The Trust invests in two types of derivative financial instruments.  Equity index futures are used as strategic substitutions to cost effectively replicate the underlying index of its domestic equity investment fund.  At September 30, 2001, the fair value of these instruments was approximately $4.9 million and was included in non-JM investments available-for-sale on the statement of net claimants’ equity. Foreign currency forwards are utilized for both currency translation purposes and to hedge against the currency risk inherent in foreign equity issues.  At September 30, 2001, the Trust held at market value approximately $64.4 million in sell currency forward contracts offset by approximately $66.0 million in buy currency forward contracts.  The unrealized loss on these outstanding currency forward contracts of approximately $1.6 million is principally offset by corresponding unrealized gains due to currency exchange on the underlying securities being hedged.  These amounts are recorded in the statement of net claimants’ equity at September 30, 2001.

(d) Fixed Assets

The cost of non-income producing assets that will be exhausted during the life of the Trust and are not available for satisfying claims are expensed as incurred.  Since inception, these costs, net of disposals, include:          

These items have not been recorded as assets, but rather as direct deductions to net claimants’ equity in the accompanying financial statements.  The cost of fixed assets, net of proceeds on disposals, that were expensed during the three and nine months ended September 30, 2001 was approximately $829,300 and $2,005,300, respectively. 

Depreciation expense related to asset acquisitions using accounting principles generally accepted in the United States would have been approximately $39,700 and $119,100 for the three and nine months ended September 30, 2001.

(e)    JM Dividends

Beginning in August 1996, the JM Board of Directors declared regular quarterly dividends of $.03 per share, the first time such dividends were declared since 1982.  In August 1997, the dividend was increased to $.04 per share and in August 1998, to $.06 per share.  The Trust received its last dividend payment in January 2001.  Such dividends are reported as additions to net claimants’ equity.

(3)    LITIGATION

During 1997, the Trustees filed a complaint in the U.S. District Court for the Eastern District of New York (the Court) on behalf of the Trust against seven tobacco manufacturers (“Falise I”), pursuant to which the Trust sought contribution and indemnification for claims paid and to be paid in which a portion of the claimant’s injury was caused by smoking.  In November 1999, the Court dismissed Falise I on jurisdictional grounds and during the same month, the Trust filed a second complaint (“Falise II”) which alleged the same causes of action as in Falise I and, in addition, violations of the Federal RICO Act. 

On December 4, 2000, the jury trial of Falise II began in the Court.  On January 25, 2001, the Court declared a mistrial because the jury was unable to reach a verdict after six days of deliberation.  Following extensive research and consultation with the Trust’s trial and appellate counsel, on July 6, 2001, the Trust and the Falise II defendants moved to dismiss the case with prejudice.

(4)    UNPAID CLAIMS

The Trust distinguishes between claims that were resolved prior to the filing of the class action complaint on November 19, 1990, and claims resolved after the filing of that complaint.  Claims resolved prior to the complaint (Pre-Class Action Claims) were resolved under various payment plans, all of which called for 100% payment of the full liquidated amount without interest over some period of time.  However, between July 1990 and February 1995, payments on all claims except qualified exigent health and hardship claims were stayed by the courts.  By court order on July 22, 1993 (which became final on January 11, 1994), a plan submitted by the Trust was approved to immediately pay, subject to claimant approval, a discounted amount on Pre-Class Action Claims, in full satisfaction of these claims.  The discount amount taken, based on the claimants who accepted the Trust’s discounted offer, was approximately $135 million.

The unpaid liability for the Post-Class Action claims represents outstanding offers made in First-in, First-out (FIFO) order to claimants eligible for settlement after November 19, 1990.  Under the TDP (Note 6), claimants receive an initial pro rata payment equal to a percentage of the liquidated value of their claim.  The Trust remains liable for the unpaid portion of the liquidated amount only to the extent that assets will be available after paying all claimants the established pro rata share of their claims.  The Trust makes these offers in the form of a check made payable to the claimant and/or claimant’s counsel.  If the offer is accepted, a Trust release is completed, the check is deposited and the claim is recorded as settled.  An unpaid claim liability is recorded once an offer is made.  The unpaid claim liability remains on the Trust’s books until accepted or expiration of the offer after 180 days.  A claimant may request that an offer be extended for an additional 180 days.

(5) COMMITMENTS AND CONTINGENCIES

Operating Leases

In September 1993, the Trust executed a 5-year lease through December 1998 for its offices in Fairfax, Virginia. The lease was extended for an additional 5 years beginning at the expiration of the initial lease. Effective January 1, 1999, the Trust assigned its rights under the lease to CRMC conditioned upon the Trust’s guarantee of future lease payments.

Future minimum rental commitments under this operating lease, as of september 30, 2001 are as follows:

This obligation has been recorded as a liability at face value in the accompanying financial statements.

(6) NET CLAIMANTS’ EQUITY

A class action complaint was filed on behalf of all Trust beneficiaries on November 19, 1990, seeking to restructure the methods by which the Trust administers and pays claims. On July 25, 1994, the parties signed a Stipulation of Settlement that included a revised Trust Distribution Process (the TDP).  The TDP prescribes certain procedures for distributing the Trust’s limited assets, including pro rata payments and initial  determination of claim value based on scheduled diseases and values.  The Court approved the settlement in an order dated January 19, 1995.  Though six appeals were filed with the Court of Appeals, no stay was granted and the Trust implemented the TDP payment procedures effective February 21, 1995.  On February 21, 1996, the Court of Appeals affirmed the decision.

Prior to the commencement of the class action in 1990, the Trust filed a motion for a determination that its assets constitute a “limited fund” for purposes of Federal Rules of Civil Procedure 23(b)(1)(B).  The Courts adopted the findings of the Special Master that the Trust is a “limited fund”.  In part, the limited fund finding concludes that there is a substantial probability that estimated future assets of the Trust are and will be insufficient to pay in full all claims that have been and will be asserted against the Trust.

The TDP contains certain procedures for the distribution of the Trust’s limited assets.  Under the TDP, the Trust forecasts its anticipated annual sources and uses of cash until the last projected future claim has been paid.  A pro rata payment percentage is calculated such that the Trust will have no remaining assets or liabilities after the last future claimant receives his/her pro rata share.

Prior to the implementation of the TDP, the Trust conducted its own research and monitored studies prepared by the Courts’ appointee regarding the valuation of Trust assets and liabilities.  Based on this valuation, the TDP provided for an initial 10% payment of the liquidated value of then current and estimated future claims (pro rata payment percentage).  As required by the TDP, the Trust has periodically re-estimated the values of its projected assets and liabilities to determine whether a revised pro rata payment percentage should be applied in the future.  The most recent re-estimate began in 2000 and was concluded in June of 2001.  Following its review and consultation with the Selected Counsel for the Beneficiaries (SCB), the Legal Representative of Future Claimants (Legal Representative) and Special Advisor to the Trust (Special Advisor), the Trust proposed to the SCB and Future Representative that the pro rata payment percentage be reduced from 10% to 5%, beginning with claims generally filed after October of 2000.  The SCB and Legal Representative consented to the Trust’s request that, pending a final resolution of this issue and without prejudice to their rights to dispute the issue in binding arbitration, the Trust may make offers and pay claims based upon a 5% pro rata payment percentage.  Thereafter, the Legal Representative consented to the 5% pro rata payment.  However, the SCB has not provided consent.

Therefore, pursuant to the TDP, the Special Advisor is authorized to name three arbitrators to resolve this matter through binding arbitration.  The SCB and the Trust are each entitled to strike one of the arbitrators.  The remaining arbitrator will decide the matter.  As of September 30, 2001, the Special Advisor had identified only two arbitrators for consideration by the parties.

As required under the TDP, the Trust will continue to periodically update its estimate of the pro rata payment percentage based on updated assumptions regarding its future assets and liabilities and, if appropriate, propose additional changes in the pro rata payment percentage.

(7) EMPLOYEE BENEFIT PLANS

The Trust established a tax-deferred employee savings plan under Section 401(k) of the Internal Revenue Code, with an effective date of January 1, 1988.  The plan allows employees to defer a percentage of their salaries within limits set by the Internal Revenue Code with the Trust matching contributions by employees of up to 6% of their salaries.  The total employer contributions and expenses under the plan were approximately $106,700 and $261,700 for the three and nine months ended September 30, 2001, respectively.

(8) RESTRICTED ASSETS

In order to avoid the high costs of director and officer liability insurance and with the approval of the United States Bankruptcy Court for the Southern District of New York, the Trust established a segregated security fund of $30,000,000 and, with the additional approval of the United States District Court for the Southern and Eastern Districts of New York, an escrow fund of $3,000,000 from the assets of the Trust, which are devoted exclusively to securing the obligations of the Trust to indemnify the former and current Trustees and officers, employees, agents and representatives of the Trust.  In addition, a $15,000,000 escrow and security fund was established to secure the obligations of the Trust to exclusively indemnify the current Trustees, whose access to the other security funds is subordinated to the former Trustees.  Upon the final order in the Class Action litigation (Note 4), the $15,000,000 escrow and security fund was reduced by $5,000,000.  Pursuant to Section 5.07 of the plan, Trustees are entitled to a lien on the segregated security and escrow funds to secure the payment of any amounts payable to them through such indemnification.  Accordingly, in total, $43 million has been transferred from the Trust’s bank accounts to separate escrow accounts and pledge and security agreements have been executed perfecting those interests.  The investment earnings on these escrow accounts accrue to the benefit of the Trust.

As a condition of the tax agreement between JM and the Trust discussed in Note 9 below, the Trust was required to transfer $30 million in cash to an escrow account to secure the payment of its future income tax obligations post settlement of the transaction.  The escrow account balance may be increased or decreased over time. As of September 30, 2001, securities with a market value of $24.7 million were held by an escrow agent in accordance with the agreement.  These funds have been reported as restricted investments.

(9)    INCOME TAXES

For Federal income tax purposes, JM has elected for the qualified assets of the Trust to be taxed as a Designated Settlement Fund (DSF).  Income and expenses associated with the DSF are taxed in accordance with Section 468B of the Internal Revenue Code, which obligates JM to pay for any federal income tax liability imposed upon the DSF.  In addition, pursuant to an agreement between JM and the Trust, JM is obligated to pay for any income tax liability. However, as discussed in Note 1, at the consummation of the tender offer transaction on February 26, 2001, JM paid the Trust $90 million to settle their obligation to the Trust.  In return, the Trust terminated JM’s contractual liability for income taxes of the DSF and agreed to indemnify JM in respect for all future income taxes of the Trust.  JM remained liable for the Trust’s income taxes through February 26, 2001.  The statutory income tax rate for the DSF is 15%.

The Trust accounts for income taxes in accordance with the Statement of Financial Accounting Standards (SFAS) No. 109, “Accounting for Income Taxes.”  SFAS No. 109 requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the book and tax basis of assets and liabilities.  As of September 30, 2001, the Trust has recorded a net deferred tax asset of $29,000, representing temporary timing differences primarily for CRMC’s accrued vacation and deferred compensation.  The deferred asset is included in deposits and other assets in the accompanying consolidated statement of net claimants’ equity.

(10) PROOF OF CLAIMS FILED

Proof of claim forms have been filed with the Trust as follows: