition Agreement, then the Company shall (1) promptly, but in no event later than two business days after the date such Company Acquisition Agreement is entered into, pay Parent a fee equal to $100 million by wire transfer of same day funds, and (2) promptly, but in no event later than two business days after the date the transactions set forth in such Company Acquisition Agreement are consummated, pay Parent an additional fee equal to $200 million by wire transfer of same day funds. (iii) In the event that (A) a Pre-Termination Takeover Proposal Event shall occur and thereafter this Agreement is terminated by either Parent or the Company pursuant to Section 7.1(b)(ii) and (B) prior to the date that is 18 months after the date of such termination the Company enters into a Company Acquisition Agreement, then the Company shall (1) promptly, but in no event later than two business days after the date such Company Acquisition Agreement is entered into, pay Parent a fee equal to $100 million by wire transfer of same day funds, and (2) promptly, but in no event later than two business days after the date the transactions set forth in such Company Acquisition Agreement are consummated, pay Parent an additional fee equal to $200 million by wire transfer of same day funds. (iv) For purposes of this Section 5.8(b), a "Pre-Termination Takeover Proposal Event" shall be deemed to occur if a Company Takeover Proposal shall have been made known to the Company or any of its subsidiaries or has been made directly to its stockholders generally or any person shall have publicly announced an intention (whether or not conditional) to make a Company Takeover Proposal. The Company acknowledges that the agreements contained in this Section 5.8(b) are an integral part of the transactions contemplated by this Agreement, and that, without these agreements, Parent would not enter into this Agreement; accordingly, if the Company fails promptly to pay the amount due pursuant to this Section 5.8(b), and, in order to obtain such payment, Parent commences a suit which results in a judgment against the Company for the fee set forth in this Section 5.8(b), the Company shall pay to Parent its costs and expenses (including attorneys' fees and expenses) in connection with such suit, together with interest on the amount of the fee at the rate on six-month U.S. Treasury obligations plus 300 basis points in effect on the date such payment was required to be made. 66 SECTION 5.9 Public Announcements. Parent and the Company will consult with each other before issuing, and provide each other the opportunity to review, comment upon and concur with and use reasonable efforts to agree on, any press release or other public statements with respect to the transactions contemplated by this Agreement, including the Merger, and shall not issue any such press release or make any such public statement prior to such consultation, except as either party may determine is required by applicable law or court process or by obligations pursuant to any listing agreement with any national securities exchange. The parties agree that the initial press release to be issued with respect to the transactions contemplated by this Agreement shall be in the form heretofore agreed to by the parties. 67 SECTION 5.10 Affiliates. (a) Concurrently with the execution of this Agreement (or with respect to relevant persons who are not available on the date hereof, as soon as practicable after the date hereof), the Company shall deliver to Parent a written agreement substantially in the form attached as Exhibit A hereto of all of the persons who are "affiliates" of the Company (other than Berkshire Hathaway Inc. or any person in which it directly or indirectly holds securities) for purposes of Rule 145 under the Securities Act or for purposes of qualifying the Merger for pooling of interests accounting treatment under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations, all of whom are, as of the date of this Agreement, identified in Section 5.10 of the Company Disclosure Schedule. Section 5.10 of the Company Disclosure Schedule shall be updated by the Company as necessary to reflect changes from the date hereof and the Company shall use best efforts to cause each person added to such schedule after the date hereof to deliver a similar agreement. Parent shall cause all persons who are affiliates of Parent for purposes of qualifying the Merger for pooling of interests accounting treatment under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations to comply with the fourth paragraph of Exhibit A hereto. (b) Parent shall publish no later than 30 days after, and shall use its best efforts to publish on the earliest possible date after, the end of the first month after the Effective Time in which there are at least 30 days of post-Merger combined operations (which month may be the month in which the Effective Time occurs), combined sales and net income figures as contemplated by and in accordance with the terms of SEC Accounting Series Release No. 135 (the time such results are published, the "Permitted Sales Time"). This Section 5.10(b) is intended to be for the benefit of affiliates of the Company. Notwithstanding anything in this Section 5.10(b) to the contrary, if the Closing occurs after November 30, 1997, Parent's obligations under this Section 5.10(b) shall only require Parent to publish such financial information no later than 30 days after the end of the first fiscal quarter ending after the Closing in which there was at least 30 days of post-Merger combined operations. (c) Following the consummation of the Merger, Parent shall file a registration statement under the Securities Act with respect to any shares of Parent Common Stock or Parent New Preferred Stock received in the Merger by those "affiliates" of the Company (for purposes of Rule 145 under the Securities Act) that would be limited in their ability to resell such shares due to the volume limitations of paragraph (e) of Rule 144 under the Securities Act, allowing for sales of such shares on a delayed or continuous basis, and Parent shall use its best efforts to cause such registration statement to become effective prior to the Permitted Sales Time. 68 SECTION 5.11 Stock Exchange Listing. Parent shall use best efforts to cause (a) the Parent Common Stock issuable (i) under Article II, (ii) upon exercise of the former Company Employee Stock Options pursuant to Section 5.6 and (iii) upon the conversion of Company Convertible Securities to be approved for issuance on the NYSE and (b) the depositary shares representing shares of Parent New Preferred Stock (to the extent that the corresponding depositary shares representing shares of Company Preferred Stock were listed on the NYSE immediately prior to the Effective Time) to be approved for listing on the NYSE, in each case subject to official notice of issuance, as promptly as practicable after the date hereof, and in any event prior to the Closing Date. SECTION 5.12 Stockholder Litigation. Each of the Company and Parent shall give the other the reasonable opportunity to participate in the defense of any stockholder litigation against the Company or Parent, as applicable, and its directors relating to the transactions contemplated by this Agreement. SECTION 5.13 Tax Treatment. Each of Parent and the Company shall use best efforts to cause the Merger to qualify as a reorganization under the provisions of Section 368 of the Code and to obtain the opinions of counsel referred to in Sections 6.2(c) and 6.3(c). 69 SECTION 5.14 Pooling of Interests. Each of the Company and Parent shall use best efforts to cause the transactions contemplated by this Agreement, including the Merger, to be accounted for as a pooling of interests under Opinion 16 of the Accounting Principles Board and applicable SEC rules and regulations, and such accounting treatment to be accepted by the SEC, and each of the Company and Parent agrees that it shall take no action that would cause such accounting treatment not to be obtained. SECTION 5.15 Standstill Agreements; Confidentiality Agreements. During the period from the date of this Agreement through the Effective Time, the Company shall not terminate, amend, modify or waive any provision of any confidentiality or standstill agreement to which it or any of its respective subsidiaries is a party. During such period, the Company shall enforce, to the fullest extent permitted under applicable law, the provisions of any such agreement, including by obtaining injunctions to prevent any breaches of such agreements and to enforce specifically the terms and provisions thereof in any court of the United States of America or of any state having jurisdiction. SECTION 5.16 Conveyance Taxes. Parent and the Company shall cooperate in the preparation, execution and filing of all returns, questionnaires, applications or other documents regarding any real property transfer or gains, sales, use, transfer, value added, stock transfer and stamp taxes, any transfer, recording, registration and other fees or any similar taxes which become payable in connection with the transactions contemplated by this Agreement that are required or permitted to be filed on or before the Effective Time. Parent shall pay, and the Company shall pay, without deduction or withholding from any amount payable to the holders of Company Common Stock, any such taxes or fees imposed by any Governmental Entity, which become payable in connection with the transactions contemplated by this Agreement, on behalf of their respective stockholders. 70 SECTION 5.17 Company Convertible Notes; Company Series F Preferred Stock. (a) From and after the date hereof and prior to the Effective Time, each of Parent or the Company, as applicable, shall take such actions (including entering into supplemental indentures) with respect to the Company's Amended and Restated 5.5% Restricted Convertible Subordinated Note Due 1997 and the Company's Amended and Restated 1.25% Restricted Convertible Subordinated Note Due 2000, which provide that such notes shall be convertible at the option of the holders in accordance with the terms thereof into shares of Parent Common Stock and not Company Common Stock from and after the Effective Time. (b) Parent shall cause the Surviving Corporation to elect, pursuant to the terms of the purchase contracts providing for purchase of the Company Series F Preferred Stock, that the preferred stock delivered thereunder shall be Parent's preferred stock having terms that are substantially identical to the Company Series F Preferred Stock, provided that (A) as a result of the Merger the issuer thereof shall be Parent rather than the Company and (B) each share of such Parent preferred stock shall be entitled to three votes per share, voting together as a class with the Parent Common Stock (and any other shares of capital stock of Parent at the time entitled to vote), on all matters submitted to a vote of stockholders of Parent, and shall be entitled to one vote per share on all matters on which the Company Series F Preferred Stock would have been entitled to vote, voting together as a class with any other shares of preferred stock of Parent at the time entitled to vote. SECTION 5.18 Compliance with 1940 Act Section 15. (a) Parent and the Company acknowledge that each of Parent and the Company has entered into this Agreement in reliance upon the benefits and protections provided by Section 15(f) of the Investment Company Act. Each of Parent and the Company shall not take, and each of them shall cause its affiliates not to take, any action not contemplated by this Agreement that would have the effect, directly or indirectly, of causing the requirements of any of the provisions of Section 15(f) of the Investment Company Act not to be met in respect of this Agreement and the transactions contemplated hereby, and each of them shall not fail to take, and each of them shall cause its subsidiaries not to fail to take, and, after the Closing Date, Parent shall cause the Surviving Corporation not to fail to take, any action, if the failure to take such action would have the effect, directly or indirectly, of causing the requirements of any of the provisions of Section 15(f) of the Investment Company Act not to be met in respect of this Agreement and the transactions contemplated hereby. In that regard, Parent shall conduct its business and shall, subject to applicable fiduciary duties, use its reasonable best efforts to cause each of its affiliates to conduct its business so as to assure that, insofar as within the control of Parent and the Company or their respective affiliates: 71 (i) for a period of three years after the Closing Date, at least 75% of the members of the Board of Directors or trustees of each Company Fund registered under the Investment Company Act, and that continues after the Closing Date its existing or a replacement investment advisory contract with any of Parent and the Company or any affiliate of Parent and the Company, are not (A) "interested persons" of the investment manager of such Company Fund after the Closing Date, or (B) "interested persons" of the present investment manager of such Company Fund; (ii) for a period of two years after the Closing Date, there shall not be imposed on any of the Company Funds that is registered under the Investment Company Act an "unfair burden" as a result of the transactions contemplated by this Agreement, or any terms, conditions or understandings applicable thereto. (b) Certain Terms. The terms in quotations in this Section 5.18 shall have the meanings set forth in Section 15(f) or Section 2(a)(19) of the Investment Company Act. SECTION 5.19 Certain Contracts. Parent shall, and shall cause the Surviving Corporation to, expressly assume the obligations of the Company or any subsidiary thereof under contracts, indentures, guarantees, securities, leases and other instruments thereof in accordance with their respective terms, as and to the extent necessary to avoid any breach, penalty, termination, default, payment or prepayment that would otherwise result from the execution of this Agreement or the consummation of the transactions contemplated hereby. 72 SECTION 5.20 Investment Advisory Agreements. Each of the Company, its subsidiaries and its affiliates shall as promptly as practicable after the date hereof, use their best efforts, including giving all required notices, to facilitate, in accordance with Section 15 of the Investment Company Act, (i) the due consideration and due approval by the board of directors or trustees of each Company Fund (as defined below) of a new investment advisory agreement or a new underwriting, distribution or dealer contract and (ii) to the extent such board of directors or trustees approvals are obtained, the consideration and due approval by such Company Fund's securityholders of new investment advisory agreement upon terms no less favorable to Parent than the terms of the existing investment advisory agreements with such Funds. For purposes of this Agreement, "Company Fund" means any investment company registered under the Investment Company Act as to which the Company, its subsidiaries or its affiliates act as investment advisor or principal underwriter. ARTICLE VI CONDITIONS PRECEDENT SECTION 6.1 Conditions to Each Party's Obligation to Effect the Merger. The respective obligation of each party to effect the Merger is subject to the satisfaction or waiver by each of Parent and the Company on or prior to the Closing Date of the following conditions: (a) Stockholder Approval. The Company Stockholder Approval shall have been obtained. (b) HSR Act. The waiting period (and any extension thereof) applicable to the Merger under the HSR Act shall have been terminated or shall have expired. (c) Governmental and Regulatory Approvals. Other than the filing provided for under Section 1.3 and filings pursuant to the HSR Act (which are addressed in Section 6.1(b)), all consents, approvals and actions of, filings with and notices to any Governmental Entity required of the Company, Parent or any of their subsidiaries to consummate the Merger and the other transactions contemplated hereby, the failure of which to be obtained or taken is reasonably expected to have a material adverse effect on the Surviving Corporation and its prospective subsidiaries, taken as a whole. 73 (d) No Injunctions or Restraints. No judgment, order, decree, statute, law, ordinance, rule or regulation, entered, enacted, promulgated, enforced or issued by any court or other Governmental Entity of competent jurisdiction or other legal restraint or prohibition (collectively, "Restraints") shall be in effect (i) preventing the consummation of the Merger, or (ii) which otherwise is reasonably likely to have a material adverse effect on the Company or Parent, as applicable; provided, however, that each of the parties shall have used its best efforts to prevent the entry of any such Restraints and to appeal as promptly as possible any such Restraints that may be entered. (e) Form S-4. The Form S-4 shall have become effective under the Securities Act prior to the mailing of the Proxy Statement by the Company to its stockholders and no stop order or proceedings seeking a stop order shall have been entered or be pending by the SEC. (f) NYSE Listing. The shares of (i) Parent Common Stock issuable to the Company's stockholders (A) as contemplated by Article II, (B) upon exercise of the former Company Employee Stock Options pursuant to Section 5.6 or (C) upon the conversion of Company Convertible Securities and (ii) the depositary shares representing shares of Parent New Preferred Stock (to the extent that the corresponding depositary shares representing shares of Company Preferred Stock, as the case may be, were listed on the NYSE immediately prior to the Effective Time) shall have been approved for listing on the NYSE, subject to official notice of issuance. SECTION 6.2 Conditions to Obligations of Parent. The obligation of Parent to effect the Merger is further subject to satisfaction or waiver of the following conditions: 74 (a) Representations and Warranties. The representations and warranties of the Company set forth herein shall be true and correct both when made and at and as of the Closing Date, as if made at and as of such time (except to the extent expressly made as of an earlier date, in which case as of such date), except where the failure of such representations and warranties to be so true and correct (without giving effect to any limitation as to "materiality", "material adverse effect" or "material adverse change" set forth therein or applicable thereto by reason of the provisions of Section 3.2) does not have, and is not likely to have, individually or in the aggregate, a material adverse effect on the Company. (b) Performance of Obligations of the Company. The Company shall have performed all obligations required to be performed by it under this Agreement at or prior to the Closing Date, except where the failure of such obligations to have been so performed does not have, and is not likely to have, individually or in the aggregate, a material adverse effect on the Company. (c) Tax Opinion. Parent shall have received from Skadden, Arps, Slate, Meagher & Flom LLP, counsel to Parent, an opinion dated as of such date, to the effect that the Merger will constitute a "reorganization" within the meaning of Section 368(a) of the Code, and Parent, Sub and the Company will each be a party to such reorganization within the meaning of Section 368(b) of the Code. In rendering such opinion, counsel for Parent may require delivery of and rely upon the Tax Certificates and may assume that the Company Common Stock and Company Preferred Stock constitute the only outstanding equity of the Company at the Effective Time for federal income tax purposes. SECTION 6.3 Conditions to Obligations of the Company. The obligation of the Company to effect the Merger is further subject to satisfaction or waiver of the following conditions: (a) Representations and Warranties. The representations and warranties of Parent set forth herein shall be true and correct both when made and at and as of the Closing Date, as if made at and as of such time (except to the extent expressly made as of an earlier date, in which case as of such date), except where the failure of such representations and warranties to be so true and correct (without giving effect to any limitation as to "materiality", "material adverse effect" or "material adverse change" set forth therein or applicable thereto by reason of the provisions of Section 3.2) does not have, and is not likely to have, individually or in the aggregate, a material adverse effect on Parent. 75 (b) Performance of Obligations of Parent. Parent shall have performed all obligations required to be performed by it under this Agreement at or prior to the Closing Date, except where the failure of such obligations to have been so performed does not have, and is not likely to have, individually or in the aggregate, a material adverse effect on Parent. (c) Tax Opinions. The Company shall have received from Cravath, Swaine & Moore, counsel to the Company, an opinion as of such date, to the effect that the Merger will constitute a "reorganization" within the meaning of Section 368(a) of the Code, and Parent, Sub and the Company will each be a party to such reorganization within the meaning of Section 368(b) of the Code. In rendering such opinion, counsel for the Company may require delivery of and rely on the Tax Certificates. SECTION 6.4 Frustration of Closing Conditions. Neither Parent nor the Company may rely on the failure of any condition set forth in Section 6.1, 6.2 or 6.3, as the case may be, to be satisfied if such failure was caused by such party's failure to use best efforts to consummate the Merger and the other transactions contemplated by this Agreement, as required by and subject to Section 5.5. ARTICLE VII TERMINATION, AMENDMENT AND WAIVER SECTION 7.1 Termination. This Agreement may be terminated at any time prior to the Effective Time, and whether before or after the Company Stockholder Approval: 76 (a) by mutual written consent of Parent and the Company; (b) by either Parent or the Company: (i) if the Merger shall not have been consummated by March 31, 1998, provided, however, that the right to terminate this Agreement pursuant to this Section 7.1(b)(i) shall not be available to any party whose failure to perform any of its obligations under this Agreement results in the failure of the Merger to be consummated by such time; provided, however, that this Agreement may be extended not more than 20 days by either party by written notice to the other party if the Merger shall not have been consummated as a direct result of the condition set forth in Section 6.1(c) failing to have been satisfied and the extending party reasonably believes that the relevant approvals will be obtained during such extension period; (ii) if the Company Stockholder Approval shall not have been obtained at the Company Stockholders Meeting duly convened therefor or at any adjournment or postponement thereof; or (iii) if any Restraint having any of the effects set forth in Section 6.1(d) shall be in effect and shall have become final and nonappealable; provided, that the party seeking to terminate this Agreement pursuant to this Section 7.1(b)(iv) shall have used best efforts to prevent the entry of and to remove such Restraint; (c) by Parent, if the Company shall have breached or failed to perform in any material respect any of its representations, warranties, covenants or other agreements contained in this Agreement, which breach or failure to perform (A) would give rise to the failure of a condition set forth in Section 6.2(a) or (b), and (B) is incapable of being cured by the Company or is not cured within 45 days of written notice thereof; 77 (d) by the Company, if Parent shall have breached or failed to perform in any material respect any of its representations, warranties, covenants or other agreements contained in this Agreement, which breach or failure to perform (A) would give rise to the failure of a condition set forth in Section 6.3(a) or (b), and (B) is incapable of being cured by Parent or is not cured within 45 days of written notice thereof; or (e) by the Company in accordance with Section 4.2(b); provided that, in order for the termination of this Agreement pursuant to this paragraph (e) to be deemed effective, the Company shall have complied with all provisions of Section 4.2, including the notice provisions therein, and with applicable requirements, including the payment of the fee referred to in paragraph (b)(i) of Section 5.8. SECTION 7.2 Effect of Termination. In the event of termination of this Agreement by either the Company or Parent as provided in Section 7.1, this Agreement shall forthwith become void and have no effect, without any liability or obligation on the part of Parent or the Company, other than the provisions of Section 3.3(o), Section 3.4(m), the last sentence of Section 5.4, Section 5.8, this Section 7.2 and Article VIII, which provisions survive such termination, and except to the extent that such termination results from the willful and material breach by a party of any of its representations, warranties, covenants or agreements set forth in this Agreement. SECTION 7.3 Amendment. This Agreement may be amended by the parties at any time before or after the Company Stockholder Approval or the Parent Stockholder Approval; provided, however, that after any such approval, there shall not be made any amendment that by law requires further approval by the stockholders of the Company or Parent without the further approval of such stockholders. This Agreement may not be amended except by an instrument in writing signed on behalf of all of the parties. SECTION 7.4 Extension; Waiver. At any time prior to the Effective Time, a party may (a) extend the time for the performance of any of the obligations or other acts of the other parties, (b) waive any inaccuracies in the representations and warranties of the other parties contained in this Agreement or in any document delivered pursuant to this Agreement or (c) subject to the proviso of Section 7.3, waive compliance by the other party with any of the agreements or conditions contained in this Agreement. Any agreement on the part of a party to any such extension or waiver shall be valid only if set forth in an instrument in writing signed on behalf of such party. The failure of any party to this Agreement to assert any of its rights under this Agreement or otherwise shall not constitute a waiver of such rights. 78 SECTION 7.5 Procedure for Termination, Amendment, Extension or Waiver. A termination of this Agreement pursuant to Section 7.1, an amendment of this Agreement pursuant to Section 7.3 or an extension or waiver pursuant to Section 7.4 shall, in order to be effective, require, in the case of Parent, Sub or the Company, action by its Board of Directors or, with respect to any amendment to this Agreement, the duly authorized committee of its Board of Directors to the extent permitted by law. ARTICLE VIII GENERAL PROVISIONS SECTION 8.1 Nonsurvival of Representations and Warranties. None of the representations and warranties in this Agreement or in any instrument delivered pursuant to this Agreement shall survive the Effective Time. This Section 8.1 shall not limit any covenant or agreement of the parties which by its terms contemplates performance after the Effective Time. SECTION 8.2 Notices. All notices, requests, claims, demands and other communications under this Agreement shall be in writing and shall be deemed given if delivered personally, telecopied (which is confirmed) or sent by overnight courier (providing proof of delivery) to the parties at the following addresses (or at such other address for a party as shall be specified by like notice): (a) if to Parent or Sub, to Travelers Group Inc. 388 Greenwich Street New York, New York 10013 Telecopy No.: (212) 816-8996 Attention: Charles O. Prince, III with a copy to: Skadden, Arps, Slate, Meagher & Flom LLP 919 Third Avenue New York, New York 10022 Telecopy No.: (212) 735-2000 Attention: Kenneth J. Bialkin 79 (b) if to the Company, to Salomon Inc Seven World Trade Center New York, New York 10048 Telecopy No.: (212) 783-1752 Attention: Robert H. Mundheim with a copy to: Cravath, Swaine & Moore Worldwide Plaza 825 Eighth Avenue New York, New York 10019 Telecopy No.: (212) 474-3700 Attention: B. Robbins Kiessling SECTION 8.3 Definitions. For purposes of this Agreement: (a) except as otherwise provided for in this Agreement, an "affiliate" of any person means another person that directly or indirectly, through one or more intermediaries, controls, is controlled by, or is under common control with, such first person, where "control" means the possession, directly or indirectly, of the power to direct or cause the direction of the management policies of a person, whether through the ownership of voting securities, by contract, as trustee or executor, or otherwise; provided, however, that in no event shall Berkshire Hathaway Inc. or any person in which it directly or indirectly holds securities be deemed to be an affiliate of the Company or its subsidiaries; provided, further, that (x) any investment account advised or managed by such person or one of its subsidiaries or affiliates on behalf of third parties, or (y) any partnership, limited liability company, or other similar investment vehicle or entity engaged in the business of making investments of which such person acts as the general partner, managing member, manager, investment advisor, principal underwriter or the equivalent shall not be deemed an affiliate of such person; 80 (b) "material adverse change" or "material adverse effect" means, when used in connection with the Company or Parent, any change, effect, event, occurrence or state of facts that is, or would reasonably be expected to be, materially adverse to the business, financial condition or results of operations of such party and its subsidiaries taken as a whole, other than any change, effect, event or occurrence constituting or relating to any of the following: (i) the United States economy or securities markets in general; (ii) this Agreement or the transactions contemplated hereby or the announcement thereof; (iii) the financial services industry in general, and not specifically relating to Parent or the Company or their respective subsidiaries; (iv) the resignation of officers or employees of the Company or Parent or their respective subsidiaries; and (v) changes in balance sheet items of the Company and its subsidiaries relating to changes in the manner by which they finance their operations as a result of restrictions on their access to the public debt markets in connection with the transactions contemplated hereby. The terms "material" and "materially" have correlative meanings; (c) "person" means an individual, corporation, partnership, limited liability company, joint venture, association, trust, unincorporated organization or other entity; (d) a "subsidiary" of any person means another person, an amount of the voting securities, other voting ownership or voting partnership interests of which is sufficient to elect at least a majority of its Board of Directors or other governing body (or, if there are no such voting interests, 50% or more of the equity interests of which) is owned directly or indirectly by such first person; provided, however, that (x) any investment account advised or managed by such person or one of its subsidiaries or affiliates on behalf of third parties, or (y) any partnership, limited liability company, or other similar investment vehicle or entity engaged in the business of making investments of which such person acts as the general partner, managing member, manager, investment advisor, principal underwriter or the equivalent shall not be deemed a subsidiary of such person; and 81 (e) "knowledge" of any person which is not an individual means the knowledge of such person's executive officers. SECTION 8.4 Interpretation. When a reference is made in this Agreement to an Article, Section or Exhibit, such reference shall be to an Article or Section of, or an Exhibit to, this Agreement unless otherwise indicated. The table of contents and headings contained in this Agreement are for reference purposes only and shall not affect in any way the meaning or interpretation of this Agreement. Whenever the words "include", "includes" or "including" are used in this Agreement, they shall be deemed to be followed by the words "without limitation". The words "hereof", "herein" and "hereunder" and words of similar import when used in this Agreement shall refer to this Agreement as a whole and not to any particular provision of this Agreement. All terms defined in this Agreement shall have the defined meanings when used in any certificate or other document made or delivered pursuant hereto unless otherwise defined therein. The definitions contained in this Agreement are applicable to the singular as well as the plural forms of such terms and to the masculine as well as to the feminine and neuter genders of such term. Any agreement, instrument or statute defined or referred to herein or in any agreement or instrument that is referred to herein means such agreement, instrument or statute as from time to time amended, modified or supplemented, including (in the case of agreements or instruments) by waiver or consent and (in the case of statutes) by succession of comparable successor statutes and references to all attachments thereto and instruments incorporated therein. References to a person are also to its permitted successors and assigns. 82 SECTION 8.5 Counterparts. This Agreement may be executed in one or more counterparts, all of which shall be considered one and the same agreement and shall become effective when one or more counterparts have been signed by each of the parties and delivered to the other parties. SECTION 8.6 Entire Agreement; No Third-Party Beneficiaries. This Agreement (including the documents and instruments referred to herein) and the Confidentiality Agreements (a) constitute the entire agreement, and supersede all prior agreements and understandings, both written and oral, between the parties with respect to the subject matter of this Agreement and (b) except for the provisions of Article II, Sections 5.6, 5.7, 5.10(b), 5.10(c) and 5.17, are not intended to confer upon any person other than the parties any rights or remedies. SECTION 8.7 Governing Law. This Agreement shall be governed by, and construed in accordance with, the laws of the State of Delaware, regardless of the laws that might otherwise govern under applicable principles of conflict of laws thereof. SECTION 8.8 Assignment. Neither this Agreement nor any of the rights, interests or obligations under this Agreement shall be assigned, in whole or in part, by operation of law or otherwise by any of the parties hereto without the prior written consent of the other parties; provided, however, that Sub may assign its rights and obligations, in whole or in part, under this Agreement to any other wholly owned subsidiary of Parent. Any assignment in violation of the preceding sentence shall be void. Subject to the preceding two sentences, this Agreement will be binding upon, inure to the benefit of, and be enforceable by, the parties and their respective successors and assigns. SECTION 8.9 Consent to Jurisdiction. Each of the parties hereto (a) consents to submit itself to the personal jurisdiction of any federal court located in the State of Delaware or any Delaware state court in the event any dispute arises out of this Agreement or any of the transactions contemplated by this Agreement, (b) agrees that it will not attempt to deny or defeat such personal jurisdiction by motion or other request for leave from any such court, and (c) agrees that it will not bring any action relating to this Agreement or any of the transactions contemplated by this Agreement in any court other than a federal court sitting in the State of Delaware or a Delaware state court. 83 SECTION 8.10 Headings. The headings contained in this Agreement are for reference purposes only and shall not affect in any way the meaning or interpretation of this Agreement. SECTION 8.11 Severability. If any term or other provision of this Agreement is invalid, illegal or incapable of being enforced by any rule of law or public policy, all other conditions and provisions of this Agreement shall nevertheless remain in full force and effect. Upon such determination that any term or other provision is invalid, illegal or incapable of being enforced, the parties hereto shall negotiate in good faith to modify this Agreement so as to effect the original intent of the parties as closely as possible to the fullest extent permitted by applicable law in an acceptable manner to the end that the transactions contemplated hereby are fulfilled to the extent possible. 84 IN WITNESS WHEREOF, Parent, Sub and the Company have caused this Agreement to be signed by their respective officers thereunto duly authorized, all as of the date first written above. TRAVELERS GROUP INC. By /s/ Sanford I. Weill ---------------------------------- Title: Chairman of the Board and Chief Executive Officer DIAMONDS ACQUISITION CORP. By /s/ Charles O. Prince, III ---------------------------------- Title: Executive Vice President SALOMON INC By /s/ Robert E. Denham ---------------------------------- Title: Chairman and Chief Executive Officer 85 EX-23.01 3 CONSENT OF ARTHUR ANDERSEN LLP CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation by reference in the Registration Statements on: o Form S-3 Nos. 33-49280, 33-55542, 33-56940, 33-68760, 33-51101, 33-52281, 33-54093, 33-62903, 33-63663, 333-04809, 333-12439 and 333-27155; o Form S-8 Nos. 33-32130, 33-43997, 33-59524, 33-37399, 33-28110, 33-43883, 33-21099, 33-29711, 33-47437, 33-39025, 33-40469, 33-38109, 33-50206, 33-51353, 33-39985, 33-51769, 33-51783, 33-52027, 33-52029, 33-64985, 333-02809, 333-02811, 333-12697 and 333-25603; and o Form S-4 Nos. 33-37089, 33-25532 and 33-51201 of Travelers Group Inc. of our report dated March 13, 1997, relating to the consolidated statement of financial position of Salomon Inc and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1996, which report is incorporated by reference or included in the annual report on Form 10-K of Salomon Inc for the year ended December 31, 1996. /s/ ARTHUR ANDERSEN LLP New York, New York September 25, 1997 EX-99.01 4 EXHIBIT 99.01 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS TO THE SHAREHOLDERS AND BOARD OF DIRECTORS OF SALOMON INC: We have audited the accompanying consolidated statement of financial condition of Salomon Inc (a Delaware corporation) and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1996. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. 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 consolidated 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 Salomon Inc and subsidiaries as of December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. Arthur Andersen LLP NEW YORK, NEW YORK MARCH 13, 1997 1 SALOMON INC AND SUBSIDIARIES CONSOLIDATED STATEMENT OF INCOME
Dollars in millions, except per share amounts Year Ended December 31, 1996 1995 1994 - ----------------------------------------------------------------------------------------------------------- Revenues: Interest and dividends $ 5,748 $ 7,021 $ 5,902 Principal transactions 1,990 1,077 (560) Investment banking 853 472 486 Commissions 326 332 336 Other 129 51 30 - ----------------------------------------------------------------------------------------------------------- Total revenues 9,046 8,953 6,194 Interest expense 4,679 5,754 4,873 - ----------------------------------------------------------------------------------------------------------- Revenues, net of interest expense 4,367 3,199 1,321 - ----------------------------------------------------------------------------------------------------------- Noninterest expenses: Compensation and employee-related 2,039 1,710 1,455 Technology 206 215 221 Professional services and business development 189 172 160 Occupancy 168 170 162 Clearing and exchange fees 74 63 70 Other 81 70 102 - ----------------------------------------------------------------------------------------------------------- Total noninterest expenses 2,757 2,400 2,170 - ----------------------------------------------------------------------------------------------------------- Income (loss) from continuing operations before income taxes 1,610 799 (849) Income tax expense (benefit) 628 286 (439) - ----------------------------------------------------------------------------------------------------------- Income (loss) from continuing operations 982 513 (410) - ----------------------------------------------------------------------------------------------------------- Discontinued operations (Note 2): Income (loss), net of tax expense (benefit) of $(48), $(35) and $7 (75) (56) 11 Loss on disposal of Basis Petroleum, net of tax benefit of $215 (290) - - - ----------------------------------------------------------------------------------------------------------- Net income (loss) $ 617 $ 457 $ (399) =========================================================================================================== Primary earnings (loss) per common share: Continuing operations $ 8.59 $ 4.17 $ (4.41) Net income (loss) $ 5.16 $ 3.64 $ (4.31) - ----------------------------------------------------------------------------------------------------------- Fully diluted earnings (loss) per common share: Continuing operations $ 7.85 $ 3.95 $ (4.41) Net income (loss) $ 4.84 $ 3.50 $ (4.31) ===========================================================================================================
The accompanying Summary of Accounting Policies, Notes to Consolidated Financial Statements, and Consolidated Summary of Options and Contractual Commitments are integral parts of this statement. 2 SALOMON INC AND SUBSIDIARIES CONSOLIDATED STATEMENT OF FINANCIAL CONDITION
Dollars in millions December 31, 1996 1995 - -------------------------------------------------------------------------------------------------------------- Assets: Cash and interest bearing equivalents $ 1,230 $ 1,454 Financial instruments and contractual commitments: Government and government agency securities - U.S. $ 45,123 $ 45,121 Government and government agency securities - non-U.S. 35,189 39,843 Corporate debt securities 12,415 11,150 Equity securities 7,094 3,915 Options and contractual commitments 6,592 6,713 Mortgage loans and collateralized mortgage securities 3,126 1,959 Other 2,947 2,248 ------- ------- 112,486 110,949 Commodities and related products and instruments: Crude oil, refined products and other physical commodities 995 1,223 Options and contractual commitments 315 372 ------- ------- 1,310 1,595 Collateralized short-term financing agreements: Securities purchased under agreements to resell 56,536 48,422 Securities borrowed and other 16,162 16,993 ------- ------- 72,698 65,415 Receivables: Customers 2,642 2,668 Brokers, dealers and clearing organizations 1,801 1,205 Other 675 599 ------- ------- 5,118 4,472 Assets securing collateralized mortgage obligations 394 2,431 Property, plant and equipment, net of accumulated depreciation and amortization of $556 in 1996 and $669 in 1995 521 1,343 Net realizable value of discontinued operations (Note 2) 490 - Other assets, including intangibles 634 769 - -------------------------------------------------------------------------------------------------------------- Total assets $194,881 $188,428 ==============================================================================================================
The accompanying Summary of Accounting Policies, Notes to Consolidated Financial Statements, and Consolidated Summary of Options and Contractual Commitments are integral parts of this statement. 3
1996 1995 - -------------------------------------------------------------------------------------------------------------- Liabilities and Stockholders' Equity: Collateralized short-term financing agreements: Securities sold under agreements to repurchase $ 77,632 $ 91,813 Securities loaned 1,495 1,040 -------- -------- $ 79,127 $ 92,853 Short-term borrowings 6,817 8,304 Financial and commodities-related instruments sold, not yet purchased, and contractual commitments: Government and government agency securities - U.S. 34,311 21,132 Government and government agency securities - non-U.S. 31,699 21,994 Financial options and contractual commitments 9,391 8,858 Equity securities 5,840 3,489 Corporate debt securities and other 1,942 1,448 Commodities, including options and contractual commitments 324 607 -------- -------- 83,507 57,528 Payables and accrued liabilities: Customers and suppliers 2,671 3,372 Brokers, dealers and clearing organizations 1,638 4,440 Other 1,745 1,846 -------- -------- 6,054 9,658 Collateralized mortgage obligations 384 2,337 Term debt 13,370 13,045 -------- -------- Total liabilities 189,259 183,725 Commitments and contingencies (Notes 16, 17 and 18) Redeemable preferred stock, Series A 420 560 Guaranteed preferred beneficial interests in Company subordinated debt securities (Note 9) 345 - Stockholders' equity: Preferred stock, Series C, D and E 450 312 Common stock, par value $1 per share (250,000,000 shares authorized; shares issued: 159,341,676 in 1996 and 155,642,470 in 1995) 159 156 Additional paid-in capital 437 296 Retained earnings 5,482 5,001 Cumulative translation adjustments 6 13 Common stock held in treasury, at cost (shares: 50,292,298 in 1996 and 49,194,744 in 1995) (1,677) (1,635) -------- -------- Total stockholders' equity 4,857 4,143 - --------------------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $194,881 $188,428 ===============================================================================================================
4 SALOMON INC AND SUBSIDIARIES SUMMARY OF OPTIONS AND CONTRACTUAL COMMITMENTS
1996 1995 ------------------------------- ------------------------------ CURRENT MARKET OR CURRENT MARKET OR FAIR VALUE FAIR VALUE Dollars in billions NOTIONAL ------------------- NOTIONAL ------------------- December 31, AMOUNTS ASSETS LIABILITIES AMOUNTS ASSETS LIABILITIES - ------------------------------------------------------------------------------------------------------------------------ Exchange-issued products: Futures contracts* $ 525.3 $ - $ - $ 570.5 $ - $ - Other exchange-issued products: Equity contracts 12.9 .1 .2 16.8 .5 .3 Fixed income contracts 59.0 - - 44.5 .2 - Commodities-related contracts 4.9 - - 4.3 - - - ------------------------------------------------------------------------------------------------------------------------ Total exchange-issued products 602.1 .1 .2 636.1 .7 .3 - ------------------------------------------------------------------------------------------------------------------------ Over-the-counter ("OTC") swaps, swap options, caps and floors: Swaps** 852.4 555.5 Swap options written 9.7 5.2 Swap options purchased 23.3 20.4 Caps and floors 114.4 100.8 - ------------------------------------------------------------------------------------------------------------------------ Total OTC swaps, swap options, caps and floors 999.8 4.2 6.5 681.9 4.3 6.5 - ------------------------------------------------------------------------------------------------------------------------ OTC foreign exchange contracts and options: Forward currency contracts** 68.3 .5 .5 57.4 .3 .4 Options written 31.6 - .2 21.0 - .6 Options purchased 32.9 .4 - 20.2 .3 - - ------------------------------------------------------------------------------------------------------------------------ Total OTC foreign exchange contracts and options 132.8 .9 .7 98.6 .6 1.0 - ------------------------------------------------------------------------------------------------------------------------ Other options and contractual commitments: Options and warrants on equities and equity indices*** 45.6 1.1 1.8 24.0 1.0 .6 Options and forward contracts on fixed- income securities*** 179.0 .3 .2 196.6 .1 .5 Commodities-related contracts**** 22.0 .3 .3 21.8 .4 .3 - ------------------------------------------------------------------------------------------------------------------------ Total $1,981.3 $6.9 $9.7 $1,659.0 $7.1 $9.2 ========================================================================================================================
* Margin on futures contracts is included in receivables from/payables to brokers, dealers and clearing organizations on the Consolidated Statement of Financial Condition. ** Includes notional values of swap agreements or forward currency contracts for non-trading activities (primarily related to the Company's fixed rate long-term debt, TRUPS and preferred stock) of $15.5 billion and $1.3 billion at December 31, 1996 and $12.8 billion and $1.9 billion at December 31, 1995, respectively. *** The fair value of such instruments recorded as assets includes approximately $.6 billion at December 31, 1996 and $.4 billion at December 31, 1995, respectively, of OTC instruments primarily with investment grade counterparties. The remainder consists primarily of highly liquid instruments actively traded on organized exchanges. **** A substantial majority of these OTC contracts are with investment grade counterparties. CONSOLIDATED CREDIT EXPOSURE, NET OF SECURITIES AND CASH COLLATERAL ON OTC SWAPS, SWAP OPTIONS, CAPS AND FLOORS AND OTC FOREIGN EXCHANGE CONTRACTS AND OPTIONS, BY RISK CLASS* NOTE: Amounts represent current exposure and do not include potential credit exposure that may result from factors that influence market risk.
TRANSACTIONS WITH OVER 3 YEARS TO ALL TRANSACTIONS MATURITY ----------------------------------------------------------------------------- ----------- OTHER MAJOR GOVERNMENTS/ Dollars in billions DERIVATIVES FINANCIAL SUPRA- 1996 December 31, 1996 DEALERS CORPORATES INSTITUTIONS NATIONALS OTHER TOTAL AVERAGE TOTAL - ---------------------------------------------------------------------------------------------------------- ----------- Swaps, swap options, caps and floors: Risk classes 1 and 2 $ .5 $ - $ .6 $ - $ - $1.1 $1.0 $ .8 Risk class 3 .9 .1 .1 - .1 1.2 .9 .6 Risk classes 4 and 5 .2 .2 .2 - - .6 .8 .3 Risk classes 6, 7 and 8 - .1 - - - .1 .1 .1 - ---------------------------------------------------------------------------------------------------------- ----------- $1.6 $ .4 $ .9 $ - $ .1 $3.0 $2.8 $1.8 ========================================================================================================== =========== Foreign exchange contracts and options: Risk classes 1 and 2 $ .5 $ - $ - $ .1 $ - $ .6 $ .4 $ - Risk class 3 .2 - - - - .2 .2 - Risk classes 4 and 5 - - - - .1 .1 .1 - - ---------------------------------------------------------------------------------------------------------- ----------- $ .7 $ - $ - $ .1 $ .1 $ .9 $ .7 $ - ========================================================================================================== ===========
* To monitor credit risk, the Company utilizes a series of eight internal designations of counterparty credit quality. These designations are analogous to external credit ratings whereby risk classes one through three are high quality investment grades. Risk classes four and five include counterparties ranging from the lowest investment grade to the highest non-investment grade level. Risk classes six, seven and eight represent higher risk counterparties. See Note 18 to the Consolidated Financial Statements for average values and a discussion of the market risk and credit risk associated with options and contractual commitments. 5 SALOMON INC AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
NUMBER OF SHARES ---------------- COMMON TOTAL COMMON ADDITIONAL CUMULATIVE STOCK STOCK- STOCK PREFERRED COMMON PAID-IN RETAINED TRANSLATION HELD IN HOLDERS' COMMON HELD IN Amounts in millions STOCK STOCK CAPITAL EARNINGS ADJUSTMENTS TREASURY EQUITY STOCK TREASURY - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1993 $312 $156 $ 295 $5,208 $(11) $(1,414) $ 4,546 155.5 (44.9) Net loss - - - (399) - - (399) - - Dividends on-- Common stock - - - (66) - - (66) - - Preferred stock* - - - (62) - - (62) - - Purchase of common stock for treasury - - - - - (252) (252) - (5.2) Net change in cumulative translation adjustments - - - - 16 - 16 - - Other - - (3) - - 12 9 .1 .3 - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1994 312 156 292 4,681 5 (1,654) 3,792 155.6 (49.8) Net income - - - 457 - - 457 - - Dividends on-- Common stock - - - (68) - - (68) - - Preferred stock* - - - (69) - - (69) - - Exercise of stock options - - (4) - - 21 17 - .6 Net change in cumulative translation adjustments - - - - 8 - 8 - - Other - - 8 - - (2) 6 - - - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1995 312 156 296 5,001 13 (1,635) 4,143 155.6 (49.2) Net income - - - 617 - - 617 - - Dividends on-- Common stock - - - (68) - - (68) - - Preferred stock* - - - (68) - - (68) - - Purchase of common stock for treasury - - - - - (49) (49) - (1.3) Issuance of preferred stock, Series E 250 - - - - - 250 - - Conversion of preferred stock, Series A to common stock - 3 137 - - - 140 3.7 - Redemption of preferred stock, Series C (112) - - - - - (112) - - Exercise of stock options - - - - - 7 7 - .2 Net change in cumulative translation adjustments - - - - (7) - (7) - - Other - - 4 - - - 4 - - - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1996 $450 $159 $ 437 $5,482 $ 6 $(1,677) $ 4,857 159.3 (50.3) ====================================================================================================================================
* Net of aftertax impact of related interest rate swaps that effectively convert fixed rate dividend obligations to variable rate obligations. The accompanying Summary of Accounting Policies, Notes to Consolidated Financial Statements, and Consolidated Summary of Options and Contractual Commitments are integral parts of this statement. 6 SALOMON INC AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS
Dollars in millions Year Ended December 31, 1996 1995 1994 - -------------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net income (loss) adjusted for noncash items and non-operating activities Net income (loss) $ 617 $ 457 $ (399) Loss on disposal of Basis Petroleum 290 - - Deferred income tax benefit (160) (308) (873) Depreciation, amortization and other 164 149 130 Less: Gain on Genesis transaction and the sales of TMC and limited service motels (89) - - - -------------------------------------------------------------------------------------------------------------------- Cash items included in net income (loss) 822 298 (1,142) - -------------------------------------------------------------------------------------------------------------------- Net (increase) decrease in operating assets Financial instruments and contractual commitments (1,841) (17,652) 20,671 Commodities and related products and instruments (94) (105) (636) Collateralized short-term financing agreements (7,283) (4,589) (11,937) Receivables (718) 3,755 1,490 Other (115) 20 162 - -------------------------------------------------------------------------------------------------------------------- Net (increase) decrease in operating assets (10,051) (18,571) 9,750 - -------------------------------------------------------------------------------------------------------------------- Net increase (decrease) in operating liabilities Collateralized short-term financing agreements (13,726) 20,948 (16,333) Short-term borrowings (1,436) 1,630 (2,978) Financial and commodities-related instruments sold, not yet purchased, and contractual commitments 25,996 (4,541) 5,599 Payables and accrued liabilities (2,865) 875 270 - -------------------------------------------------------------------------------------------------------------------- Net increase (decrease) in operating liabilities 7,969 18,912 (13,442) - -------------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) operating activities (1,260) 639 (4,834) - -------------------------------------------------------------------------------------------------------------------- Cash flows from financing activities: Issuance of term debt 4,708 2,797 6,500 Issuance of guaranteed preferred beneficial interests in Company subordinated debt securities 345 - - Issuance of preferred stock, Series E 250 - - Employee stock purchase and option plans 4 15 13 Redemption of redeemable preferred stock, Series A - (140) - Redemption of preferred stock, Series C (112) - - Term debt maturities and repurchases (4,118) (4,972) (3,281) Collateralized mortgage obligations (403) (704) (945) Purchase of common stock for treasury (49) (2) (252) Dividends (136) (137) (128) - -------------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) financing activities 489 (3,143) 1,907 - -------------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Genesis transaction and sales of TMC and limited service motels 205 - - Assets securing collateralized mortgage obligations 480 721 930 Property, plant and equipment (129) (302) (212) - -------------------------------------------------------------------------------------------------------------------- Net cash provided by investing activities 556 419 718 - -------------------------------------------------------------------------------------------------------------------- Net decrease in cash and interest bearing equivalents (215) (2,085) (2,209) Cash and interest bearing equivalents at beginning of year 1,454 3,539 5,748 Cash of discontinued operations (9) - - - -------------------------------------------------------------------------------------------------------------------- Cash and interest bearing equivalents at end of year $ 1,230 $ 1,454 $ 3,539 ====================================================================================================================
The accompanying Summary of Accounting Policies, Notes to Consolidated Financial Statements, and Consolidated Summary of Options and Contractual Commitments are integral parts of this statement. 7 SALOMON INC AND SUBSIDIARIES SUMMARY OF ACCOUNTING POLICIES BASIS OF PRESENTATION The Consolidated Financial Statements are prepared in accordance with Generally Accepted Accounting Principles in the United States and prevailing industry practice, both of which require the use of management's best judgment and estimates. Estimates, including the fair value of financial instruments and contractual commitments, may vary from actual results. The Consolidated Financial Statements include the accounts of Salomon Inc and its majority-owned subsidiaries (collectively, the "Company"), including Salomon Brothers Holding Company Inc and its subsidiaries ("Salomon Brothers"), and Phibro Inc. and its subsidiaries ("Phibro"). Salomon Brothers provides capital raising, advisory, research and trading services to its customers, and engages in proprietary trading activities for its own account. Phibro conducts a global commodities dealer business. Material intercompany transactions have been eliminated in consolidation. Long-term investments in operating joint ventures and affiliated (20% to 50% owned) companies in which the Company has significant influence are carried under the equity method of accounting and are included in "Other assets, including intangibles." The Company's equity in the earnings of joint ventures and affiliates is reported in "Other" revenues. Assets and liabilities denominated in non-U.S. dollar currencies are translated into U.S. dollar equivalents using year-end spot foreign exchange rates. The income statements are translated monthly at amounts which approximate weighted average exchange rates. Gains and losses resulting from foreign currency transactions are included in income. The effects of translating the statements of financial condition of non-U.S. subsidiaries with functional currencies other than the U.S. dollar are recorded, net of related hedge gains and losses and income taxes, as "Cumulative translation adjustments," a separate component of "Stockholders' equity." Hedges of such exposure include designated issues of non-U.S. dollar term debt and, to a lesser extent, forward currency contracts. As discussed in Note 2, pursuant to the Board of Directors approval of a non-binding letter of intent to sell Basis Petroleum, Inc. ("Basis Petroleum" or "Basis") to Valero Energy Corporation ("Valero") and a plan of disposition for Basis, Basis is classified as a discontinued operation in the Company's financial statements. Certain prior period amounts have been reclassified to conform with the current presentation. FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS Financial instruments and contractual commitments, including derivatives used for trading purposes, are recorded at either market value or, when market prices are not readily available, fair value, which is determined under an alternative approach, such as matrix or model pricing. Fair value includes related accrued interest or dividends. The determination of market or fair value considers various factors, including: closing exchange or over-the-counter 8 market price quotations; time value and volatility factors underlying options, warrants and contractual commitments; price activity for equivalent or synthetic instruments in markets located in different time zones; counterparty credit quality; and the potential impact on market prices of liquidating the Company's positions in an orderly manner over a reasonable period of time under present market conditions. As part of its mark-to-market policy, the Company provides for the future operational costs of maintaining long-term contractual commitments. The majority of the Company's financial instruments are recorded on a trade date basis. Recording the remaining instruments on a trade date basis would not result in a material difference. Gains and losses and commission revenues and expenses are also recognized on a trade date basis. DERIVATIVE FINANCIAL INSTRUMENTS DERIVATIVES USED FOR TRADING PURPOSES Contractual commitments (also referred to as "derivative instruments") used for trading purposes are carried at either market value or, when market prices are not readily available, fair value. The market or fair values of swap agreements, swap options, caps and floors, and forward contracts in a net receivable position, as well as options owned and warrants held, are reported as assets in "Options and contractual commitments." Similarly, contractual commitments in a net payable position, as well as options written and warrants issued, are reported as liabilities in "Financial options and contractual commitments." This category also includes the Company's long-term obligations that have principal repayments directly linked to equity securities of unaffiliated issuers for which the Company holds in inventory a note exchangeable for the same equity securities. Margin on futures contracts is included in receivables from/payables to brokers, dealers and clearing organizations. The market or fair values (unrealized gains and losses) associated with contractual commitments are reported net by counterparty, provided a legally enforceable master netting agreement exists and are netted across products and against cash collateral when such provisions are stated in the master netting agreement. Revenues generated from derivatives used for trading purposes are reported as "Principal transactions" and include realized gains and losses, as well as unrealized gains and losses resulting from changes in the market or fair value of such instruments. DERIVATIVES USED FOR NON-TRADING PURPOSES Substantially all of the Company's non-trading derivatives are transacted with the Company's swap and foreign exchange dealer subsidiaries, which manage the related interest rate and currency risk in the normal course of their trading activities. The Company utilizes interest rate swaps to effectively convert fixed rate preferred stock, guaranteed preferred beneficial interests in Company subordinated debt securities ("TRUPS"), a portion of its short-term borrowings and a significant portion of its fixed rate term debt to variable rate obligations. These swaps are recorded "off-balance-sheet," with accrued inflows and outflows reflected as adjustments to interest and/or dividends, as appropriate. Adjustments to preferred stock dividends are recorded on an aftertax basis. 9 SUMMARY OF ACCOUNTING POLICIES As previously noted, the Company utilizes forward currency contracts to hedge a portion of the currency exposure relating to non-U.S. dollar term debt issued by Salomon Inc (Parent Company). The impact of marking such contracts and the related debt to prevailing exchange rates is included in income. The Company also utilizes forward currency contracts to hedge certain investments in subsidiaries with functional currencies other than the U.S. dollar. The impact of marking such contracts to prevailing exchange rates, net of the related tax effects, is included in "Cumulative translation adjustments" in Stockholders' equity, as is the impact of translating the investments being hedged. See Notes 8, 9 and 10 for a further discussion of the use of interest rate swaps and forward currency contracts. COMMODITIES AND RELATED PRODUCTS AND INSTRUMENTS Commodities and related products and instruments include physical quantities of commodities, as well as swaps, options and contractual commitments involving future delivery or settlement. These products and instruments are carried at market or fair value and related gains or losses are reported as "Principal transactions." COLLATERALIZED SHORT-TERM FINANCING AGREEMENTS Collateralized short-term financing agreements are carried at their contractual amounts, including accrued interest. In the determination of income, certain financing transactions are marked to fair value, which has no material effect on the results of operations. Interest income and expense related to matched book activity is reported net in interest and dividend revenue. The Company generally takes possession of the underlying collateral, monitors its market value relative to the amounts due under the agreements, and, when necessary, requires prompt transfer of additional collateral or reduction in the loan balance in order to maintain contractual margin protection. In the event of counterparty default, the financing agreement provides the Company with the right to liquidate the collateral held. Securities sold under agreements to repurchase and securities purchased under agreements to resell are reported net by counterparty when permitted under Financial Accounting Standards Board ("FASB") Interpretation No. 41, Offsetting of Amounts Related to Certain Repurchase and Reverse Repurchase Agreements ("FIN 41"). COLLATERALIZED MORTGAGE OBLIGATIONS AND ASSETS SECURING COLLATERALIZED MORTGAGE OBLIGATIONS Collateralized mortgage obligations issued by the Company are carried at their principal amounts, net of unamortized discounts, plus accrued interest payable. Assets securing collateralized mortgage obligations are carried at their principal amounts, net of unamortized discounts and premiums, plus deferred issuance costs and accrued interest receivable. Discounts, premiums and deferred issuance costs are amortized on an effective yield basis over the expected lives of the obligations and assets, on a retrospective basis, taking into consideration the prepayment experience of the underlying mortgage collateral. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment, including leasehold improvements and capitalized interest, are carried at cost less accumulated depreciation and amortization. Depreciation and amortization are recorded substantially on a straight-line basis over the lesser of the estimated useful lives of the related assets or noncancelable lease terms, as appropriate. Maintenance and repairs are charged to occupancy expense as incurred. 10 SUMMARY OF ACCOUNTING POLICIES The cost of purchased software is capitalized and amortized over a three-year period. Costs incurred in connection with the internal development of software, solely for the Company's use, as well as the customization of purchased software, are expensed in the period incurred. OTHER ASSETS, INCLUDING INTANGIBLES Other assets, including intangibles, include goodwill, investments in affiliates accounted for under the equity method and prepaid expenses. At December 31, 1996, goodwill totaled $127 million and is being amortized over 40 years, at an annual rate of approximately $5 million. REVENUES See Note 1 for detail regarding the Company's revenues, net of interest expense from continuing operations. EXPENSES COMPENSATION AND EMPLOYEE-RELATED EXPENSES include employee base salaries, bonuses and fringe benefits, including medical and life insurance, retirement plans, payroll taxes, training expenses, expatriate expenses, recruiting agency fees and expenses related to temporary employees. These expenses also include the cost of shares allocated to individual employee accounts pursuant to the Company's Equity Partnership Plan. TECHNOLOGY EXPENSE includes costs for computer hardware and software; workstations; data center equipment; market data services; data storage; and voice, data, audio-visual and network communications. Technology expense also includes technology consulting expenses. PROFESSIONAL SERVICES AND BUSINESS DEVELOPMENT EXPENSE includes legal fees, audit, tax, non-technology consulting, travel, entertainment, and advertising expenses. OCCUPANCY EXPENSE includes rent, depreciation, amortization of leasehold improvements, maintenance, utilities, occupancy taxes, property insurance and moving and other occupancy-related expenses. CLEARING AND EXCHANGE FEES include clearance, transaction, and commission fees and exchange dues and assessments. OTHER EXPENSE includes goodwill amortization, expenses recorded for environmental matters, provisions for legal matters, insurance expense, printing and supplies, messenger, courier, and postage expenses, and other expenses not included in the captions above. CASH AND INTEREST BEARING EQUIVALENTS The Company defines cash and interest bearing equivalents as highly liquid investments with original maturities of three months or less, at the time of purchase, other than those held for sale in the ordinary course of business. 11 SUMMARY OF ACCOUNTING POLICIES NEW ACCOUNTING PRONOUNCEMENTS In June 1996, the FASB issued Statement of Financial Accounting Standards ("SFAS") 125, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, which is effective for transactions occurring after December 31, 1996, and is to be applied prospectively. However, in December 1996, the FASB issued SFAS 127, Deferral of the Effective Date of Certain Provisions of FASB Statement No. 125, which delayed the effective date of certain provisions of SFAS 125 until January 1, 1998. SFAS 125 defines when financial assets and liabilities should either be recognized or derecognized, when transfers of assets should be accounted for as sales versus secured borrowings, and when collateral received or pledged should be recorded on, or removed from, the balance sheet. This statement is based on a "financial-components approach" which focuses on control of the assets. The provisions of SFAS 125, which went into effect on January 1, 1997, are not expected to have a material impact on the Company's financial statements. The Company is in the process of evaluating the effect of the SFAS 125 provisions that have been deferred to January 1, 1998 pursuant to SFAS 127. These provisions are not expected to materially affect stockholders' equity or reported net income. In February 1997, the FASB issued SFAS 128, Earnings per Share, which will be effective commencing with the Company's financial statements for the year ended December 31, 1997. Under this standard, the Company will replace its disclosure of "primary" earnings per share with "basic" earnings per share. Basic earnings per share excludes dilution and is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the period. Upon adoption of the standard, prior period amounts must be restated. The impact on previously reported primary earnings per share will be immaterial. Diluted earnings per share, as required under the new standard, is computed similarly to fully diluted earnings per share under existing accounting principles. 12 SALOMON INC AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: REVENUES BY BUSINESS ACTIVITY The following tables present revenues, net of interest expense, by business activity, from continuing operations for the years ended December 31, 1996, 1995 and 1994:
Principal Transactions & Net Dollars in millions Interest and Investment Year Ended December 31, 1996 Dividends Banking Commissions Other Total _____________________________________________________________________________________________________________________________ Salomon Brothers: Fixed income sales and trading $2,609 $ - $ 15 $ - $2,624 Equity sales and trading 80 - 310 (1) 389 Global investment banking - 853 - - 853 Asset management 3 - - 48 51 Other - - - 31 31 _____________________________________________________________________________________________________________________________ Salomon Brothers' revenues, net of interest expense 2,692 853 325 78 3,948 Phibro 353 - - - 353 Corporate and Other 14 - 1 51 66 _____________________________________________________________________________________________________________________________ Revenues, net of interest expense $3,059 $853 $326 $129 $4,367 ============================================================================================================================= Principal Transactions & Net Dollars in millions Interest and Investment Year Ended December 31, 1995 Dividends Banking Commissions Other Total _____________________________________________________________________________________________________________________________ Salomon Brothers: Fixed income sales and trading $1,560 $ - $ 40 $ 3 $1,603 Equity sales and trading 538 - 288 2 828 Global investment banking - 472 - - 472 Asset management - - - 39 39 Other 4 - 2 - 6 _____________________________________________________________________________________________________________________________ Salomon Brothers' revenues, net of interest expense 2,102 472 330 44 2,948 Phibro 202 - - 5 207 Corporate and Other 40 - 2 2 44 _____________________________________________________________________________________________________________________________ Revenues, net of interest expense $2,344 $472 $332 $51 $3,199 =============================================================================================================================
13 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Principal Transactions & Net Dollars in millions Interest and Investment Year Ended December 31, 1994 Dividends Banking Commissions Other Total _____________________________________________________________________________________________________________________________ Salomon Brothers: Fixed income sales and trading $ 605 $ - $ 39 $ - $ 644 Equity sales and trading (124) - 281 - 157 Global investment banking - 486 - - 486 Asset management 15 - - 23 38 Other 18 - 13 - 31 Unallocated charges (278) - - - (278) _______________________________________________________________________________________________________________________________ Salomon Brothers' revenues, net of interest expense 236 486 333 23 1,078 Phibro 190 - 1 - 191 Corporate and Other 43 - 2 7 52 ______________________________________________________________________________________________________________________________ Revenues, net of interest expense $469 $486 $336 $30 $1,321 ===============================================================================================================================
SALOMON BROTHERS FIXED INCOME SALES AND TRADING Fixed income sales and trading revenues include realized and unrealized gains and losses and fees arising from the trading, as principal and agent, of government and government agency securities, investment and non-investment grade corporate debt and preferred stock, mortgage securities (primarily U.S. government agencies, including interest only and principal only strips), and emerging market fixed income securities. Revenues also include realized and unrealized gains and losses generated from a variety of fixed income securities utilized in arbitrage strategies for the Company's own account, and realized and unrealized gains and losses arising from the spot and forward trading of currencies and exchange-traded and over-the-counter ("OTC") currency options. Realized and unrealized gains and losses resulting from changes in the market or fair value of options on fixed income securities, interest rate swaps, currency swaps, swap options, caps and floors, financial futures, OTC options and forward contracts on fixed income securities are reflected as fixed income sales and trading revenue. Revenues are increased by interest income generated from inventories, and reduced by the interest expense incurred to finance inventories as well as interest on securities sold, not yet purchased. EQUITY SALES AND TRADING Equity sales and trading revenues consist of realized and unrealized gains and losses and fees arising from the trading of U.S. and non-U.S. equity securities, including common and convertible preferred stock, convertible corporate debt, equity-linked notes and exchange-traded and OTC equity options and warrants. Revenues also include realized and unrealized gains and losses on equity securities and related derivatives utilized in arbitrage strategies for the Company's own account. Revenues are increased by interest and dividends generated from inventories, and are reduced by interest expense incurred to finance inventories as well as interest and dividends on securities sold, not yet purchased. Commission income is generated primarily from equity-related block trading and program trading transactions executed for customers. 14 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS GLOBAL INVESTMENT BANKING Global investment banking revenues include gains, losses and fees, net of syndicate expenses, arising from securities offerings in which Salomon Brothers acts as an underwriter or agent and fees earned from providing merger and acquisition and financial restructuring advisory services. ASSET MANAGEMENT Asset management revenues consist of investment advisory fees generated from providing specialized investment and portfolio management services to institutional and private investors. OTHER Other revenues in 1996 include the $31 million pretax gain resulting from the sale of twelve limited service hotel properties. In 1995 and 1994, other revenues include commissions generated from the Private Investment Department, which was discontinued in the first quarter of 1995. UNALLOCATED CHARGES Salomon Brothers' 1994 results reflect a pretax charge of $303 million ($189 million aftertax) to correct unsupported general ledger balances, of which $194 million ($126 million aftertax) related to Salomon Brothers' London-based companies. These balances were identified as Salomon Brothers changed operational systems and conducted a detailed review of databases supporting general ledger balances. The review necessitated a number of adjustments affecting transactions going back at least until 1989 involving many different instruments, positions and related currency effects. The remaining pretax charge of $109 million ($63 million aftertax) arose from the completion of a detailed review of Salomon Brothers' general ledger accounts related to interest rate swaps and the interest rate swap transactions database. Although the 1994 charge of $303 million related to a number of years, Salomon Brothers' accounting systems do not contain sufficient information to permit allocation of the largest part of the charge to individual years. Based on the analysis of available information, management believes that, were it possible to allocate the charge to prior years, the impact of such an allocation would not have been material in any single prior year. In the preceding table, $278 million of the $303 million 1994 charge is reflected in "Unallocated charges," and the remainder is included in business unit revenues. PHIBRO Phibro trades crude oil, refined oil products, natural gas, electricity, metals, petrochemicals, ethanol, coffee, grains, cocoa and sugar. In 1996, Phibro discontinued trading coal, coke and fertilizers. Phibro's revenues consist of realized and unrealized gains and losses from trading these commodities and related derivative instruments. 15 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS CORPORATE AND OTHER Corporate and Other includes the Company's equity in the earnings of Phibro Energy Production, Inc. ("PEPI"), a partner in the White Nights Limited Liability Company ("White Nights"), a Russian-American oil production venture located in Western Siberia. Corporate and Other also included the results of The Mortgage Corporation Limited ("TMC"), including the $48 million pretax gain on its sale which was recorded in the third quarter of 1996. TMC originated and serviced residential mortgages in the United Kingdom. NOTE 2: DISCONTINUED OPERATIONS In March 1997, the Board of Directors approved a non-binding letter of intent to sell all of the outstanding stock of Basis Petroleum, Inc. to Valero and a plan of disposition for Basis. This transaction will result in a pretax loss of approximately $505 million ($290 million aftertax). The sale is expected to be completed in May 1997. Proceeds from the sale will include cash of approximately $365 million, Valero common stock with a market value of $120 million and participation payments based on a fixed notional throughput and the difference, if any, between an average market crackspread, as defined, and a base crackspread, as defined, over each of the next ten years. The total of the participation payments is capped at $200 million, with a maximum of $35 million per year. In addition, as a result of Valero's merger agreement with PG&E Corporation, Valero's common stock is expected to be exchanged for stock of PG&E Corporation and a new stock of the "spin-off" company, representing Valero's refining assets. The sale is subject to negotiation of a final agreement and to the satisfaction of other customary conditions. The estimated loss includes severance costs and anticipated operating losses to be incurred prior to the completion of the sale, and reflects other estimates of value at time of closing. The Company's investment in Genesis Energy, L.P., a publically-traded crude oil gathering, marketing and transportation partnership, will not be transferred to Valero. The following tables present Basis' results of operations and the loss on the disposal of Basis which are included in "Discontinued operations" on the Consolidated Statement of Income as well as details of Basis' net assets at December 31, 1996 which are included in "Net realizable value of discontinued operations" on the Consolidated Statement of Financial Condition. Dollars in millions Year Ended December 31, 1996 1995 1994 ______________________________________________________________________________ Discontinued operations: Revenues, net of interest expense $(85) $(48) $65 Noninterest expenses 38 43 47 ______________________________________________________________________________ Income (loss) before income taxes (123) (91) 18 Income tax expense (benefit) (48) (35) 7 ______________________________________________________________________________ Income (loss) from operations (75) (56) 11 Loss on disposal, net of tax benefit of $215 (290) - - ______________________________________________________________________________ Income (loss) from discontinued operations, net of taxes $(365) $(56) $11 ============================================================================== 16 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Dollars in millions December 31, 1996 _____________________________________________________________________________ Assets: Commodities and related products and instruments $ 379 Receivables 438 Property, plant and equipment, net of accumulated depreciation of $202 823 Other assets 34 ______________________________________________________________________________ Total assets $1,674 ============================================================================== Liabilities: Customer and supplier payables $ 512 Other payables 150 Commodities-related contractual commitments 17 ______________________________________________________________________________ Total liabilities 679 ______________________________________________________________________________ Net assets 995 Pretax loss on disposal (505) ______________________________________________________________________________ Net realizable value of discontinued operations $ 490 ============================================================================== NOTE 3: INDUSTRY SEGMENT AND GEOGRAPHIC DATA The Company's operating results by segment for each of the last three years were: Income (Loss) Before Income Revenues from Taxes from Continuing Continuing Dollars in millions Operations Operations Total Assets* _______________________________________________________________________________ Year Ended December 31, 1996 Salomon Brothers $8,514 $1,365 $191,127 Phibro 408 192 2,554 Corporate and Other 124 53 1,200 _______________________________________________________________________________ Consolidated $9,046 $1,610 $194,881 =============================================================================== Year Ended December 31, 1995 Salomon Brothers $8,467 $ 704 $181,342 Phibro 261 85 2,709 Corporate and Other 225 10 4,377 ______________________________________________________________________________ Consolidated $8,953 $ 799 $188,428 ============================================================================== Year Ended December 31, 1994 Salomon Brothers $5,751 $ (963) $165,155 Phibro 208 81 2,375 Corporate and Other 235 33 4,922 _____________________________________________________________________________ Consolidated $6,194 $ (849) $172,452 ============================================================================= * The net realizable value of Basis is included in "Corporate and Other" in 1996. The total assets of Basis Petroleum of $1,747 million and $1,602 million are included in "Corporate and Other" in 1995 and 1994, respectively. 17 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Segment results for all periods presented include a partial allocation of Salomon Inc corporate-level expenses. Corporate-level expenses incurred for the benefit of a particular operating segment are allocated directly to that segment. "Corporate and Other" assets consist primarily of the assets of Basis Petroleum, certain corporate fixed assets, PEPI's investment in White Nights and the assets of TMC prior to its sale in 1996, which consisted primarily of assets securing sterling-denominated collateralized mortgage obligations. The accompanying table summarizes the Company's operations by geographic area. Amounts are determined principally by the respective legal jurisdictions of the Company's subsidiaries. Because of the global nature of the financial and commodities markets in which the Company competes and the integration of the Company's worldwide business activities, the Company believes that amounts determined in this manner are not particularly useful in understanding its business. Income (Loss) Before Income Revenues from Taxes from Continuing Continuing Dollars in millions Operations Operations* Total Assets** _______________________________________________________________________________ Year Ended December 31, 1996 North America $6,145 $1,488 $101,935 Europe 2,800 80 76,297 Asia and Other 101 42 16,649 _______________________________________________________________________________ Consolidated $9,046 $1,610 $194,881 ============================================================================== Year Ended December 31, 1995 North America $4,719 $ 224 $102,455 Europe 4,039 611 74,014 Asia and Other 195 (36) 11,959 _______________________________________________________________________________ Consolidated $8,953 $ 799 $188,428 ============================================================================== Year Ended December 31, 1994 North America $4,365 $ (137) $ 99,602 Europe 1,332 (841) 65,014 Asia and Other 497 129 7,836 _______________________________________________________________________________ Consolidated $6,194 $ (849) $172,452 ============================================================================== * For the year ended December 31, 1994, North America and Europe include pretax charges of $109 million and $194 million, respectively, to correct unsupported Salomon Brothers' general ledger balances. ** The net realizable value of Basis is included in North America in 1996. The total assets of Basis Petroleum of $1,747 million and $1,602 million are included in North America in 1995 and 1994, respectively. 18 NOTE 4: COLLATERALIZED SHORT-TERM FINANCING AGREEMENTS Securities purchased under agreements to resell are collateralized principally by government and government agency securities. Securities borrowed agreements are collateralized principally by government and government agency securities, corporate debt and equity securities. Securities purchased under agreements to resell and securities borrowed agreements generally have terms ranging from overnight to up to six months. Excluding the impact of FIN 41, securities purchased under agreements to resell totaled $67.1 billion and $53.2 billion at December 31, 1996 and 1995, respectively. Securities borrowed and other short-term financing agreements totaled $16.2 billion and $17.0 billion at December 31, 1996 and 1995, respectively. At December 31, 1996, the market value of securities collateralizing resale agreements and securities borrowed and other short-term financing agreements was $68.2 billion and $15.7 billion, respectively. The interest rate on these instruments depends on, among other things, the underlying collateral, the term of the agreement and the credit quality of the counterparty. At December 31, 1996, these instruments had a weighted average rate of 4.7%. Securities sold under agreements to repurchase are collateralized principally by government and government agency securities. Securities loaned agreements are collateralized principally by corporate debt and equity securities. See Note 16. Securities sold under agreements to repurchase generally have terms ranging from overnight to up to six months. NOTE 5: PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consisted of the following: Dollars in millions December 31, 1996 1995 __________________________________________________________________________ Land $ 4 $ 4 Buildings, improvements and equipment 1,073 1,030 Refining and other energy-related assets* - 978 __________________________________________________________________________ Total 1,077 2,012 Accumulated depreciation and amortization (556) (669) __________________________________________________________________________ Property, plant and equipment, net $ 521 $1,343 ========================================================================== * The decrease in 1996 is due to the treatment of Basis as a discontinued operation. See Note 2. 19 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 6: SHORT-TERM BORROWINGS Information regarding the Company's bank borrowings and commercial paper is presented below. Average balances were computed based on month-end outstanding balances. Dollars in millions Year Ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------- Bank borrowings: Balance at year-end $4,287 $3,856 $2,333 Weighted average interest rate 5.8% 4.8% 6.0% Annual averages - Amount outstanding $2,857 $2,743 $3,045 Weighted average interest rate 4.7% 5.7% 4.9% Maximum amount outstanding at any month-end $4,287 $4,856 $4,173 - ------------------------------------------------------------------------------- Commercial paper: Balance at year-end $1,106 $ 797 $ 865 Weighted average interest rate 5.8% 6.0% 5.7% Annual averages - Amount outstanding $1,060 $ 907 $1,094 Weighted average interest rate 5.6% 6.2% 4.4% Maximum amount outstanding at any month-end $1,548 $1,106 $1,309 ================================================================================ Outstanding bank borrowings include both U.S. dollar and non-U.S. dollar denominated loans. The non-U.S. dollar loans are denominated in multiple currencies including Japanese yen, German mark and U.K. sterling. All of the Company's commercial paper outstanding at December 31, 1996, 1995 and 1994 was U.S. dollar denominated. Also included in short-term borrowings are deposit liabilities, securities loaned and other short-term obligations. In 1992, Salomon Brothers Inc ("SBI"), an indirect wholly-owned subsidiary, entered into a committed secured standby bank credit facility for financing securities positions. The facility, which has a capacity of $2.1 billion, contains certain restrictive covenants that require, among other things, that SBI maintain minimum levels of excess net capital and net worth, as defined. SBI's excess net capital exceeded the minimum required under the facility by $587 million and SBI's net worth exceeded the minimum amount required by $496 million at December 31, 1996. In 1996, Salomon Brothers International Limited ("SBIL"), an indirect wholly-owned subsidiary, entered into a $1.0 billion committed securities repurchase facility. The facility is subject to restrictive covenants including a requirement that SBIL maintain minimum levels of tangible net worth and excess financial resources, as defined. At December 31, 1996, SBIL was in compliance with all covenants related to this facility. In 1996, Phibro Inc. entered into an unsecured committed revolving line of credit. This facility, which has a capacity of $500 million, requires Phibro Inc. to maintain minimum levels of capital and net working capital, as defined. Phibro Inc. exceeded these minimums at December 31, 1996. At December 31, 1996, there were no outstanding borrowings under any of these facilities. 20 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 7: COLLATERALIZED MORTGAGE OBLIGATIONS Certain special purpose wholly-owned subsidiaries have been organized to issue collateralized mortgage obligations ("CMOs"). The CMOs are collateralized by mortgages, mortgage-backed securities and short-term investments (collectively, the "Collateral"). Principal and interest payments received on the Collateral are utilized to meet periodic principal and interest payments on the CMOs. Although the CMOs have contractual maturities, their actual maturities may be shorter as a result of prepayments of the Collateral. The CMOs, which were all U.S. dollar denominated at December 31, 1996, consisted of the following: Dollars in millions December 31, 1996 1995 - ------------------------------------------------------------------------------- Contractual Maturity 2006 to 2010 $ 12 $ 60 2011 to 2031 402 2,308 Accrued interest payable 8 23 Unamortized discounts (38) (54) - ------------------------------------------------------------------------------- Collateralized mortgage obligations $ 384 $ 2,337 =============================================================================== The decrease in the CMO balance at December 31, 1996 is due to the sale of TMC in the third quarter of 1996. NOTE 8: TERM DEBT Term debt, net of unamortized discount and including unamortized premium, if applicable, consists of issues with original maturities in excess of one year. Certain issues are redeemable, in whole or in part, at par or at premiums prior to maturity.
Fixed Rate Obligations Fixed Rate Total Variable Total Total Swapped to Obligations Fixed Rate Rate December 31, December 31, Dollars in millions Variable Not Swapped Obligations Obligations 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------------ U.S. dollar denominated: Salomon Inc (Parent Company) $6,670 $355 $7,025 $2,289 $ 9,314 $ 9,249 Other Subsidiaries -- -- -- 19 19 22 - ------------------------------------------------------------------------------------------------------------------------------------ U.S. dollar denominated 6,670 355 7,025 2,308 9,333 9,271 - ------------------------------------------------------------------------------------------------------------------------------------ Non-U.S. dollar denominated: Salomon Inc (Parent Company) 680 144 824 1,331 2,155 2,366 Other Subsidiaries 1,421 95 1,516 366 1,882 1,408 - ------------------------------------------------------------------------------------------------------------------------------------ Non-U.S. dollar denominated 2,101 239 2,340 1,697 4,037 3,774 - ------------------------------------------------------------------------------------------------------------------------------------ Term debt $8,771 $594 $9,365 $4,005 $13,370 $13,045 ====================================================================================================================================
21 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The maturity structure of the Company's term debt, based on contractual maturities or the earliest date on which the debt is repayable at the option of the holder, was as follows at December 31, 1996: Salomon Inc Other Dollars in millions (Parent Company) Subsidiaries Total - ------------------------------------------------------------------------------ 1997 $ 2,525 $ 378 $ 2,903 1998 2,650 137 2,787 1999 2,119 25 2,144 2000 978 322 1,300 2001 784 248 1,032 Thereafter 2,413 791 3,204 - ------------------------------------------------------------------------------ Total $11,469 $1,901 $13,370 ============================================================================== The Company issues U.S. dollar and non-U.S. dollar denominated fixed and variable rate term debt. Fixed rate debt matures at various dates through 2023. The contractual interest rates on fixed rate debt ranged from 1.25% (Japanese yen denominated) to 10.13% (U.S. dollar denominated) at December 31, 1996 and 1.25% (Japanese yen denominated) to 12.87% (Italian lira denominated) at December 31, 1995. The weighted average contractual rate on total fixed rate term debt (both U.S. dollar denominated and non-U.S. dollar denominated term debt) was 6.77% at December 31, 1996 and 6.78% at December 31, 1995. The Company utilizes interest rate swap agreements to convert most of its fixed rate term debt to variable rate obligations. The maturity structure of the swaps generally corresponds with the maturity structure of the debt being hedged. The Company's non-U.S. dollar fixed rate term debt was issued across a broad range of currencies (including Japanese yen, German mark, U.K. sterling, Italian lira, Swiss franc, and Portuguese escudo) and, consequently, the term debt bears a wide range of interest rates. At December 31, 1996, the Company had outstanding $4.0 billion of non-U.S. dollar denominated term debt, of which $1.8 billion was Japanese yen denominated, $1.4 billion was German mark denominated and $.6 billion was U.K. sterling denominated (converted at the December 31, 1996 spot rates). Of the $4.0 billion, approximately $1.0 billion of Salomon Inc (Parent Company) non-U.S. dollar denominated debt has been designated as a hedge of investments in subsidiaries with functional currencies other than the U.S. dollar. Another $.7 billion of Salomon Inc (Parent Company) debt has been effectively converted to U.S. dollar denominated obligations using cross-currency swaps. The remaining $2.3 billion is used for general corporate purposes. 22 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the Company's fixed rate term debt that is swapped to variable rate obligations using interest rate swaps at December 31, 1996 and 1995. The variable rates presented are indicative of the Company's actual costs related to such obligations.
1996 1995 --------------------------------------- ------------------------------------------- Contractual Contractual Weighted Weighted Average Weighted Average Weighted Fixed Rate Average Fixed Rate Average on Swapped Variable Rate on Swapped Variable Rate Principal Fixed Rate on Swapped Principal Fixed Rate on Swapped Dollars in millions Balance Term Debt Term Debt Balance Term Debt Term Debt - ---------------------------------------------------------------------------------------------------------------------------------- U.S. dollar denominated $6,670 7.0% 6.7% $6,610 6.9% 6.9% German mark denominated 1,252 7.4 4.7 1,014 7.9 4.2 Japanese yen denominated 420 4.3 .8 519 4.4 .9 Japanese yen swapped to U.S. dollar denominated 317 3.6 6.9 265 4.1 6.8 Swiss franc swapped to U.S. dollar denominated 65 5.1 6.1 75 5.1 6.1 Italian lira swapped to U.S. dollar denominated 40 9.9 6.8 -- -- -- U.K. sterling denominated 4 7.6 7.5 16 11.4 7.0 Portuguese escudo swapped to U.S. dollar denominated 3 9.5 7.1 -- -- -- Italian lira denominated -- -- -- 5 12.9 11.0 European Currency Units swapped to U.S. dollar denominated -- -- -- 17 8.5 5.8 - ---------------------------------------------------------------------------------------------------------------------------------- Total swapped fixed rate term debt $8,771 6.8% 6.1% $8,521 6.8% 6.2% ==================================================================================================================================
Variable rate term debt matures at various dates through 2004. The interest rates are determined periodically by reference to money market rates, or in certain instances, are calculated based on stock or bond market indices as specified in the agreements governing the respective issues. The coupon interest rates on variable rate term debt ranged from .41% (Japanese yen denominated) to 9.36% (U.S. dollar denominated) at December 31, 1996 and .71% (Japanese yen denominated) to 10.97% (Italian lira denominated) at December 31, 1995. The weighted average contractual rate on total variable rate term debt (both U.S. dollar denominated and non-U.S. dollar denominated) was 4.89% at December 31, 1996 and 4.87% at December 31, 1995. Term debt includes subordinated notes, which totaled $32 million at December 31, 1996 and $34 million at December 31, 1995. At December 31, 1996 and 1995, subordinated debt included approximately $6 million of convertible restricted notes, which were convertible at the rate of $13.89 per share into 404,434 shares and 419,435 shares of the Company's common stock at December 31, 1996 and 1995, respectively. At December 31, 1996, the Company had outstanding $214 million of term debt for which the principal repayment is linked to certain equity securities of unaffiliated issuers. 23 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9: GUARANTEED PREFERRED BENEFICIAL INTERESTS IN COMPANY SUBORDINATED DEBT SECURITIES ("TRUPS") On July 3, 1996, the Company issued $345 million or 13,800,000 TRUPS units. Each TRUPS unit includes a 9 1/4% mandatorily redeemable preferred security of the SI Financing Trust I (the "Trust") and a purchase contract which requires the holder to purchase, in 2021 (or earlier if the Company elects to accelerate the contract), one depositary share representing a one-twentieth interest in a share of Salomon Inc's 9 1/2% Cumulative Preferred Stock, Series F ("Series F Preferred"). The Company is obligated under the terms of each purchase contract to pay contract fees of 0.25% per annum, which is included as preferred dividends on the Statement of Changes in Stockholders' Equity. The Trust is a wholly-owned subsidiary of the Company and the Company's obligations under the guarantee, the subordinated debt securities and other contracts, in the aggregate, constitute a full and unconditional guarantee by the Company of the Trust's obligations under the preferred securities. The Trust was established by the Company for the sole purpose of issuing the 9 1/4% preferred securities and common securities and investing the proceeds in $356 million aggregate principal amount of 9 1/4% subordinated debt securities issued by Salomon Inc due June 30, 2026. The sole assets of the Trust are the subordinated debt securities. All payments associated with the 9 1/4% preferred securities are fully and unconditionally guaranteed by Salomon Inc. The 9 1/2% per annum on the TRUPS units was accrued from date of issuance and is payable quarterly, commencing September 30, 1996. Tax counsel to the Company has advised the Company that the 9 1/4% interest on the subordinated debt securities will be deductible for Federal income tax purposes. The Company has entered into an interest rate swap agreement to effectively convert the fixed rate obligations on the TRUPS units to variable rate obligations. It is the Company's understanding that the rating agencies, in their analysis of the Company's capital structure, will treat the TRUPS units similarly to the Company's perpetual preferred stock. The TRUPS units are redeemable at the option of the Company at any time on or after June 30, 2001. However, if the purchase contracts are accelerated or exercised by the Company and the holders elect not to settle the purchase contracts by delivering the Trust preferred security, the right of the Company to cause the Series F Preferred to be redeemed is postponed for five years. The Series F Preferred is redeemable at the Company's option at any time on or after June 30, 2001 or the date of issue, if later. 24 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 10: PREFERRED STOCK The Company is authorized to issue a total of 5,000,000 shares of preferred stock. The Company has entered into interest rate swap agreements that effectively convert expected future fixed rate dividends into variable rate obligations. For financial reporting purposes, dividends on preferred stock are adjusted by the aftertax income or loss generated by these swaps. These swaps reduced preferred dividends by $21 million, $19 million and $28 million in 1996, 1995 and 1994, respectively. REDEEMABLE PREFERRED STOCK, SERIES A At December 31, 1996, 420,000 shares of Series A cumulative preferred stock ("Series A Preferred"), were outstanding and held by affiliates of Berkshire Hathaway Inc. ("Berkshire"). Each share has a redemption value of $1,000, is preferentially entitled to receive quarterly cash dividends, if declared, at the annual rate of $90 and can be converted into shares of common stock at $38 per share (11,052,632 shares at December 31, 1996). The number of shares of common stock into which each Series A Preferred share is convertible is subject to adjustment in the event of stock splits, stock dividends and certain other events, none of which have occurred to date. The redeemable preferred stock is entitled to one vote per common share into which it is convertible, voting together as one class with the Company's common stock. At December 31, 1996, the redeemable preferred stock represented 9.2% of the votes entitled to be cast by holders of the Company's voting securities. On October 31, 1995, the first of five tranches of 140,000 shares of Series A Preferred held by Berkshire was redeemed by the Company for $140 million. On October 29, 1996, Berkshire converted the second tranche of 140,000 shares ($140 million) of Series A Preferred into 3.7 million shares of Salomon Inc common stock. If not previously converted, one third of the remaining 420,000 shares are to be redeemed annually on October 31 at $1,000 per share plus any accrued but unpaid dividends. No cash dividends may be paid on the Company's common stock, nor may the Company repurchase any of its common stock, if dividends or required redemptions of Series A Preferred are in arrears. PREFERRED STOCK, SERIES C In June 1991, the Company issued $112.5 million (225,000 shares) of Series C 9.50% cumulative preferred stock ("Series C Preferred") represented by 4,500,000 depositary shares, each representing a one-twentieth interest in a share of such preferred stock. On August 15, 1996 the Company redeemed all of the Series C Preferred. PREFERRED STOCK, SERIES D In February 1993, the Company issued $200 million (400,000 shares) of Series D 8.08% cumulative preferred stock ("Series D Preferred") represented by 8,000,000 depositary shares, each representing a one-twentieth interest in a share of such preferred stock. Series D Preferred is redeemable at the Company's option at any time on or after March 31, 1998, at a price of $500 for each preferred share ($25 for each depositary share). 25 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS PREFERRED STOCK, SERIES E In February 1996, the Company issued $250 million (500,000 shares) of Series E 8.40% cumulative preferred stock ("Series E Preferred") represented by 10,000,000 depositary shares, each representing a one-twentieth interest in a share of such preferred stock. Series E Preferred is redeemable at the Company's option at any time on or after March 31, 2001, at a price of $500 for each preferred share ($25 for each depositary share). NOTE 11: COMMON STOCK On February 8, 1988, the Company's Board of Directors declared a dividend of one preferred share purchase right for each outstanding share of the Company's common stock. The Board also authorized the issuance of preferred share purchase rights for each share of Series A Preferred based on the number of shares of common stock into which the Series A Preferred will be convertible. The rights contain provisions to protect stockholders against certain takeover tactics and are exercisable for shares of the Company's Series B junior participating preferred stock only if certain specified events occur relating to changes in ownership of the Company's stock or an attempted takeover. For additional information see Note 13. NOTE 12: CAPITAL REQUIREMENTS Certain U.S. and non-U.S. subsidiaries are subject to various securities and commodities regulations and capital adequacy requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. The Company's principal regulated subsidiaries are discussed below. SBI is registered as a broker-dealer with the U.S. Securities and Exchange Commission ("SEC") and is subject to the SEC's Uniform Net Capital Rule, Rule 15c3-1, which requires net capital, as defined under the alternative method, of not less than the greater of 2% of aggregate debit items arising from customer transactions, as defined, or 4% of funds required to be segregated for customers' regulated commodity accounts, as defined. Although net capital, aggregate debit items and funds required to be segregated change from day to day, at December 31, 1996, SBI's net capital was approximately $1 billion, $987 million in excess of regulatory requirements. SBIL is authorized to conduct investment business in the United Kingdom by the Securities and Futures Authority ("SFA") in accordance with the Financial Services Act 1986. The SFA requires SBIL to have available at all times financial resources, as defined, sufficient to demonstrate continuing compliance with its rules. At December 31, 1996, SBIL's financial resources were $390 million in excess of regulatory requirements. Salomon Brothers Asia Limited ("SBAL") and Salomon Brothers AG ("SBAG"), both indirect wholly-owned subsidiaries, are also subject to regulation in the countries in which they do business. Such regulations include requirements to maintain specified levels of net capital or its equivalent. At December 31, 1996, SBAL's net capital was $262 million above the minimum required by Japan's Ministry of Finance. SBAG's net capital was $53 million above the minimum required by Germany's Banking Supervisory Authority. 26 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS In addition, in order to maintain its triple-A rating, Salomon Swapco Inc ("Swapco"), an indirect wholly-owned subsidiary, must maintain minimum levels of capital in accordance with agreements with its rating agencies. At December 31, 1996, Swapco was in compliance with all such agreements. Swapco's capital requirements are dynamic, varying with the size and concentration of its counterparty receivables. NOTE 13: EMPLOYEE BENEFIT PLANS RETIREMENT PLANS Substantially all full-time U.S. employees of the Company participate in defined contribution plans. Non-U.S. employees generally participate in defined benefit plans that are insured or otherwise funded. The costs relating to such plans, which are included in compensation and employee-related expenses from continuing operations, were $59 million, $51 million and $40 million in 1996, 1995 and 1994, respectively. HEALTH CARE AND LIFE INSURANCE The Company provides certain health care and life insurance benefits for its active employees, qualifying retired U.S. employees and certain non-U.S. employees who reach the retirement criteria specified by the various plans. The Company self-insures such benefit programs. At December 31, 1996, there were approximately 7,100 active and 600 retired employees eligible for such benefits. Expenses recorded for health care and life insurance benefits from continuing operations were $33 million, $39 million and $39 million in 1996, 1995 and 1994, respectively. The Company provides for the cost of postretirement benefits other than pensions over the service periods of eligible employees. The present value of the liability related to these benefits and postemployment benefits, included in "Other payables and accrued liabilities," was $84 million and $92 million at December 31, 1996 and 1995, respectively. EMPLOYEE INCENTIVE PLANS SALOMON INC STOCK INCENTIVE PLAN ("SIP") In 1994, the stockholders approved the SIP which provides for the issuance of up to 3.5 million shares in the form of options, restricted stock and stock bonuses, as well as an additional grant of up to 1.5 million shares in the form of stand-alone stock appreciation rights, phantom stock and cash bonuses to key employees, including officers, whether or not they are directors of the Company. In December 1996, 1.6 million options were awarded under the SIP with an exercise price set at the market value of Salomon Inc common stock on the date of grant ($44 7/8). The awards expire five years after the grant date and vest 100% three years after the grant date. At the grant date, the fair value per option issued was $13.16, as estimated using the Black-Scholes option pricing model assuming a risk free interest rate of 5.88%, a constant annual dividend rate of $0.64 per share and expected volatility of 25%. Fair value also assumes an expected term of 5 years and has not been reduced to reflect either the non-exercisable status of the options prior to the vesting date or the non-transferability of the options. SFAS 123, Accounting for Stock-Based Compensation, encourages alternative accounting treatment for stock based 27 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS employee compensation. SFAS 123 allows the fair value of stock based compensation to be included in expense over the period earned; alternatively, if the fair value of stock based compensation awards is not included in expense, SFAS 123 requires disclosure of net income, on a pro forma basis, as if expense treatment had been applied. As permitted by SFAS 123, the Company continues to account for such compensation under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees pursuant to which, no compensation cost has been recognized in connection with the issuance of stock options. Due to the timing of the issuance and the terms of the options, if the Company had recorded compensation expense in 1996 related to the options granted in December, the impact on the Company's Consolidated Financial Statements would have been immaterial. THE NON-QUALIFIED STOCK OPTION PLAN OF 1984, AS AMENDED (THE "1984 PLAN") The 1984 Plan, which terminated on June 30, 1994, provided for the granting of options to purchase common stock to certain key employees. Stock appreciation rights accompanied some of the options granted. Exercise of such rights extinguishes the related options. Options issued under the 1984 Plan expire ten years from the date of grant. Shares issued under the 1984 Plan are issued from the Company's common stock held in treasury. Changes in options outstanding under the SIP and 1984 Plan are summarized as follows: Grant Date Number of Option Price per Fair Value of Shares Share Options Issued - ------------------------------------------------------------------------------- Shares under option at: December 31, 1996 2,101,870 $18.13 to $44.88 December 31, 1995 713,470 $18.13 to $40.38 December 31, 1994 1,438,390 $18.13 to $46.00 Options issued: 1996 (under the SIP) 1,600,000 $44.88 $13.16 Options exercised: 1996 205,200 $18.13 to $40.38 1995 615,220 $18.13 to $40.38 1994 283,300 $18.13 to $46.00 Options canceled or expired: 1996 6,400 $18.13 to $40.38 1995 109,700 $46.00 1994 11,200 $18.13 to $46.00 =============================================================================== THE EMPLOYEE STOCK PURCHASE PLAN (THE "ESPP") The ESPP, which was approved by the Company's stockholders in 1989, allows eligible employees to make purchases, through payroll deductions, of the Company's common stock at a price of 85% of market value, limited by tax regulations to an annual maximum per employee of the lesser of $21,250 or 10% of the individual's annual compensation. Shares purchased under this plan are purchased on the open market. Prior to the second quarter of 1994, ESPP shares were issued from the Company's common stock held in treasury. Thus far, over 1.9 million shares have been purchased by employees under this plan, including approximately 191,000 shares in 1996. 28 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS THE EQUITY PARTNERSHIP PLAN (THE "EPP") The EPP began in 1990 and was formally approved by stockholders in 1991. For 1996 and future awards, the EPP was amended. Under the original EPP, qualifying employees ("participants") received a portion of their compensation in the form of the Company's common stock, the payment of which is deferred for five years. The stock is purchased by the EPP's trustee in the open market as well as from participants upon distribution in order to satisfy their income tax withholding liabilities. The portion of each participant's compensation paid in stock is fixed in relation to total compensation, and for 1995 and prior years reached a maximum of 50% of total compensation. Participants received the shares for 1995 and prior years with an incentive of 17.65%, whereby the Company makes an additional contribution to participants' accounts of 17.65% of their compensation deferred into the EPP. The amendments for 1996 and future awards included: an increase in the award incentive from 17.65% to 25%, a reduction in the deferral period from five years to three years, and the introduction of additional forfeiture provisions on both the award and the incentive. The award is forfeited if the participant's employment is terminated for cause (no change from prior EPP). The award is also subject to forfeiture provisions if the participant leaves the Company to join a competitor within three years after the award date. If a participant leaves the Company other than by virtue of death, disability, retirement or as the result of a downsizing during the three years following the award, the entire 25% award incentive will be forfeited. The EPP, as amended, also includes revisions to the participation schedule which reduce the portion of participants' annual compensation subject to the EPP (participation reaches a maximum of $1.5 million) and increase the minimum level of annual compensation required for participation to $360,000. Total purchases of shares by the EPP totaled $153 million (3.6 million shares) in 1996, $76 million (2.1 million shares) in 1995 and $266 million (5.8 million shares) in 1994. Stock awarded under the EPP totaled $147 million (3.6 million shares), $98 million (2.7 million shares) and $264 million (5.6 million shares) in 1996, 1995 and 1994, respectively. These amounts are included as a component of compensation expense. The net asset related to the EPP, which represents the cost of the unawarded shares held by the EPP less the Company's liability related to the EPP, payable in common stock, is included in "Other assets, including intangibles." Shares held by the trustee of the EPP are considered outstanding for the purpose of computing earnings per share. In early 1996, 3.3 million shares held by the EPP trustee were distributed to certain employees. To facilitate satisfaction of employees' tax obligations, approximately 1.3 million of those shares were repurchased by the Company as treasury stock, for $49 million. The remaining 2.0 million shares are subject to the same restrictions on transferability that existed prior to the distribution. In December 1996, restrictions on transferability were lifted on 2.4 million shares (net of withholding tax requirements) awarded by the EPP in 1991. Employees of certain subsidiaries of the Company do not participate in the EPP or are unable to participate in the EPP, but instead receive stock appreciation rights subject to the same terms as shares awarded under the EPP. 29 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS THE 401(k) PLAN (THE "401(k)") The 401(k) was amended effective January 1, 1996. The amendment included an increase in the Company's match from 50% to 75% of an eligible employee's contribution to the 401(k). As amended, the 401(k) matches 75% of the lesser of the eligible employee's contribution to the 401(k) or 6% of the eligible employee's total compensation. The increase in the Company's match is in the form of Salomon Inc common stock and is limited to eligible employees with an annual compensation level less than $360,000. In the event of certain changes of control not approved by the Company's Board of Directors, the holders of options under the SIP and the 1984 Plan will be entitled to receive an immediate cash payment equal to the excess of the fair market value of the common stock over the exercise price of shares covered by options or stock appreciation rights. All amounts credited to employees' accounts under certain bonus plans will vest and employees will be entitled to payment of an amount no less than the pro rata portion of their prior annualized year-end bonus. NOTE 14: INCOME TAXES The components of income taxes from continuing operations reflected on the Consolidated Statement of Income are: Dollars in millions Year Ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------- Current: U.S. federal $590 $179 $ 25 State and local 219 78 23 Non-U.S. (21) 337 386 - ------------------------------------------------------------------------------- Total current 788 594 434 - ------------------------------------------------------------------------------- Deferred: U.S. federal (170) (119) (188) State and local (56) (57) (57) Non-U.S. 66 (132) (628) - ------------------------------------------------------------------------------- Total deferred (160) (308) (873) - ------------------------------------------------------------------------------- Income tax expense (benefit) from continuing operations $628 $286 $(439) =============================================================================== Under SFAS 109, Accounting for Income Taxes ("SFAS 109"), temporary differences between recorded amounts and the tax bases of assets and liabilities are accounted for at current income tax rates. Under certain circumstances, estimates are used in the determination of temporary differences. 30 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS At December 31, 1996 and December 31, 1995, respectively, the Company's Consolidated Statement of Financial Condition included net deferred tax assets from continuing operations of $162 million and $26 million, comprised of the following: Dollars in millions December 31, 1996 1995 - ------------------------------------------------------------------------------- Mark-to-market adjustments $(284) $(442) Employee benefits and deferred compensation 513 450 Reserves 117 161 Cumulative translation adjustments (which do not affect the provision for income tax expense) (111) (115) U.S. taxes provided on the undistributed earnings of non-U.S. subsidiaries (84) (113) Other 11 85 - ------------------------------------------------------------------------------- Net deferred tax asset $ 162 $ 26 =============================================================================== The Company had no deferred tax valuation allowance at December 31, 1996 or December 31, 1995. Income taxes paid, net of refunds, totaled $981 million in 1996, $360 million in 1995 and $409 million in 1994. These amounts include estimated tax payments during the current tax year as well as cash settlements relating to prior tax years. The Company provides income taxes on the undistributed earnings of non-U.S. subsidiaries except to the extent that such earnings are indefinitely invested outside the United States. At December 31, 1996, the accumulated undistributed earnings of non-U.S. subsidiaries amounted to $1.5 billion, of which $1.3 billion was indefinitely invested. At the existing U.S. federal income tax rate, additional taxes of $376 million would have to be provided if such earnings were remitted. With respect to the remaining $177 million of such earnings, U.S. federal taxes, current and deferred, have already been provided. Therefore, those earnings could be remitted to the U.S. without incurring additional income tax expense. The following table reconciles the U.S. federal statutory income tax rate to the Company's effective tax rate from continuing operations: Year Ended December 31, 1996 1995 1994 - ------------------------------------------------------------------------------ Statutory U.S. federal income tax rate for corporations 35% 35% 35% Impact of: State and local taxes, net of U.S. federal tax effect 7 2 2 Tax advantaged income (2) (4) 4 Provisions for tax contingencies and non-deductible reserves -- 3 -- Reversal of tax contingency reserves (1) -- 12 Other, net -- -- (1) - ------------------------------------------------------------------------------ Effective Tax Rate 39% 36% 52% ============================================================================== 31 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 15: EARNINGS (LOSS) PER SHARE Primary earnings (loss) per share is computed by dividing net income (loss), less dividends on preferred stock, by the weighted average number of common and common equivalent shares outstanding, including shares held by the EPP. Common equivalent shares include the effect of outstanding stock options, if dilutive. Fully diluted earnings (loss) per share is computed under the assumption that all contingent increases in common stock have occurred to the extent that they have a dilutive effect on earnings per share. Contingent increases of common stock include the potential impact of the conversion of Series A Preferred and convertible debt, which are discussed in Notes 10 and 8, respectively.
Amounts in millions, except per share amounts Year Ended December 31, 1996 1995 1994 - -------------------------------------------------------------------------------------------------------------------------- Shares used in computing earnings (loss) per share: Average common shares outstanding 106.2 106.3 106.8 Effects of assumed exercise of stock options, if dilutive .2 .2 -- - -------------------------------------------------------------------------------------------------------------------------- Shares used in computing primary earnings (loss) per share 106.4 106.5 106.8 Effects (when dilutive) of: Assumed conversion of convertible notes .4 .4 -- Assumed conversion of Series A Preferred 14.1 17.8 -- - -------------------------------------------------------------------------------------------------------------------------- Shares used in computing fully diluted earnings (loss) per share 120.9 124.7 106.8 ========================================================================================================================== Net income (loss) for earnings (loss) per share: Income (loss) from continuing operations $982 $513 $(410) Less dividends on preferred stock* 68 69 62 - -------------------------------------------------------------------------------------------------------------------------- Income (loss) from continuing operations for primary earnings (loss) per share 914 444 (472) Add dividends on Series A Preferred, when dilutive* 36 49 -- - -------------------------------------------------------------------------------------------------------------------------- Income (loss) from continuing operations for fully diluted earnings (loss) per share 950 493 (472) Income (loss) from discontinued operations, net of taxes (75) (56) 11 Loss on disposal of Basis Petroleum, net of tax benefit of $215 (290) -- -- - -------------------------------------------------------------------------------------------------------------------------- Net income (loss) for fully diluted earnings (loss) per share $ 585 $ 437 $(461) ========================================================================================================================== Earnings (loss) per share of common stock: Primary earnings (loss) from continuing operations $8.59 $4.17 $(4.41) Discontinued operations (.71) (.53) .10 Loss on disposal of Basis Petroleum (2.72) -- -- - -------------------------------------------------------------------------------------------------------------------------- Primary earnings (loss) $5.16 $3.64 $(4.31) ========================================================================================================================== Fully diluted earnings (loss) from continuing operations $7.85 $3.95 $(4.41) Discontinued operations (.62) (.45) .10 Loss on disposal of Basis Petroleum (2.39) -- -- - -------------------------------------------------------------------------------------------------------------------------- Fully diluted earnings (loss) $4.84 $3.50 $(4.31) ==========================================================================================================================
* Dividends on preferred stock are adjusted for the aftertax impact of interest rate swaps that effectively convert the Company's fixed rate dividends to variable rate. 32 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 16: SECURITIES PLEDGED AND LEASE COMMITMENTS REPURCHASE AGREEMENTS, SECURITIES PLEDGED AND LETTERS OF CREDIT At December 31, 1996, the approximate market values of securities sold under agreements to repurchase, excluding the impact of FIN 41, or pledged by the Company were: Dollars in millions - ------------------------------------------------------------------------------ For securities sold under agreements to repurchase $ 89,466 As collateral for securities borrowed of approximately equivalent value 37,576 As collateral for bank loans 3,195 To clearing organizations or segregated under securities laws and regulations 1,998 For securities loaned 1,593 As collateral for letters of credit 127 Other 65 - ------------------------------------------------------------------------------ Repurchase agreements and securities pledged $134,020 ============================================================================== At December 31, 1996, the Company had $2.3 billion of outstanding letters of credit from banks to satisfy various collateral and margin requirements. LEASE COMMITMENTS The Company has noncancelable leases covering office space and equipment expiring on various dates through 2010. Presented below is a schedule of minimum future rentals on noncancelable operating leases, net of subleases, as of December 31, 1996. Various leases contain provisions for lease renewals and escalation of rent based on increases in certain costs incurred by the lessors. 7 World Trade All Other Dollars in millions Center Leases - ------------------------------------------------------------------------------- 1997 $ 42 $ 29 1998 42 26 1999 42 20 2000 42 11 2001 46 9 Thereafter 425 36 - ------------------------------------------------------------------------------- Minimum future rentals $639 $131 =============================================================================== Minimum future rentals include $22 million related to space the Company has vacated or intends to vacate. The Company has provided reserves based on these amounts. Rent expense under operating leases from continuing operations totaled $77 million, $86 million and $73 million for the years ended December 31, 1996, 1995 and 1994, respectively. 33 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 17: LEGAL PROCEEDINGS The Company is a defendant in lawsuits incidental to its securities and commodities businesses and, as a result of such activities is subject to ongoing legal risk. In connection with its discontinued commodities processing operations, the Company and certain of its subsidiaries are subject to claims asserted by the U.S. Environmental Protection Agency, certain state agencies and private parties in connection with environmental matters. Management of the Company, after consultation with outside legal counsel, believes that the ultimate resolution of legal proceedings and environmental matters (net of applicable reserves) will not have a material adverse effect on the Company's financial condition; however, such resolution could have a material adverse impact on operating results in future periods depending in part on the results for such periods. NOTE 18: FINANCIAL AND COMMODITIES-RELATED INSTRUMENTS AND RELATED RISKS The Company and its subsidiaries enter into a variety of contractual commitments, such as swaps, swap options, cap and floor agreements, futures contracts, forward currency contracts, forward purchase and sale agreements, option contracts and warrants. These transactions generally require future settlement, and are either executed on an exchange or traded as OTC instruments. Contractual commitments have widely varying terms, and durations that range from a few days to a number of years depending on the instrument. Interest rate swaps are OTC instruments where two counterparties agree to exchange periodic interest payment streams calculated on a predetermined notional principal amount. The most common interest rate swaps involve one party paying a fixed interest rate and the other party paying a variable rate. Other types of swaps include basis swaps, cross-currency swaps, equity swaps and commodity swaps. Basis swaps consist of both parties paying variable interest streams based on different reference rates. Cross-currency swaps involve the exchange of coupon payments in one currency for coupon payments in another currency. An equity swap is an agreement to exchange cash flows on a notional amount based on changes in the values of a referenced index, such as the Standard & Poor's 500 Index. Commodity swaps involve the exchange of a fixed price of a commodity for a floating price, which is usually the prevailing spot price, throughout the swap term. The most common commodity swaps are petroleum-based; other types are based on metals or soft commodities. Caps are contractual commitments which require the writer to pay the purchaser an excess amount, if the reference rate exceeds a contractual rate at specified times during the contract. Likewise, a floor is a contractual commitment that requires the writer to pay an excess amount, if any, of a contractual rate over a reference rate at specified times over the life of the contract. Swap options are OTC contracts that entitle the holder to either enter into an interest rate swap at a future date or to cancel an existing swap at a future date. 34 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Futures contracts are exchange-traded contractual commitments to either receive (purchase) or deliver (sell) a standard amount or value of a commodity or financial instrument at a specified future date and price (or, with respect to futures contracts on indices, the net cash amount). Maintaining a futures contract will typically require the Company to deposit with the futures exchange (or other financial intermediary), as security for its obligations, an amount of cash or other specified asset ("initial margin") that typically ranges from 1% to 10% of the face amount of the contract (but may be higher in some circumstances). Additional cash or assets ("variation margin") may be required to be deposited daily as the mark-to-market value of the futures contract fluctuates. Futures contracts may be settled by physical delivery of the underlying asset or cash settlement (for index futures) on the settlement date, or by entering into an offsetting futures contract with the futures exchange prior to the settlement date. Forward contracts are OTC contractual commitments to purchase or sell a specified amount of financial instruments, foreign currency, or commodities at a future date at a predetermined price. The notional amount for forward securities contracts represents the amount of cash that will be paid or received by the counterparties when the contract settles. Upon settlement, the security is recorded on the Statement of Financial Condition as either long or short inventory. Option contracts are contractual agreements which give the purchaser the right, but not the obligation, to purchase or sell a financial instrument, commodity, or currency at a predetermined price. In return for this right, the purchaser pays a premium to the seller (or writer) of the option. Option contracts also exist for various indices and are similar to options on a security or other instruments except that, rather than settling by physical delivery of the underlying instrument, they are settled in cash. Options on futures contracts give the purchaser the right, in return for the premium paid, to assume a position in a futures contract. The Company is obligated to post margin for options on futures. Option contracts may be either exchange-traded or OTC. Exchange-traded options issued by certain regulated intermediaries, such as the Options Clearing Corporation, are the obligations of the issuing intermediary. In contrast to such options, which generally have standardized terms and performance mechanics, all of the terms of an OTC option, including the method of settlement, term, exercise price, premium, guarantees and security, are determined by negotiation of the parties, and there is no intermediary between the parties to assume the risks of non-performance. The Company issues warrants that entitle holders to cash settlements on exercise based upon movements in market prices of specific financial instruments, foreign exchange rates, equity indices and certain commodities. Warrants have characteristics similar to those of options whereby the buyer has the right, but not the obligation, to purchase a certain instrument at a specific future date and price. The Company also sells various financial instruments and commodities which have not been purchased ("short sales"). The Company borrows these securities, or receives the securities or collateral in conjunction with short-term financing agreements, in order to sell them short and, at a later date, must deliver (i.e., replace) like or substantially the same financial instruments or commodities to the parties from which they were originally received. The Company is exposed to market risk for short sales. If the market value of an instrument sold short increases, the Company's obligation, reflected as a liability, would increase and revenues from principal transactions would be reduced. 35 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The way in which the Company accounts for and presents contractual commitments in its financial statements depends on both the type and purpose of the contractual commitment held or issued. As discussed in the Summary of Accounting Policies, the Company records all contractual commitments used for trading purposes, including those used to hedge trading positions, at market or fair value. Consequently, changes in the amounts recorded in the Company's Consolidated Statement of Financial Condition resulting from movements in market or fair value are included in "Principal transactions" in the period in which they occur. The accounting and reporting treatment of contractual commitments used for non-trading purposes varies, depending on the nature of exposure being hedged (see Summary of Accounting Policies). Contractual commitments and short sales may expose the Company to both market risk and credit risk in excess of amounts recorded on the Consolidated Statement of Financial Condition. These off-balance-sheet risks are discussed in more detail below. MARKET RISK Market risk is the potential loss the Company may incur as a result of changes in the market or fair value of a particular instrument or commodity. All financial and commodities-related instruments, including derivatives and short sales, are subject to market risk. The Company's exposure to market risk is determined by a number of factors, including the size, duration, composition and diversification of positions held, the absolute and relative levels of interest rates and foreign currency exchange rates, as well as market volatility and illiquidity. For instruments such as options and warrants, the time period during which the options or warrants may be exercised and the relationship between the current market price of the underlying instrument and the option's or warrant's contractual strike or exercise price also affect the level of market risk. In addition, the activities of Phibro subject the Company to the market risk of commodities. The most significant factor influencing the overall level of market risk to which the Company is exposed is its use of hedging techniques to mitigate such risk. The Company manages market risk by setting risk limits and monitoring the effectiveness of its hedging policies and strategies. SFAS 105, Disclosure of Information about Financial Instruments with Off-Balance-Sheet Risk and Financial Instruments with Concentrations of Credit Risk, and SFAS 119, Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments, require the disclosure of the notional amounts of derivative financial instruments, distinguishing between those used for trading purposes and those used for purposes other than trading. Notional amounts and additional detail of the market or fair values of financial options and contractual commitments recorded on the Consolidated Statement of Financial Condition at December 31, 1996 and 1995 are set forth in the Consolidated Summary of Options and Contractual Commitments that immediately follows the Consolidated Statement of Financial Condition. The determination of notional amounts does not consider any of the market risk factors discussed above. Notional amounts are indicative only of the volume of activity and are not a measure of market risk. Market risk is influenced by the nature of the items that comprise a particular category of financial instrument. Market risk is also influenced by the relationship among the various off-balance-sheet categories as well as the relationship between off-balance-sheet items and items recorded in the Company's Consolidated Statement of Financial Condition. For all of these reasons, the interpretation of notional amounts as a measure of market risk could be materially misleading. 36 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The annual average balances of the Company's options and contractual commitments, based on month-end balances are as follows: 1996 1995 ------------------- ------------------- Average Average Average Average Dollars in billions Assets Liabilities Assets Liabilities - -------------------------------------------------------------------------------- Swaps, swap options, caps and floors $3.5 $5.4 $4.0 $6.5 Index and equity contracts and options 1.3 1.1 1.2 .8 Foreign exchange contracts and options .7 .8 .9 1.0 Other .5 .6 .5 .6 - -------------------------------------------------------------------------------- Total financial options and contractual commitments $6.0 $7.9 $6.6 $8.9 - -------------------------------------------------------------------------------- Commodities-related instruments $ .4 $ .3 $ .5 $ .5 ================================================================================ CREDIT RISK Salomon Brothers regularly transacts business with, and owns securities issued by, a broad range of corporations, governments, international organizations, central banks and other financial institutions. Phibro regularly transacts business with independent and government-owned oil producers, a wide variety of end users, trading companies and financial institutions. Credit risk is measured by the loss the Company would record if its counterparties failed to perform pursuant to terms of their contractual obligations and the value of collateral held, if any, was not adequate to cover such losses. The Company has established controls to monitor the creditworthiness of counterparties, as well as the quality of pledged collateral, and uses master netting agreements whenever possible to mitigate the Company's exposure to counterparty credit risk. Master netting agreements enable the Company to net certain assets and liabilities by counterparty. The Company also nets across product lines and against cash collateral, provided such provisions are established in the master netting and cash collateral agreements. The Company may require counterparties to pledge additional collateral when deemed necessary. Salomon Brothers enters into collateralized financing agreements in which it extends short-term credit, primarily to major financial institutions. Salomon Brothers generally controls access to the collateral pledged by the counterparties, which consists largely of securities issued by the G-7 governments or their agencies that may be liquidated in the event of counterparty default. CONCENTRATIONS OF CREDIT RISK Concentrations of credit risk from financial instruments, including contractual commitments, exist when groups of issuers or counterparties have similar business characteristics or are engaged in like activities that would cause their ability to meet their contractual commitments to be adversely affected, in a similar manner, by changes in the economy or other market conditions. The Company monitors credit risk on both an individual and group counterparty basis. The Company's largest single concentration of credit risk is with securities issued by the U.S. government and its agencies which totaled $45.1 billion at both December 31, 1996 and 1995. With the addition of U.S. government and U.S. government agency securities pledged as collateral by counterparties in connection with collateral- 37 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ized financing activity, the Company's total holdings of U.S. government securities were $80.3 billion or 39% of the Company's total assets at December 31, 1996 and $79.8 billion or 41% of total assets at December 31, 1995. Similarly, concentrations with non-U.S. governments totaled $75.1 billion at December 31, 1996 and $67.5 billion at December 31, 1995. These consist predominantly of securities issued by the governments of major industrial nations. Remaining concentrations arise principally from contractual commitments with counterparties in financial or commodities-related transactions involving future settlement and fixed income securities owned. Excluding governments, no concentration with a single counterparty exceeded 1% of total assets at December 31, 1996 or 1995. North America and Europe represent the largest geographic concentrations. Among industries, other major derivatives dealers represent the largest group of counterparties. Salomon Inc has a three-year credit support agreement with Genesis Energy, L.P., pursuant to which it provides Genesis with working capital support of up to $550 million through June 30, 1997, $500 million for the remainder of 1997, $400 million in 1998 and $300 million until December 31, 1999. NOTE 19: FAIR VALUE INFORMATION SFAS 107, Disclosures about Fair Value of Financial Instruments, requires the disclosure of the fair value of all financial instruments. The following information is presented to help users gain an understanding of the relationship between the amounts reported in the Company's financial statements and the related market or fair values. Specific accounting policies are discussed in the Summary of Accounting Policies. At December 31, 1996, $193 billion or 99% of the Company's total assets and $180 billion or 95% of the Company's total liabilities were carried at either market or fair values or at amounts which approximate such values. At December 31, 1995, $185 billion or 98% of the Company's total assets and $174 billion or 95% of the Company's total liabilities were carried at market value or fair value or at amounts that approximate such values. Financial instruments recorded at market or fair value include cash and interest bearing equivalents, financial instruments used for trading purposes, including financial options and contractual commitments, and commodities and related instruments used for trading purposes, including options and contractual commitments. Financial instruments recorded at contractual amounts that approximate market or fair value include collateralized short-term financing agreements, receivables, short-term borrowings, payables, and variable rate term debt. The market value of such items are not materially sensitive to shifts in market interest rates because of the limited term to maturity of many of these instruments and/or their variable interest rates. The following table reflects financial instruments which are recorded at contractual or historical amounts that do not necessarily approximate market or fair value. Such instruments include U.S. dollar denominated CMOs and the assets securing U.S. dollar denominated CMOs, the Company's fixed rate term debt, as well as the fair value of derivative instruments which are used for non-trading, or end user, purposes. 38 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1996 1995 Assets Liabilities Assets Liabilities ------------------------------------- ------------------------------------- Dollars in billions Carrying Fair Carrying Fair Carrying Fair Carrying Fair December 31, Value Value Value Value Value Value Value Value - --------------------------------------------------------------------------------------------------------------------------- Financial instruments recorded at contractual amounts or historical amounts that do not necessarily approximate market or fair value: Assets securing U.S. dollar denominated CMOs (fixed rate) $ .4 $ .5 $ .6 $ .8 U.S. dollar denominated CMOs (fixed rate) $ .4 $ .4 $ .6 $ .7 Fixed rate term debt 9.4 9.6 8.7 9.1 Derivatives used for non-trading purposes $ -- $ .5 $ -- $ .2 $ -- $ .7 $ -- $ .2 ===========================================================================================================================
The fair value of fixed rate term debt has been estimated by using a discounted cash flow analysis. The Company's U.S. dollar denominated fixed rate CMOs and assets securing U.S. dollar denominated fixed rate CMOs are carried at their contractual amounts. At December 31, 1996 and 1995, prevailing interest rates and prepayments resulted in the fair value of the liabilities associated with such CMOs exceeding their carrying amount. The fair value of assets securing the dollar denominated CMOs also exceeded their carrying value at December 31, 1996 and 1995. CMOs and the assets which secure them should not be viewed independently. Taken together, the fair value of the Company's dollar denominated CMOs and the assets securing them is the present value of the difference between future cash inflows from the CMO collateral and cash outflows to service the CMOs. This difference was nominal at December 31, 1996 and 1995. 39 EX-99.02 5 EXHIBIT 99.02
SALOMON INC AND SUBSIDIARIES CONSOLIDATED STATEMENT OF INCOME (unaudited) Dollars in millions, except per share amounts Six months - ------------------------------------------------------------------------------------------------ Period ended June 30, 1997 1996 - ------------------------------------------------------------------------------------------------ Revenues from continuing operations: Interest and dividends $ 3,045 $ 3,008 Principal transactions 927 1,235 Investment banking 441 432 Commissions 199 165 Other 27 22 - ------------------------------------------------------------------------------------------------ Total revenues 4,639 4,862 Interest expense 2,527 2,401 - ------------------------------------------------------------------------------------------------ Revenues, net of interest expense 2,112 2,461 - ------------------------------------------------------------------------------------------------ Noninterest expenses: Compensation and employee-related 1,111 1,096 Technology 115 96 Professional services and business development 90 92 Occupancy 82 85 Clearing and exchange fees 40 34 Other 45 45 - ------------------------------------------------------------------------------------------------ Total noninterest expenses 1,483 1,448 - ------------------------------------------------------------------------------------------------ Income from continuing operations before income taxes 629 1,013 Income tax expense 236 405 - ------------------------------------------------------------------------------------------------ Income from continuing operations 393 608 Loss from discontinued operations, net of taxes - (41) - ------------------------------------------------------------------------------------------------ Net income $ 393 $ 567 ================================================================================================ Earnings available for fully diluted earnings per common share from continuing operations $ 378 $ 593 ================================================================================================ Per common share: Primary earnings from continuing operations $ 3.34 $ 5.41 Primary earnings 3.34 5.02 Fully diluted earnings from continuing operations* 3.14 4.89 Fully diluted earnings* 3.14 4.55 Cash dividends 0.32 0.32 ================================================================================================ Weighted average shares of common stock outstanding (in thousands): For primary earnings per common share 108,800 106,000 For fully diluted earnings per common share 120,300 121,200 ================================================================================================ The accompanying Notes to Unaudited Condensed Consolidated Financial Statements and the Unaudited Consolidated Summary of Options and Contractual Commitments are integral parts of this statement. * Assumes conversion of redeemable preferred stock unless such assumption results in higher earnings per share than determined under the primary method.
1
SALOMON INC AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF FINANCIAL CONDITION (unaudited) Dollars in millions - ----------------------------------------------------------------------------------------------- ASSETS June 30, 1997 - ----------------------------------------------------------------------------------------------- Cash and interest bearing equivalents $ 2,081 Financial instruments and contractual commitments: Government and government agency securities - U.S. $ 53,364 Government and government agency securities - non-U.S. 43,407 Corporate debt securities 14,235 Equity securities 7,851 Options and contractual commitments 7,145 Mortgage loans and collateralized mortgage securities 3,234 Other 3,612 ------------ 132,848 Commodities and related products and instruments: Physical commodities inventory 1,366 Options and contractual commitments 167 ------------ 1,533 Collateralized short-term financing agreements: Securities purchased under agreements to resell 62,547 Securities borrowed and other 28,773 ------------ 91,320 Receivables 6,638 Assets securing collateralized mortgage obligations 337 Property, plant and equipment, net 505 Net realizable value of discontinued operations (Note 3) - Other assets, including intangibles 691 - ----------------------------------------------------------------------------------------------- Total assets $ 235,953 =============================================================================================== The accompanying Notes to Unaudited Condensed Consolidated Financial Statements and the Unaudited Consolidated Summary of Options and Contractual Commitments are integral parts of this statement.
2
SALOMON INC AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF FINANCIAL CONDITION (unaudited) Dollars in millions - ----------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY June 30, 1997 - ----------------------------------------------------------------------------------------------------- Collateralized short-term financing agreements: Securities sold under agreements to repurchase $ 105,999 Securities loaned 2,815 ------------ $ 108,814 Short-term borrowings 8,036 Financial and commodities-related instruments sold, not yet purchased, and contractual commitments: Government and government agency securities - U.S. 31,857 Government and government agency securities - non-U.S. 36,126 Financial options and contractual commitments 10,037 Equity securities 7,027 Corporate debt securities and other 1,834 Commodities, including options and contractual commitments 177 ------------ 87,058 Payables and accrued liabilities 9,785 Collateralized mortgage obligations 327 Term debt 16,080 ----------- Total liabilities 230,100 Commitments and contingencies (Note 4) Redeemable preferred stock, Series A 420 Guaranteed preferred beneficial interests in Company subordinated debt securities (Note 5) 345 Stockholders' equity: Preferred stock, Series D and E 450 Common stock 159 Additional paid-in capital 438 Retained earnings 5,811 Cumulative translation adjustments (1) Common stock held in treasury, at cost (1,769) ------------ Total stockholders' equity 5,088 - ----------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $ 235,953 ===================================================================================================== The accompanying Notes to Unaudited Condensed Consolidated Financial Statements and the Unaudited Consolidated Summary of Options and Contractual Commitments are integral parts of this statement.
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SALOMON INC AND SUBSIDIARIES CONSOLIDATED SUMMARY OF OPTIONS AND CONTRACTUAL COMMITMENTS (unaudited) June 30, 1997 December 31, 1996 ------------------------------------ ------------------------------------ Current Market or Current Market or Notional Fair Value Notional Fair Value ------------------------ ------------------------ Dollars in billions Amounts Assets Liabilities Amounts Assets Liabilities - ----------------------------------------------------------------------------------------------------------------------------------- Exchange-issued products: Futures contracts (a) $ 567.5 $ - $ - $ 525.3 $ - $ - Other exchange-issued products: Equity contracts 15.1 .2 .5 12.9 .1 .2 Fixed income contracts 89.4 - - 59.0 - - Foreign exchange contracts .1 - - - - - Commodities-related contracts 4.0 - - 4.9 - - - ----------------------------------------------------------------------------------------------------------------------------------- Total exchange-issued products 676.1 .2 .5 602.1 .1 .2 - ----------------------------------------------------------------------------------------------------------------------------------- Over-the-counter ("OTC") swaps, swap options, caps and floors: Swaps (b) 1,057.2 852.4 Swap options written 15.5 9.7 Swap options purchased 30.8 23.3 Caps and floors 137.6 114.4 - ----------------------------------------------------------------------------------------------------------------------------------- Total OTC swaps, swap options, caps and floors 1,241.1 3.7 6.2 999.8 4.2 6.5 - ----------------------------------------------------------------------------------------------------------------------------------- OTC foreign exchange contracts and options: Forward currency contracts (b) 82.3 .6 .4 68.3 .5 .5 Options written 26.8 - .3 31.6 - .2 Options purchased 29.9 .5 - 32.9 .4 - - ----------------------------------------------------------------------------------------------------------------------------------- Total OTC foreign exchange contracts and options 139.0 1.1 .7 132.8 .9 .7 - ----------------------------------------------------------------------------------------------------------------------------------- Other options and contractual commitments: Options, warrants and forwards on equities and equity indices (c) 57.0 1.8 2.5 45.6 1.1 1.8 Options and forward contracts on fixed-income securities (c) 244.6 .3 .1 179.0 .3 .2 Commodities-related contracts (d) 16.5 .2 .2 22.0 .3 .3 - ----------------------------------------------------------------------------------------------------------------------------------- Total $2,374.3 $ 7.3 $ 10.2 $1,981.3 $ 6.9 $ 9.7 - ----------------------------------------------------------------------------------------------------------------------------------- (a) Margin on futures contracts is included in receivables or payables on the Condensed Consolidated Statement of Financial Condition. (b) Includes notional values of swap agreements or forward currency contracts for non-trading activities (primarily related to the Company's fixed-rate long-term debt, TRUPS and preferred stock) of $18.9 billion and $1.7 billion at June 30, 1997 and $15.5 billion and $1.3 billion at December 31, 1996, respectively. (c) The fair value of such instruments recorded as assets includes approximately $1.0 billion at June 30, 1997 and $.6 billion at December 31, 1996, respectively, of over-the-counter instruments, primarily with investment grade counterparties. The remainder consists primarily of highly liquid instruments actively traded on organized exchanges. (d) A substantial majority of these over-the-counter contracts are with investment grade counterparties.
4
CONSOLIDATED CREDIT EXPOSURE, NET OF SECURITIES AND CASH COLLATERAL ON OTC SWAPS, SWAP OPTIONS, CAPS AND FLOORS AND OTC FOREIGN EXCHANGE CONTRACTS AND OPTIONS, BY RISK CLASS* Note: Amounts represent current exposure and do not include potential credit exposure that may result from factors that influence market risk. Transactions with over Dollars in billions All Transactions 3 years to maturity - ---------------------------------------------------------------------------------------------------------------------------------- Other Major Derivatives Financial Governments/ Year-to-date June 30, 1997 Dealers Corporates Institutions Supranationals Other Total Average Total - --------------------------------------------------------------------------------------------------------------------- ------------ Swaps, swap options, caps and floors: Risk classes 1 and 2 $ .4 $ - $ .5 $ - $ - $ .9 $ 1.0 $ .8 Risk class 3 .7 .2 .1 - .1 1.1 1.1 .6 Risk classes 4 and 5 .3 .1 .2 - .1 .7 .7 .4 Risk classes 6, 7 and 8 - - - - - - - - ------------ ---------- ----------- ------------- ----------- ---------- --------------- ------------ $ 1.4 $ .3 $ .8 $ - $ .2 $ 2.7 $ 2.8 $ 1.8 ------------ ---------- ----------- ------------- ----------- ---------- --------------- ------------ Foreign exchange contracts and options: Risk classes 1 and 2 $ .5 $ - $ - $ .1 $ - $ .6 $ .8 $ - Risk class 3 .3 - .1 - - .4 .3 - Risk classes 4 and 5 .1 - - - - .1 .1 - ------------ ---------- ----------- ------------- ----------- ---------- --------------- ------------ $ .9 $ - $ .1 $ .1 $ - $ 1.1 $ 1.2 $ - ------------ ---------- ----------- ------------- ----------- ---------- --------------- ------------ * To monitor credit risk, the Company utilizes a series of eight internal designations of counterparty credit quality. These designations are analogous to external credit ratings whereby risk classes one through three are high quality investment grades. Risk classes four and five include counterparties ranging from the lowest investment grade to the highest non-investment grade level. Risk classes six, seven and eight represent higher risk counterparties.
5
SALOMON INC AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS (unaudited) Dollars in millions - ---------------------------------------------------------------------------------------------------------------------- Six months ended June 30, 1997 1996 - ---------------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net income adjusted for noncash and non-operating activities - Net income $ 393 $ 567 Depreciation, amortization and other 42 57 - ---------------------------------------------------------------------------------------------------------------------- Cash items included in net income 435 624 - ---------------------------------------------------------------------------------------------------------------------- Net (increase) decrease in operating assets - Financial instruments and contractual commitments (20,362) 11,422 Commodities and related products and instruments (223) 292 Collateralized short-term financing agreements (18,622) (6,234) Receivables (1,535) (157) Other (71) (72) - ---------------------------------------------------------------------------------------------------------------------- Net (increase) decrease in operating assets (40,813) 5,251 - ---------------------------------------------------------------------------------------------------------------------- Increase (decrease) in operating liabilities - Collateralized short-term financing agreements 29,687 (16,448) Short-term borrowings 1,219 (3,014) Financial and commodities-related instruments sold, not yet purchased, and contractual commitments 3,551 14,175 Payables and accrued liabilities 3,733 (1,011) - ---------------------------------------------------------------------------------------------------------------------- Net increase (decrease) in operating liabilities 38,190 (6,298) - ---------------------------------------------------------------------------------------------------------------------- Net cash used in operating activities (2,188) (423) - ---------------------------------------------------------------------------------------------------------------------- Cash flows from financing activities: Issuance of term debt 4,055 2,621 Issuance of preferred stock, Series E - 250 Employee stock purchase and option plans 5 - Term debt maturities and repurchases (1,192) (1,969) Collateralized mortgage obligations (63) (284) Purchase of common stock for treasury (103) (49) Dividends on common stock (34) (34) Dividends on preferred stock* (30) (35) - ---------------------------------------------------------------------------------------------------------------------- Net cash provided by financing activities 2,638 500 - ---------------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Assets securing collateralized mortgage obligations 63 351 Proceeds from sale of Basis Petroleum 365 - Property, plant and equipment (27) (69) - ---------------------------------------------------------------------------------------------------------------------- Net cash provided by investing activities 401 282 - ---------------------------------------------------------------------------------------------------------------------- Net increase in cash and interest bearing equivalents 851 359 Cash and interest bearing equivalents at January 1, 1,230 1,454 - ---------------------------------------------------------------------------------------------------------------------- Cash and interest bearing equivalents at June 30, $ 2,081 $ 1,813 ====================================================================================================================== The accompanying Notes to Unaudited Condensed Consolidated Financial Statements and the Unaudited Consolidated Summary of Options and Contractual Commitments are integral parts of this statement. * For the six months ended June 30, 1997 and 1996, dividends on preferred stock were reduced by the aftertax impact ( $8 million and $12 million) of interest rate swaps that effectively convert the Company's fixed-rate obligations to variable-rate obligations.
6 Salomon Inc and Subsidiaries Notes to Unaudited Condensed Consolidated Financial Statements June 30, 1997 1. Basis of Presentation The Unaudited Condensed Consolidated Financial Statements are prepared in accordance with generally accepted accounting principles in the U.S. and prevailing industry practice, both of which require the use of management's best judgment and estimates. Estimates, including the fair value of financial instruments, may vary from actual results. In the opinion of management, the statements of income, financial condition and cash flows include all normal recurring adjustments necessary for a fair presentation for the periods presented. Certain reclassifications have been made from amounts previously reported to conform to the current year presentation. The Unaudited Condensed Consolidated Financial Statements include the accounts of Salomon Inc and all majority-owned subsidiaries (collectively, the "Company"), with the exception of Basis Petroleum, Inc. ("Basis"), which is presented as discontinued operations as discussed in Note 3. The Unaudited Condensed Consolidated Financial Statements should be read in conjunction with the Audited Consolidated Financial Statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 1996. 2. Accounting Policies Derivatives Used for Trading Purposes Derivative instruments ("derivatives" or "contractual commitments") used for trading purposes are carried on the balance sheet at either market value or, when market prices are not readily available, fair value, with changes in value recognized currently in earnings. Contractual commitments used for trading purposes include interest rate swap agreements, swap options, caps and floors, options, warrants, futures and forward contracts as well as commodity swaps, options, futures and forward contracts. Contractual commitments in a net receivable position, as well as options owned and warrants held, are reported as assets in "Options and contractual commitments." Similarly, contractual commitments in a net payable position, as well as options written and warrants issued, are reported as liabilities in "Financial options and contractual commitments" or "Commodities, including options and contractual commitments." This category also includes the Company's long-term obligations that have principal repayments directly linked to equity securities of unaffiliated issuers for which the Company holds in inventory a note exchangeable for the same equity securities. Margin on futures contracts is included in "Receivables" and "Payables and accrued liabilities." The market values (unrealized gains and losses) associated with contractual commitments are reported net by counterparty, provided a legally enforceable master netting agreement exists, and are netted across products and against cash collateral when such provisions are stated in the master netting agreement. Revenues generated from derivative instruments used for trading purposes are reported as "Principal transactions" and include realized gains and losses as well as unrealized gains and losses resulting from changes in the market or fair value of such instruments. Derivatives Used for Non-Trading Purposes Non-trading derivative instruments which are designated as hedges must be effective at reducing the risk associated with the exposure being hedged and must be designated as a hedge at the inception of the derivative contract. Accordingly, changes in the market or fair value of the derivative instrument must be highly correlated with changes in the market or fair value of the underlying hedged item. The Company monitors the effectiveness of its hedges by periodically comparing the change in value of the derivative instrument with the change in value of the underlying hedged item. Contractual commitments used as hedges include interest rate swaps, cross currency swaps and forward currency contracts. 7 Interest rate swaps, including cross currency swaps, are utilized to effectively convert the Company's fixed rate preferred stock and guaranteed preferred beneficial interests in Company subordinated debt securities ("TRUPS"), a portion of its short-term borrowings and the majority of its fixed rate term debt to variable rate instruments. These swaps are recorded "off-balance sheet," with accrued inflows and outflows reflected as adjustments to interest expense and/or dividends, as appropriate. Adjustments to preferred stock dividends are recorded on an after tax basis. Upon early termination of an underlying hedged instrument, the derivative is accounted for at market or fair value. The impact of recording the market or fair value of the derivative instrument "on-balance sheet" is recognized immediately in earnings. Changes in market or fair value of such instruments, or realized gains or losses resulting from the termination of such instruments, are recognized currently in earnings. The Company utilizes forward currency contracts to hedge a portion of the currency exchange rate exposure relating to non-U.S. dollar term debt issued by Salomon Inc (Parent Company). The impact of translating the forward currency contracts and the related debt to prevailing exchange rates is recognized currently in earnings. The Company also utilizes forward currency contracts to hedge certain investments in subsidiaries with functional currencies other than the U.S. dollar. The impact of marking open contracts to prevailing exchange rates and the impact of realized gains or losses on maturing contracts, both net of the related tax effects, are included in "Cumulative translation adjustments" in Stockholders' equity as is the impact of translating the investments being hedged. Upon the disposition of an investment in a subsidiary with a functional currency other than the U.S. dollar, accumulated gains or losses previously included in "Cumulative translation adjustments" are recognized immediately in earnings. Derivative instruments that do not meet the criteria to be designated as a hedge are considered trading derivatives and are recorded at market or fair value. 3. Discontinued Operations On May 1, 1997, the Company completed the sale of all of the outstanding stock of Basis Petroleum, Inc. to Valero Energy Corporation ("Valero"). Upon closing, the Company received cash proceeds of $365 million and Valero common stock with a market value of $120 million. In July 1997, the Company paid Valero $3 million in connection with the final determination of working capital. In addition, the Company is entitled to participation payments based on a fixed notional throughput and the difference, if any, between an average market crackspread, as defined, and a base crackspread, as defined, over each of the next ten years, but subject to the limitation that the total of the participation payments is capped at $200 million, with a maximum of $35 million per year. Basis is classified as a discontinued operation in the Company's Condensed Consolidated Financial Statements. 4. Commitments and Contingencies Outstanding legal matters are discussed in Note 17 to the Audited Consolidated Financial Statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 1996. Management of the Company, after consultation with outside legal counsel, believes that the ultimate resolution of legal proceedings and environmental matters (taking into consideration applicable reserves) will not have a material adverse effect on the Company's financial condition; however, there could be a material adverse impact on operating results in future periods depending in part on the results for such periods. Additional information on legal proceedings is included in "Item 1. Legal Proceedings." 8 The Company's ongoing process of upgrading its financial and operating systems is focused on: supporting the multi-entity, multi-currency, multi-time zone aspects of its businesses; improving control over complex, cross-entity transactions; facilitating standardized technology platforms, operating procedures, and fungibility of resources around the world; eliminating redundant regional applications; reducing future technology and operations costs; and efficiently meeting market and regulatory changes. Additionally, in order to adapt systems for Year 2000 processing and the European Monetary Union, the Company anticipates incurring $100 million to $150 million in additional expenses through the Year 2000. 5. Guaranteed preferred beneficial interests in Company subordinated debt securities The Company has $345 million, or 13,800,000 TRUPS units, outstanding. Each TRUPS unit includes a 9 1/4% mandatorily redeemable preferred security of the SI Financing Trust I (the "Trust") and a purchase contract which requires the holder to purchase, in 2021 (or earlier if the Company elects to accelerate the contract), one depositary share representing a one-twentieth interest in a share of Salomon Inc's 9 1/2% Cumulative Preferred Stock, Series F. The Trust, which is a wholly-owned subsidiary of the Company, was established for the sole purpose of issuing the 9 1/4% preferred securities and common securities and investing the proceeds in $356 million aggregate principal amount of 9 1/4% subordinated debt securities issued by Salomon Inc due June 30, 2026. 6. Net Capital Certain U.S. and non-U.S. subsidiaries are subject to securities and commodities regulations and capital adequacy requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. The Company's principal regulated subsidiaries are discussed below. Salomon Brothers Inc ("SBI") is registered as a broker-dealer with the U.S. Securities and Exchange Commission ("SEC") and is subject to the SEC's Uniform Net Capital Rule, Rule 15c3-1, which requires net capital, as defined under the alternative method, of not less than the greater of 2% of aggregate debit items arising from customer transactions, as defined, or 4% of funds required to be segregated for customers' regulated commodity accounts, as defined. Although net capital, aggregate debit items and funds required to be segregated change from day to day, at June 30, 1997, SBI's net capital was $1.0 billion, $938 million in excess of regulatory requirements. Salomon Brothers International Limited ("SBIL") is authorized to conduct investment business in the United Kingdom by the Securities and Futures Authority ("SFA") in accordance with the Financial Services Act 1986. The SFA requires SBIL to have available at all times financial resources, as defined, sufficient to demonstrate continuing compliance with its rules. At June 30, 1997, SBIL's financial resources were $483 million in excess of regulatory requirements. Salomon Brothers Asia Limited ("SBAL") and Salomon Brothers AG ("SBAG") are also subject to requirements to maintain specified levels of net capital or its equivalent. At June 30, 1997, SBAL's net capital was $305 million above the minimum required by Japan's Ministry of Finance. SBAG's net capital was $1 million above the minimum required by Germany's Banking Supervisory Authority. In addition, in order to maintain its triple-A rating, Salomon Swapco Inc ("Swapco") must maintain minimum levels of capital in accordance with agreements with its rating agencies. At June 30, 1997, 9 Swapco was in compliance with all such agreements. Swapco's capital requirements are dynamic, varying with the size and concentration of its counterparty receivables. 7. Summary of Revenues from Continuing Operations The following tables present revenues, net of interest expense for the six months ended June 30, 1997 and 1996.
Six Months Ended June 30, 1997 Principal Transactions & Net Interest and Investment (Dollars in millions) Dividends Banking Commissions Other Total - ---------------------------------------------------------------------------------------------------------------------------------- Fixed income sales and trading $ 1,046 $ - $ 5 $ - $ 1,051 Equity sales and trading 278 - 194 - 472 Global investment banking - 441 - - 441 Commodities trading 116 - - - 116 Asset management 8 - - 29 37 Other (3) - - (2) (5) - ---------------------------------------------------------------------------------------------------------------------------------- Total revenues, net of interest expense $ 1,445 $ 441 $ 199 $ 27 $ 2,112 ==================================================================================================================================
Six Months Ended June 30, 1996 Principal Transactions & Net Interest and Investment (Dollars in millions) Dividends Banking Commissions Other Total - ---------------------------------------------------------------------------------------------------------------------------------- Fixed income sales and trading $ 1,430 $ - $ 8 $ - $ 1,438 Equity sales and trading 175 - 157 - 332 Global investment banking - 432 - - 432 Commodities trading 217 - - - 217 Asset management 1 - - 22 23 Other 19 - - - 19 - ---------------------------------------------------------------------------------------------------------------------------------- Total revenues, net of interest expense $ 1,842 $ 432 $ 165 $ 22 $ 2,461 ==================================================================================================================================
8. Impact of New Accounting Standards In June 1997, the Financial Accounting Standards Board issued SFAS No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." The Company is currently assessing these statements, which are effective for fiscal years beginning after December 15, 1997 and establish standards for the reporting and display of comprehensive income and disclosure related to segments. 10 EX-99.03 6 EXHIBIT 99.03 Unaudited Pro Forma Condensed Combined Financial Statements The Merger Agreement provides that each share of Salomon Inc ("Salomon") common stock will be exchanged for 1.13 shares of Travelers Group Inc. (the "Company") common stock. The merger, which is expected to be completed in the fourth quarter of 1997, is expected to be accounted for under the pooling of interests method and, accordingly, the Company's historical consolidated financial statements presented in future reports will be restated to include the accounts and results of Salomon. The merger is subject to customary closing conditions, including regulatory and Salomon stockholder approval. The following unaudited pro forma condensed combined statement of financial condition combines the historical consolidated statement of financial condition of the Company and the historical consolidated statement of financial condition of Salomon giving effect to the merger as though it had been consummated on June 30, 1997. The following unaudited pro forma condensed combined statements of income combine the historical statements of income of the Company and Salomon giving effect to the merger. This information should be read in conjunction with the accompanying notes hereto; the separate historical financial statements of the Company as of June 30, 1997 and for the six months ended June 30, 1997 and 1996, and for each of the three years ended December 31, 1996 which are contained in the Company's Quarterly Report on Form 10-Q for the quarterly period ended June 30, 1997 and its Annual Report on Form 10-K for the fiscal year ended December 31, 1996, respectively; and the separate historical financial statements of Salomon as of June 30, 1997 and for the six months ended June 30, 1997 and 1996, and for each of the three years ended December 31, 1996 which are contained in Salomon's Quarterly Report on Form 10-Q for the quarterly period ended June 30, 1997 and its Annual Report on Form 10-K for the fiscal year ended December 31, 1996, respectively. The pro forma financial data is not necessarily indicative of the results of operations that would have occurred had the merger been consummated or of future operations of the combined companies. Travelers Group Inc. and Subsidiaries Unaudited Pro Forma Condensed Combined Statement of Financial Position As of June 30, 1997 (in millions of dollars)
Travelers Group Salomon Pro Forma Pro Forma Assets Historical Historical Adjustments Combined ------ ------------ ------------ --------------- -------------- Cash and cash equivalents $1,739 $2,081 $ - $3,820 Investments and real estate held for sale: Fixed maturities, primarily available for sale at market value 45,981 45,981 Equity securities, at market value 1,377 1,377 Mortgage loans 3,748 3,748 Real estate held for sale 502 502 Policy loans 1,873 1,873 Short-term and other 5,135 5,135 - -------------------------------------------------------------------------------------------------------------------------- Total investments and real estate held for sale 58,616 - - 58,616 - -------------------------------------------------------------------------------------------------------------------------- Securities borrowed or purchased under agreements to resell 27,950 91,320 119,270 Brokerage receivables 8,507 6,014 14,521 Trading securities owned, at market value 14,014 132,848 146,862 Commodities and related products and instruments 1,533 1,533 Net consumer finance receivables 8,834 8,834 Reinsurance recoverables 9,876 9,876 Value of insurance in force and deferred policy acquisition costs 2,698 2,698 Cost of acquired businesses in excess of net assets 2,991 2,991 Separate and variable accounts 9,830 9,830 Other receivables 5,108 624 5,732 Other assets 9,443 1,533 10,976 - -------------------------------------------------------------------------------------------------------------------------- Total assets $159,606 $235,953 $ - $395,559 ========================================================================================================================== Liabilities ----------- Investment banking and brokerage borrowings $4,268 $8,036 $ - $12,304 Short-term borrowings 2,812 2,812 Long-term debt 11,122 16,080 27,202 Securities loaned or sold under agreements to repurchase 26,889 108,814 135,703 Brokerage payables 5,042 7,269 12,311 Trading securities sold not yet purchased, at market value 9,640 87,058 96,698 Contractholder funds 14,601 14,601 Insurance policy and claims reserves 43,940 43,940 Separate and variable accounts 9,818 9,818 Accounts payable and other liabilities 15,196 2,843 18,039 - -------------------------------------------------------------------------------------------------------------------------- Total liabilities 143,328 230,100 - 373,428 - -------------------------------------------------------------------------------------------------------------------------- ESOP Preferred stock - Series C 140 140 Redeemable preferred stock 420 420 Mandatorily redeemable preferred securities of subsidiary trusts 1,900 345 2,245 Stockholders' equity -------------------- Preferred stock 1,075 450 1,525 Common stock 7 159 (158) 8 Additional paid-in capital 7,561 438 (1,089) 6,910 Retained earnings 8,524 5,811 (2,807) 11,528 Treasury stock, at cost (2,958) (1,769) 4,054 (673) Unrealized gain (loss) on investment securities 436 436 Other (407) (1) (408) - -------------------------------------------------------------------------------------------------------------------------- Total stockholders' equity 14,238 5,088 - 19,326 - -------------------------------------------------------------------------------------------------------------------------- Total liabilities and stockholders' equity $159,606 $235,953 $ - $395,559 ==========================================================================================================================
See accompanying Notes to Unaudited Pro Forma Condensed Combined Financial Statements Travelers Group Inc. Unaudited Pro Forma Condensed Combined Statement of Income For the Six Months Ended June 30, 1997 (in millions of dollars, except per share amounts)
Travelers Group Salomon Pro Forma Historical Historical Combined ------------ ------------ ------------ Revenues: Insurance premiums $4,444 $ - $4,444 Commissions and fees 1,718 640 2,358 Interest and dividends 3,206 3,045 6,251 Finance related interest and other charges 627 627 Principal transactions 514 927 1,441 Asset management and administration fees 762 29 791 Other income 630 630 - ------------------------------------------------------------------------------------------- Total revenues 11,901 4,641 16,542 - ------------------------------------------------------------------------------------------- Expenses: Policyholder benefits and claims 3,811 3,811 Non-insurance compensation and benefits 1,950 1,111 3,061 Insurance underwriting, acquisition and operating 1,604 1,604 Interest 1,349 2,527 3,876 Provision for consumer finance credit losses 145 145 Other operating 876 374 1,250 - ------------------------------------------------------------------------------------------- Total expenses 9,735 4,012 13,747 - ------------------------------------------------------------------------------------------- Income before income taxes and minority interest 2,166 629 2,795 Provision for income taxes 763 236 999 Minority interest, net of income taxes 98 98 - ------------------------------------------------------------------------------------------- Income from continuing operations $1,305 $393 $1,698 =========================================================================================== Income per share of common stock and common stock equivalents: Continuing operations $1.96 $3.34 $2.12 =========================================================================================== Weighted average common shares outstanding and common stock equivalents (millions) 645.7 108.8 768.6 ===========================================================================================
See accompanying Notes to Unaudited Pro Forma Condensed Combined Financial Statements Travelers Group Inc. Unaudited Pro Forma Condensed Combined Statement of Income For the Six Months Ended June 30, 1996 (in millions of dollars, except per share amounts)
Travelers Group Salomon Pro Forma Historical Historical Combined ------------ ------------ --------------- Revenues: Insurance premiums $3,316 $ - $3,316 Commissions and fees 1,766 597 2,363 Interest and dividends 2,543 3,008 5,551 Finance related interest and other charges 571 571 Principal transactions 543 1,235 1,778 Asset management and administration fees 648 22 670 Other income 554 554 - ---------------------------------------------------------------------------------------------- Total revenues 9,941 4,862 14,803 - ---------------------------------------------------------------------------------------------- Expenses: Policyholder benefits and claims 3,590 3,590 Non-insurance compensation and benefits 1,930 1,096 3,026 Insurance underwriting, acquisition and operating 1,367 1,367 Interest 1,060 2,401 3,461 Provision for consumer finance credit losses 128 128 Other operating 850 352 1,202 - ---------------------------------------------------------------------------------------------- Total expenses 8,925 3,849 12,774 - ---------------------------------------------------------------------------------------------- Gain on sale of subsidiaries and affiliates 397 397 - ---------------------------------------------------------------------------------------------- Income before income taxes and minority interest 1,413 1,013 2,426 Provision for income taxes 361 405 766 Minority interest, net of income taxes (44) (44) - ---------------------------------------------------------------------------------------------- Income from continuing operations $1,096 $608 $1,704 ============================================================================================== Income per share of common stock and common stock equivalents: Continuing operations $1.65 $5.41 $2.15 ============================================================================================== Weighted average common shares outstanding and common stock equivalents (millions) 636.1 106.0 755.9 ==============================================================================================
See accompanying Notes to Unaudited Pro Forma Condensed Combined Financial Statements Travelers Group Inc. Unaudited Pro Forma Condensed Combined Statement of Income For the Year Ended December 31, 1996 (in millions of dollars, except per share amounts)
Travelers Group Salomon Pro Forma Historical Historical Combined ------------ ------------ -------------- Revenues: Insurance premiums $7,633 $ - $7,633 Commissions and fees 3,422 1,179 4,601 Interest and dividends 5,549 5,748 11,297 Finance related interest and other charges 1,163 1,163 Principal transactions 990 1,990 2,980 Asset management and administration fees 1,349 48 1,397 Other income 1,239 81 1,320 - --------------------------------------------------------------------------------------------- Total revenues 21,345 9,046 30,391 - --------------------------------------------------------------------------------------------- Expenses: Policyholder benefits and claims 7,366 7,366 Non-insurance compensation and benefits 3,768 2,039 5,807 Insurance underwriting, acquisition and operating 3,013 3,013 Interest 2,259 4,679 6,938 Provision for consumer finance credit losses 260 260 Other operating 1,678 718 2,396 - --------------------------------------------------------------------------------------------- Total expenses 18,344 7,436 25,780 - --------------------------------------------------------------------------------------------- Gain on sale of subsidiaries and affiliates 397 397 - --------------------------------------------------------------------------------------------- Income before income taxes and minority interest 3,398 1,610 5,008 Provision for income taxes 1,051 628 1,679 Minority interest, net of income taxes 47 47 - --------------------------------------------------------------------------------------------- Income from continuing operations $2,300 $982 $3,282 ============================================================================================= Income per share of common stock and common stock equivalents: Continuing operations $3.45 $8.59 $4.11 ============================================================================================= Weighted average common shares outstanding and common stock equivalents (millions) 638.8 106.4 759.0 =============================================================================================
See accompanying Notes to Unaudited Pro Forma Condensed Combined Financial Statements Travelers Group Inc. Unaudited Pro Forma Condensed Combined Statement of Income For the Year Ended December 31, 1995 (in millions of dollars, except per share amounts)
Travelers Group Salomon Pro Forma Historical Historical Combined ------------ ------------ ---------------- Revenues: Insurance premiums $4,977 $ - $4,977 Commissions and fees 2,874 804 3,678 Interest and dividends 4,355 7,021 11,376 Finance related interest and other charges 1,119 1,119 Principal transactions 1,016 1,077 2,093 Asset management and administration fees 1,052 39 1,091 Other income 1,190 12 1,202 - ----------------------------------------------------------------------------------------------- Total revenues 16,583 8,953 25,536 - ----------------------------------------------------------------------------------------------- Expenses: Policyholder benefits and claims 5,017 5,017 Non-insurance compensation and benefits 3,442 1,710 5,152 Insurance underwriting, acquisition and operating 1,912 1,912 Interest 1,956 5,754 7,710 Provision for consumer finance credit losses 171 171 Other operating 1,544 690 2,234 - ----------------------------------------------------------------------------------------------- Total expenses 14,042 8,154 22,196 - ----------------------------------------------------------------------------------------------- Loss on sale of subsidiaries and affiliates (20) (20) - ----------------------------------------------------------------------------------------------- Income before income taxes 2,521 799 3,320 Provision for income taxes 893 286 1,179 - ----------------------------------------------------------------------------------------------- Income from continuing operations $1,628 $513 $2,141 =============================================================================================== Income per share of common stock and common stock equivalents: Continuing operations $2.43 $4.17 $2.63 =============================================================================================== Weighted average common shares outstanding and common stock equivalents (millions) 634.8 106.5 755.1 ===============================================================================================
See accompanying Notes to Unaudited Pro Forma Condensed Combined Financial Statements Travelers Group Inc. Unaudited Pro Forma Condensed Combined Statement of Income For the Year Ended December 31, 1994 (in millions of dollars, except per share amounts)
Travelers Group Salomon Pro Forma Historical Historical Combined ------------ ------------ ------------ Revenues: Insurance premiums $5,144 $ - $5,144 Commissions and fees 2,526 822 3,348 Interest and dividends 3,401 5,902 9,303 Finance related interest and other charges 1,030 1,030 Principal transactions 900 (560) 340 Asset management and administration fees 1,010 23 1,033 Other income 932 7 939 - ------------------------------------------------------------------------------------------- Total revenues 14,943 6,194 21,137 - ------------------------------------------------------------------------------------------- Expenses: Policyholder benefits and claims 5,227 5,227 Non-insurance compensation and benefits 3,241 1,455 4,696 Insurance underwriting, acquisition and operating 1,867 1,867 Interest 1,284 4,873 6,157 Provision for consumer finance credit losses 152 152 Other operating 1,524 715 2,239 - ------------------------------------------------------------------------------------------- Total expenses 13,295 7,043 20,338 - ------------------------------------------------------------------------------------------- Gain on sale of subsidiaries and affiliates 226 226 - ------------------------------------------------------------------------------------------- Income (loss) before income taxes 1,874 (849) 1,025 Provision for income taxes 717 (439) 278 - ------------------------------------------------------------------------------------------- Income (loss) from continuing operations $1,157 $(410) $747 =========================================================================================== Income (loss) per share of common stock and common stock equivalents: Continuing operations $1.67 $(4.41) $0.79 =========================================================================================== Weighted average common shares outstanding and common stock equivalents (millions) 644.0 106.8 764.7 ===========================================================================================
See accompanying Notes to Unaudited Pro Forma Condensed Combined Financial Statements Notes to Unaudited Pro Forma Condensed Combined Financial Statements 1. Description of Transaction and Basis of Presentation The Merger Agreement provides that each share of Salomon common stock will be exchanged for 1.13 shares of the Company's common stock. The merger, which is expected to be completed in the fourth quarter of 1997, is expected to be accounted for under the pooling of interests method and, accordingly, the Company's historical consolidated financial statements presented in future reports will be restated to include the accounts and results of Salomon. The merger is subject to customary closing conditions, including regulatory and Salomon stockholder approval. 2. Accounting Policies The Company and Salomon are in the process of reviewing their accounting policies and, as a result of this review, it may be necessary to restate either the Company's or Salomon's financial statements to conform to those accounting policies that are determined to be most appropriate. No such restatements have been made to the pro forma combined financial statements. 3. Intercompany Transactions Transactions between the Company and Salomon are not material in relation to the pro forma combined financial statements and therefore intercompany balances have not been eliminated from the pro forma combined amounts. 4. Pro Forma Adjustments The pro forma adjustments to common stock, paid-in capital, retained earnings and treasury stock at June 30, 1997 reflect (1) the retirement of shares of Salomon common stock held in treasury pursuant to the Merger Agreement, (2) adjustments to account for 70 million shares of the Company's common stock held in treasury to be issued in the transaction as though retired, in accordance with APB No. 16, and (3) the issuance of 121.4 million shares of the Company's common stock to effect the merger. The number of shares to be issued at consummation of the merger will be based on the actual number of shares of Salomon common stock outstanding at that time. 5. Pro Forma Earnings Per Share The pro forma combined primary earnings per share for the respective periods presented is based on the combined weighted average number of common shares and share equivalents of the Company and Salomon. The number of common shares and common share equivalents of Salomon is based on an exchange ratio of 1.13 shares of the Company's common stock for each issued and outstanding share and share equivalent of Salomon. 6. Restructuring Charge The pro forma financial data do not reflect a planned merger-related restructuring charge of between $400 million and $500 million (after-tax) primarily for severance and costs related to excess or unused office space and other facilities since such restructuring charge is non-recurring. Although there can be no assurance that the restructuring charge will fall within the range provided, this range represents management's best estimate based on the currently available information. 7. Future Cost Savings As the Salomon operations are integrated with the existing operations of the Company, management expects to achieve, by the end of a three year period, annual cost savings in excess of $200 million (after-tax) from the reduction of overhead expenses, changes in corporate infrastructure and the elimination of redundant expenses. There can be no assurance that these projected cost savings will be achieved. These expected future cost savings are not reflected in the pro forma financial data. The statements contained in notes 6 and 7 above may be deemed to be forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended. Forward-looking statements are typically identified by the words "believe," "expect," "anticipate," "intend," "estimate" and similar expressions. These forward-looking statements are based largely on management's expectations and are subject to a number of uncertainties. Actual results could differ materially from these forward-looking statements as a result of a number of factors, including (1) determination of the number, job classification and location of employee positions to be eliminated, (2) compatibility of the operating systems of the combining companies, (3) the degree to which existing administrative and back-office functions and costs are complementary or redundant, and (4) the timing of implementation of changes in operations to effect cost savings. The Company undertakes no obligation to update publicly or revise any forward-looking statements. -----END PRIVACY-ENHANCED MESSAGE-----