UNITED STATES SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   FORM 10-K

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

                  For the fiscal year ended December 31, 2002

                                       OR

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

              For the transition period from ________ to _________

                         Commission file number 1-16725

                        PRINCIPAL FINANCIAL GROUP, INC.
             (Exact name of Registrant as specified in its charter)

         Delaware                    711 High Street,         42-1520346
(State or other jurisdiction       Des Moines, Iowa 50392  (I.R.S. Employer
of incorporation or organization) (Address of principal  Identification Number)
                                    executive offices)
                                      (515) 247-5111
                                (Registrant's telephone number,
                                     including area code)

Securities registered pursuant to Section 12(b) of the Act:

    Title of each class              Name of each exchange on which registered
Common Stock, par value $0.01               New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:  None

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

Indicate by check mark if disclosure of delinquent  filers  pursuant Item 405 of
Regulation S-K (ss. 229.405 of this chapter) is not contained  herein,  and will
not be contained,  to the best of Registrant's knowledge, in definitive proxy or
information  statements  incorporated by reference in Part III of this Form 10-K
or any amendment of this Form 10-K. |_|

Indicate  by check mark  whether  the  Registrant  is an  accelerated  filer (as
defined in Rule 12b-2 of the Act) Yes |X| No |_|

As of February 28, 2003,  there were  outstanding  320,269,928  shares of Common
Stock, $0.01 par value per share of the Registrant.

The aggregate market value of the shares of the Registrant's  common equity held
by  non-affiliates  of the  Registrant was  $8,829,841,915  based on the closing
price of $27.57  per share of Common  Stock on the New York  Stock  Exchange  on
February 28, 2003.

                        Documents Incorporated by Reference

The information  required to be furnished pursuant to Part III of this Form 10-K
is set forth in,  and is hereby  incorporated  by  reference  herein  from,  the
Registrant's  definitive  proxy statement for the annual meeting of shareholders
to be held on May 19, 2003, to be filed by the  Registrant  with the  Securities
and Exchange Commission pursuant to Regulation 14A not later than 120 days after
the year ended December 31, 2002.

                         PRINCIPAL FINANCIAL GROUP, INC.
                                TABLE OF CONTENTS

PART I......................................................................4

Item 1.  Business...........................................................4
Item 2.  Properties........................................................22
Item 3.  Legal Proceedings.................................................23
Item 4.  Submission of Matters to a Vote of Security Holders...............23
Executive Officers of the Registrant.......................................24

PART II....................................................................25

Item 5.  Market for Registrant's Common Equity and Related Stockholder
         Matters...........................................................25
Item 6.  Selected Financial Data...........................................25
Item 7.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations.............................................29
Item 7A.  Quantitative and Qualitative Disclosures About Market Risk.......84
Item 8.  Financial Statements and Supplementary Data.......................91
   Report of Independent Auditors..........................................91
   Consolidated Statements of Financial Position...........................92
   Consolidated Statements of Operations...................................93
   Consolidated Statements of Stockholders' Equity.........................95
   Consolidated Statements of Cash Flows...................................96
   Notes to Consolidated Financial Statements..............................98
Item 9.  Changes in and Disagreements with Accountants on Accounting and
         Financial Disclosure.............................................160

PART III..................................................................160

Item 10.  Directors and Executive Officers of the Registrant..............160
Item 11.  Executive Compensation..........................................160
Item 12.  Security Ownership of Certain Beneficial Owners and Management
          and Related Stockholder Matters.................................160
Item 13.  Certain Relationships and Related Transactions..................161
Item 14.  Controls and Procedures.........................................161

PART IV...................................................................162

Item 15.  Exhibits, Financial Statement Schedules and Reports on
          Form 8-K........................................................162

Signatures and Certifications ............................................164

   Report of Independent Auditors on Schedules............................167
   Schedule I - Summary of Investments - Other Than Investments in Related
                Parties...................................................168
   Schedule II - Condensed Financial Information of Registrant
                 (Parent Only)............................................169
   Schedule III - Supplementary Insurance Information.....................173
   Schedule IV - Reinsurance..............................................175
   Exhbit Index...........................................................176

                                       2

                   NOTE CONCERNING FORWARD-LOOKING STATEMENTS

This Annual  Report on Form 10-K,  including  the  Management's  Discussion  and
Analysis of Financial  Condition and Results of Operations,  contains statements
which constitute  forward-looking  statements  within the meaning of the Private
Securities  Litigation  Reform Act of 1995,  including  statements  relating  to
trends in operations and financial  results and the business and the products of
the Registrant and its subsidiaries, as well as other statements including words
such as "anticipate,"  "believe,"  "plan,"  "estimate,"  "expect,"  "intend" and
other  similar  expressions.  Forward-looking  statements  are made  based  upon
management's current expectations and beliefs concerning future developments and
their potential effects on the Company. Such forward-looking  statements are not
guarantees of future performance.

Actual results may differ materially from those included in the  forward-looking
statements as a result of risks and uncertainties  including, but not limited to
the following:  (1) a decline or increased  volatility in the securities markets
could result in investors withdrawing from the markets or decreasing their rates
of investment,  either of which could reduce our net income, revenues and assets
under management; (2) our investment portfolio is subject to several risks which
may  diminish   the  value  of  our  invested   assets  and  affect  our  sales,
profitability  and  the  investment  returns  credited  to  our  customers;  (3)
competition from companies that may have greater  financial  resources,  broader
arrays of products, higher ratings and stronger financial performance may impair
our ability to retain existing customers, attract new customers and maintain our
profitability; (4) a downgrade in Principal Life Insurance Company's ("Principal
Life")   financial   strength   ratings  may  increase  policy   surrenders  and
withdrawals,  reduce new sales and terminate relationships with distributors and
cause some of our existing liabilities to be subject to acceleration, additional
collateral  support,  changes in terms,  or  creation  of  additional  financial
obligations;  (5) our efforts to reduce the impact of interest  rate  changes on
our  profitability  and  surplus may not be  effective;  (6) if we are unable to
attract and retain sales  representatives and develop new distribution  sources,
sales  of our  products  and  services  may be  reduced;  (7) our  international
businesses face political,  legal, operational and other risks that could reduce
our profitability in those businesses;  (8) our reserves  established for future
policy  benefits  and  claims may prove  inadequate,  requiring  us to  increase
liabilities;  (9)  our  ability  to  pay  stockholder  dividends  and  meet  our
obligations  may be constrained  by the  limitations on dividends Iowa insurance
laws impose on  Principal  Life;  (10) we may need to fund  deficiencies  in our
closed block  ("Closed  Block")  assets which benefit only the holders of Closed
Block policies;  (11) changes in regulations or accounting  standards may reduce
our  profitability;  (12) litigation and regulatory  investigations may harm our
financial  strength and reduce our  profitability;  (13) fluctuations in foreign
currency exchange rates could reduce our profitability;  (14) a challenge to the
Insurance Commissioner of the State of Iowa's approval of the plan of conversion
could put the terms of our  demutualization  in  question  and reduce the market
price of our common stock; (15) applicable laws and our stockholder rights plan,
certificate of incorporation  and by-laws may discourage  takeovers and business
combinations that our stockholders might consider in their best interests;  (16)
a downgrade in our debt ratings may adversely affect our ability to secure funds
and cause  some of our  existing  liabilities  to be  subject  to  acceleration,
additional  collateral  support,  changes in terms,  or creation  of  additional
financial obligations.

                                       3

PART I

ITEM 1.  BUSINESS

The  Principal  Financial  Group is a leading  provider of  retirement  savings,
investment  and insurance  products and services  with $111.1  billion in assets
under management and approximately  thirteen million  customers  worldwide as of
December 31, 2002.  We were  organized  as an  individual  life insurer in 1879,
formed a mutual  insurance  holding  company in 1998,  and  Principal  Financial
Group, Inc. was organized on April 18, 2001, as a Delaware business corporation.

Under  the terms of  Principal  Mutual  Holding  Company's  Plan of  Conversion,
effective  October 26, 2001 (the "Date of  Demutualization"),  Principal  Mutual
Holding  Company  converted from a mutual  insurance  holding company to a stock
company  subsidiary  of Principal  Financial  Group,  Inc., a Delaware  business
corporation.  All membership  interests in Principal Mutual Holding Company were
extinguished  on that date and eligible  policyholders  received,  in aggregate,
260.8  million  shares of common  stock,  $1,177.5  million of cash,  and $472.6
million of policy credits as compensation.

In addition,  on October 26,  2001,  we completed  our initial  public  offering
("IPO") in which we issued  100.0  million  shares of common stock at a price of
$18.50 per  share,  prior to the  underwriters'  exercise  of the  overallotment
option. Net proceeds from the IPO were $1,753.9 million,  of which $64.2 million
was retained by  Principal  Financial  Group,  Inc.,  and  $1,689.7  million was
contributed  to Principal  Life.  Proceeds  were net of offering  costs of $96.5
million and a related tax benefit of $0.4 million.

Our U.S. and international  operations concentrate primarily on asset management
and  accumulation.  In addition,  we offer a broad range of individual and group
life  insurance,  group  health  insurance,   individual  and  group  disability
insurance and residential mortgage loan origination and servicing.

We focus on providing  retirement  products and services to businesses and their
employees.  We provided  services to more 401(k)  plans in the U.S. in 2001 than
any other bank, mutual fund or insurance company, according to surveys conducted
by CFO magazine.  We also had the leading market share in 2001 within the 401(k)
market for businesses  with less than 500 employees based on number of plans and
number of participants according to the Spectrem Group.

We believe there are  attractive  growth  opportunities  in the 401(k) and other
defined contribution  pension plan markets in the U.S. and  internationally.  We
believe our  expertise and  leadership  in serving the U.S.  pension plan market
give us a unique competitive advantage in the U.S., as well as in countries with
a trend toward private sector defined contribution pension systems.

OUR OPERATING SEGMENTS

We organize our businesses into four operating segments:

o    U.S. Asset Management and  Accumulation;

o    International  Asset Management and Accumulation;

o    Life and Health Insurance; and

o    Mortgage Banking.

We also have a  Corporate  and Other  segment  which  consists of the assets and
activities that have not been allocated to any other segment.

                                       4

The  following  table  summarizes  our  operating  revenues for our products and
services,  which  are  described  in each of the  subsequent  operating  segment
discussions:

                                          FOR THE YEAR ENDED DECEMBER 31,
                                   2002                 2001               2000
                              ---------------   -----------------    -----------
                                                  (IN MILLIONS)

U.S. Asset Management and
  Accumulation
Full-service accumulation....   $1,076.5           $1,116.6            $1,210.4
Full-service payout..........    1,191.8            1,214.8               920.6
Investment-only..............      886.4              918.1               881.7
                             ---------------   -----------------    ------------
  Total pension..............    3,154.7            3,249.5             3,012.7
Individual annuities.........      303.8              263.3               267.5
Mutual funds.................      113.8              108.3               116.0
Other and eliminations.......       32.2               19.0                 1.9
                             ---------------   -----------------    ------------
  Total U.S. Asset
    Accumulation.............    3,604.5            3,640.1             3,398.1

Eliminations.................      (40.4)             (35.2)              (38.4)
Principal Global Investors...      216.4              194.9               174.2
                             ---------------   -----------------    ------------
  Total U.S. Asset Management
    and Accumulation.........    3,780.5            3,799.8             3,533.9

International Asset
    Management and
    Accumulation.............      357.9              508.4               339.2

Life and Health Insurance
Life insurance...............    1,629.6            1,658.7             1,693.1
Health insurance.............    2,058.3            2,061.3             2,221.4
Disability insurance.........      258.9              226.4               208.1
                             ---------------   -----------------    ------------
  Total Life and Health
  Insurance..................    3,946.8            3,946.4             4,122.6

Mortgage Banking

Mortgage loan production.....      562.9              354.4                46.0

Mortgage loan servicing......      590.1              403.0               313.8
                             ---------------   -----------------    ------------
  Total Mortgage Banking.....    1,153.0              757.4               359.8

Corporate and Other..........      (15.1)             101.7                98.2
                             ---------------   -----------------    ------------
Total operating revenues.....   $9,223.1           $9,113.7            $8,453.7
                             ===============   =================    ============

Total operating revenues.....   $9,223.1           $9,113.7            $8,453.7

Net realized/unrealized
  capital gains (losses),
  including recognition of
  front-end fee revenues
  and certain market value
  adjustments to fee
  revenues...................     (400.6)            (527.4)              140.5
Non-recurring................           -               6.3                   -
                             ---------------   -----------------    ------------
Total GAAP revenues..........   $8,822.5           $8,592.6            $8,594.2
                             ===============   =================    ============

U.S. ASSET MANAGEMENT AND ACCUMULATION SEGMENT

Our U.S. Asset Management and Accumulation segment consists of:

                                       5

o    asset accumulation  operations which provide retirement savings and related
     investment  products and services to businesses,  their employees and other
     individuals; and

o    Principal Global Investors, our U.S.-based asset manager, formerly known as
     Principal Capital Management.

For financial  results for the U.S. Asset Management and  Accumulation  segment,
see Item 8. "Financial  Statements and Supplementary Data, Notes to Consolidated
Financial Statements, Note 18 Segment Information".

U.S. ASSET ACCUMULATION

Our asset  accumulation  activities  in the U.S.  date back to the 1940s when we
first  began  providing  pension  plan  products  and  services.  We now offer a
comprehensive   portfolio  of  asset  accumulation  products  and  services  for
retirement savings and investment:

o    To businesses of all sizes with a concentration  on small and  medium-sized
     businesses,  which we define as businesses with fewer than 1,000 employees.
     We offer  products  and services for defined  contribution  pension  plans,
     including  401(k) and  403(b)  plans,  defined  benefit  pension  plans and
     non-qualified  executive benefit plans. For more basic investment needs, we
     offer SIMPLE IRA and payroll deduction plans;

o    To large  institutional  clients, we also offer  investment-only  products,
     including guaranteed investment contracts and funding agreements; and

o    To employees of businesses and other  individuals,  we offer the ability to
     accumulate  retirement savings through mutual funds,  individual  annuities
     and bank products.

We organize our U.S. asset accumulation operations into four product and service
categories: pension, mutual funds, individual annuities and Principal Bank.

Our pension  products and services  are further  grouped into three  categories:
full-service accumulation, full-service payout and investment-only.

PENSION PRODUCTS

We offer a wide variety of investment  and  administrative  products for defined
contribution  pension plans,  including 401(k) and 403(b) plans, defined benefit
pension plans and non-qualified executive benefit plans. A 403(b) plan is a plan
described  in  section  403(b)  of  the  Internal  Revenue  Code  that  provides
retirement  benefits  for  employees  of  tax-exempt  organizations  and  public
schools.

FULL-SERVICE  ACCUMULATION.  Full-service  accumulation  products respond to the
needs of plan sponsors seeking both  administrative and investment  services for
defined contribution plans or defined benefit plans. The investment component of
our defined contribution plans may be in the form of a group annuity contract or
a  mutual  fund.  The  investment  component  of our  defined  benefit  plans is
available only in the form of a group annuity contract.

As of December  31,  2002,  we provided  full-service  accumulation  products to
33,228 defined  contribution  pension plans,  of which 26,314 were 401(k) plans,
covering 2.2 million plan  participants,  and to 3,023 defined  benefit  pension
plans,   covering   253,380  plan   participants.   As  of  December  31,  2002,
approximately  83% of our  pension  assets  under  management  were  managed  by
Principal Global Investors.  Third-party asset managers provide asset management
services with respect to a majority of the remaining assets.

Prior to 2001,  annuities were the only product  through which we delivered both
administrative  and  investment  services to our defined  contribution  plan and
defined benefit plan customers.  Under U.S. federal securities laws, neither the

                                       6

annuity nor the underlying investment options are required to be registered with
the SEC. Beginning January 2001, we began to offer administrative and investment
services to defined contribution plan customers through Principal  Advantage,  a
new  401(k)  product  based on our  recently  expanded  mutual  fund,  Principal
Investors Fund. We offer funds covering the full range of stable value,  equity,
fixed income and  international  investment  options  managed by our  affiliated
asset  manager,  Principal  Global  Investors,  as  well  as  third-party  asset
managers.

FULL-SERVICE  PAYOUT.  Full-service  payout  products  respond  to the  needs of
pension  plan   participants  who,  upon  retirement  or  termination  of  their
employment,  leave their pension  plans,  and who seek both  administrative  and
investment  services for  distributions  from the plans they are  leaving.  Plan
participants  who seek these services  include those departing  pension plans we
service,  as well as  pension  plans  other  providers  service.  We offer  both
flexible  income option  products and single premium group  annuities.  Flexible
income option  products allow the customer to control the rate of  distribution,
or payout,  and provide  limited  performance  guarantees.  Single premium group
annuities are immediate or deferred  annuities  that provide a current or future
specific income amount,  fully  guaranteed by us. Both products are available to
defined  contribution and defined benefit plan participants.  For both products,
we make regular payments to individuals,  invest the underlying  assets on their
behalf and provide tax reporting to them.

Single  premium  group  annuities are  traditionally  used in  conjunction  with
defined benefit plans, particularly those where the plan is being terminated. In
such instances, the plan sponsor transfers all its obligations under the plan to
an  insurer  by  paying a  single  premium.  Increasingly,  these  products  are
purchased by defined  contribution  plan  participants who reach retirement age.
Plan sponsors  restrict their purchases to insurance  companies with superior or
excellent financial quality ratings because the Department of Labor has mandated
that annuities be purchased only from the "safest available" insurer.

Premium  received from  full-service  payout  products are in the form of single
payments.  As a result, the level of new premiums can fluctuate depending on the
number of  retirements  and  large-scale  annuity  sales in a particular  fiscal
quarter.  Assets under  management  relating to single  premium group  annuities
generate a spread  between  the  investment  income  earned by us and the amount
credited to the customer.  Assets under  management  relating to flexible income
option  products  may  generate  either  spread or fee revenue  depending on the
investment options elected by the customer.

INVESTMENT-ONLY. The three primary products for which we provide investment-only
services are: guaranteed investment contracts ("GICs");  funding agreements; and
other investment-only products.

GICs and funding  agreements pay a specified rate of return.  The rate of return
can be a floating rate based on an external market index or a fixed rate. All of
our  investment-only  products contain provisions  disallowing or limiting early
surrenders,   including  penalties  for  early  surrenders  and  minimum  notice
requirements.  Put provisions  give customers the option to terminate a contract
prior to maturity, provided they give us a minimum notice period.

Deposits to  investment-only  products are  predominantly  in the form of single
payments.  As a result,  the level of new deposits can fluctuate from one fiscal
quarter to another.  Assets invested in GICs and funding  agreements  generate a
spread between the investment income earned by us and the amount credited to the
customer.  Our other  investment-only  products  consist  of  separate  accounts
invested in either equities or fixed income instruments.

MARKETS AND DISTRIBUTION

We offer our pension products and services to employer-sponsored  pension plans,
including  qualified and non-qualified  defined  contribution  plans,  qualified
defined benefit plans and institutional  investors. Our primary target market is
pension plans sponsored by small and medium-sized  businesses,  which we believe
remains  under-penetrated.  Only 16% of businesses with less than 100 employees,
and 47% of businesses with between 100 and 500 employees,  offered a 401(k) plan
in 2002,  according to the Spectrem Group.  The same study indicates that 83% of
employers  with between 500 and 1000 employees and 93% of employers with 1000 or
more employees offered a 401(k) plan in 2002.

                                       7

FULL-SERVICE  ACCUMULATION.  We sell our full-service  accumulation products and
services  nationally,  primarily  through a captive  retirement  services  sales
force. As of December 31, 2002, 107 retirement services sales representatives in
47  offices,   operating  as  a  wholesale   distribution  network,   maintained
relationships with approximately  12,500  independent  brokers,  consultants and
agents.  Retirement  services sales  representatives are an integral part of the
sales process  alongside the referring  consultant  or  independent  broker.  We
compensate retirement services sales  representatives  through a blend of salary
and production-based  incentives,  while we pay independent brokers, consultants
and agents a commission or fee.

As of December 31, 2002, we had a separate staff of 138 service  representatives
located in the sales  offices  who play a key role in the ongoing  servicing  of
pension plans by:  providing  local services to our customers,  such as renewing
contracts, revising plans and solving any administration problems; communicating
the customers'  needs and feedback to us; and helping  employees  understand the
benefits of their pension plans.

We believe that our approach to pension plan  services  distribution  gives us a
local  sales  and  service  presence  that  differentiates  us from  many of our
competitors.  We have  also  recently  established  a number  of  marketing  and
distribution  relationships to increase the sales of our  accumulation  products
with firms such as Frank Russell Investment Management Company, A.G. Edwards and
AON.

We sell our  annuity-based  products through sales  representatives,  agents and
brokers who are not required to register with the SEC.

Principal  Advantage,  our mutual  fund-based  product,  is  targeted at defined
contribution plans with over $3.0 million of assets. We sell Principal Advantage
through  affiliated   registered   representatives,   stockbrokers,   registered
investment  advisors and fee-based  consultants  through sales  agreements  with
non-affiliated  broker-dealers.  Principal Advantage gives us access to National
Association   of  Securities   Dealers-registered   distributors   who  are  not
traditional sellers of annuity-based products and opens new opportunities for us
in the investment advisor and broker-dealer distribution channels.

We significantly expanded our marketing and product development efforts into the
"not-for-profit"  market in 1999, with the acquisition of Professional Pensions,
Inc., which specializes in providing  full-service  accumulation  403(b) pension
plans to 501(c)(3)  not-for-profit  organizations.  As of December 31, 2002,  we
provided  pension  products and  services to 1,031  pension  plans  sponsored by
educational and  not-for-profit  organizations  with $1,995.9  million of assets
under management.

On June 12, 2002,  we  announced  we had entered into an agreement  with KeyCorp
(through affiliates Victory Capital Management and KeyBank National Association)
to  offer   transition  of  servicing  of  KeyCorp's   1,400  employer   defined
contribution clients with up to $8.0 billion in assets under management. KeyCorp
transitioned out of the bundled defined contribution business and will recommend
our servicing to its full-service defined contribution clients nationwide.

Impact401k.com  is our self-service  Internet site,  through which plan sponsors
can handle the purchase,  enrollment and administration of a 401(k) pension plan
entirely through the Internet.  Impact401k.com  allows plan participants to gain
on-line access to their  accounts,  transfer  funds between  accounts and review
customized investment options. Accordingly, our employees do not have to perform
any administrative activities.  Impact401k.com is targeted at smaller businesses
that seek a low cost  product,  as well as businesses of any size that prefer to
handle administrative activities through the Internet.

FULL-SERVICE PAYOUT AND  INVESTMENT-ONLY.  Our primary  distribution channel for
full-service payout and investment-only products was comprised of 10 specialized
home office marketers as of December 31, 2002,  working through  consultants and
brokers that specialize in this type of business. Our home office marketers also
make  sales  directly  to  institutions.  Our  nationally  dispersed  retirement
services sales representatives act as a secondary distribution channel for these
products.  Principal Connection also distributes full-service payout products to
participants  in plans we service who are  terminating  employment  or retiring.
Principal  Connection  is our direct  response  distribution  channel for retail
financial services products to individuals.  Principal Connection's services are
available over the phone, on the Internet or by mail.

                                       8

We market GICs and funding  agreements  primarily to pension  plan  sponsors and
other institutions.  We also offer them as part of our full-service accumulation
products.   We  sell  our  GICs  primarily  to  plan  sponsors  for  funding  of
tax-qualified  retirement plans. We sell our funding  agreements to institutions
that may or may not be pension funds. Our primary market for funding  agreements
is  institutional  investors in the U.S. and around the world.  These  investors
purchase  debt  obligations  from a  special  purpose  vehicle  which,  in turn,
purchases a funding  agreement  from us with terms  similar to those of the debt
obligations.  The strength of this market is  dependent  on debt capital  market
conditions. As a result, our sales through this channel can vary widely from one
quarter to another.

MUTUAL FUNDS

We have been  providing  mutual funds to customers  since 1969.  We offer mutual
funds to individuals and  businesses,  for use within variable life and variable
annuity contracts and for use in employer-sponsored pension plans.

PRODUCTS

We were ranked in the top quartile  among U.S.  mutual fund managers in terms of
total mutual fund assets under management as of November 30, 2002,  according to
the Investment Company Institute. The value of our mutual fund assets we managed
was $8.1  billion as of December 31, 2002.  We provide  accounting,  compliance,
corporate governance,  product development and transfer agency functions for all
mutual funds we organize.  As of December 31, 2002,  our mutual fund  operations
served approximately 713,800 mutual fund shareholder accounts.

PRINCIPAL  MUTUAL  FUNDS.  Principal  Mutual  Funds is a family of mutual  funds
offered to individuals and businesses,  with 22 mutual funds and $3.1 billion in
assets under management as of December 31, 2002. We report the results for these
funds in this segment under "Mutual Funds".

PRINCIPAL VARIABLE CONTRACTS FUND. Principal Variable Contracts Fund is a series
mutual fund which, as of December 31, 2002,  provided 28 investment  options for
use as funding choices in variable annuity and variable life insurance contracts
issued by Principal Life. As of December 31, 2002, this fund had $2.3 billion in
assets under  management.  We report the results for the funds backing  variable
annuity  contracts in this segment under  "Individual  Annuities." We report the
results for the funds backing variable life insurance  contracts in the Life and
Health Insurance segment.

PRINCIPAL INVESTORS FUND. Principal Investors Fund is a recently expanded series
mutual fund, which as of December 31, 2002, offered 46 investment options.  This
fund  acts  as  the  funding  vehicle  for  Principal  Advantage,   the  defined
contribution   product   described  above  under  "U.S.   Asset  Management  and
Accumulation    Segment-U.S.    Asset    Accumulation-Pension    Services    and
Products-Pension  Products-Full-service  Accumulation."  This fund also offers a
retail  class of  shares  to  individuals  primarily  for IRA  rollovers.  As of
December  31,  2002,  this retail  class of shares had $523.3  million in assets
under  management  and all other share  classes of  Principal  Investors  Funds,
including seed money, had $2.2 billion of assets under management. We report the
results for this fund, excluding the retail class of shares, under "Pension". We
report the results of the retail class of shares in this segment  under  "Mutual
Funds."

MARKETS AND DISTRIBUTION

Our  markets  for retail  mutual  funds are  individuals  seeking to  accumulate
savings for retirement and other  purposes and small  businesses  seeking to use
mutual funds as the funding vehicle for pension plans, as well as  non-qualified
individual savings plans utilizing payroll deductions. We also market our retail
mutual funds to  participants in pension plans who are departing their plans and
reinvesting their retirement assets into individual retirement accounts.

Our retail  mutual funds are sold  primarily  through our  affiliated  financial
representatives,    independent   brokers   registered   with   our   securities
broker-dealer  Princor Financial Services Corporation,  ("Princor"),  registered

                                       9

representatives  from other  broker-dealers,  direct deposits from our employees
and others and Principal Connection. Princor, as the marketing arm of our mutual
fund  business,  recruits,  trains  and  supervises  registered  representatives
selling our products.

INDIVIDUAL ANNUITIES

Individual  annuities  offer a  tax-deferred  means of  accumulating  retirement
savings and provide a tax-efficient source of income during the payout period.

PRODUCTS

We offer both fixed and variable  annuities to  individuals  and pension  plans.
Individual annuities may be deferred,  in which case assets accumulate until the
contract is  surrendered,  the customer  dies or the customer  begins  receiving
benefits under an annuity payout  option,  or immediate,  in which case payments
begin  within one year of issue and  continue  for a fixed period of time or for
life.

FIXED ANNUITIES. Our individual fixed annuities are predominantly single premium
deferred annuity  contracts.  These contracts are savings vehicles through which
the customer makes a single  deposit with us. Under the contract,  the principal
amount is  guaranteed  and for a specified  time period,  typically one year, we
credit the customer's  account at a fixed interest rate.  Thereafter,  we reset,
typically annually, the interest rate credited to the contract based upon market
and other  conditions.  Our major  source of income from fixed  annuities is the
spread between the investment  income we earn on the underlying  general account
assets  and the  interest  rate we credit to  customers'  accounts.  We bear the
investment  risk  because,  while we credit  customers'  accounts  with a stated
interest rate, we cannot be certain the investment income we earn on our general
account assets will exceed that rate.

VARIABLE  ANNUITIES.  Our individual  variable  annuity  products consist almost
entirely  of  flexible  premium  deferred  variable  annuity  contracts.   These
contracts are savings vehicles through which the customer makes a single deposit
or a series of deposits of varying  amounts and  intervals.  Customers  have the
flexibility  to allocate their  deposits to investment  sub-accounts  managed by
Principal Global  Investors,  or third-party asset managers  including  Fidelity
Investments,  AIM Advisors,  Inc.,  Morgan  Stanley Asset  Management,  JPMorgan
Fleming Asset  Management,  Inc.,  Janus Capital  Corporation,  Neuberger Berman
Management,  Inc., The Dreyfus  Corporation,  Templeton Global Advisors Limited,
American Century Investment Management, INVESCO Funds Group, Goldman Sachs Asset
Management,  Duncan-Hurst Capital Management,  Inc., Turner Investment Partners,
Inc.,  Bernstein  Investment  Research and Management,  Putnam, UBS Global Asset
Management,  Federated Investment Management Company, Founders Asset Management,
LLC,  and Berger,  LLC.  As of December  31,  2002,  60% of our $2.4  billion in
variable  annuity  account  balances was  allocated to  investment  sub-accounts
managed by Principal Global Investors, 25% to investment sub-accounts managed by
third-party  asset  managers  and 15% to our general  account,  also  managed by
Principal Global Investors.  The customers bear the investment risk and have the
right to allocate their assets among various separate  investment  sub-accounts.
The value of the annuity  fluctuates  in accordance  with the  experience of the
investment  sub-accounts  chosen by the customer.  Customers  have the option to
allocate all or a portion of their account to our general account, in which case
we credit  interest  at rates we  determine,  subject to  contractual  minimums.
Customers may also elect death benefit  guarantees.  Our major source of revenue
from variable annuities is mortality and expense fees we charge to the customer,
generally determined as a percentage of the market value of the assets held in a
separate investment sub-account.

MARKETS AND DISTRIBUTION

Our target  markets for  individual  annuities  include  owners,  executives and
employees  of small and  medium-sized  businesses,  and  individuals  seeking to
accumulate and/or eventually receive distributions of assets for retirement.  We
market both fixed and variable  annuities to both  qualified  and  non-qualified
pension plans.

We sell our individual annuity products largely through our affiliated financial
representatives,  who accounted for 63%, 74%, 82% of annuity sales for the years

                                       10

ended December 31, 2002, 2001 and 2000,  respectively.  The remaining sales were
made  through  brokerage  general  agencies,  banks,  Principal  Connection  and
unaffiliated broker-dealer firms.

PRINCIPAL BANK

Principal Bank, our electronic banking operation, is a federal savings bank that
began its activities in February 1998. It offers traditional retail banking
products and services via the telephone, Internet, ATM or by mail. Our current
products and services include checking and savings accounts, money market
accounts, certificates of deposit, consumer loans, first mortgage loans, home
equity loans, credit cards, debit cards, and a college savings program. As of
December 31, 2002, Principal Bank had 85,206 customers and $1,542.4 million in
assets, primarily generated by checking and saving accounts and certificates of
deposit.

We market our Principal Bank products and services to our existing customers and
external  prospects,  through  Principal  Connection and other means such as the
Internet, direct mail, and targeted advertising. Through Principal Bank, we also
pursue asset retention strategies with our customers who seek to transfer assets
from our other asset accumulation products by offering them our banking products
and services.

U.S. ASSET MANAGEMENT

PRINCIPAL GLOBAL INVESTORS

In 1999, we established  Principal Global Investors to consolidate our extensive
investment  management  expertise and to focus on marketing our asset management
services  to  third-party  institutional  clients.  Principal  Global  Investors
provides asset management services to our U.S. asset accumulation businesses and
third-party  institutional  clients,  as well as our other U.S.-based  segments.
Principal  Global Investors  provides a full range of asset management  services
with emphasis on three primary asset classes: (1) equity investments;  (2) fixed
income investments; and (3) real estate investments.  Principal Global Investors
manages both U.S. and international assets from offices in the U.S. and abroad.

As  of  December  31,  2002,  Principal  Global  Investors,  together  with  its
affiliates,  Principal  Real Estate  Investors  and Spectrum  Asset  Management,
managed $92.3 billion in assets. Our third-party institutional assets were $14.6
billion as of December  31,  2002,  compared to $3.5 billion on January 1, 1999,
the date Principal Global Investors was established.

PRODUCTS

Principal Global Investors  provides a full range of asset management  services,
with  emphasis on three asset  classes  through a range of  investment  vehicles
including   separate   accounts,    mutual   funds,    institutional   accounts,
collateralized debt securities and Principal Life's general account:

EQUITY INVESTMENTS.  Principal Global Investors manages equity portfolios, which
represented  $15.2 billion in assets as of December 31, 2002.  Principal  Global
Investors  provides  our  clients  with  access  to a broad  array of  domestic,
international  and emerging  markets equity  capabilities.  The domestic  equity
products are organized across growth and value styles,  with portfolios targeted
to distinct  capitalization  ranges.  As of December 31, 2002,  71% of Principal
Global  Investors  equity assets under  management were derived from our pension
products,  21% from other  products of the Principal  Financial  Group,  and the
remaining 8% from third-party institutional clients.

FIXED INCOME INVESTMENTS.  Principal Global Investors, along with Spectrum Asset
Management,  manages  $53.0  billion in fixed  income  assets as of December 31,
2002.  Principal  Global  Investors and Spectrum  Asset  Management  provide our
clients  with  access  to  investment-grade  corporate  debt,   mortgage-backed,
asset-backed and commercial mortgage-backed securities, high yield and municipal
bonds, private and syndicated debt instruments and preferred  securities.  As of
December 31, 2002,  59% of these assets were derived from our pension  products,
24% from other products of the Principal  Financial Group, and the remaining 17%
from third-party institutional clients.

                                       11

REAL ESTATE  INVESTMENTS.  Principal  Global  Investors,  through its  affiliate
Principal Real Estate  Investors,  manages a commercial real estate portfolio of
$22.0 billion of assets as of December 31, 2002. Principal Real Estate Investors
provides  our  clients  with a broad range of real  estate  investment  options,
including private real estate equity, commercial mortgages,  credit tenant debt,
construction-permanent    financing,    bridge/mezzanine    loans,    commercial
mortgage-backed  securities and real estate investment trusts.  Principal Global
Investors  had $0.7 billion of assets under  management as of December 31, 2002,
from bridge/mezzanine loans and commercial mortgages which appear on its balance
sheet.  The  commercial  mortgages  represent  the source of  mortgages  for our
commercial mortgage-backed  securitization program. As of December 31, 2002, 30%
of the commercial real estate  portfolio was derived from our pension  products,
35% from other products of the Principal  Financial Group, and the remaining 35%
from third-party institutional clients.

MARKETS AND DISTRIBUTION

Principal Global Investors  employed over 50 institutional  sales,  relationship
management and client service  professionals as of December 31, 2002, who worked
with  consultants  and  directly  with large  investors  to  acquire  and retain
third-party  institutional  clients.  For the  year  ended  December  31,  2002,
approximately  30% of new institutional  clients were originated  through direct
client contact by Principal Global Investors  representatives,  with the balance
derived from contact with both the client and their consultants.

INTERNATIONAL ASSET MANAGEMENT AND ACCUMULATION SEGMENT

Our  International  Asset  Management  and  Accumulation   segment  consists  of
Principal  International and the discontinued  operations of BT Financial Group.
Principal  International has subsidiaries in Argentina,  Chile,  Mexico and Hong
Kong and joint  ventures  in Brazil,  Japan,  Malaysia  and  India.  We focus on
countries with favorable  demographics and a trend toward private sector defined
contribution  pension systems. We entered these countries through  acquisitions,
start-up operations and joint ventures.

On October 31, 2002, we sold  substantially all of BT Financial Group to Westpac
Banking  Corporation  ("Westpac")  for  proceeds of A$900.0  million  Australian
dollars ("A$") (U.S. $499.4 million),  and future contingent proceeds in 2004 of
up to  A$150.0  million  (approximately  U.S.  $80.0  million).  The  contingent
proceeds will be based on Westpac's future success in growing retail funds under
management.

The decision to sell BT Financial Group was made with a view toward focusing our
resources,  executing  on core  strategic  priorities  and  meeting  shareholder
expectations.  Changing  market  dynamics since our  acquisition of BT Financial
Group, including industry  consolidation,  led us to conclude that the interests
of The Principal shareholders, BT Financial Group clients and staff would be
best served under Westpac's ownership.

Excluding the contingent  proceeds,  our estimated  after-tax  proceeds from the
sale are expected to be approximately U.S. $938.4 million.  This amount includes
cash proceeds,  expected tax benefits and a gain from unwinding the hedged asset
associated with debt used to acquire BT Financial Group in 1999. We have accrued
for an estimated after-tax loss on disposal of $208.7 million as of December 31,
2002.  Future  adjustments  to the  estimated  loss are  expected to be recorded
through the first half of 2003, as the proceeds from the sale are finalized.

BT Financial  Group is accounted for as a discontinued  operation and therefore,
the results of  operations  (excluding  corporate  overhead) and cash flows have
been  removed  from  our  results  of  continuing  operations  for  all  periods
presented.  Corporate  overhead allocated to BT Financial Group does not qualify
for discontinued  operations  treatment under Statement of Financial  Accounting
Standards ("SFAS") 144,  ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED
ASSETS, and therefore is still included in our results of continuing operations.
Assets and liabilities  related to BT Financial Group have been  reclassified to
assets of discontinued  operations and liabilities of discontinued operations on
the consolidated statements of financial position for all periods presented. The
results of operations  (excluding corporate overhead) for BT Financial Group are
reported as  non-recurring  items for the  International  Asset  Management  and
Accumulation segment.

                                       12

For financial  results for the  International  Asset Management and Accumulation
segment see Item 8.  "Financial  Statements  and  Supplementary  Data,  Notes to
Consolidated Financial Statements, Note 18 Segment Information".

PRINCIPAL INTERNATIONAL

The activities of Principal  International reflect our efforts to accelerate the
growth of our assets under management by capitalizing on the international trend
toward private sector defined  contribution  pension systems.  Through Principal
International,  we offer retirement products and services, annuities,  long-term
mutual funds and life insurance.  We operate through  subsidiaries in Argentina,
Chile,  Mexico and Hong Kong and joint ventures in Brazil,  Japan,  Malaysia and
India.

PRODUCTS, MARKETS AND DISTRIBUTION

ASIA/PACIFIC REGION

HONG KONG.  Our  subsidiary  in Hong Kong is actively  competing  in the defined
contribution   pension  plan  market.  The  government  requires  employers  and
employees each to contribute 5% of an employee's income to a Mandatory Provident
Fund. We target small and medium-sized employers and distribute products through
strategic  alliances with  insurance  companies,  mutual funds or banks,  direct
marketing and through our own sales representatives. Our strategic partners help
distribute  our  Mandatory  Provident  Fund  products and  services,  or use our
administrative  and  investment  services in their own  products.  Our Mandatory
Provident  Fund  products  and services are marketed by agents under the various
distribution arrangements we have with our strategic partners.

INDIA.  We  own  50%  of   IDBI-Principal   Asset  Management   Company,   Ltd.,
("IDBI-Principal"),  a mutual fund  company.  Our joint  venture  partner is the
Industrial  Development Bank of India,  ("IDBI"),  a premier development bank in
India.  In addition to the current mutual fund business,  we are  positioning to
compete in the emerging  pension and long-term  savings market in India. We sell
our mutual funds through  regional  offices located  throughout India and IDBI's
banking offices.

JAPAN. We own 50% of  ING/Principal  Pensions  Company,  Ltd., which sells a new
defined  contribution  pension plan, as a result of legislation  adopted in June
2001.  This  company  targets  small  and  medium-sized  businesses  and  offers
full-service  record-keeping and plan administration.  Our joint venture partner
is ING  Insurance  International  B.V.,  a member of the ING Group.  Our pension
sales  representatives  distribute our products  through ING Life's  independent
agents  to  existing  ING Life  business  clients  and also  through  additional
third-party  distribution  relationships  developed  by  ING/Principal  Pensions
Company, Ltd.

MALAYSIA.  We own 30% of  Commerce  Asset  Fund  Managers  Sendirian  Berhad and
Commerce Trust Berhad, two mutual fund and asset management companies. Our joint
venture  partner is Commerce  Asset  Holdings,  a large  Malaysian  bank holding
company.  The company  markets mutual funds through  wholesale bank channels and
its own sales force.

LATIN AMERICA

ARGENTINA. We own a life insurance company and a retirement annuity company (our
"Companies").  Principal  Life  Compania de Seguros,  S.A.,  our life  insurance
company,  targets small and medium-sized employers. We sell group and individual
life insurance products through independent  brokers.  Principal Retiro Compania
de  Seguros  de  Retiro,  S.A.,  our  annuity  company,  provides  annuities  to
individuals  exiting the compulsory  private  pre-retirement  asset accumulation
system. We distribute  annuity products through dedicated sales  representatives
who sell  directly to customers  and through  independent  brokers in Argentina.
While recent adverse  economic and political events in Argentina are expected to
impact our ongoing  operations,  we have been  positioning our Companies to work
through  this  environment  since  mid-2001  and expect to manage  revenues  and
expenses accordingly.

                                       13

BRAZIL. We own 46% of BrasilPrev  Seguros e Previdencia S.A.  ("BrasilPrev"),  a
private  pension  company in Brazil,  through a joint venture  arrangement  with
Banco do Brasil,  Brazil's  largest  bank.  We are Banco do  Brasil's  exclusive
partner for distributing  pension,  retirement and asset accumulation  products.
BrasilPrev  provides  defined  contribution   products  and  annuities  for  the
retirement needs of employers and individuals.  Banco do Brasil's employees sell
directly  to  individual  clients  through  its  bank  branches.   In  addition,
BrasilPrev   reaches  corporate  clients  through  two  wholesale   distribution
channels:  (1) a wholesale  distribution  channel distributes products through a
network of independent  brokers who sell to the public,  and (2) another channel
coordinates with Banco do Brasil's  corporate account  executives to reach Banco
do Brasil's existing corporate clients.

CHILE.  We own  Principal  Compania  de Seguros de Vida  Chile  S.A.,  a Chilean
insurance  company,  that primarily  sells  retirement  annuities to individuals
exiting  the  pre-retirement  accumulation  system.  In July 1998,  we  acquired
Compania  de  Seguros  de Vida El  Roble,  S.A.,  or El Roble,  a  Chilean  life
insurance  company.  We have fully  integrated  the  operations of El Roble with
those of  Principal  Compania  de Seguros de Vida Chile S.A. We  distribute  our
annuity products  through a network of over 60 captive agents and  approximately
450 independent agents as of December 31, 2002. We utilize sales representatives
who sell through  brokers,  and we also market life insurance  products to small
and  medium-sized  businesses and to  individuals  through  brokers.  Based upon
assets,  we were ranked as the fourth largest life insurance company in Chile as
of September 30, 2002,  according to the  Superintendencia de Valores y Seguros,
the  Chilean  regulatory  agency  for  insurance  companies.  We also own 60% of
Andueza  &  Principal  Creditos   Hipotecarios  S.A.,  in  a  joint  partnership
arrangement with Andueza y Compania Agentes de Mutuos  Hipotecarios S.A. Through
this  business,  we  originate,  sell and service  mortgage  loans in Chile.  In
November 2001, we acquired 70% of Tanner Administradora de Fondos Mutuos S.A., a
well-known Chilean Mutual Funds Administrator,  as part of our strategy to enter
the Voluntary Defined Contribution Market in 2002.

MEXICO.  We own Principal  Mexico Compania de Seguros S.A. de C.V.,  ("Principal
Seguros"),  a life insurance  company,  Principal  Afore S.A. de C.V., a private
pension company which manages and  administers  individual  retirement  accounts
under  the  mandatory  privatized  social  security  system  in  effect  for all
employees  in  Mexico,  and  Principal  Pensiones  S.A.  de  C.V.,   ("Principal
Pensiones"),  an  annuity  company.  Our  focus  is on both  pre-retirement  and
post-retirement  savings plans.  We distributed  Principal  Afore S.A. de C.V.'s
products and services  through a dedicated  sales force of  approximately  1,200
sales representatives as of December 31, 2002, who sell directly to individuals.
As  of  December  31,  2002,   Principal   Pensiones  used  117  employed  sales
representatives  and  independent  brokers to distribute  annuities  directly to
customers.  Our life  insurance  company,  Principal  Seguros,  distributes  its
products  through an array of  independent  agents and brokers.  In May 2002, we
acquired  100% of Zurich Afore S.A. de C.V.  from Zurich  Financial  Services to
strengthen our competitive  position in the Mexican pension market.  On November
8, 2002,  we signed an agreement  to acquire  AFORE  Tepeyac  S.A. de C.V.  from
Mapfre  American Vida, Caja Madrid and Mapfre Tepeyac for $590.0 million Mexican
Pesos  (approximately  U.S.  $58.0  million).  We expect this  transaction to be
completed in the first half of 2003.

                                       14

LIFE AND HEALTH INSURANCE SEGMENT

Our Life and  Health  Insurance  segment  offers (1)  individual  and group life
insurance (2) group health  insurance and (3)  individual  and group  disability
insurance throughout the U.S.

For  financial  results  for the Life and Health  Insurance  segment see Item 8.
"Financial  Statements and Supplementary  Data, Notes to Consolidated  Financial
Statements, Note 18 Segment Information".

INDIVIDUAL AND GROUP LIFE INSURANCE

We began as an individual life insurer in 1879. We began as a group life insurer
in 1941.  Our U.S.  operations  served  approximately  671,000  individual  life
policyholders  with $88.0  billion of individual  life  insurance in force as of
December 31, 2002. Group life operations  provided  products and services to 2.6
million  covered lives with $71.8 billion of group life insurance in force as of
December 31, 2002.

We offer a wide array of individual and group life  insurance  products aimed at
serving our customers' financial needs throughout their lives.

PRODUCTS AND SERVICES

Our individual and group life insurance products include: universal and variable
universal life insurance, traditional life insurance and group life insurance.

UNIVERSAL  AND  VARIABLE  UNIVERSAL  LIFE  INSURANCE.   Universal  and  variable
universal life insurance products offer life insurance protection for which both
the premium and the death  benefit  may be  adjusted  by the  policyholder.  Our
growth in individual  life insurance  sales through  December 31, 2002, has come
mainly from variable universal life insurance  products.  Universal and variable
universal life insurance represents 29% of individual life insurance premium and
deposits  for the  year  ended  December  31,  2002 and 27% of  individual  life
insurance in force as of December 31, 2002.  Variable  universal  life insurance
products  represented 63% of our universal and variable universal life insurance
deposits  for the year ended  December  31,  2002.  We credit  deposits,  net of
specified  expenses,  to an account  maintained for the  policyholder.  Specific
charges are made  against the account for the cost of insurance  protection  and
expenses.  For universal life contracts,  the entire account balance is invested
in our general account. Interest is credited to the policyholder's account based
on the earnings on general  account  investments.  For variable  universal  life
contracts,  the  policyholder may allocate the account balance among our general
account  and a variety of  separate  account  choices.  Interest  is credited on
amounts  allocated  to the general  account in the same manner as for  universal
life. Net investment  performance on separate  account  investments is allocated
directly to the policyholder  accounts.  The  policyholder  bears the investment
risk on separate  account  investments.  Our  profitability is based on charging
sufficient  asset-based,  premium-based and risk-based fees to cover the cost of
insurance and expenses.

TRADITIONAL LIFE INSURANCE.  Traditional life insurance  includes  participating
whole  life,   adjustable  life  products  and  term  life  insurance  products.
Participating  products and term life insurance products represented 16% and 5%,
respectively, of our individual life insurance sales for the year ended December
31, 2002 and 51% and 22% of  individual  life  insurance in force as of December
31, 2002.  Adjustable life insurance  products  provide a guaranteed  benefit in
return for the payment of a fixed premium and allow the  policyholder  to change
the premium and face amount combination. Sales of participating products consist
primarily of premium  increase  adjustments  on our  adjustable  life  products.
Participating  policyholders  may receive  policy  dividends  as declared by the
board of  directors  of  Principal  Life if the  combined  result of  experience
factors,  including  interest  earnings,  mortality  experience  and expenses is
better than the assumptions  used in setting the premium.  Our  profitability is
based on keeping a portion of the  favorable  experience  before  crediting  the
remainder to policyholders. Term insurance products provide a guaranteed benefit
for a  specified  period of time in return for the  payment of a fixed  premium.
Policy dividends are not paid on term insurance.  Our  profitability is based on
charging  a  premium  that is  sufficient  to cover  the cost of  insurance  and
expenses while providing us with an appropriate return.

                                       15

GROUP LIFE INSURANCE.  Group life insurance  provides  coverage to employees and
their dependents for a specified  period.  As of December 31, 2002, we had $71.8
billion of group life insurance in force  covering 2.6 million  lives.  We carry
both traditional  group life insurance that does not provide for accumulation of
cash values and group  universal  life,  which does provide for  accumulation of
cash  values.   Our  group  life  insurance  business  remains  focused  on  the
traditional annually renewable term product. Group term life and group universal
life accounted for 91% and 9%,  respectively,  of our total group life insurance
in force as of December  31, 2002.  According  to the 2001 LIMRA  International,
Inc.  Sales and In Force  Reports,  we were ranked first in the U.S. in terms of
the  number of life  insurance  contracts  in force  and  fourth in terms of the
number of contracts sold.

GROUP HEALTH INSURANCE

We began offering group health insurance in 1941. We offer a wide array of group
health insurance  products including  medical,  dental and vision insurance.  In
addition,  we offer administrative  services on a fee-for-service basis to large
employers in the U.S. As of December 31, 2002, we provided products and services
to  673,000  medical  covered  members,   1,460,000  dental/vision  members  and
1,834,000  administrative  services only members on a duplicated basis.  Members
may be counted multiple times if they have more than one product.

PRODUCTS AND SERVICES

Our  U.S.  group  health  insurance  products  and  services  include:   medical
insurance, dental and vision insurance and fee-for-service.

GROUP MEDICAL INSURANCE.  Group medical insurance provides partial reimbursement
of medical expenses for insured  employees and their  dependents.  Employees are
responsible  for  deductibles,  co-payments  and  co-insurance.  We believe  our
products are well-positioned to address our customers'  preference for a variety
of  provider  choices  and  preferred  provider  discounts.   We  do  not  offer
unrestricted  indemnity and no longer offer the pure HMO model. As of January 1,
2002,  we  entered  into a  reinsurance  agreement,  which  covers  all  medical
business. Through our wholly-owned subsidiary,  HealthRisk Resource Group, Inc.,
we also negotiate  discounts with providers on claims for which we have no other
pre-arranged discount.

GROUP  DENTAL AND VISION  INSURANCE.  Group  dental and vision  insurance  plans
provide partial reimbursement for dental and vision expenses. As of December 31,
2002, we had over 34,000 group dental and vision insurance policies in force. We
were the sixth largest  group  indemnity  dental  insurer in terms of 2002 sales
through September 30, 2002, based on total indemnity,  and the second largest in
terms of number of contracts/employer  groups in force based on total indemnity,
according to the September,  30, 2002,  LIMRA  International,  Inc. Sales and In
Force Reports.  In addition to indemnity  dental, we offer a prepaid dental plan
in Arizona through our Dental Net subsidiary.

FEE-FOR-SERVICE.  We offer administration of group disability,  medical,  dental
and vision services on a fee-for-service basis to larger self-insured employers.

INDIVIDUAL AND GROUP DISABILITY INSURANCE

We began  as an  individual  disability  insurer  in  1952.  We began as a group
disability  insurer in 1941. Our U.S.  operations  served  approximately  76,000
individual  disability  policyholders  as of December 31, 2002. Group disability
provided  products and services to  approximately  700,000 covered members as of
December 31, 2002.

                                       16

We offer a wide array of  individual  and group  disability  insurance  products
aimed at serving our customer's financial needs throughout their lives.

PRODUCTS AND SERVICES

INDIVIDUAL  DISABILITY  INSURANCE.   Individual  disability  insurance  products
provide  a  benefit  in the  event of the  disability  of the  insured.  In most
instances,  this  benefit  is  in  the  form  of a  monthly  income.  Individual
disability  income  represents 46% of total disability  revenue.  In addition to
income  replacement,  we offer products to pay business  overhead expenses for a
disabled  business  owner,  and for the purchase by the other business owners of
the disabled  business owner's  interests in the business.  Our profitability is
based on charging a premium  that is  sufficient  to cover  claims and  expenses
while  providing  us with  an  appropriate  return.  Our  individual  disability
business was ranked  seventh in the U.S. as of December  31,  2001,  in terms of
premium in force,  according  to the 2001  LIMRA  International,  Inc.  In Force
Report.

GROUP DISABILITY  INSURANCE.  Group disability  insurance  provides a benefit to
insured  employees who become disabled.  Our group  disability  products include
both short-term and long-term disability. Long-term disability represents 35% of
total  disability  revenue while short term  disability  represents 19% of total
disability revenue. In addition,  we provide disability  management services, or
rehabilitation  services,  to assist individuals in returning to work as quickly
as possible  following  disability.  We also work with  disability  claimants to
improve the approval rate of Social Security benefits,  thereby reducing payment
of  benefits  by the  amount of Social  Security  payments  received.  Our group
disability  business was ranked  seventh in the U.S. as of December 31, 2001, in
terms of number of  contracts/employer  groups in force,  according  to the 2001
LIMRA International, Inc. In Force Reports.

MARKETS AND DISTRIBUTION

We sell our individual life and individual  disability income products in all 50
states and the District of Columbia.  Our target market is owners and executives
of small and medium-sized businesses,  as well as other individuals.  Cash value
life insurance  provides  valuable benefits at death and funding for needs prior
to death,  including  funding  employee  benefit  liabilities,  estate planning,
business  continuation or buy-out. We design, market and administer our products
to meet these needs. We have also recently established a number of marketing and
distribution  alliances to increase the sales of individual  insurance  products
with firms such as: AXA,  Highland  Capital,  AG  Edwards,  Wells  Fargo,  Piper
Jaffrey,  and BISYS.  Variable  universal  life  insurance  is popular  for many
reasons, including higher historical performance of equity investments resulting
in a lower cost of  insurance  and an increase in values  available  while still
alive. We also offer products  specifically designed to meet the estate planning
needs of  business  executives.  Our  individual  disability  products  are also
tailored to the needs of this market.  A single large  individual life insurance
case of  approximately  $10.0 million was sold in 2002.  No comparable  case was
sold in 2001 nor is  anticipated  for  2003.  Excluding  this  case,  small  and
medium-sized  business sales represented 65% of individual life sales and 45% of
individual disability sales for the year ended December 31, 2002, based on first
year annualized premium.

We distribute our individual insurance products primarily through our affiliated
financial   representatives  and  secondarily   through   independent   brokers.
Affiliated financial representatives were responsible for 72% of individual life
insurance  sales  (excluding the $10.0 million large case described  above,  65%
including this large case),  based on first year annualized premium for the year
ended December 31, 2002. We had 1,209 affiliated financial representatives in 46
offices as of December 31, 2002. Although they are independent  contractors,  we
have a close  tie with  affiliated  financial  representatives  and  offer  them
benefits,  training and access to tools and expertise.  Non-affiliated financial
representatives   comprised  76%  of  individual  disability  sales  (first-year
annualized premium) for the year ended December 31, 2002.

We market our group  life,  disability,  medical,  dental  and vision  insurance
products to small and  medium-sized  businesses  to  complement  our  retirement
services  and  individual  insurance  products.  We market  our  fee-for-service
administration   capabilities  to  larger  employers  that   self-insure   their
employees' health insurance benefits.

                                       17

We sell our group life, disability,  dental and fee-for-service  products in all
50 states and the  District of  Columbia.  We sell vision  coverage in 49 states
plus the  District  of  Columbia.  We have  chosen to market  our group  medical
insurance  in 35 states and the  District  of  Columbia,  which we believe  have
attractive market conditions.  We consider a market to be attractive if there is
a lack of deep penetration by HMOs and a favorable  regulatory  environment.  We
continually adapt our products and pricing to meet local market conditions.

We distribute our group insurance products through  independent benefit brokers,
consultants,  financial  planners and the same channels that sell our U.S. asset
accumulation  products. To reach these independent benefit brokers,  consultants
and financial  planners,  we employ three types of wholesale  distributors:  our
medical sales  representatives,  our non-medical  sales  representatives  and an
independent wholesale organization, Rogers Benefit Group, dedicated to marketing
group life,  health and  disability  insurance  products.  We have also formed a
number of strategic distribution alliances with National Brokerages and regional
Brokerage Agencies.

As of December 31, 2002, we had 95 medical and non-medical sales representatives
and 52 service  representatives in 54 offices. Our medical and non-medical sales
representatives  accounted for 61%, 64% and 60% of our group insurance sales for
the  years  ended  December  31,  2002,  2001  and  2000,  respectively.   These
representatives act as a unique combination of wholesalers and brokers. They are
an integral part of the sales process alongside the agent or independent broker.
In addition to a high level of involvement in the sales process, the group sales
force plays a key role in the ongoing servicing of the case by: providing local,
responsive services to our customers, such as renewing contracts, revising plans
and solving any  administrative  issues;  communicating the customers' needs and
feedback to us; and helping  employees  understand  the  benefits of their plan.
Compensation for the group sales force is a blend of salary and production-based
incentives.

Rogers Benefit Group is a marketing and service organization that represents
major high quality insurance carriers specializing in individual and group
medical programs, and group life, disability and dental plans. Our relationship
with Rogers Benefit Group dates back to its creation in 1970. It accounted for
39%, 36% and 40% of our group insurance sales for the years ended December 31,
2002, 2001 and 2000, respectively.

MORTGAGE BANKING SEGMENT

We began our  residential  lending  activities  in 1936.  Our  Mortgage  Banking
segment is primarily  engaged in residential  loan production and loan servicing
in the U.S. Through our wholly-owned subsidiary, Principal Residential Mortgage,
Inc.,  ("Principal  Residential  Mortgage"),  we originate,  purchase,  sell and
service mortgage loans. We principally  originate "A" quality home mortgages and
do not originate subprime mortgages to any material degree, nor do we service or
purchase any subprime mortgage loans. "A" quality loans are generally defined as
loans eligible for sale to the Federal National Mortgage  Association,  ("Fannie
Mae"),  Federal Home Loan Mortgage  Corporation,  ("Freddie  Mac") and using the
Government National Mortgage Association,  ("Ginnie Mae") Program.  According to
INSIDE  MORTGAGE  FINANCE,  based on the  unpaid  balance  of $107.7  billion in
mortgage loans in its servicing  portfolio,  Principal  Residential Mortgage was
ranked as the eleventh largest mortgage  servicer in the U.S. as of December 31,
2002, and was ranked  twelfth in production  with $46.8 billion of new loans for
the year ended December 31, 2002.

For financial results for Mortgage Banking see Item 8. "Financial Statements and
Supplementary Data, Notes to Consolidated Financial Statements,  Note 18 Segment
Information".

LOAN PRODUCTION

Our loan  production  strategy  is to  manage  our four  distribution  channels:
correspondent  lending,  retail  origination,  wholesale  lending and  Principal
Residential  Mortgage  Direct,  in a  manner  that is  consistent  with our loan
servicing   strategy.   We  obtain  new  customers  through  each  of  our  four
distribution   channels,   with  the  majority   being   obtained   through  our
correspondent  lending and wholesale lending operations.  Effective February 28,
2003  we  will  discontinue   mortgage  loan  origination   through  our  retail

                                       18

origination  channel.  Direct lending to retail customers will continue but will
be done entirely through our Mortgage Direct channel.

We originate and purchase conventional mortgage loans, mortgage loans insured by
the Federal  Housing  Administration,  ("FHA"),  and  mortgage  loans  partially
guaranteed by the  Department  of Veterans  Affairs,  ("VA").  A majority of our
conventional  loans are conforming loans that qualify for inclusion in guarantee
programs  sponsored  by  Fannie  Mae  or  Freddie  Mac.  The  remainder  of  the
conventional  loans  are  non-conforming  loans,  such as  jumbo  loans  with an
original  balance in excess of $300,700 for loans  delivered  before  January 1,
2003,  and $322,700 for loans  delivered  after  January 1, 2003, or other loans
that do not meet Fannie Mae or Freddie Mac guidelines.  We neither originate nor
purchase "B" or "C" mortgages,  defined as lower credit quality loans.  However,
we are  beginning to originate or purchase "A-" quality  residential  loans that
are  eligible  for sale to Fannie Mae or Freddie  Mac. We believe  this  segment
presents  opportunities  to further  penetrate the expanding U.S. housing market
without presenting the types of risks inherent in the subprime sector.

Our guidelines for  underwriting  conventional  conforming loans comply with the
underwriting criteria employed by Fannie Mae and Freddie Mac. Our guidelines for
underwriting  FHA-insured  and  VA-guaranteed  loans  comply  with the  criteria
established  by those  government  entities.  Our  underwriting  guidelines  and
property  standards  for  conventional  non-conforming  loans  are  based on the
underwriting  standards  employed  by  private  investors  for  such  loans.  In
addition,  conventional  loans having a loan-to-value  ratio greater than 80% at
origination,  which are  originated  or  purchased  by us, are  required to have
private mortgage insurance.  Insurance premium is paid either by the borrower or
the  lender.  Our  underwriting   standards  generally  allow  loan-to-value  at
origination of up to 97% for mortgage loans with an original  principal  balance
of up to $300,700 for loans  delivered  before  January 1, 2003 and $322,700 for
loans  delivered  after  January 1, 2003.  To  determine  whether a  prospective
borrower has  sufficient  monthly  income  available to meet: (1) the borrower's
monthly  obligation  on the  proposed  mortgage  loan  and (2)  monthly  housing
expenses  and other  financial  obligations,  we generally  use the  guidelines,
techniques and technology tools provided by our investors.

As a mortgage banker,  substantially all loans we originate or purchase are sold
without  recourse,  subject  in the case of VA loans to the  limits  of the VA's
guaranty. Conforming conventional loans are generally pooled by us and exchanged
for  securities  guaranteed by Fannie Mae or Freddie Mac.  These  securities are
then sold to national or regional broker-dealers. Substantially all conventional
loans  securitized  through  Fannie  Mae or  Freddie  Mac are sold,  subject  to
representations  and  warranties  made by us on a  non-recourse  basis,  whereby
foreclosure  losses are  generally  a  liability  of Fannie Mae or Freddie  Mac.
Substantially all of our FHA-insured and  VA-guaranteed  mortgage loans sold are
securitized  through  the  Ginnie  Mae  program.  The  FHA  insures  us  against
foreclosure  loss and the VA provides  partial  guarantees  against  foreclosure
loss.  To guarantee  timely and full payment of principal and interest on Fannie
Mae,  Freddie  Mac and Ginnie Mae  securities,  we pay  guarantee  fees to these
agencies.

We are  actively  engaged  in the loan  production  business  via the  following
distribution channels: correspondent lending; retail origination;  wholesale and
Principal Residential Mortgage Direct.

CORRESPONDENT  LENDING.  As of December  31,  2002,  we had  contracts  with 591
lending  institutions  across the U.S. to purchase prime credit quality loans on
an ongoing  basis.  According to INSIDE  MORTGAGE  FINANCE,  as of September 30,
2002,  we were the sixth largest  correspondent  lender in the U.S. High quality
financial  institutions are approved to do business with us only after we review
their reputation,  financial strength and lending expertise.  Our "Correspondent
Lending Service Center" on our Internet  website  currently offers online access
to loan registration, an interactive sellers' procedure manual,  seller-specific
rate/price  quotations and  simplified  contact  information.  We are developing
online technologies to offer automated underwriting systems,  pipeline reporting
and account  management tools and electronic  business-to-business  capabilities
for our correspondent sellers.  Additionally,  we are forging numerous alliances
with third-party  service  providers to further  streamline  processes,  improve
productivity and provide outstanding customer service.

RETAIL ORIGINATION. Our retail channel originates prime credit quality mortgages
through  referrals from real estate agents,  builders and personal  contact with

                                       19

consumers  through our nationwide  network,  which was comprised of 318 mortgage
loan officers located in 83 offices as of December 31, 2002.  Effective February
28,  2003 we will  discontinue  mortgage  loan  origination  through  our retail
origination  channel.  Direct lending to retail customers will continue entirely
through our Principal Residential Mortgage Direct channel.

WHOLESALE.  Our wholesale  channel  originates or purchases prime credit quality
loans through 13 regional offices that worked directly with 3,465  participating
mortgage  loan brokers  across the U.S. as of December 31, 2002.  Mortgage  loan
brokers  are  approved  only  after a review of their  reputation  and  mortgage
lending  expertise  and  financial  condition.  Through the  "Wholesale  Lending
Service Center" on our Internet website,  wholesale lenders can retrieve contact
information  and seller  specific  interest rate  quotations.  We have developed
plans and are working to provide  online  registration,  automated  underwriting
system,  pipeline reporting and account management  services to our brokers.  We
are also developing electronic document delivery and execution  capabilities for
wholesale sellers to exchange secure documents with wholesale purchasers.

PRINCIPAL  RESIDENTIAL  MORTGAGE DIRECT.  Our Mortgage Direct channel originates
prime credit quality  mortgage loans through direct contact with current and new
customers via telephone and the Internet. The goal of our Internet channel is to
give our current customers access to a customer-focused  website,  allowing them
to obtain home financing quickly,  confidently and at an attractive value, while
preserving  acceptable  profit margins for us. We believe that providing current
customers  with choice,  ease of access,  convenient  processes  and  simplified
procedures will cause a growing percentage of our customers to choose us for all
of their home financing needs.

LOAN SERVICING

We service  residential  mortgages in return for a servicing  fee. Our servicing
division  receives and  processes  mortgage  payments  for home  owners,  remits
payments to  investors  and others,  holds  escrow  funds,  contacts  delinquent
borrowers,  supervises foreclosures and property dispositions and performs other
miscellaneous duties related to loan administration. We acquire only "A" or "A-"
quality home  mortgages  for  servicing.  This practice  simplifies  the systems
necessary  for  servicing  and  reduces  the  amount of time and money  spent on
collections and foreclosure  administration  activities. Our goal is to service,
on a non-recourse basis, a majority of the loans that we originate. In addition,
we periodically  purchase servicing rights,  also on a non-recourse basis to us,
on prime quality mortgage loans originated by other lenders. Our purchases focus
primarily on the acquisition of Fannie Mae, Freddie Mac and Ginnie Mae servicing
rights  packages.  Factors  which  influence  the  management  of the  servicing
portfolio  include the expected  long-term and short-term  profitability  of the
servicing rights,  customer retention objectives and the potential cross-selling
of  retirement  investments  and  insurance  and other  products to home owners.
Servicing  contracts  acquired  accounted  for  22%  of our  mortgage  servicing
portfolio as of December 31, 2002.

The weighted-average interest rate in our servicing portfolio as of December 31,
2002 was 6.66%.  As of December 31, 2002,  fixed rate loans comprised 96% of the
servicing  portfolio and the  weighted-average  interest rate of the  fixed-rate
loans was 6.71%.

In  November  1999,  we  established  a  wholly-owned   reinsurance  subsidiary,
Principal Mortgage  Reinsurance  Company ("PMRC"),  which reinsures a portion of
the primary mortgage insurance on loans that we originate or purchase. In return
for our  participation  in the mortgage  insurance risk, we receive a portion of
the mortgage insurance premium.

CORPORATE AND OTHER SEGMENT

Our  Corporate  and Other  segment holds the assets in excess of those needed by
the four  operating  segments.  These  assets are  primarily  comprised of fixed
income securities,  common stock and real estate investments. All long-term debt
and inter-segment eliminations are included in this segment.

For financial results for Corporate and Other see Item 8. "Financial  Statements
and  Supplementary  Data, Notes to Consolidated  Financial  Statements,  Note 18
Segment Information".

                                       20

COMPETITION

Competition in our operating segments is based on a number of factors including:
service, product features, price, investment performance,  commission structure,
distribution  capacity,  financial  strength  ratings and name  recognition.  We
compete for customers and distributors with a large number of financial services
companies  such as  banks,  mutual  funds,  broker-dealers,  insurers  and asset
managers.  Some of these  companies  offer a  broader  array of  products,  more
competitive  pricing,  greater diversity of distribution  sources,  better brand
recognition or, with respect to insurers,  higher  financial  strength  ratings.
Some may also have greater financial resources with which to compete or may have
better investment performance at various times.

Competition  in the  retirement  services  market is very  fragmented.  Our main
competitors in this market include  Fidelity,  Nationwide,  AXA, Mass Mutual and
Manulife.  We believe the  infrastructure  and system support needed to meet the
needs of the small and medium-sized  business market is a significant barrier to
entry for our  competitors.  Many of our competitors in the mutual fund industry
are  larger,  have been  established  for a longer  period of time,  offer  less
expensive  products,  have deeper  penetration in key distribution  channels and
have more  resources  than we do. There were over 8,307 mutual funds in the U.S.
as of December 31, 2001,  according to the  Investment  Company  Institute  2001
Mutual Fund Fact Book. The institutional  asset management market has grown at a
rapid pace over the last  decade.  Our  primary  competitors  in this market are
large  institutional  asset management firms, such as J.P. Morgan Chase,  Morgan
Stanley  Investment  Management and T. Rowe Price, some of which offer a broader
array of  investment  products  and  services  and are better  known.  The asset
management  business  has  relatively  few  barriers  to entry  and  continually
attracts new entrants.  The variable annuity market is also highly  competitive.
As we expand into  additional  distribution  channels for this product,  we will
face  strong  competition  from  Nationwide  and  Hartford.  Competition  in the
international  markets in which we operate comes  primarily from local financial
services  firms and other  international  companies  operating on a  stand-alone
basis or in a partnership with local firms, including ING, AXA, Allianz and AIG.
In the highly  competitive life and health insurance  business,  our competitors
include other  insurers such as UNUM,  Guardian,  The  Northwestern  Mutual Life
Insurance  Company,  Manulife,  Blue Cross and Blue  Shield  organizations,  and
health  maintenance  organizations  such as United  HealthCare  and  Aetna.  The
mortgage  banking  industry is also highly  competitive  and  fragmented  and we
compete  with  other  mortgage  bankers,  commercial  banks,  savings  and  loan
associations,  credit unions and insurance  companies  such as  Countrywide  and
Wells Fargo.

We believe we distinguish ourselves from our competitors through our:

o    full-service platform;

o    strong customer relationships;

o    focus on financial performance; and

o    performance-oriented culture.

RATINGS

Insurance  companies are assigned  financial strength ratings by rating agencies
based upon factors  relevant to  policyholders.  Ratings  provide both  industry
participants  and  insurance  consumers   meaningful   information  on  specific
insurance companies. Higher ratings generally indicate financial stability and a
stronger ability to pay claims.

Principal Life has been assigned the following ratings:

                                       21

RATING AGENCY             FINANCIAL STRENGTH RATING    RATING STRUCTURE

A.M. Best Company, Inc.   A+ ("Superior") with a       Second highest of 16
                          stable outlook               rating levels
Fitch Ratings             AA ("Very Strong") with      Third highest of 24
                          a stable outlook             rating levels
Moody's Investors Service Aa3 ("Excellent") with       Fourth highest of 21
                          a stable outlook             rating levels
Standard & Poor's Rating  AA ("Very Strong") with      Third highest of 21
Services                  a negative outlook           rating levels

A.M.  Best's ratings for insurance  companies range from "A++" to "S". A.M. Best
indicates  that "A++" and "A+" ratings are assigned to those  companies  that in
A.M. Best's opinion have achieved superior overall  performance when compared to
the norms of the life insurance  industry and have demonstrated a strong ability
to meet their  policyholder and other contractual  obligations.  Fitch's ratings
for  insurance  companies  range from "AAA" to "D".  Fitch  indicates  that "AA"
ratings  are  assigned  to those  companies  that  have  demonstrated  financial
strength  and a very strong  capacity to meet  policyholder  and  contractholder
obligations on a timely basis.  Moody's  ratings for insurance  companies  range
from "Aaa" to "C". Moody's indicates that "A ("Excellent")" ratings are assigned
to those companies that have demonstrated excellent financial security. Standard
& Poor's  ratings for insurance  companies  range from "AAA" to "R".  Standard &
Poor's  indicates  that "AA" ratings are assigned to those  companies  that have
demonstrated very strong financial security. In evaluating a company's financial
and  operating  performance,  these rating  agencies  review its  profitability,
leverage  and  liquidity,  as well as its book of  business,  the  adequacy  and
soundness  of its  reinsurance,  the quality and  estimated  market value of its
assets,  the adequacy of its policy  reserves,  the experience and competency of
its management and other factors.

We believe  that our strong  ratings are an important  factor in  marketing  our
products to our distributors and customers, since ratings information is broadly
disseminated  and generally used  throughout the industry.  Our ratings  reflect
each rating agency's opinion of our financial  strength,  operating  performance
and ability to meet our  obligations to  policyholders  and are not  evaluations
directed  toward the protection of investors.  Such ratings are neither a rating
of securities nor a recommendation to buy, hold or sell any security,  including
our common stock.

EMPLOYEES

As of December  31,  2002,  we had 15,038  employees.  None of our  employees is
subject to collective  bargaining  agreements  governing  employment with us. We
believe that our employee relations are satisfactory.

INTERNET WEBSITE

Our Internet website can be found at  www.principal.com.  We make available free
of charge on or through our  Internet  website,  access to our annual  report on
Form 10-K,  quarterly  reports on Form 10-Q,  current  reports on Form 8-K,  and
amendments  to those  reports  filed or furnished  pursuant to Section  13(a) or
15(d) of the Exchange Act as soon as reasonably  practicable after such material
is filed with or furnished to the Securities and Exchange Commission.

ITEM 2.  PROPERTIES

We own 26  properties  in our home  office  complex in Des  Moines,  Iowa and in
various other locations. Of these 26 properties, 11 are office buildings, 1 is a
warehouse facility,  13 are parking lots and ramps, and 1 is a park/green space.
Of the office  and  warehouse  space,  we occupy  approximately  93% of the 2.78
million  square  feet of space in these  buildings.  The balance of the space in
these buildings is rented to commercial tenants. Of the parking properties there
are  approximately  6,918  stalls.  We lease  office  space for various  offices
located throughout the U.S. and  internationally.  We believe that our owned and
leased properties are suitable and adequate for our current business operations.

                                       22

ITEM 3.  LEGAL PROCEEDINGS

We are a plaintiff  or defendant in actions  arising out of our  operations.  We
are, from time to time, also involved in various governmental and administrative
proceedings.  While the outcomes of any pending or future  litigation  cannot be
predicted,  management does not believe that any pending  litigation will have a
material  adverse  effect on our  business,  financial  condition  or results of
operations.  However,  no assurances can be given that such litigation would not
materially and adversely affect our business,  financial condition or results of
operations.

We are regularly involved in litigation,  both as a defendant and as a plaintiff
but  primarily as a defendant.  Litigation  naming us as a defendant  ordinarily
arises out of our business  operations as a provider of medical insurance,  life
insurance,  annuities and residential mortgages. In addition, regulatory bodies,
such as state  insurance  departments,  the SEC,  the  National  Association  of
Securities  Dealers,  Inc., the Department of Labor and other regulatory  bodies
regularly make inquiries and conduct  examinations or investigations  concerning
our compliance with, among other things,  insurance laws, securities laws, ERISA
and laws governing the activities of broker-dealers.

Other companies in the life insurance industry have historically been subject to
substantial  litigation resulting from claims,  disputes and other matters. Most
recently,  such companies have faced extensive  claims,  including  class-action
lawsuits,   alleging   improper  life  insurance  sales  practices.   Negotiated
settlements of such class-action  lawsuits have had a material adverse effect on
the business,  financial condition and results of operations of certain of these
companies.

Principal  Life was a defendant  in two  class-action  lawsuits,  which  alleged
improper sales practices.  We have settled these two  class-action  lawsuits and
have  accrued  a loss  reserve  for  our  best  estimate  based  on  information
available.  We believe this reserve is sufficient to cover our obligation  under
the settlements.  A number of persons and entities who were eligible to be class
members have excluded  themselves  from the class (or "opted  out"),  as the law
permits them to do. We have been  notified that some of those who opted out from
the class filed  lawsuits  and made  claims  similar to those  addressed  by the
settlement.  Most of those lawsuits and claims have resolved.  We accrued a loss
reserve for our best estimate of our potential exposure to the suits and claims.
As  uncertainties  continue to exist in resolving this matter,  it is reasonably
possible  that all the  actual  costs of the suits and claims  could  exceed our
estimate. The range of any such costs cannot be presently estimated; however, we
believe the  additional  cost will not have a material  impact on our  business,
financial condition or results of operations.

A lawsuit was filed on September 27, 2001, in the United States  District  Court
for the  Northern  District of  Illinois,  seeking  damages and other  relief on
behalf of a putative class of  policyholders  based on allegations that the plan
of  conversion  of Principal  Mutual  Holding  Company  from a mutual  insurance
holding  company into a stock company  violates the United States  Constitution.
The action is captioned ESTHER L. GAYMAN V. PRINCIPAL MUTUAL HOLDING COMPANY, ET
AL. On April 16, 2002,  the Court  granted our Motion to Dismiss and ordered the
lawsuit be dismissed in its entirety.  On April 17, 2002, a Judgment was entered
to that effect.  The  Plaintiffs  filed an appeal on May 15, 2002,  with the 7th
Circuit Court of Appeals. On November 22, 2002, the 7th Circuit Court of Appeals
affirmed the District Court's decision.

While we cannot  predict  the  outcome  of any  pending  or  future  litigation,
examination or  investigation,  we do not believe any pending matter will have a
material  adverse  effect on our  business,  financial  condition  or results of
operations.

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

No matter was  submitted to a vote of security  holders of  Principal  Financial
Group, Inc. during the fourth quarter of the fiscal year covered by this report.

                                       23

EXECUTIVE OFFICERS OF THE REGISTRANT

The  following  information  is furnished  with respect to each of the executive
officers of the  Company,  each of whom is elected by and serves at the pleasure
of the Board of Directors.

J. BARRY GRISWELL, 53, has been Chairman,  President and Chief Executive Officer
of the Company and  Principal  Life since 2002, a director of the Company  since
2001,  and a Principal  Life director  since 1998.  Prior  thereto,  he had been
President  and Chief  Executive  Officer of the Company  since  April 2001,  and
President  and Chief  Executive  Officer of Principal  Life since  January 2000.
Prior to January 2000, Mr. Griswell held the following  positions with Principal
Life:  President from 1998-2000 and Executive Vice President from 1996-1998.  He
is a Chartered Life Underwriter,  a Chartered  Financial  Consultant and a LIMRA
Leadership  Institute  Fellow.  He is Chair of the  Executive  Committee  of the
Board.

JOHN E. ASCHENBRENNER,  53, who heads the Life and Health Insurance and Mortgage
Banking  segments of our  operations  has been  Executive  Vice President of the
Company since April 2001,  and Executive  Vice President of Principal Life since
January 2000. Prior thereto, he was Senior Vice President of Principal Life from
1996-December  1999.  Mr.  Aschenbrenner  serves as a director  of the 24 mutual
funds that comprise the Principal Family of Mutual Funds.

MICHAEL T. DALEY,  46, who heads Marketing and  Distribution  has been Executive
Vice  President of the Company since April 2001, and Executive Vice President of
Principal Life since June 2000.  Prior thereto,  he was Senior Vice President of
CIGNA Retirement and Investment Services from 1997-2000.

DENNIS P.  FRANCIS,  59, has been Chief  Executive  Officer of Principal  Global
Investors  since 1999.  He has been Senior Vice  President of the Company  since
April 2001, and Senior Vice President and Chief Investment  Officer of Principal
Life since 1998. From 1990-1997, he was Vice  President--Commercial  Real Estate
of Principal Life.

MICHAEL H. GERSIE,  54, has been Executive  Vice  President and Chief  Financial
Officer of the Company since April 2001,  and Executive Vice President and Chief
Financial  Officer of Principal Life since January 2000. From 1994-1999,  he was
Senior Vice President of Principal Life.

ELLEN Z. LAMALE,  49, has been Senior Vice  President  and Chief  Actuary of the
Company  since  April  2001,  and Senior  Vice  President  and Chief  Actuary of
Principal Life since June 1999. From 1992-1999, she was Vice President and Chief
Actuary of Principal Life.

JULIA M. LAWLER, 43, has been Senior Vice President and Chief Investment Officer
of the Company since July 2002.  From  2000-2002,  she was President of the Real
Estate Equity Group of Principal Global Investors,  LLC. From 1999-2000, she was
Vice President--  Capital  Markets.  From 1998-1999,  she was  Director--Capital
Markets of Principal Life.

JAMES P. MCCAUGHAN, 49, has been the Executive Vice President of the Company and
global head of asset management for Principal  Financial Group since April 2002.
From  2000-2002,  he was CEO of the  Americas  division of Credit  Suisse  Asset
Management in New York,  New York.  From  1998-1999,  he was President and Chief
Operating Officer of Oppenheimer Capital in New York, New York.

MARY A. O'KEEFE, 46, who heads Corporate Relations and Human Resources, has been
Senior Vice President of the Company since April 2001, and Senior Vice President
of  Principal   Life  since  January  1998.   From   1994-1997,   she  was  Vice
President--Corporate Relations of Principal Life.

GARY P.  SCHOLTEN,  45, has been Senior  Vice  President  and Chief  Information
Officer  of the  Company  since  November  2002.  From  1998-2002,  he was  Vice
President of retail information services of Principal Life.

KAREN E. SHAFF,  48, has been Senior Vice  President and General  Counsel of the
Company  since April  2001,  and Senior Vice  President  and General  Counsel of
Principal Life since January 2000. From June 1999-December  1999, she was Senior
Vice President and Deputy General  Counsel of Principal  Life, and from 1995-May
1999, she was Vice President and Associate General Counsel of Principal Life.

                                       24

NORMAN R.  SORENSEN,  57, has been  President of Principal  International,  Inc.
since 1998,  Senior Vice  President of the Company since April 2001,  and Senior
Vice President of Principal Life since December 1998. From  1989-November  1998,
he  was  Vice   President   and  Senior   Executive--Latin   America,   American
International Group.

LARRY  D.  ZIMPLEMAN,   51,  has  been  the  head  of  our  International  Asset
Accumulation  business since January 2003, our U. S. Asset Accumulation business
since  February  2002, and Executive Vice President of the Company and Principal
Life since August 2001. Prior to his current position,  Mr. Zimpleman was Senior
Vice President of Principal Life from June 1999-August 2001, Vice President from
1998-1999 and Vice  President--Pension  from 1994-1998.  Mr. Zimpleman serves as
Chairman of the Board and a director of each of Principal's 24 Mutual Funds.

PART II

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

Our common stock began trading on the New York Stock Exchange ("NYSE") under the
symbol "PFG" on October 23, 2001.  Prior to such date,  there was no established
public  trading  market for our common stock.  On February 28, 2003,  there were
approximately 586,944 stockholders of record of our common stock.

The following table presents the high and low prices for our common stock on the
NYSE for the periods indicated and the dividends  declared per share during such
periods.

                           HIGH                  LOW                DIVIDENDS
                      --------------        --------------        --------------

2002
First Quarter           $27.05                $22.00                  -
Second Quarter          $31.50                $25.00                  -
Third Quarter           $30.70                $25.15                  -
Fourth Quarter          $31.49                $22.50                $0.25

2001
For the period from
October 23, 2001
through December
31, 2001                $24.75                $20.40                  -

We  declared an annual  cash  dividend of $0.25 per common  share on October 25,
2002, and paid such dividend on December 9, 2002, to  shareholders  of record on
the close of business on November 8, 2002.  Future  dividend  decisions  will be
based on and affected by a number of factors,  including our  operating  results
and financial requirements and the impact of regulatory  restrictions.  See Item
7, "Management's  Discussion and Analysis of Financial  Condition and Results of
Operations - Liquidity  and Capital  Resources"  for a discussion  of regulatory
restrictions on Principal Life's ability to pay us dividends.

ITEM 6.  SELECTED FINANCIAL DATA

The  following  table  sets  forth  certain  selected  historical   consolidated
financial  information  of  Principal  Financial  Group,  Inc.  We  derived  the
consolidated  financial  information  for each of the years ended  December  31,
2002,  2001 and 2000  and as of  December  31,  2002 and 2001  from our  audited
consolidated financial statements and notes to the financial statements included
in this Form 10-K. We derived the  consolidated  financial  information  for the
year ended December 31, 1999 and 1998 and as of December 31, 2000, 1999 and 1998
from our audited  consolidated  financial  statements  not included in this Form
10-K.  The following  summary of  consolidated  financial  information  has been
prepared in accordance with U.S. GAAP.

The  following  is a  summary  of  financial  information.  In  order  to  fully
understand our consolidated financial information,  you should also read Item 7.

                                       25

"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations" and our audited  consolidated  financial statements and the notes to
the  financial  statements  included  in this Form 10-K.  The  results  for past
accounting periods are not necessarily  indicative of the results to be expected
for any future accounting period.

                                                            AS OF OR FOR THE YEAR ENDED DECEMBER 31,
                                               --------------------------------------------------------------------
                                                   2002(2)       2001(2)       2000(2)       1999(2)       1998(2)
                                               ------------   -----------   -----------   ----------   ------------
                                                              ($ IN MILLIONS, EXCEPT PER SHARE DATA)

INCOME STATEMENT DATA(1):
Revenues:
   Premiums and other considerations......     $ 3,881.8      $ 4,122.3     $  3,996.4    $  3,937.6   $ 3,818.4
   Fees and other revenues................       1,990.8        1,600.7        1,300.6       1,191.8       978.8
   Net investment income..................       3,304.7        3,383.6        3,157.6       3,055.3     2,933.9
   Net realized/unrealized capital gains
     (losses).............................        (354.8)        (514.0)         139.6         404.5       465.8
                                               ------------   -----------   -----------   ----------   -----------
     Total revenues.......................     $  8,822.5     $ 8,592.6     $  8,594.2    $  8,589.2   $ 8,196.9

Income from continuing operations, net of
   related income taxes...................     $   619.9      $   380.7     $    611.7    $    745.2   $   693.0
Income (loss) from discontinued operations,
   net of related income taxes (3) .......        (196.7)         (11.2)           8.5          (3.1)         -
                                               ------------   -----------   -----------   ----------    ----------
Income before cumulative effect of
   accounting changes.....................         423.2          369.5          620.2         742.1       693.0
Cumulative effect of accounting
   changes, net of related income taxes
   (4) ...................................        (280.9)         (10.7)           -             -            -
                                               ------------   -----------   -----------   ----------   -----------
Net income................................     $   142.3      $   358.8     $    620.2    $    742.1   $   693.0
                                               ============   ===========   ===========   ==========    ==========

                                       26

                                                           AS OF OR FOR THE YEAR ENDED DECEMBER 31,
                                                ------------------------------------------------------------------
                                                 2002(2)       2001(2)       2000(2)       1999(2)      1998(2)
                                                ------------   -----------   -----------  -----------  -----------
                                                              ($ IN MILLIONS, EXCEPT PER SHARE DATA)

                                                                                         
EARNINGS PER SHARE DATA(5):
Income from continuing operations per
   share:
   Basic..................................      $     1.77    $     1.05       N/A           N/A          N/A
   Diluted................................      $     1.77    $     1.05       N/A           N/A          N/A
Net income per share:
   Basic..................................      $     0.41    $     0.99       N/A           N/A          N/A
   Diluted................................      $     0.41    $     0.99       N/A           N/A          N/A

Common shares outstanding at year-end
   (in millions)..........................          334.4         360.1        N/A           N/A          N/A
Weighted-average common shares
   outstanding for the year (in millions).          350.2         362.4        N/A           N/A          N/A
Weighted-average common shares and
   potential common shares outstanding
   for the year for computation of diluted          350.7         362.4        N/A           N/A          N/A
   earnings per share (in millions).......

Cash dividends per share..................      $     0.25        N/A          N/A           N/A          N/A

BALANCE SHEET DATA(1):

Total assets..............................      $89,861.3     $88,350.5     $ 84,404.9    $ 83,953.2    $ 74,046.7

Long-term debt............................      $ 1,332.5     $ 1,378.4     $  1,336.5    $  1,492.9    $    670.9

Common stock(6)...........................      $     3.8     $     3.8     $      -      $      -      $     -
Additional paid-in capital(7).............        7,106.3       7,072.5            -             -            -
Retained earnings (deficit)(8)............           29.4         (29.1)       6,312.5       5,692.3       4,950.2
Accumulated other comprehensive
   income (loss)..........................          635.8         147.5          (60.0)      (139.4)         717.0
Treasury stock, at cost...................       (1,118.1)       (374.4)            -             -             -
                                                ------------  ------------ -------------  -----------  -----------
       Total stockholders' equity.........      $ 6,657.2     $ 6,820.3     $  6,252.5    $  5,552.9     $ 5,667.2
                                                ============  ============  ============  ===========  ===========

                                       27

                                                                AS OF OR FOR THE YEAR ENDED DECEMBER 31,
                                               ----------------------------------------------------------------------------
                                                 2002(2)         2001(2)          2000(2)        1999(2)         1998(2)
                                               ------------    -------------    ------------    -----------    ------------
                                                                 ($ IN MILLIONS, EXCEPT PER SHARE DATA)

OTHER SUPPLEMENTAL DATA:
Net income................................     $   142.3       $   358.8        $    620.2      $    742.1     $   693.0
Less:
Net realized/unrealized capital gains
(losses), as adjusted (9).................        (243.9)         (321.0)             93.0           265.2         320.7
Non-recurring items(10)...................        (363.2)          (42.3)            (92.5)           (3.1)        104.8
                                               ------------    -------------    ------------    -----------    ------------
       Operating earnings.................     $   749.4       $   722.1        $    619.7      $    480.0     $   267.5
                                               ============    =============    ============    ===========    ============

Operating return on average equity(11)....          11.8%           10.9%             10.5%            8.9%          5.8%
Total return on average equity(12)........           2.2%            5.5%             10.3%           13.9%         15.1%

Assets under management ($ in billions)...     $   111.1       $   120.2        $    117.5      $    116.6     $    80.4

Number of employees (actual)..............        15,038          17,138           17,473           17,129        15,970

- ---------

(1)  We have reclassified  periods prior to December 31, 2002, to conform to the
     presentation for that period.

(2)  For a discussion of items materially  affecting the  comparability of 2002,
     2001, and 2000, please see Item 7. "Management's Discussion and Analysis of
     Financial  Condition  and Results of  Operations -  Transactions  Affecting
     Comparability  of Results of  Operations  and  Demutualization  and Initial
     Public Offering."

     Our  consolidated  financial  information for 1999 and 1998 was affected by
     the following transactions that affect year-to-year comparability:

     o    On  February  1, 2002,  we sold our  remaining  stake of 15.1  million
          shares of Coventry  Health Care,  We accounted  for our  investment in
          Coventry  using the  equity  method  prior to its  sale.  Our share of
          Coventry's net income was $2.1 million,  $20.2 million,  $20.6 million
          and $19.1 million for the years ended December 31, 2002,  2001,  2000,
          and  1999,  respectively.  Our share of  Coventry's  net loss was $9.8
          million for the year ended December 31, 1998.

(3)  On October 31, 2002,  we sold  substantially  all of BT Financial  Group to
     Westpac  Banking  Corporation.  BT Financial  Group is  accounted  for as a
     discontinued operation and therefore,  the results of operations (excluding
     corporate  overhead)  and cash flows have been removed from our income from
     continuing operations for all periods presented.

(4)  See  Item  8.  "Financial  Statements  and  Supplementary  Data-  Notes  to
     Consolidated  Financial  Statements,  Note  1,  Nature  of  Operations  and
     Significant  Accounting  Policies" for a description  of recent  accounting
     changes.

(5)  Earnings per share  information  for 2001  represents  unaudited  pro forma
     earnings  per  common  share for the year  ended  December  31,  2001.  For
     purposes  of   calculating   pro  forma  per  diluted  share   information,
     weighted-average  shares  outstanding  were used. For the period January 1,
     2001 through  October 25, 2001, we estimated  360.8  million  common shares
     were outstanding.  This consists of 260.8 million shares issued to eligible
     policyholders in our demutualization and the 100.0 million shares issued in
     our initial public  offering  ("IPO") which closed on October 26, 2001. For
     the period  October 26, 2001  through  December  31,  2001,  actual  shares
     outstanding were used in the weighted-average share calculation.

(6)  During 2001, we issued 260.8 million shares of common stock as compensation
     in the demutualization, 100.0 million shares of common stock in our IPO and
     15.0  million  shares  of  common  stock as a  result  of the  exercise  of

                                       28

     over-allotment  options  granted  to  underwriters  in the IPO.  All shares
     issued have a $0.01 per share par value.

(7)  As of December 31, 2001, represents: a) additional paid-in capital from the
     demutualization  resulting from the  reclassification  of residual retained
     earnings of Principal  Mutual Holding  Company,  net of common stock issued
     ($5,047.7 million);  b) net proceeds,  net of common stock issued, from the
     sale of 100.0 million shares of common stock in our IPO ($1,752.9 million);
     c) net  proceeds,  net of common stock  issued,  from the exercise of over-
     allotment options granted to underwriters in the IPO ($265.2 million);  and
     d) common stock issued and held in a rabbi trust ($6.7 million).

(8)  As of December 31, 2001, represents a $29.1 million net loss for the period
     October 26, 2001 through December 31, 2001. Retained earnings as of October
     26, 2001, were  reclassified  to additional  paid-in capital as a result of
     our demutualization.

(9)  Net  realized/unrealized  capital gains (losses),  as adjusted,  are net of
     income tax, related changes in the amortization  pattern of deferred policy
     acquisition costs,  recognition of front-end fee revenues for sales charges
     on pension products and services, net realized capital gains distributed to
     customers and certain market value  adjustments  to fee revenues.  Deferred
     policy  acquisition costs represent  commissions and other selling expenses
     that vary with and are  directly  related to the  production  of  business.
     These  acquisition costs are deferred and amortized in conformity with U.S.
     GAAP.

(10) For  a  discussion  of  non-recurring   items   materially   affecting  the
     comparability  of 2002,  2001, and 2000,  please see Item 7.  "Management's
     Discussion   and   Analysis   of   Financial   Condition   and  Results  of
     Operations-Results of Operations by Segment."

     For the  year  ended  December  31,  1999,  we  excluded  $3.1  million  of
     non-recurring  items,  net  of  income  taxes,  from  net  income  for  our
     presentation of operating  earnings.  The non-recurring  items included the
     negative effects of the loss from  discontinued  operations of BT Financial
     Group.

     For the year  ended  December  31,  1998,  we  excluded  $104.8  million of
     non-recurring  items,  net  of  income  taxes,  from  net  income  for  our
     presentation of operating earnings.  The non-recurring items included:  (a)
     the positive  effects of (i) Principal  Life's  release of tax reserves and
     related accrued interest  ($164.4  million) and (ii) accounting  changes by
     our international  operations ($13.3 million); and (b) the negative effects
     of (i) a  contribution  related to  permanent  endowment  of the  Principal
     Financial   Group   Foundation   ($45.5  million)  and  (ii)  expenses  and
     adjustments  for changes in  amortization  assumptions  for deferred policy
     acquisition  costs  related to our corporate  structure  change to a mutual
     insurance holding company ($27.4 million).

(11) We define operating return on average equity as operating  earnings divided
     by average total equity,  excluding accumulated other comprehensive income.
     We  have  excluded  accumulated  other  comprehensive  income  due  to  its
     volatility  between  periods and because such data is often  excluded  when
     evaluating the overall financial performance of insurers.  Operating return
     on average  equity should not be considered a substitute  for any U.S. GAAP
     measure of performance.

(12) We define total return on average  equity as net income  divided by average
     total equity,  excluding  accumulated other  comprehensive  income. We have
     excluded  accumulated  other  comprehensive  income  due to its  volatility
     between periods and because such data is often excluded when evaluating the
     overall financial performance of insurers.

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

The following  analysis  discusses  our  financial  condition as of December 31,
2002,  compared  with  December  31,  2001,  and  our  consolidated  results  of
operations  for the years ended  December 31, 2002,  2001 and 2000,  and,  where
appropriate,  factors  that may  affect our future  financial  performance.  The
discussion should be read in conjunction with our audited consolidated financial
statements  and the  related  notes to the  financial  statements  and the other
financial information included elsewhere in this Form 10-K.

                                       29

FORWARD-LOOKING INFORMATION

Our narrative  analysis below contains  forward-looking  statements  intended to
enhance  the  reader's  ability  to assess  our  future  financial  performance.
Forward-looking  statements  include,  but are not limited to,  statements  that
represent  our  beliefs  concerning  future  operations,  strategies,  financial
results  or  other   developments,   and  contain  words  and  phrases  such  as
"anticipate,"  "believe," "plan,"  "estimate,"  "expect,"  "intend," and similar
expressions. Forward-looking statements are made based upon management's current
expectations  and beliefs  concerning  future  developments  and their potential
effects on us. Such  forward-looking  statements  are not  guarantees  of future
performance.

Actual results may differ materially from those included in the  forward-looking
statements as a result of risks and uncertainties  including, but not limited to
the following:  (1) a decline or increased  volatility in the securities markets
could result in investors withdrawing from the markets or decreasing their rates
of investment,  either of which could reduce our net income, revenues and assets
under management; (2) our investment portfolio is subject to several risks which
may  diminish   the  value  of  our  invested   assets  and  affect  our  sales,
profitability  and  the  investment  returns  credited  to  our  customers;  (3)
competition from companies that may have greater  financial  resources,  broader
arrays of products, higher ratings and stronger financial performance may impair
our ability to retain existing customers, attract new customers and maintain our
profitability; (4) a downgrade in Principal Life Insurance Company's ("Principal
Life")   financial   strength   ratings  may  increase  policy   surrenders  and
withdrawals,  reduce new sales and terminate relationships with distributors and
cause some of our existing liabilities to be subject to acceleration, additional
collateral  support,  changes in terms,  or  creation  of  additional  financial
obligations;  (5) our efforts to reduce the impact of interest  rate  changes on
our  profitability  and  surplus may not be  effective;  (6) if we are unable to
attract and retain sales  representatives and develop new distribution  sources,
sales  of our  products  and  services  may be  reduced;  (7) our  international
businesses face political,  legal, operational and other risks that could reduce
our profitability in those businesses;  (8) our reserves  established for future
policy  benefits  and  claims may prove  inadequate,  requiring  us to  increase
liabilities;  (9)  our  ability  to  pay  stockholder  dividends  and  meet  our
obligations  may be constrained  by the  limitations on dividends Iowa insurance
laws impose on  Principal  Life;  (10) we may need to fund  deficiencies  in our
closed block  ("Closed  Block")  assets which benefit only the holders of Closed
Block policies;  (11) changes in regulations or accounting  standards may reduce
our  profitability;  (12) litigation and regulatory  investigations may harm our
financial  strength and reduce our  profitability;  (13) fluctuations in foreign
currency exchange rates could reduce our profitability;  (14) a challenge to the
Insurance Commissioner of the State of Iowa's approval of the plan of conversion
could put the terms of our  demutualization  in  question  and reduce the market
price of our common stock; (15) applicable laws and our stockholder rights plan,
certificate of incorporation  and by-laws may discourage  takeovers and business
combinations that our stockholders  might consider in their best interests;  and
(16) a downgrade in our debt ratings may adversely  affect our ability to secure
funds and cause some of our existing  liabilities to be subject to acceleration,
additional  collateral  support,  changes in terms,  or creation  of  additional
financial obligations.

OVERVIEW

We are a leading  provider  of  retirement  savings,  investment  and  insurance
products and services. We have four operating segments:

o    U.S.  Asset  Management  and  Accumulation,  which  consists  of our  asset
     accumulation  operations  which provide  products and  services,  including
     retirement  savings and related investment  products and services,  and our
     asset management  operations  conducted through Principal Global Investors,
     formerly known as Principal Capital Management.  We provide a comprehensive
     portfolio of asset  accumulation  products and services to  businesses  and
     individuals in the U.S.,  with a  concentration  on small and  medium-sized
     businesses,  which we define as businesses with fewer than 1,000 employees.
     We offer to  businesses  products  and  services  for defined  contribution
     pension plans,  including 401(k) and 403(b) plans,  defined benefit pension
     plans and  non-qualified  executive benefit plans. We also offer annuities,
     mutual  funds  and bank  products  and  services  to the  employees  of our
     business customers and other individuals.

                                       30

o    International   Asset  Management  and  Accumulation,   which  consists  of
     Principal   International,   offers   retirement   products  and  services,
     annuities,  long-term mutual funds and life insurance through  subsidiaries
     in  Argentina,  Chile,  Mexico and Hong Kong and joint  ventures in Brazil,
     Japan, India and Malaysia. Prior to October 31, 2002, the operating segment
     included BT Financial  Group,  an Australia  based asset  manager.  We sold
     substantially  all of BT Financial Group,  effective  October 31, 2002. See
     "Transactions Affecting Comparability of Results of Operations."

o    Life and Health Insurance, which provides life insurance,  health insurance
     as well as  disability  insurance  throughout  the U.S. Our life  insurance
     products include universal and variable  universal life,  traditional life,
     and group life. Our health insurance  products  include medical  insurance,
     dental and vision insurance,  and administrative  services.  Our disability
     insurance products include individual and group disability insurance.

o    Mortgage  Banking,  which engages in originating,  purchasing,  selling and
     servicing residential mortgage loans in the U.S.

We also have a  Corporate  and Other  segment  which  consists of the assets and
activities that have not been allocated to any other segment.

PROFITABILITY

Our profitability depends in large part upon our:

o    amount of assets under management;

o    spreads we earn on our policyholders' general account balances;

o    ability to generate  fee  revenues  greater  than the amount it costs us to
     administer   pension   products,   manage   investments   for   retail  and
     institutional clients and provide other administrative services;

o    ability to price our life and  health  insurance  products  at a level that
     enables us to earn a margin  over the cost of  providing  benefits  and the
     expense of acquiring and administering those products, which is primarily a
     function of competitive conditions,  persistency, our ability to assess and
     manage  trends in  mortality  and  morbidity  experience,  our  ability  to
     generate  investment  earnings  and our  ability to  maintain  expenses  in
     accordance with pricing assumptions;

o    ability to  effectively  monitor and price  residential  mortgage  loans we
     originate,  purchase,  and  sell and to  manage  the  expenses  we incur in
     servicing residential mortgage loans;

o    ability to  effectively  hedge the effect of interest  rate  changes on our
     residential mortgage servicing rights;

o    ability to manage our investment  portfolio to maximize  investment returns
     and minimize risks such as interest rate changes or defaults or impairments
     of invested assets;

o    ability to  effectively  hedge  fluctuations  in foreign  currency  to U.S.
     dollar exchange rates; and

o    ability to manage our operating expenses.

CRITICAL ACCOUNTING POLICIES

The   increasing   complexity  of  the  business   environment   and  applicable
authoritative  accounting guidance requires us to closely monitor our accounting
policies. We have identified three critical accounting policies that are complex
and require significant  judgment. A summary of our critical accounting policies
is intended to enhance the reader's  ability to assess our  financial  condition
and  results  of  operations  and the  potential  volatility  due to  changes in
estimates and changes in guidance.

                                       31

VALUATION OF INVESTED ASSETS

VALUATION  POLICIES.  We classify our investments into one of three  categories:
held-to-maturity,  available-for-sale  or trading.  We determine the appropriate
classification  of fixed  maturity  securities  at the time of  purchase.  Fixed
maturity  securities  include bonds,  mortgage-backed  securities and redeemable
preferred   stock.   We  classify  our  fixed  maturity   securities  as  either
available-for-sale  or  trading  and,  accordingly,  carry  them at fair  value.
Unrealized  gains  and  losses  related  to  available-for-sale  securities  are
reflected in  stockholders'  equity net of related  deferred policy  acquisition
costs and  applicable  taxes.  Unrealized  gains and  losses  related to trading
securities are reflected in net income as net realized/unrealized  capital gains
(losses).  The cost of fixed maturity securities is adjusted for amortization of
premiums and accrual of discounts,  both computed using the interest method. The
cost of fixed  maturity  securities  is adjusted  for declines in value that are
other than temporary. Impairments in value deemed to be other than temporary are
reported in net income as a component of net  realized/unrealized  capital gains
(losses). For loan-backed and structured securities, we recognize income using a
constant  effective  yield  based  on  currently   anticipated   prepayments  as
determined  by  broker-dealer  surveys or internal  estimates  and the estimated
lives of the securities.

Equity  securities  include  mutual  funds,   common  stock  and  non-redeemable
preferred stock. The cost of equity securities is adjusted for declines in value
that are other  than  temporary.  Impairments  in value  deemed to be other than
temporary  are reported in net income as a component of net  realized/unrealized
capital gains (losses).  Equity securities are classified as  available-for-sale
and, accordingly, are carried at fair value. Unrealized gains and losses related
to  available-for-sale  securities are reflected in stockholders'  equity net of
related deferred policy acquisition costs and applicable taxes.

Real estate investments are reported at cost less accumulated depreciation.  The
initial cost bases of  properties  acquired  through loan  foreclosures  are the
lower of the fair market values of the  properties at the time of foreclosure or
the  outstanding  loan balance.  Buildings and land  improvements  are generally
depreciated  on the  straight-line  method  over the  estimated  useful  life of
improvements,  and tenant improvement costs are depreciated on the straight-line
method over the term of the related lease.  We recognize  impairment  losses for
our  properties  when  indicators  of  impairment  are present and a  property's
expected  undiscounted  cash flows are not  sufficient to recover the property's
carrying value.  In such cases,  the cost bases of the properties are reduced to
fair value.  Real estate expected to be disposed is carried at the lower of cost
or fair  value,  less  cost  to  sell,  with  valuation  allowances  established
accordingly and depreciation no longer recognized. Any impairment losses and any
changes  in   valuation   allowances   are   reported   in  net  income  as  net
realized/unrealized capital gains (losses).

Commercial  and  residential  mortgage  loans  are  generally  reported  at cost
adjusted for  amortization of premiums and accrual of discounts,  computed using
the interest method, and net of valuation allowances. Residential mortgage loans
held for sale and  commercial  mortgage loans held for sale are carried at lower
of cost or fair value,  less cost to sell, and reported as mortgage loans in the
statements of financial position.

Mortgage  loans on real estate are considered  impaired  when,  based on current
information  and events,  it is  probable  that we will be unable to collect all
amounts  due  according  to  contractual  terms of the loan  agreement.  When we
determine that a loan is impaired,  a provision for loss is established  for the
difference  between the carrying  amount of the mortgage  loan and the estimated
value.  Estimated  value is based on either the  present  value of the  expected
future cash flows discounted at the loan's  effective  interest rate, the loan's
observable  market  price or fair value of the  collateral.  The  provision  for
losses is reported as a net realized/unrealized capital loss on our consolidated
statements of operations.  Mortgage loans deemed to be uncollectible are charged
against the allowance for losses, and subsequent  recoveries are credited to the
allowance for losses. The allowance for losses is maintained at a level believed
adequate  by us  to  absorb  estimated  probable  credit  losses.  Our  periodic
evaluation of the adequacy of the allowance for losses is based on our past loan
loss experience,  known and inherent risks in the portfolio,  adverse situations
that may affect the  borrower's  ability to repay,  the  estimated  value of the
underlying  collateral,  composition  of the loan  portfolio,  current  economic
conditions and other relevant factors.  The evaluation is inherently  subjective
as it requires  estimating  the amounts and timing of future cash flows expected
to be received on impaired loans that may change.

                                       32

We sell commercial mortgage loans to an unconsolidated qualified special purpose
entity which then issues  mortgage-backed  securities.  We may retain immaterial
interests  in the  loans  by  purchasing  portions  of the  securities  from the
issuance.  Gain or loss on the sales of the  mortgages  is  reported as fees and
other  revenues  and  depends in part on the  previous  carrying  amounts of the
financial assets involved in the transfer, which is allocated between the assets
sold and the retained  interests  based on their relative fair value at the date
of transfer.  Fair values are  determined  by quoted  market  prices of external
buyers  of  each  class  of  security  purchased.  The  retained  interests  are
thereafter  carried  at fair value with other  fixed  maturity  investments  and
classified as available-for-sale.

We also sell  residential  mortgage loans and retain  servicing rights which are
retained  interests in the sold loans. Gain or loss on the sales of the loans is
reported as fees and other revenues and depends in part on the previous carrying
amounts of the loans sold and the  interests  retained  based on their  relative
fair values at the date of the  transfer.  To obtain fair values,  quoted market
prices are used if  available.  However,  quotes are generally not available for
retained interests,  so we estimate fair value based on the present value of the
future  expected cash flows using our best  estimates of  assumptions we believe
market participants would use to value such interests.

Corporate  private  placement  bonds  represent  a primary  area of credit  risk
exposure.  The corporate  private  placement  bond  portfolio is  diversified by
issuer and  industry.  We  monitor  the  restrictive  bond  covenants  which are
intended to regulate  the  activities  of issuers and control  their  leveraging
capabilities.

VALUATION  MODELS AND ASSUMPTIONS.  Since many of the fixed maturity  securities
that we invest in are private  market  assets,  there are not readily  available
market  quotes  available  to determine  the fair market value of these  assets.
These assets are valued by discounting  future cash flows.  The discount rate is
based on a Treasury curve sourced from  Bloomberg,  credit  spreads  provided by
Capital Management Sciences, and a liquidity-spread add-on determined by us. The
spreads used are unique by credit rating for each asset.  We also  determine the
credit ratings used in the process.

We must also  determine  the fair value of our  non-exchange  traded  derivative
contracts. Many of these values are calculated via models built in Bloomberg and
are validated by confirmations with the counterparties and our valuation model.

Assumptions  including prepayment speeds,  defaults,  and losses are used in the
assessment of both the base case and subsequent testing of yields and valuations
of asset-backed securities and commercial mortgage backed securities.

The  assessment of the other than temporary  losses and  write-downs of invested
assets (private  bonds,  mortgages,  and real estate) also involves  significant
judgment.  Both the  recognition  of a triggering  event (timing) and the market
value of private assets involves subjective  assessments by us. In addition, the
determination  of the  calculation and the adequacy of the mortgage loan reserve
are also subjective.  Our assessment of the adequacy of this reserve is based on
our  past  experience,  known  and  inherent  risks  in the  portfolio,  adverse
situations that may affect a borrower's ability to repay, the estimated value of
the underlying  security,  composition of the  portfolio,  and current  economic
conditions.

INSURANCE RESERVES AND DEFERRED POLICY ACQUISITION COSTS

INSURANCE RESERVES.  Contractholder and policyholder liabilities (contractholder
funds,  future policy benefits and claims and other policyholder  funds) include
reserves for  investment  contracts  and reserves for  universal  life,  limited
payment,  participating  and  traditional  life insurance  policies.  Investment
contracts are  contractholders'  funds on deposit with us and generally  include
reserves for pension and annuity contracts. Reserves on investment contracts are
equal to the  cumulative  deposits  less any  applicable  charges plus  credited
interest.

Reserves for universal life insurance contracts are equal to cumulative premiums
less charges plus credited  interest which  represents the account balances that
accrue to the benefit of the policyholders.  Reserves for non-participating term

                                       33

life insurance  contracts are computed on a basis of assumed  investment  yield,
mortality,  morbidity and expenses, including a provision for adverse deviation,
which generally  varies by plan, year of issue and policy  duration.  Investment
yield is based on our  experience.  Mortality,  morbidity  and  withdrawal  rate
assumptions are based on our experience and are  periodically  reviewed  against
both industry standards and experience.

Reserves for participating  life insurance  contracts are based on the net level
premium reserve for death and endowment policy benefits.  This net level premium
reserve is calculated  based on dividend fund interest rate and mortality  rates
guaranteed in calculating the cash surrender values described in the contract.

The amount of  dividends  to  policyholders  is approved  annually by  Principal
Life's board of directors.  The amount of dividends to be paid to  policyholders
is  determined  after  consideration  of  several  factors  including  interest,
mortality,  morbidity and other expense  experience for the year and judgment as
to the appropriate  level of statutory surplus to be retained by Principal Life.
At the end of the  reporting  period,  Principal  Life  establishes  a  dividend
liability for the pro-rata  portion of the  dividends  expected to be paid on or
before the next policy anniversary date.

Some of our  policies  and  contracts  require  payment of fees in  advance  for
services  that will be rendered  over the  estimated  lives of the  policies and
contracts.  These  payments are  established as unearned  revenue  reserves upon
receipt and included in other policyholder funds in the consolidated  statements
of  financial  position.  These  unearned  revenue  reserves  are  amortized  to
operations  over the estimated lives of these policies and contracts in relation
to the emergence of estimated gross profit margins.

The  liability  for unpaid  accident  and health  claims is an  estimate  of the
ultimate  net cost of  reported  and  unreported  losses not yet  settled.  This
liability  is estimated  using  actuarial  analyses and case basis  evaluations.
Although considerable variability is inherent in such estimates, we believe that
the  liability for unpaid claims is adequate.  These  estimates are  continually
reviewed  and,  as  adjustments  to  this  liability  become   necessary,   such
adjustments are reflected in current operations.

Reserves are  liabilities  representing  estimates of the amounts that will come
due,  at some  point in our  future,  to our  contractholders.  The  methods  of
establishing  reserves are prescribed by U.S. GAAP,  allowing for some degree of
managerial  judgment.  As a basis for making  management  decisions,  we conduct
studies of our  experience:  mortality,  morbidity,  investment and expense.  We
compare our results to that of the  industry  to ensure  actuarial  credibility.
Once this  information is gathered,  following  common industry  practices,  the
reserves are set.  Our reserve  levels are  reviewed  throughout  the year using
internal analysis,  the annual audit, and statutory asset adequacy analysis.  To
the extent  experience  indicates  a potential  redundancy/deficiency,  reserves
would be released/increased.

DEFERRED POLICY  ACQUISITION COSTS.  Commissions and other costs  (underwriting,
issuance and agency  expenses and first-year  bonus interest) that vary with and
are primarily related to the acquisition of new and renewal  insurance  policies
and investment  contract  business are  capitalized  to the extent  recoverable.
Maintenance  costs and acquisition  costs that are not deferrable are charged to
operations as incurred.

Deferred policy acquisition costs for universal  life-type  insurance  contracts
and  participating  life insurance  policies and investment  contracts are being
amortized  over the lives of the  policies  and  contracts  in  relation  to the
emergence  of estimated  gross profit  margins.  This  amortization  is adjusted
retrospectively when estimates of current or future gross profits and margins to
be realized  from a group of products and  contracts  are revised.  The deferred
policy acquisition costs of  non-participating  term life insurance policies are
being  amortized over the  premium-paying  period of the related  policies using
assumptions consistent with those used in computing policyholder liabilities.

Deferred policy  acquisition costs are subject to recoverability  testing at the
time of policy issue and loss recognition  testing at the end of each accounting
period.  Deferred  policy  acquisition  costs would be written off to the extent
that it is determined that future policy premiums and investment income or gross
profit margins would not be adequate to cover related losses and expenses.

                                       34

Excluding  non-participating  term life insurance policies,  the deferred policy
acquisition  cost asset is  amortized  in relation  to the gross  profits of the
underlying policies, over the expected lifetime of these policies. At issue, the
pattern of expected  gross profits is  established  based on our  expectation of
future profit  margins.  These profit margins  contain  assumptions  relating to
mortality,  morbidity,  investment  yield and  expenses.  As  actual  experience
emerges,  the profit margins may vary from those expected either in magnitude or
timing.  For our universal  life and  investment  contracts,  we are required by
accounting  practice  to reflect  the  actual  gross  profits of the  underlying
policies.  In  addition,  we are  required to revise our  assumptions  regarding
future  experience  as  soon  as  the  current   assumptions  become  no  longer
actuarially  credible.  Both actions,  reflecting actual experience and changing
future  estimates,  can cause changes in the amount of the asset and the pattern
of future amortization.

MORTGAGE LOAN SERVICING RIGHTS

Mortgage loan servicing  rights  represent the cost of purchasing or originating
the right to receive cash flows from servicing mortgage loans.  Servicing rights
are  recorded  at the time of sale of the  underlying  mortgage  loans where the
servicing is retained.  The total cost of the mortgage loans, which includes the
cost to acquire the servicing rights, is allocated to the mortgage loans and the
servicing  rights based on their relative fair values at the date of sale.  Cost
basis  also  includes  adjustments  resulting  from  the  application  of  hedge
accounting.  Capitalized  servicing  rights are  carried at the lower of cost or
market value. The capitalized  value is amortized in proportion to, and over the
period of, estimated net servicing income.

Capitalized  mortgage  loan  servicing  rights  are  periodically  assessed  for
impairment  based on the estimated  fair value of those rights.  Fair values are
estimated using estimates of discounted  future net cash flows over the expected
life  using  loan  prepayment,  discount  rate,  ancillary  fee income and other
economic factors we believe market  participants would use to value such assets.
For purposes of performing our impairment evaluation,  we stratify the servicing
portfolio on the basis of certain  predominant risk  characteristics,  including
loan type and note rate. To the extent that the carrying  value of the servicing
rights exceeds fair value for any stratum, a valuation allowance is established,
which  may be  adjusted  in the  future  as the  value of the  servicing  rights
increase or decrease. This valuation allowance is recognized in the consolidated
statements of operations during the period in which impairment occurs.

We must exercise certain judgments and make estimates in the application of this
policy. We have some discretion in determining  interest rate assumptions to use
in its estimates,  but we are guided by the benchmark  curve of LIBOR/Swap  term
structure,  the volatility of interest rates derived from historical  volatility
in LIBOR/Swap  rates, and the addition of mortgage spread to the modeled 10-year
swap rate to derive the mortgage refinancing rate.

We develop  prepayment models internally by examining the historical  prepayment
experience of our  portfolio,  given the historical  interest rate  environment.
Servicing  cost   assumptions   are  derived  from  budgeted   costs,   interest
differential,   and  foreclosure  losses  based  on  historical  evidence,   and
amortization  based on expected  non-discounted  cash flows.  Servicing  revenue
assumptions  are derived from  historical  experience and include  principal and
interest float,  escrow float,  prepayment  float, late charges  collected,  and
ancillary income.

TRANSACTIONS AFFECTING COMPARABILITY OF RESULTS OF OPERATIONS

ACQUISITIONS

We acquired the following businesses, among others, during the past three years:

AFORE  TEPEYAC  S.A.  DE C.V. On November  8, 2002,  we signed an  agreement  to
acquire AFORE  Tepeyac S.A. de C.V. in Mexico from Mapfre  American  Vida,  Caja
Madrid   and   Mapfre    Tepeyac   for   MX$590.0    million    Mexican    Pesos
("MX$")(approximately  U.S.  $58.0  million).  We expect this  transaction to be
completed in the first half of 2003 when the operations  will be integrated into
Principal  International,  Inc., as a part of our International Asset Management
and Accumulation segment.

                                       35

ZURICH  AFORE S.A. DE C.V. On May 31,  2002,  we  purchased a 100%  ownership of
Zurich  AFORE S.A. de C.V.  ("Zurich  AFORE") in Mexico  from  Zurich  Financial
Services for MX$480.5 million (approximately U.S. $49.0 million). The operations
of Zurich AFORE have been  integrated into Principal  International,  Inc., as a
part of our International Asset Management and Accumulation segment.

SPECTRUM  ASSET  MANAGEMENT.  On  October  1, 2001,  Spectrum  Asset  Management
("Spectrum") became an affiliate of Principal Global Investors.  The acquisition
was accounted for using the purchase method and the results of operations of the
acquired  business have been included in our financial  statements from the date
of acquisition.  In October 2002, we purchased the remaining 20% of Spectrum. We
included  revenues of $5.9 million and $0.8 million for the years ended December
31, 2002 and 2001, respectively, in our consolidated results of operations.

DISPOSITIONS

We entered into disposition  agreements or disposed of the following businesses,
among others, during the past three years:

BT  FINANCIAL  GROUP.  On October  31,  2002,  we sold  substantially  all of BT
Financial  Group to Westpac  Banking  Corporation  ("Westpac")  for  proceeds of
A$900.0 million  Australian  dollars ("A$") (U.S.  $499.4  million),  and future
contingent  proceeds in 2004 of up to A$150.0 million  (approximately U.S. $80.0
million).  The contingent  proceeds will be based on Westpac's future success in
growing retail funds under management.

Excluding  contingent  proceeds,  our estimated after-tax proceeds from the sale
are expected to be approximately U.S. $938.4 million.  This amount includes cash
proceeds,  expected  tax  benefits,  and gain from  unwinding  the hedged  asset
associated with debt used to acquire BT Financial Group in 1999. We have accrued
for an estimated after-tax loss on disposal of $208.7 million as of December 31,
2002.  This loss is recorded  in the loss from  discontinued  operations  in the
consolidated  statement of operations.  Future adjustments to the estimated loss
are expected to be recorded through the first half of 2003, as the proceeds from
the sale are finalized.

BT Financial  Group is accounted for as a discontinued  operation and therefore,
the results of  operations  (excluding  corporate  overhead) and cash flows have
been  removed  from  our  results  of  continuing  operations  for  all  periods
presented.  Corporate  overhead allocated to BT Financial Group does not qualify
for  discontinued  operations  treatment  under  SFAS  144,  ACCOUNTING  FOR THE
IMPAIRMENT OR DISPOSAL OF LONG-LIVED  ASSETS, and therefore is still included in
the our results of continuing  operations.  Assets and liabilities related to BT
Financial Group have been reclassified to assets of discontinued  operations and
liabilities  of  discontinued  operations  on  our  consolidated  statements  of
financial  position  for all  periods  presented.  Additionally,  the results of
operations (excluding corporate overhead) for BT Financial Group are reported as
non-recurring  items in our  International  Asset  Management  and  Accumulation
segment.  Selected financial  information for the discontinued  operations is as
follows:

                                       36

                                       FOR THE YEAR ENDED DECEMBER 31,
                                   ---------------------------------------------
                                      2002               2001            2000
                                   ----------        -----------       ---------
                                            (IN MILLIONS, EXCEPT AS INDICATED)

Total assets under management
($ in billions)....................$   -             $  21.6           $  25.4
                                   ==========        ===========       =========

Total revenues ....................$ 139.7           $ 220.9           $ 285.5
                                   ==========        ===========       =========
Loss from continuing operations
 corporate overhead) ..............$  (2.6)          $  (3.6)          $  (2.0)

Income (loss) from discontinued
  operations:
Income (loss) before income taxes..   17.7             (15.6)             20.2
Income taxes (benefits)............    5.7              (4.4)             11.7
                                   ----------        -----------       ---------
Income (loss) from discontinued
 operations........................   12.0             (11.2)              8.5
Income (loss) on disposal, net of
 related income taxes.............. (208.7)              -                 -
                                   ----------        -----------       ---------
Income (loss) from discontinued
 operations, net of related income
 taxes............................. (196.7)            (11.2)              8.5
Cumulative effect of accounting
 change, net of related income
 taxes............................. (255.4)              -                 -
                                   ----------        -----------       ---------
Net income (loss)..................$(454.7)          $ (14.8)          $   6.5
                                   ==========        ===========       =========

COVENTRY  HEALTH CARE. On February 1, 2002, we sold our remaining  stake of 15.1
million shares of Coventry  Health Care,  Inc.  ("Coventry")  common stock and a
warrant,  exercisable  for 3.1  million  shares of  Coventry  common  stock.  We
received proceeds of $325.4 million, resulting in a net realized capital gain of
$183.0 million, or $114.5 million net of income taxes.

We reported our  investment  in Coventry in our  Corporate and Other segment and
accounted  for it using  the  equity  method  prior to its  sale.  Our  share of
Coventry's net income was $2.1 million,  $20.2 million and $20.6 million for the
years ended December 31, 2002, 2001 and 2000, respectively.

PT ASURANSI JIWA PRINCIPAL INDONESIA.  On September 25, 2001, we disposed of all
the stock of PT Asuransi Jiwa Principal Indonesia,  our subsidiary in Indonesia.
We currently  have no business  operations  in  Indonesia.  We received  nominal
proceeds, which resulted in a realized capital loss of $6.7 million. We included
nominal  revenues  and  net  loss  from  our  operations  in  Indonesia  in  our
consolidated  results of  operations  for the years ended  December 31, 2001 and
2000.

PRINCIPAL  INTERNATIONAL  ESPANA, S.A. DE SEGUROS DE VIDA. On February 15, 2001,
we  disposed  of all of the stock of  Principal  International  Espana,  S.A. de
Seguros de Vida, our subsidiary in Spain, for nominal  proceeds,  resulting in a
realized  capital  loss of $38.4  million,  or $21.0  million net of income tax,
ceasing our business operations in Spain.

We did not include  revenues or net income from our  operations  in Spain in our
consolidated  results of  operations  for the years ended  December 31, 2002 and
2001,  respectively.  We included revenues of $49.4 million and net loss of $1.2
million from our operations in Spain in our  consolidated  results of operations
for the year ended December 31, 2000.

OTHER TRANSACTIONS

                                       37

SALE OF RETAIL MORTGAGE LENDING BRANCH OFFICES.  On January 29, 2003,  Principal
Residential Mortgage,  Inc. ("Principal  Residential  Mortgage"),  announced the
decision  to focus its retail  consumer  loan  origination  business  within its
Mortgage Direct  operation,  which  originates loans across the nation via phone
and  online.  The  company  will also  continue  to  concentrate  on growing its
Correspondent Lending, Wholesale and Servicing businesses.

On February 5, 2003,  Principal  Residential  Mortgage announced it had signed a
definitive  agreement to sell the retail mortgage  lending  branches to American
Home Mortgage,  Inc. ("American Home Mortgage"),  an independent retail mortgage
banking company.  American Home Mortgage will pay Principal Residential Mortgage
a guaranteed  profit margin on its current  application  pipeline,  purchase the
assets  of the  branch  network  and  assume  related  liabilities.  The sale is
expected to close in the first quarter of 2003, pending regulatory approvals and
other normal closing conditions.

KEYCORP.  On June 12, 2002,  we announced we had entered into an agreement  with
KeyCorp  (through  affiliates  Victory Capital  Management and KeyBank  National
Association)  to offer  transition  of  servicing of  KeyCorp's  1,400  employer
defined contribution clients with up to $8.0 billion in assets under management.
KeyCorp transitioned out of the bundled defined  contribution  business and will
recommend  our  servicing  to  its  full-service  defined  contribution  clients
nationwide.

MEDICARE SUPPLEMENT REINSURANCE TRANSACTION.  Effective July 1, 2000, we entered
into a  reinsurance  agreement  with  General & Cologne  Life Re of  America  to
reinsure 100% of our Medicare supplement insurance business. Medicare supplement
insurance premiums were $98.4 million for the year ended December 31, 2000.

FLUCTUATIONS IN FOREIGN CURRENCY TO U.S. DOLLAR EXCHANGE RATES

Fluctuations in foreign  currency to U.S. dollar exchange rates for countries in
which we have operations can affect reported  financial  results.  In years when
foreign  currencies  weaken  against  the  U.S.  dollar,   translating   foreign
currencies into U.S. dollars results in fewer U.S. dollars to be reported.  When
foreign currencies strengthen,  translating foreign currencies into U.S. dollars
results in more U.S. dollars to be reported.

In January 2002, the Argentine government ended its tie of the Argentine peso to
the U.S. dollar, creating a dual currency system with an official fixed exchange
rate of 1.4 pesos to 1.0 U.S.  dollar for import and export  transactions  and a
"free" floating exchange rate for other transactions,  subsequently floating the
Argentine  peso in  February.  The  devaluation  did not  materially  impact our
consolidated results of operations.

Foreign currency  exchange rate  fluctuations  create variances in our financial
statement  line  items but have not had a  material  impact on our  consolidated
operating  earnings and net income.  Our  consolidated  operating  earnings were
negatively  impacted $4.1 million and $1.8 million for the years ended  December
31,  2002 and 2001 and  positively  impacted  $0.6  million  for the year  ended
December 31, 2000, respectively, as a result of fluctuations in foreign currency
to U.S.  dollar  exchange  rates.  For a discussion of our approaches to foreign
currency  exchange  rate  risk,  see  Item  7A.  "Quantitative  and  Qualitative
Disclosures about Market Risk."

DEMUTUALIZATION AND INITIAL PUBLIC OFFERING

Effective  October 26, 2001,  Principal Mutual Holding Company  converted from a
mutual insurance holding company to a stock company. All membership interests in
Principal  Mutual Holding  Company were  extinguished  on that date and eligible
policyholders  received,  in aggregate,  260.8  million  shares of common stock,
$1,177.5 million of cash and $472.6 million of policy credits as compensation.

In addition,  on October 26,  2001,  we completed  our initial  public  offering
("IPO") in which we issued  100.0  million  shares of common stock at a price of
$18.50 per  share,  prior to the  underwriters'  exercise  of the  overallotment
option. Net proceeds from the IPO were $1,753.9 million,  of which $64.2 million

                                       38

was retained by  Principal  Financial  Group,  Inc.,  and  $1,689.7  million was
contributed  to Principal  Life.  Proceeds  were net of offering  costs of $96.5
million and a related tax benefit of $0.4 million.

Costs relating to the demutualization,  excluding costs relating to the IPO were
$2.0 million, $18.6 million and $7.2 million, net of income taxes, in 2002, 2001
and 2000,  respectively.  Demutualization expenses consist primarily of printing
and mailing costs and our  aggregate  cost of engaging  independent  accounting,
actuarial,  financial, investment banking, legal and other consultants to advise
us on the  demutualization.  In  addition,  our costs  include  the costs of the
advisors  of the  Insurance  Commissioner  of the State of Iowa and the New York
State Insurance Department,  other regulatory authorities and internal allocated
costs for staff and related costs associated with the demutualization.

PENSION EXPENSE

The 2003 pension  expense for  substantially  all of our  employees  and certain
agents is expected to be  approximately  $60.2  million.  This is an increase of
$53.7 million over the 2002 pension  expense of $6.5  million.  This increase is
primarily  due to the  impact  of low  interest  rates  and  the  equity  market
downturn.  The discount rate used to value the  liabilities  was lowered to 6.5%
from the 2002  discount  rate of 7.5% and the  return on assets  assumption  was
lowered to 8.5% from the 2002 return on assets assumption of 9.0%.

RECENT ACCOUNTING CHANGES

The  Derivative   Implementation  Group  has  recently  released  Statement  133
Implementation  Issue  No.  36,  "Embedded  Derivatives:  Bifurcation  of a Debt
Instrument  that  Incorporates  Both  Interest  Rate Risk and  Credit  Rate Risk
Exposures that are Unrelated or Only Partially  Related to the  Creditworthiness
of the Issuer of that Instrument"  ("DIG B36").  DIG B36 addresses  whether SFAS
No. 133,  Accounting for Derivative  Instruments and Hedging  Activities  ("SFAS
133") requires bifurcation of a debt instrument into a debt host contract and an
embedded derivative if the debt instrument  incorporates both interest rate risk
and credit risk exposures  that are unrelated or only  partially  related to the
creditworthiness  of the issuer of that instrument.  DIG 36 has been exposed for
comment  by the FASB.  It is not  expected  to be  finalized  by the FASB  until
sometime in the second quarter of 2003. We are currently reviewing our contracts
and assessing the impact of the emerging  guidance.  We do not  anticipate  that
this  will  result in a  material  impact to our  financial  results,  financial
position or cash flows.

In  January  2003,  the FASB  issued  Interpretation  No. 46,  Consolidation  of
Variable  Interest  Entities  ("FIN 46"),  which  provides  guidance  related to
identifying  variable  interest  entities and determining  whether such entities
should be consolidated.  FIN 46 is effective  immediately for variable  interest
entities  created  after January 31, 2003 and effective 3rd quarter 2003 for any
variable  interest  entities  existing on or before  January 31,  2003.  We have
initiated an assessment and are currently  evaluating interests in entities that
may be considered variable interest entities.  We have currently  identified one
variable  interest entity,  which meets the definition of FIN 46 and was created
before January 31, 2003. The impact would be the  consolidation  of $4.1 billion
in assets and $4.1  billion of  liabilities,  unless the  current  structure  is
modified.  The ultimate impact of adopting FIN 46 on the consolidated  financial
statements is still being reviewed.

In November 2002, the FASB issued Interpretation No. 45, Guarantor's  Accounting
and Disclosure  Requirements for Guarantees,  Including  Indirect  Guarantees of
Indebtedness  of Others  ("FIN  45") which  requires  certain  guarantees  to be
recorded  at  fair  value  instead  of when a loss is  probable  and  reasonably
estimated.  FIN 45 also requires  disclosures even when the likelihood of making
any payments under the guarantee is remote.  Although liability recognition only
applies to  guarantees  issued or  amended  after  January  1, 2003,  disclosure
requirements are effective for year-end 2002. See "Item 8. Financial  Statements
and Supplementary Data - Notes to Consolidated  Financial  Statements,  Note 14,
Commitments and Contingencies."

                                       39

RESULTS OF OPERATIONS

The following table presents summary consolidated  financial information for the
years indicated:

                                             FOR THE YEAR ENDED DECEMBER 31,
                                      ------------------------------------------
                                        2002           2001           2000
                                      ------------    -----------    -----------
INCOME STATEMENT DATA:                                (IN MILLIONS)
Revenues:
  Premiums and other considerations...$ 3,881.8       $ 4,122.3      $  3,996.4
  Fees and other revenues.............  1,990.8         1,600.7         1,300.6
  Net investment income...............  3,304.7         3,383.6         3,157.6
  Net realized/unrealized capital
    gains (losses)....................   (354.8)         (514.0)          139.6
                                      ------------    -----------    -----------
 Total revenues.......................  8,822.5         8,592.6         8,594.2

Expenses:
  Benefits, claims and settlement
    expenses..........................  5,216.9         5,482.1         5,232.3
  Dividends to policyholders..........    316.6           313.7           312.7
  Operating expenses..................  2,623.2         2,332.7         2,209.0
                                      ------------    -----------    -----------
Total expenses........................  8,156.7         8,128.5         7,754.0
                                      ------------    -----------    -----------
Income from continuing operations
    before income taxes..............     665.8           464.1           840.2
Income taxes..........................     45.9            83.4           228.5
                                      ------------    -----------     ----------
  Income from continuing operations,
  net of related income taxes.........    619.9           380.7           611.7

  Income (loss) from discontinued
    operations, net of related income
    taxes.............................   (196.7)          (11.2)            8.5
                                      ------------    -----------    -----------
  Income before cumulative effect of
    accounting changes................    423.2           369.5           620.2

Cumulative effect of accounting
    change, net of related income
    taxes.............................   (280.9)          (10.7)            -
                                      ------------    -----------    -----------
  Net income..........................$   142.3       $   358.8      $    620.2
                                      ============    ===========    ===========
OTHER DATA:
Net income............................$   142.3       $   358.8      $    620.2
Less:
  Net realized/unrealized
    capital gains (losses),
    as adjusted.......................   (243.9)         (321.0)           93.0
  Non-recurring items................    (363.2)          (42.3)          (92.5)
                                      ------------    -----------    -----------
Operating earnings....................$   749.4       $   722.1      $    619.7
                                      ============    ===========    ===========

YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001

Premiums and other  considerations  decreased $240.5 million, or 6%, to $3,881.8
million for the year ended December 31, 2002, from $4,122.3 million for the year
ended December 31, 2001. The decrease  reflected a $183.0 million  decrease from
the International Asset Management and Accumulation  segment primarily resulting
from decreased sales of single premium annuities with life  contingencies due to
the sale of a large  group  annuity  contract  in 2001  and to a lesser  extent,
prolonged  government  retention of potential  annuitants in 2002 in Mexico.  In
addition,  the decrease  reflected a $37.7  million  decrease  from the Life and
Health Insurance segment,  primarily related to the reclassification of revenues
from our group  universal life  insurance  product from premiums to fee revenues
and the shift in customer preference from individual  traditional life insurance
products to individual universal and variable universal life insurance products,
partially offset by strong disability insurance sales in 2002. The decrease also
reflected  a  $19.8  million   decrease  from  the  U.S.  Asset  Management  and
Accumulation  segment,  primarily a result of a decrease in premiums from single
premium group  annuities  with life  contingencies,  which are typically used to
fund defined  benefit pension plan  terminations.  The premium income we receive
from these contracts fluctuates due to the variability in the number and size of
pension plan  terminations in the market,  the interest rate environment and our
ability to attract new sales.

Fees and other revenues  increased  $390.1 million,  or 24%, to $1,990.8 million
for the year ended December 31, 2002,  from $1,600.7  million for the year ended

                                       40

December 31, 2001. The increase was primarily due to a $326.9  million  increase
from the  Mortgage  Banking  segment  primarily  resulting  from  mortgage  loan
production  fee revenues,  reflecting  the increase in mortgage loan  production
volume.  The increase was also due to a $56.5 million increase from the Life and
Health Insurance segment,  primarily related to the reclassification of revenues
from our group  universal  life  insurance  product and growth in our individual
universal and variable  universal  life  insurance  business.  The increase also
related  to a  $15.7  million  increase  from  the  U.S.  Asset  Management  and
Accumulation  segment  primarily related to higher fee income from improved cash
flows and a  reduction  in losses  from  market  value  fee  adjustments  on our
participating  business  from  pension  products.  In  addition,  the  increases
reflected a $10.3 million increase from the  International  Asset Management and
Accumulation  segment  primarily  as a result of an  increase  in the  number of
retirement plan participants due to the acquisition of Zurich AFORE in Mexico.

Net investment  income  decreased $78.9 million,  or 2%, to $3,304.7 million for
the year ended  December  31,  2002,  from  $3,383.6  million for the year ended
December  31,  2001.  The  decrease  was  primarily  related  to a  decrease  in
investment  yields.  The yield on average  invested assets and cash was 6.9% for
the year ended  December 31, 2002,  compared to 7.7% for the year ended December
31, 2001.  This  reflects a decrease in  investment  gains on real estate due to
lower sales of certain real estate held-for-sale,  compared to an unusually high
volume of sales during 2001. In addition,  the decrease  reflects  lower average
investment  yields due in part to a lower  interest  rate  environment  and to a
lesser  extent,  due to a decrease in commercial  mortgage loan  prepayment  fee
income. The decrease was partially offset by a $3,565.1 million, or 8%, increase
in average invested assets and cash.

Net  realized/unrealized  capital losses  decreased  $159.2 million,  or 31%, to
$354.8 million for the year ended December 31, 2002, from $514.0 million for the
year ended December 31, 2001. The decrease was due to the $183.0 million capital
gain  realized  as the  result  of the sale of our  investment  in  Coventry  in
February 2002 and the $38.4 million loss on the sale of our  operations in Spain
in 2001, a $79.7 million decrease in losses on fixed maturity  securities sales,
and a $58.5  million  decrease  in  losses  on equity  securities  sales.  These
decreases were  partially  offset by an increase of $109.9 million in other than
temporary impairments of fixed maturity securities,  a $19.7 million increase in
the other than temporary declines in the value of equity securities, an increase
of $54.1 million in mark to market losses on certain seed money investments, and
an increase of $28.0 million in losses on derivatives.

Benefits,  claims and settlement  expenses  decreased $265.2 million,  or 5%, to
$5,216.9 million for the year ended December 31, 2002, from $5,482.1 million for
the year ended  December 31, 2001.  The decrease was  partially  due to a $149.5
million  decrease  from the  International  Asset  Management  and  Accumulation
segment due to higher reserve changes and policy and contract  benefit  payments
recognized in 2001 due to the sale of a large group annuity  contract,  and to a
lesser extent, prolonged government retention of potential annuitants in 2002 in
Mexico.  The decrease was also due to a $57.6 million decrease from the Life and
Health Insurance segment, primarily due to amounts received from a reinsurer and
lower  death  claims.  In  addition,  the  decrease  was due to a $52.8  million
decrease from the U.S. Asset  Management  and  Accumulation  segment,  primarily
reflecting a decrease in interest  credited to customers and a decrease in sales
of single premium group annuities with life contingencies.

Dividends to policyholders increased $2.9 million to $316.6 million for the year
ended  December 31, 2002,  from $313.7  million for the year ended  December 31,
2001.  The increase was  attributable  to a $2.9 million  increase from the U.S.
Asset  Management  and  Accumulation  segment,  resulting  from an  increase  in
dividends for our pension full-service accumulation products.

Operating expenses increased $290.5 million, or 12%, to $2,623.2 million for the
year ended December 31, 2002, from $2,332.7  million for the year ended December
31, 2001.  The increase was largely due to a $355.9  million  increase  from the
Mortgage  Banking segment  primarily  resulting from growth in the mortgage loan
servicing portfolio, an increase in impairment of capitalized mortgage servicing
rights net of servicing  hedge  activity  and an increase in the  mortgage  loan
production volume. The increase was partially offset by a $43.1 million decrease
from the Corporate and Other  segment,  primarily due to expenses  recognized in
2001 related to our demutualization,  federal income tax interest related to the
settlement of an IRS audit issue in 2002,  offset  partially by an increase to a
loss contingency reserve established for sales practices  litigation in 2002. In
addition,  the increases were partially  offset by a $13.7 million decrease from

                                       41

the International Asset Management and Accumulation  segment,  primarily related
to the weakening of the Argentine peso versus the U.S. dollar and of the general
economic  environment  in  Argentina.  A decrease of $10.4 million from the U.S.
Asset  Management  and  Accumulation  segment  primarily  reflected  operational
efficiencies  including lower staffing levels and an increase in  capitalization
of deferred policy  acquisition  costs ("DPAC") from increased sales of selected
pension products.

Income taxes  decreased  $37.5  million,  or 45%, to $45.9  million for the year
ended  December 31,  2002,  from $83.4  million for the year ended  December 31,
2001. The effective income tax rate was 7% for the year ended December 31, 2002,
and 18% for the year ended December 31, 2001. The effective income tax rates for
the years ended December 31, 2002 and 2001 were  lower than the corporate income
tax rate of 35%  primarily  due to income tax  deductions  allowed for corporate
dividends  received.  Our effective income tax rate was also reduced in 2001 due
to  additional  tax  benefits  related  to excess tax over book  capital  losses
realized from the sales of our operations in Spain and Indonesia.  The effective
tax rate decreased to 7% in 2002 from 18% in 2001 primarily due to the favorable
settlement of an IRS audit issue in 2002.

As a result of the foregoing factors and the inclusion of loss from discontinued
operations  and the  cumulative  effect of  accounting  changes,  net of related
income taxes, net income decreased $216.5 million, or 60%, to $142.3 million for
the year  ended  December  31,  2002,  from  $358.8  million  for the year ended
December 31, 2001. The loss from discontinued operations was related to our sale
of BT Financial Group. The cumulative effect of accounting  changes were related
to our  implementation  of SFAS No. 142,  GOODWILL AND OTHER  INTANGIBLE  ASSETS
("SFAS 142") in 2002 and SFAS 133 in 2001.

For the year ended December 31, 2002, non-recurring items of $363.2 million, net
of income taxes,  included (1) the negative effects of: (a) a cumulative  effect
of accounting change related to our implementation of SFAS 142 ($280.9 million);
(b) the loss on discontinued  operations of BT Financial Group ($196.7 million);
(c) an increase to a loss  contingency  reserve  established for sales practices
litigation  ($21.6  million);  and (d) expenses  related to our  demutualization
($2.0  million) and (2) the positive  effect of the  settlement  of an IRS audit
issue  ($138.0  million).  For the year ended  December 31, 2001,  non-recurring
items of $42.3 million,  net of income taxes,  included (1) the negative effects
of: (a) expenses related to our  demutualization  ($18.6 million);  (b) the loss
from  discontinued  operations  of BT  Financial  Group ($11.2  million);  (c) a
cumulative effect of accounting change related to our implementation of SFAS 133
($10.7 million);  and (d) an increase to a loss contingency  reserve established
for sales  practices  litigation  ($5.9 million) and (2) the positive  effect of
investment income generated from the proceeds of our IPO ($4.1 million).

As  a   result   of  the   foregoing   factors   and   the   exclusion   of  net
realized/unrealized   capital  losses,  as  adjusted  and  nonrecurring   items,
operating  earnings  increased  $27.3 million,  or 4%, to $749.4 million for the
year ended  December 31, 2002,  from $722.1  million for the year ended December
31, 2001. The increase  resulted from a $31.9 million increase from the Life and
Health Insurance segment, primarily a result of improved medical and dental loss
ratios.  The  increase  was  also  due to a  $17.2  million  increase  from  the
International  Asset Management and Accumulation  segment,  primarily related to
improved earnings of Principal International.  In addition, the increase was due
to a $17.1  million  increase  from the U.S Asset  Management  and  Accumulation
segment primarily reflecting higher fees from improved cash flows and a decrease
in expenses  resulting  from a decrease in interest  credited to  customers.  An
increase of $16.2 million from the Mortgage Banking segment was primarily due to
an increase in mortgage loan  production  volume.  The increases  were partially
offset  by a $55.1  million  decrease  from the  Corporate  and  Other  segment,
primarily  related to a decrease in investment gains on real estate due to lower
sales of certain real estate held-for-sale, compared to an unusually high volume
of sales experienced in 2001 and due to a decrease of average  investment yields
for the segment.

YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000

Premiums and other  considerations  increased $125.9 million, or 3%, to $4,122.3
million for the year ended December 31, 2001, from $3,996.4 million for the year
ended December 31, 2000. The increase  reflected a $240.9 million  increase from
the U.S. Asset  Management and  Accumulation  segment,  primarily a result of an

                                       42

increase  in  premiums   from  single   premium   group   annuities   with  life
contingencies,  which are typically  used to fund defined  benefit  pension plan
terminations.  The premium income we receive from these contracts fluctuates due
to the  variability in the number and size of pension plan  terminations  in the
market,  the interest rate  environment and our ability to attract new sales. In
addition,  a $124.4 million increase from the International Asset Management and
Accumulation  segment primarily resulting from increased sales of single premium
annuities  with  life  contingencies  due to the sale of a large  group  annuity
contract in Mexico.  The increases  were  partially  offset by a $239.4  million
decrease from the Life and Health Insurance segment,  related to our decision to
reinsure 100% of our group Medicare supplement insurance business effective July
1, 2000. Life and Health Insurance  segment premiums also decreased due to group
medical premium rate increases in 2000,  which led to increased lapses and lower
sales in 2001.

Fees and other revenues  increased  $300.1 million,  or 23%, to $1,600.7 million
for the year ended December 31, 2001,  from $1,300.6  million for the year ended
December 31, 2000. The increase was primarily due to a $350.8  million  increase
from the  Mortgage  Banking  segment  primarily  resulting  from  mortgage  loan
production  fee revenues,  reflecting  the increase in mortgage loan  production
volume.  The increase was also due to a $26.7 million increase from the Life and
Health  Insurance  segment,  primarily  related to an increase  in group  health
fee-for-service  fee  revenues,  a result of growth in the business and fee rate
increases,  and an increase in universal and variable  universal  life insurance
fee  revenues,  a result of growth in that block of business.  In addition,  the
increase was related to a $16.6 million  increase from the  International  Asset
Management and  Accumulation  segment,  primarily a result of an increase in the
number of retirement plan  participants in Mexico.  The increases were partially
offset  by an  $85.8  million  decrease  from  the  U.S.  Asset  Management  and
Accumulation  segment  primarily  related to a decrease in surrender  charge and
market value fee adjustments from pension products, primarily due to a declining
interest rate  environment  and a decrease in the  recognition  of front-end fee
revenues,  a result of changes  in  assumptions  consistent  with  unlocking  of
deferred policy acquisition costs in 2001.

Net investment  income increased $226.0 million,  or 7%, to $3,383.6 million for
the year ended  December  31,  2001,  from  $3,157.6  million for the year ended
December 31, 2000. The increase was primarily a result of a $1,846.2 million, or
4%,  increase in average  invested  assets and cash and also from an increase in
investment yields, primarily resulting from our investment policy during 2000 to
reposition the investment  portfolio to maximize  investment  returns by selling
lower  yielding  fixed income  securities  to allow for  reinvestment  in higher
yielding fixed income securities.  The yield on average invested assets and cash
was 7.7% for the year ended  December  31,  2001,  compared to 7.5% for the year
ended December 31, 2000.

Net  realized/unrealized  capital  losses  increased  $653.6  million  to $514.0
million of net  realized/unrealized  capital  losses for the year ended December
31, 2001, from $139.6 million of net  realized/unrealized  capital gains for the
year ended December 31, 2000.  Realized capital losses of $137.7 million related
to sales and  impairments  of our  investment  in Enron and related  entities in
2001. These entities are in the process of bankruptcy  proceedings.  We sold our
investment in United Payors and United Providers, and realized a capital gain of
$90.6  million  during the year ended  December 31, 2000.  We realized a capital
loss of $38.4  million  on the  sale of our  operations  in  Spain  in 2001.  We
realized  $22.0  million  in losses  in our  international  operations  from the
restructuring  of  government  bonds in  Argentina  and $6.7 million of realized
losses in our U.S.  operations  related to  Argentine-based-bonds  in 2001.  The
decrease  also  related to  permanent  impairments  of other fixed  maturity and
equity securities which were $152.6 million,  during the year ended December 31,
2001.

Benefits,  claims and settlement  expenses  increased $249.8 million,  or 5%, to
$5,482.1 million for the year ended December 31, 2001, from $5,232.3 million for
the year ended  December 31, 2000.  The increase was  primarily  due to a $272.5
million  increase  from the U.S.  Asset  Management  and  Accumulation  segment,
primarily  reflecting  the  increase in reserves  resulting  from an increase in
sales of single premium group  annuities with life  contingencies.  The increase
was  also  due  to a  $145.3  million  increase  from  the  International  Asset
Management and Accumulation segment due to an increase in the change in reserves
and policy and contract benefit payments,  primarily the result of the sale of a
large group annuity contract with life  contingencies  in Mexico.  The increases
were  partially  offset by a $168.4  million  decrease  from the Life and Health
Insurance  segment,  due to a reduction  in group  medical  insurance  business,

                                       43

improved group medical  insurance claim  experience and our decision to reinsure
100% of our group Medicare supplement insurance business effective July 1, 2000.

Dividends to policyholders increased $1.0 million to $313.7 million for the year
ended  December 31, 2001,  from $312.7  million for the year ended  December 31,
2000.  The increase was  attributable  to a $2.1 million  increase from the U.S.
Asset  Management  and  Accumulation  segment,  resulting  from an  increase  in
dividends for our pension full-service  accumulation  products. The increase was
offset by a $1.1 million decrease from the Life and Health Insurance segment due
to a change in methodology of estimating dividends.  Additionally, the dividends
in the Closed Block were reduced due to accumulated experience losses.

Operating expenses increased $123.7 million,  or 6%, to $2,332.7 million for the
year ended December 31, 2001, from $2,209.0  million for the year ended December
31, 2000. The increase was primarily due to a $269.6  million  increase from the
Mortgage Banking segment primarily resulting from an impairment of mortgage loan
servicing  rights and, to a lesser  extent,  due to growth in the mortgage  loan
servicing  portfolio and an increase in the mortgage loan production volume. The
increase also reflected a $22.0 million  increase from the U.S. Asset Management
and  Accumulation  segment,  primarily  reflecting an increase in Principal Bank
operating  expenses  related to growth in bank  operations  and an  increase  in
Principal  Global  Investors'   operating   expenses  related  to  increases  in
compensation and recruiting costs and depreciation and securitization  expenses.
The  increases  were  partially  offset by an $89.3  million  decrease  from the
Corporate  and  Other  segment,   primarily  related  to  a  non-recurring  loss
contingency  reserve  established  during the year ended  December 31, 2000, for
sales practices litigation.  The increases were also partially offset by a $79.0
million decrease from the Life and Health Insurance  segment due to our decision
to reinsure 100% of our group Medicare  supplement  insurance business effective
July 1, 2000.

Income taxes  decreased  $145.1  million,  or 64%, to $83.4 million for the year
ended  December 31, 2001,  from $228.5  million for the year ended  December 31,
2000.  The  effective  income tax rate was 18% for the year ended  December  31,
2001,  and 27% for the year ended  December 31, 2000.  The effective  income tax
rates for the years  ended  December  31,  2001 and 2000,  were  lower  than the
corporate income tax rate of 35% primarily due to income tax deductions  allowed
for corporate dividends received. Our effective income tax rate was also reduced
in 2001 due to additional  tax benefits  related to excess tax over book capital
losses  realized from the sales of our  operations in Spain and  Indonesia.  The
decrease in the effective tax rate to 18% in 2001 from 27% in 2000 was primarily
due to the decrease in net income before income taxes  relative to our permanent
tax differences, which did not decrease.

As a result of the  foregoing  factors and the  inclusion of loss or income from
discontinued  operations and the cumulative effect of accounting  change, net of
related income taxes,  net income  decreased  $261.4 million,  or 42%, to $358.8
million for the year ended  December 31, 2001,  from $620.2 million for the year
ended  December 31, 2000.  The loss or income from  discontinued  operations was
related to our sale of BT Financial Group.  The cumulative  effect of accounting
change was related to our implementation of SFAS 133.

For the year ended December 31, 2001, we excluded $42.3 million of non-recurring
items, net of income taxes, from net income for our presentation of consolidated
operating  earnings.  The non-recurring  items included the (1) negative effects
of: (a) expenses related to our  demutualization  ($18.6 million);  (b) the loss
from  discontinued  operations  of BT  Financial  Group ($11.2  million);  (c) a
cumulative effect of change in accounting  related to our implementation of SFAS
133 ($10.7  million);  and (d) an increase to our loss  contingency  reserve for
sales  practices  litigation  ($5.9  million)  and (2) the  positive  effect  of
investment income generated from the proceeds of our IPO ($4.1 million). For the
year ended  December  31, 2000,  non-recurring  items of $92.5  million,  net of
income  taxes,  included  the (1)  negative  effects of: (a) a loss  contingency
reserve  established for sales practices  litigation  ($93.8  million);  and (b)
expenses  related to our  demutualization  ($7.2  million)  and (2) the positive
effect of the income from the  discontinued  operations  of BT  Financial  Group
($8.5 million).

As  a   result   of  the   foregoing   factors   and   the   exclusion   of  net
realized/unrealized  capital gains (losses), as adjusted and nonrecurring items,
operating earnings  increased $102.4 million,  or 17%, to $722.1 million for the

                                       44

year ended  December 31, 2001,  from $619.7  million for the year ended December
31, 2000. The increase  resulted from a $76.7 million increase from the Mortgage
Banking  segment,  primarily  due to an  increase in  mortgage  loan  production
volume.  The increase was also due to a $38.9 million increase from the Life and
Health Insurance segment,  primarily a result of individual disability insurance
reserve  strengthening  during 2000,  and improved  margins on  individual  life
insurance  business  resulting from higher investment  yields. In addition,  the
increase  reflects  a  $19.2  million  increase  from  the  International  Asset
Management and Accumulation  segment,  primarily related to improved earnings of
Principal International.  The increases were partially offset by a $29.6 million
decrease from the Corporate and Other  segment,  primarily due to a net recovery
in 2000 of previously paid interest related to a successful tax audit appeal.

RESULTS OF OPERATIONS BY SEGMENT

We evaluate segment  performance by segment operating  earnings,  which excludes
the effect of net realized/unrealized capital gains and losses, as adjusted, and
non-recurring events and transactions. Segment operating earnings are determined
by adjusting U.S. GAAP net income for net realized/unrealized  capital gains and
losses, as adjusted,  and non-recurring items that we believe are not indicative
of overall operating trends. While these items may be significant  components in
understanding and assessing our consolidated financial  performance,  we believe
the presentation of segment operating earnings enhances the understanding of our
results of  operations  by  highlighting  earnings  attributable  to the normal,
recurring operations of our businesses.  However, segment operating earnings are
not a substitute for net income determined in accordance with U.S. GAAP.

The following  table presents  segment  information as of or for the years ended
December 31, 2002, 2001 and 2000:

                                       45

                                         AS OF OR FOR YEAR ENDED DECEMBER 31,
                                         ---------------------------------------
                                           2002             2001          2000
                                         -----------     ----------   ----------
                                                     (IN MILLIONS)
  OPERATING REVENUES BY SEGMENT:
  U.S. Asset Management and..............$ 3,780.5       $ 3,799.8    $ 3,533.9
        Accumulation
  International Asset Management and
        Accumulation.....................    357.9           508.4        339.2
  Life and Health Insurance..............  3,946.8         3,946.4      4,122.6
  Mortgage Banking.......................  1,153.0           757.4        359.8
  Corporate and Other(1).................    (15.1)          101.7         98.2
                                         -----------     ----------   ----------
  Total operating revenues...............  9,223.1         9,113.7      8,453.7
  Net realized/unrealized capital gains
        (losses), including recognition
        of front-end fee revenues and
        certain market valuue adjustments
        to fee revenues..................   (400.6)         (527.4)       140.5
  Non-recurring interest income(2).......      -               6.3          -
                                         -----------     ----------   ----------
        Total consolidated revenues......$ 8,822.5       $ 8,592.6    $ 8,594.2
                                         ===========     ==========   ==========
OPERATING EARNINGS (LOSS) BY SEGMENT:
U.S. Asset Management and
        Accumulation ....................$   370.9       $   353.8    $   356.6
International Asset Management and
        Accumulation.....................     19.5             2.3        (16.9)
Life and Health Insurance................    233.1           201.2        162.3
Mortgage Banking.........................    142.9           126.7         50.0
Corporate and Other .....................    (17.0)           38.1         67.7
                                         -----------     ----------   ----------
        Total operating earnings.........    749.4           722.1        619.7
Net realized/unrealized capital gains
        losses as adjusted(3)............   (243.9)         (321.0)        93.0
Non-recurring items(4)...................   (363.2)          (42.3)       (92.5)
                                         -----------     ----------   ----------
U.S. GAAP REPORTED:
        Net income.......................$   142.3       $   358.8    $   620.2
                                         ===========     ==========   ==========

U.S. GAAP REPORTED NET INCOME (LOSS)
        BY SEGMENT:
U.S. Asset Management and
        Accumulation ....................$   120.4       $   178.3    $   320.7
International Asset Management and
        Accumulation.....................   (441.1)          (38.1)        (7.1)
Life and Health Insurance................    178.5           167.5        209.6
Mortgage Banking.........................    142.9           126.7         50.0
Corporate and Other .....................    141.6           (75.6)        47.0
                                         -----------     ----------   ----------
       Total net income..................$   142.3       $   358.8    $   620.2
                                         ===========     ==========   ==========
TOTAL ASSETS BY SEGMENT:
U.S. Asset Management and
         Accumulation(5).................$70,371.9       $68,543.8    $65,795.9
International Asset Management and
        Accumulation.....................  2,202.5         4,956.9      5,525.9
Life and Health Insurance................ 11,356.3        10,776.2     10,569.0
Mortgage Banking.........................  3,740.1         2,718.8      1,556.3
Corporate and Other(6)...................  2,190.5         1,354.8        957.8
                                         -----------     ----------   ----------
        Total assets.....................$89,861.3       $88,350.5    $84,404.9
                                         ===========     ==========   ==========
- ----------------------
(1)  Includes   inter-segment   eliminations   primarily   related  to  internal
     investment  management  fee revenues,  commission fee revenues paid to U.S.
     Asset  Management  and  Accumulation  agents  for  selling  Life and Health
     Insurance  segment  insurance  products,  internal  interest  paid  to  our
     Mortgage Banking segment for escrow accounts  deposited with our U.S. Asset
     Management  and  Accumulation  segment and real estate joint venture rental
     income.  In 2001,  the Corporate and Other segment  reported  rental income
     from real estate joint ventures for office space used by other segments.

(2)  For the  year  ended  December  31,  2001,  non-recurring  interest  income
     included  the  positive  effect of  investment  income  generated  from the
     proceeds of our IPO.

(3)  Net  realized/unrealized  capital gains (losses)  include  unrealized gains
     (losses) on mark to market  changes of certain  seed money  investments  as
     well as unrealized gains on certain  derivatives.  Net  realized/unrealized
     capital gains (losses), as adjusted,  are net of income taxes, net realized
     capital gains distributed to customers, related changes in the amortization

                                       46

     pattern of deferred policy acquisition costs,  recognition of front-end fee
     revenues  for sales  charges on pension  products  and services and certain
     market value adjustments to fee revenues.

                                           FOR THE YEAR ENDED DECEMBER 31,
                                ------------------------------------------------
                                     2002             2001              2000
                                --------------   --------------    -------------
                                                    (IN MILLIONS)

Net realized/unrealized
        capital gains (losses)..$  (354.8)       $    (514.0)      $   139.6
Certain market value
        adjustments to fee
        revenues................    (31.8)             (14.9)            -
Recognition of front-end
        fee revenues............    (14.0)               1.5             0.9
                                --------------   --------------    -------------
Net realized/unrealized
        capital gains (losses),
        including recognition of
        front-end fee
        revenues and certain
        market value
        adjustments to fee
        revenues................   (400.6)            (527.4)          140.5
Amortization of deferred
        policy acquisition costs
        related to net
        realized capital gains
        (losses)................     35.4               18.6            (0.3)
Capital gains distributed to
        customers...............    (12.7)               -               -
                                --------------   --------------    -------------
Net realized/unrealized capital
        gains (losses),
        including recognition
        of front-end fee
        revenues and certain
        market value adjustments
        to fee revenues, net of
        related amortization of
        deferred policy
        acquisition costs and
        capital gains
        distributed to
        customers...............   (377.9)            (508.8)          140.2
Income tax effect...............    134.0              187.8           (47.2)
                                --------------   --------------    -------------
Net realized/unrealized capital
gains (losses), as adjusted.....$  (243.9)       $    (321.0)      $    93.0
                                ==============   ==============    =============

(4)  For the year  ended  December  31,  2002,  non-recurring  items  of  $363.2
     million,  net of income taxes,  included (1) the negative effects of: (a) a
     cumulative  effect of accounting  change related to our  implementation  of
     SFAS 142 ($280.9  million);  (b) the loss on discontinued  operations of BT
     Financial  Group ($196.7  million);  (c) an increase to a loss  contingency
     reserve established for sales practices litigation ($21.6 million); and (d)
     expenses related to our demutualization ($2.0 million) and (2) the positive
     effect of the  settlement of an IRS audit issue ($138.0  million).  For the
     year ended December 31, 2001,  non-recurring items of $42.3 million, net of
     income taxes, included (1) the negative effects of: (a) expenses related to
     our  demutualization   ($18.6  million);   (b)  the  loss  on  discontinued
     operations of BT Financial Group ($11.2 million);  (c) a cumulative  effect
     of change in accounting principle related to our implementation of SFAS 133
     ($10.7 million);  and (d) an increase to our loss  contingency  reserve for
     sales  practices  litigation  ($5.9 million) and (2) the positive effect of
     investment  income  generated from the proceeds of our IPO ($4.1  million).
     For the year ended December 31, 2000, non-recurring items of $92.5 million,
     net of income  taxes,  included  (1) the  negative  effects  of: (a) a loss
     contingency  reserve  established  for sales  practices  litigation  ($93.8
     million) and (b) expenses related to our demutualization ($7.2 million) and
     (2) the positive  effect of the income from  discontinued  operations of BT
     Financial Group ($8.5 million).

(5)  U.S. Asset  Management and  Accumulation  assets  increased $1.3 billion at
     December 31, 2001, primarily due to shares of the Principal Financial Group
     stock  allocated to a separate  account,  a result of our  demutualization.
     Activity of the separate  account was  reflected in both  separate  account
     assets and separate  account  liabilities and did not impact our results of
     operations.

                                       47

(6)  Includes inter-segment  elimination amounts related to internally generated
     mortgage loans and an internal line of credit.  The U.S.  Asset  Management
     and  Accumulation  segment and Life and Health  Insurance  segment reported
     mortgage loan assets issued for real estate joint ventures.  These mortgage
     loans were reported as liabilities  in the Corporate and Other segment.  In
     addition,  the  Corporate  and Other  segment  managed a revolving  line of
     credit used by other segments.

U.S. ASSET MANAGEMENT AND ACCUMULATION SEGMENT

ASSET ACCUMULATION TRENDS

Our sales of pension and other asset  accumulation  products and services in the
U.S.  have been  affected  by  overall  trends in the U.S.  retirement  services
industry, as our customers have begun to rely less on defined benefit retirement
plans, social security and other government programs.  Recent trends in the work
environment include a more mobile workforce and the desire of employers to shift
the market risk of  retirement  investments  to  employees  by offering  defined
contribution   plans  rather  than  defined  benefit  plans.  These  trends  are
increasing  the demand for defined  contribution  pension  arrangements  such as
401(k) plans, mutual funds or variable annuities.  The "baby-boom" generation of
U.S.  workers has reached an age at which saving for  retirement is critical and
it continues to seek tax-advantaged  investment  products for retirement.  Also,
the Economic  Growth and Tax Relief  Reconciliation  Act of 2001 had many of its
provisions become effective in 2002, which increased allowed contribution limits
and a number of other  opportunities to save for retirement.  Considering  these
trends,  asset  accumulation  account values  increased as of December 31, 2002,
primarily  due to  significant  additional  gross new deposits and  retention of
assets from existing clients.  The declining  interest rate environment and poor
performance in the equity markets in 2002 and 2001 have slowed our recent growth
in asset accumulation account values.

The following table provides a summary of U.S. Asset Accumulation account values
as of December 31, 2002 and 2001:

                                     U.S. ASSET ACCUMULATION
AS OF                                  TOTAL ACCOUNT VALUES
- ------------------------------    -------------------------------
                                            (IN BILLIONS)

December 31, 2002 .........                 $    73.8
December 31, 2001 .........                      71.0

ASSET MANAGEMENT TRENDS

Asset  management  services  have been  among the most  profitable  and  rapidly
growing  sectors  of the  financial  services  industry,  at both the retail and
institutional level. We seek to take advantage of current trends, which indicate
that both retail and institutional investors embrace  specialization,  providing
increased  fees to successful  active  managers with  expertise in specialty and
niche areas. Our U.S. third-party assets under management increased $6.7 billion
during 2002.

The following table provides a summary of Principal Global Investors' affiliated
and third-party assets under management as of December 31, 2002, 2001 and 2000:

                                  PRINCIPAL GLOBAL INVESTORS
                    ------------------------------------------------------------

                        AFFILATED             THIRD-PARTY
                         ASSETS                 ASSETS             TOTAL ASSETS
                         UNDER                  UNDER                 UNDER
AS OF                   MANAGEMENT            MANAGEMENT            MANAGEMENT
- ------              --------------------   -----------------     ---------------
                                             (IN BILLIONS)

December 31, 2002         $77.7                  $14.6               $92.3
December 31, 2001          77.8                    7.9                85.7
December 31, 2000          76.5                    6.7                83.2

U.S. ASSET MANAGEMENT AND ACCUMULATION SEGMENT SUMMARY FINANCIAL DATA

The following table presents certain summary financial data relating to the U.S.
Asset Management and Accumulation segment for the years indicated:

                                       48

                                         FOR THE YEAR ENDED DECEMBER 31,
                             ---------------------------------------------------
                                 2002              2001               2000
                             -------------     --------------    ---------------
                                               (IN MILLIONS)

OPERATING EARNINGS DATA:
Operating revenues(1):
 Premiums and other
  considerations.............  $   746.5          $    766.3         $ 525.4
 Fees and other
  revenues...................      681.2               633.1           704.6
 Net investment income.......    2,352.8             2,400.4         2,303.9
                             --------------    --------------    ---------------
  Total operating
  revenues...................    3,780.5             3,799.8         3,533.9

Expenses:
Benefits, claims and
  settlement expenses,
  including dividends
  to policyholders...........    2,539.9             2,589.8         2,315.2

 Operating expenses..........      773.4               773.7           740.9
                             --------------    --------------    ---------------
  Total expenses.............    3,313.3             3,363.5         3,056.1
                             --------------    --------------    ---------------
Pre-tax operating
  earnings...................      467.2               436.3           477.8
Income taxes.................       96.3                82.5           121.2
                             --------------    --------------    ---------------
Operating earnings...........      370.9               353.8           356.6

Net realized/unrealized
  capital losses, as
  adjusted...................     (250.5)             (164.7)          (35.9)
 Non-recurring items.........        -                 (10.8)            -
                             --------------    --------------    ---------------
U.S. GAAP REPORTED:
Net income...................  $   120.4          $    178.3         $ 320.7
                             ==============    ==============    ===============
___________________

(1)  Excludes  net  realized/unrealized  capital  losses  and  their  impact  on
     recognition of front-end fee revenues and certain market value  adjustments
     to fee revenues.

YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001

Premiums and other  considerations  decreased  $19.8  million,  or 3%, to $746.5
million for the year ended  December 31, 2002,  from $766.3 million for the year
ended  December 31, 2001. The decrease  primarily  resulted from a $59.5 million
decrease in pension  full-service payout sales of single premium group annuities
with life  contingencies,  which are typically used to fund defined benefit plan
terminations. The premium income received from these contracts fluctuates due to
the  variability  in the  number  and size of  pension  plan  terminations,  the
interest  rate  environment,  and the  ability to attract  new sales.  Partially
offsetting  this  decrease  was a $39.7  million  increase in premium  primarily
resulting from higher individual payout annuity sales.

Fees and other revenues  increased  $48.1 million,  or 8%, to $681.2 million for
the year  ended  December  31,  2002,  from  $633.1  million  for the year ended
December 31, 2001. Pension fees and other revenues increased $27.2 million.  The
increase  primarily  resulted from higher fee income generated from improved net
cash flows in 2002 and a reduction of losses due to market value fee adjustments
on our  participating  business  recognized in the prior year. The increase also
resulted from netting the change in unearned revenue for selected  products with
the related unlocking of DPAC in operating expenses.  Prior to the third quarter
of 2002,  the impact  was  reported  separately  in fees and other  revenue  and
operating expenses.  In addition,  Principal Global Investors recognized a $19.3
million increase in fees and other revenue. This increase was primarily due to a
reclassification  of market  value and hedging  activities  from net  investment
income to fees and other  revenue and an increase in investment  management  and
transaction fees.

Net investment  income  decreased $47.6 million,  or 2%, to $2,352.8 million for
the year ended  December  31,  2002,  from  $2,400.4  million for the year ended
December 31, 2001.  The decrease was  primarily due to a decrease in the average
yield on invested  assets and cash,  which was 6.7% for the year ended  December

                                       49

31, 2002,  compared to 7.3% for the year ended  December 31, 2001.  The decrease
was partially offset by a $2,129.3 million,  or 6%, increase in average invested
assets and cash.

Benefits, claims and settlement expenses,  including dividends to policyholders,
decreased $49.9 million,  or 2%, to $2,539.9 million for the year ended December
31, 2002,  from  $2,589.8  million for the year ended  December  31,  2001.  The
decrease  primarily  resulted from a $97.0 million decrease in pension benefits,
claims and  settlement  expenses.  This  decrease  was largely due a decrease in
interest   credited  to  customers  from  our   full-service   accumulation  and
investment-only  businesses  resulting from a lower interest rate environment in
2002. Also  contributing to the overall  decrease was a decrease in full-service
payout  sales  of  single  premium  group  annuities  with  life  contingencies.
Partially offsetting this decrease was a $44.2 million increase, which primarily
resulted from an increase in reserves  resulting from higher  individual  payout
annuity sales.

Operating  expenses  decreased $0.3 million to $773.4 million for the year ended
December 31, 2002, from $773.7 million for the year ended December 31, 2001. The
decrease was  primarily  due to a $22.5  million  decrease in pension  operating
expenses.  This decrease was largely due to operational  efficiencies  including
lower  staff  levels  in  addition  to an  increase  in  capitalization  of DPAC
resulting from an increase in sales of selected products. Offsetting the overall
decrease was a $12.9 million increase in Principal  Global  Investors  operating
expenses due to an increase in employee costs  resulting from the acquisition of
Spectrum  in the  fourth  quarter  of 2001  and  higher  incentive  compensation
accruals in 2002. In addition,  individual  annuity operating expenses increased
$7.3 million mainly due to an increase in DPAC  amortization  resulting from the
decline in the stock market and an increase in corporate expense  allocations in
2002.  Also  contributing  to the increase  was a $6.4  million  increase in our
mutual fund operating  expenses.  This increase  primarily  relates to increased
commission  expense generated from sales of variable life and annuity contracts.
Of this  increase,  $2.6  million  relates to sales  within the  segment  and is
eliminated at an operating segment level.

Income taxes  increased  $13.8  million,  or 17%, to $96.3  million for the year
ended  December 31,  2002,  from $82.5  million for the year ended  December 31,
2001. The effective  income tax rate for this segment was 21% for the year ended
December 31, 2002,  and 19% for the year ended  December 31, 2001. The effective
income tax rates for the year ended December 31, 2002 and 2001,  were lower than
the  corporate  income tax rate of 35%  primarily  due to income tax  deductions
allowed for corporate dividends received and other tax-exempt income.

As a  result  of the  foregoing  factors,  operating  earnings  increased  $17.1
million,  or 5%, to $370.9  million for the year ended  December 31, 2002,  from
$353.8 million for the year ended December 31, 2001.

Net realized/unrealized capital losses, as adjusted, increased $85.8 million, or
52%, to $250.5 million for the year ended December 31, 2002, from $164.7 million
for the year ended  December 31,  2001.  The increase  includes  capital  losses
related to other than temporary  declines in the value of certain fixed maturity
securities for the year ended December 31, 2002.

As a result of the foregoing  factors,  net income  decreased $57.9 million,  or
32%, to $120.4 million for the year ended December 31, 2002, from $178.3 million
for the year ended  December 31, 2001. For the year ended December 31, 2001, net
income  included the  negative  effect of  non-recurring  items  totaling  $10.8
million,  net of income  taxes,  related to a  cumulative  effect of  accounting
change related to our implementation of SFAS 133.

YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000

Premiums and other  considerations  increased $240.9 million,  or 46%, to $766.3
million for the year ended  December 31, 2001,  from $525.4 million for the year
ended December 31, 2000. The increase  primarily  resulted from a $236.5 million
increase  in  premiums   from  single   premium   group   annuities   with  life
contingencies,  which are typically  used to fund defined  benefit  pension plan
terminations.  Despite a less  attractive  economic  environment  in late  2001,
strong sales early in 2001  resulted in increased  premiums for the year.  Sales
were not as strong late in the year due to poor economic conditions. The premium
income we receive from these contracts  fluctuates due to the variability in the

                                       50

number and size of pension plan  terminations  in the market,  the interest rate
environment and our ability to attract new sales.

Fees and other revenues  decreased $71.5 million,  or 10%, to $633.1 million for
the year  ended  December  31,  2001,  from  $704.6  million  for the year ended
December  31,  2000.  A decrease  of $83.4  million  related  to a  decrease  in
surrender  charge and market value  adjustment  revenues from pension  products,
primarily  due to  the  declining  interest  rate  environment;  a  decrease  in
recognition of front-end fee revenues due to changes in  assumptions  consistent
with unlocking of deferred policy  acquisition costs during 2001; and a decrease
in fee  revenues  due to  generally  poor  performance  in the  equity  markets,
resulting  in a lower asset base in 2001.  A decrease of $7.6  million  resulted
from intra-segment eliminations.  In addition, a $7.4 million decrease reflected
lower  commission  fee revenues  primarily  from sales of variable  products and
third-party  mutual funds and lower mutual fund fee revenues  from a decrease in
mutual fund assets under  management.  The decreases were partially offset by an
increase of $27.8  million from  Principal  Global  Investors  due to commercial
mortgage-backed securitizations.

Net investment  income  increased $96.5 million,  or 4%, to $2,400.4 million for
the year ended  December  31,  2001,  from  $2,303.9  million for the year ended
December 31, 2000. The increase reflects a $1,425.0 million,  or 5%, increase in
average invested assets and cash for the segment.  The yield on average invested
assets and cash was 7.3% for the years ended December 31, 2001 and 2000.

Benefits, claims and settlement expenses,  including dividends to policyholders,
increased  $274.6  million,  or 12%,  to  $2,589.8  million  for the year  ended
December 31, 2001,  from $2,315.2  million for the year ended December 31, 2000.
An  increase  of $272.4  million in our  pension  full-service  payout  business
reflected the increase in reserves resulting from an increase in sales of single
premium group  annuities with life  contingencies.  An additional  $23.2 million
increase  from our pension  investment-only  business  related to an increase in
interest  credited  due to growth  in our  investment-only  business.  Partially
offsetting   the  increases  was  a  $30.7  million   decrease  in  our  pension
full-service  accumulation  business reflecting a decrease in interest credited,
primarily a result of a declining interest rate environment.

Operating  expenses  increased  $32.8 million,  or 4%, to $773.7 million for the
year ended  December 31, 2001,  from $740.9  million for the year ended December
31, 2000. An increase of $36.8 million from  Principal  Bank resulted  primarily
from growth in bank operations.  Additionally, an increase of $27.0 million from
Principal Global Investors  resulted  primarily from an increase in compensation
and recruiting  costs due to growth in operations,  an increase in  depreciation
expense  of  capitalized  system   implementation  costs,  and  an  increase  in
securitization  expenses  due to an  increase  in the  number of  securitization
transactions  closed in 2001. The increases  were  partially  offset by an $18.8
million decrease from our pension business due to a decrease in the amortization
of  deferred  policy  acquisition  costs from  unlocking  to reflect  changes in
assumptions  for equity market  performance.  The pension  expense  decrease was
partially  offset by increases in expenses for sales and marketing  initiatives;
write-off of the remaining goodwill for Trustar, our pension administration only
subsidiary; general growth in operations and amortization of software costs. The
increase  in segment  operating  expenses  was also  partially  offset by a $7.6
million decrease from intra-segment eliminations.  Also offsetting the increases
was a $4.6 million  decrease from our  individual  annuity  business  reflecting
decreases  in  non-deferrable  expenses  and  amortization  of  deferred  policy
acquisition  costs.  The amortization of deferred policy  acquisition  costs was
lower in 2001 as the impact of unlocking the amortization for actual  experience
was less in 2001 than in 2000.

Income taxes  decreased  $38.7  million,  or 32%, to $82.5  million for the year
ended  December 31, 2001,  from $121.2  million for the year ended  December 31,
2000. The effective  income tax rate for this segment was 19% for the year ended
December 31, 2001,  and 25% for the year ended  December 31, 2000. The effective
income tax rates for the years ended December 31, 2001 and 2000, were lower than
the  corporate  income  tax rate of 35%,  as a result of income  tax  deductions
allowed  for  corporate  dividends  received,  for  which an  estimated  benefit
recognition  rate increased  during 2001 compared to 2000, and other  tax-exempt
income.

                                       51

As a result of the foregoing factors, operating earnings decreased $2.8 million,
or 1%, to $353.8  million  for the year ended  December  31,  2001,  from $356.6
million for the year ended December 31, 2000.

Net realized/unrealized capital losses, as adjusted, increased $128.8 million to
$164.7 million for the year ended December 31, 2001,  from $35.9 million for the
year ended December 31, 2000. The increase  includes  realized capital losses of
$62.3 million  related to sales and  impairments  of our investment in Enron and
related  entities.   Other  permanent  impairments  of  certain  fixed  maturity
securities  were $92.1  million  during the year ended  December 31,  2001.  The
increase also reflects the current period impact of SFAS 133 for derivatives and
fewer real estate sales in the year ended  December  31,  2001,  compared to the
year ended  December  31,  2000.  The  increases  were  partially  offset by the
positive effects of a change in the mortgage loan valuation allowance, primarily
reflecting the decrease in the amount invested in commercial mortgage loans.

As a result of the foregoing  factors and the inclusion of  non-recurring  items
for the year ended December 31, 2001, net income  decreased  $142.4 million,  or
44%, to $178.3 million for the year ended December 31, 2001, from $320.7 million
for the year ended  December  31, 2000.  Non-recurring  items for the year ended
December 31, 2001, had a negative impact on net income of $10.8 million,  net of
income taxes, due to the cumulative effect of accounting  change,  net of income
taxes, related to our implementation of SFAS 133.

INTERNATIONAL ASSET MANAGEMENT AND ACCUMULATION SEGMENT

ASSET ACCUMULATION TRENDS

Our  international  asset  management  and  accumulation   businesses  focus  on
countries with a trend toward privatization of public retirement pension systems
requiring  employees who join the labor force to contribute to a private pension
plan.  With  variations  depending upon the specific  country,  we have targeted
these  markets  for sales of  retirement  and  related  products  and  services,
including  defined  contribution  pension plans,  annuities and long-term mutual
funds to individuals and businesses. In several of our international markets, we
complement our sales of these products with sales of life insurance products.

We have pursued our  international  strategy through a combination of start-ups,
acquisitions and joint ventures,  which require infusions of capital  consistent
with our strategy of long-term growth and profitability.

The following table provides a summary of Principal  International  assets under
management as of December 31, 2002, 2001 and 2000:

                                     PRINCIPAL INTERNATIONAL
AS OF                             TOTAL ASSETS UNDER MANAGEMENT
- ------------------------------    -------------------------------
                                            (IN BILLIONS)

December 31, 2002 .........                 $     4.4
December 31, 2001 .........                       3.7
December 31, 2000 .........                       3.0

                                       52

INTERNATIONAL ASSET MANAGEMENT AND ACCUMULATION SEGMENT SUMMARY FINANCIAL DATA

The following  table  presents  certain  summary  financial data relating to the
International Asset Management and Accumulation segment for the years indicated:

                                         FOR THE YEAR ENDED DECEMBER 31,
                              --------------------------------------------------
                                     2002              2001              2000
                              -------------    ---------------    --------------
                                              (IN MILLIONS)

OPERATING EARNINGS DATA:
Operating revenues (1):
  Premiums and other
   considerations.............    $  161.9       $    344.9         $    220.5
  Fees and other revenues.....        56.4             46.1               29.5
  Net investment income.......       139.6            117.4               89.2
                              -------------    ---------------    --------------
  Total operating
   revenues...................       357.9            508.4              339.2

Expenses:
  Benefits, claims and
   settlement expenses........       243.8            407.5              262.2
  Operating expenses..........        87.5            101.2              100.8
                              -------------    ---------------    --------------
      Total expenses..........       331.3            508.7              363.0
                              -------------    ---------------    --------------
Pre-tax operating
 earnings (loss)..............        26.6             (0.3)             (23.8)
Income taxes (benefits).......         7.1             (2.6)             (6.9)
                              -------------    ---------------    --------------
Operating earnings (loss).....        19.5              2.3              (16.9)

Net realized/unrealized
 capital gains (losses),
 as adjusted..................        12.4            (29.2)               1.3
Non-recurring items...........      (473.0)           (11.2)               8.5
                              -------------    ---------------    --------------
U.S. GAAP REPORTED:
Net loss......................   $  (441.1)      $    (38.1)        $     (7.1)
                              =============    ===============    =============

OTHER DATA:
Operating earnings (loss):
   Principal
   International..............   $    22.1       $      5.9         $    (14.8)
   BT Financial
   Group......................        (2.6)            (3.6)              (2.1)

Net income (loss):
    Principal
    International.............   $    13.6       $    (23.3)        $    (13.6)
    BT Financial Group........      (454.7)           (14.8)               6.5
_______________________

(1)  Excludes net realized/unrealized capital gains (losses) and their impact on
     recognition of front-end fee revenues and certain market value  adjustments
     to fee revenues.

YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001

Premiums and other  considerations  decreased $183.0 million,  or 53%, to $161.9
million for the year ended  December 31, 2002,  from $344.9 million for the year
ended  December 31, 2001. A decrease of $145.0  million in Mexico was the result
of decreased sales of single premium annuities with life contingencies primarily
due to the sale of a large group annuity contract in 2001 and to a lesser extent
prolonged  government  retention of potential  annuitants in 2002. A decrease of
$23.9  million in Argentina  was primarily due to the weakening of the Argentine
peso  versus  the  U.S.  dollar  and of the  general  economic  environment.  In
addition,  a decrease  of $13.5  million in Chile was  primarily a result of the
weakening  of the  Chilean  peso versus the U.S.  dollar and to a lesser  extent
decreased  sales of single  premium  annuities  with life  contingencies  due to
market contraction.

                                       53

Fees and other revenues  increased  $10.3 million,  or 22%, to $56.4 million for
the year ended December 31, 2002, from $46.1 million for the year ended December
31,  2001.  An increase of $9.5 million in Mexico was a result of an increase in
the number of retirement  plan  participants  due to the  acquisition  of Zurich
AFORE.  In addition,  an increase of $1.9 million in Hong Kong was primarily due
to an increase in assets under management.

Net investment income increased $22.2 million, or 19%, to $139.6 million for the
year ended  December 31, 2002,  from $117.4  million for the year ended December
31, 2001.  The  increase  was  primarily  related to a $217.3  million,  or 18%,
increase in average invested assets and cash, excluding our equity investment in
subsidiaries.  The increase  was  partially  offset by a decrease in  investment
yields.  The yield on average  invested  assets and cash,  excluding  our equity
investment  in  subsidiaries,  was 9.5% for the year ended  December  31,  2002,
compared to 9.6% for the year ended December 31, 2001.

Benefits,  claims and settlement  expenses decreased $163.7 million,  or 40%, to
$243.8 million for the year ended December 31, 2002, from $407.5 million for the
year ended December 31, 2001. A $134.5 million decrease in Mexico was the result
of higher reserve changes and policy and contract benefit payments recognized in
2001 due to the sale of a large group annuity  contract with life  contingencies
and to a lesser extent prolonged government retention of potential annuitants in
2002. A decrease of $20.4  million in  Argentina  was  primarily  related to the
weakening  of the  Argentine  peso  versus the U.S.  dollar  and of the  general
economic  environment.  In  addition,  a decrease  of $8.1  million in Chile was
primarily a result of the weakening of the Chilean peso versus the U.S.  dollar,
partially offset by higher interest credited to customers.

Operating  expenses  decreased  $13.7 million,  or 14%, to $87.5 million for the
year ended  December 31, 2002,  from $101.2  million for the year ended December
31, 2001.  An $11.0 million  decrease in Argentina was primarily  related to the
weakening  of the  Argentine  peso  versus the U.S.  dollar  and of the  general
economic  environment.  Operating  expenses  incurred by BT Financial Group were
$4.0 million for the year ended  December 31, 2002 and $5.5 million for the year
ended December 31, 2001. These expenses  represent  corporate overhead allocated
to BT Financial Group and do not qualify for discontinued operations treatment.

Income tax expense  increased $9.7 million to $7.1 million of income tax expense
for the year ended December 31, 2002, from a $2.6 million income tax benefit for
the year ended  December  31, 2001.  The  increase was  primarily a result of an
increase in pre-tax operating earnings.

As a result of the foregoing factors, operating earnings increased $17.2 million
to $19.5 million for the year ended December 31, 2002, from $2.3 million for the
year ended December 31, 2001.

Net realized/unrealized  capital gains, as adjusted,  increased $41.6 million to
$12.4  million of net  realized  capital  gains for the year ended  December 31,
2002,  from $29.2  million  of net  realized  capital  losses for the year ended
December 31, 2001.  The increase was primarily due to a $21.0 million  after-tax
net realized  capital loss on the February 2001 sale of our operations in Spain.
In addition,  a $17.7 million increase was primarily related to losses resulting
from the permanent  impairment of certain fixed maturity securities in Argentina
in 2001.

As a result of the foregoing  factors and the inclusion of  non-recurring  items
for the year ended  December  31, 2002,  net loss  increased  $403.0  million to
$441.1 million for the year ended December 31, 2002,  from $38.1 million for the
year ended  December 31, 2001.  For the year ended  December 31, 2002,  net loss
included the negative effect of non-recurring items totaling $473.0 million, net
of income taxes,  related to: (1) the cumulative effect of accounting  change, a
result of our  implementation of SFAS 142 ($276.3 million) and (2) the loss from
discontinued  operations of BT Financial  Group ($196.7  million).  For the year
ended December 31, 2001, net loss included the negative effect of  non-recurring
items  totaling  $11.2  million,  net of income taxes,  related to the loss from
discontinued operations of BT Financial Group.

YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000

                                       54

Premiums and other  considerations  increased $124.4 million,  or 56%, to $344.9
million for the year ended  December 31, 2001,  from $220.5 million for the year
ended  December 31, 2000. An increase of $166.4 million in Mexico was the result
of  increased  sales  of  single  premium  annuities  with  life  contingencies,
primarily  resulting  from  the  sale of a large  group  annuity  contract.  The
increase was partially offset by the loss of $36.4 million of premiums and other
considerations due to the February 2001 divestiture of our operations in Spain.

Fees and other revenues  increased  $16.6 million,  or 56%, to $46.1 million for
the year ended December 31, 2001, from $29.5 million for the year ended December
31, 2000.  An increase of $10.3 million in Mexico was a result of an increase in
the number of retirement  plan  participants.  In addition,  an increase of $4.3
million in Hong Kong was primarily due to deposits  growth  resulting from sales
to plans  established  under the new  Mandatory  Provident  Fund that started in
December 2000.

Net investment income increased $28.2 million, or 32%, to $117.4 million for the
year ended December 31, 2001, from $89.2 million for the year ended December 31,
2000. The increase was primarily  related to a $209.3 million,  or 21%, increase
in  average  invested  assets and cash and an  increase  in  investment  yields,
excluding our equity  investment in subsidiaries.  The yield on average invested
assets and cash,  excluding our equity investment in subsidiaries,  was 9.6% for
the year ended  December 31, 2001,  compared to 8.0% for the year ended December
31, 2000.  The increase in investment  yields was primarily due to the impact of
inflation  on  nominal  yields in Chile,  which  was  offset by a  corresponding
increase in reserve changes.

Benefits,  claims and settlement  expenses increased $145.3 million,  or 55%, to
$407.5 million for the year ended December 31, 2001, from $262.2 million for the
year ended  December  31,  2000.  An increase in reserve  changes and policy and
contract  benefit  payments of $171.6 million in Mexico was primarily the result
of the sale of a large  group  annuity  contract  with  life  contingencies.  An
increase of $15.1 million in Chile  primarily  related to an increase in reserve
changes to reflect  the impact of  inflation  adjustments.  The  increases  were
partially offset by the loss of $43.8 million of benefits, claims and settlement
expenses resulting from the divestiture of our operations in Spain.

Operating  expenses  increased $0.4 million to $101.2 million for the year ended
December 31,  2001,  from $100.8  million for the year ended  December 31, 2000.
Operating expenses incurred by BT Financial Group were $5.4 million for the year
ended  December 31, 2001 and $3.2 million for the year ended  December 31, 2000.
These expenses represent  corporate overhead allocated to BT Financial Group and
do not qualify for discontinued operations treatment.

Income tax benefits decreased $4.3 million, or 62%, to $2.6 million for the year
ended December 31, 2001, from $6.9 million for the year ended December 31, 2000.
The decrease was primarily a result of a decrease in pre-tax operating loss.

As a result of the foregoing factors, operating earnings increased $19.2 million
to $2.3 million of operating earnings for the year ended December 31, 2001, from
a $16.9 million operating loss for the year ended December 31, 2000.

Net realized/unrealized capital losses, as adjusted,  increased $30.5 million to
$29.2  million of net realized  capital  losses for the year ended  December 31,
2001,  from $1.3  million  of net  realized  capital  gains  for the year  ended
December 31, 2000.  The increase was primarily due to a $21.0 million  after-tax
net realized  capital loss on the February 2001 sale of our operations in Spain.
In addition,  a $13.9  million  increase  related to losses  resulting  from the
permanent impairment of certain fixed maturity securities in Argentina.

As a result of the foregoing  factors and the inclusion of  non-recurring  items
for the year ended December 31, 2001, net loss increased  $31.0 million to $38.1
million for the year ended  December  31,  2001,  from $7.1 million for the year
ended December 31, 2000. For the year ended December 31, 2001, net loss included
the negative effect of non-recurring items totaling $11.2 million, net of income
taxes,  related to the loss from discontinued  operations of BT Financial Group.
For the year ended December 31, 2000,  net loss included the positive  effect of

                                       55

non-recurring items totaling $8.5 million,  net of income taxes,  related to the
income from discontinued operations of BT Financial Group.

LIFE AND HEALTH INSURANCE SEGMENT

INDIVIDUAL AND GROUP LIFE INSURANCE TRENDS

Our life insurance  premiums have been  influenced by both economic and industry
trends. We are seeing a shift in sales from traditional life insurance  products
with  premiums to universal  and variable  universal  products with deposits and
fees.  Premiums related to our individual  traditional  life insurance  products
have declined due to the shift in customer preference.  Our group life insurance
premiums declined in 2001 due largely to the loss of two large customers.

The  following  table  provides a summary of our life  insurance  fee  revenues,
premiums,  premium  equivalents,  and policyholder  liabilities as of or for the
years ended December 31, 2002, 2001 and 2000:

                                                                  LIFE INSURANCE
                              ----------------------------------------------------------------------------------------

                                 INDIVIDUAL UNIVERSAL AND
                                 VARIABLE UNIVERSAL LIFE                   INDIVIDUAL                   GROUP LIFE
                                        INSURANCE                  TRADITIONAL LIFE INSURANCE           INSURANCE
                              -------------------------------    --------------------------------    -----------------

                                                                                                       PREMIUMS AND
AS OF OR FOR THE YEAR            FEE          POLICYHOLDER                         POLICYHOLDER          PREMIUM
ENDED                          REVENUES      LIABILITIES(1)       PREMIUMS         LIABILITIES         EQUIVALENTS
- --------------------------    -----------    ----------------    ------------     ---------------    -----------------
                                                                   (IN MILLIONS)

December 31, 2002.......         $129.5          $1,900.9           $  737.2         $  5,851.4         $    217.6
December 31, 2001.......           99.6           1,748.5              766.2            5,712.7              221.8
December 31, 2000.......           89.1           1,567.5              772.8            5,522.7              277.7

_____________________

(1)  Includes separate account liabilities for policies with variable investment
     options.

HEALTH INSURANCE TRENDS

Improved pricing discipline in our group medical insurance business has affected
premium growth during the past few years. In general, we reacted faster than the
industry in 2000 to rising  healthcare costs by raising our prices.  That action
depressed  sales and increased  lapses,  causing a loss of membership  and total
premiums that continued  into 2001.  Our price  increases have subsided to match
cost trends,  and competitors have increased their pricing more recently.  While
sales and lapses improved in 2001 and 2002, inforce covered members continued to
decline  but at a much  slower  pace.  Decreases  in  premium  due  to  loss  of
membership were offset by increased  premium per member.  Some of the decline in
members  during  the past  few  years  was due to  strategic  decisions  to exit
under-performing and non-strategic businesses and markets.  Effective January 1,
2000,  we ceased new sales of our  Medicare  supplement  insurance  product  and
effective July 1, 2000,  reinsured all existing  Medicare  supplement  business.
More recently,  we began to exit the small case medical business in Florida.  We
continue  to sell group  medical  business  in 35 states  plus the  District  of
Columbia.  We also offer  dental  business  in 50 states  plus the  District  of
Columbia,  vision  coverage in 49 states  plus the  District  of  Columbia,  and
administrative  services  only  business in all 50 states  plus the  District of
Columbia.

Our health  insurance  premiums  and  premium  equivalents  for the years  ended
December 31, 2002, 2001 and 2000 were as follows:

                                       56

                                               PREMIUMS AND PREMIUM EQUIVALENTS
                                ----------------------------------------------------------------

                                  GROUP MEDICAL        GROUP DENTAL AND
FOR THE YEAR ENDED                INSURANCE(1)         VISION INSURANCE       FEE-FOR-SERVICE
- ----------------------------    ------------------    -------------------    -------------------
                                                         (IN MILLIONS)

December 31, 2002...........    $  1,620.5            $   343.5              $ 2,108.7
December 31, 2001...........       1,610.3                351.1                1,828.2
December 31, 2000...........       1,815.6                340.4                1,502.2

____________________

(1)  Effective  January 1, 2000, we ceased new sales of our Medicare  supplement
     insurance  and  effective  July 1, 2000,  reinsured  all existing  Medicare
     supplement  business.  Beginning  September 1, 2002, we began  non-renewing
     small group medical business in the state of Florida.

INDIVIDUAL AND GROUP DISABILITY INSURANCE TRENDS

Premium growth for our group and individual disability business in 2002 and 2001
is being driven by growing sales and stable persistency.  This has been a result
of more focused distribution on these product lines.

The following  table  provides a summary of our disability  insurance  premiums,
premium equivalents,  and policyholder  liabilities as of or for the years ended
December 31, 2002, 2001 and 2000:

                                                            DISABILITY INSURANCE
                                       ---------------------------------------------------------------

                                                                                  GROUP DISABILITY
                                         INDIVIDUAL DISABILITY INSURANCE              INSURANCE
                                       ------------------------------------     ----------------------

                                                            POLICYHOLDER        PREMIUMS AND PREMIUM
AS OF OR FOR THE YEAR ENDED              PREMIUMS           LIABILITIES              EQUIVALENTS
- -----------------------------------    --------------     -----------------     ----------------------
                                                               (IN MILLIONS)

December 31, 2002...........           $     93.5             $ 426.8                $ 111.0
December 31, 2001...........                 83.2               381.5                   98.2
December 31, 2000...........                 74.2               338.9                   94.5

                                       57

LIFE AND HEALTH INSURANCE SEGMENT SUMMARY FINANCIAL DATA

The following table presents certain summary financial data relating to the Life
and Health Insurance segment for the years indicated:

                                         FOR THE YEAR ENDED DECEMBER 31,
                              --------------------------------------------------
                                     2002              2001              2000
                              -------------    ---------------    --------------
                                              (IN MILLIONS)

OPERATING EARNINGS DATA:
Operating Revenues (1):
  Premiums and other
   considerations.............    $2,973.4       $   3,011.1        $  3,250.5
  Fees and other revenues.....       313.2             256.7             230.0
  Net investment income.......       660.2             678.6             642.1
                              -------------    ---------------    --------------
  Total operating
   revenues...................     3,946.8           3,946.4           4,122.6

Expenses:
  Benefits, claims and
   settlement expenses........     2,433.4           2,491.0           2,659.4
  Dividends to policyholders..       307.0             307.0             308.1
  Operating expenses..........       851.2             842.7             913.6
                              -------------    ---------------    --------------
      Total expenses..........     3,591.6           3,640.7           3,881.1
                              -------------    ---------------    --------------
Pre-tax operating earnings....       355.2             305.7             241.5
Income taxes..................       122.1             104.5              79.2
                              -------------    ---------------    --------------
Operating earnings............       233.1             201.2             162.3

Net realized/unrealized
 capital gains (losses),
 as adjusted..................       (50.0)            (33.8)             47.3
Non-recurring items...........        (4.6)              0.1               -
                              -------------    ---------------    --------------
U.S. GAAP REPORTED:
Net income....................   $   178.5      $      167.5        $    209.6
                              =============    ===============    =============

- ------------
(1)  Excludes net realized/unrealized capital gains (losses) and their impact on
     recognition of front-end fee revenues and certain market value  adjustments
     to fee revenues.

YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001

Premiums and other  considerations  decreased $37.7 million,  or 1%, to $2,973.4
million for the year ended December 31, 2002, from $3,011.1 million for the year
ended  December 31, 2001.  Life  insurance  premiums  decreased  $63.2  million,
primarily  resulting  from the  reclassification  of  revenues  from  our  group
universal life insurance  product from premium to fee revenues and the continued
shift of  customer  preference  from  traditional  life  insurance  products  to
fee-based  universal and variable universal life insurance  products.  Partially
offsetting  the decrease was a $23.1 million  increase in  disability  insurance
premiums due to strong sales in 2002.

Fees and other revenues  increased $56.5 million,  or 22%, to $313.2 million for
the year  ended  December  31,  2002,  from  $256.7  million  for the year ended
December 31, 2001. Fee revenues from our life insurance business increased $50.2
million,  primarily  due to the  reclassification  of  revenues  from our  group
universal  life product to fee revenues from premium and the continued  shift in
customer  preference,  as  previously  mentioned.  Fee revenues  from our health
insurance  business  increased  $6.3  million,  primarily  a result  of  selling
additional  services to existing  fee-for-service  customers  and related  price
increases.

Net investment income decreased $18.4 million,  or 3%, to $660.2 million for the
year ended  December 31, 2002,  from $678.6  million for the year ended December
31, 2001. The decrease primarily reflects lower average investment yields due in
part to an  overall  lower  interest  rate  environment.  The  yield on  average

                                       58

invested assets and cash was 7.1% for the year ended December 31, 2002, compared
to 7.6% for the year ended December 31, 2001.  Partially offsetting the decrease
was a $357.8 million,  or 4%,  increase in average  invested assets and cash for
the segment.

Benefits,  claims and settlement  expenses  decreased  $57.6 million,  or 2%, to
$2,433.4 million for the year ended December 31, 2002, from $2,491.0 million for
the year  ended  December  31,  2001.  Health  insurance  benefits,  claims  and
settlement  expenses decreased $40.8 million,  primarily due to amounts received
from a  reinsurer.  Life  insurance  benefits,  claims and  settlement  expenses
decreased $27.9 million  primarily due to lower death claims and a lower reserve
increase related to a decrease in premium.  Partially offsetting these decreases
was an $11.1  million  increase in  disability  insurance  benefits,  claims and
settlement expenses, primarily a result of growth in the business.

Operating expenses increased $8.5 million, or 1%, to $851.2 million for the year
ended  December 31, 2002,  from $842.7  million for the year ended  December 31,
2001.  Disability  insurance  operating  expenses  increased $4.8 million due to
expenses associated with higher sales, increased commissions on higher premiums,
and  increased  amortization  of DPAC  on a  growing  block  of  business.  Life
insurance operating expenses increased $2.5 million primarily due to an increase
in compensation  costs partially offset by an increase in the  capitalization of
DPAC  related  to  higher  sales and the  reclassifying  of fees  received  from
reinsurance ceded from fee revenue to operating  expenses.  In addition,  Health
operating  expenses  increased  $1.2  million,  primarily a result of  increased
commissions partially offset by several one-time expenses in 2001.

Income taxes  increased  $17.6  million,  or 17%, to $122.1 million for the year
ended  December 31, 2002,  from $104.5  million for the year ended  December 31,
2001. The effective  income tax rate for the segment was 34% for the years ended
December 31, 2002 and 2001.  The effective  income tax rates for the years ended
December 31, 2002 and 2001, were lower than the corporate income tax rate of 35%
primarily due to tax-exempt income.

As a  result  of the  foregoing  factors,  operating  earnings  increased  $31.9
million,  or 16%, to $233.1 million for the year ended  December 31, 2002,  from
$201.2 million for the year ended December 31, 2001.

Net realized/unrealized capital losses, as adjusted,  increased $16.2 million to
$50.0 million for the year ended  December 31, 2002,  from $33.8 million for the
year ended  December  31, 2001.  The  increase  includes an increase in realized
capital losses related to other than temporary  declines in the value of certain
fixed maturity securities  partially offset by lower capital losses on the sales
of fixed maturity securities.

As a result of the foregoing  factors and the inclusion of  non-recurring  items
for the year ended December 31, 2002, net income increased $11.0 million, or 7%,
to $178.5 million for the year ended December 31, 2002,  from $167.5 million for
the year  ended  December  31,  2001.  Non-recurring  items  for the year  ended
December 31, 2002, had a negative  impact on net income of $4.6 million,  net of
income taxes, due to the cumulative effect of accounting change, a result of our
implementation of SFAS 142.  Non-recurring items for the year ended December 31,
2001, had a positive impact on net income of $0.1 million,  net of income taxes,
due  to  the  cumulative   effect  of  accounting   change,   a  result  of  our
implementation of SFAS 133.

YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000

Premiums and other  considerations  decreased $239.4 million, or 7%, to $3,011.1
million for the year ended December 31, 2001, from $3,250.5 million for the year
ended December 31, 2000.  Health  insurance  premiums  decreased $181.0 million,
primarily  resulting  from our decision to reinsure  100% of the group  Medicare
supplement  business  effective  July 1, 2000 and  group  medical  premium  rate
increases in 2000, which led to increased lapses and lower sales. Life insurance
premiums  decreased $71.3 million,  primarily due to the loss of two large group
life  customers and, to a lesser  extent,  a result of the continued  shift from
individual  traditional  life  insurance  products to  individual  universal and
variable universal life insurance products. Group life sales also decreased as a
result of pricing actions on our group medical  business,  as these products are
often sold together.

                                       59

Fees and other revenues  increased $26.7 million,  or 12%, to $256.7 million for
the year  ended  December  31,  2001,  from  $230.0  million  for the year ended
December 31, 2000.  Fee revenues from our health  insurance  business  increased
$24.4  million,  primarily due to growth in the group  fee-for-service  business
and, to a lesser  extent,  increases in fee rates.  Fee  revenues  from the life
insurance business increased $3.5 million, a result of continued growth from the
individual  universal and variable  universal life insurance  product  partially
offset by a decrease in  individual  traditional  life  insurance  fee  revenues
related  to  classifying  fees  from  reinsurance  ceded  for  traditional  life
insurance as  operating  expenses.  The fees from  reinsurance  were  previously
reported as fee revenues.

Net investment income increased $36.5 million,  or 6%, to $678.6 million for the
year ended  December 31, 2001,  from $642.1  million for the year ended December
31, 2000. The increase was primarily due to a $265.1 million, or 3%, increase in
average  invested  assets and cash for the segment.  Net investment  income also
increased due to an increase in average  investment yields for the segment.  The
yield on average  invested  assets and cash was 7.6% for the year ended December
31, 2001, compared to 7.4% for the year ended December 31, 2000.

Benefits,  claims and settlement  expenses  decreased $168.4 million,  or 6%, to
$2,491.0 million for the year ended December 31, 2001, from $2,659.4 million for
the year  ended  December  31,  2000.  Health  insurance  benefits,  claims  and
settlement  expenses  decreased  $114.1 million  primarily due to a reduction in
group medical  business and our decision to reinsure 100% of the group  Medicare
supplement  business  effective  July 1,  2000.  In  general,  health  insurance
benefits  as a  percentage  of  premiums  decreased  due  to  improved  pricing,
resulting in lower loss ratios. These decreases were partially offset by reserve
releases  during the year ended  December 31,  2000.  Life  insurance  benefits,
claims and settlement expenses decreased $32.9 million primarily due to the loss
of two large group life customers and an overall decline in group life business.
Disability  insurance  benefits,  claims and settlement expenses decreased $21.4
million, primarily a result of claim reserve strengthening during 2000.

Dividends to policyholders decreased $1.1 million to $307.0 million for the year
ended  December 31, 2001,  from $308.1  million for the year ended  December 31,
2000.  The  decrease  was  primarily  a result  of a change  in  methodology  of
estimating  dividends.  Additionally,  the  dividends  in the Closed  Block were
reduced due to accumulated experience losses.

Operating  expenses  decreased  $70.9 million,  or 8%, to $842.7 million for the
year ended  December 31, 2001,  from $913.6  million for the year ended December
31, 2000. Health insurance operating expenses decreased $51.5 million, primarily
due to our decision to reinsure 100% of our group Medicare supplement  insurance
business  effective July 1, 2000 and due to expense management in response to an
overall decline in health insurance business.  Life insurance operating expenses
decreased  $11.8  million  primarily  due to a decrease  in  commission  expense
resulting from  classifying  fees from  reinsurance  ceded for traditional  life
insurance as operating expenses rather than fee revenues,  a decrease in company
sponsored  benefit plan expenses,  and a decrease in commissions  resulting from
lower sales. The decreases in life insurance  operating  expenses were partially
offset by lower  capitalization of deferred policy  acquisition costs related to
lower  sales  of  individual  life  insurance.  Disability  insurance  operating
expenses  decreased  $7.6  million due to  unlocking  of  individual  disability
insurance  deferred  policy  acquisition  costs in 2000,  a result of changes in
profitability assumptions.

Income taxes  increased  $25.3  million,  or 32%, to $104.5 million for the year
ended  December 31,  2001,  from $79.2  million for the year ended  December 31,
2000.  The effective  income tax rate for the segment was 34% for the year ended
December 31, 2001,  and 33% for the year ended  December 31, 2000. The effective
income  tax rate for the year  ended  December  31,  2001,  was  lower  than the
corporate  income  tax  rate of 35%  primarily  due to  tax-exempt  income.  The
effective  income tax rate for the year ended  December 31, 2000, was lower than
the corporate income tax rate of 35%,  primarily due to tax-exempt  income and a
reduction in a tax reserve as a result of a favorable IRS audit event.

As a  result  of the  foregoing  factors,  operating  earnings  increased  $38.9
million,  or 24%, to $201.2 million for the year ended  December 31, 2001,  from
$162.3 million for the year ended December 31, 2000.

                                       60

Net realized/unrealized capital losses, as adjusted,  increased $81.1 million to
$33.8  million  of net  realized/unrealized  capital  losses  for the year ended
December 31, 2001, from $47.3 million of net  realized/unrealized  capital gains
for the year ended December 31, 2000. The decrease primarily related to the sale
of our  investment in United Payors and United  Providers.  In 2000, we sold our
remaining investment and realized an after-tax capital gain of $58.9 million. To
a lesser  extent,  the decrease was due to an increase in losses from  permanent
impairments of fixed maturity securities during 2001, including $16.6 million of
net  realized  capital  losses  related to our  investment  in Enron and related
entities.

As a result of the foregoing  factors and the inclusion of  non-recurring  items
for the year ended December 31, 2001,  net income  decreased  $42.1 million,  or
20%, to $167.5 million for the year ended December 31, 2001, from $209.6 million
for the year ended  December  31, 2000.  Non-recurring  items for the year ended
December 31, 2001, had a positive  impact on net income of $0.1 million,  net of
income taxes, due to the cumulative effect of accounting change, a result of our
implementation of SFAS 133.

MORTGAGE BANKING SEGMENT

MORTGAGE BANKING TRENDS

We believe  residential  mortgages play a central role in the financial planning
activities  of  individuals  in the  U.S.  As a  result,  our  mortgage  banking
operations  complement  our portfolio of  market-driven  financial  products and
services.

Interest rate trends  significantly  impact our residential  mortgage  business.
Starting in early 2001  interest  rates  declined  resulting in increases in the
production  of  both  purchase  and  refinance  mortgage  loans  throughout  the
industry. This trend continued through all of 2002.

We manage growth in the mortgage loan servicing  portfolio  through retention of
mortgage loan production and the  acquisition,  and occasional sale, of mortgage
servicing rights. Our servicing  portfolio grew at a compound annual rate of 39%
between  December 31, 2000 and December 31, 2002.  Growth was steady during this
period and  resulted  from strong  mortgage  loan  production  net of  servicing
portfolio  prepayments,  strong  servicing  acquisitions  and very few servicing
sales.

Our residential  mortgage loan production and the unpaid  principal  balances in
our residential  mortgage loan servicing  portfolio as of or for the years ended
December 31, 2002, 2001 and 2000 were as follows:

                                                RESIDENTIAL MORTGAGE          RESIDENTIAL MORTGAGE
AS OF OR FOR THE YEAR ENDED                        LOAN PRODUCTION          LOAN SERVICING PORTFOLIO
- ------------------------------------------    --------------------------    -------------------------
                                                                  (IN MILLIONS)

December 31, 2002................                    $  46,811.2                    $ 107,745.3
December 31, 2001................                       37,771.3                       80,530.5
December 31, 2000................                        8,311.8                       55,987.4

MORTGAGE BANKING SEGMENT SUMMARY FINANCIAL DATA

The following  table  presents  certain  summary  financial data relating to the
Mortgage Banking segment for the years indicated:

                                       61

                                           FOR THE YEAR ENDED DECEMBER 31,
                                     -------------------------------------------
                                         2002            2001           2000
                                     -----------     -----------    ------------
                                                    (IN MILLIONS)

OPERATING EARNINGS DATA:
Operating Revenues(1):
     Loan servicing................  $   590.1       $   403.0      $   313.8
     Loan production...............      562.9           354.4           46.0
                                     -----------     -----------    ------------
         Total operating revenues..    1,153.0           757.4          359.8
Expenses:
     Loan servicing................      711.8           407.3          215.3
     Loan production...............      196.4           145.0           67.4
                                     -----------     -----------    ------------
         Total expenses............      908.2           552.3          282.7
                                     -----------     -----------    ------------
Pre-tax operating earnings.........      244.8           205.1           77.1
Income taxes.......................      101.9            78.4           27.1
                                     -----------     -----------    ------------
Operating earnings.................      142.9           126.7           50.0

Net realized/unrealized capital
   gains (losses), as adjusted.....        -               -              -
Non-recurring items................        -               -              -
                                     -----------     -----------    ------------
U.S. GAAP REPORTED:
Net income.........................  $   142.9       $   126.7      $    50.0
                                     ===========     ===========    ============
- ------------
(1)  Excludes net realized/unrealized capital gains (losses) and their impact on
     recognition of front-end fee revenues and certain market value  adjustments
     to fee revenues.

YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001

Total operating revenues  increased $395.6 million,  or 52%, to $1,153.0 million
for the year ended  December  31, 2002,  from $757.4  million for the year ended
December 31, 2001.  Residential  mortgage  loan  production  revenues  increased
$208.5 million  primarily due to an increase in mortgage loan production,  which
increased to $46.8  billion for the year ended  December  31, 2002,  compared to
$37.8  billion  for the same  period a year ago. A $187.1  million  increase  in
residential  mortgage  loan  servicing  revenues  reflects  an  increase  in the
residential  mortgage  loan  servicing  portfolio.  The  average  balance of the
servicing  portfolio  was $95.7  billion for the year ended  December  31, 2002,
compared to $65.8 billion for the same period a year ago. In addition,  mortgage
loan  servicing  revenues  increased due to a gain on the sale of  approximately
$300.0 million of delinquent  Government National Mortgage  Association ("GNMA")
loans during the second quarter of 2002.  This sale generated  revenues of $15.0
million in 2002 with no corresponding sale of loans in 2001.

Total expenses increased $355.9 million,  or 64%, to $908.2 million for the year
ended  December 31, 2002,  from $552.3  million for the year ended  December 31,
2001. A $304.5 million increase in residential  mortgage loan servicing expenses
resulted from increased  expenses  related to growth in the servicing  portfolio
and a $137.3 million  increase in impairment of capitalized  mortgage  servicing
rights net of servicing  hedge  activity.  Residential  mortgage loan production
expenses increased $51.4 million reflecting the increase in residential mortgage
loan production volume.

Income taxes  increased  $23.5  million,  or 30%, to $101.9 million for the year
ended  December 31,  2002,  from $78.4  million for the year ended  December 31,
2001.  The  increase  in income  taxes  primarily  resulted  from an increase in
pre-tax operating  earnings.  The effective income tax rate for this segment was
42% for the year ended  December 31, 2002,  and 38% for the year ended  December
31,  2001.  The  increase  in the  effective  tax rate to 42% for the year ended
December 31, 2002,  from 38% for the year ended December 31, 2001, was primarily
due to the cumulative effect of increasing deferred tax liabilities and deferred
tax expense for a change in the state income tax apportionment  factor, a result
of our sale of substantially all of BT Financial Group.

                                       62

As a  result  of the  foregoing  factors,  operating  earnings  and  net  income
increased  $16.2 million,  or 13%, to $142.9 million for the year ended December
31, 2002, from $126.7 million for the year ended December 31, 2001.

YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000

Total operating revenues increased $397.6 million to $757.4 million for the year
ended  December 31, 2001,  from $359.8  million for the year ended  December 31,
2000. A $308.4 million  increase in mortgage loan production  revenues  reflects
the increase in mortgage loan  production  volume during the year ended December
31, 2001. In addition,  an increase of $89.2 million in mortgage loan  servicing
revenues  reflects  the growth in the mortgage  loan  servicing  portfolio.  The
decline in interest rates in 2001 resulted in mortgage loan  production of $37.8
billion for the year ended  December 31, 2001,  compared to $8.3 billion for the
same period a year ago. The average balance of the servicing portfolio was $65.8
billion for the year ended December 31, 2001,  compared to $52.6 billion for the
same period a year ago.

Total expenses increased $269.6 million,  or 95%, to $552.3 million for the year
ended  December 31, 2001,  from $282.7  million for the year ended  December 31,
2000.  A $192.0  million  increase  in  mortgage  loan  servicing  expenses  was
primarily a result of an  impairment  of  capitalized  mortgage  loan  servicing
rights and, to a lesser  extent,  due to growth in the mortgage  loan  servicing
portfolio.  The impairment  was partially  offset by an increase in net gains on
servicing  hedge  activity  recognized  in the year  ended  December  31,  2001,
compared to the year ended December 31, 2000.  Mortgage loan production expenses
increased  $77.6 million,  reflecting  the increase in mortgage loan  production
volume.

Income  taxes  increased  $51.3  million  to $78.4  million  for the year  ended
December 31, 2001,  from $27.1 million for the year ended December 31, 2000. The
effective  income tax rate for this segment was 38% for the year ended  December
31, 2001, and 35% for the year ended December 31, 2000. The effective income tax
rate for the year ended December 31, 2001, was higher that the corporate  income
tax rate of 35% due to the allocation of deferred state taxes,  relating to both
current and prior years,  recorded in 2001.  This  allocation  will increase the
effective income tax rate for this segment in future reporting periods.

As a  result  of the  foregoing  factors,  operating  earnings  and  net  income
increased  $76.7 million to $126.7 million for the year ended December 31, 2001,
from $50.0 million for the year ended December 31, 2000.

CORPORATE AND OTHER SEGMENT

CORPORATE AND OTHER SEGMENT SUMMARY FINANCIAL DATA

The following  table  presents  certain  summary  financial data relating to the
Corporate and Other segment for the years indicated:

                                       63

                                        FOR THE YEAR ENDED DECEMBER 31,
                               -------------------------------------------------
                                  2002                 2001             2000
                               ---------------     -------------     -----------
                                                   (IN MILLIONS)

OPERATING EARNINGS DATA:
Operating Revenues (1):
 Total operating revenues....     $ (15.1)         $   101.7         $   98.2

Expenses:
 Total expenses..............        33.4               44.2             15.5
                               ---------------     -------------     -----------
Pre-tax operating earnings
 (loss)......................       (48.5)              57.5             82.7
Income taxes (benefits)......       (31.5)              19.4             15.0

                               ---------------     -------------     -----------
Operating earnings (loss)....       (17.0)              38.1             67.7
Net realized/unrealized
 capital gains (losses), as
 adjusted....................        44.2              (93.3)            80.3
Non-recurring items..........       114.4              (20.4)          (101.0)
                               ---------------    --------------     -----------
U.S. GAAP REPORTED:
Net income (loss)............     $ 141.6          $   (75.6)        $   47.0
                               ===============     =============     ===========
- ------------
(1)  Excludes net realized/unrealized capital gains (losses) and their impact on
     recognition of front-end fee revenues and certain market value  adjustments
     to fee revenues.

YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001

Total operating  revenues  decreased  $116.8 million to a negative $15.1 million
for the year ended  December 31, 2002,  from a positive  $101.7  million for the
year ended  December 31, 2001. Net investment  income  decreased  $62.8 million,
reflecting a decrease in  investment  gains on real estate due to lower sales of
certain real estate held-for-sale, compared to an unusually high volume of sales
experienced in 2001. In addition,  net investment income decreased $39.3 million
due to a decrease of average investment yields for the segment.  The decrease in
total  revenues  was  also  partially  due  to  a  $21.9  million   increase  in
inter-segment  eliminations included in this segment, which was primarily offset
by a corresponding change in total expenses.

Total expenses  decreased  $10.8 million,  or 24%, to $33.4 million for the year
ended  December 31,  2002,  from $44.2  million for the year ended  December 31,
2001.  Inter-segment  eliminations  included  in this  segment  increased  $21.0
million,  resulting in a decrease in total expenses. In addition, a $6.8 million
decrease  related to a prior  year  write-off  of a  non-invested  asset.  These
decreases  were  partially  offset  by an $11.0  million  increase  in  interest
expense,  primarily  due  to  interest  related  to  federal  income  tax  audit
activities  as well as a $6.8  million  increase  due to costs  associated  with
operating as a public company.

Income  tax  benefits  increased  $50.9  million to a $31.5  million  income tax
benefit for the year ended  December 31, 2002,  from $19.4 million of income tax
expense for the year ended  December  31, 2001.  The  increase  was  primarily a
result of a decrease in pre-tax operating earnings. The increase was also due to
a decrease  in income  tax  reserves  established  for  contested  IRS tax audit
matters.

As a result of the foregoing factors, operating earnings decreased $55.1 million
to $17.0 million of operating  loss for the year ended  December 31, 2002,  from
$38.1 million of operating earnings for the year ended December 31, 2001.

Net realized/unrealized capital gains, as adjusted,  increased $137.5 million to
$44.2  million  of net  realized/unrealized  capital  gains  for the year  ended
December 31, 2002, from $93.3 million of net realized/unrealized  capital losses
for the year ended December 31, 2001. The increase was primarily due to realized
capital  gains  related to the sale of our  investment  in  Coventry in February

                                       64

2002, and to a lesser extent, other sales of invested assets. The increases were
partially offset by the mark to market of certain seed money investments.

As a result of the foregoing  factors and the inclusion of non-recurring  items,
net income increased $217.2 million to $141.6 million of net income for the year
ended  December  31,  2002,  from  $75.6  million of net loss for the year ended
December 31, 2001. For the year ended December 31, 2002, net income included the
effect of  non-recurring  items totaling  $114.4  million,  net of income taxes,
related  to: (1) the  positive  effect of the  settlement  of an IRS audit issue
($138.0  million)  and (2) the  negative  effects of (a) an increase in our loss
contingency  reserve for sales  practices  litigation  ($21.6  million)  and (b)
expenses  related  to our  demutualization  ($2.0  million).  For the year ended
December 31, 2001, net loss included the effect of non-recurring  items totaling
$20.4 million,  net of income taxes, related to: (1) the negative effects of (a)
expenses related to our  demutualization  ($18.6 million) and (b) an increase in
our loss contingency  reserve for sales practices  litigation ($5.9 million) and
(2) the positive effect of investment  income generated from the proceeds of our
IPO ($4.1 million).

YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000

Total operating  revenues  increased $3.5 million,  or 4%, to $101.7 million for
the year ended December 31, 2001, from $98.2 million for the year ended December
31, 2000. Net investment income increased $14.0 million,  reflecting an increase
in average  invested  assets and cash.  The increase in total  revenues was also
partially due to a $1.7 million decrease in inter-segment  eliminations included
in this segment,  which was offset by a corresponding  change in total expenses.
The  increases  were  partially  offset  by an  $11.2  million  decrease  in net
investment  income  due to a  decrease  in  average  investment  yields  for the
segment.

Total  expenses  increased  $28.7  million to $44.2  million  for the year ended
December  31,  2001,  from $15.5  million for the year ended  December 31, 2000.
Interest  expense  increased  $32.3 million,  primarily due to a net recovery in
2000 of previously  paid interest  related to a successful tax audit appeal.  An
increase of $6.8  million  related to the  write-off  of a  non-invested  asset.
Interest expense on short-term  borrowings  increased $3.1 million. The increase
in  total  expenses  was  also  partially  due to a  $1.7  million  decrease  in
inter-segment   eliminations  included  in  this  segment.  The  increases  were
partially  offset by a $9.3 million  decrease of interest expense as a result of
extinguishment  of  commercial  real estate debt on home office  properties.  In
addition,  interest  expense on private debt  securities  and  commercial  paper
issued in connection  with the  acquisition of BT Financial Group decreased $5.9
million, a result of the impact of the weakening of the Australian dollar versus
the U.S. dollar and repayment of the commercial paper.

Income tax expense increased $4.4 million, or 29%, to $19.4 million for the year
ended  December 31,  2001,  from $15.0  million for the year ended  December 31,
2000.  The increase was primarily due to  tax-exempt  income in 2000,  and, to a
lesser  extent,  due to a  decrease  in  income  tax  reserves  established  for
contested IRS tax audit matters in 2000.

As a  result  of the  foregoing  factors,  operating  earnings  decreased  $29.6
million,  or 44%, to $38.1  million for the year ended  December 31, 2001,  from
$67.7 million for the year ended December 31, 2000.

Net  realized/unrealized  capital gains (losses), as adjusted,  decreased $173.6
million to $93.3 million of net realized/unrealized  capital losses for the year
ended December 31, 2001, from $80.3 million of net  realized/unrealized  capital
gains for the year ended December 31, 2000. The decrease was primarily due to an
increase in net realized capital losses for the year ended December 31, 2001, on
sales of equity securities and real estate.  The decrease included $10.5 million
of net realized  capital  losses  related to our investment in Enron and related
entities.

As a result of the foregoing  factors and the inclusion of non-recurring  items,
net loss  increased  $122.6  million to a net loss of $75.6 million for the year
ended  December  31, 2001,  from $47.0  million of net income for the year ended
December 31, 2000. For the year ended December 31, 2001, net income included the
effect of  non-recurring  items  totaling  $20.4  million,  net of income taxes,
related  to:  (1)  the  negative   effects  of  (a)  expenses   related  to  our
demutualization  ($18.6  million)  and (b) an increase  in our loss  contingency
reserve for sales  practices  litigation  ($5.9  million)  and (2) the  positive
effect  of  investment  income  generated  from the  proceeds  of our IPO  ($4.1

                                       65

million). For the year ended December 31, 2000, net income included the negative
effects of  non-recurring  items totaling $101.0  million,  net of income taxes,
related  to: (1) a loss  contingency  reserve  established  for sales  practices
litigation ($93.8 million) and (2) expenses related to our demutualization ($7.2
million).

LIQUIDITY AND CAPITAL RESOURCES

THE HOLDING COMPANIES

Liquidity  describes the ability of a company to generate  sufficient cash flows
to meet the  cash  requirements  of  business  operations.  Our  parent  holding
company,  Principal  Financial Group, Inc., is a Delaware business  corporation,
whose  assets  primarily  consist  of  the  outstanding  capital  stock  of  its
subsidiaries.  As a holding company, Principal Financial Group Inc.'s ability to
meet cash requirements,  including the payments of dividends on common stock and
the repurchase of stock, substantially depends upon dividends from subsidiaries,
primarily Principal Life. The payment of stockholder dividends by Principal Life
to its parent company is limited by Iowa laws.  Under Iowa laws,  Principal Life
may pay  dividends  only from the earned  surplus  arising from its business and
must receive the prior  approval of the Insurance  Commissioner  of the State of
Iowa ("the  Commissioner")  to pay a stockholder  dividend if such a stockholder
dividend  would exceed  certain  statutory  limitations.  The current  statutory
limitation is the greater of:

o    10% of Principal Life's statutory  policyholder  surplus as of the previous
     year-end; or

o    the statutory net gain from operations from the previous calendar year.

Iowa law gives the Commissioner  discretion to disapprove requests for dividends
in excess of these limits.  Based on this limitation and 2002 statutory results,
Principal Life could pay approximately  $746.6 million in stockholder  dividends
in 2003 without exceeding the statutory  limitation.  Principal Life was able to
pay  approximately  $640.3  million in statutory  dividends in 2002 based on its
2001 statutory financial results without being subject to the restrictions on
payment of extraordinary stockholder dividends.

Total stockholder dividends paid by Principal Life to its parent company in 2002
and 2001 were $590.2 million and $734.7 million, respectively.

Another source of liquidity is issuance of our common stock.  In 2002,  proceeds
from the issuance of our common stock were $22.0 million.  In 2001, net proceeds
from our IPO totaled  $1,753.9  million,  of which we retained $64.2 million for
working capital, payment of dividends, and other general corporate purposes. The
remaining $1,689.7 million was contributed to Principal Life principally to fund
demutualization  compensation to policyholders in the form of policy credits and
cash, and to cover certain expenses related to our demutualization. In addition,
net  proceeds  from the  issuance of  additional  shares for the exercise of the
over-allotment  options granted to the  underwriters in the IPO,  totaled $265.4
million,  all of which we  retained  for  repurchase  of  shares  issued  in the
exercise of the over-allotment options.

In 2002, we paid $83.8 million in dividends to shareholders.  We paid a dividend
of $0.25 per share on December 9, 2002, to shareholders of record as of November
8, 2002.

In the last two years, our board of directors has authorized  various repurchase
programs under which we are allowed to purchase shares of our outstanding common
stock.  Shares  repurchased  under these  programs are accounted for as treasury
stock, carried at cost and reflected as a reduction to stockholders' equity.

On November 26,  2002,  our board of  directors  authorized  a third  repurchase
program of up to $300.0 million of our outstanding common stock. The repurchases
will be made in the open market or through  privately  negotiated  transactions,
from time to time, depending on market conditions.  No purchases were made under
this program as of December 31, 2002.

                                       66

Earlier in 2002, our board of directors  authorized two repurchase programs that
were completed with the purchase of 27.0 million shares in the open market at an
aggregate cost of $750.0 million.

On November 27, 2001, our board of directors  authorized a repurchase program of
up to 15.3 million  shares of our  outstanding  common  stock.  This program was
completed by December 31, 2001, with the purchase of 13.0 million shares through
an accelerated share repurchase  program and 2.3 million shares through the open
market and  privately  negotiated  transactions  at an aggregate  cost of $367.7
million.   The  13.0  million  shares  purchased  under  the  accelerated  share
repurchase   program  were  subject  to  a  future  contingent   purchase  price
adjustment.  The  adjustment  was based upon the  difference  between the market
price  of  our  common  stock  as  of  December   14,   2001,   and  its  volume
weighted-average  price  over an  extended  trading  period as  outlined  in the
forward  stock  purchase  contract.  Settlement  of this  contract  occurred  in
February 2002 with a cash payment of $0.4 million.

Sources of liquidity  also  include  facilities  for  short-term  and  long-term
borrowing  as  needed,   arranged  through  our  intermediate  holding  company,
Principal   Financial  Services  Inc.  ("PFSI"),   and  its  subsidiaries.   See
"Contractual Obligations and Commercial Commitments" below.

PRINCIPAL LIFE

Historically,  the  principal  cash flow  sources for  Principal  Life have been
premiums from life and health insurance products,  pension and annuity deposits,
asset management fee revenues, administrative services fee revenues, income from
investments, proceeds from the sales or maturity of investments,  long-term debt
and  short-term  borrowings.  Cash  outflows  consist  primarily  of  payment of
benefits to policyholders  and  beneficiaries,  income and other taxes,  current
operating  expenses,   payment  of  dividends  to  policyholders,   payments  in
connection with  investments  acquired,  payments made to acquire  subsidiaries,
payment of  dividends to parent,  and  payments  relating to policy and contract
surrenders,  withdrawals,  policy  loans,  interest  expense  and  repayment  of
short-term borrowings and long-term debt.

Principal Life maintains  investment  strategies  generally  intended to provide
adequate  funds to pay benefits  without forced sales of  investments.  Products
having  liabilities  with longer lives,  such as life insurance and full-service
payout pension products,  are matched with assets having similar estimated lives
such  as  mortgage  loans,   long-term  bonds  and  private   placement   bonds.
Shorter-term  liabilities  are  matched  with  investments  such  as  short  and
medium-term  fixed  maturities.   In  addition,   highly  liquid,  high  quality
short-term   investments  are  held  to  fund  anticipated  operating  expenses,
surrenders, withdrawals and development and maintenance expenses associated with
new products and technologies.  Our privately placed fixed maturity  securities,
commercial  mortgage loans and real estate investments are generally less liquid
than our publicly traded fixed maturity securities.  As of December 31, 2002 and
2001, these asset classes represented  approximately 43% and 49%,  respectively,
of the value of our consolidated invested assets. See Item 7A. "Quantitative and
Qualitative  Disclosures about Market  Risk-Interest Rate Risk" for a discussion
of duration matching.

Life insurance companies generally produce a positive cash flow from operations,
as measured by the amount by which cash  inflows  are  adequate to meet  benefit
obligations to policyholders and normal operating expenses as they are incurred.
The remaining  cash flow is generally used to increase the asset base to provide
funds to meet the need for future  policy  benefit  payments and for writing and
acquiring  new  business.  It is  important  to match the  investment  portfolio
maturities  to the cash  flow  demands  of the type of  annuity,  investment  or
insurance product being provided. Principal Life continuously monitors benefits,
surrenders and maturities to provide projections of future cash requirements. As
part of this  monitoring  process,  Principal Life performs cash flow testing of
many of its assets and  liabilities  under  various  scenarios  to evaluate  the
adequacy of reserves.  In developing  its  investment  strategy,  Principal Life
establishes  a level of cash and  securities  which,  combined with expected net
cash inflows from  operations,  maturities  of fixed  maturity  investments  and
principal payments on mortgage-backed  securities and commercial mortgage loans,
are believed  adequate to meet anticipated  short-term and long-term benefit and
expense payment  obligations.  There can be no assurance that future  experience
regarding  benefits and surrenders will be similar to historic  experience since

                                       67

withdrawal  and surrender  levels are influenced by such factors as the interest
rate environment and the claims paying ability and financial strength ratings of
Principal Life.

Principal Life takes into account asset-liability  management  considerations in
the product  development  and design  process.  Contract terms of 95% and 96% of
Principal Life's universal and variable  universal life insurance products as of
December  31, 2002 and 2001,  respectively,  include  surrender  and  withdrawal
provisions  which  mitigate the risk of losses due to early  withdrawals.  These
provisions  generally  do one or more of the  following:  limit  the  amount  of
penalty-free  withdrawals;  limit the circumstances  under which withdrawals are
permitted;  or assess a surrender charge or market value adjustment  relating to
the underlying  assets.  The market value adjustment feature in Principal Life's
fixed annuity products adjusts the surrender value of a contract in the event of
surrender  prior to the end of the  contract  period to protect  Principal  Life
against losses due to higher interest rates at the time of surrender.

Our GICs and funding agreements  contain  provisions  limiting early surrenders,
including  penalties for early surrenders and minimum notice  requirements.  Put
provisions  give customers the option to terminate a contract prior to maturity,
provided they give a minimum notice period.

The  following  table  presents U.S.  GAAP  reserves for  guaranteed  investment
contracts and funding  agreements  by  withdrawal  provisions as of December 31,
2002 and 2001:

                                                   AS OF DECEMBER 31,
                                           -------------------------------------
                                              2002                   2001
                                           --------------        ---------------
                                                    (IN MILLIONS)

BOOK VALUE OUT(1)
Puttable:
  Less than 30 days' put...................    $      -            $     -
  30 to 89 days' put.......................           -                  -
  90 to 180 days' put......................           -                  -
  More than 180 days' put..................          55.1               55.1
  No active put provision(2)...............           -                  -
                                           ------------------    ---------------
     Total puttable........................          55.1               55.1

Surrenderable:
  Book value out without surrender
   charge..................................           9.5               22.9
  Book value out with surrender charge.....         869.5              396.3
                                           -------------------   ---------------
     Total surrenderable...................         879.0              419.2
                                           -------------------   ---------------
         Total book value out..............         934.1              474.3

MARKET VALUE OUT(3)
Less than 30 days' notice..................           8.4               26.9
30 to 89 days' notice......................         116.3              281.9
90 to 180 days' notice.....................         981.2            1,133.6
More than 180 days' notice.................       4,623.8            4,795.6
No active surrender provision..............          71.0              238.5
                                           ------------------    ---------------
     Total market value out................       5,800.7            6,476.5

Not puttable or surrenderable..............      13,405.9           11,502.1
                                           -------------------   ---------------
     Total GICs and funding agreements.....    $ 20,140.7          $18,452.9
                                           ===================   ===============
- ----------------------
(1)  Book Value Out:  The amount equal to the sum of deposits  less  withdrawals
     with interest accrued at the contractual interest rate.

(2)  Contracts  currently  in initial  lock-out  period  but which  will  become
     puttable with 90 days' notice at some time in the future.

                                       68

(3)  Market  Value  Out:  The  amount  equal to the book value out plus a market
     value adjustment to adjust for changes in interest rates.

INTERNATIONAL OPERATIONS

We expect to receive  approximately  $938.4 million of proceeds from our sale of
substantially  all of BT Financial  Group to Westpac.  This amount includes cash
proceeds,  expected tax  benefits,  and a gain from  unwinding  the hedged asset
associated  with debt used to acquire BT Financial  Group in 1999. An additional
future  contingent  receipt of $80.0 million may by received in 2004, if Westpac
experiences  growth in their retail assets under management.  As of December 31,
2002, we have received $667.5 million of the expected proceeds.

Our Brazilian and Chilean  operations,  along with one of our Mexican companies,
produced  positive cash flow from  operations  for the years ended  December 31,
2002 and 2001. These cash flows have been  historically  maintained at the local
country level for strategic  expansion  purposes.  Our international  operations
have  required  an  infusion  of  capital  of $95.8  million  for the year ended
December 31, 2002,  primarily to fund our acquisitions of Zurich AFORE and AFORE
Tepeyac in Mexico.  We have also required  infusions of capital of $44.7 million
and $75.8 million for the years ended December 31, 2001 and 2000,  respectively,
primarily to meet the cash outflow requirements of our international operations.
These other international  operations are primarily in the start-up stage or are
expanding  in the  short-term.  Our  capital  funding  of  these  operations  is
consistent with our long-term  strategy to establish  viable  companies that can
sustain future growth from internally generated sources.

SOURCES AND USES OF CASH OF CONSOLIDATED OPERATIONS

Net cash provided by operating activities was $5,564.0 million, $4,057.4 million
and  $2,792.2  million for the years ended  December  31,  2002,  2001 and 2000,
respectively.  The increase in 2002 compared to 2001 is primarily  related to an
increase in mortgage banking servicing and production fees, an increase in funds
collected  on  behalf  of  investors,  related  to  mortgage  banking  services,
increases in bank deposits, as well as decreases in income tax payments and cash
paid for benefits, claims and settlement expenses. The increase in 2001 compared
to 2000 resulted  primarily  from  increases in mortgage  banking  servicing and
production  fees,  increases in single  premium  annuity  sales,  in addition to
increases in funds collected on behalf of investors, related to mortgage banking
services.

Net cash used in investing activities was $4,078.1 million, $3,738.0 million and
$1,393.4  million  for the  years  ended  December  31,  2002,  2001  and  2000,
respectively.  The increase in cash used in 2002  compared to 2001 was primarily
due to an increase during 2002 in the volume of net mortgage loans purchased and
sold.  Also  contributing  to the  increase in cash used was the decline in real
estate sales from the prior year.  Offsetting  these  increases in cash used was
the sale of substantially  all of BT Financial Group, as well as the sale of our
shares of Coventry  stock.  The  increase in cash used in 2001  compared to 2000
resulted from an increase in the volume of mortgage loans  purchased and sold in
2001 as well as an increase in net mortgage loan servicing rights purchased,  as
a result of increased mortgage loan production in 2001.

Net cash used in financing  activities was $1,008.5 million,  $549.2 million and
$1,006.9  million  for the  years  ended  December  31,  2002,  2001  and  2000,
respectively.  The  increase  in net  cash  used  in  2002  compared  to 2001 is
primarily  from the  non-recurrence  of the impact from the prior year's IPO, in
addition  to the  repurchase  of shares or our  common  stock  and  payments  of
dividends  in 2002.  Partially  offsetting  the  increases  in cash  used was an
increase in investment  contract deposits,  net of withdrawals.  The decrease in
cash used in 2001  compared  to 2000 was  primarily  due to the  receipt  of net
proceeds from issuance of common stock in  conjunction  with our IPO.  Partially
offsetting   this   decrease  in  cash  used  were  payments  made  to  eligible
policyholders as part of our demutualization and the repurchase of shares of our
common stock.

Given the historical cash flow of our subsidiaries and the financial  results of
these  subsidiaries,  we believe the cash flow from our  consolidated  operating
activities  over  the  next  year  will  provide  sufficient  liquidity  for our
operations,  as well as satisfy  interest  payments and any payments  related to
debt servicing.

                                       69

CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS

The following tables present payments due by period for contractual  obligations
as of December 31, 2002 and 2001:

                                                               AS OF DECEMBER 31, 2002
                                        -----------------------------------------------------------------------
                                                        LESS
                                                        THAN 1                        4 - 5          AFTER 5
      CONTRACTUAL OBLIGATIONS             TOTAL         YEAR         1-3 YEARS        YEARS          YEARS
- ------------------------------------    -----------    ----------    ------------    ----------    ------------
                                                                    (IN MILLIONS)

Long-term debt(1)...............          $1,332.5      $  116.9      $  326.3        $  117.7      $   771.6
Operating leases(2).............             153.3          51.6          55.9            22.5           23.3
Non-recourse medium-term
  notes(3)......................           3,583.5         573.3       1,357.9           133.0        1,519.3
                                        -----------    ----------    ------------    ----------    ------------
  Total contractual cash
     obligations................          $5,069.3      $  741.8      $1,740.1         $ 273.2      $ 2,314.2
                                        ===========    ==========    ============    ==========    ============

                                                               AS OF DECEMBER 31, 2001
                                        -----------------------------------------------------------------------
                                                        LESS
                                                        THAN 1                        4 - 5          AFTER 5
      CONTRACTUAL OBLIGATIONS             TOTAL         YEAR         1-3 YEARS        YEARS          YEARS
- ------------------------------------    -----------    ----------    ------------    ----------    ------------
                                                                    (IN MILLIONS)

Long-term debt(1)...............          $1,378.4      $  165.1      $  288.8       $     5.4      $   919.1
Operating leases(2).............             205.2          57.3          81.3            42.4           24.2
Non-recourse medium-term
  notes(3)......................           3,298.4         160.2         966.3           813.4        1,358.5
                                        -----------    ----------    ------------    ----------    ------------
  Total contractual cash
     obligations................          $4,882.0      $  382.6      $  866.2       $   518.0      $ 3,115.2
                                        ===========    ==========    ============    ==========    ============

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

(1)  The following are included in long-term debt:

     On August  25,  1999,  we issued  $665.0  million of  unsecured  redeemable
     long-term  debt  ($200.0  million of 7.95% notes due August 15,  2004,  and
     $465.0 million in 8.2% notes due August 15, 2009). Interest on the notes is
     payable semiannually on February 15 and August 15 of each year,  commencing
     February  15, 2000.  We used the net  proceeds  from the notes to partially
     fund the purchase of the outstanding stock of several companies  affiliated
     with Bankers  Trust  Australia  Group.  The  long-term  debt resides in our
     wholly-owned subsidiary, PFSI.

     On March 10, 1994,  Principal  Life issued $300.0 million of surplus notes,
     including  $200.0  million due March 1, 2024, at a 7.875%  annual  interest
     rate and the  remaining  $100.0  million due March 1, 2044, at an 8% annual
     interest  rate. No  affiliates of ours hold any portion of the notes.  Each
     payment of interest and principal on the notes,  however,  may be made only
     with the prior  approval  of the  Commissioner  and only to the extent that
     Principal Life has sufficient  surplus earnings to make such payments.  For
     each of the years ended December 31, 2002, 2001 and 2000, interest of $23.8
     million was approved by the Commissioner, paid and charged to expense.

     Long-term debt also includes  mortgages and other notes payable  related to
     real estate developments.  Along with certain  subsidiaries,  we had $378.0
     million  in credit  facilities  with  various  financial  institutions,  in
     addition to  obtaining  loans with  various  lenders to finance real estate
     developments. Outstanding principal balances as of December 31, 2002, range
     from $0.2 million to $100.9  million per  development  with interest  rates
     generally ranging from 6.0% to 8.6%.  Outstanding  principal balances as of

                                       70

     December  31,  2001,   range  from  $0.1  million  to  $101.9  million  per
     development with interest rates generally ranging from 7.2% to 8.6%.

(2)  As a lessee,  we lease office space, data processing  equipment,  corporate
     aircraft and office furniture and equipment under various operating leases.

(3)  Non-recourse  medium term notes represent  claims under funding  agreements
     issued to institutional investors in international markets.  Principal Life
     has a $4.0  billion  European  medium  term  note  program,  under  which a
     consolidated   offshore   special  purpose  entity  was  created  to  issue
     nonrecourse medium-term notes. Under the program, the proceeds of each note
     issuance  are used to purchase a funding  agreement  from  Principal  Life,
     which is used to secure that particular  series of notes. The payment terms
     of any  particular  series of notes match the payment  terms of the funding
     agreement that secures that series. Claims for principal and interest under
     those  international  funding  agreements  are afforded  equal  priority of
     claims  of  life  insurance  and  annuity  policyholders  under  insolvency
     provisions  of Iowa  Insurance  Laws  and,  accordingly,  are  reported  as
     contractholder funds liabilities in Principal Life's consolidated statement
     of financial position.

The  components  of  short-term  debt as of December  31, 2002 and 2001,  are as
follows:

                                              AS OF DECEMBER 31,
                                          ----------------------------
                                              2002            2001
                                          ------------    ------------
                                                  (IN MILLIONS)

Commercial paper.....................      $   157.5       $  199.9
Other recourse short-term debt.......           38.6           22.0
Non-recourse short-term debt.........          368.7          289.7
                                          ------------    ------------
   Total short-term debt.............      $   564.8       $  511.6
                                          ============    ============

Short-term debt consists primarily of commercial paper and outstanding  balances
on revolving  credit  facilities  with  various  financial  institutions.  As of
December 31, 2002, we had credit facilities with various financial  institutions
in an aggregate amount of $1.4 billion.  These credit facilities  include $700.0
million in credit facilities to finance a commercial  mortgage-backed securities
("CMBS")  pipeline,  and $100.0 million in credit facilities to purchase certain
CMBS securities for investment purposes. In addition, we may borrow up to $600.0
million on a back-stop  facility to support our $1.0  billion  commercial  paper
program, of which there were no outstanding balances as of December 31, 2002.

The weighted-average  interest rates on short-term borrowings as of December 31,
2002 and 2001, were 1.80% and 2.30%, respectively.

OFF-BALANCE SHEET ARRANGEMENTS

We have entered into certain  contracts  to: 1) fund  residential  mortgage loan
production,  and 2) sell qualifying  delinquent  residential  mortgage loans. As
appropriate  under U.S. GAAP, the contracts  involve  special  purpose  entities
("SPEs")  or trusts  that are not  reported  on our  consolidated  statement  of
financial position.

RESIDENTIAL MORTGAGE LOAN PRODUCTION. In June 2000, our mortgage banking segment
created  a special  purpose  bankruptcy  remote  entity,  Principal  Residential
Mortgage  Capital  Resources,  LLC ("PRMCR"),  to provide an  off-balance  sheet
source of funding for our residential mortgage loan production. We sell eligible
residential mortgage loans to PRMCR, where they are warehoused until sold to the
final  investor.  We sold  approximately  $47.1  billion  and $38.0  billion  in
mortgage  loans to PRMCR in 2002 and 2001,  respectively.  The maximum amount of
mortgage  loans,  which can be  warehoused  in PRMCR,  has  increased  from $1.0
billion at inception  to $4.0  billion as of December 31, 2002.  PRMCR held $4.0
billion and $3.0 billion in mortgage loans held for sale as of December 31, 2002
and 2001, respectively.  The portfolio of loans held for sale by PRMCR must meet
portfolio   criteria,   eligibility   representations,   and   portfolio   aging
limitations.  Based on these  eligibility  representations,  we are  required to

                                       71

repurchase  ineligible  loans from PRMCR.  During  2002,  we  repurchased  $51.9
million of ineligible loans from PRMCR.

PRMCR is capitalized by equity  certificates  owned by third party investors not
affiliated  with us or our affiliates,  directors,  or officers and thus, is not
consolidated.  The equity holders bear the risk of loss on defaulted  mortgages.
At December 31, 2002 and 2001,  PRMCR had  outstanding  equity  certificates  of
$193.0 million.  PRMCR also issues short-term secured liquidity notes as well as
medium term notes to provide  funds for its purchase of mortgage  loans from us.
At December 31, 2002,  PRMCR had  outstanding  secured  liquidity  notes of $2.2
billion,  three-year  fixed term notes of $800.0 million and five-year  variable
term notes of $800.0  million.  At  December  31,  2001,  PRMCR had  outstanding
secured  liquidity notes of $1.3 billion,  three-year fixed term notes of $800.0
million and five-year variable term notes of $800.0 million.  All borrowings are
collateralized by the assets of PRMCR.

We paid a commitment fee to PRMCR based on the overall  warehouse  limit.  PRMCR
used a portion of the fee to fund a cash collateral account maintained at PRMCR.
These funds are  available as  additional  collateral  to cover  credit  related
losses on defaulted mortgage loans. The balance in the account was $24.0 million
at  December  31,  2002  and  2001,  and is  reflected  in other  assets  on our
consolidated  statements  of  financial  position.  We  maintain  a right to the
servicing of the mortgage loans held by PRMCR and retain servicing upon the sale
of the majority of the mortgage loans to the final  investors.  As the servicer,
we receive a monthly servicing fee and may earn additional  incentive  servicing
fees upon successful completion of our servicing  responsibilities.  We received
$23.3 million and $12.6 million in servicing and incentive  servicing  fees from
PRMCR in 2002 and 2001,  respectively.  Any unpaid and earned  incentive fees as
well as any remaining amounts in the cash collateral account will be returned to
us upon the termination of PRMCR. Additionally, as the servicer, we are required
to advance to PRMCR those payments due from borrowers,  but not received,  as of
specified  cutoff dates. In addition,  we perform certain  secondary  marketing,
accounting and various administrative  functions on behalf of PRMCR. In order to
hedge  interest rate risk and non-credit  related  market value risk  associated
with its  inventory of mortgage  loans held for sale,  PRMCR  entered into swaps
with counterparties not affiliated with us or PRMCR. The swap counterparties are
required to maintain certain minimum ratings as approved by the rating agencies.
Through  separate swap agreements with the swap  counterparties  that mirror the
original swaps with PRMCR, the interest rate risk and non-credit  related market
value components are swapped back to us.

DELINQUENT  RESIDENTIAL  MORTGAGE  LOAN FUNDING.  In October 2000,  our mortgage
banking  segment  created  a  wholly-owned,  unconsolidated  qualifying  special
purpose entity, Principal Residential Mortgage Funding, LLC ("PRMF"), to provide
an  off-balance  sheet source of funding for up to $250.0  million of qualifying
delinquent mortgage loans. The limit was increased to $550.0 million in December
2002. We sell qualifying delinquent FHA and VA mortgage loans to PRMF which then
transfers the loans to Principal  Residential  Mortgage EBO Trust ("Trust"),  an
unaffiliated  Delaware  business  trust.  The Trust  funds its  acquisitions  of
mortgage loans by selling participation certificates,  representing an undivided
interest in the Trust,  to  commercial  paper  conduit  purchasers,  who are not
affiliated with us or any of our affiliates,  directors or officers. At December
31, 2002 and 2001,  the Trust held $405.1 million and $273.5 million in mortgage
loans,  respectively.  and had outstanding participation  certificates of $382.8
million and $256.9 million, respectively.

Residential  mortgage  loans  typically  remain  in the  Trust  until  they  are
processed  through the  foreclosure  claim  process,  are paid-off or reinstate.
Mortgage loans that reinstate are no longer  eligible to remain in the Trust and
are required to be removed at fair market value by us at the monthly  settlement
date following reinstatement.

We are  retained  as the  servicer  of  the  mortgage  loans  and  also  perform
accounting  and  various  administrative  functions  on behalf  of PRMF,  in our
capacity as the managing member of PRMF. As the servicer, we receive a servicing
fee  pursuant to the  pooling and  servicing  agreement.  We may also  receive a
successful  servicing  fee only after all other  conditions  in the monthly cash
flow  distribution  are met.  We  received  $23.4  million  and $8.5  million in
servicing  and   successful   servicing   fees  from  PRMF  in  2002  and  2001,
respectively.  At December 31, 2002 and 2001, our residual interest in such cash
flows was $32.7  million and $21.5  million,  respectively,  and was recorded in

                                       72

other assets on the consolidated  statements of financial position. The value of
the residual  interest was based on the net present value of expected cash flows
from PRMF,  reduced by  estimates  of  foreclosure  losses  associated  with the
related  loans.  We are required to advance funds for payment of interest on the
participation  certificates  and other carrying costs, if sufficient cash is not
available in the trust collection account to meet this obligation.

We and the Trust are  parties  to a cost of funds  hedge  agreement.  We pay the
weighted average cost of funds on the  participation  certificates plus fees and
expenses and receive weighted average coupon of mortgage loans in the Trust less
a spread.

GUARANTEES AND INDEMNIFICATIONS

Our fundamental business approach is to avoid guarantees or other commitments to
or on  behalf  of  affiliated  companies  of  Principal  Financial  Group,  Inc.
Affiliates are encouraged to operate as autonomously as possible; however, there
are  instances  where a rated entity  within  Principal  Financial  Group,  Inc.
provides a guarantee to or on behalf of an affiliate.  The guarantees  typically
supplement  a  partially  secured   transaction,   but  require  the  additional
enhancement  provided by the guarantee to make the  transaction  more economical
for our organization.

Various  businesses  throughout  our  organization  have  a  range  of  standard
guarantees  and  commitments to or on behalf of affiliated  entities  within the
organization  in  connection  with  managing the risks of these  businesses.  We
continually manage liabilities that have any acceleration, additional collateral
support,  changes in terms, or creation of additional  financial  obligations in
our regular  liquidity  analysis.  We have found all of these  obligations to be
manageable  and do not believe they  materially  impact our liquidity or capital
resources.

In the normal course of business,  we have provided  guarantees to third parties
primarily on behalf of real estate  associates,  a former  subsidiary  and joint
ventures.  These  agreements  generally  expire  from  2003  through  2015.  The
estimated  maximum  exposure  under these  agreements  is  approximately  $155.0
million;  however,  we believe the  likelihood is remote that material  payments
will  be  required  and  therefore  have  not  accrued  for a  liability  on our
consolidated  statement of financial position.  Should we be required to perform
under  these  guarantees,  we could  recover  a portion  of the loss from  third
parties through  recourse  provisions  included in agreements with such parties,
the sale of assets held as  collateral  that can be liquidated in the event that
performance is required under the guarantees or other recourse  available to us,
minimizing the impact to our results of operations.

We are also subject to certain indemnification obligations under agreements with
previously sold  subsidiaries  and other  transactions  arising under the normal
course of business.  While we are unable to estimate with certainty the ultimate
legal and financial liability with respect to these indemnifications, we believe
the  likelihood is remote that material  payments  would be required  under such
indemnifications  and therefore would not result in a material adverse affect on
our business, financial position or results of operations.

INVESTMENTS

We had total consolidated  assets as of December 31, 2002, of $89.9 billion,  of
which $49.0 billion were  invested  assets.  The rest of our total  consolidated
assets are comprised  primarily of separate  account  assets for which we do not
bear  investment  risk.  Because we generally do not bear any investment risk on
assets held in separate accounts, the discussion and financial information below
does not include such assets. Of our invested assets, $47.5 billion were held by
our  U.S.   operations   and  the  remaining  $1.5  billion  were  held  by  our
International Asset Management and Accumulation segment.

U.S. INVESTMENT OPERATIONS

Our U.S. invested assets are managed by Principal Global Investors, a subsidiary
of Principal  Life. Our primary  investment  objective is to maximize  after-tax
returns  consistent  with  acceptable  risk  parameters.   We  seek  to  protect

                                       73

policyholders' benefits by optimizing the risk/return relationship on an ongoing
basis, through asset/liability matching, reducing the credit risk, avoiding high
levels  of  investments  that  may  be  redeemed  by  the  issuer,   maintaining
sufficiently liquid investments and avoiding undue asset concentrations  through
diversification. We are exposed to three primary sources of investment risk:

o    credit risk,  relating to the  uncertainty  associated  with the  continued
     ability  of a given  obligor  to make  timely  payments  of  principal  and
     interest;

o    interest  rate  risk,  relating  to  the  market  price  and/or  cash  flow
     variability associated with changes in market yield curves; and

o    equity risk, relating to adverse fluctuations in a particular common stock.

Our  ability  to  manage  credit  risk  is  essential  to our  business  and our
profitability.  We devote considerable  resources to the credit analysis of each
new investment.  We manage credit risk through industry,  issuer and asset class
diversification.  Our Investment Committee, appointed by our board of directors,
establishes all investment policies and reviews and approves all investments. As
of December 31, 2002, there are eleven members on the Investment Committee,  one
of whom is a member of our board of directors.  The remaining members are senior
management members representing various areas of our company.

We also seek to reduce call or prepayment  risk arising from changes in interest
rates in individual  investments.  We limit our exposure to investments that are
prepayable without penalty prior to maturity at the option of the issuer, and we
require  additional  yield on these  investments to compensate for the risk that
the issuer will exercise such option.  We assess option risk in all  investments
we make and, when we take that risk, we price for it accordingly.

Our Fixed Income  Securities  Committee,  consisting of fixed income  securities
senior  management  members,  approves the credit rating for the fixed  maturity
securities we purchase.  Teams of security analysts  organized by industry focus
either  on  the  public  or  private  markets  and  analyze  and  monitor  these
investments.   In  addition,   we  have  teams  who  specialize  in  residential
mortgage-backed  securities,  commercial  mortgage-backed  securities and public
below  investment  grade  securities.  We  establish a credit  reviewed  list of
approved  public issuers to provide an efficient way for our portfolio  managers
to purchase  liquid  bonds for which credit  review has already been  completed.
Issuers  remain on the list for six months  unless  removed by our analyst.  Our
analysts  monitor issuers on the list on a continuous basis with a formal review
documented  every six months or more  frequently  if material  events affect the
issuer.  The analysis  includes  both  fundamental  and technical  factors.  The
fundamental  analysis  encompasses both quantitative and qualitative analysis of
the issuer.

The  qualitative   analysis  includes  an  assessment  of  both  accounting  and
management aggressiveness. In addition, technical indicators such as stock price
volatility and credit default swap levels are monitored.

Our Fixed Income  Securities  Committee also reviews  private  transactions on a
continuous  basis  to  assess  the  quality  ratings  of  our  privately  placed
investments.  We regularly review our investments to determine whether we should
re-rate them, employing the following criteria:

o    material declines in the issuer's revenues or margins;

o    significant management or organizational changes;

o    significant uncertainty regarding the issuer's industry;

o    debt service coverage or cash flow ratios that fall below industry-specific
     thresholds;

o    violation of financial covenants; and

o    other business factors that relate to the issuer.

                                       74

A dedicated risk management  team is responsible  for centralized  monitoring of
the commercial mortgage portfolio.  We apply a variety of strategies to minimize
credit risk in our commercial  mortgage loan  portfolio.  When  considering  the
origination  of  new  commercial   mortgage  loans,  we  review  the  cash  flow
fundamentals  of the  property,  make a physical  assessment  of the  underlying
security,  conduct a comprehensive  market analysis and compare against industry
lending  practices.  We use a proprietary  risk rating model to evaluate all new
and a majority of existing  loans within the  portfolio.  The  proprietary  risk
model is designed to stress  projected cash flows under  simulated  economic and
market downturns.  Our lending  guidelines are designed to encourage 75% or less
loan-to-value ratios and a debt service coverage ratio of at least 1.2 times. We
analyze  investments  outside of these  guidelines  based on cash flow  quality,
tenancy  and  other  factors.  The  weighted  average   loan-to-value  ratio  at
origination for brick and mortar  commercial  mortgages in our portfolio was 67%
and the debt  service  coverage  ratio  at loan  inception  was 1.9  times as of
December 31, 2002.

We have limited  exposure to equity risk in our common stock  portfolio.  Equity
securities  accounted for only 1% of our U.S. invested assets as of December 31,
2002.

Our investment  decisions and objectives are a function of the underlying  risks
and  product  profiles of each  primary  business  operation.  In  addition,  we
diversify  our product  portfolio  offerings  to include  products  that contain
features  that will protect us against  fluctuations  in interest  rates.  Those
features include adjustable crediting rates, policy surrender charges and market
value adjustments on liquidations.  For further information on our management of
interest rate risk, see Item 7A. "Quantitative and Qualitative Disclosures about
Market Risk".

OVERALL COMPOSITION OF U.S. INVESTED ASSETS

U.S. invested assets as of December 31, 2002, were predominantly of high quality
and broadly  diversified  across asset class,  individual  credit,  industry and
geographic  location.  As shown in the following  table, the major categories of
U.S. invested assets are fixed maturity securities and commercial mortgages. The
remainder is invested in real estate,  equity  securities  and other assets.  In
addition,  policy  loans are  included in our  invested  assets.  The  following
discussion  analyzes  the  composition  of U.S.  invested  assets,  but excludes
invested assets of the participating separate accounts.

                              U.S. INVESTED ASSETS

                                                            AS OF DECEMBER 31,          AS OF DECEMBER 31,
                                                           ---------------------     ----------------------
                                                                   2002                      2001
                                                           ---------------------     ----------------------
                                                            CARRYING       % OF       CARRYING      % OF
                                                             AMOUNT        TOTAL       AMOUNT       TOTAL
                                                           ----------   --------     ---------     --------
                                                                          ($ IN MILLIONS)
                                                                                         
Fixed maturity securities
   Public.........................................        $  22,766.8        48%     $  18,227.6      42%
   Private........................................           10,440.3        22         10,800.2      25
Equity securities.................................              358.1         1            812.3       2
Mortgage loans
   Commercial ....................................            9,365.8        20          9,740.4      22
   Residential....................................            1,463.6         3          1,144.2       3
Real estate held for sale ........................              179.5         -            390.7       1
Real estate held for investment...................            1,042.1         2            783.4       2
Policy loans......................................              818.5         2            831.9       2
Other investments ................................            1,075.5         2            663.7       1
                                                          -----------     -----      -----------   -----
   Total invested assets..........................        $  47,510.2       100%     $  43,394.4     100%
                                                                          =====                    =====

Cash and cash equivalents.........................              941.5                      495.8
                                                          -----------                -----------

   Total invested assets and cash ................        $  48,451.7                $  43,890.2
                                                          ===========                ===========

                                       75

We actively manage public fixed maturity securities,  including our portfolio of
residential  mortgage-backed  securities,  in order  to  provide  liquidity  and
enhance yield and total return. Our residential  mortgage-backed  securities are
managed to reduce the risk of prepayment by holding  securities that trade close
to par. This active  management has resulted in the realization of capital gains
and losses with respect to such investments.

FIXED MATURITY SECURITIES

Fixed maturity  securities  consist of short-term  investments,  publicly traded
debt  securities,  privately  placed debt  securities and  redeemable  preferred
stock, and represented 70% of total U.S. invested assets as of December 31, 2002
and 67% as of December 31, 2001.  The fixed  maturity  securities  portfolio was
comprised,  based on carrying  amount,  of 69% in publicly traded fixed maturity
securities and 31% in privately placed fixed maturity  securities as of December
31,  2002,  and 63% in publicly  traded  fixed  maturity  securities  and 37% in
privately placed fixed maturity  securities as of December 31, 2001. Included in
the  privately  placed  category as of December 31,  2002,  were $3.8 billion of
securities eligible for resale to qualified institutional buyers under Rule 144A
under the Securities Act of 1933. Fixed maturity  securities were diversified by
category of issuer as of December 31, 2002,  and December 31, 2001,  as shown in
the following table:

                              U.S. INVESTED ASSETS
                   FIXED MATURITY SECURITIES BY TYPE OF ISSUER

                                                            AS OF DECEMBER 31,        AS OF DECEMBER 31,
                                                           ---------------------    ----------------------
                                                                   2002                      2001
                                                           ---------------------    ----------------------
                                                            CARRYING       % OF       CARRYING      % OF
                                                             AMOUNT        TOTAL       AMOUNT       TOTAL
                                                           ------------  -------    ------------   -------
                                                                             ($ IN MILLIONS)
                                                                                        
U.S. Treasury securities and obligations of U.S.
   Government corporations and agencies................    $    518.6         2%    $     15.1        -%
States and political subdivisions......................         426.3         1          317.5        1
Foreign governments....................................         380.5         1          603.5        2
Corporate - public.....................................      17,061.2        52       13,038.8       45
Corporate - private....................................       8,777.5        26        9,171.1       32
Residential pass-through securities....................       2,327.0         7        2,855.5       10
Commercial MBS.........................................       2,476.4         7        1,874.1        6
Asset-backed securities................................       1,239.6         4        1,152.2        4
                                                           ------------  -------    ------------   -------
    Total fixed maturities.............................    $ 33,207.1       100%    $ 29,027.8      100%
                                                           ============  =======    ============   =======

We held $6,043.0 million of  mortgage-backed  and asset-backed  securities as of
December 31, 2002, and $5,881.8 million as of December 31, 2001.

We believe that it is desirable to hold residential  mortgage-backed  securities
due to their credit  quality and liquidity as well as portfolio  diversification
characteristics. Our portfolio is comprised of GNMA, FNMA and FHLMC pass-through
securities  and is actively  managed to reduce the risk of prepayment by holding
securities that are trading close to par.

Commercial  mortgage-backed securities provide high levels of credit protection,
diversification,   reduced  event  risk  and  enhanced   liquidity.   Commercial
mortgage-backed  securities  are  predominantly  comprised  of rated  large pool
securitizations that are individually and collectively diverse by property type,
borrower and geographic dispersion.

We purchase  asset-backed  securities,  ("ABS"), to diversify the overall credit
risks of the fixed  maturity  securities  portfolio  and to  provide  attractive
returns. The principal risks in holding  asset-backed  securities are structural
and credit  risks.  Structural  risks  include  the  security's  priority in the
issuer's capital structure, the adequacy of and ability to realize proceeds from
the  collateral  and  the  potential  for  prepayments.   Credit  risks  involve

                                       76

issuer/servicer risk where collateral values can become impaired in the event of
servicer credit deterioration.

Our ABS  portfolio  is  diversified  both by type of  asset  and by  issuer.  We
actively  monitor  holdings of  asset-backed  securities to ensure that the risk
profile of each security improves or remains consistent. If we are not receiving
an adequate yield for the risk, relative to other investment  opportunities,  we
will attempt to sell the  security.  Prepayments  in the ABS  portfolio  are, in
general,  insensitive  to changes in  interest  rates or are  insulated  to such
changes  by call  protection  features.  In the  event  that we are  subject  to
prepayment  risk, we monitor the factors that impact the level of prepayment and
prepayment  speed for those  asset-backed  securities.  To the extent we believe
that prepayment risk increases, we may attempt to sell the security and reinvest
in another  security that offers better yield relative to the risk. In addition,
we diversify the risks of asset-backed  securities by holding a diverse class of
securities, which limits our exposure to any one security.

In accordance with our asset liability risk management techniques, we manage the
expected  lives  of U.S.  invested  assets  to be  similar  to the  lives of our
liabilities. Significant amounts of our liabilities have an expected life of six
years or less.  Therefore,  comparable amounts of assets have a similar expected
life.

The international exposure in our U.S. invested assets totaled $4,259.7 million,
or 13%, of total fixed maturity  securities,  as of December 31, 2002, comprised
of corporate and foreign government fixed maturity  securities.  Of the $4,259.7
million as of December 31, 2002,  investments  totaled  $1,259.3  million in the
United Kingdom, $849.7 million in the continental European Union, $550.7 million
in Asia, $354.9 million in Australia,  $353.0 million in South America and $21.3
million  in  Japan.  The  remaining  $870.8  million  was  invested  in 12 other
countries.  All  international  fixed  maturity  securities  held  by  our  U.S.
operations are either denominated in U.S. dollars or have been swapped into U.S.
dollar  equivalents.  Our international  investments are analyzed  internally by
country and industry credit investment professionals.  We control concentrations
using  issuer and  country  level  exposure  benchmarks,  which are based on the
credit quality of the issuer and the country. Our investment policy limits total
international  fixed maturity  securities  investments to 15% of total statutory
general account assets with a 4% limit in emerging  markets.  Exposure to Canada
is not included in our international  exposure due to its treatment by the NAIC.
As of December 31, 2002, our investments in Canada totaled $1,261.1 million.

As of December 31, 2002, no individual  non-government  issuer  represented more
than 1% of U.S. invested assets.

The Securities Valuation Office of the NAIC evaluates most of the fixed maturity
securities  that we and other U.S.  insurance  companies  hold.  The  Securities
Valuation  Office  evaluates  the bond  investments  of insurers for  regulatory
reporting purposes and assigns  securities to one of six investment  categories.
The NAIC Designations closely mirror the nationally recognized securities rating
organizations'  credit ratings for marketable  bonds.  NAIC Designations 1 and 2
include bonds considered  investment grade by such rating  organizations.  Bonds
are  considered  investment  grade when rated  "Baa3" or higher by  Moody's,  or
"BBB-"  or higher  by  Standard  &  Poor's.  NAIC  Designations  3 through 6 are
referred to as below  investment  grade.  Bonds are considered  below investment
grade  when rated  "Ba1" or lower by  Moody's,  or "BB+" or lower by  Standard &
Poor's.

We also  monitor the credit drift of our  corporate  fixed  maturity  securities
portfolio.  Credit  drift is  defined as the ratio of the  percentage  of rating
downgrades, including defaults, divided by the percentage of rating upgrades. We
measure  credit  drift  once each  fiscal  year,  assessing  the  changes in our
internally developed credit ratings that have occurred during the year. Standard
& Poor's annual credit  ratings drift ratio  measures the credit rating  change,
within a specific year, of companies that have been assigned ratings by Standard
& Poor's.  The annual  internal  credit drift ratio on corporate  fixed maturity
securities  we held in our  general  account  was  3.48  times  compared  to the
Standard & Poor's drift ratio of 4.14 times, as of December 31, 2002.

                                       77

The  following  table  presents  our total  fixed  maturity  securities  by NAIC
Designation and the equivalent ratings of the nationally  recognized  securities
rating  organizations as of December 31, 2002, and December 31, 2001, as well as
the percentage, based on estimated fair value, that each designation comprises:

                              U.S. INVESTED ASSETS
                TOTAL FIXED MATURITY SECURITIES BY CREDIT QUALITY

                                             AS OF DECEMBER 31, 2002                     AS OF DECEMBER 31, 2001
                                     ---------------------------------------    ------------------------------------------
                                                                     % OF                                          % OF
                     RATING                                         TOTAL                                         TOTAL
    NAIC             AGENCY           AMORTIZED      CARRYING      CARRYING       AMORTIZED       CARRYING       CARRYING
   RATING          EQUIVALENT           COST          AMOUNT        AMOUNT          COST           AMOUNT         AMOUNT
- ------------    ---------------      -----------    ----------    ----------     -----------     -----------     ---------
                                                                     ($ IN MILLIONS)

1             Aaa/Aa/A.............  $ 15,377.5     $16,539.9        50%          $14,139.9      $ 14,756.2        51%
2             Baa..................    12,921.8      13,657.4        41            11,720.0        12,034.6        42
3             Ba...................     2,168.8       2,080.8         6             1,602.0         1,560.4         5
4             B....................       506.2         434.5         1               401.7           372.1         1
5             Caa and lower........       215.6         162.5         1                92.4            90.8         -
6             In or near
              default..............       371.0         332.0         1               240.9           213.7         1
                                     -----------    ----------    ----------     -----------     -----------     ---------
                Total fixed
                  maturities.......  $ 31,560.9     $33,207.1       100%          $28,196.9      $ 29,027.8       100%
                                     ===========    ==========    ==========     ===========     ===========     =========

We believe  that our  long-term  fixed  maturity  securities  portfolio  is well
diversified  among  industry  types and between  publicly  traded and  privately
placed securities. Each year we direct the majority of our net cash inflows into
investment grade fixed maturity  securities.  Our current policy is to limit the
percentage of cash flow invested in below  investment grade assets to 7% of cash
flow.  As of December 31, 2002, we had invested 5% of new cash flow for the year
in below investment grade assets.  While the general account  investment returns
have  improved  due to the below  investment  grade asset  class,  we manage its
growth  strategically  by  limiting  it to  10%  of  the  total  fixed  maturity
securities portfolios.

We invest in privately  placed fixed maturity  securities to enhance the overall
value of the portfolio,  increase  diversification and obtain higher yields than
are possible  with  comparable  quality  public  market  securities.  Generally,
private   placements   provide   broader   access  to  management   information,
strengthened  negotiated  protective  covenants,  call protection  features and,
where applicable, a higher level of collateral. They are, however, generally not
freely tradable because of restrictions  imposed by federal and state securities
laws and illiquid  trading  markets.  As of December 31, 2002,  the  percentage,
based on estimated  fair value,  of total publicly  traded and privately  placed
fixed maturity  securities that were investment grade with an NAIC Designation 1
or 2 was 91%.

The following  tables show the carrying  amount of our corporate  fixed maturity
securities by Salomon industry category,  as well as the percentage of the total
corporate portfolio that each Salomon industry category comprises as of December
31, 2002, and December 31, 2001.

                                       78

                                               U.S. INVESTED ASSETS
                         CORPORATE FIXED MATURITY SECURITIES PORTFOLIO BY SALOMON INDUSTRY

                                                          AS OF DECEMBER 31,         AS OF DECEMBER 31,
                                                         -----------------------    ---------------------
                                                                 2002                       2001
                                                         -----------------------    ---------------------
                                                                       % OF                        % OF
                                                      CARRYING AMOUNT    TOTAL    CARRYING AMOUNT   TOTAL
                                                     ----------------- ---------  ---------------  ------
                                                                         ($ IN MILLIONS)
                                                                                          
INDUSTRY CLASS
Finance - Bank..........................               $  2,431.5           9%     $  1,663.7           8%
Finance - Insurance.....................                  1,006.8           4           356.9           2
Finance - Other.........................                  3,199.0          12         2,820.0          13
Industrial - Construction...............                    958.2           4           619.7           3
Industrial - Energy.....................                  2,959.5          11         2,486.1          11
Industrial - Manufacturing..............                  5,882.5          23         4,767.7          21
Industrial - Other......................                    133.1           1            85.6           -
Industrial - Service....................                  3,932.7          15         3,137.0          14
Industrial - Transport..................                  1,058.9           4         1,357.7           6
Utility - Electric......................                  2,539.4          10         2,727.0          12
Utility - Other.........................                    161.4           1           172.5           1
Utility - Telecom.......................                  1,575.7           6         2,016.0           9
                                                       ----------       ------     ----------      -------
    Total...............................               $ 25,838.7         100%     $ 22,209.9        100%
                                                       ==========       ======     ==========      =======

We  monitor  any  decline in the credit  quality  of fixed  maturity  securities
through the designation of "problem securities",  "potential problem securities"
and  "restructured  securities".  We  define  problem  securities  in our  fixed
maturity  portfolio as securities:  (i) as to which  principal  and/or  interest
payments  are in default or (ii) issued by a company  that went into  bankruptcy
subsequent to the acquisition of such securities.  We define  potential  problem
securities in our fixed maturity portfolio as securities included on an internal
"watch list" for which  management  has concerns as to the ability of the issuer
to comply  with the  present  debt  payment  terms  and which may  result in the
security  becoming  a problem or being  restructured.  The  decision  whether to
classify a performing  fixed maturity  security as a potential  problem involves
significant  subjective  judgments  by our  management  as to the likely  future
industry  conditions  and  developments  with  respect to the issuer.  We define
restructured  securities in our fixed maturity  portfolio as securities  where a
concession has been granted to the borrower related to the borrower's  financial
difficulties  that would not have otherwise been  considered.  We determine that
restructures  should occur in those instances where greater  economic value will
be realized under the new terms than through  liquidation  or other  disposition
and may involve a change in contractual cash flows.

In  July  2002,  WorldCom  Inc.  filed  a  voluntary  petition  for  Chapter  11
reorganization with the U.S. Bankruptcy Court. We recognized realized losses for
other  than  temporary  impairments  during  the  second  quarter  of 2002.  Our
remaining  investment  in WorldCom  Inc.  is  classified  in our  problem  fixed
maturity securities  portfolio in the amount of $13.4 million as of December 31,
2002.

In December 2001,  Enron Corp.,  along with certain of its  subsidiaries,  filed
voluntary  petitions  for  Chapter 11  reorganization  with the U.S.  Bankruptcy
Court.  We  recognized   realized  losses  in  2001  for  other  than  temporary
impairments  and have  classified  our remaining  investment in Enron Corp.  and
Enron related entities in our problem fixed maturity securities in the amount of
$47.2 million as of December 31, 2002.

The following  table  presents the total  carrying  amount of our fixed maturity
portfolio,  as well as its problem,  potential  problem and  restructured  fixed
maturities for the years indicated:

                                       79

                                             U.S. INVESTED ASSETS
                  PROBLEM, POTENTIAL PROBLEM AND RESTRUCTURED FIXED MATURITIES AT CARRYING AMOUNT

                                                                       AS OF DECEMBER 31,      AS OF DECEMBER 31,
                                                                      -------------------     -------------------
                                                                              2002                    2001
                                                                      -------------------     -------------------
                                                                                     ($ IN MILLIONS)
                                                                                             
Total fixed maturity securities (public and private)............      $   33,207.1                 $  29,027.8
                                                                      ================             =============
Problem fixed maturity securities...............................      $      262.0                 $     198.8
Potential problem fixed maturity securities.....................             508.4                       365.1
Restructured fixed maturity securities..........................             103.9                       110.8
                                                                      ----------------             -------------
   Total problem, potential problem and restructured fixed
     maturity securities........................................      $      874.3                 $     674.7
                                                                      ================             =============
   Total problem, potential problem and restructured fixed
     maturity securities as a percent of total fixed maturity
     securities.................................................               3%                          2%

MORTGAGE LOANS

Mortgage  loans  comprised  23% and 25% of  total  U.S.  invested  assets  as of
December 31, 2002, and December 31, 2001,  respectively.  Mortgage loans consist
of  commercial  and  residential  loans.  Commercial  mortgage  loans  comprised
$9,365.8  million as of December 31, 2002,  and $9,740.4  million as of December
31, 2001,  or 86% and 89%, of total  mortgage  loan  investments,  respectively.
Residential  mortgages  comprised $1,463.6 million and $1,144.2 million,  or 14%
and 11%, of total  mortgage  loan  investments  as of  December  31,  2002,  and
December  31,  2001,  respectively.  Principal  Residential  Mortgage,  Inc. and
Principal Bank hold the majority of  residential  loans.  Principal  Residential
Mortgage,  Inc. holds residential loans as part of its securitization  inventory
and Principal Bank holds residential loans to comply with federal thrift charter
requirements.

COMMERCIAL  MORTGAGE LOANS.  Commercial  mortgages play an important role in our
investment strategy by:

o    providing  strong  risk  adjusted  relative  value in  comparison  to other
     investment alternatives;

o    enhancing total returns; and

o    providing strategic portfolio diversification.

As a result,  we have focused on constructing a solid, high quality portfolio of
mortgages.  Our portfolio is generally  comprised of mortgages with conservative
loan-to-value  ratios,  high debt service coverages and general purpose property
types with a strong credit tenancy.

Our commercial  loan portfolio  consists of primarily  non-recourse,  fixed rate
mortgages on fully or near fully leased  properties.  The mortgage  portfolio is
comprised  of  general-purpose   industrial  properties,   manufacturing  office
properties and credit oriented retail properties.

California  accounted for 21% of our  commercial  mortgage loan  portfolio as of
December 31, 2002. We are, therefore, exposed to potential losses resulting from
the risk of catastrophes,  such as earthquakes, that may affect the region. Like
other lenders,  we generally do not require earthquake  insurance for properties
on  which  we  make  commercial  mortgage  loans.  With  respect  to  California
properties,  however, we obtain an engineering report specific to each property.
The report assesses the building's  design  specifications,  whether it has been
upgraded to meet seismic  building  codes and the maximum loss that is likely to
result from a variety of different  seismic events. We also obtain a report that
assesses  by  building  and  geographic  fault  lines  the  amount  of loss  our

                                       80

commercial  mortgage  loan  portfolio  might  suffer  under a variety of seismic
events.

Our commercial loan portfolio is highly diversified by borrower.  As of December
31, 2002,  43% of the U.S.  commercial  mortgage loan portfolio was comprised of
mortgage  loans with principal  balances of less than $10.0  million.  The total
number of  commercial  mortgage  loans  outstanding  as of December 31, 2002 and
December  31, 2001 was 1,529 and 1,646,  respectively.  The average loan size of
our commercial  mortgage  portfolio was $6.2 million as of December 31, 2002. As
of such dates, all such loans were performing.

We  actively  monitor  and  manage  our  commercial   mortgage  loan  portfolio.
Substantially all loans within the portfolio are analyzed regularly,  based on a
proprietary  risk  rating cash flow  model,  in order to monitor  the  financial
quality of these assets and are internally rated.  Based on ongoing  monitoring,
mortgage  loans with a likelihood  of becoming  delinquent  are  identified  and
placed on an internal  "watch  list".  Among  criteria  which  would  indicate a
potential  problem are:  imbalances in ratios of loan to value or contract rents
to debt service,  major tenant vacancies or bankruptcies,  borrower  sponsorship
problems,  late  payments,   delinquent  taxes  and  loan   relief/restructuring
requests.

We state commercial  mortgage loans at their unpaid principal  balances,  net of
discount accrual and premium amortization,  valuation allowances and write downs
for impairment.  We provide a valuation  allowance for commercial mortgage loans
based on past loan loss  experience  and for  specific  loans  considered  to be
impaired.  Mortgage  loans  are  considered  impaired  when,  based  on  current
information  and events,  it is probable  that all amounts due  according to the
contractual terms of the loan agreement may not be collected.  When we determine
that a loan is  impaired,  we establish a valuation  allowance  for loss for the
excess of the carrying value of the mortgage loan over its estimated fair value.
Estimated  fair value is based on either the present  value of  expected  future
cash flows discounted at the loan's original effective interest rate, the loan's
observable market price or the fair value of the collateral. We record increases
in such valuation allowances as realized investment losses and, accordingly,  we
reflect such losses in our  consolidated  results of operations.  Such increases
(decreases) in valuation allowances aggregated $(7.1) million for the year ended
December 31, 2002 and $(17.3) million for the year ended December 31, 2001.

We review our  mortgage  loan  portfolio  and  analyze  the need for a valuation
allowance  for any loan which is  delinquent  for 60 days or more, in process of
foreclosure,  restructured,  on the  "watch  list",  or  which  currently  has a
valuation allowance. We categorize loans, which are delinquent, loans in process
of  foreclosure  and  loans to  borrowers  in  bankruptcy  as  "problem"  loans.
Potential  problem loans are loans placed on an internal  "watch list" for which
management  has  concerns as to the  ability of the  borrower to comply with the
present loan payment  terms and which may result in the loan  becoming a problem
or being  restructured.  The decision whether to classify a performing loan as a
potential problem involves significant  subjective judgments by management as to
the likely  future  economic  conditions  and  developments  with respect to the
borrower. We categorize loans for which the original terms of the mortgages have
been modified or for which interest or principal  payments have been deferred as
"restructured"  loans.  We also consider  matured  loans that are  refinanced at
below market rates as restructured.

We charge  mortgage loans deemed to be  uncollectible  against the allowance for
losses and credit subsequent recoveries to the allowance for losses. We maintain
the allowance for losses at a level management believes to be adequate to absorb
estimated  probable credit losses.  Management bases its periodic  evaluation of
the adequacy of the allowance for losses on our past loan loss experience, known
and inherent  risks in the  portfolio,  adverse  situations  that may affect the
borrower's  ability to repay, the estimated value of the underlying  collateral,
composition  of the  loan  portfolio,  current  economic  conditions  and  other
relevant  factors.  The  evaluation  is  inherently  subjective  as it  requires
estimating  the amounts and timing of future cash flows  expected to be received
on impaired loans that may change.

                                       81

The following table represents our commercial  mortgage valuation  allowance for
the years indicated:

                              U.S. INVESTED ASSETS
                     COMMERCIAL MORTGAGE VALUATION ALLOWANCE

                                                                  AS OF DECEMBER 31,        AS OF DECEMBER 31,
                                                                 -------------------       -------------------
                                                                         2002                      2001
                                                                 -------------------       -------------------
                                                                                 ($ IN MILLIONS)

Beginning balance..........................................          $        90.7           $        108.0
Provision..................................................                   33.5                     12.0
Release due to write downs, sales and foreclosures.........                  (40.6)                   (29.3)
                                                                     ---------------           ---------------
Ending balance.......................................                $        83.6           $         90.7
                                                                     ===============           ===============
Valuation allowance as % of carrying value before reserves.                    1%                       1%

The following table presents the carrying amounts of problem,  potential problem
and  restructured  commercial  mortgages  relative to the carrying amount of all
commercial mortgages for the years indicated:

                              U.S. INVESTED ASSETS
 PROBLEM, POTENTIAL PROBLEM AND RESTRUCTURED COMMERCIAL MORTGAGES AT CARRYING AMOUNT

                                                                   AS OF DECEMBER 31,        AS OF DECEMBER 31,
                                                                  -------------------       -------------------
                                                                          2002                      2001
                                                                  -------------------       -------------------
                                                                                 ($ IN MILLIONS)

Total commercial mortgages ................................            $   9,365.8             $      9,740.4
                                                                       ==============           ===============

Problem commercial mortgages(1)............................            $      77.2             $         47.1
Potential problem commercial mortgages ....................                   50.4                       98.9
Restructured commercial mortgages .........................                   46.9                       42.4
                                                                       --------------           ---------------
   Total problem, potential problem and
     restructured commercial mortgages ....................            $     174.5             $        188.4
                                                                       ==============           ===============
   Total problem, potential problem and restructured
     commercial mortgages as a percent of total commercial                     2%                         2%

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

(1)  Problem commercial mortgages included mortgage loans in foreclosure of $0.4
     million  as  of  December  31,  2002.  There  were  no  mortgage  loans  in
     foreclosure as of December 31, 2001.

                                       82

EQUITY REAL ESTATE

We hold commercial equity real estate as part of our investment portfolio. As of
December 31, 2002,  and  December 31, 2001,  the carrying  amount of equity real
estate  investment was $1,221.6  million and $1,174.1  million,  or 2% and 3% of
U.S.  invested assets,  respectively.  We own real estate,  real estate acquired
upon foreclosure of commercial mortgage loans and interests, both majority owned
and non-majority owned, in real estate joint ventures.

Equity real estate is categorized as either "real estate held for investment" or
"real estate held for sale".  Real estate held for investment  totaled  $1,042.1
million as of December 31, 2002, and $783.4 million as of December 31, 2001. The
carrying  value of real estate held for  investment  is  generally  adjusted for
impairment  whenever  events  or  changes  in  circumstances  indicate  that the
carrying amount of the asset may not be recoverable. Such impairment adjustments
are recorded as realized investment losses and accordingly, are reflected in our
consolidated  results of  operations.  For the years ended December 31, 2002 and
December 31, 2001, there were no such impairment adjustments.

The carrying  amount of real estate held for sale as of December  31, 2002,  and
December  31,  2001,  was $179.5  million and $390.7  million,  net of valuation
allowances of $19.3 million and $19.8 million, respectively.  Once we identify a
real estate  property to be sold and commence a plan for marketing the property,
we classify  the property as held for sale.  We establish a valuation  allowance
subject to periodical revisions,  if necessary,  to adjust the carrying value of
the  property  to reflect the lower of its  current  carrying  value or the fair
value, less associated selling costs.

We use research,  both internal and external,  to recommend  appropriate product
and geographic  allocations and changes to the equity real estate portfolio.  We
monitor product, geographic and industry diversification separately and together
to determine the most appropriate mix.

Equity real estate is distributed  across geographic regions of the country with
larger  concentrations  in the South  Atlantic,  West South  Central and Pacific
regions of the United States as of December 31, 2002. By property type, there is
a concentration in office buildings that  represented  approximately  31% of the
equity real estate portfolio as of December 31, 2002.

OTHER INVESTMENTS

Our other investments totaled $1,075.5 million as of December 31, 2002, compared
to $663.7  million as of December  31,  2001.  With the  adoption of SFAS 133 on
January 1, 2001,  derivatives  were reflected on our balance sheet and accounted
for $348.8  million in other  investments as of December 31, 2002. The remaining
invested  assets  include  minority  interests  in  unconsolidated  entities and
properties owned jointly with venture partners and operated by the partners.

Our  investment in Coventry is also included in other  investments as we account
for it using the equity  method.  As of December 31, 2001, our carrying value in
Coventry  was  $146.0  million.  On  February  1,  2002,  we sold our  remaining
investment in Coventry for a net realized gain.

SECURITIES LENDING

The terms of our securities lending program,  approved in 1999, allow us to lend
our securities to major brokerage  firms. Our policy requires an initial minimum
of 102% of the fair value of the loaned  securities as  collateral.  Although we
lend from time to time  during  the  financial  reporting  quarters,  we have no
securities on loan as of December 31, 2002.

INTERNATIONAL INVESTMENT OPERATIONS

As of December 31, 2002, our international  investment operations consist of the
investments  of  Principal  International  comprised of $1.5 billion in invested
assets.  Invested assets related to BT Financial Group have been reclassified to
assets of discontinued  operations on our  consolidated  statements of financial

                                       83

position.  Principal  Global  Investors works with each Principal  International
affiliate to develop investment policies and strategies that are consistent with
the products they offer. Due to the regulatory constraints in each country, each
company maintains its own investment  policies,  which are approved by Principal
Global  Investors.   Each  international  affiliate  is  required  to  submit  a
compliance  report  relative to its  strategy  to  Principal  Global  Investors.
Principal Global Investors employees and international  affiliate company credit
analysts jointly review each corporate credit annually.

OVERALL COMPOSITION OF INTERNATIONAL INVESTED ASSETS

As shown in the following table, the major categories of international  invested
assets as of December 31, 2002,  and  December  31,  2001,  were fixed  maturity
securities and residential mortgage loans:

                          INTERNATIONAL INVESTED ASSETS

                                                            AS OF DECEMBER 31,        AS OF DECEMBER 31,
                                                           ---------------------     ---------------------
                                                                   2002                      2001
                                                           ---------------------     ---------------------
                                                            CARRYING       % OF       CARRYING      % OF
                                                             AMOUNT        TOTAL       AMOUNT       TOTAL
                                                           ----------     ---------  -----------   -------
                                                                            ($ IN MILLIONS)
                                                                                        
Fixed maturity securities
   Public.........................................         $    998.6        67%     $    941.3      68%
   Private........................................               81.7         6            61.0       4
Equity securities.................................               20.6         1            24.9       2
Mortgage loans
   Residential....................................              252.5        17           181.1      13
Real estate held for investment...................                7.4         1             7.7       1
Other investments ................................              124.6         8           168.6      12
                                                           ----------     ------     -----------   -------
   Total invested assets..........................         $  1,485.4       100%     $  1,384.6     100%
                                                                          ======                   =======
Cash and cash equivalents.........................               97.1                      65.4
                                                           -----------               -----------
   Total invested assets and cash ................         $  1,582.5                $  1,450.0
                                                           ===========               ===========

ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

MARKET RISK EXPOSURES AND RISK MANAGEMENT

Market risk is the risk that we will incur losses due to adverse fluctuations in
market  rates and  prices.  Our primary  market  risk  exposure is to changes in
interest rates,  although we also have exposures to changes in equity prices and
foreign currency exchange rates.

The active  management of market risk is an integral part of our operations.  We
manage our overall market risk exposure within established risk tolerance ranges
by using the following approaches:

o    rebalance our existing asset or liability portfolios;

o    control the risk structure of newly acquired assets and liabilities; or

o    use  derivative  instruments to modify the market risk  characteristics  of
     existing assets or liabilities or assets expected to be purchased.

INTEREST RATE RISK

                                       84

Interest rate risk is the risk that we will incur economic losses due to adverse
changes in interest rates. Our exposure to interest rate risk stems largely from
our substantial  holdings of guaranteed fixed rate liabilities in our U.S. Asset
Management and Accumulation segment.

We manage the interest rate risk inherent in our assets relative to the interest
rate risk  inherent in our  liabilities.  One of the measures we use to quantify
this exposure is duration. To calculate duration, we project asset and liability
cash flows. These cash flows are discounted to a net present value basis using a
spot  yield  curve,  which is a blend of the spot  yield  curves for each of the
asset types in the  portfolio.  Duration is calculated by  re-calculating  these
cash flows and  re-determining  the net present value based upon an  alternative
level of interest rates, and determining the percentage change in fair value.

As of  December  31,  2002,  the  difference  between  the asset  and  liability
durations  on our  primary  duration  managed  portfolio  was 0.09  years.  This
duration gap indicates that as of this date the sensitivity of the fair value of
our assets to interest rate  movements is greater than that of the fair value of
our  liabilities.  Our goal is to minimize  the  duration  gap.  Currently,  our
guidelines  dictate that total  duration  gaps  between the asset and  liability
portfolios must be within 0.25 years.  The value of the assets in this portfolio
was $26,344.1 million as of December 31, 2002.

For products such as whole life  insurance and term life insurance that are less
sensitive to interest rate risk,  and for other  products such as single premium
deferred  annuities,  we manage  interest rate risk based on a modeling  process
that  considers  the  target  average  life,  maturities,  crediting  rates  and
assumptions   of   policyholder   behavior.   As  of  December  31,  2002,   the
weighted-average  difference between the asset and liability  durations on these
portfolios  was (0.49) years.  This duration gap indicates  that as of this date
the  sensitivity  of the fair value of our assets to interest rate  movements is
less than that of the fair value of our liabilities.  We attempt to monitor this
duration gap consistent with our overall  risk/reward  tolerances.  The value of
the assets in these portfolios was $10,145.7 million as of December 31, 2002.

We also have a block of  participating  general  account  pension  business that
passes the actual  investment  performance  of the assets to the  customer.  The
investment  strategy  of this  block is to  maximize  investment  return  to the
customer on a "best efforts" basis,  and there is little or no attempt to manage
the duration of this  portfolio  since there is little or no interest rate risk.
The value of the assets in these  portfolios was $5,577.6 million as of December
31, 2002.

Using the  assumptions  and data in effect as of December 31, 2002,  we estimate
that a 100 basis point immediate,  parallel increase in interest rates increases
the net fair  value of our  portfolio  by $25.9  million.  The  following  table
details the estimated changes by risk management strategy:

                                                                        AS OF
                     RISK MANAGEMENT                              DECEMBER 31, 2002             NET FAIR VALUE
                        STRATEGY                                VALUE OF TOTAL ASSETS               CHANGE
- ---------------------------------------------------           -------------------------      ---------------------
                                                                                 (IN MILLIONS)

Primary duration-managed...........................                   $   26,344.1                $      (23.7)
Duration-monitored.................................                       10,145.7                        49.6
Non duration-managed...............................                        5,577.6                         -
                                                              -------------------------      ---------------------
Total..............................................                   $   42,067.4                $       25.9
                                                              =========================      =====================

We are also exposed to interest rate risk in our Mortgage  Banking  segment.  We
manage this risk by striving to balance our loan  origination and loan servicing
operations, the two of which are generally counter-cyclical. In addition, we use
various financial instruments,  including derivatives  contracts,  to manage the
interest rate risk  specifically  related to committed loans in the pipeline and
mortgage  servicing  rights.  The overall  objective of our  interest  rate risk
management  policies is to offset changes in the values of these items resulting
from changes in interest rates. We do not speculate on the direction of interest
rates in our management of interest rate risk.

                                       85

We manage interest rate risk on our mortgage loan pipeline by buying and selling
mortgage-backed  securities in the forward markets,  over-the-counter options on
mortgage-backed  securities,  U.S. Treasury and Eurodollar futures contracts and
options  on  futures  contracts.  We also  use  interest  rate  floors,  futures
contracts,  options on futures contracts,  swaps and swaptions,  mortgage-backed
securities  and  principal-only  strips in hedging a portion of our portfolio of
mortgage  servicing  rights from  prepayment  risk  associated  with  changes in
interest rates.

We measure  pipeline  interest  rate risk  exposure  by  adjusting  the  at-risk
pipeline in light of the theoretical  optionality of each applicant's rate/price
commitment. The at-risk pipeline, which consists of closed loans and rate locks,
is then refined at the product type level to express each product's  sensitivity
to  changes in market  interest  rates in terms of a single  current  coupon MBS
duration ("benchmark interest rate"). Suitable hedges are selected and a similar
methodology  applied to this hedge position.  The variety of hedging instruments
allows us to match the  behavior of the  financial  instrument  with that of the
different types of loans originated.  Price sensitivity analysis is performed at
least once daily.  The face  amount of the loans in the  pipeline as of December
31, 2002, was $12.9  billion.  Due to the impact of our hedging  activities,  we
estimate  that  a 100  basis  point  immediate  and  sustained  increase  in the
benchmark  interest rates decreases the December 31, 2002, net position value by
$60.8 million.

The financial risk associated with our mortgage servicing operations is the risk
that the fair value of the servicing asset falls below its U.S. GAAP book value.
To measure this risk, we analyze each  servicing  risk  tranche's U.S. GAAP book
value in relation to the then current fair value for similar  servicing  rights.
We perform this valuation  using  option-adjusted  spread  valuation  techniques
applied to each risk  tranche.  We produce  tranche fair values at least monthly
and model our net servicing hedge position at least daily.

The fair value of the servicing asset declines as interest rates decrease due to
possible  mortgage  loan  servicing  rights  impairment  that  may  result  from
increased current and projected future prepayment activity.  The change in value
of the servicing asset due to interest rate movements is partially offset by the
use of financial  instruments,  including  derivative  contracts  that typically
increase in aggregate  value when interest rates decline.  Based on values as of
December 31, 2002, a 100 basis point immediate  parallel and sustained  decrease
in interest  rates  produces a $4.0  million  decline in value of the  servicing
asset of our  Mortgage  Banking  segment,  net of the  impact  of these  hedging
vehicles, due to the differences between fair values and U.S. GAAP book values.

CASH FLOW VOLATILITY

Cash flow volatility arises as a result of several factors.  One is the inherent
difficulty in perfectly matching the cash flows of new asset purchases with that
of new liabilities.  Another factor is the inherent cash flow volatility of some
classes of assets and liabilities. In order to minimize cash flow volatility, we
manage  differences  between  expected  asset and  liability  cash flows  within
pre-established guidelines.

We also seek to minimize  cash flow  volatility  by  restricting  the portion of
securities with redemption features held in our invested asset portfolio.  These
asset  securities  include  redeemable  corporate  securities,   mortgage-backed
securities  or other assets with options  that,  if  exercised,  could alter the
expected  future cash  inflows.  In addition,  we limit sales  liabilities  with
features  such as puts or other options that may change the cash flow profile of
the liability portfolio.

DERIVATIVES

We use  various  derivative  financial  instruments  to manage our  exposure  to
fluctuations in interest rates,  including  interest rate swaps,  principal-only
swaps,  interest rate floors,  swaptions,  U.S. Treasury futures,  Treasury rate
guarantees,  interest rate lock  commitments  and  mortgage-backed  forwards and
options. We use interest rate futures contracts and mortgage-backed  forwards to
hedge  changes in interest  rates  subsequent  to the  issuance of an  insurance
liability,  such as a guaranteed investment contract,  but prior to the purchase
of a supporting  asset,  or during periods of holding assets in  anticipation of
near term liability sales. We use interest rate swaps and  principal-only  swaps
primarily to more closely match the interest rate  characteristics of assets and

                                       86

liabilities.  They can be used to change the sensitivity to the interest rate of
specific assets and liabilities as well as an entire portfolio. Occasionally, we
will sell a callable  liability or a liability with attributes similar to a call
option.  In these cases, we will use interest rate swaptions or similar products
to hedge the risk of early liability  payment thereby  transforming the callable
liability into a fixed term liability.

We also seek to reduce call or prepayment  risk arising from changes in interest
rates in individual  investments.  We limit our exposure to investments that are
prepayable without penalty prior to maturity at the option of the issuer, and we
require  additional  yield on these  investments to compensate for the risk that
the issuer will  exercise  such  option.  An example of an  investment  we limit
because of the option risk is residential  mortgage-backed securities. We assess
option risk in all investments we make and, when we assume such risk, we seek to
price for it accordingly to achieve an appropriate return on our investments.

We have increased our credit exposure  through credit default swaps by investing
in subordinated  tranches of a synthetic  collateralized  debt  obligation.  The
outstanding  notional  amount as of December 31, 2002 was $500.0 million and the
mark to market value was $3.0 million pre-tax.  We also invested in credit swaps
creating  replicated assets with a notional of $205.3 million and mark to market
value of $(2.1) million as of December 31, 2002.

In conjunction with our use of derivatives, we are exposed to counterparty risk,
or the risk that  counterparty  fails to  perform  the  terms of the  derivative
contract. We actively manage this risk by:

o    establishing  exposure  limits  which  take  into  account   non-derivative
     exposure we have with the counterparty as well as derivative exposure;

o    performing  similar credit  analysis prior to approval on each  derivatives
     counterparty that we do when lending money on a long-term basis;

o    diversifying our risk across numerous approved counterparties;

o    limiting exposure to A+ credit or better;

o    conducting  stress-test  analysis to determine the maximum exposure created
     during the life of a prospective transaction; and

o    daily monitoring of counterparty credit ratings.

All new derivative  counterparties are approved by the investment committee.  We
believe the risk of incurring losses due to nonperformance by our counterparties
is manageable.

The  notional  amounts  used to express  the extent of our  involvement  in swap
transactions  represent  a  standard  measurement  of the  volume  of  our  swap
business.  Notional amount is not a quantification of market risk or credit risk
and it may not  necessarily be recorded on the balance sheet.  Notional  amounts
represent those amounts used to calculate  contractual flows to be exchanged and
are not paid or received,  except for contracts such as currency  swaps.  Actual
credit exposure  represents the amount owed to us under derivative  contracts as
of the valuation date. The following  tables present our position in, and credit
exposure to,  derivative  financial  instruments  as of December  31, 2002,  and
December 31, 2001:

                                       87

               DERIVATIVE FINANCIAL INSTRUMENTS - NOTIONAL AMOUNTS

                                                             AS OF DECEMBER 31,          AS OF DECEMBER 31,
                                                           ---------------------        ----------------------
                                                                    2002                        2001
                                                           ---------------------        ----------------------
                                                             NOTIONAL        % OF        NOTIONAL        % OF
                                                              AMOUNT         TOTAL        AMOUNT        TOTAL
                                                           -------------   ---------    ----------     -------
                                                                            ($ IN MILLIONS)

Mortgage-backed forwards and options............           $ 17,494.9         33%       $ 9,250.7         34%
Swaptions ......................................              9,772.5         18          3,570.0         13
Interest rate swaps.............................              9,719.2         18          3,272.5         12
Interest rate lock commitments..................              8,198.1         15          2,565.9          9
Foreign currency swaps..........................              3,217.0          6          4,091.9         15
U.S. Treasury futures (LIBOR)...................              2,225.0          4              -            -
Interest rate floors............................              1,650.0          3          3,400.0         12
Credit default swaps ...........................                705.2          1              -            -
Bond forwards...................................                363.7          1            357.4          1
U.S. Treasury futures...........................                271.1          1            186.6          1
Principal Only swaps............................                123.6          -            250.0          1
Treasury rate guarantees........................                 63.0          -             88.0          -
Call options....................................                 30.0          -             30.0          -
Currency forwards...............................                  0.2          -            393.4          2
Total return swaps..............................                   -           -             25.0          -
                                                           -------------    --------    ----------     -------
   Total........................................           $ 53,833.5         100%      $27,481.4        100%
                                                           =============    ========    ==========     =======

               DERIVATIVE FINANCIAL INSTRUMENTS - CREDIT EXPOSURES

                                                             AS OF DECEMBER 31,           AS OF DECEMBER 31,
                                                           ---------------------        ----------------------
                                                                    2002                         2001
                                                           ---------------------        ----------------------
                                                              CREDIT         % OF         CREDIT          % OF
                                                             EXPOSURE        TOTAL       EXPOSURE        TOTAL
                                                           -------------   ---------    -------------   ------
                                                                             ($ IN MILLIONS)

Foreign currency swaps..........................            $     195.0       68%       $     101.1        33%
Interest rate swaps.............................                   48.4       17               78.4        25
Swaptions ......................................                   31.4       11                8.7         3
Credit default swaps............................                    8.9        3                -           -
Interest rate floors............................                    1.7        1               13.2         4
Call options....................................                    0.4        -                8.9         3
Currency forwards...............................                     -         -               55.3        18
Total return swaps..............................                     -         -                0.1         -
Mortgage-backed forwards and options............                     -         -               41.7        14
                                                           -------------   ---------    -------------   ------
 Total........................................              $     285.8      100%       $     307.4       100%
                                                           =============   =========    =============   ======

The  following  table shows the interest  rate  sensitivity  of our  derivatives
measured  in terms of fair  value.  These  exposures  will change as a result of
ongoing portfolio and risk management activities.

                                       88

                                                                     AS OF DECEMBER 31, 2002
                                          -------------------------------------------------------------------------------
                                                                                  FAIR VALUE (NO ACCRUED INTEREST)
                                                                              -------------------------------------------
                                                                WEIGHTED
                                                              AVERAGE TERM    -100 BASIS                     +100 BASIS
                                           NOTIONAL AMOUNT      (YEARS)      POINT CHANGE     NO CHANGE     POINT CHANGE
                                          -----------------  -------------   --------------   -----------   -------------
                                                                         ($ IN MILLIONS)

Interest rate swaps..................        $  9,719.2            4.90(1)      $   74.6       $  147.1       $  (230.1)
Principal-only swaps.................             123.6            1.82(1)          10.6            3.1           (11.7)
Interest rate floors.................           1,650.0            3.50(2)          38.9           41.6           (23.3)
U.S. Treasury futures................             271.1            0.22(3)          (1.5)          (1.9)            0.9
U.S. Treasury futures (LIBOR)........           2,225.0            0.86(3)          (5.6)          (3.9)            5.6
Swaptions............................           9,772.5            1.09(4)         289.3          232.8           (25.3)
Treasury rate guarantees.............              63.0            0.10(5)          (5.3)          (1.0)            3.3
Bond forwards........................             363.7            0.73(5)          49.9           27.6             5.6
Mortgage-backed forwards and options.          17,494.9            0.07(5)        (152.2)         (56.4)          162.2
Interest rate lock commitments.......           8,198.1            0.12(6)          59.7          128.6          (225.1)
                                             -----------                        ----------    -----------     -----------
   Total.............................        $ 49,881.1                         $  358.4       $  517.6       $  (337.9)
                                             ===========                        ==========    ===========     ===========

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

(1)  Based on maturity date of swap.
(2)  Based on maturity date of of floor.
(3)  Based no maturity date.
(4)  Based on option date of swaption.
(5)  Based on settlement date.
(6)  Based on expiration date.

We use U.S. Treasury futures to manage our over/under  commitment position,  and
our position in these contracts changes daily.

DEBT ISSUED AND OUTSTANDING

As of December 31, 2002, the aggregate fair value of debt was $1,459.3  million.
A 100 basis point, immediate, parallel decrease in interest rates would increase
the fair value of debt by approximately $62.2 million.

                                                                           AS OF DECEMBER 31, 2002
                                                         -----------------------------------------------------------
                                                                      FAIR VALUE (NO ACCRUED INTEREST)
                                                         -----------------------------------------------------------
                                                            -100 BASIS                                 +100 BASIS
                                                           POINT CHANGE           NO CHANGE           POINT CHANGE
                                                         -----------------      ---------------      ---------------
                                                                                (IN MILLIONS)

7.95% notes payable, due 2004......................        $      219.1         $      215.7          $      212.4
8.2% notes payable, due 2009.......................               572.6                542.8                 514.8
7.875% surplus notes payable, due 2024.............               218.6                209.2                 195.4
8% surplus notes payable, due 2044.................               117.0                105.1                  94.4
Non-recourse mortgages and notes payable...........               271.6                263.9                 256.7
Other mortgages and notes payable..................               122.6                122.6                 122.6
                                                           ---------------      ---------------      ---------------
   Total long-term debt............................        $    1,521.5         $    1,459.3          $    1,396.3
                                                           ===============      ===============      ===============

EQUITY RISK

Equity  risk is the risk  that we will  incur  economic  losses  due to  adverse
fluctuations  in a particular  common stock.  As of December 31, 2002,  the fair
value of our equity securities was $378.7 million. A 10% decline in the value of
the equity securities would result in an unrealized loss of $37.9 million.

FOREIGN CURRENCY RISK

                                       89

Foreign  currency  risk is the risk that we will  incur  economic  losses due to
adverse  fluctuations in foreign currency  exchange rates. This risk arises from
our international operations and foreign currency-denominated funding agreements
issued to non-qualified institutional investors in the international market. The
notional   amount   of   our   currency   swap   agreements    associated   with
foreign-denominated  liabilities as of December 31, 2002, was $2,934.6  million.
We  also  have  fixed  maturity  securities  that  are  denominated  in  foreign
currencies. However, we use derivatives to hedge the foreign currency risk, both
interest  payments and the final maturity payment,  of these funding  agreements
and securities.  As of December 31, 2002, the fair value of our foreign currency
denominated fixed maturity  securities was $311.2 million.  We use currency swap
agreements  of the same  currency to hedge the foreign  currency  exchange  risk
related  to  these  investments.  The  notional  amount  of  our  currency  swap
agreements associated with  foreign-denominated  fixed maturity securities as of
December  31,  2002,  was  $282.4  million.  With  regard  to our  international
operations,  we  attempt  to do as  much  of our  business  as  possible  in the
functional  currency  of the country of  operation.  At times,  however,  we are
unable to do so, and in these  cases,  we use foreign  exchange  derivatives  to
hedge the resulting risks.

We estimate that as of December 31, 2002, a 10% immediate  unfavorable change in
each of the foreign currency exchange rates to which we are exposed would result
in no  change  to the  net  fair  value  of  our  foreign  currency  denominated
instruments  identified  above,  including  the currency  swap  agreements.  The
selection of a 10% immediate  unfavorable  change in all currency exchange rates
should not be construed  as a  prediction  by us of future  market  events,  but
rather as an illustration of the potential impact of such an event.

EFFECTS OF INFLATION

We do not believe that inflation, in the United States or in the other countries
in which we operate,  has had a material effect on our  consolidated  operations
over  the past  five  years.  In the  future,  however,  we may be  affected  by
inflation to the extent it causes interest rates to rise.

                                       90

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Report of Independent Auditors................................................91
Audited Consolidated Financial Statements
   Consolidated Statements of Financial Position..............................92
   Consolidated Statements of Operations......................................93
   Consolidated Statements of Stockholders' Equity............................95
   Consolidated Statements of Cash Flows......................................96
   Notes to Consolidated Financial Statements.................................98

                         REPORT OF INDEPENDENT AUDITORS

The Board of Directors and Stockholders
Principal Financial Group, Inc.

We have audited the accompanying  consolidated  statements of financial position
of Principal Financial Group, Inc. ("the Company"),  as of December 31, 2002 and
2001,  and the related  consolidated  statements  of  operations,  stockholders'
equity and cash flows for each of the three years in the period  ended  December
31, 2002.  These financial  statements are the  responsibility  of the Company's
management.  Our  responsibility  is to express  an  opinion on these  financial
statements based on our audits.

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

In our opinion,  the financial  statements  referred to above present fairly, in
all  material  respects,   the  consolidated  financial  position  of  Principal
Financial  Group,  Inc. at  December  31,  2002 and 2001,  and the  consolidated
results of its  operations and its cash flows for each of the three years in the
period  ended  December 31,  2002,  in  conformity  with  accounting  principles
generally accepted in the United States.

As discussed in Note 1 to the  consolidated  financial  statements,  the Company
changed  its  methods of  accounting  for  derivative  instruments  and  hedging
activities,  discontinued operations and goodwill and other intangible assets in
response to new accounting  standards that became effective  January 1, 2001 and
2002, respectively.

                                                          /s/ Ernst & Young LLP

Des Moines, Iowa
January 31, 2003

                                       91

                         PRINCIPAL FINANCIAL GROUP, INC.

                  CONSOLIDATED STATEMENTS OF FINANCIAL POSITION

                                                                                          DECEMBER 31,
                                                                                     2002              2001
                                                                                ------------------  ------------------
                                                                                          (IN MILLIONS,
                                                                                      EXCEPT PER SHARE DATA)

ASSETS
Fixed maturities, available-for-sale.......................................         $34,185.7          $30,012.3
Fixed maturities, trading..................................................             101.7               17.8
Equity securities, available-for-sale......................................             378.7              837.2
Mortgage loans.............................................................          11,081.9           11,065.7
Real estate................................................................           1,229.0            1,181.8
Policy loans...............................................................             818.5              831.9
Other investments..........................................................           1,200.1              832.3
                                                                                ------------------  ------------------
   Total investments.......................................................          48,995.6           44,779.0

Cash and cash equivalents..................................................           1,038.6              561.2
Accrued investment income..................................................             646.3              594.1
Premiums due and other receivables.........................................             459.7              489.0
Deferred policy acquisition costs..........................................           1,414.4            1,372.5
Property and equipment.....................................................             482.5              494.2
Goodwill...................................................................             106.5              104.0
Other intangibles..........................................................              88.8               61.5
Mortgage loan servicing rights.............................................           1,518.6            1,779.2
Separate account assets....................................................          33,501.4           34,376.0
Assets of discontinued operations..........................................               -              2,974.3
Other assets...............................................................           1,608.9              765.5
                                                                                 ------------------  ------------------
   Total assets............................................................         $89,861.3          $88,350.5
                                                                                ==================  ==================
LIABILITIES
Contractholder funds.......................................................         $26,315.0          $24,684.4
Future policy benefits and claims..........................................          14,736.4           14,034.6
Other policyholder funds...................................................             642.9              589.1
Short-term debt............................................................             564.8              511.6
Long-term debt.............................................................           1,332.5            1,378.4
Income taxes currently payable.............................................               -                 35.1
Deferred income taxes......................................................           1,177.7              853.6
Separate account liabilities...............................................          33,501.4           34,376.0
Liabilities of discontinued operations.....................................               -              1,773.3
Other liabilities..........................................................           4,933.4            3,294.1
                                                                                ------------------  ------------------
   Total liabilities.......................................................          83,204.1           81,530.2

STOCKHOLDERS' EQUITY
Common stock, par value $.01 per share - 2,500.0 million shares authorized,
   376.7 million and 375.8 million shares issued, and 334.4 million and
   360.1 million shares outstanding in 2002 and 2001, respectively.........               3.8                3.8
Additional paid-in capital.................................................           7,106.3            7,072.5
Retained earnings (deficit)................................................              29.4              (29.1)
Accumulated other comprehensive income.....................................             635.8              147.5
Treasury stock, at cost (42.3 million and 15.7 million shares in 2002 and
   2001, respectively).....................................................          (1,118.1)            (374.4)
                                                                                ------------------  ------------------
   Total stockholders' equity..............................................           6,657.2            6,820.3
                                                                                ------------------  ------------------
   Total liabilities and stockholders' equity..............................         $89,861.3          $88,350.5
                                                                                ==================  ==================

SEE ACCOMPANYING NOTES.

                                       92

                         PRINCIPAL FINANCIAL GROUP, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                   ------------------ ------------------ ------------------
                                                                        (IN MILLIONS)

REVENUES
Premiums and other considerations...............        $3,881.8           $4,122.3           $3,996.4
Fees and other revenues.........................         1,990.8            1,600.7            1,300.6
Net investment income...........................         3,304.7            3,383.6            3,157.6
Net realized/unrealized capital gains (losses)..          (354.8)            (514.0)             139.6
                                                     ------------------ ------------------ ------------------
  Total revenues................................         8,822.5            8,592.6            8,594.2

EXPENSES
Benefits, claims, and settlement expenses.......         5,216.9            5,482.1            5,232.3
Dividends to policyholders......................           316.6              313.7              312.7
Operating expenses..............................         2,623.2            2,332.7            2,209.0
                                                   ------------------ ------------------ ------------------
   Total expenses................................        8,156.7            8,128.5            7,754.0
                                                   ------------------ ------------------ ------------------
Income from continuing operations before income
   taxes........................................           665.8              464.1              840.2

Income taxes....................................            45.9               83.4              228.5
                                                   ------------------ ------------------ ------------------
Income from continuing operations, net of                  619.9              380.7              611.7
   related income taxes.........................

Income (loss) from discontinued operations, net
   of related income taxes......................          (196.7)             (11.2)               8.5
                                                   ------------------ ------------------ ------------------
Income before cumulative effect of accounting
   changes......................................           423.2              369.5              620.2

Cumulative effect of accounting changes, net
   of related income taxes......................          (280.9)             (10.7)               -
                                                   ------------------ ------------------ ------------------
Net income......................................        $  142.3           $  358.8           $  620.2
                                                   ================== ================== ==================

                                       93

                         PRINCIPAL FINANCIAL GROUP, INC.

                CONSOLIDATED STATEMENTS OF OPERATIONS (CONTINUED)

                                                         FOR THE YEAR ENDED      PRO FORMA (UNAUDITED) FOR
                                                                                  THE YEAR ENDED DECEMBER
                                                         DECEMBER 31, 2002                31, 2001
                                                     --------------------------- ---------------------------

EARNINGS PER COMMON SHARE
Basic and diluted earnings per common share:
   Income from continuing operations, net of
     related income taxes........................            $    1.77                   $   1.05
   Loss from discontinued operations, net of
     related income taxes........................                (0.56)                     (0.03)
                                                     --------------------------- ---------------------------
    Income before cumulative effect of
     accounting changes..........................                 1.21                       1.02
   Cumulative effect of accounting changes,
     net of related income taxes.................                (0.80)                     (0.03)
                                                     --------------------------- ---------------------------
   Net income....................................            $    0.41                   $   0.99
                                                     =========================== ===========================

The unaudited pro forma earnings per common share information above gives effect
to the  Demutualization  and Initial  Public  Offering  completed on October 26,
2001,  as if they  occurred on January 1, 2001 (see Note 20 to the  consolidated
financial statements).

SEE ACCOMPANYING NOTES.

                                       94

                         PRINCIPAL FINANCIAL GROUP, INC.

                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

                                                                  ACCUMULATED
                                        ADDITIONAL   RETAINED       OTHER                       TOTAL
                              COMMON     PAID-IN     EARNINGS    COMPREHENSIVE    TREASURY   STOCKHOLDERS' OUTSTANDING
                              STOCK      CAPITAL     (DEFICIT)    INCOME (LOSS)    STOCK       EQUITY        SHARES
                            ----------  ----------  -----------  --------------   --------   ------------- ---------------
                                                                (IN MILLIONS)                              (IN THOUSANDS)

BALANCES AT JANUARY 1, 2000....$  -      $    -        $5,692.3      $(139.4)   $     -       $5,552.9
Comprehensive income:
   Net income..................   -           -           620.2          -            -          620.2
   Net unrealized gains........   -           -             -          351.9          -          351.9
   Provision for deferred
     income taxes..............   -           -             -         (120.0)         -         (120.0)
   Foreign currency
     translation adjustment....   -           -             -         (152.5)         -         (152.5)
                                                                                             -------------
 Comprehensive income..........                                                                  699.6
                            ----------  ----------  -----------  --------------   --------   ------------- ---------------
BALANCES AT DECEMBER 31,
   2000........................   -           -         6,312.5        (60.0)         -        6,252.5
Demutualization transaction....   2.6     5,047.7      (6,700.4)         -            -       (1,650.1)    260,805.9
Stock issued and held in
   rabbi trusts................   -           6.7           -            -           (6.7)         -          (363.7)
Initial public offering........   1.0     1,752.9           -            -            -        1,753.9     100,000.0
Shares issued..................   0.2       265.2           -            -            -          265.4      15,000.0
Treasury stock acquired.......    -           -             -            -         (367.7)      (367.7)    (15,300.0)
Comprehensive income:
   Net income before
     demutualization...........   -           -           387.9          -            -          387.9
   Net loss after
     demutualization...........   -           -           (29.1)         -            -          (29.1)
                                                     -----------                              --------------
   Net income for the year.....   -           -           358.8          -            -          358.8

   Net unrealized gains........   -           -             -          451.6          -          451.6
   Provision for deferred
     income taxes..............   -           -             -         (158.1)         -         (158.1)
   Foreign currency
     translation adjustment....   -           -             -          (71.8)         -          (71.8)
   Cumulative effect of
     accounting change, net
     of related income taxes...   -           -             -          (14.2)         -          (14.2)
                                                                                             --------------
Comprehensive income...........                                                                  566.3
                            ----------  ----------  -----------  --------------   --------   ------------- ---------------
BALANCES AT DECEMBER 31,
   2001........................   3.8     7,072.5         (29.1)       147.5       (374.4)     6,820.3     360,142.2
Shares issued..................   -          22.0           -            -            -           22.0         904.9
Stock-based compensation.......   -          10.5           -            -            -           10.5
Treasury stock acquired and
  sold, net....................   -           1.3           -            -         (743.7)      (742.4)    (26,627.8)
Dividends to stockholders......   -           -           (83.8)         -            -          (83.8)
Comprehensive income:
   Net income..................    -          -           142.3          -            -          142.3
   Net unrealized gains........    -          -             -          618.8          -          618.8
   Provision for deferred
     income taxes..............    -          -             -         (217.1)         -         (217.1)
   Foreign currency
     translation adjustment....    -          -             -           86.6          -           86.6
                                                                                             --------------
Comprehensive income...........                                                                  630.6
                            ----------  ----------  -----------  --------------   --------   ------------- ---------------
BALANCES AT DECEMBER 31,
   2002........................   $3.8   $7,106.3      $   29.4      $ 635.8    $(1,118.1)    $6,657.2     334,419.3
                            ==========  ==========  ===========  ==============   =========  ============= ===============

SEE ACCOMPANYING NOTES.

                                       95

                         PRINCIPAL FINANCIAL GROUP, INC.

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                                                                 FOR THE YEAR ENDED DECEMBER 31,
                                                             2002             2001              2000
                                                       ----------------- ---------------- -----------------
                                                                          (IN MILLIONS)

OPERATING ACTIVITIES
Net income............................................   $     142.3       $     358.8      $     620.2
Adjustments to reconcile net income to net cash
   provided by operating activities:
     Loss (income) from discontinued operations, net
       of related income taxes........................         196.7              11.2             (8.5)
     Cumulative effect of accounting changes,
       net of related income taxes....................         280.9              10.7              -
     Amortization of deferred policy
       acquisition costs..............................         144.5             159.9            238.6
     Additions to deferred policy acquisition costs...        (323.4)           (261.7)          (263.9)
     Accrued investment income........................         (52.2)            (66.2)           (60.1)
     Premiums due and other receivables...............          25.2             (47.3)           (74.8)
     Contractholder and policyholder liabilities
       and dividends..................................       2,154.4           2,005.0          1,478.5
     Current and deferred income taxes................         408.4              98.8            188.5
     Net realized/unrealized capital (gains) losses...         354.8             514.0           (139.6)
     Depreciation and amortization expense............         106.0             103.4             99.8
     Amortization of mortgage servicing rights........         364.9             213.0            157.8
     Stock-based compensation.........................          10.5               -                -
     Mortgage servicing rights valuation adjustments..         926.7             101.8             54.8
     Other............................................         824.3             856.0            500.9
                                                       ----------------- ---------------- -----------------
Net adjustments.......................................       5,421.7           3,698.6          2,172.0
                                                       ----------------- ---------------- -----------------
Net cash provided by operating activities.............       5,564.0           4,057.4          2,792.2

INVESTING ACTIVITIES
Available-for-sale securities:
   Purchases.........................................      (16,683.5)        (14,871.8)       (13,051.0)
   Sales.............................................        8,460.0           6,707.7          7,366.0
   Maturities........................................        4,473.3           4,729.5          2,675.3
Net cash flows from trading securities................         (82.4)            (17.0)             -
Mortgage loans acquired or originated.................     (50,217.3)        (40,456.9)       (10,507.5)
Mortgage loans sold or repaid.........................      50,027.7          40,908.6         12,026.8
Purchase of mortgage servicing rights.................        (931.7)           (968.4)          (235.9)
Proceeds from sale of mortgage servicing rights.......           8.6              31.5             53.1
Real estate acquired..................................        (273.8)           (290.0)          (324.4)
Real estate sold......................................         255.7             803.8            796.9
Net change in property and equipment..................         (59.5)            (90.6)           (72.2)
Net proceeds (disbursements) from sales of
   subsidiaries.......................................         500.8              (7.9)             -
Purchases of interest in subsidiaries, net
   of cash acquired...................................         (54.5)            (11.1)           (27.4)
Net change in other investments.......................         498.5            (205.4)           (93.1)
                                                       ----------------- ---------------- -----------------
Net cash used in investing activities.................      (4,078.1)         (3,738.0)        (1,393.4)

                                       96

                         PRINCIPAL FINANCIAL GROUP, INC.

                CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)

                                                                 FOR THE YEAR ENDED DECEMBER 31,
                                                             2002             2001              2000
                                                       ----------------- ---------------- -----------------
                                                                          (IN MILLIONS)

FINANCING ACTIVITIES
Issuance of common stock.............................    $      22.0       $   2,019.3     $        -
Payments to eligible policyholders under plan
   of conversion.....................................            -            (1,177.5)             -
Acquisition and sales of treasury stock, net.........         (742.4)           (367.7)             -
Dividends to stockholders............................          (83.8)              -                -
Issuance of long-term debt...........................           64.1             149.2            230.4
Principal repayments of long-term debt...............         (110.0)           (204.4)          (120.7)
Net proceeds (repayments) of short-term
   borrowings........................................           53.2              52.1            (87.9)
Investment contract deposits.........................        7,014.1           5,054.9          3,982.6
Investment contract withdrawals......................       (7,225.7)         (6,075.1)        (5,011.3)
                                                       ----------------- ---------------- -----------------
Net cash used in financing activities................       (1,008.5)           (549.2)        (1,006.9)
                                                       ----------------- ---------------- -----------------

Net increase (decrease) in cash and cash
   equivalents.......................................          477.4            (229.8)           391.9

Cash and cash equivalents at beginning of year.......          561.2             791.0            399.1
                                                       ----------------- ---------------- -----------------
Cash and cash equivalents at end of year.............       $1,038.6        $    561.2     $      791.0
                                                       ================= ================ =================

SCHEDULE OF NONCASH TRANSACTIONS
Policy credits to eligible policyholders under plan
   of conversion.....................................                       $    472.6
                                                                         ================
Stock issued in exchange for membership interest.....                        $ 5,050.3
                                                                         ================
Net transfer of noncash assets and liabilities to an
   unconsolidated entity in exchange for a minority
   interest..........................................                                        $   (255.0)
                                                                                          =================

SEE ACCOMPANYING NOTES.

                                       97

                         PRINCIPAL FINANCIAL GROUP, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                                DECEMBER 31, 2002

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES

DESCRIPTION OF BUSINESS

Principal  Financial  Group,  Inc.  and  its  consolidated  subsidiaries,  is  a
diversified  financial  services  organization  engaged in promoting  retirement
savings and  investment  and  insurance  products  and  services in the U.S. and
selected  international markets. In addition, we offer residential mortgage loan
origination and servicing in the U.S.

DEMUTUALIZATION AND INITIAL PUBLIC OFFERING

Under  the terms of  Principal  Mutual  Holding  Company's  Plan of  Conversion,
effective  October 26, 2001 (the "Date of  Demutualization"),  Principal  Mutual
Holding Company  converted from a mutual insurance holding company ("MIHC") to a
stock  company,  subsidiary  of  Principal  Financial  Group,  Inc.,  a Delaware
business  corporation.  All  membership  interests in Principal  Mutual  Holding
Company were extinguished on that date and eligible  policyholders  received, in
aggregate,  260.8 million shares of common stock,  $1,177.5  million of cash and
$472.6 million of policy credits as compensation.

In addition,  on October 26,  2001,  we completed  our initial  public  offering
("IPO") in which we issued  100.0  million  shares of common stock at a price of
$18.50 per  share,  prior to the  underwriters'  exercise  of the  overallotment
option. Net proceeds from the IPO were $1,753.9 million,  of which $64.2 million
was retained by Principal  Financial Group and $1,689.7  million was contributed
to Principal  Life  Insurance  Company.  Proceeds were net of offering  costs of
$96.5 million and a related tax benefit of $0.4 million.

Costs relating to the demutualization, excluding costs relating to the IPO, were
$2.0 million, $18.6 million and $7.2 million, net of income taxes, in 2002, 2001
and 2000,  respectively.  Demutualization expenses consist primarily of printing
and mailing costs and the  aggregate  cost of engaging  independent  accounting,
actuarial,  financial, investment banking, legal and other consultants to advise
us on the  demutualization.  In addition,  these costs  include the costs of the
advisors  of the  Insurance  Commissioner  of the State of Iowa and the New York
State Insurance Department,  other regulatory authorities and internal allocated
costs for staff and related costs associated with the demutualization.

BASIS OF PRESENTATION

The  accompanying   consolidated   financial   statements,   which  include  our
majority-owned  subsidiaries,  have been prepared in conformity  with accounting
principles   generally   accepted  in  the  U.S.   ("U.S.   GAAP").   Less  than
majority-owned  entities in which we had at least a 20% interest are reported on
the equity basis in the consolidated  statements of financial  position as other
investments.  All significant  intercompany  accounts and transactions have been
eliminated.

CLOSED BLOCK

At the time the MIHC  structure was created in 1998,  Principal  Life  Insurance
Company  ("Principal  Life") formed and began  operating a closed block ("Closed
Block") for the benefit of individual participating  dividend-paying policies in
force on that date. See Note 8 for further details regarding the Closed Block.

                                       98

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS

The preparation of our consolidated  financial statements and accompanying notes
requires  management to make estimates and  assumptions  that affect the amounts
reported and  disclosed.  These  estimates and  assumptions  could change in the
future as more  information  becomes  known,  which  could  impact  the  amounts
reported and disclosed in the consolidated financial statements and accompanying
notes.

ACCOUNTING CHANGES

The Financial Accounting Standards Board (the "FASB") issued  Interpretation No.
46, CONSOLIDATION OF VARIABLE INTEREST ENTITIES ("FIN 46"), in January 2003. FIN
46 provides  guidance  related to  identifying  variable  interest  entities and
determining  whether such entities should be consolidated.  In addition,  FIN 46
also provides  guidance  related to the initial and  subsequent  measurement  of
assets,  liabilities and noncontrolling interests of newly consolidated variable
interest entities and requires disclosures for both the primary beneficiary of a
variable  interest  entity  and other  beneficiaries  of the  entity.  FIN 46 is
effective  immediately for variable interest  entities created,  or interests in
variable interest entities obtained,  after January 31, 2003. For those variable
interest entities created,  or interests in variable interest entities obtained,
on or before  January 31,  2003,  the  guidance in FIN 46 must be applied in the
first  fiscal year or interim  period  beginning  after June 15,  2003.  We have
initiated an assessment and are currently  evaluating interests in entities that
may be considered  variable interest  entities.  The ultimate impact of adopting
FIN 46 on the consolidated  financial statements is still being reviewed.  Refer
to the Residential  Mortgage  Banking  Activities  section of Note 5 for further
information on variable  interest  entities and the effects that FIN 46 may have
on our financial statements in the future.

In December 2002, the FASB issued  Statement of Financial  Accounting  Standards
("SFAS") No. 148,  ACCOUNTING  FOR  STOCK-BASED  COMPENSATION  - TRANSITION  AND
DISCLOSURE  AN  AMENDMENT  OF FASB  STATEMENT  NO.  123 ("SFAS  148"),  which is
effective  for fiscal years ending  after  December 15, 2002.  SFAS 148 provides
alternative  methods of transition for an entity that voluntarily changes to the
fair value based method of accounting for stock-based employee  compensation and
requires  disclosure  about the  effects on  reported  net income of an entity's
accounting policy decisions with respect to stock-based  employee  compensation.
In addition, SFAS 148 amends Accounting Principles Board ("APB") Opinion No. 28,
INTERIM  FINANCIAL  REPORTING,  to require  disclosure  about  those  effects in
interim  financial  information.  We are  applying  the  prospective  method  of
transition  as  prescribed  by  SFAS  No.  123,   ACCOUNTING   FOR   STOCK-BASED
COMPENSATION ("SFAS 123").

SFAS 123 encourages but does not require  companies to record  compensation cost
for stock-based  employee  compensation plans based on the fair value of options
granted.  Effective  July  1,  2002,  we  adopted  the  fair  value  method  for
stock-based   compensation  as  defined  in  SFAS  123  in  accounting  for  our
stock-based  compensation  plans.  SFAS 123, which indicates that the fair value
method is the  preferable  method of  accounting,  requires  that the fair value
method for stock-based compensation be applied as of the beginning of the fiscal
year in which it is adopted for all  stock-based  awards  granted  subsequent to
such date. The financial  statements for the first two quarters of 2002 were not
restated for this change since its effects were not  materially  different  from
amounts  reported for both financial  position and results of  operations.  Such
effects for the first two  quarters  were  charged  against  income in the third
quarter of 2002 and were not  material to such results of  operations.  Prior to
January 1, 2002, we applied the intrinsic  value method (as permitted under SFAS
123) defined in APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES and
related  Interpretations,  which excluded  employee  options and stock purchases
from compensation expense.

                                       99

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

In November 2002, the FASB issued Interpretation No. 45, GUARANTOR'S  ACCOUNTING
AND DISCLOSURE  REQUIREMENTS FOR GUARANTEES,  INCLUDING  INDIRECT  GUARANTEES OF
INDEBTEDNESS  OF OTHERS ("FIN 45").  FIN 45 requires  certain  guarantees  to be
recorded  at  fair  value  instead  of when a loss is  probable  and  reasonably
estimable as defined by SFAS No. 5,  ACCOUNTING FOR  CONTINGENCIES.  FIN 45 also
requires  a  guarantor  to make  significant  new  disclosures,  even  when  the
likelihood of making any payments  under the guarantee is remote.  The liability
recognition  requirements of FIN 45 are effective for those  guarantees that are
issued or amended as of January 1, 2003 or later.  The  disclosure  requirements
are effective for financial  statements of annual  periods ending after December
15, 2002. Refer to Note 14 for further information regarding our guarantees.

In June 2001, the FASB issued SFAS No. 141, BUSINESS  COMBINATIONS ("SFAS 141"),
and SFAS No. 142,  GOODWILL AND OTHER INTANGIBLE  ASSETS ("SFAS 142").  SFAS 141
requires  that the  purchase  method  of  accounting  be used  for all  business
combinations initiated after June 30, 2001, and requires separate recognition of
intangible  assets apart from goodwill,  if such intangible  assets meet certain
criteria.  SFAS 142,  effective  January 1, 2002,  prohibits the amortization of
goodwill and intangible assets with indefinite  useful lives.  Intangible assets
with finite lives will  continue to be  amortized  over their  estimated  useful
lives.  Additionally,  SFAS 142  requires  that  goodwill  and  indefinite-lived
intangible assets be reviewed for impairment at least annually, which we plan to
do in the fourth quarter each year.

Our initial  adoption  of SFAS 142 on January 1, 2002,  required us to perform a
two-step  fair-value based goodwill  impairment test. The first step of the test
compared the estimated fair value of the reporting  unit to its carrying  value,
including goodwill. If the carrying value exceeded fair value, a second step was
performed,  which  compared the implied fair value of the  applicable  reporting
unit's  goodwill  with the  carrying  amount of that  goodwill,  to measure  the
goodwill  impairment,  if any.  Additionally,  we were  required  to  perform an
impairment test on our indefinite-lived  intangible assets, which consisted of a
comparison of the fair value of an intangible asset with its carrying amount.

Our  measurements  of fair value were based on evaluations of future  discounted
cash flows, product level analysis, market performance assumptions and cash flow
assumptions.  These evaluations  utilized the best information  available in the
circumstances, including reasonable and supportable assumptions and projections.
The  discounted  cash flow  evaluations  considered  earnings  scenarios and the
likelihood  of  possible   outcomes.   Collectively,   these   evaluations  were
management's best estimate of projected future cash flows.

As a result of performing  the two-step  impairment  test, we recorded  goodwill
impairments  of $196.5  million,  $20.9 million and $4.6 million,  net of income
taxes, related to our BT Financial Group,  Principal  International and Life and
Health  Insurance  operations,  respectively.   Additionally,  as  a  result  of
performing the indefinite-lived  intangible asset impairment test, we recognized
an after-tax impairment of $58.9 million to our brand name and management rights
intangible asset related to BT Financial Group.

                                      100

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

These impairments, recognized January 1, 2002, as a cumulative effect of a
change in accounting principle, were reported in our operating segments as
follows (in millions):

                                               INTERNATIONAL
                                              ASSET MANAGEMENT     LIFE AND HEALTH
                                              AND ACCUMULATION       INSURANCE         CONSOLIDATED
                                            -------------------- ------------------ ------------------
                                                                                 
 Goodwill.................................        $321.2               $4.6               $325.8
 Indefinite-lived intangibles.............          89.8                -                   89.8
 Income tax impact........................        (134.7)               -                 (134.7)
                                            -------------------- ------------------ ------------------
Total impairment, net of income taxes.....        $276.3               $4.6               $280.9
                                            ==================== ================== ==================

Net income  and  earnings  per share  (basic and  diluted)  for the years  ended
December 31, 2002,  2001 and 2000,  adjusted for the effects of SFAS 142 related
to non-amortization of goodwill and indefinite-lived intangibles, are as follows
(in millions, except per share data):

                                                              FOR THE YEAR ENDED DECEMBER 31,
                                                          2002           2001(1)           2000
                                                     ----------------  ----------------- ------------
                                                                                 
Reported net income.............................      $    142.3          $358.8           $620.2
Adjustment for amortization expense:
 Goodwill (2)...................................              -              9.2             11.3
Amortization included in discontinued
 operations (see Note 3) .......................              -             38.9             37.0
                                                     ----------------  ----------------- ------------
Total amortization expense .....................              -             48.1             48.3
Tax impacts of amortization expense ............              -            (14.6)           (14.2)
                                                     ----------------  ----------------- ------------
Adjusted net income.............................           142.3           392.3            654.3
Adjustment for cumulative effect of accounting
 changes, net of related income taxes...........           280.9            10.7              -
                                                     ----------------  ----------------- ------------
Adjusted income before cumulative effect of
 accounting changes.............................      $    423.2          $403.0           $654.3
                                                     ================  ================= ============
Basic and diluted earnings per share:
Reported net income.............................      $      0.41         $  0.99            N/A
Adjustment for amortization expense:
 Goodwill.......................................              -              0.02            N/A
 Amortization included in discontinued
 operations.....................................              -              0.11            N/A
                                                     ----------------  ----------------- ------------
Total amortization expense .....................              -              0.13            N/A
Tax impacts of amortization expense ............              -             (0.04)           N/A
                                                     ----------------  ----------------- ------------
Adjusted net income ............................             0.41            1.08            N/A
Adjustment for cumulative effect of accounting
 changes, net of related income taxes..........              0.80            0.03            N/A
                                                     ----------------  ----------------- ------------
Adjusted income before cumulative effect of
 accounting changes.............................      $      1.21         $  1.11            N/A
                                                     ================  ================= ============

(1)  For  purposes of our  unaudited  basic and diluted  pro-forma  earnings per
     share calculations for the period January 1, 2001 through October 25, 2001,
     we estimated 360.8 million shares to be outstanding. For the period October
     26, 2001 through December 31, 2001, actual shares  outstanding were used in
     the weighted-average share calculation.

(2)  Includes   amortization   expenses   related  to  our   equity   investment
     subsidiaries.

                                      101

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

In August 2001,  the FASB issued SFAS No. 144,  ACCOUNTING FOR THE IMPAIRMENT OR
DISPOSAL OF LONG-LIVED ASSETS ("SFAS 144").  This Statement  supersedes SFAS No.
121,  ACCOUNTING  FOR THE  IMPAIRMENT  OF LONG-LIVED  ASSETS AND FOR  LONG-LIVED
ASSETS TO BE DISPOSED OF, and amends APB Opinion No. 30,  REPORTING  THE RESULTS
OF  OPERATIONS  - REPORTING  THE EFFECTS OF DISPOSAL OF A SEGMENT OF A BUSINESS,
AND  EXTRAORDINARY,  UNUSUAL AND INFREQUENTLY  OCCURRING EVENTS AND TRANSACTIONS
("APB  30"),  establishing  a  single  accounting  model  for  the  disposal  of
long-lived  assets.  SFAS 144 generally retains the basic provisions of existing
guidance,  but broadens  the  presentation  of any  discontinued  operations  to
include a component of an entity (rather than a segment of a business as defined
in APB 30).  We  adopted  SFAS 144 on  January  1,  2002,  which  did not have a
significant impact on our consolidated  financial  statements as of the adoption
date. On August 25, 2002, we entered into an agreement to sell substantially all
of BT Financial  Group (see Note 3). The sale of BT Financial Group is accounted
for under the provisions of SFAS 144 and consistent  with such guidance,  the BT
Financial  Group  results  and  loss  on sale  are  reported  as a  discontinued
operation.

Effective  January 1, 2001, we adopted SFAS No. 133,  ACCOUNTING  FOR DERIVATIVE
INSTRUMENTS  AND HEDGING  ACTIVITIES  ("SFAS 133"),  as amended by SFAS No. 138,
ACCOUNTING FOR CERTAIN  DERIVATIVE  INSTRUMENTS AND CERTAIN HEDGING ACTIVITIES -
AN AMENDMENT OF FASB  STATEMENT NO. 133. As amended,  SFAS 133  requires,  among
other things,  that all derivatives be recognized in the consolidated  statement
of financial  position as either assets or liabilities that are measured at fair
value. SFAS 133 also establishes special accounting for qualifying hedges, which
allows  for  matching  the  timing of gain or loss  recognition  on the  hedging
instrument  with the  recognition of the  corresponding  changes in value of the
hedged item. Changes in the fair value of a derivative qualifying as a hedge are
recognized  in earnings or directly in  stockholders'  equity  depending  on the
instrument's  intended use. For derivatives that are not designated as hedges or
that do not meet the hedge  accounting  criteria  in SFAS 133,  changes  in fair
value are required to be recognized in earnings in the period of change.

At January 1, 2001,  our  consolidated  financial  statements  were  adjusted to
record a cumulative effect of adopting SFAS 133, as follows (in millions):

                                                                                       ACCUMULATED OTHER
                                                                      NET LOSS        COMPREHENSIVE LOSS
                                                                  ------------------ ----------------------

Adjustment to fair value of derivative contracts (1)............        $(16.4)              $(15.8)
Income tax impact...............................................           5.7                  1.6
                                                                  ------------------ ----------------------
Total...........................................................        $(10.7)              $(14.2)
                                                                  ================== ======================

(1)  Amount presented is net of adjustment to hedged item.

                                      102

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

CASH AND CASH EQUIVALENTS

Cash and cash  equivalents  include cash on hand,  money market  instruments and
other debt issues with a maturity date of three months or less when purchased.

INVESTMENTS

We classify  our  investments  into one of three  categories:  held-to-maturity,
available-for-sale  or trading.  We determine the appropriate  classification of
fixed maturity  securities at the time of purchase.  Fixed  maturity  securities
include bonds,  mortgage-backed  securities and redeemable  preferred  stock. We
classify fixed maturity securities as either  available-for-sale or trading and,
accordingly,  carry them at fair value. (See Note 16 for policies related to the
determination   of  fair  value.)   Unrealized   gains  and  losses  related  to
available-for-sale  securities  are  reflected  in  stockholders'  equity net of
related deferred policy acquisition costs and applicable taxes. Unrealized gains
and losses  related to trading  securities  are  reflected  in net income as net
realized/unrealized capital gains (losses).

The cost of fixed maturity  securities is adjusted for  amortization of premiums
and accrual of discounts,  both computed using the interest method.  The cost of
fixed maturity  securities is adjusted for declines in value that are other than
temporary.  Impairments  in value deemed to be other than temporary are reported
in net income as a component of net realized/unrealized  capital gains (losses).
For loan-backed and structured securities,  we recognize income using a constant
effective  yield based on currently  anticipated  prepayments  as  determined by
broker-dealer  surveys or  internal  estimates  and the  estimated  lives of the
securities.

Equity securities include mutual funds, common stock and nonredeemable preferred
stock. The cost of equity  securities is adjusted for declines in value that are
other than temporary. Impairments in value deemed to be other than temporary are
reported in net income as a component of net  realized/unrealized  capital gains
(losses).   Equity   securities  are  classified  as   available-for-sale   and,
accordingly, are carried at fair value. (See Note 16 for policies related to the
determination   of  fair  value.)   Unrealized   gains  and  losses  related  to
available-for-sale  securities  are  reflected  in  stockholders'  equity net of
related deferred policy acquisition costs and applicable taxes.

Real estate investments are reported at cost less accumulated depreciation.  The
initial cost bases of  properties  acquired  through loan  foreclosures  are the
lower of the fair market values of the  properties at the time of foreclosure or
the  outstanding  loan balance.  Buildings and land  improvements  are generally
depreciated  on the  straight-line  method  over the  estimated  useful  life of
improvements,  and tenant improvement costs are depreciated on the straight-line
method over the term of the related lease.  We recognize  impairment  losses for
properties when  indicators of impairment are present and a property's  expected
undiscounted  cash flows are not sufficient to recover the  property's  carrying
value.  In such  cases,  the cost bases of the  properties  are  reduced to fair
value.  Real  estate  expected to be disposed is carried at the lower of cost or
fair value, less cost to sell, with valuation allowances established accordingly
and depreciation no longer recognized.  Any impairment losses and any changes in
valuation  allowances  are  reported  in net  income as net  realized/unrealized
capital gains (losses).

                                      103

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Commercial  and  residential  mortgage  loans  are  generally  reported  at cost
adjusted for  amortization of premiums and accrual of discounts,  computed using
the  interest  method,  and net of  valuation  allowances.  Any  changes  in the
valuation  allowances  are  reported  in net  income as net  realized/unrealized
capital gains (losses).  We measure  impairment  based upon the present value of
expected  cash flows  discounted  at the loan's  effective  interest rate or the
loan's observable  market price. If foreclosure is probable,  the measurement of
any valuation allowance is based upon the fair value of the collateral.  We have
residential  mortgage  loans  held-for-sale  in the amount of $638.9 million and
$476.1 million and  commercial  mortgage  loans  held-for-sale  in the amount of
$444.2 million and $493.5  million at December 31, 2002 and 2001,  respectively,
which  are  carried  at  lower of cost or fair  value,  less  cost to sell,  and
reported as mortgage loans in the statements of financial position.

Net realized  capital gains and losses on sales of investments are determined on
the basis of  specific  identification.  In  general,  in  addition  to realized
capital  gains and  losses on  investment  sales,  unrealized  gains and  losses
related to other than temporary  impairments,  trading securities,  market value
changes in certain  seed money  investments,  fair value hedge  ineffectiveness,
derivatives  not designated as hedges and changes in the mortgage loan allowance
are reported in net income as net  realized/unrealized  capital gains  (losses).
Unrealized  gains and losses on derivatives  within our mortgage banking segment
are reported as either operating  expenses or fees and other revenues  depending
on the nature of the hedge and are excluded from net realized/unrealized capital
gains  (losses).  Investment  gains and losses on sales of certain  real  estate
held-for-sale,   which  do  not  meet  the  criteria  for  classification  as  a
discontinued  operation,  are  reported  as net  investment  income and are also
excluded from net realized/unrealized capital gains (losses).

Policy loans and other  investments,  excluding  investments  in  unconsolidated
entities, are primarily reported at cost.

SECURITIZATIONS

We sell commercial mortgage loans to an unconsolidated qualified special purpose
entity which then issues  mortgage-backed  securities.  We may retain immaterial
interests  in the  loans  by  purchasing  portions  of the  securities  from the
issuance.  Gain or loss on the sales of the  mortgages  is  reported as fees and
other  revenues  and  depends in part on the  previous  carrying  amounts of the
financial assets involved in the transfer, which is allocated between the assets
sold and the retained  interests  based on their relative fair value at the date
of transfer.  Fair values are  determined  by quoted  market  prices of external
buyers  of  each  class  of  security  purchased.  The  retained  interests  are
thereafter  carried  at fair value with other  fixed  maturity  investments  and
classified as available-for-sale.

We also sell  residential  mortgage loans and retain  servicing rights which are
retained  interests in the sold loans. Gain or loss on the sales of the loans is
reported as fees and other revenues and depends in part on the previous carrying
amounts of the loans sold and the  interests  retained  based on their  relative
fair values at the date of the  transfer.  To obtain fair values,  quoted market
prices are used if  available.  However,  quotes are generally not available for
retained interests,  so we estimate fair value based on the present value of the
future expected cash flows using  management's  best estimates of assumptions we
believe market participants would use to value such interests.

                                      104

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

MORTGAGE LOAN SERVICING RIGHTS

Mortgage loan servicing  rights  represent the cost of purchasing or originating
the right to receive cash flows from servicing mortgage loans.  Servicing rights
are  recorded  at the time of sale of the  underlying  mortgage  loans where the
servicing is retained.  The total cost of the mortgage loans, which includes the
cost to acquire the servicing rights, is allocated to the mortgage loans and the
servicing  rights based on their relative fair values at the date of sale.  Cost
basis  also  includes  adjustments  resulting  from  the  application  of  hedge
accounting.  Capitalized  servicing  rights are  carried at the lower of cost or
market value. The capitalized  value is amortized in proportion to, and over the
period of, estimated net servicing income.

Capitalized  mortgage  loan  servicing  rights  are  periodically  assessed  for
impairment  based on the estimated  fair value of those rights.  Fair values are
estimated using estimates of discounted  future net cash flows over the expected
life  using  loan  prepayment,  discount  rate,  ancillary  fee income and other
economic factors we believe market  participants would use to value such assets.
For purposes of performing our impairment evaluation,  we stratify the servicing
portfolio on the basis of certain  predominant risk  characteristics,  including
loan type and note rate. To the extent that the carrying  value of the servicing
rights exceeds fair value for any stratum, a valuation allowance is established,
which  may be  adjusted  in the  future  as the  value of the  servicing  rights
increase or decrease. This valuation allowance is recognized in the consolidated
statements of operations during the period in which impairment occurs.

Activity in the  valuation  allowance  for  mortgage  loan  servicing  rights is
summarized as follows (in millions):

                                                                   FOR THE YEAR ENDED DECEMBER 31,
                                                                2002             2001            2000
                                                           ---------------  --------------- ---------------

Balance at beginning of year..............................      $198.1         $    2.3           $2.9
Impairments...............................................       318.3            196.0            1.1
Recoveries................................................       (22.7)            (0.2)          (1.7)
                                                           ---------------  --------------- ---------------
Balance at end of year....................................      $493.7         $  198.1           $2.3
                                                           ===============  =============== ===============

During  2002,  impairments  reflect  the  results  of  increased  mortgage  loan
prepayments  due to the continued  reduction in market interest rates during the
year.

DERIVATIVES

Effective  January 1, 2001, all  derivatives  are recognized as either assets or
liabilities  in the statement of financial  position and measured at fair value.
If certain  conditions are met, a derivative may be  specifically  designated as
one of the following:

(a)  a hedge of the exposure to changes in the fair value of a recognized  asset
     or liability or an unrecognized firm commitment;

(b)  a hedge of the exposure to variable cash flows of a forecasted transaction;

(c)  a  hedge  of  the  foreign  currency   exposure  of  an  unrecognized  firm
     commitment,       an       available-for-sale       security      or      a
     foreign-currency-denominated forecasted transaction.

                                      105

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Our accounting for the ongoing changes in fair value of a derivative  depends on
the intended use of the derivative and the designation as described above and is
determined  when  the  derivative  contract  is  entered  into or at the time of
redesignation  under FAS 133. Hedge  accounting is used for derivatives that are
specifically  designated in advance as hedges and that reduce our exposure to an
indicated risk by having a high correlation  between changes in the value of the
derivatives  and the items being  hedged at both the  inception of the hedge and
throughout the hedge period.

For  derivatives  hedging the  exposure to changes in fair value of a recognized
asset or liability,  the change in fair value of the derivative is recognized in
earnings in the period of change  together  with the  offsetting  change in fair
value on the hedged item  attributable  to the risk being hedged.  The effect of
such  accounting  is to reflect in earnings the extent to which the hedge is not
effective in achieving offsetting changes in fair value.

For  derivatives  hedging the  exposure to variable  cash flows,  the  effective
portion of the  derivative's  change in fair  value is  initially  deferred  and
reported  as  a  component  of  other  comprehensive   income  and  subsequently
reclassified into earnings when each variable cash flow occurs and is recognized
in earnings.  The ineffective portion of the change in fair value is reported in
earnings in the period of change.  For derivatives  that are terminated prior to
maturity,  any accumulated gain or loss is recognized in earnings immediately if
the hedged item is also terminated.  If the hedged item is not terminated,  then
the accumulated  gain or loss is amortized into earnings over the remaining life
of the hedged item.

For derivatives  hedging the foreign currency  exposure of an unrecognized  firm
commitment or an  available-for-sale  security,  the change in fair value of the
derivative is  recognized in earnings in the period of change  together with the
offsetting  change in fair value on the  hedged  item  attributable  to the risk
being hedged. The effect of such accounting is to reflect in earnings the extent
to which the hedge is not  effective  in  achieving  offsetting  changes in fair
value.

For    derivatives    hedging    the    foreign    currency    exposure   of   a
foreign-currency-denominated forecasted transaction, the change in fair value is
initially deferred and reported as a component of other comprehensive income and
subsequently  reclassified into earnings when the forecasted  transaction occurs
and is recognized  in earnings.  The  ineffective  portion of the change in fair
value is reported in earnings in the period of change.

For derivatives not designated as a hedging instrument, the change in fair value
is recognized in earnings in the period of change.

A minimum variance  technique is used to test the  effectiveness of cashflow and
fair value  relationships  whereby the  profitability  distribution  of net fair
value or  cashflows  for the  hedging  and  hedged  items are  combined.  If the
coefficient of variation (standard deviation divided by mean) of the probability
distribution  is 1% or less,  then the  hedging  relationship  is  deemed  to be
effective.

Prior to the January 1, 2001 adoption of SFAS No. 133, we used future contracts,
mortgage-backed  securities forwards,  interest rate and principal only swap and
floor agreements, options on futures contracts and currency rate swap agreements
to hedge and manage our exposure to changes in interest  rate levels and foreign
exchange  rate  fluctuations,  and to manage  duration  mismatch  of assets  and
liabilities.  Futures contracts were marked to market and settled daily with the
net gain or loss at expiration or termination of the contracts recorded in net

                                      106

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

realized/unrealized  capital gains  (losses) on our  consolidated  statements of
operations.  Outstanding  mortgage-backed forwards were reported as commitments,
and   upon   settlement,   the   net   gain  or  loss   was   reported   in  net
realized/unrealized capital gains (losses). For interest rate and currency swaps
held by Principal Life, the net amounts paid or received and net amounts accrued
through the end of the accounting period were included in net investment income.
Any discounts or premiums  related to these  instruments  were  amortized to net
investment  income over the life of the  contract.  Gains or losses on contracts
terminated early were recognized immediately in net realized/unrealized  capital
gains (losses).  Unrealized  gains or losses on interest rate swap contracts and
currency swaps were not  recognized in income.  We primarily  utilized  interest
rate floors,  futures and options on futures  contracts  and  interest  rate and
principal only swaps in hedging our portfolio of mortgage  servicing rights. The
realized and unrealized gains and losses on servicing  derivatives accounted for
as  effective  hedges were  considered  in the periodic  assessment  of mortgage
servicing  rights  impairment.  The realized and unrealized  gains and losses on
servicing  derivatives  not  considered  effective  hedges were  recorded in our
results  of  operations.  We managed  interest  rate risk on our  mortgage  loan
pipeline  by  buying  and  selling  mortgage-backed  securities  in the  forward
markets,   over-the-counter  options  on  mortgage-backed  securities,   futures
contracts and options on treasury  futures  contracts.  The unrealized gains and
losses  on these  derivatives  were  included  in the  lower  of cost or  market
calculation of mortgage loans held-for-sale.

CONTRACTHOLDER AND POLICYHOLDER LIABILITIES

Contractholder and policyholder liabilities (contractholder funds, future policy
benefits  and  claims  and  other  policyholder   funds)  include  reserves  for
investment   contracts  and  reserves  for  universal  life,   limited  payment,
participating and traditional life insurance policies.  Investment contracts are
contractholders'  funds on deposit with us and  generally  include  reserves for
pension and annuity contracts. Reserves on investment contracts are equal to the
cumulative deposits less any applicable charges plus credited interest.

Reserves for universal life insurance contracts are equal to cumulative premiums
less charges plus credited  interest which  represents the account balances that
accrue to the benefit of the policyholders.  Reserves for nonparticipating  term
life insurance  contracts are computed on a basis of assumed  investment  yield,
mortality,  morbidity and expenses, including a provision for adverse deviation,
which generally  varies by plan, year of issue and policy  duration.  Investment
yield is based on our  experience.  Mortality,  morbidity  and  withdrawal  rate
assumptions are based on our experience and are  periodically  reviewed  against
both industry standards and experience.

Reserves for participating  life insurance  contracts are based on the net level
premium reserve for death and endowment policy benefits.  This net level premium
reserve is calculated  based on dividend fund interest rate and mortality  rates
guaranteed in calculating the cash surrender values described in the contract.

Participating  business  represented  approximately 32%, 35% and 34% of our life
insurance in force and 74%, 76% and 79% of the number of life insurance policies
in force at  December  31,  2002,  2001 and  2000,  respectively.  Participating
business  represented  approximately 68%, 57% and 61% of life insurance premiums
for the years ended December 31, 2002, 2001 and 2000, respectively.

The amount of  dividends  to  policyholders  is approved  annually by  Principal
Life's Board of Directors.  The amount of dividends to be paid to  policyholders
is  determined  after  consideration  of  several  factors  including  interest,
mortality,  morbidity and other expense  experience for the year and judgment as
to the appropriate  level of statutory surplus to be retained by Principal Life.
At the end of the  reporting  period,  Principal  Life  establishes  a  dividend
liability  for the pro rata portion of the  dividends  expected to be paid on or
before the next policy anniversary date.

                                      107

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Some of our  policies  and  contracts  require  payment of fees in  advance  for
services  that will be rendered  over the  estimated  lives of the  policies and
contracts.  These  payments are  established as unearned  revenue  reserves upon
receipt and included in other policyholder funds in the consolidated  statements
of  financial  position.  These  unearned  revenue  reserves  are  amortized  to
operations  over the estimated lives of these policies and contracts in relation
to the emergence of estimated gross profit margins.

The  liability  for unpaid  accident  and health  claims is an  estimate  of the
ultimate  net cost of  reported  and  unreported  losses not yet  settled.  This
liability  is estimated  using  actuarial  analyses and case basis  evaluations.
Although considerable variability is inherent in such estimates, we believe that
the  liability for unpaid claims is adequate.  These  estimates are  continually
reviewed  and,  as  adjustments  to  this  liability  become   necessary,   such
adjustments are reflected in current operations.

RECOGNITION  OF PREMIUMS AND OTHER  CONSIDERATIONS,  FEES AND OTHER REVENUES AND
BENEFITS

Traditional individual life and health insurance products include those products
with fixed and guaranteed premiums and benefits and consist principally of whole
life  and term  life  insurance  policies.  Premiums  from  these  products  are
recognized as premium revenue when due.

Immediate  annuities  with life  contingencies  include  products with fixed and
guaranteed annuity  considerations and benefits and consist principally of group
and  individual  single  premium  annuities  with  life  contingencies.  Annuity
considerations from these products are recognized as revenue when due.

Group life and health  insurance  premiums  are  generally  recorded  as premium
revenue over the term of the coverage.  Some group  contracts allow for premiums
to be  adjusted to reflect  emerging  experience.  Such  adjusted  premiums  are
recognized in the period that the related experience emerges. Fees for contracts
providing claim  processing or other  administrative  services are recorded over
the period the service is provided.

Related policy benefits and expenses for individual and group life,  annuity and
health insurance  products are associated with earned premiums and result in the
recognition of profits over the expected lives of the policies and contracts.

Universal  life-type  policies are insurance  contracts  with terms that are not
fixed and  guaranteed.  Amounts  received as payments for such contracts are not
reported  as  premium  revenues.  Revenues  for  universal  life-type  insurance
contracts consist of policy charges for the cost of insurance, policy initiation
and  administration,  surrender  charges and other fees that have been  assessed
against policy account  values.  Policy  benefits and claims that are charged to
expense  include  interest  credited to contracts and benefit claims incurred in
the period in excess of related policy account balances.

Investment  contracts  do not  subject  us to risks  arising  from  policyholder
mortality or morbidity and consist primarily of Guaranteed  Investment Contracts
("GICs"), funding agreements and certain deferred annuities. Amounts received as
payments  for  investment  contracts  are  established  as  investment  contract
liability  balances  and are not  reported  as premium  revenues.  Revenues  for
investment  contracts  consist of  investment  income and policy  administration
charges.  Investment  contract  benefits  that are  charged to  expense  include
benefit claims incurred in the period in excess of related  investment  contract
liability  balances  and  interest  credited to  investment  contract  liability
balances.

                                      108

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Fees and other  revenues are earned for asset  management  services  provided to
retail and institutional clients based largely upon contractual rates applied to
the  market  value of the  client's  portfolio.  Additionally,  fees  and  other
revenues   are   earned  for   administrative   services   performed   including
recordkeeping  and reporting  services for retirement  savings  plans.  Fees and
other revenues  received for performance of asset management and  administrative
services are recognized as revenue when the service is performed.

Fees and other revenues arising from the residential mortgage banking operations
consist of revenues  earned for servicing and originating  residential  mortgage
loans as well as marketing other products to servicing portfolio customers.  Net
revenues are also  recognized  upon the sale of  residential  mortgage loans and
residential  mortgage loan  servicing  rights and are recorded in fees and other
revenues and  determined  using the  specific  identification  basis.  Servicing
revenues are  recognized  as the mortgage  loan is serviced over the life of the
mortgage  loan.  Mortgage loans  originated  are sold in the secondary  mortgage
markets,  shortly after origination.  As a result, mortgage loan origination fee
revenues are recognized when the mortgage loans are sold. Fee revenues  received
for marketing  other  products to servicing  portfolio  customers are recognized
when the service is performed.

DEFERRED POLICY ACQUISITION COSTS

Commissions  and other costs  (underwriting,  issuance  and agency  expenses and
first-year  bonus  interest)  that vary with and are  primarily  related  to the
acquisition  of new and  renewal  insurance  policies  and  investment  contract
business  are  capitalized  to the  extent  recoverable.  Maintenance  costs and
acquisition costs that are not deferrable are charged to operations as incurred.

Deferred policy acquisition costs for universal  life-type  insurance  contracts
and  participating  life insurance  policies and investment  contracts are being
amortized  over the lives of the  policies  and  contracts  in  relation  to the
emergence  of estimated  gross profit  margins.  This  amortization  is adjusted
retrospectively when estimates of current or future gross profits and margins to
be realized  from a group of products and  contracts  are revised.  The deferred
policy  acquisition costs of  nonparticipating  term life insurance policies are
being  amortized over the  premium-paying  period of the related  policies using
assumptions consistent with those used in computing policyholder liabilities.

Deferred policy  acquisition costs are subject to recoverability  testing at the
time of policy issue and loss recognition  testing at the end of each accounting
period.  Deferred  policy  acquisition  costs would be written off to the extent
that it is determined that future policy premiums and investment income or gross
profit margins would not be adequate to cover related losses and expenses.

REINSURANCE

We enter into  reinsurance  agreements with other companies in the normal course
of  business.  We may  assume  reinsurance  from or cede  reinsurance  to  other
companies. Assets and liabilities related to reinsurance ceded are reported on a
gross basis. Premiums and expenses are reported net of reinsurance ceded. We are
contingently  liable with respect to reinsurance ceded to other companies in the
event the  reinsurer  is  unable  to meet the  obligations  it has  assumed.  At
December 31, 2002, 2001 and 2000, respectively,  we had reinsured $17.8 billion,
$15.6 billion and $13.2 billion of life  insurance in force,  representing  13%,
12% and 9% of total net life  insurance  in force  through a single  third-party
reinsurer.  To minimize the  possibility  of losses,  we evaluate the  financial
condition of our reinsurers and monitor concentrations of credit risk.

                                      109

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

The effects of reinsurance on premiums and other  considerations  and policy and
contract benefits and changes in reserves were as follows (in millions):

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                    ------------------ ------------------ ------------------

Premiums and other considerations:
   Direct........................................       $4,080.1           $4,329.9           $4,142.1
   Assumed.......................................          130.6               56.0               24.6
   Ceded.........................................         (328.9)            (263.6)            (170.3)
                                                    ------------------ ------------------ ------------------
Net premiums and other considerations............       $3,881.8           $4,122.3           $3,996.4
                                                    ================== ================== ==================

Benefits, claims and settlement expenses:
   Direct........................................       $5,459.8           $5,700.3           $5,387.8
   Assumed.......................................           10.6                7.4                1.9
   Ceded.........................................         (253.5)            (225.6)            (157.4)
                                                    ------------------ ------------------ ------------------
Net benefits, claims and settlement expenses.....       $5,216.9           $5,482.1           $5,232.3
                                                    ================== ================== ==================

SEPARATE ACCOUNTS

The  separate  account  assets and  liabilities  presented  in the  consolidated
financial  statements  represent  the  fair  market  value  of  funds  that  are
separately  administered  by us for  contracts  with  equity,  real  estate  and
fixed-income investments. Generally, the separate account contract owner, rather
than us, bears the investment risk of these funds.  The separate  account assets
are legally segregated and are not subject to claims that arise out of any other
business  of  ours.  We  receive  a  fee  for  administrative,  maintenance  and
investment advisory services that is included in the consolidated  statements of
operations.  Net deposits,  net  investment  income and realized and  unrealized
capital  gains and losses on the  separate  accounts  are not  reflected  in the
consolidated statements of operations.

At December 31, 2002 and 2001, the separate  accounts include a separate account
valued at $1.0 billion and $1.3 billion, respectively,  which primarily includes
shares of our stock that were allocated and issued to eligible  participants  of
qualified  employee  benefit  plans  administered  by us as part  of the  policy
credits  issued  under the  demutualization.  These  shares are included in both
basic and diluted earnings per share  calculations.  The separate account shares
are  recorded  at fair value and are  reported as  separate  account  assets and
separate  account  liabilities  in  the  consolidated   statement  of  financial
position.  Activity of the  separate  account  shares is  reflected  in both the
separate account assets and separate account liabilities and does not impact our
results of operations.

INCOME TAXES

We  file  a  U.S.  consolidated  income  tax  return  that  includes  all of our
qualifying  subsidiaries.  Our  policy of  allocating  income tax  expenses  and
benefits to companies in the group is generally based upon pro rata contribution
of  taxable  income or  operating  losses.  We are taxed at  corporate  rates on
taxable  income based on existing tax laws.  Current income taxes are charged or
credited to operations based upon amounts estimated to be payable or recoverable
as a result of taxable  operations for the current year.  Deferred  income taxes
are  provided  for the tax  effect of  temporary  differences  in the  financial
reporting  and  income  tax bases of assets and  liabilities  and net  operating
losses  using  enacted  income tax rates and laws.  The effect on  deferred  tax
assets and deferred tax  liabilities  of a change in tax rates is  recognized in
operations in the period in which the change is enacted.

                                      110

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

FOREIGN EXCHANGE

Assets and liabilities of our foreign subsidiaries and affiliates denominated in
non-U.S.  dollars are translated  into U.S.  dollar  equivalents at the year-end
spot foreign exchange rates. Resulting translation adjustments are reported as a
component  of  stockholders'  equity,  along  with any  related  hedge  effects.
Revenues and expenses for these entities are translated at the  weighted-average
exchange  rates for the  year.  Revenue,  expense  and  other  foreign  currency
transactions and translation adjustments for foreign subsidiaries and affiliates
with the U.S.  dollar as the  functional  currency  that  affect  cash flows are
reported in current operations, along with related hedge effects.

GOODWILL AND OTHER INTANGIBLES

Goodwill  and other  intangibles  include the cost of acquired  subsidiaries  in
excess of the fair value of the net tangible  assets recorded in connection with
acquisitions.  Due to the adoption of SFAS 142,  goodwill  and  indefinite-lived
intangible  assets were no longer  amortized  after January 1, 2002.  Intangible
assets with a finite  useful life  continue to be amortized  on a  straight-line
basis generally over a period of 15 to 30 years.  Goodwill and  indefinite-lived
intangible  assets not subject to amortization  will be tested for impairment on
an annual  basis  during the fourth  quarter each year,  or more  frequently  if
events or changes in  circumstances  indicate  that the asset might be impaired.
Goodwill impairment testing involves a two-step process described further in the
accounting   changes   section   within   Note   1.   Impairment   testing   for
indefinite-lived intangible assets consists of a comparison of the fair value of
the intangible asset with its carrying value.

Other  intangible  assets  with  finite  useful  lives  continue  to be reviewed
periodically  for indicators of impairment in value. If facts and  circumstances
suggest possible impairment,  the sum of the estimated  undiscounted future cash
flows  expected  to result  from the use of the asset is compared to the current
carrying value of the asset. If the undiscounted future cash flows are less than
the carrying  value,  an  impairment  loss is  recognized  for the excess of the
carrying amount of assets over their fair value.  Prior to January 1, 2002, this
impairment method was used for all intangible assets and goodwill.

EARNINGS PER SHARE

Basic  earnings per share is calculated by dividing  income  available to common
stockholders by the weighted-average number of common shares outstanding for the
period and excludes the dilutive  effect of stock  options.  The  calculation of
diluted  earnings per share  reflects the dilution  that would have occurred had
the stock options been exercised, resulting in the issuance of common stock.

STOCK-BASED COMPENSATION

At December 31, 2002, we have four  stock-based  compensation  plans,  which are
described more fully in Note 19. We used the fair value method and the intrinsic
value method in 2002 and 2001, respectively, for these plans.

                                      111

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

1. NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Awards  under our plans vest over  periods  ranging  from three  months to three
years. Therefore,  the cost related to stock-based  compensation included in the
determination  of net income  for 2002 is less than that  which  would have been
recognized  if the fair value based  method had been applied to all awards since
the inception of our stock-based  compensation  plans. Had compensation  expense
for our stock option awards and employees' purchase rights been determined based
upon fair  values at the grant  dates for awards  under the plans in  accordance
with SFAS 123,  our net income and earnings per share would have been reduced to
the  pro  forma  amounts   indicated  below.  For  the  purposes  of  pro  forma
disclosures,  the  estimated  fair value of the options is  amortized to expense
over the options' vesting period.

                                                                        FOR THE YEAR ENDED DECEMBER 31,
                                                                            2002              2001 (1)
                                                                     ------------------- -------------------
                                                                      (IN MILLIONS, EXCEPT PER SHARE DATA)

Net income, as reported............................................         $142.3              $358.8
Add:  Stock-based compensation expense
      included in reported net income, net of related tax effects..           11.8                 6.6
Deduct:  Total stock-based compensation expense
      determined under fair value based method for all awards,
      net of related tax effects...................................           15.1                 7.9
                                                                      ------------------- -------------------
Pro forma net income...............................................         $139.0              $357.5
                                                                     =================== ===================
Earnings per share:
Basic:
 As reported.......................................................           $0.41               $0.99
 Pro forma.........................................................           $0.40               $0.99

Diluted:
 As reported.......................................................           $0.41               $0.99
 Pro forma.........................................................           $0.40               $0.99

(1)  Calculation of  weighted-average  shares included in the December 31, 2001,
     pro forma disclosures is described in Note 20.

RECLASSIFICATIONS

Reclassifications  have  been made to the 2000 and 2001  consolidated  financial
statements to conform to the 2002 presentation.

                                      112

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2. GOODWILL AND OTHER INTANGIBLE ASSETS

Amortized intangible assets were as follows (in millions):

                                 AS OF DECEMBER 31, 2002                  AS OF DECEMBER 31, 2001
                         -------------------------------------   ------------------------------------------
                           GROSS                        NET        GROSS                          NET
                          CARRYING    ACCUMULATED     CARRYING    CARRYING    ACCUMULATED       CARRYING
                           AMOUNT     AMORTIZATION     AMOUNT      AMOUNT     AMORTIZATION       AMOUNT
                         ---------  ---------------  ---------   ---------   -------------    -------------

Value of insurance
   in force acquired....    $83.5        $6.6          $76.9       $54.4        $7.2              $47.2
Other ..................      1.6         0.4            1.2         2.1         0.2                1.9
                         ---------  ---------------  ---------   ---------   -------------    -------------
Total amortized
   intangibles .........    $85.1        $7.0          $78.1       $56.5        $7.4              $49.1
                         =========  ===============  =========   =========   =============    =============

Unamortized intangible assets were as follows (in millions):

                                                                           AS OF DECEMBER 31,
                                                                       2002                   2001
                                                                ----------------------  ----------------------
                                                                  NET CARRYING            NET CARRYING
                                                                    AMOUNT                    AMOUNT
                                                              ----------------------  ----------------------
                                                                                     
Other indefinite-lived
   intangible assets ..............................                $10.7                   $12.4
                                                              ======================  ======================

The amortization expense for intangible assets with finite useful lives was $2.6
million, $2.5 million and $2.8 million for 2002, 2001 and 2000, respectively. At
December 31, 2002, the estimated amortization expense for the next five years is
as follows (in millions):

                                                        Estimated
                                                       amortization
                                                          expense
                                                   --------------------
2003........................................                $2.9
2004........................................                 2.7
2005........................................                 2.5
2006........................................                 2.3
2007........................................                 2.2

                                      113

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2. GOODWILL AND OTHER INTANGIBLE ASSETS (CONTINUED)

The  changes  in the  carrying  amount of  goodwill  reported  in our  operating
segments for 2002 were as follows (in millions):

                                  U.S. ASSET     INTERNATIONAL        LIFE AND
                                MANAGEMENT AND  ASSET MANAGEMENT       HEALTH        MORTGAGE
                                ACCUMULATION   AND ACCUMULATION       INSURANCE      BANKING      CONSOLIDATED
                                --------------- ------------------ -------------  -------------- ----------------

Balance at January 1, 2002.....      $12.5             $33.7           $49.4           $8.4           $ 104.0
Goodwill from acquisitions.....       10.7               -               -              -                10.7
Goodwill disposed of
during the period..............        -                 -              (0.7)           -                (0.7)
Cumulative effect of
accounting change (1)..........        -                 -              (4.6)           -                (4.6)
Foreign currency translation...        -                (2.9)            -              -                (2.9)
                                ---------------------------------- -------------- -------------- ----------------
Balance at December 31, 2002...      $23.2             $30.8           $44.1           $8.4           $ 106.5
                                ================================== ============== ============== ================

(1)  Excludes  goodwill  impairments of $300.3  million  related to BT Financial
     Group  (see  Note 3) and $20.9  million  related  to an  equity  investment
     subsidiary of Principal International.

3.  DISCONTINUED OPERATIONS

On October 31, 2002, we sold  substantially all of BT Financial Group to Westpac
Banking  Corporation  ("Westpac")  for  proceeds of A$900.0  million  Australian
dollars ("A$") (U.S. $499.4 million),  and future contingent proceeds in 2004 of
up to  A$150.0  million  (approximately  U.S.  $80.0  million).  The  contingent
proceeds will be based on Westpac's future success in growing retail funds under
management.

The decision to sell BT Financial Group was made with a view toward focusing our
resources,  executing  on core  strategic  priorities  and  meeting  shareholder
expectations.  Changing  market  dynamics since our  acquisition of BT Financial
Group, including industry  consolidation,  led us to conclude that the interests
of BT Financial  Group  clients and staff would be best served  under  Westpac's
ownership.

Excluding the contingent  proceeds,  our estimated  after-tax  proceeds from the
sale are expected to be approximately U.S. $938.4 million.  This amount includes
cash proceeds,  expected tax benefits and a gain from unwinding the hedged asset
associated with debt used to acquire BT Financial Group in 1999. We have accrued
for an estimated after-tax loss on disposal of $208.7 million as of December 31,
2002.  Future  adjustments  to the  estimated  loss are  expected to be recorded
through the first half of 2003, as the proceeds from the sale are finalized.

BT Financial  Group is accounted for as a discontinued  operation and therefore,
the results of  operations  (excluding  corporate  overhead) and cash flows have
been  removed  from  our  results  of  continuing  operations  for  all  periods
presented.  Corporate  overhead allocated to BT Financial Group does not qualify
for  discontinued  operations  treatment  under SFAS 144, and therefore is still
included in our results of continuing operations. Assets and liabilities related
to  BT  Financial  Group  have  been  reclassified  to  assets  of  discontinued
operations  and  liabilities  of  discontinued  operations  on the  consolidated
statements  of  financial  position  for all periods  presented.  The results of

                                      114

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

3.  DISCONTINUED OPERATIONS (CONTINUED)

operations (excluding corporate overhead) for BT Financial Group are reported as
non-recurring  items for the  International  Asset  Management and  Accumulation
segment in the Segment Information note (Note 18). Additionally, the information
included in the notes to the financial statements exclude information applicable
to BT Financial Group, unless otherwise noted.

Selected financial information for the discontinued operations is as follows:

                                                             AS OF
                                                     DECEMBER 31, 2001 (1)
                                                   -------------------------
                                                         (IN MILLIONS)
ASSETS
Goodwill and other intangibles ...................        $   993.0
Separate account assets ..........................          1,488.8
Other assets .....................................            492.5
                                                   -------------------------
       Total assets of discontinued operations ...        $ 2,974.3
                                                   =========================
LIABILITIES
Separate account liabilities......................        $ 1,488.8
Other liabilities ................................            284.5
                                                   -------------------------
       Total liabilities of discontinued
       operations ................................        $ 1,773.3
                                                   =========================

(1)  As BT  Financial  Group was sold on October 31,  2002,  there is no balance
     sheet data to present as of December 31, 2002.

                                                                      FOR THE YEAR ENDED DECEMBER 31,
                                                                2002              2001                2000
                                                            -------------    ---------------    -----------------
                                                                               (IN MILLIONS)

Total revenues.........................................       $  139.7           $ 220.9            $  285.5
                                                            =============    ===============    =================
Loss from continuing operations, net of related income
     taxes (corporate overhead)........................       $   (2.6)          $  (3.6)           $   (2.0)

Income (loss) from discontinued operations:
Income (loss) before income taxes......................           17.7             (15.6)               20.2
Income taxes (benefits)................................            5.7              (4.4)               11.7
                                                            -------------    ---------------    -----------------
Income (loss) from discontinued operations (1).........           12.0             (11.2)                8.5
Loss on disposal, net of related income tax benefit of
     $89.6 million.....................................         (208.7)              -                   -
                                                            -------------    ---------------    -----------------
Income (loss) from discontinued operations, net of              (196.7)            (11.2)                8.5
     related income taxes..............................
Cumulative effect of accounting change, net of related
     income taxes......................................         (255.4)              -                   -
                                                            -------------    ---------------    -----------------
Net income (loss)......................................       $ (454.7)          $ (14.8)           $    6.5
                                                            =============    ===============    =================

(1)  The 2002 summary  results of  operations  information  is for the 10 months
     ended October 31, 2002, the date of sale of BT Financial Group.

                                      115

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

4. OTHER DIVESTITURES

In  September  2000,  we sold a portion  of our  equity  ownership  position  in
Coventry Health Care, Inc., which reduced our ownership to approximately 25% and
resulted in a realized  capital  gain of $13.9  million,  net of income tax. The
investment  in Coventry  Health Care,  Inc.  was $146.0  million at December 31,
2001. On February 1, 2002, we sold our remaining stake of 15.1 million shares in
Coventry  Health  Care,  Inc.  common stock and a warrant,  exercisable  for 3.1
million shares of Coventry Health Care,  Inc. common stock.  Total proceeds from
the  completion of this  transaction  were $325.4  million,  which resulted in a
realized capital gain of $114.5 million, net of income tax.

5. INVESTMENTS

FIXED MATURITIES AND EQUITY SECURITIES

The cost,  gross  unrealized gains and losses and fair value of fixed maturities
and equity securities  available-for-sale  as of December 31, 2002 and 2001, are
summarized as follows (in millions):

                                                             GROSS            GROSS
                                                           UNREALIZED       UNREALIZED
                                             COST             GAINS           LOSSES         FAIR VALUE
                                        ---------------- ---------------- ---------------- ----------------

DECEMBER 31, 2002
Fixed maturities:
U.S. government and agencies..........   $      502.6      $      19.5      $      -        $      522.1
Foreign governments...................          595.5             64.4             -               659.9
States and political subdivisions.....          399.2             33.1             5.9             426.4
Corporate - public....................       16,672.0          1,101.0           281.7          17,491.3
Corporate - private...................        8,522.7            523.0           186.5           8,859.2
Mortgage-backed and other
asset-backed securities...............        5,819.6            421.7            14.5           6,226.8
                                        ---------------- ---------------- ---------------- ----------------
Total fixed maturities................   $   32,511.6      $   2,162.7      $    488.6      $   34,185.7
                                        ================ ================ ================ ================
Total equity securities...............   $      381.0      $       9.9      $     12.2      $      378.7
                                        ================ ================ ================ ================

DECEMBER 31, 2001
Fixed maturities:
U.S. government and agencies..........   $       15.4      $       0.1      $      0.1      $       15.4
Foreign governments...................          876.5             53.0             3.2             926.3
States and political subdivisions.....          302.1             20.1             4.7             317.5
Corporate - public....................       13,049.2            513.6           160.4          13,402.4
Corporate - private...................        9,030.8            325.6           124.3           9,232.1
Mortgage-backed and other
asset-backed securities...............        5,891.3            253.5            26.2           6,118.6
                                        ---------------- ---------------- ---------------- ----------------
Total fixed maturities................   $   29,165.3      $   1,165.9      $    318.9      $   30,012.3
                                        ================ ================ ================ ================
Total equity securities...............   $      902.8      $      15.7      $     81.2      $      837.2
                                        ================ ================ ================ ================

                                      116

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

The cost and fair value of fixed maturities  available-for-sale  at December 31,
2002, by expected maturity, were as follows (in millions):

                                                                            COST            FAIR VALUE
                                                                      ------------------- ------------------
                                                                                      
Due in one year or less............................................     $  1,824.9          $  1,843.4
Due after one year through five years..............................        9,855.0            10,328.2
Due after five years through ten years.............................        7,726.5             8,245.7
Due after ten years................................................        7,285.6             7,541.6
                                                                     ------------------- ------------------
                                                                          26,692.0            27,958.9
Mortgage-backed and other asset-backed securities..................        5,819.6             6,226.8
                                                                     ------------------- ------------------
Total..............................................................     $ 32,511.6          $ 34,185.7
                                                                     =================== ==================

The above summarized activity is based on expected maturities. Actual maturities
may differ because borrowers may have the right to call or prepay obligations.

Corporate  private  placement  bonds  represent  a primary  area of credit  risk
exposure.  The corporate  private  placement  bond  portfolio is  diversified by
issuer and  industry.  We  monitor  the  restrictive  bond  covenants  which are
intended to regulate  the  activities  of issuers and control  their  leveraging
capabilities.

NET INVESTMENT INCOME

Major  categories  of net  investment  income  are  summarized  as  follows  (in
millions):

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                     ------------------ ------------------ ------------------
                                                                                      
Fixed maturities, available-for-sale............         $2,219.7           $2,207.0           $1,880.7
Fixed maturities, trading.......................              5.2                -                  -
Equity securities, available-for-sale...........             27.6               27.7               72.6
Mortgage loans..................................            816.5              884.2            1,022.9
Real estate.....................................             85.7              178.2              171.3
Policy loans....................................             57.6               57.5               55.1
Cash and cash equivalents.......................             16.8               28.1               26.7
Other...........................................            175.1              103.6               67.0
                                                   ------------------ ------------------ ------------------
                                                          3,404.2            3,486.3            3,296.3

Less investment expenses........................            (99.5)            (102.7)            (138.7)
                                                   ------------------ ------------------ ------------------
Net investment income...........................         $3,304.7           $3,383.6           $3,157.6
                                                   ================== ================== ==================

                                      117

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

NET REALIZED/UNREALIZED CAPITAL GAINS AND LOSSES

The major  components  of net  realized/unrealized  capital  gains  (losses)  on
investments are summarized as follows (in millions):

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                   ------------------ ------------------ ------------------

Fixed maturities, available-for-sale:
Gross gains......................................        $ 172.3          $   75.8             $  29.1
Gross losses.....................................         (538.5)           (408.8)             (155.0)
Fixed maturities, trading:
Gross gains......................................            4.0               0.9                 -
Gross losses.....................................           (0.1)             (0.1)                -
Equity securities, available-for-sale:
Gross gains......................................            4.1               9.4                84.2
Gross losses.....................................          (32.8)            (76.9)               (5.0)
Mortgage loans...................................          (10.3)             10.7                 8.6
Real estate......................................            9.3             (19.0)               82.3
Other, including unrealized derivative
gains (losses)...................................           37.2            (106.0)               95.4
                                                    ----------------- ------------------ ------------------
Net realized/unrealized capital gains (losses)...        $(354.8)         $ (514.0)            $ 139.6
                                                   ================== ================== ==================

Proceeds from sales of  investments  (excluding  call and maturity  proceeds) in
fixed maturities were $8.2 billion,  $5.7 billion and $5.7 billion in 2002, 2001
and 2000, respectively.  Of the 2002, 2001 and 2000 proceeds, $4.3 billion, $1.6
billion  and $2.6  billion,  respectively,  relate  to sales of  mortgage-backed
securities. Our mortgage-backed portfolio is actively managed to reduce the risk
of  prepayment  by purchasing  securities  that are trading close to par.  Gross
gains of $88.2 million, $22.5 million and $2.0 million and gross losses of $11.6
million,  $5.0 million and $40.1 million in 2002,  2001 and 2000,  respectively,
were realized on sales of mortgage-backed securities.

We recognize  impairment  losses for fixed maturities and equity securities when
declines in value are other than  temporary.  Realized  losses  related to other
than temporary impairments were $357.0 million,  $227.4 million and $6.1 million
in 2002, 2001 and 2000, respectively.

NET UNREALIZED GAINS AND LOSSES ON AVAILABLE-FOR-SALE SECURITIES

The net  unrealized  gains and losses on  investments  in fixed  maturities  and
equity  securities  available-for-sale  are reported as a separate  component of
equity, reduced by adjustments to deferred policy acquisition costs and unearned
revenue  reserves  that  would  have  been  required  as a charge  or  credit to
operations  had such amounts been realized and a provision  for deferred  income
taxes.

                                      118

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

The cumulative  amount of net unrealized gains and losses on  available-for-sale
securities was as follows (in millions):

                                                                                AS OF DECEMBER 31,
                                                                              2002              2001
                                                                         ---------------- -----------------

Net unrealized gains on fixed maturities, available-for-sale (1).......     $1,671.4          $827.0
Net unrealized losses on equity securities, available-for-sale.........         (4.6)          (42.4)
Adjustments for assumed changes in amortization patterns:
Deferred policy acquisition costs......................................       (226.2)         (104.6)
Unearned revenue reserves..............................................         13.6             7.2
Net unrealized losses on derivative instruments........................       (167.1)          (52.5)
Net unrealized loss on policyholder dividend obligation................        (33.6)            -
Provision for deferred income taxes....................................       (431.5)         (214.4)
                                                                          --------------- -----------------
 Net unrealized gains on available-for-sale securities.................     $  822.0          $420.3
                                                                         ================ =================

(1)  Excludes   net    unrealized    gains    (losses)on    fixed    maturities,
     available-for-sale included in fair value hedging relationships.

COMMERCIAL MORTGAGE LOANS

Commercial  mortgage loans represent a primary area of credit risk exposure.  At
December 31, 2002 and 2001, the commercial  mortgage portfolio is diversified by
geographic region and specific  collateral  property type as follows (dollars in
millions):

                                                               AS OF DECEMBER 31,
                                                     2002                                   2001
                                       ---------------------------------        ---------------------------
                                         CARRYING           PERCENT             CARRYING      PERCENT
                                          AMOUNT            OF TOTAL             AMOUNT       OF TOTAL
                                       ---------------  ----------------        ----------  ---------------
                                                                                   
GEOGRAPHIC DISTRIBUTION
New England...........................    $   387.6            4.1%         $   327.4            3.4%
Middle Atlantic.......................      1,617.0           17.3            1,606.3           16.5
East North Central....................        913.7            9.8              930.1            9.5
West North Central....................        311.5            3.3              397.8            4.1
South Atlantic........................      2,180.8           23.3            2,403.0           24.7
East South Central....................        345.5            3.7              338.5            3.5
West South Central....................        641.8            6.9              769.0            7.9
Mountain..............................        711.8            7.6              637.7            6.5
Pacific...............................      2,339.7           24.9            2,421.3           24.8
Valuation allowance...................        (83.6)          (0.9)             (90.7)          (0.9)
                                       ---------------  ----------------    --------------  ---------------
Total.................................    $ 9,365.8          100.0%         $ 9,740.4          100.0%
                                       ===============  ================    ==============  ===============

PROPERTY TYPE DISTRIBUTION
Office................................    $ 3,166.2           33.8%         $ 3,252.5           33.4%
Retail................................      2,836.0           30.3            3,106.5           31.9
Industrial............................      2,802.6           29.9            2,948.9           30.3
Apartments............................        475.4            5.1              349.8            3.6
Hotel.................................         57.4            0.6               61.6            0.6
Mixed use/other.......................        111.8            1.2              111.8            1.1
Valuation allowance...................        (83.6)          (0.9)             (90.7)          (0.9)
                                       ---------------  ----------------    --------------  ---------------
Total................................     $ 9,365.8          100.0%         $ 9,740.4          100.0%
                                       ===============  ================    ==============  ===============

                                      119

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

COMMERCIAL AND RESIDENTIAL MORTGAGE LOAN LOSS ALLOWANCE

Mortgage  loans on real estate are considered  impaired  when,  based on current
information  and events,  it is  probable  that we will be unable to collect all
amounts  due  according  to  contractual  terms of the loan  agreement.  When we
determine that a loan is impaired,  a provision for loss is established equal to
the-  difference  between  the  carrying  amount  of the  mortgage  loan and the
estimated  value.  Estimated  value is based on either the present  value of the
expected future cash flows discounted at the loan's effective interest rate, the
loan's  observable  market price or fair value of the collateral.  The provision
for losses is included in net realized/unrealized  capital gains (losses) on our
consolidated statements of operations. Mortgage loans deemed to be uncollectible
are charged  against the allowance for losses,  and  subsequent  recoveries  are
credited to the allowance for losses.

The  allowance  for  losses  is  maintained  at a  level  believed  adequate  by
management to absorb  estimated  probable credit losses.  Management's  periodic
evaluation of the adequacy of the allowance for losses is based on our past loan
loss experience,  known and inherent risks in the portfolio,  adverse situations
that may affect the  borrower's  ability to repay,  the  estimated  value of the
underlying  collateral,  composition  of the loan  portfolio,  current  economic
conditions and other relevant factors.  The evaluation is inherently  subjective
as it requires  estimating  the amounts and timing of future cash flows expected
to be received on impaired loans that may be susceptible to significant  change.
Impaired  mortgage  loans  along with the related  allowance  for losses were as
follows (in millions):

                                                 AS OF DECEMBER 31,
                                                 2002              2001
                                          ------------------  ------------------

Impaired loans with allowance for
losses..................................     $    123.0         $  97.6
Allowance for losses....................          (26.9)          (17.0)
                                          ------------------  ------------------
Net impaired loans......................     $     96.1         $  80.6
                                          ==================  ==================

The average  recorded  investment  in impaired  mortgage  loans and the interest
income recognized on impaired mortgage loans were as follows (in millions):

                                            FOR THE YEAR ENDED DECEMBER 31,
                                         2002           2001            2000
                                    -------------- --------------- -------------
 Average recorded investment
     in impaired loans..............    $88.4           $74.4          $72.8
 Interest income recognized
     on impaired loans..............      8.6            12.5           12.6

                                      120

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

All interest income on impaired  commercial mortgage loans was recognized on the
cash  basis  of  income  recognition,   whereas,  interest  income  on  impaired
residential mortgage loans was recognized on the accrual basis.

A summary  of the  changes  in the  commercial  and  residential  mortgage  loan
allowance for losses is as follows (in millions):

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                    ------------------ ------------------ ------------------

Balance at beginning of year.....................         $92.3             $110.4             $117.8
Provision for losses.............................          35.1               11.2                5.4
Releases due to write-downs,
 sales and foreclosures..........................         (40.4)             (29.3)             (12.8)
                                                    ------------------ ------------------ ------------------
Balance at end of year...........................         $87.0             $ 92.3             $110.4
                                                    ================== ================== ==================

RESIDENTIAL MORTGAGE BANKING ACTIVITIES

We were servicing  approximately  920,000 and 741,000 residential mortgage loans
with  aggregate  principal  balances  of  approximately  $107,745.3  million and
$80,530.5  million at December 31, 2002 and 2001,  respectively.  In  connection
with  these  mortgage  servicing  activities,  we held funds in trust for others
totaling  approximately  $646.7  million and $508.9 million at December 31, 2002
and 2001,  respectively.  As of December 31, 2002 and 2001,  $273.9  million and
$252.4  million,  respectively,  of the  funds  held in trust  were  held in our
banking subsidiary.  In connection with our loan administration  activities,  we
advance  payments of property  taxes and  insurance  premiums  and also  advance
principal and interest payments to investors in advance of collecting funds from
specific mortgagors.  In addition, we make certain payments of attorney fees and
other  costs  related to loans in  foreclosure.  These  amounts  receivable  are
recorded,  at cost, as other assets in our consolidated  statements of financial
position.  Amounts  advanced are  considered in  management's  evaluation of the
adequacy of the mortgage loan allowance for losses.

In June 2000, our mortgage banking segment created a special purpose  bankruptcy
remote entity,  Principal Residential Mortgage Capital Resources, LLC ("PRMCR"),
to provide an off-balance  sheet source of funding for our residential  mortgage
loan production.  We sell eligible  residential  mortgage loans to PRMCR,  where
they are warehoused until sold to the final investor.  We sold $47.1 billion and
$38.0  billion in mortgage  loans to PRMCR in 2002 and 2001,  respectively.  The
maximum  amount of  mortgage  loans,  which  can be  warehoused  in  PRMCR,  has
increased  from $1.0  billion at  inception  to $4.0  billion as of December 31,
2002.  PRMCR held $4.0 billion and $3.0 billion in mortgage loans  held-for-sale
as of  December  31,  2002  and  2001,  respectively.  The  portfolio  of  loans
held-for-sale by PRMCR must meet portfolio criteria, eligibility representations
and portfolio aging limitations. Based on these eligibility representations,  we
are  required  to  repurchase  ineligible  loans from  PRMCR.  During  2002,  we
repurchased $51.9 million of ineligible loans from PRMCR.

PRMCR is capitalized by equity  certificates  owned by third party investors not
affiliated  with us or our  affiliates,  directors or officers and, thus, is not
consolidated.  The equity holders bear the risk of loss on defaulted  mortgages.
At December 31, 2002 and 2001,  PRMCR had  outstanding  equity  certificates  of
$193.0 million.  PRMCR also issues short-term secured liquidity notes as well as
medium  term  notes to  provide  funds to  purchase  mortgage  loans from us. At
December  31,  2002,  PRMCR  had  outstanding  secured  liquidity  notes of $2.2
billion,  three-year  fixed term notes of $800.0 million and five-year  variable
term notes of $800.0  million.  At  December  31,  2001,  PRMCR had  outstanding
secured  liquidity notes of $1.3 billion,  three-year fixed term notes of $800.0

                                      121

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

million and five-year variable term notes of $800.0 million.  All borrowings are
collateralized by the assets of PRMCR.

We paid a commitment fee to PRMCR based on the overall  warehouse  limit.  PRMCR
used a portion of the fee to fund a cash collateral account maintained at PRMCR.
These funds are  available as  additional  collateral  to cover  credit  related
losses on defaulted mortgage loans. The balance in the account was $24.0 million
at  December  31,  2002  and  2001,  and is  reflected  in other  assets  on our
consolidated  statements  of  financial  position.  We  maintain  a right to the
servicing of the mortgage loans held by PRMCR and retain servicing upon the sale
of the majority of the mortgage loans to the final  investors.  As the servicer,
we receive a monthly servicing fee and may earn additional  incentive  servicing
fees upon successful completion of our servicing  responsibilities.  We received
$23.3 million and $12.6 million in servicing and incentive  servicing  fees from
PRMCR in 2002 and 2001,  respectively.  Any unpaid and earned  incentive fees as
well as any remaining amounts in the cash collateral account will be returned to
us upon the termination of PRMCR. Additionally, as the servicer, we are required
to advance to PRMCR those payments due from borrowers,  but not received,  as of
specified  cutoff dates. In addition,  we perform certain  secondary  marketing,
accounting and various administrative  functions on behalf of PRMCR. In order to
hedge  interest rate risk and  non-credit-related  market value risk  associated
with its  inventory of mortgage  loans  held-for-sale,  PRMCR entered into swaps
with counterparties not affiliated with us or PRMCR. The swap counterparties are
required to maintain certain minimum ratings as approved by the rating agencies.
Through  separate swap agreements with the swap  counterparties  that mirror the
original swaps with PRMCR, the interest rate risk and non-credit-related  market
value components are swapped back to us.

Upon the  effective  date of FIN 46, as described in Note 1, we will be required
to  consolidate  PRMCR unless its current  structure is modified.  If FIN 46 was
effective as of December 31, 2002, the impact would be the consolidation of $4.1
billion in assets and liabilities.

In  October  2000,  our  mortgage   banking  segment  created  a  wholly  owned,
unconsolidated qualifying special purpose entity, Principal Residential Mortgage
Funding, LLC ("PRMF"), to provide an off-balance-sheet  source of funding for up
to  $250.0  million  of  qualifying  delinquent  mortgage  loans.  The limit was
increased to $550.0 million in December 2002. We sell qualifying  delinquent FHA
and VA  mortgage  loans to PRMF  which  then  transfers  the loans to  Principal
Residential  Mortgage EBO Trust  ("Trust"),  an unaffiliated  Delaware  business
trust.  The Trust  funds  its  acquisitions  of the  mortgage  loans by  selling
participation certificates,  representing an undivided interest in the Trust, to
commercial  paper conduit  purchasers,  who are not affiliated with us or any of
our affiliates,  directors or officers. At December 31, 2002 and 2001, the Trust
held $405.1 million and $273.5 million in mortgage loans, respectively,  and had
outstanding  participation  certificates  of $382.8 million and $256.9  million,
respectively.

Mortgage loans  typically  remain in the Trust until they are processed  through
the foreclosure claim process,  are paid off or reinstated.  Mortgage loans that
reinstate  are no longer  eligible to remain in the Trust and are required to be
removed at fair market  value by us at the  monthly  settlement  date  following
reinstatement.

                                      122

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

We are  retained  as the  servicer  of  the  mortgage  loans  and  also  perform
accounting  and  various  administrative  functions  on behalf  of PRMF,  in our
capacity as the managing member of PRMF. As the servicer, we receive a servicing
fee  pursuant to the  pooling and  servicing  agreement.  We may also  receive a
successful  servicing  fee only after all other  conditions  in the monthly cash
flow  distribution  are met.  We  received  $23.4  million  and $8.5  million in
servicing  and   successful   servicing   fees  from  PRMF  in  2002  and  2001,
respectively.  At December 31, 2002 and 2001, our residual interest in such cash
flows was $32.7  million and $21.5  million,  respectively,  and was recorded in
other assets on our consolidated  statements of financial position. The value of
the residual  interest was based on the net present value of expected cash flows
from PRMF,  reduced by  estimates  of  foreclosure  losses  associated  with the
related  loans.  We are required to advance funds for payment of interest on the
participation  certificates  and other carrying costs, if sufficient cash is not
available in the trust collection account to meet this obligation.

Both the Trust and us, are  parties to a cost of funds hedge  agreement.  We pay
the weighted-average  cost of funds on the participation  certificates plus fees
and expenses and receive the  weighted-average  coupon of mortgage  loans in the
Trust less a spread.

Based on PRMF's  classification as a qualifying  special purpose entity pursuant
to the  guidance of SFAS No. 140,  ACCOUNTING  FOR  TRANSFERS  AND  SERVICING OF
FINANCIAL  ASSETS AND  EXTINGUISHMENTS  OF  LIABILITIES - A REPLACEMENT  OF FASB
STATEMENT  NO.  125,  PRMF will not be  required  to be  consolidated  under the
provisions of FIN 46.

REAL ESTATE

Depreciation  expense on invested real estate was $31.8  million,  $20.2 million
and $29.3 million in 2002, 2001 and 2000, respectively. Accumulated depreciation
was  $157.3  million  and  $142.4  million  as of  December  31,  2002 and 2001,
respectively.

OTHER INVESTMENTS

Other  investments  include minority  interests in  unconsolidated  entities and
properties  owned  jointly with venture  partners and operated by the  partners.
Total assets of the  unconsolidated  entities  amounted to $3,637.9  million and
$4,768.8 million at December 31, 2002 and 2001, respectively.  Total revenues of
the unconsolidated  entities were $618.8 million,  $2,855.2 million and $2,226.3
million in 2002,  2001 and 2000,  respectively.  During 2002,  2001 and 2000, we
included $19.2 million,  $48.8 million and $39.1 million,  respectively,  in net
investment  income  representing  our share of  current  year net  income of the
unconsolidated   entities.   At  December  31,  2002,   our  net  investment  in
unconsolidated entities was $22.3 million, which primarily included our minority
interests in domestic and  international  joint  ventures and  partnerships.  At
December 31, 2001,  our net  investment  in  unconsolidated  entities was $234.8
million,  which  primarily  included our ownership  interest in Coventry  Health
Care,  Inc.  in  addition  to our  minority  interests  in  joint  ventures  and
partnerships.  On February 1, 2002,  we sold our  minority  interest in Coventry
Health Care, Inc. (See Note 4).

In the ordinary course of our business and as part of our investment operations,
we have also  entered  into  long  term  contracts  to make and  purchase  loans
aggregating  $525.1  million and $432.9  million at December  31, 2002 and 2001,
respectively.

                                      123

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. INVESTMENTS (CONTINUED)

With the adoption of SFAS 133 on January 1, 2001,  derivatives  are reflected on
our consolidated statements of financial position and reported as a component of
other investments.  Certain seed money investments, which were reclassified from
equity securities to other invested assets as of September 30, 2002, are carried
at fair  value  with  changes  in  fair  value  included  in net  income  as net
realized/unrealized capital gains (losses).

6. SECURITIZATION TRANSACTIONS

COMMERCIAL MORTGAGE LOANS

We sell  commercial  mortgage loans in  securitization  transactions  and retain
primary servicing  responsibilities and other immaterial  interests.  We receive
annual  servicing  fees  approximating   0.01%,  which  approximates  cost.  The
investors and the  securitization  entities have no recourse to our other assets
for failure of debtors to pay when due. The value of our  retained  interests is
subject primarily to credit risk.

In 2002 and 2001,  we  recognized  gains of $17.2  million  and  $18.3  million,
respectively, on the securitization of commercial mortgage loans.

Key economic assumptions used in measuring the retained interests at the date of
securitization  resulting  from  transactions  completed  included a  cumulative
default  rate  between 6% and 11%  during  2002 and 4% and 8% during  2001.  The
assumed  range of the loss  severity,  as a percentage of defaulted  loans,  was
between 12% and 32% during 2002 and 12% and 25% during 2001.  The low end of the
loss severity  range relates to a portfolio of seasoned  loans.  The high end of
the loss severity range relates to a portfolio of newly issued loans.

At December  31,  2002,  the fair values of  retained  interests  related to the
securitizations of commercial  mortgage loans were $229.6 million.  Key economic
assumptions  and the  sensitivity  of the current  fair values of residual  cash
flows were tested to one and two standard  deviations  from the expected  rates.
The  changes  in the fair  values at  December  31,  2002,  as a result of these
assumptions were not significant.

RESIDENTIAL MORTGAGE LOANS

We  sell  residential  mortgage  loans  and  retain  servicing  responsibilities
pursuant to the terms of the applicable  servicing  agreements.  These sales are
generally  transacted on a non-recourse  basis. We receive annual servicing fees
approximating  0.4% of the  outstanding  principal  balances  on the  underlying
loans.  The value of the servicing  rights is subject to prepayment and interest
rate risks on the transferred mortgage loans.

In 2002, 2001 and 2000, we recognized  gains of $373.9  million,  $237.2 million
and $9.4 million, respectively, on the sales of residential mortgage loans.

The key  economic  assumptions  used in  determining  the fair value of mortgage
servicing  rights at the date of loan sale for sales completed in 2002, 2001 and
2000 were as follows:

                                                        2002               2001               2000
                                                 -------------------  --------------------  ------------------
                                                                                    
Weighted-average life (years)...................        6.42               7.84               6.87
Weighted-average prepayment speed...............       11.91%              9.48%             11.81%
Yield to maturity discount rate.................        6.75%              7.45%             10.74%

                                      124

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

6. SECURITIZATION TRANSACTIONS (CONTINUED)

Prepayment   speed  is  the  constant   prepayment  rate  that  results  in  the
weighted-average life disclosed above.

At December  31, 2002,  key  economic  assumptions  and the  sensitivity  of the
current fair value of the  mortgage  servicing  rights to immediate  10% and 20%
adverse changes in those assumptions were as follows (dollars in millions):

 Fair value of mortgage servicing rights...........   $1,527.6
 Expected weighted-average life (in years).........        4.2
 Prepayment speed *................................       19.80%
 Decrease in fair value of 10% adverse change......   $   96.4
 Decrease in fair value of 20% adverse change......   $  182.0
 Yield to maturity discount rate *.................        5.53%
 Decrease in fair value of 10% adverse change......   $   63.9
 Decrease in fair value of 20% adverse change......   $  127.7

*    Represents the weighted average  prepayment speed and discount rate for the
     life of the  mortgage  servicing  rights  asset  using our Option  Adjusted
     Spread/Monte Carlo simulation of 160 interest rate paths.

These  sensitivities  are hypothetical  and should be used with caution.  As the
figures indicate,  changes in fair value based on a 10% variation in assumptions
generally  cannot be extrapolated  because the relationship of the change in the
assumption  to the change in fair value may not be  linear.  Also,  in the above
table, the effect of a variation in a particular assumption on the fair value of
the servicing  rights is  calculated  independently  without  changing any other
assumption.  In reality, changes in one factor may result in changes in another,
which might magnify or counteract  the  sensitivities.  For example,  changes in
prepayment speed estimates could result in changes in the discount rate.

SECURITIZATION TRANSACTIONS CASH FLOWS

The table  below  summarizes  cash  flows for  securitization  transactions  (in
millions):

                                                          FOR THE YEAR ENDED DECEMBER 31,

                                                  2002                    2001                     2000
                                        ----------------------   ----------------------   ----------------------

Proceeds from new securitizations......        $48,749.4              $39,200.6               $9,927.6
Servicing fees received................            443.1                  307.8                  237.5
Other cash flows received on
retained interests.....................             74.9                   51.6                   29.4

7. DERIVATIVES HELD OR ISSUED FOR PURPOSES OTHER THAN TRADING

Derivatives are generally held for purposes other than trading and are primarily
used to hedge or reduce  exposure to interest  rate and foreign  currency  risks
associated  with assets held or expected to be purchased or sold and liabilities
incurred or  expected  to be  incurred.  Additionally,  derivatives  are used to
change the  characteristics of our  asset/liability mix consistent with our risk
management activities.

                                      125

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

7. DERIVATIVES HELD OR ISSUED FOR PURPOSES OTHER THAN TRADING (CONTINUED)

Our  risk of loss is  typically  limited  to the fair  value  of our  derivative
instruments and not to the notional or contractual amounts of these derivatives.
Risk arises from changes in the fair value of the underlying instruments. We are
also  exposed  to  credit  losses  in  the  event  of   nonperformance   of  the
counterparties.  Our  current  credit  exposure  is  limited  to  the  value  of
derivatives  that have become  favorable to us. This credit risk is minimized by
purchasing such agreements from financial  institutions with high credit ratings
and by  establishing  and monitoring  exposure  limits.  We also utilize various
credit  enhancements,  including  collateral  and credit  triggers to reduce the
credit exposure to our derivative instruments.

Our derivative  transactions are generally  documented under International Swaps
and Derivatives  Association,  Inc. Master Agreements.  Management believes that
such agreements provide for legally enforceable set-off and close-out netting of
exposures to specific counterparties.  Under such agreements, in connection with
an  early  termination  of a  transaction,  we  are  permitted  to set  off  our
receivable  from a  counterparty  against our payables to the same  counterparty
arising out of all included transactions.

Prior to the application of the aforementioned  credit  enhancements,  the gross
exposure to credit risk with respect to these derivative  instruments was $424.4
million  at  December  31,  2002,  and  $307.4  million at  December  31,  2001.
Subsequent to the application of such credit  enhancements,  the net exposure to
credit  risk was $285.8  million at December  31,  2002,  and $307.4  million at
December 31, 2001.

                                      126

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

7. DERIVATIVES HELD OR ISSUED FOR PURPOSES OTHER THAN TRADING (CONTINUED)

The notional amounts and credit exposure of our derivative financial instruments
by type were as follows (in millions):

                                                                                 AS OF DECEMBER 31,
                                                                               2002                2001
                                                                     ------------------- ------------------
                                                                                       
NOTIONAL AMOUNTS OF DERIVATIVE INSTRUMENTS WITH
REGARD TO U.S. OPERATIONS
Foreign currency swaps..............................................     $  3,217.0          $  4,091.9
Interest rate floors................................................        1,650.0             3,400.0
Interest rate swaps.................................................        5,930.1             3,522.5
Mortgage-backed forwards and options................................       17,494.9             9,250.7
Swaptions...........................................................        9,772.5             3,570.0
Bond forwards.......................................................          363.7               357.4
Interest rate lock commitments......................................        8,198.0             2,565.9
Call options........................................................           30.0                30.0
U.S. Treasury futures...............................................          271.1               186.6
Currency forwards...................................................            -                 380.0
Treasury rate guarantees............................................           63.0                88.0
Warehouse SRP.......................................................        3,912.7                 -
Credit default swap long............................................          705.3                 -
U.S. LIBOR..........................................................        2,225.0                 -
Other...............................................................            -                  25.0
                                                                     ------------------- ------------------
                                                                           53,833.3            27,468.0

NOTIONAL AMOUNTS OF DERIVATIVE INSTRUMENTS WITH
REGARD TO INTERNATIONAL OPERATIONS
Currency forwards..................................................             0.2                13.4
                                                                     ------------------- ------------------
Total notional amounts at end of year..............................       $53,833.5           $27,481.4
                                                                     =================== ==================
CREDIT EXPOSURE OF DERIVATIVE INSTRUMENTS WITH
REGARD TO U.S. OPERATIONS
Foreign currency swaps.............................................      $    195.0          $    101.1
Interest rate floors...............................................             1.7                13.2
Interest rate swaps................................................            48.4                78.4
Mortgage-backed forwards and options...............................             -                  41.7
Swaptions..........................................................            31.4                 8.7
Call options.......................................................             0.4                 8.9
Currency forwards..................................................             -                  55.3
Credit default swap long...........................................             8.9                 -
Other...............................................................            -                   0.1
                                                                     ------------------- ------------------
Total credit exposure at end of year................................     $    285.8          $    307.4
                                                                     =================== ==================

                                      127

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

7. DERIVATIVES HELD OR ISSUED FOR PURPOSES OTHER THAN TRADING (CONTINUED)

The net interest  effect of interest  rate and  currency  swap  transactions  is
recorded as an  adjustment  to net  investment  income or interest  expense,  as
appropriate,  over the periods covered by the agreements. The cost of derivative
instruments related to residential mortgage loan servicing rights is included in
the basis of the  derivatives.  These  derivatives are marked to market with the
changes in market  value  reported in  operating  expenses  on the  consolidated
statements of operations.

The fair value of our  derivative  instruments  classified as assets at December
31, 2002 and 2001, was $1,129.9  million and $298.8  million,  respectively.  Of
this  amount,  the fair value of  derivatives  related to  investment  hedges at
December 31, 2002 and 2001, was $348.8 million and $116.5 million, respectively,
and was reported with other invested  assets on the  consolidated  statements of
financial  position.  The  fair  value of  derivatives  related  to  residential
mortgage loan servicing  rights and  residential  mortgage loans at December 31,
2002 and 2001,  was $781.1  million and $182.3  million,  respectively,  and was
reported with other assets on the consolidated statements of financial position.
The fair value of derivative  instruments  classified as liabilities at December
31, 2002 and 2001, was $454.4 million and $449.7 million,  respectively, and was
reported  with other  liabilities  on the  consolidated  statements of financial
position.

FAIR VALUE HEDGES

We use  fixed-to-floating  rate  interest  rate swaps to more closely  align the
interest rate  characteristics  of certain assets and  liabilities.  In general,
these swaps are used in asset and liability management to modify duration.

We also enter into currency  exchange swap agreements to convert certain foreign
denominated  assets and liabilities into U.S. dollar  floating-rate  denominated
instruments  to eliminate  the exposure to future  currency  volatility on those
items.

In 2002 and 2001,  we  recognized  a pretax net gain of $50.5  million and $95.5
million,  respectively,  relating  to our fair  value  hedges.  These  net gains
consisted of the following components:

                                                                        FOR THE YEAR ENDED DECEMBER 31,
                                                                           2002                2001
                                                                     ------------------  ------------------

Net gain (loss) related to the ineffective portion of our fair
   value hedges of residential mortgage loan servicing rights.......       $(6.6)               $151.7
Net gain (loss) related to the change in the value of the servicing
   hedges that were excluded from the assessment of hedge
   effectiveness....................................................        77.1                 (43.6)
Net loss related to the ineffective portion of our
   investment hedge.................................................       (20.0)                (12.6)
                                                                     ------------------  ------------------
Net gain relating to fair value hedges..............................       $50.5                $ 95.5
                                                                     ==================  ==================

The net gain (loss) on servicing hedges was reported with operating expenses and
the net loss on our investment hedges was reported with net  realized/unrealized
capital gains (losses) on our consolidated statements of operations.

CASH FLOW HEDGES

We also utilize floating-to-fixed rate interest rate swaps to match cash flows.

                                      128

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

7. DERIVATIVES HELD OR ISSUED FOR PURPOSES OTHER THAN TRADING (CONTINUED)

We entered into currency  exchange swap agreements to convert both principal and
interest  payments of certain foreign  denominated  assets and liabilities  into
U.S.  dollar  denominated  fixed-rate  instruments  to eliminate the exposure to
future currency volatility on those items.

In 2002 and 2001, we recognized a $74.5 million and $5.8 million,  respectively,
after-tax  decrease in value  related to cash flow hedges in  accumulated  other
comprehensive income. During this time period, none of our cash flow hedges have
been  discontinued   because  it  was  probable  that  the  original  forecasted
transaction would not occur by the end of the originally  specified time period.
We have  reclassified  $17.8 million net losses from  accumulated  comprehensive
income into earnings in during 2002 (none was transferred  during 2001),  and we
expect to reclassify $54.3 million net losses in the next 12 months.

In most  cases,  zero  hedge  ineffectiveness  for cash flow  hedges is  assumed
because the  derivative  instrument was  constructed  such that all terms of the
derivative  match the  hedged  risk in the  hedged  item.  As a result,  we have
recognized   an   immaterial   amount  in  earnings   due  to  cash  flow  hedge
ineffectiveness.

DERIVATIVES NOT DESIGNATED AS HEDGING INSTRUMENTS

We attempt to match the timing of when interest rates are committed on insurance
products, residential mortgage loans and other new investments.  However, timing
differences may occur and can expose us to fluctuating interest rates. To offset
this  risk,  we  use  mortgage-backed  forwards,   over-the-counter  options  on
mortgage-backed securities, U.S. Treasury futures contracts, options on Treasury
futures, Treasury rate guarantees and interest rate floors to economically hedge
anticipated transactions and to manage interest rate risk. Futures contracts are
marked to market and settled  daily,  which  minimizes  the  counterparty  risk.
Forward contracts are marked to market no less than quarterly. Our interest rate
lock  commitments  on  residential  mortgage  loans  are also  accounted  for as
derivatives.

Occasionally,  we will  sell a  callable  investment-type  contract  and may use
interest  rate  swaptions  or similar  instruments  to  transform  the  callable
liability  into  a  fixed  term   liability.   In  addition,   we  may  sell  an
investment-type  contract with attributes tied to market indices,  in which case
we write an equity call option to convert the overall contract into a fixed-rate
liability, essentially eliminating the equity component altogether. We have also
entered into credit  default  swaps to exchange the credit  default swap risk of
one bond for that of another.

Although the  above-mentioned  derivatives are effective hedges from an economic
standpoint,  they do not meet the requirements  for hedge  accounting  treatment
under  SFAS  133.  As  such,  periodic  changes  in the  market  value  of these
instruments  flow  directly  into net income.  In 2002 and 2001,  gains of $19.1
million and $68.3 million,  respectively,  were recognized in income from market
value changes of derivatives not receiving hedge accounting treatment.

In 2002, we entered into an interest rate swap as part of a structuring  process
of an investment grade  collateralized debt obligation ("CDO") issuance.  Due to
market  conditions,  the CDO was never issued.  The pre-tax loss realized on the
termination of the interest rate swap was $17.3 million.

                                      129

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8. CLOSED BLOCK

In connection with the 1998 MIHC formation, Principal Life formed a Closed Block
to provide  reasonable  assurance to policyholders  included therein that, after
the  formation of the MIHC,  assets would be available to maintain  dividends in
aggregate in accordance with the 1997 policy dividend scales,  if the experience
underlying such scales continued. Assets of Principal Life were allocated to the
Closed  Block in an  amount  that  produces  cash  flows  which,  together  with
anticipated  revenue from policies and  contracts  included in the Closed Block,
were expected to be sufficient to support the Closed Block policies,  including,
but not limited to, provisions for payment of claims, certain expenses,  charges
and taxes, and to provide for  continuation of policy and contract  dividends in
aggregate  in  accordance  with  the 1997  dividend  scales,  if the  experience
underlying such scales  continues,  and to allow for appropriate  adjustments in
such scales, if such experience  changes.  Due to adjustable life policies being
included in the Closed Block, the Closed Block is charged with amounts necessary
to  properly  fund for  certain  adjustments,  such as face  amount and  premium
increases,  that are made to these  policies  after the Closed  Block  inception
date.  These  amounts  are  referred  to as Funding  Adjustment  Charges and are
treated as capital transfers from the Closed Block.

Assets  allocated to the Closed Block inure solely to the benefit of the holders
of policies  included in the Closed Block.  Closed Block assets and  liabilities
are carried on the same basis as other similar assets and liabilities. Principal
Life will continue to pay guaranteed benefits under all policies,  including the
policies  within the Closed Block, in accordance with their terms. If the assets
allocated to the Closed Block,  the investment  cash flows from those assets and
the  revenues  from  the  policies  included  in  the  Closed  Block,  including
investment  income  thereon,  prove  to be  insufficient  to  pay  the  benefits
guaranteed under the policies included in the Closed Block,  Principal Life will
be  required to make such  payments  from their  general  funds.  No  additional
policies  were added to the Closed Block,  nor was the Closed Block  affected in
any other way, as a result of the demutualization.

A policyholder dividend obligation is required to be established for earnings in
the Closed Block that are not available to  shareholders.  A model of the Closed
Block was established to produce the pattern of expected  earnings in the Closed
Block (adjusted to eliminate the impact of related amounts in accumulated  other
comprehensive  income).  If actual  cumulative  earnings of the Closed Block are
greater  than the expected  cumulative  earnings of the Closed  Block,  only the
expected  cumulative  earnings  will be  recognized  in income  with the  excess
recorded as a  policyholder  dividend  obligation.  This  policyholder  dividend
obligation  represents  undistributed  accumulated earnings that will be paid to
Closed Block policyholders as additional policyholder dividends unless offset by
future  performance of the Closed Block that is less  favorable than  originally
expected. If actual cumulative performance is less favorable than expected, only
actual earnings will be recognized in income.  At December 31, 2002,  cumulative
actual  earnings  have been less than  cumulative  expected  earnings.  However,
cumulative  net  unrealized  gains were greater than  expected  resulting in the
recognition  of a  policyholder  dividend  obligation  of  $33.6  million  as of
December 31, 2002.

                                      130

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8. CLOSED BLOCK (CONTINUED)

Closed Block liabilities and assets designated to the Closed Block were as
follows:

                                                                        AS OF DECEMBER 31,
                                                                  2002                      2001
                                                        ------------------------- -------------------------
                                                                          (IN MILLIONS)
                                                                                     
CLOSED BLOCK LIABILITIES
Future policy benefits and claims...................             $5,320.0                  $5,248.7
Other policyholder funds............................                 33.0                      20.3
Policyholder dividends payable......................                374.3                     376.6
Policyholder dividend obligation....................                 33.6                       -
Other liabilities...................................                 20.1                      11.8
                                                        ------------------------- -------------------------
Total Closed Block liabilities......................              5,781.0                   5,657.4

ASSETS DESIGNATED TO THE CLOSED BLOCK
Fixed maturities, available-for-sale................              2,707.0                   2,466.3
Equity securities, available-for-sale...............                 23.4                      23.4
Mortgage loans......................................                862.9                     880.0
Real estate.........................................                  0.5                       -
Policy loans........................................                776.1                     792.5
Other investments...................................                 19.8                       6.9
                                                        ------------------------- -------------------------
Total investments...................................              4,389.7                   4,169.1

Cash and cash equivalents (deficit).................                 (5.4)                     (8.0)
Accrued investment income...........................                 77.5                      77.2
Deferred tax asset..................................                 68.5                      80.8
Premiums due and other receivables..................                 29.5                      33.3
                                                        ------------------------- -------------------------
Total assets designated to the Closed Block.........              4,559.8                   4,352.4
                                                        ------------------------- -------------------------
Excess of Closed Block liabilities over assets
designated to the Closed Block......................              1,221.2                   1,305.0

Amounts included in other
comprehensive income................................                 77.8                      43.6
                                                        ------------------------- -------------------------
Maximum future earnings to be recognized from Closed
Block assets and liabilities........................             $1,299.0                  $1,348.6
                                                        ========================= =========================

                                      131

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8. CLOSED BLOCK (CONTINUED)

Closed Block revenues and expenses were as follows:

                                                            FOR THE YEAR ENDED DECEMBER 31,
                                                   2002                2001                  2000
                                             ------------------  ------------------  ----------------------
                                                                     (IN MILLIONS)
                                                                                 
REVENUES
Premiums and other considerations.........         $710.0           $   742.1             $   752.4
Net investment income.....................          309.9               311.8                 289.9
Net realized/unrealized capital losses....          (40.8)              (19.7)                 (4.9)
                                             ------------------  ------------------  ----------------------
Total revenues............................          979.1             1,034.2               1,037.4

EXPENSES
Benefits, claims and settlement
expenses..................................          583.3               614.4                 601.2
Dividends to policyholders................          305.2               305.8                 307.7
Operating expenses........................           12.3                12.7                  13.6
                                             ------------------  ------------------  ----------------------
Total expenses............................          900.8               932.9                 922.5
                                             ------------------  ------------------  ----------------------
Closed Block revenue, net of Closed Block
expenses, before income taxes.............           78.3               101.3                 114.9
Income taxes..............................           25.2                33.5                  38.4
                                             ------------------  ------------------  ----------------------
Closed Block revenue, net of Closed Block
expenses and income taxes.................           53.1                67.8                  76.5
Funding adjustment charges................           (3.5)               (7.6)                (12.0)
                                             ------------------  ------------------  ----------------------
Closed Block revenue, net of Closed Block
expenses, income tax and funding
adjustment charges........................         $ 49.6           $    60.2             $    64.5
                                             ==================  ==================  ======================

The change in maximum future earnings of the Closed Block was as follows:

                                                                        AS OF DECEMBER 31,
                                                                  2002                      2001
                                                         -----------------------  -------------------------
                                                                           (IN MILLIONS)

Beginning of year....................................         $  1,348.6                  $ 1,408.8
End of year..........................................            1,299.0                    1,348.6
                                                         -----------------------  -------------------------
Change in maximum future earnings....................         $    (49.6)                 $   (60.2)
                                                         =======================  =========================

Principal  Life  charges the Closed  Block with federal  income  taxes,  payroll
taxes,  state and local premium  taxes and other state or local taxes,  licenses
and fees as provided in the plan of reorganization.

                                      132

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

9. DEFERRED POLICY ACQUISITION COSTS

Policy  acquisition  costs deferred and amortized in 2002, 2001 and 2000 were as
follows (in millions):

                                                                     AS OF DECEMBER 31,
                                                         2002               2001               2000
                                                    ------------------ ------------------ ------------------

Balance at beginning of year.....................       $1,372.5           $1,333.3           $1,430.9
Cost deferred during the year....................          323.4              261.7              263.9
Amortized to expense during the year.............         (144.5)            (159.9)            (238.6)
Effect of unrealized gains.......................         (137.0)             (62.6)            (122.9)
                                                   ------------------ ------------------ ------------------
Balance at end of year...........................       $1,414.4           $1,372.5           $1,333.3
                                                   ================== ================== ==================

10. INSURANCE LIABILITIES

CONTRACTHOLDER FUNDS

Major  components  of  contractholder  funds in the  consolidated  statements of
financial position are summarized as follows (in millions):

                                                                              AS OF DECEMBER 31,
                                                                            2002               2001
                                                                     ------------------- ------------------
                                                                                        
Liabilities for investment-type contracts:
Guaranteed investment contracts....................................       $13,894.4           $14,123.5
U.S. funding agreements............................................           107.8               307.1
International funding agreements backing medium-term
notes..............................................................         3,583.5             3,298.4
International funding agreements...................................         2,555.0               723.9
Other investment-type contracts....................................         1,775.3             2,276.3
                                                                     ------------------- ------------------
Total liabilities for investment-type contracts....................        21,916.0            20,729.2

Liabilities for individual annuities...............................         2,900.4             2,557.6
Universal life and other reserves..................................         1,498.6             1,397.6
                                                                     ------------------- ------------------
Total contractholder funds.........................................       $26,315.0           $24,684.4
                                                                     =================== ==================

Our guaranteed  investment  contracts and funding  agreements contain provisions
limiting early surrenders,  including penalties for early surrenders and minimum
notice  requirements.  Put  provisions  give customers the option to terminate a
contract prior to maturity, provided they give a minimum notice period.

Funding  agreements are issued to nonqualified  institutional  investors both in
domestic  and  international  markets.  We  have  a $4.0  billion  international
program,  under which a consolidated offshore special purpose entity was created
to issue nonrecourse  medium-term notes. Under the program, the proceeds of each
note series issuance are used to purchase a funding  agreement from us, which is
used to  secure  that  particular  series  of notes.  The  payment  terms of any
particular series of notes match the payment terms of the funding agreement that
secures that series. Claims for principal and interest under those international
funding  agreements  are afforded equal priority to claims of life insurance and
annuity  policyholders  under insolvency  provisions of Iowa Insurance Laws and,
accordingly,   are  reported  as   contractholder   funds   liabilities  in  our

                                      133

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

10. INSURANCE LIABILITIES (CONTINUED)

consolidated  statements of financial position. In general, the medium-term note
funding  agreements do not give the  contractholder the right to terminate prior
to  contractually  stated  maturity  dates,  absent  the  existence  of  certain
circumstances which are largely within our control. As of December 31, 2002, the
contractual maturities were 2003 - $573.3 million; 2004 - $562.8 million; 2005 -
$795.1  million;  2006 - $107.7  million;  2007 - $25.3 million and thereafter -
$1,519.3 million.

In February  2001,  we agreed to issue up to $3.0 billion of funding  agreements
under another  program to support the  prospective  issuance by an  unaffiliated
entity  of  medium-term  notes  in  both  domestic  and  international  markets.
Subsequently  in April 2002, we agreed to an  additional  issuance of up to $1.0
billion to the same program bringing the total program authorized amount to $4.0
billion. The unaffiliated entity is an unconsolidated qualifying special purpose
entity. The funding agreements issued to the unaffiliated entity are reported as
contractholder  funds  liabilities in our  consolidated  statements of financial
position.  As of December 31, 2002, $2,555.0 million have been issued under this
program.

FUTURE POLICY BENEFITS AND CLAIMS

Activity  in the  liability  for unpaid  accident  and health  claims,  which is
included with future policy benefits and claims in the  consolidated  statements
of financial position, is summarized as follows (in millions):

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                   ------------------ ------------------ ------------------
                                                                                    
Balance at beginning of year.....................      $   714.8          $   705.0          $   721.7

Incurred:
   Current year..................................        1,588.3            1,597.1            1,788.1
   Prior years...................................            0.6              (17.5)             (17.8)
                                                   ------------------ ------------------ ------------------
Total incurred...................................        1,588.9            1,579.6            1,770.3

Payments:
   Current year..................................        1,333.2            1,283.2            1,447.3
   Prior years...................................          271.2              286.6              339.7
                                                    ------------------ ------------------ -----------------
Total payments...................................        1,604.4            1,569.8            1,787.0

Balance at end of year:
   Current year..................................          255.1              313.9              340.8
   Prior years...................................          444.2              400.9              364.2
                                                   ------------------ ------------------ ------------------
Total balance at end of year.....................      $   699.3          $   714.8          $   705.0
                                                   ================== ================== ==================

The activity  summary in the  liability  for unpaid  accident and health  claims
shows an  increase  (decrease)  of $0.6  million,  $(17.5)  million  and $(17.8)
million  for the year ended  December  31,  2002,  2001 and 2000,  respectively,
relating to prior years.  Such liability  adjustments,  which  affected  current
operations  during 2002,  2001 and 2000,  respectively,  resulted from developed
claims  for  prior  years  being  different  than  were   anticipated  when  the
liabilities  for unpaid  accident and health claims were  originally  estimated.
These trends have been considered in establishing the current year liability for
unpaid accident and health claims.

                                      134

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

11. DEBT

SHORT-TERM DEBT

Short-term debt consists primarily of commercial paper and outstanding  balances
on revolving credit facilities with various financial institutions.  At December
31, 2002, we, including certain subsidiaries, had credit facilities with various
financial  institutions  in an aggregate  amount of $1.4  billion.  These credit
facilities  include $600.0  million on a back-stop  facility to support our $1.0
billion commercial paper program, $700.0 million in credit facilities to finance
a CMBS  pipeline,  and $100.0 million in credit  facilities to purchase  certain
CMBS securities for investment purposes.

The weighted-average  interest rates on short-term borrowings as of December 31,
2002 and 2001, were 1.8% and 2.3%, respectively.

The  components  of  short-term  debt as of December 31, 2002 and 2001,  were as
follows (in millions):

                                                                              AS OF DECEMBER 31,
                                                                            2002               2001
                                                                     ------------------- ------------------

Commercial paper....................................................        $157.5              $199.9
Other recourse short-term debt......................................          38.6                22.0
Nonrecourse short-term debt.........................................         368.7               289.7
                                                                     ------------------- ------------------
Total short-term debt...............................................        $564.8              $511.6
                                                                     =================== ==================

LONG-TERM DEBT

The  components  of  long-term  debt as of December  31, 2002 and 2001,  were as
follows (in millions):

                                                                              AS OF DECEMBER 31,
                                                                            2002               2001
                                                                     ------------------- ------------------

7.95% notes payable, due 2004.......................................     $   199.2           $   199.1
8.2% notes payable, due 2009........................................         464.7               464.6
7.875% surplus notes payable, due 2024..............................         199.0               199.0
8% surplus notes payable, due 2044..................................          99.1                99.1
Nonrecourse mortgages and notes payable.............................         248.0               247.5
Other mortgages and notes payable...................................         122.5               169.1
                                                                     ------------------- ------------------
Total long-term debt................................................     $ 1,332.5           $ 1,378.4
                                                                     =================== ==================

The amounts  included above are net of the discount and direct costs  associated
with  issuing  these  notes,  which are being  amortized  to expense  over their
respective terms using the interest method.

On August 25, 1999, Principal Financial Group (Australia) Holdings Pty. Limited,
a  wholly  owned  indirect  subsidiary,   issued  $665.0  million  of  unsecured
redeemable  long-term  debt ($200.0  million of 7.95% notes due August 15, 2004,
and $465.0 million in 8.2% notes due August 15, 2009).  Interest on the notes is
payable  semiannually  on  February  15 and August 15 of each  year,  commencing
February 15, 2000.  Principal Financial Group (Australia)  Holdings Pty. Limited
used the net  proceeds  from the notes to  partially  fund the  purchase  of the
outstanding stock of several  companies  affiliated with Bankers Trust Australia
Group. On December 28, 2001, all of the long-term debt  obligations of Principal
Financial Group (Australia)  Holdings Pty. Limited were assumed by their parent,
Principal Financial Services, Inc.

                                      135

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

11. DEBT (CONTINUED)

On March 10,  1994,  Principal  Life  issued  $300.0  million of surplus  notes,
including $200.0 million due March 1, 2024, at a 7.875% annual interest rate and
the remaining  $100.0 million due March 1, 2044, at an 8% annual  interest rate.
None of our affiliates  hold any portion of the notes.  Each payment of interest
and principal on the notes, however, may be made only with the prior approval of
the Commissioner of Insurance of the State of Iowa (the "Commissioner") and only
to the extent that Principal Life has sufficient  surplus  earnings to make such
payments. For each of the years ended December 31, 2002, 2001 and 2000, interest
of $23.8 million was approved by the Commissioner, paid and charged to expense.

Subject to  Commissioner  approval,  the surplus notes due March 1, 2024, may be
redeemed at Principal  Life's election on or after March 1, 2004, in whole or in
part at a redemption price of approximately  103.6% of par. The approximate 3.6%
premium is scheduled to gradually  diminish over the following ten years.  These
surplus  notes may then be redeemed on or after March 1, 2014,  at a  redemption
price of 100% of the  principal  amount  plus  interest  accrued  to the date of
redemption.

In addition,  subject to Commissioner approval, the notes due March 1, 2044, may
be redeemed at Principal  Life's election on or after March 1, 2014, in whole or
in part at a redemption  price of  approximately  102.3% of par. The approximate
2.3% premium is scheduled to gradually  diminish  over the  following ten years.
These notes may be redeemed on or after March 1, 2024, at a redemption  price of
100% of the principal amount plus interest accrued to the date of redemption.

The  mortgages  and  other  notes  payable  are   financings   for  real  estate
developments.  We, including certain subsidiaries,  had $378.0 million in credit
facilities with various financial  institutions,  in addition to obtaining loans
with  various  lenders  to finance  these  developments.  Outstanding  principal
balances as of December 31, 2002,  range from $0.2 million to $100.9 million per
development with interest rates generally ranging from 6.0% to 8.6%. Outstanding
principal  balances as of December 31,  2001,  range from $0.1 million to $101.9
million per development with interest rates generally ranging from 7.2% to 8.6%.

At December 31, 2002,  future annual  maturities  of the long-term  debt were as
follows (in millions):

2003.................................................................$  116.9
2004.................................................................   296.6
2005.................................................................    29.7
2006.................................................................    20.9
2007.................................................................    96.8
Thereafter...........................................................   771.6
                                                                     -----------
Total future maturities of the long-term debt....................... $1,332.5
                                                                     ===========

Cash paid for interest for 2002, 2001 and 2000 was $118.5 million, $98.1 million
and $116.8 million,  respectively.  These amounts include interest paid on taxes
during these years.

                                      136

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

12. INCOME TAXES

Our income tax expense from continuing operations was as follows (in millions):

                                                                 FOR THE YEAR ENDED DECEMBER 31,
                                                           2002               2001               2000
                                                     ------------------ ------------------ ------------------
                                                                                         
Current income taxes (benefit):
   Federal..........................................       $ (40.2)           $  30.7             $178.6
   State and foreign................................          41.7               29.0               12.1
   Net realized/unrealized capital gains (losses)...         (74.3)            (214.1)              29.5
                                                     ------------------ ------------------ ------------------
Total current income taxes (benefit)................         (72.8)            (154.4)             220.2
Deferred income taxes...............................         118.7              237.8                8.3
                                                     ------------------ ------------------ ------------------
Total income taxes..................................       $  45.9            $  83.4             $228.5
                                                     ================== ================== ==================

Our provision for income taxes may not have the customary  relationship of taxes
to income.  Differences between the prevailing  corporate income tax rate of 35%
times  the  pretax  income  and our  effective  tax rate on  pretax  income  are
generally due to inherent  differences  between  income for financial  reporting
purposes  and  income  for  tax  purposes  and  the  establishment  of  adequate
provisions for any challenges of the tax filings and tax payments to the various
taxing jurisdictions. A reconciliation between the corporate income tax rate and
the effective tax rate from continuing operations is as follows:

                                                               FOR THE YEAR ENDED DECEMBER 31,
                                                         2002               2001               2000
                                                     ------------------ ------------------ ------------------

Statutory corporate tax rate....................            35%                35%               35%
Dividends received deduction....................           (11)               (13)               (7)
Interest exclusion from taxable income..........            (2)                (3)               (2)
Federal tax settlement for prior years..........           (17)                 -                 -
Other...........................................             2                 (1)                1
                                                     ------------------ ------------------ ------------------
Effective tax rate..............................             7%                18%               27%
                                                     ================== ================== ==================

Significant  components  of our net  deferred  income  taxes were as follows (in
millions):

                                                                              AS OF DECEMBER 31,
                                                                            2002               2001
                                                                     ------------------- ------------------
                                                                                         
Deferred income tax assets (liabilities):
   Insurance liabilities............................................    $    263.1             $ 229.9
   Deferred policy acquisition costs................................        (446.0)             (390.7)
   Net unrealized gains on available-for-sale securities............        (430.1)             (218.9)
   Mortgage loan servicing rights...................................        (429.6)             (355.2)
   Other............................................................        (118.2)              (90.3)
                                                                     ------------------- ------------------
Total net deferred income tax liabilities...........................    $ (1,160.8)            $(825.2)
                                                                     =================== ==================

At December 31, 2002 and 2001,  respectively,  our net deferred tax liability is
comprised of  international  net deferred tax assets of $16.9  million and $28.4
million which have been included in other assets and $1,177.7 and $853.6 million
of U.S. net deferred tax liabilities which have been included in deferred income
taxes in the consolidated statements of financial position.

                                      137

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

12. INCOME TAXES (CONTINUED)

The Internal  Revenue Service (the  "Service") has completed  examination of the
U.S.  consolidated  federal  income tax  returns for 1998 and prior  years.  The
Service  has also begun to examine  returns for 1999 and 2000.  We believe  that
there are adequate defenses against or sufficient provisions for any challenges.

Undistributed   earnings  of  certain   foreign   subsidiaries   are  considered
indefinitely  reinvested.  A tax  liability  will be  recognized  when we expect
distribution  of earnings in the form of  dividends,  sale of the  investment or
otherwise.

Net cash received for income taxes in 2002 was $189.3  million  primarily due to
refunds for 2001  capital  losses and the  favorable  settlement  of an Internal
Revenue  Service  audit  issue.  Cash paid for income taxes in 2001 and 2000 was
$76.4 million and $115.3 million, respectively.

13. EMPLOYEE AND AGENT BENEFITS

We  have  defined  benefit  pension  plans  covering  substantially  all  of our
employees and certain agents. Some of these plans provide  supplemental  pension
benefits to employees  with salaries  and/or  pension  benefits in excess of the
qualified  plan limits  imposed by federal tax law. The employees and agents are
generally  first eligible for the pension plans when they reach age 21. For plan
participants  employed prior to January 1, 2002, the pension  benefits are based
on the greater of a final  average pay benefit or a cash  balance  benefit.  The
final  average pay benefit is based on the years of service  and  generally  the
employee's or agent's average annual  compensation during the last five years of
employment.  Partial benefit accrual of final average pay benefits is recognized
from first  eligibility  until  retirement  based on attained service divided by
potential service to age 65 with a minimum of 35 years of potential service. The
cash  balance  portion of the plan  started on  January 1, 2002.  An  employee's
account will be credited with an amount based on the employee's  salary, age and
service. These credits will accrue with interest. For plan participants hired on
and after January 1, 2002, only the cash balance plan applies.  Our policy is to
fund the cost of providing  pension benefits in the years that the employees and
agents  are  providing  service to us.  Our  funding  policy for all plans is to
deposit  the  U.S.  GAAP-related  net  periodic  pension  cost  using  long-term
assumptions,  unless the U.S. GAAP funded  status is positive,  in which case no
deposit is made.

For 2002,  the plan assets  include $79.4 million in Principal  Financial  Group
stock held under a separate account under an annuity contract. These assets were
received  in  the   qualified   defined   benefit   plan  as  a  result  of  the
demutualization.  For  2001,  the value of the  demutualization  funds was $56.7
million,  which  was  amortized  over  the  remaining  service  period  of  plan
participants.

We also provide  certain health care, life insurance and long-term care benefits
for retired employees.  Retiree health benefits are provided for employees hired
prior to January 1, 2002, while retiree long-term care benefits are provided for
employees  whose  retirement  was  effective  prior  to  July 1,  2000.  Covered
employees are first eligible for these  postretirement  benefits when they reach
age 57 and have completed ten years of service with us. Partial  benefit accrual
of these  health,  life and  long-term  care  benefits  is  recognized  from the
employee's date of hire until  retirement  based on attained  service divided by
potential service to age 65 with a minimum of 35 years of potential service. Our
policy is to fund the cost of providing  retiree  benefits in the years that the
employees  are providing  service to us. Our funding  policy for all plans is to
deposit the U.S.  GAAP-related  net periodic  postretirement  benefit cost using
long-term  assumptions unless the U.S. GAAP funded status is positive,  in which
case no deposit is made.

                                      138

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

13. EMPLOYEE AND AGENT BENEFITS (CONTINUED)

For 2001, as a result of the demutualization,  the postretirement  benefit plans
received $11.3 million in compensation, which was used to pay benefit claims and
participant contributions, with the remainder to be amortized over the remaining
service period of plan participants.

The plans'  combined  funded  status,  reconciled  to amounts  recognized in the
consolidated  statements of financial  position and  consolidated  statements of
operations, was as follows (dollars in millions):

                                                    PENSION BENEFITS          OTHER POSTRETIREMENT BENEFITS
                                             --------------- -------------  ---------------------------------
                                                    AS OF DECEMBER 31,             AS OF DECEMBER 31,
                                                  2002            2001           2002            2001
                                             --------------- -------------- ----------------  ---------------

CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year.....  $   (856.0)      $  (797.3)     $  (231.1)      $  (221.8)
Service cost................................       (36.5)          (31.2)          (9.4)           (8.3)
Interest cost...............................       (63.0)          (59.3)         (17.8)          (15.6)
Actuarial loss..............................      (124.4)          (42.0)         (36.6)          (25.7)
Participant contributions...................         -               -             (1.5)           (1.3)
Benefits paid...............................        33.5            31.7            9.0            10.9
Other.......................................         -              42.1            7.2            30.7
                                             --------------- -------------- ----------------  ---------------
Benefit obligation at end of year...........   $(1,046.4)      $  (856.0)     $  (280.2)      $  (231.1)
                                             =============== ============== ================  ===============

CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning
   of year..................................  $    952.5       $ 1,115.4      $   362.3       $   359.8
Actual return (loss) on plan assets.........       (32.2)          (15.7)          (2.2)            5.6
Employer contribution.......................         6.5             9.0            1.3             1.4
Participant contributions...................         -               -              1.5             1.3
Benefits paid...............................       (33.5)          (31.7)          (8.9)           (5.7)
Other.......................................         -            (124.5)           -               -
                                             --------------- -------------- ----------------  ---------------
Fair value of plan assets at end of year....  $    893.3       $   952.5      $   354.0       $   362.4
                                             =============== ============== ================  ===============

Funded (underfunded) status.................  $   (153.1)      $    96.5      $    73.8       $   131.3
Unrecognized net actuarial (gain) loss......       183.7           (65.3)          70.7            (0.6)
Unrecognized prior service cost (benefit)...         5.9             7.6          (32.6)          (28.2)
Unamortized transition asset................        (0.5)           (2.7)           -               -
                                             --------------- -------------- ----------------  ---------------
Other assets - prepaid benefit cost.........  $     36.0       $    36.1      $   111.9       $   102.5
                                             =============== ============== ================  ===============

WEIGHTED-AVERAGE ASSUMPTIONS AS OF DECEMBER
   31
Discount rate...............................     6.50%           7.50%              6.50%           7.50%

                                      139

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

13. EMPLOYEE AND AGENT BENEFITS (CONTINUED)

                                       PENSION BENEFITS                       OTHER POSTRETIREMENT BENEFITS
                             ------------------------------------      ------------------------------------------
                                FOR THE YEAR ENDED DECEMBER 31,               FOR THE YEAR ENDED DECEMBER 31,
                                2002          2001          2000          2002       2001              2000
                             ------------   -----------   -----------  ---------  -------------   ---------------

COMPONENTS OF NET PERIODIC
   BENEFIT COST
Service cost................    $36.5        $ 31.2         $ 35.0     $    9.4   $    8.3           $     10.4
Interest cost...............     63.0          59.3           57.5         17.8       15.6                 19.0
Expected return on plan
   assets...................    (84.6)        (99.2)         (81.3)       (32.8)     (32.3)               (25.1)
Amortization of prior
   service cost
   (benefit)................      1.7           1.7            1.7         (2.7)      (2.6)                 -
Amortization of transition
   (asset) obligation.......     (2.2)        (11.5)         (11.5)         -          0.3                  2.3
Recognized net actuarial
   (gain) loss..............     (7.9)        (14.1)         (12.5)         0.2       (1.3)                (1.1)
                             ------------   -----------   -----------  ---------  -------------   ----------------
 Net periodic benefit cost      $ 6.5        $(32.6)        $(11.1)    $   (8.1)  $  (12.0)          $      5.5
   (income)................. ============   ===========   ===========  =========  =============   ================

For 2002, the higher benefits and compensation limits of the Economic Growth and
Tax Relief  Reconciliation  Act of 2001 were  recognized in the defined  benefit
plans.  In 2001, we reclassified  assets  supporting  nonqualified  pension plan
liabilities  through a  reduction  in  contractholder  funds and an  increase in
invested  assets.  The pension  plans'  gains and losses are  amortized  using a
straight-line  amortization  method over the average remaining service period of
employees.  For the qualified  pension plan, there is no corridor  recognized in
determining  the amount to amortize;  for the  nonqualified  pension plans,  the
corridor allowed under SFAS No. 87, EMPLOYERS' ACCOUNTING FOR PENSIONS, is used.

The projected  benefit  obligation for the pension plans with projected  benefit
obligations in excess of plan assets was $180.6 million and $147.8 million as of
December 31, 2002 and 2001, respectively. The accumulated benefit obligation for
the pension plans with accumulated  benefit obligations in excess of plan assets
was  $125.1  million  and  $115.9  million  as of  December  31,  2002 and 2001,
respectively.   These  obligations  relate  to  the  nonqualified  pension  plan
liabilities.  The nonqualified  plans have assets that are housed in trusts that
fail to meet the  requirements  to be included in plan assets under SFAS No. 87,
EMPLOYERS'  ACCOUNTING  FOR  PENSIONS.  The  prepaid  benefit  costs and accrued
benefit  costs are $175.1  million and  $(139.1)  million,  respectively,  as of
December 31, 2002, and $165.0 million and $(128.9) million,  respectively, as of
December 31, 2001.

Effective for 2003, we amended the method for determining postretirement retiree
health  plan  contributions.  As  a  result  of  this  change,  the  accumulated
postretirement  obligation decreased by $7.2 million. As part of the substantive
plan, the retiree health  contributions are assumed to be adjusted in the future
as claim levels change.

The accumulated  postretirement benefit obligation and fair value of plan assets
for the postretirement plans with accumulated postretirement benefit obligations
in excess of plan assets were $90.2 million and $80.0 million,  respectively, as
of December 31, 2002,  and $2.3 million and $1.1  million,  respectively,  as of
December 31,  2001.  The prepaid  benefit  costs and accrued  benefit  costs are
$112.5 million and $(0.7)  million,  respectively,  as of December 31, 2002, and
$103.2 million and $(0.7) million, respectively, as of December 31, 2001.

                                      140

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

13. EMPLOYEE AND AGENT BENEFITS (CONTINUED)

For 2002 and 2001,  the  expected  long-term  rates of return on plan assets for
pension  benefits  were  8.5% and 9.0%,  respectively,  on a pretax  basis.  The
assumed  rate of increase in future  compensation  levels was 5.0% for both 2002
and 2001.

For 2002 and 2001,  the  expected  long-term  rates of return on plan assets for
other  postretirement  benefits  varied by benefit type,  employee group and tax
status of the trust.  For 2002, the rates ranged from 7.25% to 8.25%.  For 2001,
the rates ranged from 7.8% to 9.3% on a pretax basis.

The  assumed  health  care cost trend  rate used in  measuring  the  accumulated
postretirement  benefit  obligations  starts at 15% in 2002 and  declines  to an
ultimate  rate of 5% in 2009.  Assumed  health  care  cost  trend  rates  have a
significant effect on the amounts reported for the health care plans.

A one-percentage-point change in assumed health care cost trend rates would have
the following effects (in millions):

                                                                    1-PERCENTAGE-POINT  1-PERCENTAGE-POINT
                                                                         INCREASE            DECREASE
                                                                    ------------------- -------------------

Effect on total of service and interest cost components..........         $  8.4             $  (6.6)
Effect on accumulated postretirement benefit obligation..........           61.8               (49.4)

In addition,  we have defined contribution plans that are generally available to
all  employees  and agents who are age 21 or older.  Eligible  participants  may
contribute  up  to  20%  of  their  compensation.  We  match  the  participant's
contribution at a 50%  contribution  rate up to a maximum  contribution of 3% of
the participant's  compensation.  The defined contribution plan allows employees
to  choose  among  various  investment  options,  including  our  common  stock.
Effective  September  1,  2002,  the  employer  stock fund was  converted  to an
employee  stock  purchase  plan. We  contributed  $18.9  million in 2002,  $17.9
million in 2001 and $16.0 million in 2000 to these defined contribution plans.

As a result of the  demutualization,  the defined  contribution  plans  received
$19.7 million in compensation, which was allocated to participant accounts.

14. COMMITMENTS AND CONTINGENCIES

LITIGATION

We are a plaintiff  or defendant in actions  arising out of our  operations.  We
are, from time to time, also involved in various governmental and administrative
proceedings.  While the  outcome of any pending or future  litigation  cannot be
predicted,  management does not believe that any pending  litigation will have a
material  adverse  effect on our  business,  financial  condition  or results of
operations.  However,  no assurances can be given that such litigation would not
materially and adversely affect our business,  financial condition or results of
operations.

                                      141

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

14. COMMITMENTS AND CONTINGENCIES (CONTINUED)

We are regularly involved in litigation,  both as a defendant and as a plaintiff
but  primarily as a defendant.  Litigation  naming us as a defendant  ordinarily
arises out of our business  operations as a provider of medical insurance,  life
insurance,  annuities and residential mortgages. In addition, regulatory bodies,
such as state  insurance  departments,  the SEC,  the  National  Association  of
Securities  Dealers,  Inc., the Department of Labor and other regulatory  bodies
regularly make inquiries and conduct  examinations or investigations  concerning
our compliance with, among other things,  insurance laws, securities laws, ERISA
and laws governing the activities of broker-dealers.

Other companies in the life insurance industry have historically been subject to
substantial  litigation  resulting from claims disputes and other matters.  Most
recently,  such companies have faced extensive  claims,  including  class-action
lawsuits,   alleging   improper  life  insurance  sales  practices.   Negotiated
settlements of such class-action  lawsuits have had a material adverse effect on
the business,  financial condition and results of operations of certain of these
companies.

Principal  Life was a  defendant  in two  class-action  lawsuits  which  alleged
improper sales practices.  We have settled these two  class-action  lawsuits and
have  accrued  a loss  reserve  for  our  best  estimate  based  on  information
available.  We believe this reserve is sufficient to cover our obligation  under
the settlements.  A number of persons and entities who were eligible to be class
members have excluded  themselves  from the class (or "opted  out"),  as the law
permits them to do. We have been  notified that some of those who opted out from
the class filed  lawsuits  and made  claims  similar to those  addressed  by the
settlement.  Most of those lawsuits and claims have been resolved.  We accrued a
loss reserve for our best  estimate of our  potential  exposure to the suits and
claims.  As  uncertainties  continue to exist in resolving  this  matter,  it is
reasonably  possible  that all the actual  costs of the suits and  claims  could
exceed our estimate.  The range of any such costs cannot be presently estimated;
however,  we believe the additional costs will not have a material impact on our
business, financial condition or results of operations.

A lawsuit was filed on September 27, 2001, in the United States  District  Court
for the  Northern  District of  Illinois,  seeking  damages and other  relief on
behalf of a putative class of  policyholders  based on allegations that the plan
of  conversion  of Principal  Mutual  Holding  Company  from a mutual  insurance
holding  company into a stock company  violates the United States  Constitution.
The action is captioned ESTHER L. GAYMAN V. PRINCIPAL MUTUAL HOLDING COMPANY, ET
AL. On April 16, 2002,  the Court  granted our Motion to Dismiss and ordered the
lawsuit be dismissed in its entirety.  On April 17, 2002, a Judgment was entered
to that effect.  The  Plaintiffs  filed an appeal on May 15, 2002,  with the 7th
Circuit Court of Appeals. On November 22, 2002, the 7th Circuit Court of Appeals
affirmed the District Court's decision.

While we cannot  predict  the  outcome  of any  pending  or  future  litigation,
examination or  investigation,  we do not believe any pending matter will have a
material  adverse  effect on our  business,  financial  condition  or results of
operations.

                                      142

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

14. COMMITMENTS AND CONTINGENCIES (CONTINUED)

GUARANTEES AND INDEMNIFICATIONS

In the normal course of business,  we have provided  guarantees to third parties
primarily related to a former subsidiary,  joint ventures and industrial revenue
bonds.  These agreements  generally expire from 2003 through 2015. The estimated
maximum  exposure  under  these  agreements  is  approximately  $155.0  million;
however,  we believe the  likelihood  is remote that  material  payments will be
required  and  therefore  have not accrued for a liability  on our  consolidated
statement of financial  position.  Should we be required to perform  under these
guarantees,  we could recover a portion of the loss from third  parties  through
recourse provisions included in agreements with such parties, the sale of assets
held as  collateral  that can be  liquidated  in the event that  performance  is
required under the guarantees or other recourse  available to us, minimizing the
impact to our results of operations.

We are also subject to various indemnification obligations issued in conjunction
with certain  transactions,  primarily  divestitures and the sale of residential
mortgage loans and servicing rights by our mortgage banking segment, whose terms
range in duration and often are not  explicitly  defined.  Generally,  a maximum
obligation is not explicitly  stated;  therefore,  the overall maximum amount of
the obligation under the indemnifications cannot be reasonably estimated.  While
we are unable to  estimate  with  certainty  the  ultimate  legal and  financial
liability with respect to these  indemnifications,  we believe the likelihood is
remote that material payments would be required under such  indemnifications and
therefore such indemnifications would not result in a material adverse effect on
our business, financial position or results of operations.

SECURITIES HELD FOR COLLATERAL

We held $774.7  million in  mortgage-backed  securities in trust at December 31,
2002, to satisfy  collateral  requirements  associated with our mortgage banking
segment and derivatives credit support agreements.

15. STOCKHOLDERS' EQUITY

COMMON STOCK

As a result of the demutualization and initial public offering described in Note
1, we have one class of capital  stock,  common  stock ($.01 par value,  2,500.0
million shares authorized).

On December 9, 2002, we paid an annual dividend of $83.8 million, equal to $0.25
per share, to shareholders of record as of November 8, 2002.

In the last two years, our board of directors has authorized  various repurchase
programs under which we are allowed to purchase shares of our outstanding common
stock.  Shares  repurchased  under these  programs are accounted for as treasury
stock, carried at cost and reflected as a reduction to stockholders' equity.

On November 26, 2002, our board of directors  authorized a repurchase program of
up to $300.0 million of our outstanding  common stock.  The repurchases  will be
made in the open market or through privately negotiated transactions,  from time
to time,  depending  on market  conditions.  No  purchases  were made under this
program as of December 31, 2002.

Earlier in 2002, our board of directors authorized two other repurchase programs
that were  completed  with an aggregate  purchase of 27.0 million  shares in the
open market at a total cost of $750.0 million.

                                      143

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

15. STOCKHOLDERS' EQUITY (CONTINUED)

On November 27, 2001, our board of directors  authorized a repurchase program of
up to 15.3 million  shares of our  outstanding  common  stock.  This program was
completed by December 31, 2001, with the purchase of 13.0 million shares through
an  accelerated  share  repurchase  program and 2.3  million  shares in the open
market and through  privately  negotiated  transactions  at an aggregate cost of
$367.7 million.  The 13.0 million shares  purchased under the accelerated  share
repurchase   program  were  subject  to  a  future  contingent   purchase  price
adjustment.  The  adjustment  was based upon the  difference  between the market
price  of  our  common  stock  as  of  December   14,   2001,   and  its  volume
weighted-average  price  over an  extended  trading  period as  outlined  in the
forward  stock  purchase  contract.  Settlement  of this  contract  occurred  in
February 2002 with a cash payment of $0.4 million.

As a result of the  demutualization,  363.7 thousand shares with a value of $6.7
million were issued to rabbi trusts held by us for certain benefit plans.  These
shares were reported as treasury  stock and  additional  paid-in  capital in the
consolidated  statements  of  stockholders'  equity at  December  31,  2001.  In
February 2002, these shares were sold, which generated proceeds of $8.0 million,
with a cost of $6.7 million.

OTHER COMPREHENSIVE INCOME (LOSS)

Comprehensive  income (loss) includes all changes in stockholders' equity during
a  period  except  those  resulting  from   investments  by   stockholders   and
distributions to stockholders.

The components of accumulated other comprehensive  income (loss) were as follows
(in millions):

                                        NET UNREALIZED
                                        GAINS (LOSSES)    NET UNREALIZED    FOREIGN         ACCUMULATED
                                            ON            GAINS (LOSSES)    CURRENCY          OTHER
                                        AVAILABLE-FOR-    ON DERIVATIVES   TRANSLATION    COMPREHENSIVE
                                       SALE SECURITIES     INSTRUMENTS     ADJUSTMENT      INCOME (LOSS)
                                       ----------------   ---------------   -----------   ------------------

BALANCES AT JANUARY 1, 2000..........     $   (98.5)        $  (3.5)        $  (37.4)        $  (139.4)
Net change in unrealized gains
     (losses) on fixed maturities,
     available-for-sale..............         721.8             -                -               721.8
Net change in unrealized gains
     (losses) on equity securities,
     available-for-sale..............        (261.1)            -                -              (261.1)
Adjustments for assumed changes in
     amortization pattern:
     Deferred policy acquisition
         costs......................         (122.6)            -                -              (122.6)
     Unearned revenue reserves.......          15.1             -                -                15.1
Net change in unrealized gains
     (losses) on derivative
     instruments.....................           -              (1.3)             -                (1.3)
Provision for deferred income tax
     benefit (expense)...............        (120.5)            0.5              -              (120.0)
Change in net foreign currency
     translation adjustment..........           -               -             (152.5)           (152.5)
                                       ----------------   ---------------   -----------   ------------------
BALANCES AT DECEMBER 31, 2000........         134.2            (4.3)          (189.9)            (60.0)

                                      144

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

15. STOCKHOLDERS' EQUITY (CONTINUED)

                                        NET UNREALIZED
                                        GAINS (LOSSES)     NET UNREALIZED    FOREIGN         ACCUMULATED
                                            ON             GAINS (LOSSES)   CURRENCY           OTHER
                                       AVAILABLE-FOR-     ON DERIVATIVES   TRANSLATION      COMPREHENSIVE
                                       SALE SECURITIES     INSTRUMENTS      ADJUSTMENT      INCOME (LOSS)
                                       ----------------   ---------------   -----------   ------------------

BALANCES AT JANUARY 1, 2001..........        $134.2        $    (4.3)       $(189.9)       $    (60.0)
Net change in unrealized gains
   (losses) on fixed maturities,
   available-for-sale................         511.0              -              -               511.0
Net change in unrealized gains
   (losses) on equity securities,
   available-for-sale................           6.5              -              -                 6.5
Adjustments for assumed changes
   in amortization pattern:
     Deferred policy acquisition
         costs.......................         (61.3)             -              -               (61.3)
     Unearned revenue reserves.......           4.3              -              -                 4.3
Net change in unrealized gains
   (losses) on derivative
   instruments.......................           -               (8.9)           -                (8.9)
Provision for deferred income tax
   benefit (expense).................        (161.2)             3.1            -              (158.1)
Change in net foreign currency
   translation adjustment............           -                -            (71.8)            (71.8)
Cumulative effect of accounting
   change, net of related income
   taxes.............................          20.9            (24.0)         (11.1)            (14.2)
                                       ----------------   ---------------   -----------   ------------------
BALANCES AT DECEMBER 31, 2001........         454.4            (34.1)        (272.8)            147.5
Net change in unrealized gains
   (losses) on fixed maturities,
   available-for-sale................         844.4              -              -               844.4
Net change in unrealized gains
   (losses) on equity securities,
   available-for-sale................          37.8              -              -                37.8
Adjustments for assumed changes in
   amortization pattern:
     Deferred policy acquisition
       costs.........................        (121.6)             -              -              (121.6)
     Unearned revenue reserves.......           6.4              -              -                 6.4
Net change in unrealized gains
   (losses) on derivative
   instruments.......................           -             (114.6)           -              (114.6)
Net change in unrealized gains
   (losses) on policyholder dividend
   obligation........................         (33.6)             -              -               (33.6)
Provision for deferred income tax
   benefit (expense).................        (257.2)            40.1            -              (217.1)
Change in net foreign currency
  translation adjustment.............           -                -             86.6              86.6
                                       ----------------   ---------------   -----------   ------------------
BALANCES AT DECEMBER 31, 2002........        $930.6          $(108.6)       $(186.2)           $635.8
                                       ================   ===============   ===========   ==================

                                      145

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

15. STOCKHOLDERS' EQUITY (CONTINUED)

The following table sets forth the adjustments necessary to avoid duplication of
items that are  included  as part of net income for a year that had been part of
other comprehensive income in prior years (in millions):

                                                                          AS OF DECEMBER 31,
                                                                  2002           2001            2000
                                                             --------------- -------------- ---------------
                                                                                        
Unrealized gains on available-for-sale securities
   arising during the year.............................           $642.1          $537.7         $261.8
Adjustment for realized losses on available-for-sale
   securities included in net income...................           (240.4)         (247.3)         (29.9)
                                                             --------------- -------------- ---------------
Unrealized gains on available-for-sale securities, as
   adjusted............................................           $401.7          $290.4         $231.9
                                                             =============== ============== ===============

The  above  table  is  presented  net of  income  tax,  related  changes  in the
amortization  patterns of deferred policy acquisition costs and unearned revenue
reserves.

DIVIDEND LIMITATIONS

Under  Iowa law,  Principal  Life may pay  stockholder  dividends  only from the
earned surplus  arising from its business and must receive the prior approval of
the  Commissioner to pay a stockholder  dividend if such a stockholder  dividend
would exceed certain statutory limitations.  The current statutory limitation is
the greater of 10% of Principal Life's policyholder  surplus as of the preceding
year-end or the net gain from operations from the previous  calendar year. Based
on this  limitation  and  2002  statutory  results,  Principal  Life  could  pay
approximately $746.6 million in stockholder  dividends in 2003 without exceeding
the statutory limitation.

In 2002, 2001 and 2000,  Principal Life notified the  Commissioner in advance of
all  stockholder  dividend  payments.  Total  stockholder  dividends paid to its
parent company in 2002,  2001 and 2000 were $590.2  million,  $734.7 million and
$538.8 million, respectively.

16. FAIR VALUE OF FINANCIAL INSTRUMENTS

The following  discussion  describes the methods and  assumptions  we utilize in
estimating  our  fair  value  disclosures  for  financial  instruments.  Certain
financial  instruments,   particularly   policyholder   liabilities  other  than
investment-type  contracts,  are  excluded  from  these  fair  value  disclosure
requirements. The techniques utilized in estimating the fair values of financial
instruments are affected by the assumptions used,  including  discount rates and
estimates  of the  amount  and  timing  of future  cash  flows.  Care  should be
exercised in deriving  conclusions  about our  business,  its value or financial
position based on the fair value information of financial  instruments presented
below.  The estimates shown are not  necessarily  indicative of the amounts that
would be realized in a one-time, current market exchange of all of our financial
instruments.

                                      146

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

16. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)

We define fair value as the quoted market prices for those  instruments that are
actively  traded in financial  markets.  In cases where quoted market prices are
not available,  fair values are estimated using present value or other valuation
techniques. The fair value estimates are made at a specific point in time, based
on available  market  information and judgments about the financial  instrument,
including  estimates  of timing,  amount of  expected  future cash flows and the
credit standing of counterparties. Such estimates do not consider the tax impact
of the realization of unrealized gains or losses.  In many cases, the fair value
estimates  cannot be  substantiated  by comparison to  independent  markets.  In
addition,  the  disclosed  fair  value  may  not be  realized  in the  immediate
settlement of the financial instrument.

Fair values of public debt and equity securities have been determined by us from
public quotations, when available.  Private placement securities and other fixed
maturities and equity  securities  are valued by discounting  the expected total
cash flows.  Market rates used are  applicable to the yield,  credit quality and
average maturity of each security.

Fair values of  commercial  mortgage  loans are  determined by  discounting  the
expected  total cash flows using market rates that are  applicable to the yield,
credit quality and maturity of each loan.  Fair values of  residential  mortgage
loans are  determined by a pricing and  servicing  model using market rates that
are applicable to the yield, rate structure,  credit quality,  size and maturity
of each loan.

The fair  values  for  assets  classified  as policy  loans,  other  investments
excluding  equity  investments in  subsidiaries,  cash and cash  equivalents and
accrued  investment  income  in  the  accompanying  consolidated  statements  of
financial position approximate their carrying amounts.

Mortgage loan servicing  rights  represent the present value of estimated future
net revenues from  contractually  specified  servicing  fees. The fair value was
estimated  with a  valuation  model  using  an  internal  prepayment  model  and
discounted at a spread to London Interbank Offered Rates.

The fair values of our reserves and  liabilities for  investment-type  insurance
contracts are estimated  using  discounted  cash flow analyses  based on current
interest rates being offered for similar  contracts with  maturities  consistent
with  those   remaining  for  the   investment-type   contracts   being  valued.
Investment-type insurance contracts include insurance,  annuity and other policy
contracts that do not involve  significant  mortality or morbidity risk and that
are only a portion of the policyholder liabilities appearing in the consolidated
statements of financial position. Insurance contracts include insurance, annuity
and other policy  contracts that do involve  significant  mortality or morbidity
risk. The fair values for our insurance  contracts,  other than  investment-type
contracts,  are not  required to be  disclosed.  We do  consider,  however,  the
various  insurance  and  investment  risks  in  choosing  investments  for  both
insurance and investment-type contracts.

Fair values for debt issues are estimated  using  discounted  cash flow analysis
based on our incremental borrowing rate for similar borrowing arrangements.

                                      147

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

16. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)

The carrying amounts and estimated fair values of our financial instruments were
as follows (in millions):

                                                               AS OF DECEMBER 31,
                                                     2002                               2001
                                       ---------------------------------- ---------------------------------
                                       CARRYING AMOUNT     FAIR VALUE     CARRYING AMOUNT    FAIR VALUE
                                       ---------------- ----------------- ---------------- ----------------

ASSETS (LIABILITIES)
Fixed maturities, available-for-
   sale .............................     $34,185.7        $34,185.7          $30,012.3        $30,012.3
Fixed maturities, trading ...........         101.7            101.7               17.8             17.8
Equity securities, available-for-
   sale .............................         378.7            378.7              837.2            837.2
Mortgage loans.......................      11,081.9         11,240.4           11,065.7         11,345.7
Policy loans.........................         818.5            818.5              831.9            831.9
Other investments....................       1,148.3          1,148.3              552.8            552.8
Cash and cash equivalents............       1,038.6          1,038.6              561.2            561.2
Investment-type insurance
   contracts.........................     (24,816.5)       (25,660.9)         (23,286.8)       (23,642.4)
Short-term debt......................        (564.8)          (564.8)            (511.6)          (511.6)
Long-term debt.......................      (1,332.5)        (1,348.1)          (1,378.4)        (1,383.0)

17. STATUTORY INSURANCE FINANCIAL INFORMATION

Principal Life, the largest  indirect  subsidiary of Principal  Financial Group,
Inc., prepares statutory financial  statements in accordance with the accounting
practices prescribed or permitted by the Insurance Division of the Department of
Commerce  of the  State  of Iowa  (the  "State  of  Iowa").  The  State  of Iowa
recognizes only statutory  accounting  practices  prescribed or permitted by the
State of Iowa for determining and reporting the financial  condition and results
of operations of an insurance  company to determine its solvency  under the Iowa
Insurance  Law. The National  Association of Insurance  Commissioners'  ("NAIC")
Accounting  Practices and  Procedures  manual ("NAIC SAP") has been adopted as a
component  of  prescribed  or  permitted  practices  by the  State of Iowa.  The
Commissioner has the right to permit other specific  practices that deviate from
prescribed practices.

In 2002,  Principal  Life  received  written  approval from the State of Iowa to
recognize as admitted assets those assets pledged by Principal Life on behalf of
a wholly owned subsidiary  instead of nonadmitting  such assets. At December 31,
2002, the statutory surplus of Principal Life was $698.7 million greater than it
would  have  been if NAIC  SAP had been  followed  for  this  transaction.  This
permitted  practice  has no effect on  Principal  Life's net income for the year
then ended.

Life and health insurance  companies are subject to certain  risk-based  capital
("RBC")  requirements as specified by the NAIC.  Under those  requirements,  the
amount of capital and surplus  maintained by a life and health insurance company
is to be  determined  based on the various  risk  factors  related to it. If the
State of Iowa were to  rescind  its  permission  for the  transaction  described
above,  Principal Life's  regulatory total adjusted capital would not fall below
the  authorized  control  level RBC amount.  However,  if such  permission  were
rescinded,  it is likely  Principal Life would  restructure  or discontinue  its
program to pledge assets on behalf of its wholly owned  subsidiary.  At December
31, 2002, Principal Life meets the RBC requirements.

                                      148

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

17. STATUTORY INSURANCE FINANCIAL INFORMATION (CONTINUED)

Statutory net income and statutory  capital and surplus of Principal Life are as
follows (in millions):

                                                           AS OF OR FOR THE YEAR ENDED DECEMBER 31,
                                                          2002               2001              2000
                                                      ------------------ ----------------- ------------------

Statutory net income...............................     $   402.1          $   415.0         $   912.6
Statutory surplus..................................       3,339.2            3,483.8           3,356.4

18. SEGMENT INFORMATION

We provide financial products and services through the following segments:  U.S.
Asset   Management  and   Accumulation,   International   Asset  Management  and
Accumulation, Life and Health Insurance and Mortgage Banking. In addition, there
is a  Corporate  and Other  segment.  The  segments  are  managed  and  reported
separately because they provide different products and services,  have different
strategies or have different markets and distribution channels.

The U.S.  Asset  Management and  Accumulation  segment  provides  retirement and
related financial products and services primarily to businesses, their employees
and other  individuals  and  provides  asset  management  services  to our asset
accumulation  business, the life and health insurance operations and third-party
clients.

The  International  Asset  Management  and  Accumulation  segment  provides life
insurance and retirement and related financial  products and services  primarily
to  businesses,  their  employees and other  individuals  principally  in Chile,
Brazil, Mexico, India, Japan, Argentina,  Hong Kong and Malaysia. On October 31,
2002,  we sold  substantially  all of BT  Financial  Group (an asset  management
company operating in Australia and New Zealand), described further in Note 3. As
a result,  the  results of  operations  (excluding  corporate  overhead)  for BT
Financial Group are reported as non-recurring items for all periods presented.

The Life and Health insurance  segment  provides  individual life and disability
insurance to the owners and employees of businesses and other individuals in the
U.S. and provides group life and health insurance to businesses in the U.S.

The Mortgage Banking segment originates and services  residential  mortgage loan
products for customers primarily in the U.S.

The Corporate and Other segment manages the assets representing capital that has
not been allocated to any other segment.  Financial results of the Corporate and
Other segment primarily reflect our financing activities,  income on capital not
allocated to other segments,  intersegment  eliminations  and  non-recurring  or
other  income or expenses not  allocated to the segments  based on review of the
nature of such items.

                                      149

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

18. SEGMENT INFORMATION (CONTINUED)

The  Corporate  and Other  segment  includes  an equity  ownership  interest  in
Coventry  Health Care,  Inc. The ownership  interest was sold in February  2002,
described  further  in Note 4. The  Corporate  and  Other  segment's  equity  in
earnings of Coventry  Health Care,  Inc.,  which was included in net  investment
income,  was $2.1  million,  $20.2  million and $20.6 million for the year ended
December 31, 2002, 2001 and 2000, respectively.

We  evaluate  segment  performance  on  segment  operating  earnings,  which  is
determined by adjusting U.S. GAAP net income for net realized/unrealized capital
gains and losses, as adjusted,  and nonrecurring items which management believes
are not indicative of overall operating trends. Net realized/unrealized  capital
gains and losses, as adjusted,  are net of income taxes,  related changes in the
amortization  pattern of  deferred  policy  acquisition  costs,  recognition  of
front-end fee revenues for sales charges on pension  products and services,  net
realized   capital  gains   credited  to  customers  and  certain  market  value
adjustments   to  fee  revenues.   Segment   operating   revenues   exclude  net
realized/unrealized  capital gains and their impact on  recognition of front-end
fee revenues.  While these items may be significant  components in understanding
and assessing the consolidated  financial  performance,  management believes the
presentation of segment  operating  earnings  enhances the  understanding of our
results of  operations  by  highlighting  earnings  attributable  to the normal,
recurring  operations of the business.  However,  segment operating earnings are
not a substitute for net income determined in accordance with U.S. GAAP.

In 2002,  non-recurring items of $363.2 million,  net of income taxes,  included
(1) the negative effects of (a) a cumulative effect of accounting change related
to the  implementation of SFAS 142 ($280.9 million);  (b) an estimated loss from
the  discontinued  operations  of BT Financial  Group ($196.7  million);  (c) an
increase to a loss contingency reserve established for sales practice litigation
($21.6 million); and (d) expenses related to the demutualization ($2.0 million);
and (2) the  positive  effect of the  settlement  of an IRS audit issue  ($138.0
million).

In 2001, non-recurring items of $42.3 million, net of income taxes, included (1)
the  negative  effects of (a)  expenses  related to the  demutualization  ($18.6
million);  (b) a loss from the  discontinued  operations  of BT Financial  Group
($11.2  million);  (c) a  cumulative  effect of change in  accounting  principle
related to the  implementation of SFAS 133 ($10.7 million);  and (d) an increase
to a loss contingency reserve  established for sales practices  litigation ($5.9
million);  and (2) the positive effect of investment  income  generated from the
proceeds of the IPO ($4.1 million).

In 2000, non-recurring items of $92.5 million, net of income taxes, included (1)
the negative  effects of (a) a loss  contingency  reserve  established for sales
practices   litigation  ($93.8  million);   and  (b)  expenses  related  to  the
development of a plan of  demutualization  ($7.2 million);  and (2) the positive
effect of the income from  discontinued  operations of BT Financial  Group ($8.5
million).

The  accounting  policies of the  segments  are similar to those as described in
Note 1, with the  exception of capital  allocation.  We allocate  capital to our
segments  based upon an internal  capital  model that allows  management to more
effectively manage our capital.

                                      150

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

18. SEGMENT INFORMATION (CONTINUED)

The following tables summarize  selected  financial  information on a continuing
basis by segment as of or for the years ended December 31, 2002,  2001 and 2000,
and reconciles  segment totals to those reported in the  consolidated  financial
statements (in millions):

                               U.S. ASSET     INTERNATIONAL
                               MANAGEMENT        ASSET          LIFE AND
                                  AND        MANAGEMENT AND      HEALTH     MORTGAGE   CORPORATE
                              ACCUMULATION    ACCUMULATION     INSURANCE    BANKING    AND OTHER    CONSOLIDATED
                             ------------- ----------------  -----------  ---------  -----------  --------------
                                                                                  
2002
Revenues:
Operating revenues......       $  3,780.5       $   357.9     $  3,946.8  $1,153.0   $    (15.1)    $  9,223.1
Net realized/unrealized
 capital gains
  (losses).............            (357.8)           30.2          (93.6)       -          66.4         (354.8)
Recognition of
 front-end fee
 revenues.............              (14.0)            -              -          -           -            (14.0)
Capital gains
 distributed
 as market value
 adjustment...........              (31.8)            -              -          -           -            (31.8)
                             ------------- ----------------  -----------  ---------  -----------  --------------
Revenues...............        $  3,376.9       $   388.1     $  3,853.2  $1,153.0   $     51.3     $  8,822.5
                             ============= ================  ===========  =========  ===========  ==============
Net income:
Operating earnings
 (loss)................        $    370.9       $    19.5     $    233.1  $  142.9   $    (17.0)    $    749.4
Net realized/unrealized
 capital gains
 (losses), as adjusted.            (250.5)           12.4          (50.0)       -          44.2         (243.9)
Nonrecurring items.....               -            (473.0)          (4.6)       -         114.4         (363.2)
                             ------------  ----------------  -----------  ---------  -----------  --------------
Net income (loss)......        $    120.4       $  (441.1)    $    178.5  $  142.9   $    141.6     $    142.3
                             ============= ================  ===========  =========  ===========  ==============
Assets.................        $ 70,371.9       $ 2,202.5     $ 11,356.3  $ 3,740.1  $  2,190.5     $ 89,861.3
                             ============= ================  ===========  =========  ===========  ==============

Other segment data:
Revenues from external
 external customers....        $  3,321.7       $   386.3     $  3,858.6  $1,139.8   $    116.1     $  8,822.5
Intersegment
 revenues..............              55.2             1.8           (5.4)     13.2        (64.8)           -
Interest expense.......               3.5             0.7            0.5        -          49.3           54.0
Income tax expense
 (benefit).............             (38.2)           10.7           95.3     101.9       (123.8)          45.9
Amortization of
 intangibles...........               0.2             2.3            0.1        -           -              2.6

                                      151

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

18. SEGMENT INFORMATION (CONTINUED)

                               U.S. ASSET     INTERNATIONAL
                               MANAGEMENT        ASSET          LIFE AND
                                  AND        MANAGEMENT AND      HEALTH     MORTGAGE   CORPORATE
                              ACCUMULATION    ACCUMULATION     INSURANCE    BANKING    AND OTHER    CONSOLIDATED
                             ------------- ----------------  -----------  ---------  -----------  -------------

2001
Revenues:
Operating revenues......     $  3,799.8       $   508.4      $  3,946.4     $  757.4    $  101.7     $  9,113.7
Net realized/unrealized
 capital losses.........         (248.6)          (60.0)          (62.2)         -        (143.2)        (514.0)
Recognition of
 front-end fee revenues             1.5             -               -            -           -              1.5
Capital gains
 distributed as market
 value adjustment.......          (14.9)            -               -            -           -            (14.9)
Investment income
 generated from IPO
 proceeds...............            -               -               -            -           6.3            6.3
                             ------------- ----------------  -----------  ---------  -----------  --------------
Revenues................     $  3,537.8       $   448.4      $  3,884.2     $  757.4    $  (35.2)    $  8,592.6
                             ============= ================  ===========  =========  ===========  ==============
Net income:
Operating earnings......     $    353.8       $     2.3      $    201.2     $  126.7    $   38.1     $    722.1
Net realized/unrealized
 capital losses, as
 adjusted...............         (164.7)          (29.2)          (33.8)         -         (93.3)        (321.0)
Nonrecurring items......          (10.8)          (11.2)            0.1          -         (20.4)         (42.3)
                             ------------- ----------------  -----------  ---------  -----------  --------------
Net income (loss).......     $    178.3       $   (38.1)     $    167.5     $  126.7    $  (75.6)    $    358.8
                             ============= ================  ===========  =========  ===========  ==============
Assets..................     $ 68,543.8       $ 4,956.9      $ 10,776.2     $2,718.8    $1,354.8     $ 88,350.5
                             ============= ================  ===========  =========  ===========  ==============
Other segment data:
Revenues from external
 customers..............     $  3,483.2       $   447.0      $  3,888.3     $  746.8    $   27.3     $  8,592.6
Intersegment revenues...           54.6             1.4            (4.1)        10.6       (62.5)           -
Interest expense........            3.3             0.6             0.8          -          71.5           76.2
Income tax expense
 (benefit)..............           (6.3)          (33.4)           86.2         78.4       (41.5)          83.4
Amortization of
 goodwill and other
 intangibles............            3.2             3.7             4.1          0.7         -             11.7

                                      152

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

18. SEGMENT INFORMATION (CONTINUED)

                               U.S. ASSET     INTERNATIONAL
                               MANAGEMENT        ASSET          LIFE AND
                                  AND        MANAGEMENT AND      HEALTH     MORTGAGE   CORPORATE
                              ACCUMULATION    ACCUMULATION     INSURANCE    BANKING    AND OTHER    CONSOLIDATED
                             ------------- ----------------  -----------  ---------  -----------  -------------

2000
Revenues:
Operating revenues......        $ 3,533.9     $     339.2      $ 4,122.6  $  359.8    $  98.2      $ 8,453.7
Net realized/unrealized
  capital gains losses..            (53.8)            2.8           70.8       -        119.8          139.6
Recognition of
 front-end fee revenues.              0.9             -              -         -          -              0.9
                             ------------- ----------------  -----------  ---------  -----------  --------------
Revenues................        $ 3,481.0     $     342.0      $ 4,193.4  $  359.8    $ 218.0      $ 8,594.2
                             ============= ================  ===========  =========  ===========  ==============
Net income:
Operating earnings
 (loss)...............          $   356.6     $     (16.9)     $   162.3  $   50.0    $  67.7      $   619.7
Net realized/unrealized
 capital gains (losses)
 as adjusted............            (35.9)            1.3           47.3       -         80.3           93.0
Nonrecurring items......              -               8.5            -         -       (101.0)         (92.5)
                             ------------- ----------------  -----------  ---------  -----------  --------------
Net income (loss).......        $   320.7     $      (7.1)     $   209.6  $   50.0    $  47.0      $   620.2
                             ============= ================  ===========  =========  ===========  ==============
Assets..................        $65,795.9     $   5,525.9      $10,569.0  $1,556.3    $ 957.8      $84,404.9
                             ============= ================  ===========  =========  ===========  ==============

Other segment data:
Revenues from external
 customers..............        $ 3,439.7     $     340.6      $ 4,196.9  $  359.8    $ 257.2      $ 8,594.2
Intersegment revenues...             41.3             1.4           (3.5)      -        (39.2)           -
Interest expense........              -               -              -         -         78.2           78.2
Income tax expense
 (benefit)..............            101.9            (5.4)         104.7      27.1        0.2          228.5
Amortization of
 goodwill and other
 intangibles............              1.0             4.6            7.7       0.8        -             14.1

                                      153

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

18. SEGMENT INFORMATION (CONTINUED)

The following table summarizes our operating revenues (in millions):

                                                                FOR THE YEAR ENDED DECEMBER 31,
                                                         2002                2001                2000
                                                  -------------------  ------------------  ------------------
                                                                                    
U.S. Asset Management and Accumulation
Full-service accumulation................           $1,076.5             $1,116.6            $1,210.4
Full-service payout......................            1,191.8              1,214.8               920.6
Investment only..........................              886.4                918.1               881.7
                                                  -------------------  ------------------  ------------------
  Total pension..........................            3,154.7              3,249.5             3,012.7
Individual annuities.....................              303.8                263.3               267.5
Mutual funds.............................              113.8                108.3               116.0
Other and eliminations...................               32.2                 19.0                 1.9
                                                  -------------------  ------------------  ------------------
  Total U.S. Asset Accumulation........              3,604.5              3,640.1             3,398.1

Eliminations.............................              (40.4)               (35.2)              (38.4)
Principal Global Investors...............              216.4                194.9               174.2
                                                  -------------------  ------------------  ------------------
  Total U.S. Asset Management and
  Accumulation...........................            3,780.5              3,799.8             3,533.9

International Asset Management and
  Accumulation...........................              357.9                508.4               339.2

Life and Health Insurance
Life insurance...........................            1,629.6              1,658.7             1,693.1
Health insurance.........................            2,058.3              2,061.3             2,221.4
Disability insurance.....................              258.9                226.4               208.1
                                                  -------------------  ------------------  ------------------
  Total Life and Health Insurance........            3,946.8              3,946.4             4,122.6

Mortgage Banking
Mortgage loan production.................              562.9                354.4                46.0
Mortgage loan servicing..................              590.1                403.0               313.8
                                                  -------------------  ------------------  ------------------
  Total Mortgage Banking.................            1,153.0                757.4               359.8

Corporate and Other......................              (15.1)               101.7                98.2
                                                  -------------------  ------------------  ------------------
Total operating revenues.................           $9,223.1             $9,113.7            $8,453.7
                                                  ===================  ==================  ==================
Total operating revenues.................           $9,223.1             $9,113.7            $8,453.7
Net realized/unrealized capital gains,
  (losses) including recognition of
  front-end fee revenues and certain
  market value adjustments to fee
  revenues...............................             (400.6)              (527.4)              140.5
Non-recurring............................                -                    6.3                 -
                                                  -------------------  ------------------  ------------------
Total GAAP revenues......................           $8,822.5             $8,592.6            $8,594.2
                                                  ===================  ==================  ==================

                                      154

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

18.  SEGMENT  INFORMATION  (CONTINUED)

We operate in the U.S. and in selected markets internationally (including Chile,
Brazil, Mexico, India, Japan, Argentina,  Hong Kong and Malaysia). The following
table summarizes selected financial  information by geographic location as of or
for the year ended December 31 (in millions):

                                                        LONG-LIVED                           NET INCOME
                                      REVENUES            ASSETS             ASSETS             (LOSS)
                                  ----------------- -------------------   ---------------- ------------------
                                                                                     
2002
U.S............................         $8,434.4            $562.3            $87,658.8          $583.4
International..................            388.1             115.5              2,202.5          (441.1)
                                  ----------------- -------------------   ---------------- ------------------
Total..........................         $8,822.5            $677.8            $89,861.3          $142.3
                                  ================= ===================   ================ ==================
2001
U.S............................         $8,144.2            $565.4            $83,393.6          $396.9
International..................            448.4              94.3              4,956.9           (38.1)
                                  ----------------- -------------------   ---------------- ------------------
Total..........................         $8,592.6            $659.7            $88,350.5          $358.8
                                  ================= ===================   ================ ==================

2000
U.S............................         $8,252.2            $533.3            $78,879.0          $627.3
International..................            342.0             101.9              5,525.9            (7.1)
                                  ----------------- -------------------   ---------------- ------------------
Total..........................         $8,594.2            $635.2            $84,404.9          $620.2
                                  ================= ===================   ================ ==================

Long-lived  assets  include  property  and  equipment  and  goodwill  and  other
intangibles.

Our operations are not materially  dependent on one or a few customers,  brokers
or agents,  and  revenues,  assets and  operating  earnings  are  attributed  to
geographic  location based on the country of domicile the sales  originate.

19. STOCK-BASED  COMPENSATION  PLANS

As of December 31, 2002, we sponsor the Stock  Incentive  Plan,  Directors Stock
Plan, Stock Purchase Plan and Long Term Performance Plan.

Under the terms of the Stock  Incentive Plan,  grants may be nonqualified  stock
options,  incentive stock options  qualifying  under Section 422 of the Internal
Revenue Code,  restricted stock,  restricted stock units and stock  appreciation
rights.  Total options  granted under this plan were 1.5 million and 3.7 million
options  in 2002 and 2001,  respectively.  Options  outstanding  under the Stock
Incentive  Plan were  granted at a price equal to the market value of our common
stock on the date of grant,  graded or cliff-vested over a three-year period for
employees still employed or under contract, and expire ten years after the grant
date.

                                      155

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

19. STOCK-BASED COMPENSATION PLANS (CONTINUED)

The Directors Stock Plan provides for the grant of  nonqualified  stock options,
restricted  stock or restricted  stock units to our nonemployee  directors.  The
total  number  of shares to be issued  under  this plan may not  exceed  500,000
shares.  Options  granted under the Directors  Stock Plan have an exercise price
equal to the fair market  value of the common stock on the date of the grant and
a term equal to the earlier of three years from the date the participant  ceases
to provide service or the tenth  anniversary of the date the option was granted.
Since no options were to become  exercisable for directors earlier than eighteen
months following  October 26, 2001, the date of  demutualization,  option grants
made in 2002 under this plan will  cliff-vest  one year from grant  date.  Going
forward,  options will vest quarterly over a one-year  period unless services to
us cease,  at which time,  all vesting  stops.  Options  granted under this plan
amounted  to 52,000  options in 2002.  There  were no grants  under this plan in
2001.

Beginning in 2002,  16,641  restricted  stock units were issued  pursuant to the
Directors  Stock  Plan  at a  weighted-average  award  price  of  $28.02  to all
directors  in office.  The number  received by each  director  is prorated  with
respect to the amount of time remaining in the director's term.  Restrictions on
the sale or transfer of restricted stock units shall lapse in installments  from
the date of grant to the date of the end of the director's term. No restrictions
shall lapse earlier than eighteen months following October 26, 2001, the date of
demutualization.  When  service to the company  ceases,  all  vesting  stops and
unvested units are forfeited.  The unamortized  deferred  compensation  was $0.1
million at December 31, 2002.

We also maintain the Long Term Performance  Plan, which provides the opportunity
for eligible  executives to share in the success of Principal  Financial  Group,
Inc., if specified minimum corporate performance  objectives are achieved over a
three-year  period.  This plan was amended in May 2001,  to utilize  stock as an
option for payment  starting with payments in 2003. For the years ended December
31, 2002 and 2001,  we recorded  compensation  expense of $4.4 million and $13.7
million, respectively, related to the plan.

The  maximum  number  of shares  of  common  stock we may issue  under the Stock
Incentive  Plan,   together  with  an  excess  plan  (a   nonqualified   defined
contribution   retirement  plan),  the  Directors  Stock  Plan,  the  Long  Term
Performance  Plan, and any new plan awarding our common stock, in the five years
following the completion of the initial public offering,  is 6% of the number of
shares  outstanding  immediately  following  the  completion  of the IPO.  As of
December  31,  2002,  a total of  17,493,989  shares  are  available  to be made
issuable by us for these plans.

Under our Stock Purchase Plan,  participating  employees have the opportunity to
purchase shares of our common stock on a quarterly  basis. The maximum amount an
employee may contribute  during any plan year is the lesser of $10,000,  or such
greater or lesser amount as determined by the plan administrator, and 10% of the
employee's salary.  Employees may purchase shares of our common stock at a price
equal to 85% of the share's fair market value as of the  beginning or end of the
quarter,  whichever is lower. Under the Stock Purchase Plan, employees purchased
713,886  and 320,406  shares  during 2002 and 2001,  respectively.  In 2002,  an
additional  5,415 shares were  purchased  from  dividends  and  reinvested  into
participants' accounts.

The maximum  number of shares of common  stock that we may issue under the Stock
Purchase Plan is 2% of the number of shares  outstanding  immediately  following
the completion of the IPO. As of December 31, 2002, a total of 6,181,826  shares
are available to be made issuable by us for this plan.

                                      156

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

19. STOCK-BASED COMPENSATION PLANS (CONTINUED)

In 2001,  compensation  expense was recognized for stock option awards issued to
career agents using the fair value method as  prescribed in FASB  Interpretation
No. 44, ACCOUNTING FOR CERTAIN  TRANSACTIONS  INVOLVING STOCK  COMPENSATION - AN
INTERPRETATION  OF APB  OPINION  NO.  25.  The  compensation  cost that has been
charged against income for the Stock  Incentive  Plan,  Directors Stock Plan and
Stock  Purchase  Plan was $10.5  million  and $0.01  million  for 2002 and 2001,
respectively.

The  weighted-average  estimated fair value of stock options granted during 2002
and 2001 using the Black-Scholes option valuation model was $10.19 and $6.07 per
share, respectively.  The fair value of each option was estimated on the date of
grant  using  the   Black-Scholes   option   pricing  model  and  the  following
assumptions:

                                                     2002                2001
                                                -------------      -------------
     Dividend yield...................               .91 %                1.12 %
                                                =============      =============

     Expected volatility..............             32.5  %               37.5  %
                                                =============      =============
     Risk-free interest rate..........              4.7  %                3.7  %
                                                =============      =============
     Expected life (in years).........              6                     3
                                                =============      =============

The fair value of the employees' purchase rights,  which represent a price equal
to 15% of the share's fair market value under the Stock  Purchase Plan, was $1.6
million in 2001.

The  following is a summary of the status of all of our stock option plans as of
December 31, 2002, and related changes during the year then ended:

                                                                     NUMBER OF SHARES    WEIGHTED-AVERAGE
                                                                                          EXERCISE PRICE
                                                                    ------------------- -------------------

 Options outstanding at January 1, 2001...........................                -          $   -
   Granted........................................................        3,671,000             22.33
   Exercised......................................................                -              -
   Canceled.......................................................           32,800             22.33
                                                                    -------------------
 Options outstanding at December 31, 2001.                                3,638,200             22.33
   Granted........................................................        1,492,905             27.59
   Exercised......................................................              600             22.33
   Canceled.......................................................          993,380             23.08
                                                                    -------------------
 Options outstanding at December 31, 2002.........................        4,137,125          $  24.05
                                                                    ===================
 Options exercisable at December 31, 2001........................             1,000          $  22.33
                                                                    ===================
 Options exercisable at December 31, 2002.........................           22,000          $  22.33
                                                                    ===================

At December  31,  2002,  we had 4.1 million  stock  options  outstanding  with a
weighted-average  remaining  contractual life of 9 years and a  weighted-average
exercise price of $24.05.

                                      157

                         PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

20. EARNINGS PER SHARE

After our IPO, SFAS No. 128,  EARNINGS PER SHARE,  was adopted,  which  requires
disclosure of basic and diluted earnings per share.

For  purposes of our  unaudited  basic and diluted pro forma  earnings per share
calculations  for the period  January 1, 2001  through  October  25,  2001,  the
weighted-average  number of shares  outstanding  was assumed to be 360.8 million
shares.  These shares  represent  260.8 million  shares issued to  policyholders
entitled to receive compensation in the demutualization and 100.0 million shares
sold to  investors  in the  IPO,  prior  to the  underwriters'  exercise  of the
overallotment  option.  The  shares  issued to the  policyholders  include  56.2
million  shares  issued  as  policy  credits  and  held  in one of our  separate
accounts.

Reconciliations   of   weighted-average   shares  outstanding  and  income  from
continuing operations for basic and diluted net earnings per share for the years
ended December 31, 2002 and 2001, are presented below:

                                                                                 PRO FORMA (UNAUDITED)
                                                                         --------------------------------------
                                           FOR THE YEAR ENDED                     FOR THE YEAR ENDED
                                            DECEMBER 31, 2002                      DECEMBER 31, 2001
                                  -------------------------------------- --------------------------------------
                                                WEIGHTED       PER                     WEIGHTED        PER
                                                AVERAGE       SHARE                    AVERAGE        SHARE
                                    INCOME      SHARES        AMOUNT        INCOME     SHARES         AMOUNT
                                  ----------- ------------- ------------ ----------- ------------ -------------
                                       (IN MILLIONS)                           (IN MILLIONS)

Basic earnings per share:
Income from continuing
 operations................          $619.9       350.2       $1.77           $380.7     362.4        $1.05
Dilutive effects:
Stock options (1)..........                         0.4                                    -
Long-term performance
 plan......................                         0.1                                    -
Restricted stock units
 (2).......................                         -                                      -
                                  ----------- -------------- ------------ ----------- ------------ -------------
Diluted earnings per
 share.....................          $619.9       350.7       $1.77           $380.7     362.4        $1.05
                                  =========== ============== ============ =========== ============ =============

(1)  The dilutive  effect of the stock options did not meet specified  reporting
     thresholds in 2001.
(2)  The dilutive  effect of the  restricted  stock units did not meet specified
     reporting thresholds.

The  calculation  of diluted  earnings per share for the year ended December 31,
2002, excludes the incremental effect related to certain outstanding stock-based
compensation grants due to their anti-dilutive effect.

The  calculation  of diluted  earnings per share for the year ended December 31,
2001,  excludes the  incremental  effect related to a treasury stock  repurchase
forward  contract.  This contract's  inception price is in excess of the average
volume  weighted-average  price for purchases of our stock during the period the
contract has been outstanding, resulting in an antidilutive effect.

                                      158

                        PRINCIPAL FINANCIAL GROUP, INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

21. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

The following is a summary of unaudited quarterly results of operations for 2002
and 2001:

                                                                   FOR THE THREE MONTHS ENDED
                                                 MARCH 31          JUNE 30         SEPTEMBER 30      DECEMBER 31
                                             ----------------------------------------------------------------------
                                                              (IN MILLIONS, EXCEPT PER SHARE DATA)
                                                                                           
2002
Total revenues........................           $2,227.8         $2,335.5           $1,995.9          $2,263.3
Total expenses........................            1,877.8          2,187.2            1,950.9           2,140.8
Income from continuing operations,
 net of related income taxes..........              243.7            116.4               42.6             217.2
Income (loss) from discontinued
 operations, net of related
 income taxes.........................                2.3              3.8             (201.0)             (1.8)
Net income (loss).....................              (34.9)           120.2             (158.4)            215.4
Basic earnings per share for income
 from continuing operations, net of
 related income taxes.................           $    0.68        $    0.33          $    0.12         $    0.65
Basic earnings per share for net
 income (loss)........................               (0.10)            0.34              (0.46)             0.64
Diluted earnings per share for income
 from continuing operations, net of
 related income taxes ................                0.68             0.33               0.12              0.64
Diluted earnings per share for net
 income (loss)........................               (0.10)            0.34              (0.45)             0.64

2001
Total revenues........................           $2,171.2         $2,024.7           $2,405.0          $1,991.7
Total expenses........................            2,025.1          1,875.3            2,250.6           1,977.5
Income from continuing operations,
 net of related income taxes..........              120.9            118.3              119.9              21.6
Income (loss) from discontinued
 operations, net of related income
 taxes................................               (4.9)             0.8               (4.1)             (3.0)
Net income............................              105.3            119.1              115.8              18.6
Basic earnings per share for income
 from continuing operations, net of
 related income taxes (1).............                N/A              N/A                N/A          $    0.06
Basic earnings per share
 for net income.......................                N/A              N/A                N/A               0.05
Diluted earnings per share for income
 from continuing operations, net of
 related income taxes (1).............                N/A              N/A                N/A               0.06
Diluted earnings per share for net
 income...............................                N/A              N/A                N/A               0.05

(1)  Fourth  quarter 2001 earnings per share are on a pro forma basis as our IPO
     did not close  until  October 26,  2001.  See Note 1. Actual net income per
     common  share for the period from  October 26, 2001  through  December  31,
     2001, was $(0.08) for basic and diluted computations.

                                      159

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

None.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The  information  called for by Item 10  pertaining to directors is set forth in
Principal  Financial Group,  Inc.'s proxy statement  relating to the 2003 annual
shareholders  meeting  (the  "Proxy  Statement")  which  will be filed  with the
Securities and Exchange  Commission ("SEC") on or about April 3, 2003, under the
captions,  "Election of  Directors"  and  "Section  16(a)  Beneficial  Ownership
Reporting Compliance." Such information is incorporated herein by reference. The
information  called for by Item 10 pertaining to executive officers can be found
in Part I of this  Form 10-K  under  the  caption,  "Executive  Officers  of the
Registrant."

ITEM 11. EXECUTIVE COMPENSATION

The  information  called for by Item 11 pertaining to executive  compensation is
set forth in the Proxy  Statement under the caption,  "Executive  Compensation,"
and is incorporated herein by reference.

ITEM 12.  SECURITY  OWNERSHIP OF CERTAIN  BENEFICIAL  OWNERS AND  MANAGEMENT AND
RELATED STOCK MATTERS

The  information  called for by Item 12  pertaining  to  security  ownership  of
certain  beneficial  owners and  management is set forth in the Proxy  Statement
under  the  caption,  "Security  Ownership  of  Certain  Beneficial  Owners  and
Management," and is incorporated herein by reference.

EQUITY COMPENSATION PLAN INFORMATION

In  general,  the  Company  has four  compensation  plans under which its equity
securities are authorized for issuance to employees or directors:  the Principal
Financial Group, Inc. Stock Incentive Plan, the Principal  Financial Group, Inc.
Employee  Stock Purchase Plan, the Principal  Financial  Group,  Inc.  Long-Term
Performance Plan, and the Principal  Financial Group, Inc. Directors Stock Plan.
The  following  table shows the number of shares of common stock  issuable  upon
exercise of options  outstanding  at December  31, 2002,  the  weighted  average
exercise  price of those  options,  and the  number of  shares  of common  stock
remaining  available for future issuance at December 31, 2002,  excluding shares
issuable upon exercise of outstanding options.

                                      160

                                        (A)                           (B)                               (C)
                               NUMBER OF SECURITIES TO                                     NUMBER OF SECURITIES REMAINING
                                   BE ISSUED UPON                 WEIGHTED-AVERAGE          AVAILABLE FOR FUTURE ISSUANCE
                               EXERCISE OF OUTSTANDING            EXERCISE PRICE OF           UNDER COMPENSATION PLANS
                                OPTIONS, WARRANTS AND            OUTSTANDING OPTIONS,         (EXCLUDING SECURITIES
PLAN CATEGORY                        RIGHTS                       WARRANTS AND RIGHT                IN COLUMN (A))
- ----------------------    -------------------------     -------------------------    --------------------------------

Equity compensation                 4,137,125 (2)                     $24.05                      23,675,815 (3)
plans approved by
the Company's
stockholders (1)

Equity compensation                     -0-                           N/A                              -0-
plans not approved
by the Company's
stockholders

     -------
(1)  Each of the four  compensation  plans  under  which  the  Company's  equity
     securities  are  authorized  for issuance to  employees  or directors  were
     approved  by the  Company's  sole  stockholder,  Principal  Mutual  Holding
     Company,  prior to the Company's initial public offering of Common Stock on
     October 23, 2001. None of the four compensation plans have been approved by
     the Company's stockholders subsequent to such date.
(2)  Includes 4,085,125 options  outstanding under the 2001 Stock Incentive Plan
     and 52,000 options  outstanding  under the 2001 Directors  Stock Plan. Does
     not include 16,641 Board  restricted stock units.
(3)  The maximum  number of shares of Common Stock that may be awarded under the
     Long-Term  Performance  Plan, the Stock Incentive Plan, the Directors Stock
     Plan, and any new plan awarding  shares of Common Stock,  in the five years
     following  the  completion  of the  Demutualization  is 6% of the number of
     shares   outstanding   immediately   following   the   completion   of  the
     Demutualization,  unless the  shareholders  vote to  increase  the  maximum
     number.  This number includes 6,181,826 shares remaining for issuance under
     the Employee  Stock  Purchase  Plan and  17,493,989  shares  available  for
     issuance from the 6%.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information  called for by Item 13 pertaining to certain  relationships  and
related  transactions  is set forth in the Proxy  Statement  under the captions,
"Compensation  Committee  Interlocks  and Insider  Participation"  and  "Certain
Relationships  and  Related   Transactions,"  and  is  incorporated   herein  by
reference.

ITEM 14. CONTROLS AND PROCEDURES

In order to ensure  that the  information  that we must  disclose in our filings
with the SEC is recorded, processed,  summarized and reported on a timely basis,
we have adopted disclosure controls and procedures. Our Chief Executive Officer,
J. Barry Griswell,  and our Chief  Financial  Officer,  Michael H. Gersie,  have
reviewed and evaluated our disclosure controls and procedures as of February 21,
2003,  and have  concluded  that our  disclosure  controls  and  procedures  are
effective.

There were no significant changes in our internal controls,  or in other factors
that could significantly affect our internal controls subsequent to February 21,
2003.

                                      161

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

a. Documents filed as part of this report.

     1.   Financial   Statements   (see  Item  8.   Financial   Statements   and
          Supplementary Data)
          Report  of  Independent  Auditors
          Audited  Consolidated   Financial Statements
           Consolidated  Statements  of  Financial  Position
           Consolidated Statements of Operations
           Consolidated  Statements of Stockholders`  Equity
           Consolidated  Statements  of Cash  Flows
           Notes to  Consolidated  Financial Statements

     2.   Report of  Independent  Auditors on Schedules
          Schedule I - Summary of Investments - Other Than  Investments in
                       Related Parties
          Schedule II - Condensed  Financial  Information of Registrant
                       (Parent Only)
          Schedule III - Supplementary Insurance Information
          Schedule IV - Reinsurance

          All other  schedules  for which  provision  is made in the  applicable
          accounting  regulation of the Securities  and Exchange  Commission are
          not required under the related  instructions or are  inapplicable  and
          therefore have been omitted.

     3.   Exhibits

    EXHIBIT
    NUMBER                                        DESCRIPTION
    2.1   Plan of Conversion**
    2.2   Share  Sale  Deed,  dated as of June 17,  1999,  among BT  Investments
          (Australia)  LLC, BT Foreign  Investment  Corporation,  BT New Zealand
          Limited, BT International (Delaware), Inc., BT Nominees (H.K.)Limited,
          Deutsche Bank AG, Bankers Trust Corporation, Principal Financial Group
          (Australia) Pty Limited and Principal Financial Services, Inc.**
    2.3   Deed to Amend the Share Sale Deed,  dated as of August 31, 1999, among
          BT Investments (Australia) LLC, BT Foreign Investment Corporation,  BT
          New Zealand Limited,  BT International  (Delaware),  Inc., BT Nominees
          (H.K.) Limited, Deutsche Bank AG, Bankers Trust Corporation, Principal
          Financial  Group  (Australia)  Pty  Limited  and  Principal  Financial
          Services, Inc.**
    2.4   Second  Amendment to the Share Sale Deed,  dated as of March 14, 2001,
          among  BT   Investments   (Australia)   LLC,  BT  Foreign   Investment
          Corporation,  Deutsche  New Zealand  Limited  (formerly  called BT New
          Zealand  Limited),  BT  International  (Delaware),  Inc.,  DB Nominees
          (H.K.) Limited (formerly called BT Nominees (H.K.) Limited),  Deutsche
          Bank  AG,  Bankers  Trust  Corporation,   Principal   Financial  Group
          (Australia) Pty Limited and Principal Financial Services, Inc.**
    3.1   Form of Amended and Restated Certificate of Incorporation of Principal
          Financial Group, Inc. (included in Exhibit 2.1)**
    3.2   Form of  By-Laws of  Principal  Financial  Group,  Inc.  (included  in
          Exhibit 2.1)**
    4.1   Form of Certificate for the Common Stock of Principal Financial Group,
          Inc., par value $0.01 per share**
    4.2   Amended and Restated Stockholder Rights Agreement, dated as of October
          22, 2001*
    10.1  Principal Financial Group, Inc. Stock Incentive Plan**
    10.2  Principal Financial Group Long-Term Performance Plan**
    10.3  Resolution of the Human Resources Committee of the Board of Directors
          of Principal Financial Group, Inc. amending the Principal Financial
          Group Long-Term Performance Plan, as of October 31, 2002*
    10.4  Principal  Financial Group  Incentive Pay Plan (PrinPay),  amended and
          restated effective January 1, 2002***
    10.5  Principal Financial Group, Inc. Directors Stock Plan**
    10.6  Principal Select Savings Excess Plan**
    10.7  Supplemental Executive Retirement Plan for Employees**
    10.8  Employment Agreement, dated as of May 19, 2000, among Principal Mutual
          Holding Company,  Principal Financial Group, Inc., Principal Financial
          Services,   Inc.,  Principal  Life  Insurance  Company  and  J.  Barry
          Griswell**

                                      162

    10.9  Change-of-Control  Supplement  and Amendment to Employment  Agreement,
          dated as of October 19, 2000,  among Principal Mutual Holding Company,
          Principal Financial Group, Inc.,  Principal Financial Services,  Inc.,
          Principal Life Insurance Company and J. Barry Griswell**
    10.10 Form of Principal  Mutual Holding Company and Principal Life Insurance
          Company Change of Control  Employment  Agreement (Tier One Executives)
          among Principal  Mutual Holding  Company,  Principal  Financial Group,
          Inc.,  Principal  Financial Services,  Inc.,  Principal Life Insurance
          Company and an Executive**
    10.11 Compensatory Arrangement, dated as of March 14, 2002, between Princpal
          Life Insurance Company and James P. McCaughan.****
    10.12 Compensatory  Agreement,  dated as of April 26, 2001, between
          Principal Life Insurance Company and Michael T. Daley*
    10.10 Fiscal Agency Agreement,  dated as of August 25, 1999, among Principal
          Financial Group (Australia) Holdings Pty Limited,  Principal Financial
          Services, Inc. and U.S. Bank Trust National Association**
    21    Principal  Financial  Group,  Inc. Member Companies as of December 31,
          2001*
    23    Consent of Ernst & Young LLP*
    24    Power of Attorney*
    99.1  Certification  Pursuant  to Section  1350 of Chapter 63 of Title 18 of
          the United States Code - J. Barry Griswell*
    99.2  Certification  Pursuant  to Section  1350 of Chapter 63 of Title 18 of
          the United States Code - Michael H. Gersie*

    *     Filed herewith.

    **    Incorporated  by  reference  to the exhibit with the same number filed
          with Principal Financial Group, Inc.'s Registration  Statement on Form
          S-1, as amended (Commission File No. 333-62558).

   ***    Incorporated  by reference to exhibit number 10.4 filed with Principal
          Financial Group,  Inc.'s Annual Report on Form 10-K for the year ended
          December 31, 2001, (Commission File No. 1-16725).

   ****   Incorporated by reference to exhibit number 10.11 filed with Principal
          Financial Group,  Inc.'s Quarterly Report on Form 10-Q for the quarter
          ended March 31, 2002, (Commission File No. 1-16725).

    b.    Reports on Form 8-K

          The Current  Report on Form 8-K (Item 9), dated  November 7, 2002, was
          filed November 7, 2002.

    c.    See Item 15(a)3.

    d.    See Item 15(a)2.

                                      163

                                   SIGNATURES

     Pursuant to the requirements of Section 13 or 15(d) of the Securities
     Exchange Act of 1934, the Registrant has duly caused this report to be
     signed on its behalf by the undersigned, thereunto duly authorized.

                                      PRINCIPAL FINANCIAL GROUP, INC.

     Dated:  March 5, 2003            By   /S/ MICHAEL H. GERSIE
                                           -------------------------------
                                           Michael H. Gersie
                                           Executive Vice President and Chief
                                             Financial Officer

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

     Dated:  March 5, 2003

By  /S/ MICHAEL H. GERSIE*                    By  /S/ MICHAEL H. GERSIE*
    -------------------------------               ----------------------
     J. Barry Griswell                             Charles S. Johnson
     Chairman, President, Chief                    Director
     Executive Officer and Director

By  /S/ MICHAEL H. GERSIE                     By  /S/ MICHAEL H. GERSIE*
    -------------------------------               ----------------------
     Michael H. Gersie                             William T. Kerr
     Executive Vice President and Chief            Director
      Financial Officer
     (Principal Financial Officer and
       Chief Accounting Officer)

By  /S/ MICHAEL H. GERSIE*                    By  /S/ MICHAEL H. GERSIE*
    -------------------------------               ----------------------
     Betsy J. Bernard                              Richard L. Keyser
     Director                                      Director

By  /S/ MICHAEL H. GERSIE*                    By  /S/ MICHAEL H. GERSIE*
    -------------------------------               ----------------------
     Jocelyn Carter-Miller                         Victor H. Loewenstein
     Director                                      Director

By  /S/ MICHAEL H. GERSIE*                    By  /S/ MICHAEL H. GERSIE*
    -------------------------------               ----------------------
     Gary E. Costley                               Federico F. Pena
     Director                                      Director

By  /S/ MICHAEL H. GERSIE*                    By  /S/ MICHAEL H. GERSIE*
    --------------------------------              ----------------------
     David J. Drury                                Donald M. Stewart
     Director                                      Director

By  /S/ MICHAEL H. GERSIE*                    By  /S/ MICHAEL H. GERSIE*
    --------------------------------              ----------------------
     C. Daniel Gelatt, Jr.                         Elizabeth E. Tallett
     Director                                      Director

By  /S/ MICHAEL H. GERSIE*
     Sandra L. Helton
     Director

    * ATTORNEY-IN-FACT AND AGENT

                                      164

               STATEMENT UNDER OATH OF PRINCIPAL EXECUTIVE OFFICER
                  REGARDING FACTS AND CIRCUMSTANCES RELATING TO
                              EXCHANGE ACT FILINGS

I, J. Barry Griswell, certify that:

1.   I have  reviewed  this annual  report on Form 10-K of  Principal  Financial
     Group, Inc.;

2.   Based on my  knowledge,  this  annual  report  does not  contain any untrue
     statement of a material fact or omit to state a material fact  necessary to
     make the statements  made, in light of the  circumstances  under which such
     statements  were made, not misleading with respect to the period covered by
     this annual report;

3.   Based on my  knowledge,  the  financial  statements,  and  other  financial
     information included in this annual report,  fairly present in all material
     respects the financial  condition,  results of operations and cash flows of
     the registrant as of, and for, the periods presented in this annual report;

4.   The  registrant's  other  certifying  officers  and I are  responsible  for
     establishing and maintaining disclosure controls and procedures (as defined
     in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

a)   designed such  disclosure  controls and  procedures to ensure that material
     information   relating  to  the  registrant,   including  its  consolidated
     subsidiaries,  is  made  known  to  us by  others  within  those  entities,
     particularly  during  the  period  in which  this  annual  report  is being
     prepared;

b)   evaluated the  effectiveness  of the registrant's  disclosure  controls and
     procedures  as of a date  within 90 days prior to the  filing  date of this
     annual report (the "Evaluation Date"); and

c)   presented in this annual report our conclusions  about the effectiveness of
     the disclosure  controls and  procedures  based on our evaluation as of the
     Evaluation Date;

5.   The registrant's other certifying  officers and I have disclosed,  based on
     our most recent  evaluation,  to the  registrant's  auditors  and the audit
     committee of  registrant's  board of directors (or persons  performing  the
     equivalent functions):

a)   all  significant  deficiencies  in the  design  or  operation  of  internal
     controls which could adversely affect the  registrant's  ability to record,
     process,  summarize and report  financial data and have  identified for the
     registrant's auditors any material weaknesses in internal controls; and

b)   any fraud,  whether or not  material,  that  involves  management  or other
     employees  who  have  a  significant  role  in  the  registrant's  internal
     controls; and

6.   The  registrant's  other  certifying  officers and I have indicated in this
     annual report whether there were significant  changes in internal  controls
     or in other  factors  that could  significantly  affect  internal  controls
     subsequent  to the  date  of our  most  recent  evaluation,  including  any
     corrective  actions with regard to  significant  deficiencies  and material
     weaknesses.

     Date:  March 5, 2003

                                                     /S/ J. BARRY GRISWELL
                                                     ---------------------------
                                                     J. Barry Griswell
                                                     Chairman, President and
                                                     Chief Executive Officer

                                      165

               STATEMENT UNDER OATH OF PRINCIPAL FINANCIAL OFFICER
                  REGARDING FACTS AND CIRCUMSTANCES RELATING TO
                              EXCHANGE ACT FILINGS

I, Michael H. Gersie, certify that:

1.   I have  reviewed  this annual  report on Form 10-K of  Principal  Financial
     Group, Inc.;

2.   Based on my  knowledge,  this  annual  report  does not  contain any untrue
     statement of a material fact or omit to state a material fact  necessary to
     make the statements  made, in light of the  circumstances  under which such
     statements  were made, not misleading with respect to the period covered by
     this annual report;

3.   Based on my  knowledge,  the  financial  statements,  and  other  financial
     information included in this annual report,  fairly present in all material
     respects the financial  condition,  results of operations and cash flows of
     the registrant as of, and for, the periods presented in this annual report;

4.   The  registrant's  other  certifying  officers  and I are  responsible  for
     establishing and maintaining disclosure controls and procedures (as defined
     in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

a)   designed such  disclosure  controls and  procedures to ensure that material
     information   relating  to  the  registrant,   including  its  consolidated
     subsidiaries,  is  made  known  to  us by  others  within  those  entities,
     particularly  during  the  period  in which  this  annual  report  is being
     prepared;

b)   evaluated the  effectiveness  of the registrant's  disclosure  controls and
     procedures  as of a date  within 90 days prior to the  filing  date of this
     annual report (the "Evaluation Date"); and

c)   presented in this annual report our conclusions  about the effectiveness of
     the disclosure  controls and  procedures  based on our evaluation as of the
     Evaluation Date;

5.   The registrant's other certifying  officers and I have disclosed,  based on
     our most recent  evaluation,  to the  registrant's  auditors  and the audit
     committee of  registrant's  board of directors (or persons  performing  the
     equivalent functions):

a)   all  significant  deficiencies  in the  design  or  operation  of  internal
     controls which could adversely affect the  registrant's  ability to record,
     process,  summarize and report  financial data and have  identified for the
     registrant's auditors any material weaknesses in internal controls; and

b)   any fraud,  whether or not  material,  that  involves  management  or other
     employees  who  have  a  significant  role  in  the  registrant's  internal
     controls; and

6.   The  registrant's  other  certifying  officers and I have indicated in this
     annual report whether there were significant  changes in internal  controls
     or in other  factors  that could  significantly  affect  internal  controls
     subsequent  to the  date  of our  most  recent  evaluation,  including  any
     corrective  actions with regard to  significant  deficiencies  and material
     weaknesses.

     Date:  March 5, 2003                            /S/ MICHAEL H. GERSIE
                                                    ----------------------------
                                                     Michael H. Gersie
                                                     Executive Vice President
                                                     and Chief Financial Officer

                                      166

REPORT OF INDEPENDENT AUDITORS ON SCHEDULES

The Board of Directors and Stockholders Principal Financial Group, Inc.

We have audited the  consolidated  financial  statements of Principal  Financial
Group,  Inc. (the Company) as of December 31, 2002 and 2001, and for each of the
three years in the period ended  December  31, 2002,  and have issued our report
thereon  dated  January 31, 2003  (included  elsewhere  in this Form 10-K).  Our
audits also included the financial  statement  schedules  listed in the Index at
Item 15(a) of this Form 10-K.  These  schedules  are the  responsibility  of the
Company's  management.  Our responsibility is to express an opinion based on our
audits. In our opinion,  the financial  statement  schedules  referred to above,
when considered in relation to the basic financial  statements taken as a whole,
present fairly in all material respects the information set forth therein.

                                                          /s/ Ernst & Young LLP
     Des Moines, Iowa
     January 31, 2003

                                      167

 SCHEDULE I - SUMMARY OF INVESTMENTS - OTHER THAN INVESTMENTS IN RELATED PARTIES
                             AS OF DECEMBER 31, 2002

                                                                                                        AMOUNT AS SHOWN
                                                                                                       IN THE STATEMENT
                                                                                                         OF FINANCIAL
     TYPE OF INVESTMENT                                              COST             VALUE                POSITION
- ------------------------------------------------------------------ -------------    --------------   ---------------------
                                                                             (IN MILLIONS)
                                                                                              
Fixed maturities, available-for-sale:
U.S. Treasury securities and obligations of U.S.
 government corporations and agencies........................        $     502.6    $       522.1      $          522.1
States, municipalities and political subdivisions............              399.2            426.4                 426.4
Foreign governments..........................................              595.5            659.9                 659.9
Public utilities.............................................            3,033.7          2,980.0               2,980.0
Convertibles and bonds with warrants attached................               73.2             74.6                  74.6
Redeemable preferred.........................................              406.8            410.6                 410.6
All other corporate bonds....................................           21,681.0         22,885.3              22,885.3
Mortgage-backed and other asset-backed securities............            5,819.6          6,226.8               6,226.8
                                                                     -------------  --------------   ---------------------
Total fixed maturities, available-for-sale...................           32,511.6         34,185.7              34,185.7

Fixed maturities, trading....................................               97.0            101.7                 101.7

Equity securities, available-for-sale Common stocks:
Banks, trust and insurance companies.........................               19.9             19.7                  19.7
Industrial, miscellaneous and all other......................               97.6             96.9                  96.9
Non-redeemable preferred stock...............................              263.5            262.1                 262.1
                                                                     -------------  --------------   --------------------
Total equity securities, available-for-sale..................              381.0            378.7                 378.7
Mortgage loans (1)...........................................           11,168.9             XXXX              11,081.9

Real estate, net:
Real estate acquired in satisfaction of debt(2)..............               22.9             XXXX                  21.0
Other real estate(2).........................................            1,225.4             XXXX               1,208.0
Policy loans.................................................              818.5             XXXX                 818.5
Other investments(3).........................................            1,065.2             XXXX               1,200.1
                                                                     -------------                   ---------------------
Total investments............................................        $  47,290.5             XXXX      $       48,995.6
                                                                     =============                   =====================

- ------------
(1)  The amount shown in the Statement of Financial  Position for mortgage loans
     differs  from  cost  as  commercial  and  residential  mortgage  loans  are
     generally  reported at cost  adjusted  for  amortization  of  premiums  and
     accrual  of  discounts,  computed  using the  interest  method,  and net of
     valuation differences.

(2)  The amounts  shown in the  Statement of Financial  Position for real estate
     differ from cost due to  properties  which were  determined to be impaired.
     The cost bases of these  properties are reduced to fair value.  Real estate
     expected to be disposed is carried at the lower of cost or fair value, less
     cost to sell, with valuation allowances established.

(3)  The  amount  shown  in  the  Statement  of  Financial  Position  for  other
     investments  differs from cost due to  accumulated  earnings  from minority
     interests in  unconsolidated  entities and  properties  owned  jointly with
     venture  partners  and operated by the  partners.  Other  investments  also
     includes derivatives and certain seed money investments, which are reported
     at fair value.

                                      168

    SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT ONLY)
                     ($ IN MILLIONS, EXCEPT PER SHARE DATA)

                         STATEMENT OF FINANCIAL POSITION

                                                                                 DECEMBER 31,
                                                                   ------------------------------------------
                                                                          2002                   2001
                                                                   -------------------    -------------------

ASSETS:
Cash..............................................                       $   332.1              $   37.1
Income taxes receivable...........................                             1.4                   0.2
Investment in subsidiary .........................                         6,333.7               6,783.2
                                                                   -------------------    -------------------
Total assets......................................                       $ 6,667.2              $6,820.5
                                                                   ===================    ===================
LIABILITIES AND STOCKHOLDERS' EQUITY:
LIABILITIES:
Amounts payable to subsidiary ....................                       $     1.6              $    0.2
Deferred income taxes.............................                             8.4                   -
                                                                   -------------------    -------------------
Total liabilities.................................                            10.0                   0.2

STOCKHOLDERS' EQUITY:
Common stock, par value $.01 per share - 2,500.0
million shares authorized, 376.7 million and
375.8 million shares issued, 334.4 million and
360.1 million shares outstanding in 2002 and 2001,
respectively......................................                             3.8                   3.8
Additional paid-in capital........................                         7,106.3               7,072.5
Retained earnings (deficit) ......................                            29.4                 (29.1)
Accumulated other comprehensive income.... .......                           635.8                 147.5
Treasury stock, at cost (42.3 million and 15.7
million shares in 2002 and 2001,
respectively).....................................
                                                                          (1,118.1)               (374.4)
                                                                   -------------------    -------------------
Total stockholders' equity........................                         6,657.2               6,820.3

                                                                   -------------------    -------------------
Total liabilities and stockholders' equity........                       $ 6,667.2              $6,820.5
                                                                   ===================    ===================

    SEE ACCOMPANYING NOTES.

                                      169

    SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT ONLY)
                                  (CONTINUED)
                                 ($ IN MILLIONS)
                             STATEMENT OF OPERATIONS

                                                                       YEAR ENDED               FOR THE PERIOD
                                                                        DECEMBER              OCTOBER 26 THROUGH
                                                                        31, 2002               DECEMBER 31, 2001
                                                                   ----------------------     -----------------------

REVENUES:
Net investment income .................................               $    4.0                    $  0.7
                                                                   ----------------------     -----------------------

Total revenues.........................................                    4.0                       0.7

EXPENSES:
Other operating costs and expenses ....................                    7.1                       0.3
                                                                   ----------------------     -----------------------
Total expenses.........................................                    7.1                       0.3
                                                                   ----------------------     -----------------------
Income (loss) before income taxes......................                   (3.1)                      0.4

Income taxes (benefits) ...............................                   (1.3)                      0.2
                                                                   ----------------------     -----------------------
Net income (loss) after taxes..........................                   (1.8)                      0.2
Equity in the net income (loss) of subsidiary..........                  144.1                     (29.3)
                                                                   ----------------------     -----------------------
Net income (loss)......................................               $  142.3                    $(29.1)
                                                                   ======================     =======================

    SEE ACCOMPANYING NOTES.

                                      170

    SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT ONLY)
                                   (CONTINUED)

                             STATEMENT OF CASH FLOWS
                                  (IN MILLIONS)

                                                                                                  FOR THE PERIOD
                                                                    YEAR ENDED DECEMBER         OCTOBER 26 THROUGH
                                                                         31, 2002               DECEMBER 31, 2001
                                                                   ----------------------     -----------------------

Net income (loss) ..........................................          $      142.3                $      (29.1)
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Equity in the net income (loss) of subsidiary ..............                (144.1)                       29.3
Increase in amounts payable to subsidiary...................                   1.4                         0.2
Increase (decrease) in income taxes.........................                   7.2                        (0.2)
Stock-based compensation....................................                   0.4                         -
                                                                   ----------------------     -----------------------
Net cash provided by operating activities...................                   7.2                         0.4

Cash flows from investing activities:
Capital contributed to subsidiary ..........................                   -                      (1,689.7)
Dividend received from subsidiary ..........................               1,100.0                        75.0
                                                                  ----------------------     -----------------------
Net cash provided by (used in) investing activities.                       1,100.0                    (1,614.7)

Cash flows from financing activities:
Issuance of common stock....................................                  22.0                     2,019.3
Dividends to stockholders...................................                 (83.8)                        -
Acquisition of treasury stock...............................                (750.4)                     (367.7)
                                                                   ----------------------     -----------------------
Net cash provided by (used in) financing activities.                        (812.2)                    1,651.6

Net increase in cash and cash equivalents...................                 295.0                        37.1

Cash and cash equivalents at beginning of period............                  37.1                         -
                                                                   ----------------------     -----------------------

Cash and cash equivalents at end of year....................          $      332.1                $       37.1
                                                                   ======================     =======================

     SEE ACCOMPANYING NOTES.

                                      171

    SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT ONLY)
               (CONTINUED) NOTES TO CONDENSED FINANCIAL STATEMENTS

(1) BASIS OF PRESENTATION

     The  accompanying   condensed  financial   statements  should  be  read  in
     conjunction with the consolidated financial statements and notes thereto of
     Principal Financial Group, Inc.

     In the  parent  company  only  financial  statements,  our  investments  in
     subsidiaries  are stated at cost plus equity in  undistributed  earnings of
     subsidiaries.

(2) CASH DIVIDENDS FROM SUBSIDIARY

     The parent company  received cash dividends  totaling  $1,100.0 million and
     $75.0 million in 2002 and 2001, respectively, from its subsidiary.

                                      172

               SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
  AS OF DECEMBER 31, 2002, 2001 AND 2000 AND FOR EACH OF THE YEARS THEN ENDED

                                                                   DEFERRED             FUTURE          CONTRACTHOLDER
                                                                    POLICY              POLICY            AND OTHER
                                                                  ACQUISITION         BENEFITS AND       POLICYHOLDER
     SEGMENT                                                        COSTS              CLAIMS               FUNDS
    ----------                                                   ---------------     --------------     ----------------
                                                                                     (IN MILLIONS)

2002:
U.S. Asset Management and Accumulation...................       $     501.7         $   6,956.3        $  24,985.6
International Asset Management and Accumulation..........              40.0             1,101.5               25.2
Life and Health Insurance................................             872.7             6,675.6            2,024.2
Mortgage Banking.........................................               -                   -                  -
Corporate and Other......................................               -                   3.0              (77.1)
                                                                ---------------     --------------       --------------
Total....................................................       $   1,414.4         $  14,736.4        $  26,957.9
                                                                ===============     ==============       ==============

2001:
U.S. Asset Management and Accumulation...................       $     411.6         $   6,463.2        $  23,421.7
International Asset Management and Accumulation..........              50.2             1,022.7               32.4
Life and Health Insurance................................             910.7             6,544.4            1,880.2
Mortgage Banking.........................................               -                   -                  -
Corporate and Other......................................               -                   4.3              (60.8)
                                                                ---------------     --------------       --------------
Total...................................................        $   1,372.5         $  14,034.6        $  25,273.5
                                                                ===============     ==============       ==============

2000:
U.S. Asset Management and Accumulation...................       $     368.9         $   6,065.5        $  23,046.1
International Asset Management and Accumulation..........              37.8               971.8               52.5
Life and Health Insurance................................             926.6             6,304.5            1,799.0
Mortgage Banking.........................................               -                   -                  -
Corporate and Other......................................               -                   4.2                -
                                                                ---------------     --------------       --------------
Total....................................................       $   1,333.3         $  13,346.0        $  24,897.6
                                                                ===============     ==============       ==============

                                      173

         SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION, (CONTINUED)
  AS OF DECEMBER 31, 2002, 2001 AND 2000 AND FOR EACH OF THE YEARS THEN ENDED

                                                                                                 AMORTIZATION
                                                                                    BENEFITS,     OF DEFERRED
                                                   PREMIUMS AND         NET        CLAIMS AND       POLICY          OTHER
                                                      OTHER         INVESTMENT     SETTLEMENT    ACQUISITION      OPERATING
SEGMENT                                           CONSIDERATIONS    INCOME (1)      EXPENSES        COSTS         EXPENSES(1)
- -------                                           --------------    ----------    ------------  -------------    -------------
                                                                           (IN MILLIONS)

2002:
U.S. Asset Management and Accumulation........    $      746.5      $ 2,352.8       $ 2,530.3     $    57.1        $  697.7
International Asset Management
   and Accumulation...........................           161.9          139.6           258.0           3.4            84.1
Life and Health Insurance.....................         2,973.4          660.2         2,433.4          84.0           750.4
Mortgage Banking..............................             -             99.8             -             -             908.2
Corporate and Other...........................             -             52.3            (4.8)          -              38.3
                                                  --------------    ----------    ------------  -------------    -------------
   Total  ....................................    $    3,881.8      $ 3,304.7       $ 5,216.9     $   144.5        $2,478.7
                                                  ==============    ==========    ============  =============    =============

2001:
U.S. Asset Management and Accumulation........    $      766.3      $ 2,400.4       $ 2,583.1     $    64.9        $  700.3
International Asset Management
   and Accumulation...........................           344.9          117.4           407.5           3.1            98.1
Life and Health Insurance.....................         3,011.1          678.6         2,491.0          91.9           740.7
Mortgage Banking..............................             -             31.1             -             -             552.3
Corporate and Other...........................             -            156.1             0.5           -              81.4
                                                  --------------    ----------    ------------  -------------    -------------
    Total ....................................    $    4,122.3      $ 3,383.6       $ 5,482.1     $   159.9        $2,172.8
                                                  ==============    ==========    ============  =============    =============

2000:
U.S. Asset Management and Accumulation........    $      525.4      $ 2,303.9       $ 2,310.6     $   123.7      $    619.5
International Asset Management
   and Accumulation...........................           220.5           89.2           262.2           2.0            98.8
Life and Health Insurance.....................         3,250.5          642.1         2,659.4         113.0           798.6
Mortgage Banking..............................             -            (15.7)            -             -             282.7
Corporate and Other...........................             -            138.1             0.1           -             170.7
                                                  --------------    ----------    ------------  -------------    -------------
   Total  ....................................    $    3,996.4      $ 3,157.6       $ 5,232.3     $   238.7      $  1,970.3
                                                  ==============    ==========    ============  =============    =============

(1)  Allocations of net  investment  income and certain  operating  expenses are
     based on a number of  assumptions  and  estimates,  and reported  operating
     results would change by segment if different methods were applied.

                                      174

                            SCHEDULE IV - REINSURANCE
   AS OF DECEMBER 31, 2002, 2001 AND 2000 AND FOR EACH OF THE YEARS THEN ENDED

                                                                                                               PERCENTAGE
                                                                     CEDED TO       ASSUMED                    OF AMOUNT
                                                      GROSS           OTHER        FROM OTHER      NET          ASSUMED TO
                                                     AMOUNT         COMPANIES      COMPANIES      AMOUNT            NET
                                                  -------------   -------------    -----------    --------     ---------------
                                                                                ($ IN MILLIONS)

2002:
Life insurance in force.......................    $   166,330.2   $    30,421.5    $   1,885.7    $  137,794.4        1.4%
                                                  =============   =============    ===========    ============

Premiums:
   Life insurance.............................    $     1,751.2   $        57.7    $     130.6    $    1,824.1        7.2%
   Accident and health insurance..............          2,328.9           271.2              -         2,057.7          -%
                                                  -------------   -------------    -----------    ------------
      Total...................................    $     4,080.1   $       328.9    $     130.6    $    3,881.8        3.4%
                                                  =============   =============    ===========    ============

2001:
Life insurance in force.......................    $   160,920.4   $    27,049.9    $   1,439.0    $  135,309.5        1.1%
                                                  =============   =============    ===========    ============

Premiums:
   Life insurance.............................    $     2,085.4   $        52.4    $      56.0    $    2,089.0        2.7%
   Accident and health insurance..............          2,244.5           211.2             -          2,033.3         -%
                                                  -------------   -------------    -----------    ------------
      Total...................................    $     4,329.9   $       263.6    $      56.0    $    4,122.3        1.4%
                                                  =============   =============    ===========    ============

2000:
Life insurance in force.......................    $   165,912.8   $    23,094.5    $   1,173.9    $  143,992.2        0.8%
                                                  =============   =============    ===========    ============

Premiums:
   Life insurance.............................    $     1,815.7   $        48.7    $      24.6    $    1,791.6        1.4%
   Accident and health insurance..............          2,326.4           121.6              -         2,204.8         -%
                                                  -------------   -------------    -----------    ------------
      Total...................................    $     4,142.1   $       170.3    $      24.6    $    3,996.4        0.6%
                                                  =============   =============    ===========    ============

                                      175

    EXHIBIT
    NUMBER                        DESCRIPTION                            Page
    2.1   Plan of Conversion**
    2.2   Share  Sale  Deed,  dated as of June 17,  1999,...........
          among BT  Investments (Australia)  LLC, BT Foreign
          Investment  Corporation,  BT New Zealand Limited, BT
          International (Delaware), Inc., BT Nominees (H.K.)Limited,
          Deutsche Bank AG, Bankers Trust Corporation, Principal
          Financial Group (Australia) Pty Limited and Principal
          Financial Services, Inc.**................................
    2.3   Deed to Amend the Share Sale Deed,  dated as of August
          31, 1999, among BT Investments (Australia) LLC, BT Foreign
          Investment Corporation,  BT New Zealand Limited,
          BT International  (Delaware),  Inc., BT Nominees (H.K.)
          Limited, Deutsche Bank AG, Bankers Trust Corporation,
          Principal Financial  Group  (Australia)  Pty  Limited
          and  Principal  Financial Services, Inc.**................
    2.4   Second  Amendment to the Share Sale Deed,  dated as
          of March 14, 2001, among  BT   Investments
          (Australia)   LLC,  BT  Foreign   Investment Corporation,
          Deutsche  New Zealand  Limited  (formerly  called BT New
          Zealand  Limited),  BT  International  (Delaware),  Inc.,
          DB Nominees (H.K.) Limited (formerly called BT Nominees
          (H.K.) Limited),  Deutsche Bank  AG,  Bankers  Trust
          Corporation,   Principal   Financial  Group (Australia)
          Pty Limited and Principal Financial Services, Inc.**......
    3.1   Form of Amended and Restated Certificate of
          Incorporation of Principal Financial Group, Inc.
          (included in Exhibit 2.1)**...............................
    3.2   Form of  By-Laws of  Principal  Financial  Group,
          Inc.  (included  in Exhibit 2.1)**........................
    4.1   Form of Certificate for the Common Stock of
          Principal Financial Group, Inc., par value $0.01 per
          share**...................................................
    4.2   Amended and Restated Stockholder Rights Agreement,
          dated as of October 22, 2001*.............................         178
    10.1  Principal Financial Group, Inc. Stock Incentive Plan**....
    10.2  Principal Financial Group Long-Term Performance Plan**....
    10.3  Resolution of the Human Resources Committee of the Board
          of Directors of Principal Financial Group, Inc. amending
          the Principal Financial Group Long-Term Performance Plan
          as of October 31, 2002*...................................         238
    10.4  Principal  Financial Group  Incentive Pay Plan............
          (PrinPay),  amended and restated effective January
          1, 2002***................................................
    10.5  Principal Financial Group, Inc. Directors Stock Plan**....
    10.6  Principal Select Savings Excess Plan**....................
    10.7  Supplemental Executive Retirement Plan for Employees**....
    10.8  Employment Agreement, dated as of May 19, 2000,
          among Principal Mutual Holding Company,  Principal
          Financial Group, Inc., Principal Financial Services,
          Inc.,  Principal  Life  Insurance  Company  and
          J.  Barry Griswell**......................................

                                      176

    10.9  Change-of-Control  Supplement  and Amendment to
          Employment  Agreement, dated as of October 19, 2000,
          among Principal Mutual Holding Company, Principal
          Financial Group, Inc.,  Principal Financial Services,
          Inc., Principal Life Insurance Company and J. Barry
          Griswell**................................................
    10.10 Form of Principal  Mutual Holding Company and Principal
          Life Insurance Company Change of Control  Employment
          Agreement (Tier One Executives) among Principal  Mutual
          Holding  Company,  Principal  Financial Group, Inc.,
          Principal  Financial Services,  Inc.,  Principal Life
          Insurance Company and an Executive**......................
    10.11 Compensatory Arrangement, dated as of March 14, 2002,
          between Princpal Life Insurance Company and James
          P. McCaughan.****.........................................
    10.12 Compensatory  Agreement,  dated as of 2001, between
          Principal Life Insurance Company and Michael T. Daley*....         239
    10.13 Fiscal Agency Agreement,  dated as of August 25, 1999,
          among Principal Financial Group (Australia) Holdings
          Pty Limited,  Principal Financial Services, Inc. and
          U.S. Bank Trust National Association**....................
    21    Principal  Financial  Group,  Inc. Member Companies as
          of December 31, 2001*.....................................         242
    23    Consent of Ernst & Young LLP*.............................         247
    24    Power of Attorney*........................................         248
    99.1  Certification  Pursuant  to Section  1350 of Chapter 63
          of Title 18 of the United States Code - J.
          Barry Griswell*...........................................         249
    99.2  Certification  Pursuant  to Section  1350 of Chapter 63
          of Title 18 of the United States Code - Michael
          H. Gersie*................................................         250

    *     Filed herewith.

    **    Incorporated  by  reference  to the exhibit with the same number filed
          with Principal Financial Group, Inc.'s Registration  Statement on Form
          S-1, as amended (Commission File No. 333-62558).

    ***   Incorporated  by reference to exhibit number 10.4 filed with Principal
          Financial Group,  Inc.'s Annual Report on Form 10-K for the year ended
          December 31, 2001, (Commission File No. 1-16725).

    ***** Incorporated by reference to exhibit number 10.11 filed with Principal
          Financial Group,  Inc.'s Quarterly Report on Form 10-Q for the quarter
          ended March 31, 2002, (Commission File No. 1-16725).

                                      177

                                                                     EXHIBIT 4.2

                              AMENDED AND RESTATED
                                RIGHTS AGREEMENT

Amended  and  Restated  Rights  Agreement,  dated as of  October  22,  2001 (the
"AGREEMENT"),  by and  between  Principal  Financial  Group,  Inc.,  a  Delaware
corporation (the "CORPORATION"),  and Mellon Investor Services LLC, a New Jersey
limited liability company,  as Rights Agent (the "RIGHTS AGENT"), as amended and
restated by this  amendment  dated  December 3, 2002 and effective as of October
22, 2001.

                              W I T N E S S E T H :

WHEREAS,  the  parties  hereto  have  agreed to amend  and  restate  the  Rights
Agreement dated as of October 22, 2001 (the "ORIGINAL RIGHTS AGREEMENT");

WHEREAS,  the parties intend,  nothwithstanding  such amendment and restatement,
that this Agreement continues to speak as of October 22, 2001;

NOW,   THEREFORE,   in   consideration  of  the  foregoing  and  the  respective
representations,  warranties,  covenants and  agreements  set forth herein,  the
parties  hereto,  effective  as October 22,  2001,  hereby amend and restate the
Original Rights Agreement in its entirety as follows:

WHEREAS,  the Board of Directors of the  Corporation has authorized the issuance
of one Right (as hereinafter  defined)  (subject to adjustment)  with respect to
each share of Common Stock (as hereinafter  defined) of the  Corporation  issued
between  October 22, 2001 (the  "RECORD  DATE")  (whether  originally  issued or
delivered from the  Corporation's  treasury) and the earlier of the Distribution
Date (as hereinafter  defined) or the Expiration  Date (as hereinafter  defined)
and,  to the extent  provided  in Section 22 hereof,  with  respect to each such
share issued after the Distribution  Date and prior to the Expiration Date, each
Right initially representing the right to purchase one one-thousandth of a share
of Series A Junior  Participating  Preferred Stock of the Corporation having the
rights and  preferences  set forth in the  Certificate of  Designation  attached
hereto as EXHIBIT A, upon the terms and  subject to the  conditions  hereinafter
set forth (the "RIGHTS");

NOW,  THEREFORE,  in  consideration  of the premises  and the mutual  agreements
herein set forth, the parties hereby agree as follows:

Section 1. CERTAIN  DEFINITIONS.  For purposes of this Agreement,  the following
terms have the meanings indicated:

(a)  "ACQUIRING  PERSON"  shall mean any Person who or which,  together with all
     Affiliates and Associates of such Person,  shall be the Beneficial Owner of

                                      178

     10% or  more  of the  shares  of  Common  Stock  of  the  Corporation  then
     outstanding,  but shall not include any Exempt Person.  Notwithstanding the
     foregoing:

     (i)  no Person  shall  become an  "ACQUIRING  PERSON"  as the  result of an
          acquisition  of shares of Common Stock by the  Corporation  which,  by
          reducing the number of shares of Common Stock  outstanding,  increases
          the proportionate  number of shares  Beneficially Owned by such Person
          to 10% or more of the shares of Common Stock of the  Corporation  then
          outstanding,  provided,  HOWEVER,  that if a Person  shall  become the
          Beneficial  Owner of 10% or more of the shares of Common  Stock of the
          Corporation by reason of share purchases by the Corporation and shall,
          after such share purchases by the  Corporation,  become the Beneficial
          Owner of any  additional  shares  of Common  Stock of the  Corporation
          (other than from the Corporation pursuant to a stock dividend or stock
          split),  then such Person shall be deemed to be an "ACQUIRING  PERSON"
          unless,  upon becoming the Beneficial Owner of such additional  shares
          of  Common  Stock  of the  Corporation,  such  Person  is not then the
          Beneficial  Owner of 10% or more of the shares of Common  Stock of the
          Corporation then outstanding;

     (ii) if the Board of Directors of the Corporation  determines in good faith
          that a Person who would otherwise be an "ACQUIRING  PERSON" has become
          such inadvertently  (including,  without limitation,  because (A) such
          Person was unaware that he or it  Beneficially  Owned a percentage  of
          Common  Stock  that  would  otherwise  cause  such  Person  to  be  an
          "ACQUIRING  PERSON" or (B) such  Person was aware of the extent of his
          or its  Beneficial  Ownership  but  had  no  actual  knowledge  of the
          consequences  of such  Beneficial  Ownership under this Agreement) and
          without  any  intention  of  changing  or  influencing  control of the
          Corporation,  and if  such  Person  as  promptly  as  practicable  has
          divested or divests  himself or itself of  Beneficial  Ownership  of a
          sufficient  number of shares of Common Stock so that such Person would
          no longer be an  "ACQUIRING  PERSON,"  then such  Person  shall not be
          deemed to be or to have become an "ACQUIRING  PERSON" for any purposes
          of this Agreement; and

     (iii)no Person shall become an  "ACQUIRING  PERSON" by virtue of beneficial
          ownership of Common Stock of the  Corporation by any Affiliate  and/or
          Associate of such Person,  which Affiliate  and/or Associate is deemed
          to be an Affiliate and/or Associate of such Person solely by reason of
          such  Affiliate  and/or  Associate  being a director or officer of the
          Corporation.

(b)  "ACT" shall have the meaning set forth in Section 9(c) hereof.

(c)  "ADJUSTMENT  SHARES" shall have the meaning set forth in Section  11(a)(ii)
     hereof.

                                      179

(d)  "AFFILIATE" and "ASSOCIATE," when used with reference to any Person,  shall
     have the  respective  meanings  ascribed to such terms in Rule 12b-2 of the
     General Rules and Regulations under the Securities Exchange Act of 1934, as
     amended (the "EXCHANGE ACT"), as in effect on the date of this Agreement.

(e)  "AGREEMENT" shall have the meaning set forth in the first paragraph hereof.

(f)  A Person shall be deemed the  "BENEFICIAL  OWNER" of and shall be deemed to
     "BENEFICIALLY OWN" any securities:

     (i)  which such Person or any of such Person's  Affiliates  or  Associates,
          directly or indirectly,  has the right to acquire  (whether such right
          is exercisable immediately or only after the passage of time) pursuant
          to any  agreement,  arrangement  or  understanding  (whether or not in
          writing), or upon the exercise of conversion rights,  exchange rights,
          rights, warrants or options, or otherwise;  PROVIDED,  HOWEVER, that a
          Person  shall  not  be  deemed  the  "BENEFICIAL   OWNER"  of,  or  to
          "BENEFICIALLY  OWN," (A) securities  tendered  pursuant to a tender or
          exchange  offer  made by or on  behalf  of such  Person or any of such
          Person's  Affiliates or Associates until such tendered  securities are
          accepted  for payment or exchange,  or (B)  securities  issuable  upon
          exercise  of Rights at any time prior to the  occurrence  of a Section
          11(a)(ii) Event or a Section 13 Event, or (C) securities issuable upon
          exercise  of  Rights  from  and  after  the  occurrence  of a  Section
          11(a)(ii)  Event or a Section 13 Event,  which Rights were acquired by
          such Person or any of such Person's  Affiliates or Associates prior to
          the Distribution Date or pursuant to Section 3(a) or Section 22 hereof
          ("ORIGINAL  RIGHTS") or pursuant to Section 11(i) hereof in connection
          with an adjustment made with respect to any Original Rights;

     (ii) which such Person or any of such Person's  Affiliates  or  Associates,
          directly or indirectly, has or shares the right to vote or dispose of,
          including  pursuant to any  agreement,  arrangement  or  understanding
          (whether or not in writing);  PROVIDED,  HOWEVER,  that a Person shall
          not be deemed the "BENEFICIAL OWNER" of, or to "BENEFICIALLY OWN," any
          security if the agreement,  arrangement or  understanding to vote such
          security (A) arises solely from a revocable  proxy or consent given in
          response to a public proxy or consent  solicitation  made pursuant to,
          and in accordance  with, the Exchange Act and the applicable rules and
          regulations  thereunder  and (B) is not also then  reportable  by such
          Person on Schedule 13D under the Exchange  Act (or any  comparable  or
          successor report); or

     (iii)which are  beneficially  owned,  directly or indirectly,  by any other
          Person and with  respect to which such Person or any of such  Person's

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          Affiliates   or  Associates   has  any   agreement,   arrangement   or
          understanding   (whether  or  not  in  writing)  for  the  purpose  of
          acquiring,  holding,  voting (except  pursuant to a revocable proxy or
          consent  as  described  in the  proviso to  subparagraph  (ii) of this
          paragraph  (f)) or disposing of such  securities  of the  Corporation;
          PROVIDED,  HOWEVER,  that nothing in this  paragraph (f) shall cause a
          person  engaged in business as an  underwriter of securities to be the
          "BENEFICIAL  OWNER"  of,  or to  "BENEFICIALLY  OWN,"  any  securities
          acquired  through such person's  participation in good faith in a firm
          commitment  underwriting  until the expiration of forty days after the
          date of such acquisition.

(g)  "BOOK-ENTRY" shall mean an uncertificated  book entry for the Corporation's
     Common Stock.

(h) "BUSINESS DAY" shall mean any day other than a Saturday,
     Sunday or day on which banking institutions in the City of New York, or the
     city in which the office of the Rights Agent is located,  is  authorized or
     obligated by law or executive order to close.

(i)  "CERTIFICATE  OF  DESIGNATION"  shall  mean  the  Form  of  Certificate  of
     Designation of Series A Junior Participating  Preferred Stock setting forth
     the  powers,   preferences,   rights,   qualifications,   limitations   and
     restrictions of such series of preferred stock of the  Corporation,  a copy
     of which is attached hereto as Exhibit A.

(j)  "CLOSE OF BUSINESS" on any given date shall mean 5:00 P.M.,  Eastern  time,
     on such date; PROVIDED,  HOWEVER,  that if such date is not a Business Day,
     it shall mean 5:00 P.M., Eastern time, on the next succeeding Business Day.

(k)  "COMMON STOCK" when used with reference to the  Corporation  shall mean the
     Common Stock, par value $0.01 per share, of the Corporation. "COMMON STOCK"
     when used with reference to any Person other than the Corporation  which is
     organized in corporate  form shall mean the capital stock with the greatest
     voting  power,  or the equity  securities or other equity  interest  having
     power to  control  or direct  the  management,  of such  Person or, if such
     Person is a  Subsidiary  of another  Person,  the Person  which  ultimately
     controls  such  first-mentioned  Person  and  which  has  issued  any  such
     outstanding capital stock,  equity securities or equity interests.  "COMMON
     STOCK" when used with  reference  to any Person  which is not  organized in
     corporate  form  shall mean units of  beneficial  interest  which (I) shall
     represent the right to  participate  generally in the profits and losses of
     such Person (including,  without limitation,  any flow-through tax benefits
     resulting  from an ownership  interest in such Person) and which (II) shall
     be entitled to exercise the greatest voting power of such Person or, in the
     case of a limited  partnership,  shall have the power to remove the general
     partner or partners.

(l)  "COMMON  STOCK  EQUIVALENTS"  shall have the  meaning  set forth in Section
     11(a)(iii) hereof.

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(m)  "CORPORATION"  shall have the meaning set forth in the first  paragraph  of
     this Agreement.

(n)  "CURRENT  MARKET  PRICE" shall have the meaning set forth in Section  11(d)
     hereof.

(o)  "CURRENT  VALUE"  shall have the  meaning  set forth in Section  11(a)(iii)
     hereof.

(p)  "DISTRIBUTION  DATE"  shall have the  meaning  specified  in  Section  3(a)
     hereof.

(q)  "EQUIVALENT  PREFERENCE  STOCK" shall have the meaning set forth in Section
     11(b) hereof.

(r)  "EXCHANGE ACT" shall have the meaning specified in Section 1(d) hereof.

(s)  "EXEMPT PERSON" means the  Corporation,  any Subsidiary of the Corporation,
     any  employee  benefit plan of the  Corporation  or any  Subsidiary  of the
     Corporation,  or any Person  organized,  appointed  or  established  by the
     Corporation or such  Subsidiary as a fiduciary for or pursuant to the terms
     of any such  employee  benefit  plan or for the purpose of funding any such
     plan or funding other employee benefits for employees of the Corporation or
     of any Subsidiary of the Corporation.

(t)  "EXPIRATION DATE" shall have the meaning specified in Section 7(a) hereof.

(u)  "FINAL  EXPIRATION  DATE" shall have the meaning  specified in Section 7(a)
     hereof.

(v)  "NASDAQ" shall have the meaning set forth in Section 11(d)(i) hereof.

(w)  "ORIGINAL  RIGHTS"  shall have the  meaning  specified  in Section  1(f)(i)
     hereof.

(x)  "ORIGINAL RIGHTS AGREEMENT" shall have the meaning set forth in the WHEREAS
     clause at the beginning of this Agreement.

(y)  "PERSON" shall mean any individual,  firm,  corporation,  limited liability
     company, association,  unincorporated organization,  partnership,  trust or
     other entity and shall  include any  successor  (by merger or otherwise) of
     such entity.

(z)  "PREFERRED  STOCK"  shall  mean  shares  of  Series A Junior  Participating
     Preferred Stock, par value $0.01 per share, of the Corporation,  having the

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     rights,  preferences  and  limitations  set  forth  in the  Certificate  of
     Designation, and, to the extent there are not a sufficient number of shares
     of Series A Junior  Participating  Preferred Stock authorized to permit the
     full exercise of the then outstanding Rights, any other series of preferred
     stock of the  Corporation  designated  for  such  purpose  by the  Board of
     Directors of the Corporation  containing terms substantially similar to the
     terms of the Series A Junior Participating Preferred Stock.

(aa) "PRINCIPAL PARTY" shall have the meaning set forth in Section 13(b) hereof.

(bb) "PURCHASE PRICE" shall have the meaning set forth in Section 4 hereof.

(cc) "RECORD DATE" shall have the meaning set forth in the WHEREAS clause at the
     beginning of this Agreement.

(dd) "REDEMPTION  PRICE"  shall  have the  meaning  set forth in  Section  23(a)
     hereof.

(ee) "RIGHT  CERTIFICATE"  shall  have the  meaning  set forth in  Section  3(a)
     hereof.

(ff) "RIGHTS"  shall have the  meaning  set forth in the  WHEREAS  clause at the
     beginning of this Agreement.

(gg) "RIGHTS  AGENT" shall have the meaning set forth in the first  paragraph of
     this Agreement.

(hh) "SECTION  11(A)(II)  EVENT"  shall  have the  meaning  set forth in Section
     11(a)(ii) hereof.

(ii) "SECTION  13 EVENT"  shall  have the  meaning  set forth in  Section  13(a)
     hereof.

(jj) "SPREAD" shall have the meaning set forth in Section 11(a)(iii) hereof.

(kk) "STOCK  ACQUISITION TIME" shall mean the time of occurrence of whichever of
     the following first occurs: (I) the first public  announcement  (which, for
     purposes of this definition,  shall include,  without limitation,  a report
     filed pursuant to Section 13(d) of the Exchange Act) by the  Corporation or
     an Acquiring  Person that an  Acquiring  Person has become such or (II) the
     communication to the Corporation  (including,  without  limitation,  to the
     directors of the Corporation) of any notice (including, without limitation,
     any written  consent or notice related  thereto) from the Acquiring  Person
     indicating or reflecting that the Acquiring Person has become such.

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(ll) "SUBSIDIARY"  shall mean,  with respect to any Person,  any  corporation or
     other  entity  of which  securities  or other  ownership  interests  having
     ordinary voting power sufficient, in the absence of contingencies, to elect
     a majority of the board of directors or other  persons  performing  similar
     functions are at the time beneficially  owned,  directly or indirectly,  by
     such Person, or otherwise controlled by such Person.

(mm) "SUBSTITUTION   PERIOD"  shall  have  the  meaning  set  forth  in  Section
     11(a)(iii) hereof.

(nn) "TRADING DAY" shall have the meaning set forth in Section 11(d)(i) hereof.

(oo) "VOTING STOCK" shall mean (I) the shares of Common Stock of the Corporation
     and (II) any other shares of capital stock of the  Corporation  entitled to
     vote  generally in the  election of directors or entitled to vote  together
     with the shares of Common  Stock in respect of any  merger,  consolidation,
     sale of all or substantially all of the Corporation's assets,  liquidation,
     dissolution or winding up.

Section 2.  APPOINTMENT OF RIGHTS AGENT.  The  Corporation  hereby  appoints the
Rights Agent to act as agent for the  Corporation  in accordance  with the terms
and conditions hereof, and the Rights Agent hereby accepts such appointment. The
Corporation  may  from  time to time act as  co-Rights  Agent  or  appoint  such
co-Rights  Agents as it may deem  necessary  or  desirable,  upon 10 days' prior
written  notice to the  Rights  Agent.  The Rights  Agent  shall have no duty to
supervise,  and shall in no event be liable for,  the acts or  omissions  of any
such  co-Rights  Agent.  Any  actions  which  may be taken by the  Rights  Agent
pursuant  to the  terms of this  Agreement  may be  taken by any such  Co-Rights
Agent.

Section 3. ISSUE OF RIGHT CERTIFICATES.

(a)  Until the earlier of the Close of Business  on (I) the tenth  Business  Day
     after the date on which  the Stock  Acquisition  Time  occurs,  or (II) the
     tenth Business Day (or such specified or unspecified later date on or after
     the Record Date as may be determined by action of the Board of Directors of
     the  Corporation  prior to such time as any  Person  becomes  an  Acquiring
     Person) after the  commencement by any Person (other than an Exempt Person)
     of, or the first public  announcement of the intention of any Person (other
     than an Exempt  Person)  to  commence,  a tender or  exchange  offer for an
     amount of Common Stock of the Corporation  which,  together with the shares
     of such stock already owned by such Person,  constitutes 10% or more of the
     outstanding Common Stock of the Corporation  (including any such date which
     is after  the date of this  Agreement  and  prior  to the  issuance  of the
     Rights)  (the  earlier  of (i) and (ii)  being  herein  referred  to as the
     "DISTRIBUTION  DATE"),  (X) the Rights  will be  evidenced  (subject to the
     provisions  of  paragraph  (b) of this Section 3) by the  Book-Entries,  or
     certificates,  for shares of Common Stock of the Corporation  registered in
     the names of the holders of Common Stock of the Corporation (which

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     Book-Entries, or certificates, for Common Stock of the Corporation shall be
     deemed  also  to be  certificates  for  Rights)  and not by  separate  Book
     Entries,  or Right  Certificates,  and (Y) the Rights will be  transferable
     only in connection  with the transfer of the  underlying  Common Stock.  As
     soon as practicable  after the Distribution Date and after the Rights Agent
     has been  provided with all  necessary  information,  the Rights Agent will
     send, by first-class,  insured, postage-prepaid mail, to each record holder
     of  Common  Stock of the  Corporation  as of the Close of  Business  on the
     Distribution  Date,  at the address of such holder  shown on the records of
     the Corporation, a Right Certificate,  in substantially the form of EXHIBIT
     B hereto (a "RIGHT  CERTIFICATE"),  evidencing  one Right for each share of
     Common Stock of the  Corporation so held,  subject to adjustment and to the
     provisions  of Section  14(a)  hereof.  As of the Close of  Business on the
     Distribution  Date,  the  Rights  will be  evidenced  solely by such  Right
     Certificates.

(b)  On the Record Date or as soon as practicable  thereafter,  the  Corporation
     will send a copy of a Summary of Rights to  Purchase  Preferred  Stock,  in
     substantially  the form  attached  hereto  as  EXHIBIT  C, by  first-class,
     postage-prepaid  mail,  to each record holder of its Common Stock as of the
     Close of Business on the Record  Date,  at the address of such holder shown
     on  the  records  of the  Corporation.  With  respect  to  Book-Entries  or
     certificates  for Common  Stock of the  Corporation  outstanding  as of the
     Record Date, until the earlier of the  Distribution  Date or the Expiration
     Date, the Rights will be evidenced by such Book-Entries or certificates for
     Common Stock together with the Summary of Rights.  Until the earlier of the
     Distribution  Date or the Expiration Date, the transfer of any Common Stock
     represented   by  a  Book-Entry  or  the  surrender  for  transfer  of  any
     certificate for Common Stock of the  Corporation  outstanding on the Record
     Date,  with  or  without  a copy  of the  Summary  of  Rights,  shall  also
     constitute  the  transfer of the Rights  associated  with the Common  Stock
     represented by such Book-Entry or certificate.

(c)  Certificates  issued by the Corporation for Common Stock (whether upon
     transfer of outstanding Common Stock, original issuance or disposition from
     the Corporation's  treasury) after the Record Date but prior to the earlier
     of the Distribution  Date or the Expiration Date shall also be deemed to be
     certificates  for the Rights  and shall  have  impressed  on,  printed  on,
     written on or otherwise affixed to them the following legend:

          This  certificate  also  evidences  and entitles the holder  hereof to
          certain  Rights  as  set  forth  in a  Rights  Agreement  between  the
          Corporation  and Mellon  Investor  Services LLC, a New Jersey  limited
          liability company,  as Rights Agent, as it may be amended from time to
          time  (the  "Rights  Agreement"),   the  terms  of  which  are  hereby
          incorporated herein by reference and a copy of which is on file at the
          principal   executive  offices  of  the  Corporation.   Under  certain
          circumstances,  as set forth in the Rights Agreement, such Rights will
          be evidenced by separate  certificates and will no longer be evidenced
          by this  certificate.  The Corporation will mail to the holder of this

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          certificate  a copy of the Rights  Agreement (as in effect on the date
          of mailing) without charge promptly after receipt of a written request
          therefor.   UNDER  CERTAIN  CIRCUMSTANCES  SET  FORTH  IN  THE  RIGHTS
          AGREEMENT,  RIGHTS  BENEFICIALLY  OWNED BY AN ACQUIRING PERSON, OR ANY
          ASSOCIATE  OR  AFFILIATE  THEREOF  (AS SUCH  TERMS ARE  DEFINED IN THE
          RIGHTS  AGREEMENT),  WHETHER  CURRENTLY  HELD BY OR ON  BEHALF OF SUCH
          PERSON OR BY ANY SUBSEQUENT HOLDER, MAY BECOME NULL AND VOID.

With respect to such  certificates  containing the foregoing  legend,  until the
earlier of (I) the  Distribution  Date or (II) the  Expiration  Date, the Rights
associated  with  the  Common  Stock  of the  Corporation  represented  by  such
certificates  shall be  evidenced  by such  certificates  alone  and  registered
holders of Common Stock of the Corporation shall also be the registered  holders
of the  associated  Rights,  and  the  surrender  for  transfer  of any of  such
certificates  shall also  constitute the transfer of the Rights  associated with
the Common Stock of the Corporation represented by such certificates.

Section 4. FORM OF RIGHT CERTIFICATES.  The Right Certificates (and the forms of
election to purchase,  certification and assignment to be printed on the reverse
thereof) shall each be  substantially  in the form set forth in EXHIBIT B hereto
and may have such  marks of  identification  or  designation  and such  legends,
summaries  or   endorsements   printed  thereon  as  the  Corporation  may  deem
appropriate,  which do not affect the rights,  duties or responsibilities of the
Rights Agent, and as are not inconsistent with the provisions of this Agreement,
or as may be  required  to comply  with any  applicable  law or with any rule or
regulation  made  pursuant  thereto or with any rule or  regulation of any stock
exchange  on which the Rights may from time to time be listed,  or to conform to
usage.  Subject  to the  provisions  of  Sections  11 and 22  hereof,  the Right
Certificates,  whenever distributed, shall be dated as of the Record Date and on
their face shall  entitle  the holders  thereof to  purchase  such number of one
one-thousandths  of a share of Preferred  Stock as shall be set forth therein at
the  price  per one  one-thousandths  of a share of  Preferred  Stock  set forth
therein  (the  "PURCHASE  PRICE"),   but  the  amount  and  type  of  securities
purchasable upon the exercise of each Right and the Purchase Price thereof shall
be subject to adjustment as provided in this Agreement.

Section 5. COUNTERSIGNATURE AND REGISTRATION.

(a)  The Right  Certificates  shall be  executed  on  behalf of the  Corporation
     manually or by facsimile by the Chief Financial Officer, the Treasurer, the
     Chief  Executive  Officer,  the President or the Senior Vice  President and
     General Counsel and also by the Chief Financial Officer, the Treasurer, the
     Secretary  or any  Assistant  Secretary.  The Right  Certificates  shall be
     countersigned  by the Rights Agent  manually and shall not be valid for any
     purpose unless so countersigned. In case any officer of the Corporation who
     shall have  signed  any of the Right  Certificates  shall  cease to be such
     officer of the Corporation before  countersignature by the Rights Agent and
     issuance  and  delivery  by  the  Corporation,   such  Right  Certificates,

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     nevertheless,  may be  countersigned  by the Rights  Agent,  and issued and
     delivered by the  Corporation  with the same force and effect as though the
     person who signed such Right Certificates had not ceased to be such officer
     of the  Corporation;  and any Right  Certificate may be signed on behalf of
     the  Corporation  by any person who, at the actual date of the execution of
     such Right  Certificate,  shall be a proper  officer of the  Corporation to
     sign such Right Certificate,  although at the date of the execution of this
     Rights Agreement any such person was not such an officer.

(b)  Following  the  Distribution  Date and  receipt by the Rights  Agent of all
     necessary  information,  the Rights Agent will keep or cause to be kept, at
     its  office  designated  for such  purpose,  books  in any  form or  medium
     (including  electronic  media) for  registration  and transfer of the Right
     Certificates  issued  hereunder.  Such  books  shall  show  the  names  and
     addresses of the respective holders of the Right  Certificates,  the number
     of Rights  evidenced by each of the Right  Certificates on its face and the
     date and certificate number of each of the Right Certificates.

Section 6. TRANSFER,  SPLIT UP, COMBINATION AND EXCHANGE OF RIGHT  CERTIFICATES;
MUTILATED, DESTROYED, LOST OR STOLEN RIGHT CERTIFICATES.

(a)  Subject to the provisions of Sections 7(e) and 14 hereof, at any time after
     the Close of  Business  on the  Distribution  Date,  and at or prior to the
     Close of Business on the Expiration  Date,  any Right  Certificate or Right
     Certificates  may be  transferred,  split up,  combined  or  exchanged  for
     another Right Certificate or Right  Certificates,  entitling the registered
     holder to  purchase a like  number of shares of  Preferred  Stock (or other
     securities, cash or assets, as the case may be) as the Right Certificate or
     Right Certificates  surrendered then entitled such holder (or former holder
     in the case of a transfer) to purchase.  Any registered  holder desiring to
     transfer,  split up,  combine or exchange  any Right  Certificate  or Right
     Certificates  shall make such  request in writing  delivered  to the Rights
     Agent, and shall surrender the Right  Certificate or Right  Certificates to
     be transferred, split up, combined or exchanged at the office of the Rights
     Agent  designated  for such  purpose.  Neither  the  Rights  Agent  nor the
     Corporation  shall be obligated to take any action  whatsoever with respect
     to  the  transfer  of any  such  surrendered  Right  Certificate  or  Right
     Certificates  until the  registered  holder shall have completed and signed
     the certificate  contained in the form of assignment on the reverse side of
     such Right  Certificate or Right  Certificates and shall have provided such
     additional  evidence  of the  identity of the  Beneficial  Owner (or former
     Beneficial  Owner) or Affiliates or Associates  thereof as the  Corporation
     shall  reasonably  request.  Thereupon  the Rights Agent shall,  subject to
     Sections 7(e) and 14 hereof, countersign and deliver to the Person entitled
     thereto a Right Certificate or Right  Certificates,  as the case may be, as
     so requested. The Corporation may require payment from the holders of Right
     Certificates  of a sum sufficient to cover any tax or  governmental  charge
     that may be imposed in connection with any transfer,  split up, combination
     or exchange of such Right Certificates. The Rights Agent shall have no duty

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     or  obligation  under  this  Section 6 unless  and  until it is  reasonably
     satisfied that all such taxes and/or charges have been paid in full.

(b)  Upon receipt by the Corporation and the Rights Agent of evidence reasonably
     satisfactory  to them of the loss,  theft,  destruction  or mutilation of a
     valid Right  Certificate,  and, in case of loss,  theft or destruction,  of
     indemnity  or  security  satisfactory  to them,  and  reimbursement  to the
     Corporation  and the Rights  Agent of all  reasonable  expenses  incidental
     thereto,  and upon  surrender to the Rights Agent and  cancellation  of the
     Right Certificate if mutilated,  the Corporation will execute and deliver a
     new   Right   Certificate   of  like   tenor  to  the   Rights   Agent  for
     countersignature  and delivery to the registered owner in lieu of the Right
     Certificate so lost, stolen, destroyed or mutilated.

Section 7. EXERCISE OF RIGHTS; PURCHASE PRICE; EXPIRATION DATE OF RIGHTS.

(a)  Subject  to  Section  7(e)  hereof,  the  registered  holder  of any  Right
     Certificate may exercise the Rights evidenced  thereby (except as otherwise
     provided  herein  including,   without  limitation,   the  restrictions  on
     exercisability set forth in Sections 9(c),  11(a)(iii) and 23(a) hereof) in
     whole or in part at any time after the Distribution  Date upon surrender of
     the  Right  Certificate,   with  the  form  of  election  to  purchase  and
     certificate on the reverse side thereof duly executed,  to the Rights Agent
     at the office of the Rights Agent  designated  for such  purpose,  together
     with payment of the Purchase Price for each one  one-thousandth  of a share
     of Preferred Stock as to which the Rights are exercised, at or prior to the
     earliest  of (I) the Close of  Business  on October  22,  2011 (the  "FINAL
     EXPIRATION  DATE"),  (II) the time at which  the  Rights  are  redeemed  as
     provided in Section 23 or (III) the time at which the Rights are  exchanged
     as provided in Section 24 (the earliest of (i), (ii) and (iii) being herein
     referred to as the "EXPIRATION DATE").

(b)  The  Purchase  Price for each one  one-thousandth  of a share of  Preferred
     Stock  issued  pursuant  to the  exercise  of a Right  shall  initially  be
     $100.00,  shall be subject to  adjustment  from time to time as provided in
     Sections  11 and 13 hereof  and  shall be  payable  in lawful  money of the
     United States of America in accordance with paragraph (c) below.

(c)  Except as otherwise  provided herein,  upon receipt of a Right  Certificate
     representing  exercisable Rights, with the form of election to purchase and
     certificate duly executed, accompanied by payment (in cash, or by certified
     bank check or money order payable to the order of the  Corporation)  of the
     Purchase Price for the Preferred Stock (or other shares,  securities,  cash
     or other assets, as the case may be) to be purchased and an amount equal to
     any applicable transfer tax required to be paid by the holder of the Rights
     pursuant  hereto in cash, or by certified bank check or money order payable

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     to the order of the Corporation, the Rights Agent shall, subject to Section
     20(k) hereof,  (I) (A) promptly  requisition from any transfer agent of the
     Preferred  Stock (or make  available,  if the Rights  Agent is the transfer
     agent for such shares)  certificates  for the number of shares of Preferred
     Stock to be purchased (and the Corporation  hereby  irrevocably  authorizes
     its  transfer  agent  to  comply  with all  such  requests),  or (B) if the
     Corporation  shall have  elected to deposit  the total  number of shares of
     Preferred  Stock  issuable  upon  exercise of the Rights  hereunder  with a
     depositary agent, requisition from the depositary agent depositary receipts
     representing  interests in such number of one one-thousandths of a share of
     Preferred Stock as are to be purchased (in which case  certificates for the
     shares of Preferred  Stock  represented by such receipts shall be deposited
     by the transfer agent with the depositary agent) and the Corporation hereby
     directs  the  depositary  agent to  comply  with  such  request,  (II) when
     appropriate, requisition from the Corporation the amount of cash to be paid
     in lieu of issuance of  fractional  shares in  accordance  with  Section 14
     hereof,  (III)  promptly after receipt of such  certificates  or depositary
     receipts,  cause  the  same to be  delivered  to or upon  the  order of the
     registered  holder of such Right  Certificate,  registered  in such name or
     names as may be designated by such holder, and (IV) when appropriate, after
     receipt, promptly deliver such cash in lieu of fractional shares to or upon
     the order of the registered holder of such Right Certificate.

(d)  In case the registered  holder of any Right Certificate shall exercise less
     than all the Rights evidenced thereby,  a new Right Certificate  evidencing
     Rights  equivalent to the Rights remaining  unexercised  shall be issued by
     the Rights  Agent and  delivered  to, or upon the order of, the  registered
     holder of such Right  Certificate,  registered in such name or names as may
     be  designated by such holder,  subject to the  provisions of Section 6 and
     Section 14 hereof.

(e)  Notwithstanding  anything in this Agreement to the contrary, from and after
     the first occurrence of a Section 11(a)(ii) Event, any Rights  beneficially
     owned by (I) an  Acquiring  Person  or any  Affiliate  or  Associate  of an
     Acquiring Person, (II) a transferee of any such Acquiring Person (or of any
     such Affiliate or Associate) who becomes a transferee  after such Acquiring
     Person becomes such or (III) a transferee of any such Acquiring  Person (or
     of any such  Affiliate or Associate)  who becomes a transferee  prior to or
     concurrently  with such  Acquiring  Person  becoming such and receives such
     Rights pursuant to either (A) a transfer (whether or not for consideration)
     from such Acquiring Person to holders of equity interests in such Acquiring
     Person or to any Person with whom such Acquiring  Person has any continuing
     agreement, arrangement or understanding regarding the transferred Rights or
     (B) a  transfer  which  the  Board  of  Directors  of the  Corporation  has
     determined is part of a plan,  arrangement or understanding  which has as a
     primary purpose or effect the avoidance of this Section 7(e),  shall become
     null and void  without  any  further  action,  and no holder of such Rights
     shall have any rights whatsoever with respect to such Rights, whether under
     any provision of this Agreement or otherwise.  The Corporation shall notify
     the  Rights  Agent  when  this  Section  7(e)  applies  and  shall  use all

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     reasonable  efforts to ensure that the  provisions of this Section 7(e) are
     complied with, but neither the  Corporation nor the Rights Agent shall have
     any  liability  to any holder of Right  Certificates  or other  Person as a
     result of the Corporation's failure to make any determinations with respect
     to an Acquiring Person or any of its Affiliates,  Associates or transferees
     hereunder.

(f)  Notwithstanding  anything in this  Agreement to the  contrary,  neither the
     Rights Agent nor the Corporation shall be obligated to undertake any action
     with  respect  to a  registered  holder of any Right  Certificate  upon the
     occurrence of any purported  transfer  pursuant to Section 6 or exercise as
     set forth in this  Section 7 unless such  registered  holder shall have (I)
     properly  completed  and  signed  the  certificate  following  the  form of
     assignment  or election to  purchase  set forth on the reverse  side of the
     Right  Certificate  surrendered  for such  assignment  or exercise and (II)
     provided such additional  evidence of the identity of the Beneficial  Owner
     (or former  Beneficial  Owner) or Affiliates  or Associates  thereof as the
     Corporation or the Rights Agent shall reasonably request.

Section  8.  CANCELLATION  AND  DESTRUCTION  OF RIGHT  CERTIFICATES.  All  Right
Certificates  surrendered  for the  purpose  of  exercise,  transfer,  split up,
combination or exchange  shall,  if surrendered to the  Corporation or to any of
its agents,  be delivered to the Rights  Agent for  cancellation  or in canceled
form, or, if  surrendered  to the Rights Agent,  shall be canceled by it, and no
Right Certificates shall be issued in lieu thereof except as expressly permitted
by any of the provisions of this Agreement. The Corporation shall deliver to the
Rights  Agent for  cancellation  and  retirement,  and the Rights Agent shall so
cancel and retire,  any other  Right  Certificate  purchased  or acquired by the
Corporation  otherwise  than upon the exercise  thereof.  The Rights Agent shall
deliver all canceled Right  Certificates  to the  Corporation,  or shall, at the
written request of the Corporation, destroy such canceled Right Certificates and
in  such  case  shall  deliver  a  certificate  of  destruction  thereof  to the
Corporation.

Section 9. RESERVATION AND AVAILABILITY OF CAPITAL STOCK.

(a)  The Corporation  covenants and agrees that it will cause to be reserved and
     kept available out of its authorized and unissued shares of Preferred Stock
     (and, following the occurrence of a Section 11(a)(ii) Event or a Section 13
     Event,  out of its authorized and unissued  shares of Common Stock or other
     securities  or  out  of  its  authorized  and  issued  shares  held  in its
     treasury),  the number of shares of  Preferred  Stock (and,  following  the
     occurrence of a Section 11(a)(ii) Event or a Section 13 Event, Common Stock
     of  the  Corporation  or  other  securities)  that,  as  provided  in  this
     Agreement,  will  be  sufficient  to  permit  the  exercise  in full of all
     outstanding Rights.

(b)  So long as the Preferred Stock (and,  following the occurrence of a Section
     11(a)(ii)  Event or a Section 13 Event,  Common Stock of the Corporation or
     other securities) issuable upon the exercise of Rights may be listed on any
     stock exchange,  the Corporation  shall use its best efforts to cause, from

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     and after such time as the Rights become  exercisable,  all shares reserved
     for such issuance to be listed on such  exchange  upon  official  notice of
     issuance upon such exercise.

(c)  The  Corporation  shall  use  its  best  efforts  to (I)  file,  as soon as
     practicable  following  the earliest  date after the first  occurrence of a
     Section 11(a)(ii) Event or a Section 13 Event in which the consideration to
     be  delivered  by the  Corporation  upon  exercise  of the  Rights has been
     determined in accordance with this Agreement,  or as soon as is required by
     law following  the  Distribution  Date, as the case may be, a  registration
     statement  under the Securities  Act of 1933, as amended (the "ACT"),  with
     respect to the  securities  purchasable  upon  exercise of the Rights on an
     appropriate  form,  (II)  cause  such  registration   statement  to  become
     effective  as soon as  practicable  after such  filing and (III) cause such
     registration  statement to remain effective (with a prospectus at all times
     meeting the  requirements  of the Act) until the earlier of (A) the date as
     of which the Rights are no longer  exercisable  for such securities and (B)
     the Expiration  Date. The Corporation  will also take such action as may be
     appropriate  under, or to ensure  compliance  with, the securities or "blue
     sky" laws of the various states in connection  with the  exercisability  of
     the Rights.  The  Corporation  may,  acting by  resolution  of its Board of
     Directors,  temporarily suspend, for a period of time not to exceed 90 days
     after  the date set  forth in  clause  (i) of the  first  sentence  of this
     Section 9(c), the exercisability of the Rights in order to prepare and file
     such  registration  statement and permit it to become  effective.  Upon any
     such  suspension,  the  Corporation  shall promptly notify the Rights Agent
     thereof  and  shall   issue  a  public   announcement   stating   that  the
     exercisability of the Rights has been temporarily  suspended,  as well as a
     public  announcement  (with prompt  notice  thereof to the Rights Agent) at
     such time as the  suspension  is no longer in effect.  Notwithstanding  any
     provision  of this  Agreement  to the  contrary,  the  Rights  shall not be
     exercisable in any  jurisdiction  if the requisite  qualifications  in such
     jurisdiction shall not have been obtained.

(d)  The  Corporation  covenants and agrees that it will take all such action as
     may be  necessary  to  ensure  that all one  one-thousandths  of a share of
     Preferred Stock (and, following the occurrence of a Section 11(a)(ii) Event
     or a Section 13 Event, Common Stock of the Corporation or other securities)
     delivered  upon  exercise of Rights  shall,  at the time of delivery of the
     certificates for such shares (subject to payment of the Purchase Price), be
     duly and validly authorized and issued and fully paid and nonassessable.

(e)  The Corporation  further covenants and agrees that it will pay when due and
     payable  any and all taxes and  charges  which may be payable in respect of
     the  issuance  or delivery  of the Right  Certificates  or of any shares of
     Preferred  Stock (or  shares of Common  Stock of the  Corporation  or other
     securities,  as  the  case  may  be)  upon  the  exercise  of  Rights.  The
     Corporation shall not, however,  be required to pay any tax or charge which
     may be payable in respect of any transfer or delivery of Right Certificates

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     to a Person  other than,  or the  issuance or delivery of  certificates  or
     depositary  receipts  for  shares of  Preferred  Stock (or shares of Common
     Stock of the Corporation or other securities, as the case may be) in a name
     other  than  that  of,  the  registered  holder  of the  Right  Certificate
     evidencing  Rights  surrendered  for  exercise  or to issue or deliver  any
     certificates  for  shares  of  Preferred  Stock  (or  Common  Stock  of the
     Corporation or other securities, as the case may be) or depositary receipts
     for  Preferred  Stock upon the exercise of any Rights until any such tax or
     charge  shall have been paid (any such tax or charge  being  payable by the
     holder of such Right  Certificate at the time of surrender) or until it has
     been  established  to the  Corporation's  satisfaction  that no such tax or
     charge is due.

Section  10.  PREFERRED  STOCK  RECORD  DATE.  Each  Person  in  whose  name any
certificate  for a number of one  one-thousandths  of a share of Preferred Stock
(or shares of Common Stock of the Corporation or other  securities,  as the case
may be) is issued upon the  exercise of Rights  shall for all purposes be deemed
to have become the holder of record of shares of  Preferred  Stock (or shares of
Common  Stock  of the  Corporation  or  other  securities,  as the  case may be)
represented thereby on, and such certificate shall be dated, the date upon which
the Right Certificate evidencing such Rights was duly surrendered and payment of
the Purchase  Price (and any  applicable  taxes or charges) was made;  PROVIDED,
HOWEVER, that if the date of such surrender and payment is a date upon which the
Corporation's  transfer books for the Preferred  Stock (or Common Stock or other
securities,  as the case may be) are closed, such Person shall be deemed to have
become the record holder of such shares  (fractional and otherwise) on, and such
certificate  shall be  dated,  the next  succeeding  Business  Day on which  the
Corporation's  transfer books for the Preferred  Stock (or Common Stock or other
securities,  as the case may be) are open.  Prior to the  exercise of the Rights
evidenced  thereby,  the holder of a Right  Certificate shall not be entitled to
any rights of a stockholder of the Corporation  with respect to shares for which
the Rights shall be exercisable,  including,  without  limitation,  the right to
vote, to receive dividends or other  distributions or to exercise any preemptive
rights,  and shall not be entitled to receive any notice of any  proceedings  of
the Corporation, except as provided herein.

Section 11. ADJUSTMENT OF PURCHASE PRICE, NUMBER AND KIND OF SHARES OR NUMBER OF
RIGHTS. The Purchase Price, the number and kind of shares, or fractions thereof,
covered  by each  Right and the  number of Rights  outstanding  are  subject  to
adjustment from time to time as provided in this Section 11.

(a)  (i) In the event the  Corporation  shall at any time after the date of this
     Agreement (A) declare or pay a dividend on the  Preferred  Stock payable in
     shares of Preferred  Stock,  (B) subdivide the outstanding  Preferred Stock
     into a greater number of shares, (C) combine or consolidate the outstanding
     Preferred  Stock into a smaller number of shares or (D) issue any shares of
     its capital stock in a  reclassification  of the Preferred Stock (including
     any such  reclassification  in connection with a consolidation or merger in

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     which the Corporation is the continuing or surviving  corporation),  except
     as otherwise  provided in Section 7(e) and this Section 11(a), the Purchase
     Price in effect at the time of the record date for such  dividend or of the
     effective date of such subdivision,  combination or  reclassification,  and
     the number and kind of shares of Preferred  Stock or capital stock,  as the
     case may be, issuable on such date,  shall be  proportionately  adjusted so
     that the holder of any Right exercised after such time shall be entitled to
     receive,  upon payment of the Purchase Price then in effect,  the aggregate
     number and kind of shares of Preferred  Stock or capital stock, as the case
     may be, which, if such Right had been exercised  immediately  prior to such
     date and at a time when the Preferred  Stock or capital stock,  as the case
     may be,  transfer books of the  Corporation  were open, he would have owned
     upon such exercise and been entitled to receive by virtue of such dividend,
     subdivision,  combination  or  reclassification.  If an event  occurs which
     would  require  an  adjustment  under both  Section  11(a)(i)  and  Section
     11(a)(ii)  hereof,  the  adjustment  provided for in this Section  11(a)(i)
     shall be in  addition  to,  and  shall be made  prior  to,  any  adjustment
     required pursuant to Section 11(a)(ii) hereof.

     (ii) In the event (a "SECTION  11(A)(II) EVENT") that any Person,  alone or
     together  with its  Affiliates  and  Associates,  shall become an Acquiring
     Person,  then each  holder  of a Right,  except  as  provided  below and in
     Section  7(e)  hereof,  shall  thereafter  have the right to receive,  upon
     exercise  thereof at the then current Purchase Price in accordance with the
     terms of this Agreement,  in lieu of a number of one  one-thousandths  of a
     share of  Preferred  Stock,  such  number of shares of Common  Stock of the
     Corporation as shall equal the result  obtained by (X) multiplying the then
     current Purchase Price by the number of one  one-thousandths  of a share of
     Preferred Stock for which a Right was exercisable  immediately prior to the
     first occurrence of such Section 11(a)(ii) Event, whether or not such Right
     was then exercisable,  and (Y) dividing that product (which, following such
     first occurrence, shall thereafter be adjusted as appropriate in accordance
     with Section 11(f) hereof and, as so adjusted,  shall be referred to as the
     "PURCHASE  PRICE" for each Right and for all purposes of this Agreement) by
     50% of the  Current  Market  Price  per  share of the  Common  Stock of the
     Corporation  on the date of such first  occurrence  (such  number of shares
     being hereinafter referred to as the "ADJUSTMENT SHARES").  The Corporation
     shall  notify  the  Rights  Agent as to any  Persons  who are deemed by the
     Corporation  to  be  Acquiring   Persons  or   Associates,   Affiliates  or
     transferees (as described in  subparagraphs  (ii) and (iii) of Section 7(e)
     hereof) of such Persons and shall identify any Rights pertaining thereto.

     (iii)In  lieu of  issuing  shares of  Common  Stock of the  Corporation  in
     accordance  with  Section  11(a)(ii)  hereof,  the  Corporation,  acting by
     resolution  of its Board of  Directors,  may,  and,  in the event  that the
     number of shares of Common Stock which are authorized by the  Corporation's
     Certificate of  Incorporation  but not outstanding or reserved for issuance
     for purposes  other than upon exercise of the Rights are not  sufficient to
     permit exercise in full of the Rights in accordance with Section  11(a)(ii)
     hereof, the Corporation, acting by

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          resolution of its Board of  Directors,  shall (A) determine the excess
          of (1) the value of the Adjustment  Shares  issuable upon the exercise
          of a  Right  (the  "CURRENT  VALUE"),  over  (2)  the  Purchase  Price
          attributable  to each Right (such  excess,  the "SPREAD") and (B) with
          respect to each Right (subject to Section 7(e) hereof),  make adequate
          provision to substitute for all or any part of the Adjustment  Shares,
          upon  payment  of the  applicable  Purchase  Price,  (1)  cash,  (2) a
          reduction in the Purchase  Price,  (3) Preferred Stock or other equity
          securities of the Corporation (including,  without limitation, shares,
          or units of shares, of preferred stock which the Board of Directors of
          the  Corporation has deemed to have the same value as shares of Common
          Stock of the  Corporation  (such Preferred Stock or shares or units of
          preferred stock hereinafter called "COMMON STOCK  EQUIVALENTS")),  (4)
          debt  securities  of the  Corporation,  (5)  other  assets  or (6) any
          combination of the foregoing, which, when combined with the Adjustment
          Shares  (if any) to be issued,  has an  aggregate  value  equal to the
          Current  Value,  where such  aggregate  value has been  determined  by
          action of the Board of  Directors  of the  Corporation  based upon the
          advice of a nationally  recognized investment banking firm selected by
          the Board of Directors of the Corporation;  PROVIDED,  HOWEVER, if the
          Corporation  shall not have made  adequate  provision to deliver value
          pursuant  to clause  (B)  above  within  30 days  following  the first
          occurrence of a Section 11(a)(ii) Event, then the Corporation shall be
          obligated to deliver,  upon the  surrender for exercise of a Right and
          without  requiring  payment of the  Purchase  Price,  shares of Common
          Stock of the  Corporation  (to the  extent  available)  and  then,  if
          necessary, cash, which shares or cash have an aggregate value equal to
          the Spread. If, after the occurrence of a Section 11(a)(ii) Event, the
          number  of  shares  of  Common  Stock  that  are   authorized  by  the
          Corporation's  certificate  of  incorporation  but not  outstanding or
          reserved for issuance  for  purposes  other than upon  exercise of the
          Rights are not sufficient to permit  exercise in full of the Rights in
          accordance with Section  11(a)(ii) hereof and the Corporation,  acting
          by resolution of its Board of Directors, shall determine in good faith
          that it is likely  that  sufficient  additional  shares of its  Common
          Stock could be  authorized  for issuance  upon exercise in full of the
          Rights,  the 30 day  period  set forth  above may be  extended  to the
          extent  necessary,  but not more than 90 days after the  occurrence of
          such Section  11(a)(ii)  Event, in order that the Corporation may seek
          stockholder  approval for the  authorization of such additional shares
          (such period as it may be extended, the "SUBSTITUTION PERIOD"). To the
          extent that the Corporation determines that some action is to be taken
          pursuant to the terms of this Section 11(a)(iii),  the Corporation (X)
          shall provide,  subject to Section 7(e) hereof, that such action shall
          apply  uniformly  to all  outstanding  Rights and (Y) may  suspend the
          exercisability  of the Rights until the expiration of the Substitution
          Period  in  order  to  seek   such   stockholder   approval   for  the
          authorization  of additional  shares or to decide the appropriate form
          of  distribution  to be made  pursuant  to the first  sentence of this
          Section 11(a)(iii) and to determine the value thereof. In the event of
          any such suspension,  the Corporation shall promptly notify the Rights
          Agent thereof and shall issue a public  announcement  stating that the
          exercisability of the Rights has been temporarily  suspended,  as well
          as a public  announcement  (with prompt  notice  thereof to the Rights
          Agent) at such time as the  suspension  is no  longer in  effect.  For
          purposes of this Section 11(a)(iii),  the value of the Common Stock of

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          the  Corporation  shall be the Current  Market  Price per share of the
          Common Stock of the Corporation on the date of the first occurrence of
          the Section  11(a)(ii)  Event,  and the per share or per unit value of
          any  Common  Stock  Equivalents  shall be deemed to equal the  Current
          Market Price per share of the Common Stock of the  Corporation on such
          date.

(b)  In the event that the Corporation  shall fix a record date for the issuance
     of rights,  options or warrants to all holders of shares of Preferred Stock
     entitling  them (for a period  expiring  within 45 calendar days after such
     record date) to subscribe for or purchase Preferred Stock (or shares having
     the same  rights,  privileges  and  preferences  as the shares of Preferred
     Stock  ("EQUIVALENT  PREFERENCE  STOCK")) or  securities  convertible  into
     shares of Preferred  Stock or  Equivalent  Preference  Stock at a price per
     share of  Preferred  Stock or  Equivalent  Preference  Stock  (or  having a
     conversion  price per  share,  if a  security  convertible  into  shares of
     Preferred  Stock or  Equivalent  Preference  Stock)  less than the  Current
     Market Price per share of the Preferred Stock (as defined in Section 11(d))
     on such record date,  the Purchase  Price to be in effect after such record
     date  shall be  determined  by  multiplying  the  Purchase  Price in effect
     immediately prior to such record date by a fraction, the numerator of which
     shall be the number of shares of Preferred Stock outstanding on such record
     date  plus the  number  of  additional  shares of  Preferred  Stock  and/or
     Equivalent Preference Stock which the aggregate offering price of the total
     number of shares so to be offered (and/or the aggregate initial  conversion
     price of the  convertible  securities so to be offered)  would  purchase at
     such Current Market Price, and the denominator of which shall be the number
     of shares of  Preferred  Stock  outstanding  on such  record  date plus the
     number of additional  shares of Preferred  Stock or  Equivalent  Preference
     Stock to be  offered  for  subscription  or  purchase  (or into  which  the
     convertible securities so to be offered are initially convertible). In case
     such subscription price may be paid in a consideration part or all of which
     shall be in a form other than cash, the value of such  consideration  shall
     be  as  determined  in  good  faith  by  the  Board  of  Directors  of  the
     Corporation,  whose  determination  shall be described in a statement filed
     with the  Rights  Agent  and shall be  conclusive  for all  purposes.  Such
     adjustment shall be made successively whenever such a record date is fixed;
     and in the event that such  rights,  options or warrants are not so issued,
     the Purchase  Price shall be adjusted to be the Purchase  Price which would
     then be in effect if such record date had not been fixed.

(c)  In case the  Corporation  shall  fix a  record  date  for the  making  of a
     distribution  to  all  holders  of  Preferred  Stock  (including  any  such
     distribution made in connection with a consolidation or merger in which the
     Corporation  is the  continuing or surviving  corporation)  of evidences of
     indebtedness  or assets  (other than a regular  periodic cash dividend or a
     dividend  payable in Preferred Stock, but including any dividend payable in
     stock  other  than  Preferred  Stock) or  subscription  rights or  warrants
     (excluding  those referred to in Section 11(b) hereof),  the Purchase Price
     to be in effect after such record date shall be determined  by  multiplying
     the  Purchase  Price in effect  immediately  prior to such record date by a

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     fraction,  the  numerator  of which shall be the Current  Market  Price per
     share of Preferred  Stock on such record  date,  less the fair market value
     (as determined in good faith by the Board of Directors of the  Corporation,
     whose determination shall be described in a statement filed with the Rights
     Agent and shall be  conclusive  for all  purposes)  of the  portion  of the
     assets  or  evidences  of  indebtedness  so to be  distributed  or of  such
     subscription rights or warrants applicable to one share of Preferred Stock,
     and the  denominator  of which shall be such Current Market Price per share
     of Preferred Stock. Such adjustments  shall be made  successively  whenever
     such a record date is fixed, and in the event that such distribution is not
     so made,  the  Purchase  Price shall  again be adjusted to be the  Purchase
     Price which would then be in effect if such record date had not been fixed.

(d)  (i) For the  purpose of any  computation  hereunder,  the  "CURRENT  MARKET
     PRICE" per share of Common  Stock of the  Corporation  on any date shall be
     deemed to be the  average  of the daily  closing  prices  per share of such
     Common  Stock  of the  Corporation  for  the 30  consecutive  Trading  Days
     immediately prior to, but not including, such date; PROVIDED, HOWEVER, that
     in the event that the Current Market Price per share of Common Stock of the
     Corporation is determined during a period following the announcement by the
     issuer of such  Common  Stock of (A) a  dividend  or  distribution  on such
     Common  Stock  payable  in  shares  of  such  Common  Stock  or  securities
     convertible  into such  Common  Stock  (other  than the  Rights) or (B) any
     subdivision,  combination  or  reclassification  of such Common Stock,  and
     prior to the expiration of the 30 Trading Days after the  ex-dividend  date
     for such dividend or distribution, or the record date for such subdivision,
     combination or reclassification, as the case may be, then, and in each such
     case, the Current Market Price shall be appropriately adjusted to take into
     account the  ex-dividend  trading.  The closing price for each day shall be
     the last sale price,  regular  way, or, in case no such sale takes place on
     such day, the average of the closing bid and asked prices,  regular way, in
     either case as reported in the principal consolidated transaction reporting
     system with respect to securities  listed or admitted to trading on the New
     York Stock  Exchange or, if the shares of Common  Stock of the  Corporation
     are not listed or  admitted to trading on the New York Stock  Exchange,  as
     reported in the principal  consolidated  transaction  reporting system with
     respect to securities listed on the principal national  securities exchange
     on which the  shares  of  Common  Stock of the  Corporation  are  listed or
     admitted  to trading or, if the shares of Common  Stock of the  Corporation
     are not listed or admitted to trading on any national securities  exchange,
     the last quoted price or, if not so quoted, the average of the high bid and
     low  asked  prices  in the  over-the-counter  market,  as  reported  by the
     National  Association  of Securities  Dealers  Automated  Quotation  System
     ("NASDAQ")  or such other  system then in use,  or, if on any such date the
     shares  of  Common  Stock of the  Corporation  are not  quoted  by any such
     organization,  the average of the closing bid and asked prices as furnished
     by a professional market maker making a market in shares of Common Stock of

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     the Corporation  selected by the  Corporation,  acting by resolution of the
     Board of  Directors of the  Corporation,  or, if on any such date no market
     maker is making a market in shares of Common Stock of the Corporation,  the
     fair value of such shares on such date as  determined  in good faith by the
     Corporation,  acting  by  resolution  of  the  Board  of  Directors  of the
     Corporation  (which  determination  shall be described in a statement filed
     with the Rights Agent and shall be conclusive for all  purposes).  The term
     "TRADING DAY" shall mean a day on which the principal  national  securities
     exchange on which the shares of Common Stock of the  Corporation are listed
     or admitted to trading is open for the  transaction  of business or, if the
     shares of Common  Stock of the  Corporation  are not listed or  admitted to
     trading on any national securities exchange, a Business Day.

     (ii) For the purpose of any  computation  hereunder,  the  "CURRENT  MARKET
     PRICE" per share of Preferred  Stock shall be determined in the same manner
     as set forth for the Common Stock of the  Corporation  in Section  11(d)(i)
     hereof (other than the last clause of the second sentence thereof).  If the
     Current  Market Price per share of Preferred  Stock cannot be determined in
     the manner provided above or if the Preferred Stock is not publicly held or
     listed or traded in a manner  described  in Section  11(d)(i)  hereof,  the
     Current  Market  Price per share of Preferred  Stock shall be  conclusively
     deemed to be an amount  equal to 1000 (as such number may be  appropriately
     adjusted   for  such  events  as  stock   splits,   stock   dividends   and
     recapitalizations  with  respect  to the  Common  Stock of the  Corporation
     occurring  after  the date of this  Agreement)  multiplied  by the  Current
     Market Price per share of the Common Stock of the  Corporation.  If neither
     the Common Stock of the  Corporation  nor the  Preferred  Stock is publicly
     held or so  listed  or  traded,  the  Current  Market  Price  per  share of
     Preferred  Stock shall mean the fair value per share as  determined in good
     faith by the  Corporation,  acting by resolution of its Board of Directors,
     whose  determination  shall be described  in a statement  filed with Rights
     Agent and shall be conclusive  for all  purposes.  For all purposes of this
     Agreement,  the Current  Market Price of one  one-thousandth  of a share of
     Preferred  Stock shall be equal to the Current Market Price of one share of
     Preferred Stock divided by 1000.

(e)  Anything  herein to the  contrary  notwithstanding,  no  adjustment  in the
     Purchase Price shall be required  unless such  adjustment  would require an
     increase or decrease of at least 1% in such price; PROVIDED,  HOWEVER, that
     any  adjustments  which by reason of this Section 11(e) are not required to
     be made shall be carried  forward and taken into account in any  subsequent
     adjustment.  All  calculations  under this  Section 11 shall be made to the
     nearest cent or to the nearest ten-thousandth of a share of Common Stock or
     other share or the nearest  one-millionth of a share of Preferred Stock, as
     the case may be.  Notwithstanding the first sentence of this Section 11(e),
     any adjustment  required by this Section 11 shall be made no later than the
     earlier of (I) three years from the date of the transaction  which mandates
     such adjustment or (II) the Expiration Date.

(f)  If as a result of an  adjustment  made pursuant to Section 11(a) or Section
     13(a) hereof,  the holder of any Right  thereafter  exercised  shall become
     entitled to receive any shares of capital  stock of the  Corporation  other
     than Preferred Stock,  thereafter the Purchase Price and the number of such
     other shares so  receivable  upon exercise of any Right shall be subject to

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     adjustment from time to time in a manner and on terms as nearly  equivalent
     as  practicable  to the  provisions  with  respect to the  Preferred  Stock
     contained in Sections 11(a), (b), (c), (e), (g), (h), (i), (j), (k) and (m)
     inclusive,  and the provisions of Sections 7, 9, 10, 13 and 14 with respect
     to the Preferred  Stock shall apply on like terms to any such other shares;
     PROVIDED,  HOWEVER,  that  the  Corporation  shall  not be  liable  for its
     inability to reserve and keep  available  for issuance upon exercise of the
     Rights pursuant to Section 11(a)(ii) a number of shares of its Common Stock
     greater than the number then authorized by the Certificate of Incorporation
     of the Corporation but not outstanding or reserved for any other purpose.

(g)  All  Rights  originally  issued  by  the  Corporation   subsequent  to  any
     adjustment made to the Purchase Price hereunder shall evidence the right to
     purchase, at the adjusted Purchase Price, the number of one one-thousandths
     of a share of Preferred Stock  purchasable from time to time hereunder upon
     exercise  of the  Rights,  all  subject to further  adjustment  as provided
     herein.

(h)  Unless the  Corporation  shall have  exercised  its election as provided in
     Section  11(i),  upon each  adjustment of the Purchase Price as a result of
     the  calculations  made in Section  11(b) and (c),  each Right  outstanding
     immediately  prior  to the  making  of  such  adjustment  shall  thereafter
     evidence the right to purchase, at the adjusted Purchase Price, that number
     of one  one-thousandths  of a share of Preferred  Stock  (calculated to the
     nearest  one-millionth  of a share  of  Preferred  Stock)  obtained  by (I)
     multiplying (A) the number of one  one-thousandths  of a share covered by a
     Right immediately prior to such adjustment of the Purchase Price by (B) the
     Purchase  Price  in  effect  immediately  prior to such  adjustment  of the
     Purchase  Price and (II)  dividing  the product so obtained by the Purchase
     Price in effect immediately after such adjustment of the Purchase Price.

(i)  The  Corporation  may elect on or after the date of any  adjustment  of the
     Purchase  Price to adjust  the number of Rights,  in  substitution  for any
     adjustment  in the number of one  one-thousandths  of a share of  Preferred
     Stock  purchasable  upon  the  exercise  of a  Right.  Each  of the  Rights
     outstanding  after  such  adjustment  of the  number  of  Rights  shall  be
     exercisable for the number of one  one-thousandths  of a share of Preferred
     Stock  for  which  a  Right  was  exercisable  immediately  prior  to  such
     adjustment.  Each  Right  held of record  prior to such  adjustment  of the
     number of Rights  shall  become  that number of Rights  (calculated  to the
     nearest one-hundred-thousandth)  obtained by dividing the Purchase Price in
     effect  immediately  prior  to  adjustment  of the  Purchase  Price  by the
     Purchase  Price in effect  immediately  after  adjustment  of the  Purchase
     Price. The Corporation shall make a public announcement and promptly notify
     the Rights Agent of its election to adjust the number of Rights, indicating
     the record date for the  adjustment,  and, if known at the time, the amount
     of the adjustment to be made. This record date may be the date on which the
     Purchase  Price  is  adjusted  or any day  thereafter,  but,  if the  Right
     Certificates  have been  issued,  shall be at least 10 days  later than the
     date of the public  announcement.  If Right  Certificates have been issued,

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     upon each  adjustment  of the  number of Rights  pursuant  to this  Section
     11(i),  the  Corporation  shall,  as promptly as  practicable,  cause to be
     distributed to holders of record of Right  Certificates on such record date
     Right Certificates evidencing, subject to Section 14 hereof, the additional
     Rights  to which  such  holders  shall  be  entitled  as a  result  of such
     adjustment,  or,  at the  option  of the  Corporation,  shall  cause  to be
     distributed to such holders of record in  substitution  and replacement for
     the  Right  Certificates  held  by  such  holders  prior  to  the  date  of
     adjustment, and upon surrender thereof, if required by the Corporation, new
     Right Certificates evidencing all the Rights to which such holders shall be
     entitled after such  adjustment.  Right  Certificates  so to be distributed
     shall be issued,  executed  and  countersigned  in the manner  provided for
     herein  (and may bear,  at the  option  of the  Corporation,  the  adjusted
     Purchase  Price)  and shall be  registered  in the names of the  holders of
     record of Right  Certificates  on the record date  specified  in the public
     announcement.

(j)  Irrespective  of any  adjustment  or  change in the  Purchase  Price or the
     number of shares of Preferred Stock, or fraction thereof, issuable upon the
     exercise of the Rights, the Right  Certificates  theretofore and thereafter
     issued may continue to express the Purchase Price per one one-thousandth of
     a share and the number of shares which were  expressed in the initial Right
     Certificates issued hereunder.

(k)  Before  taking  any action  that would  cause an  adjustment  reducing  the
     Purchase Price below the then par value, if any, of the one  one-thousandth
     of a share of Preferred  Stock  issuable upon  exercise of the Rights,  the
     Corporation  shall take any  corporate  action which may, in the opinion of
     its counsel,  be necessary  in order that the  Corporation  may validly and
     legally  issue fully paid and  nonassessable  shares of Preferred  Stock at
     such adjusted Purchase Price.

(l)  In any case in which this Section 11 shall  require that an  adjustment  in
     the  Purchase  Price be made  effective as of a record date for a specified
     event,  the  Corporation  may elect to defer (and shall promptly notify the
     Rights Agent on any such  election)  until the occurrence of such event the
     issuing to the holder of any Right  exercised  after such  record  date the
     Preferred  Stock,  or a  fraction  thereof,  and  other  capital  stock  or
     securities of the Corporation, if any, issuable upon such exercise over and
     above the  Preferred  Stock and other  capital  stock or  securities of the
     Corporation,  if any,  issuable  upon  such  exercise  on the  basis of the
     Purchase Price in effect prior to such adjustment;  PROVIDED, HOWEVER, that
     the  Corporation  shall  deliver  to  such  holder  a  due  bill  or  other
     appropriate  instrument  evidencing  such  holder's  right to receive  such
     additional  shares   (fractional  or  otherwise)  or  securities  upon  the
     occurrence of the event requiring such adjustment.

(m)  Anything  in  this  Section  11  to  the  contrary   notwithstanding,   the
     Corporation,  acting  by  resolution  of its  Board of  Directors  shall be
     entitled to make such  reductions  in the  Purchase  Price,  in addition to

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     those  adjustments  expressly  required  by this  Section 11, as and to the
     extent that it in its sole  discretion  shall  determine to be advisable in
     order  that  any  consolidation  or  subdivision  of the  Preferred  Stock,
     issuance  wholly for cash of any  Preferred  Stock at less than the Current
     Market  Price,  issuance  wholly for cash of Preferred  Stock or securities
     which by their terms are  convertible  into or  exchangeable  for Preferred
     Stock, stock dividends or issuance of rights,  options or warrants referred
     to  hereinabove in this Section 11,  hereafter  made by the  Corporation to
     holders of its Preferred Stock shall not be taxable to such stockholders.

(n)  The  Corporation  covenants and agrees that it shall not, at any time after
     the Distribution  Date, (I) consolidate with any other Person (other than a
     Subsidiary of the Corporation in a transaction  which complies with Section
     11(o)  hereof),  (II) merge  with or into any other  Person  (other  than a
     Subsidiary of the Corporation in a transaction  which complies with Section
     11(o)  hereof) or (III) sell or transfer (or permit any  Subsidiary to sell
     or  transfer),  in one  transaction  or a series of  related  transactions,
     assets, cash flow or earning power aggregating more than 50% of the assets,
     cash flow or earning power of the Corporation and its  Subsidiaries  (taken
     as a whole) to any other Person or Persons  (other than the  Corporation or
     any of its Subsidiaries in one or more  transactions each of which complies
     with Section 11(o) hereof) if (X) at the time of or immediately  after such
     consolidation,  merger or sale  there  are any  rights,  warrants  or other
     instruments  or securities  outstanding or agreements in effect which would
     substantially  diminish or otherwise  eliminate the benefits intended to be
     afforded by the Rights or (Y) prior to,  simultaneously with or immediately
     after such  consolidation,  merger or sale, the  stockholders of the Person
     who constitutes, or would constitute, the "PRINCIPAL PARTY" for purposes of
     Section  13(a)  hereof  shall  have  received  a  distribution   of  Rights
     previously owned by such Person or any of its Affiliates and Associates.

(o)  The Corporation  covenants and agrees that, after the Distribution Date, it
     will not,  except as  permitted  by  Section  23,  Section 24 or Section 27
     hereof,  take (or permit any  Subsidiary to take) any action if at the time
     such  action is taken it is  reasonably  foreseeable  that such action will
     diminish substantially or eliminate the benefits intended to be afforded by
     the Rights.

(p)  Anything in this  Agreement to the contrary  notwithstanding,  in the event
     the  Corporation  shall at any time  after the date of this  Agreement  and
     prior to the  Distribution  Date (I)  declare  or pay any  dividend  on its
     Common Stock payable in Common Stock of the  Corporation  or (II) subdivide
     its  outstanding   Common  Stock  into  a  greater  number  of  shares  (by
     reclassification or otherwise than by payment of dividends in Common Stock)
     or (III) combine or consolidate its outstanding Common Stock into a smaller
     number  of  shares,   then  in  any  such  case,  (X)  the  number  of  one
     one-thousandths  of a share of Preferred Stock purchasable after such event
     upon proper  exercise of each Right shall be determined by multiplying  the
     number of one  one-thousandths of a share of Preferred Stock so purchasable
     immediately  prior to such event by a fraction,  the  numerator of which is
     the  number  of  shares  of  Common  Stock of the  Corporation  outstanding

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     immediately before such event and the denominator of which is the number of
     shares of such Common Stock  outstanding  immediately  after such event and
     (Y)  action  shall be taken  such  that each  share of Common  Stock of the
     Corporation outstanding immediately after such event shall have issued with
     respect to it that number of Rights which each share of Common Stock of the
     Corporation  outstanding  immediately  prior to such event had issued  with
     respect to it. The adjustments  provided for in this Section 11(p) shall be
     made  successively  whenever  such a dividend is declared or paid or such a
     subdivision,  combination or consolidation is effected.  If an event occurs
     which would require an adjustment under Section  11(a)(ii) and this Section
     11(p),  the  adjustments  provided  for in this  Section  11(p) shall be in
     addition  and  prior  to  any  adjustment   required  pursuant  to  Section
     11(a)(ii).

Section 12. CERTIFICATE OF ADJUSTED PURCHASE PRICE OR NUMBER OF SHARES. Whenever
an  adjustment is made as provided in Sections 11 or 13, the  Corporation  shall
(A) promptly  prepare a certificate  setting forth such  adjustment  and a brief
statement of the facts and the computations accounting for such adjustment,  (B)
promptly file with the Rights Agent and with each transfer  agent for its Common
Stock  and  Preferred  Stock  a copy of such  certificate  and (C)  mail a brief
summary  thereof  to each  holder  of a Right  Certificate  (or if  prior to the
Distribution  Date, to each holder of a certificate  representing  shares of its
Common Stock) in accordance with Section 26 of this  Agreement.  Notwithstanding
the foregoing sentence, the failure of the Corporation to make such certificates
or give such notice  shall not affect the validity or the force or effect of the
requirement  for such  adjustment.  The Rights Agent shall be fully protected in
relying on any such  certificate  and on any  adjustment  therein  contained and
shall  not have  any duty  with  respect  to and  shall  not be  deemed  to have
knowledge  of any  adjustments  unless  and until it shall  have  received  such
certificate.  Any  adjustment to be made pursuant to Sections 11 and 13 shall be
effective as of the date of the event giving rise to such adjustment.

Section 13.  CONSOLIDATION,  MERGER OR SALE OR TRANSFER OF ASSETS,  CASH FLOW OR
EARNING POWER.

(a)  In the event (a "SECTION 13 EVENT") that,  following the Stock  Acquisition
     Time,  directly or indirectly,  (X) the  Corporation  shall  consolidate or
     otherwise  combine with or merge with or into, any other Person (other than
     a  wholly  owned  Subsidiary  of the  Corporation  in a  transaction  which
     complies with Section 11(o)  hereof) and the  Corporation  shall not be the
     surviving or continuing  corporation of such consolidation,  combination or
     merger,  (Y) any  Person  (other  than a  wholly  owned  Subsidiary  of the
     Corporation  in a  transaction  which  complies  with Section 11(o) hereof)
     shall  consolidate  or  otherwise  combine  with or merge  with or into the
     Corporation  and the  Corporation  shall  be the  surviving  or  continuing
     corporation of such consolidation, combination or merger and, in connection
     therewith,  all or part of the  Common  Stock of the  Corporation  shall be
     changed into or exchanged for stock or other  securities of the Corporation
     or any other  Person or cash or any other  property or (Z) the  Corporation

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     shall sell or otherwise  transfer (or one or more of its Subsidiaries shall
     sell or otherwise transfer), in one or more transactions, assets, cash flow
     or earning  power  aggregating  more than 50% of the  assets,  cash flow or
     earning power of the Corporation and its Subsidiaries (taken as a whole and
     calculated on the basis of the Corporation's most recent regularly prepared
     financial  statement)  to any  other  Person  or  Persons  (other  than the
     Corporation  or any wholly owned  Subsidiary of the  Corporation  in one or
     more transactions each of which complies with Section 11(o) hereof),  then,
     and in each such case (except as provided in Section 13(d) hereof),  proper
     provision  shall be made so that  (I) each  holder  of a Right  (except  as
     provided  in  Section  7(e)  hereof)  shall  thereafter  have the  right to
     receive,  upon the exercise  thereof at the then current  Purchase Price in
     accordance  with the  terms  of this  Agreement,  such  number  of  validly
     authorized and issued, fully paid, nonassessable and freely tradable shares
     of Common  Stock of the  Principal  Party  (as  hereinafter  defined),  not
     subject to any liens, encumbrances, rights of call, rights of first refusal
     or other  adverse  claims,  as shall be  equal to the  result  obtained  by
     dividing the then current Purchase Price by 50% of the Current Market Price
     per  share  of  Common  Stock  of  such  Principal  Party  on the  date  of
     consummation of such merger, consolidation, sale or transfer (PROVIDED that
     the  Purchase  Price and the  number  of  shares  of  Common  Stock of such
     Principal  Party so  receivable  upon  exercise of a Right shall,  from and
     after such Section 13 Event, be subject to further adjustment in accordance
     with Section 11(f) hereof to reflect any events occurring in respect of the
     Common Stock of such  Principal  Party after the occurrence of such Section
     13 Event);  (II) such Principal  Party shall  thereafter be liable for, and
     shall assume,  by virtue of such Section 13 Event,  all the obligations and
     duties  of the  Corporation  pursuant  to this  Agreement;  (III)  the term
     "CORPORATION"  shall thereafter be deemed to refer to such Principal Party,
     it being  specifically  intended  that the  provisions of Section 11 hereof
     shall apply only to such Principal Party following the first  occurrence of
     a Section  13 Event;  (IV)  such  Principal  Party  shall  take such  steps
     (including,  but not limited to, the reservation of a sufficient  number of
     shares  of its  Common  Stock in  accordance  with  Section  9  hereof)  in
     connection  with such  consummation  as may be necessary to assure that the
     provisions  hereof shall thereafter be applicable,  as nearly as reasonably
     may be  possible,  in  relation  to its shares of Common  Stock  thereafter
     deliverable  upon the  exercise of the Rights;  and (V) the  provisions  of
     Section  11(a)(ii)  hereof  shall  be  of no  effect  following  the  first
     occurrence of any Section 13 Event.

     (b)  "PRINCIPAL PARTY" shall mean:

          (i)  in the case of any transaction  described in clause (x) or (y) of
               the first  sentence of Section 13(a) hereof:  (A) the Person that
               is the issuer of any securities into which shares of Common Stock
               of the Corporation are converted in such merger or consolidation,
               or (B) if no securities are so issued, (X) the Person that is the
               other party to such merger,  if such Person survives such merger,

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               or (Y) if the Person  that is the other  party to the merger does
               not survive the merger,  the Person that does  survive the merger
               (including  the  Corporation  if it  survives)  or (Z) the Person
               resulting from the consolidation; and

          (ii) in the case of any  transaction  described  in clause  (z) of the
               first  sentence of Section 13(a)  hereof,  the Person that is the
               party receiving the greatest portion of the assets,  cash flow or
               earning  power  transferred   pursuant  to  such  transaction  or
               transactions;

PROVIDED, HOWEVER, that in any such case, (1) if the Common Stock of such Person
is not at such time and has not been  continuously  over the  preceding 12 month
period  registered  under  Section 12 of the Exchange  Act, and such Person is a
direct or indirect Subsidiary of another Person the Common Stock of which is and
has been so registered,  "PRINCIPAL PARTY" shall refer to such other Person; and
(2) in case such Person is a Subsidiary,  directly or  indirectly,  of more than
one  Person,  the  Common  Stocks  of two or more of which  are and have been so
registered,  "PRINCIPAL  PARTY"  shall refer to whichever of such Persons is the
issuer of the Common Stock having the greatest aggregate market value.

(c)  The  Corporation  shall not  consummate  any  Section  13 Event  unless the
     Principal Party shall have a sufficient  number of authorized shares of its
     Common  Stock which have not been issued or reserved for issuance to permit
     the exercise in full of the Rights in  accordance  with this Section 13 and
     unless prior  thereto the  Corporation  and such issuer shall have executed
     and delivered to the Rights Agent a supplemental  agreement  containing the
     provisions  set  forth in  paragraphs  (a) and (b) of this  Section  13 and
     further  providing that, as soon as practicable  after the date of any such
     Section 13 Event, the Principal Party will:

     (i)  prepare and file a registration  statement  under the Act with respect
          to the Rights and the  securities  purchasable  upon  exercise  of the
          Rights on an  appropriate  form and will use its best efforts to cause
          such  registration  statement  to (A)  become  effective  as  soon  as
          practicable  after  such  filing  and  (B)  remain  effective  (with a
          prospectus at all times meeting the requirements of the Act) until the
          Expiration Date; and

     (ii) deliver to holders of the Rights historical  financial  statements for
          the  Principal  Party and each of its  Affiliates  which comply in all
          respects with the  requirements  for registration on Form 10 under the
          Exchange Act.

     The  provisions  of this  Section 13 shall  similarly  apply to  successive
     mergers or consolidations or sales or other transfers.  In the event that a
     Section 13 Event shall occur at any time after the  occurrence of a Section
     11(a)(ii) Event, the Rights which have not theretofore been exercised shall
     thereafter,  subject to Section  7(e)  hereof,  become  exercisable  in the
     manner described in Section 13(a) hereof.

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(d)  The Corporation covenants and agrees that it will not, after the occurrence
     of a Section 11(a)(ii) Event, engage in any Section 13 Event if at the time
     of or after such event  there are any charter or by-law  provisions  or any
     rights, warrants or other instruments outstanding or any other action taken
     which would  diminish or otherwise  eliminate  the benefits  intended to be
     afforded by the Rights.

Section 14. FRACTIONAL RIGHTS AND FRACTIONAL SHARES.

(a)  The  Corporation  shall not be required to issue  fractions of Rights or to
     distribute Right Certificates which evidence  fractional Rights. In lieu of
     such fractional  Rights,  there shall be paid to the registered  holders of
     the Right  Certificates with regard to which such fractions of Rights would
     otherwise  be issuable an amount in cash equal to the same  fraction of the
     current  market  value of a whole  Right.  For the purposes of this Section
     14(a), the current market value of a whole Right shall be the closing price
     of the Rights for the  Trading Day  immediately  prior to the date on which
     such  fractional  Rights would have been  otherwise  issuable.  The closing
     price of the Rights for any day shall be the last sale price,  regular way,
     or,  in case no such  sale  takes  place on such day,  the  average  of the
     closing bid and asked  prices,  regular  way, in either case as reported in
     the principal  consolidated  transaction  reporting  system with respect to
     securities listed or admitted to trading on the New York Stock Exchange or,
     if the Rights are not listed or  admitted  to trading on the New York Stock
     Exchange, as reported in the principal  consolidated  transaction reporting
     system  with  respect  to  securities  listed  on  the  principal  national
     securities  exchange  on which the Rights are listed or admitted to trading
     or, if the  Rights are not listed or  admitted  to trading on any  national
     securities  exchange,  the last  quoted  price  or, if not so  quoted,  the
     average  of the  high  bid and low  asked  prices  in the  over-the-counter
     market,  as reported by NASDAQ or such other  system then in use, or, if on
     any such  date the  Rights  are not  quoted by any such  organization,  the
     average of the closing bid and asked prices as furnished by a  professional
     market  maker making a market in the Rights  (selected by the  Corporation,
     acting by  resolution  of its Board of  Directors).  If on any such date no
     such market  maker is making a market in the Rights,  the fair value of the
     Rights on such date as determined in good faith by the Corporation,  acting
     by resolution of its Board of Directors shall be used.

(b)  The  Corporation  shall not be  required  to issue  fractions  of shares of
     Preferred Stock (other than fractions  which are integral  multiples of one
     one-thousandth  of a share of Preferred  Stock) upon exercise of the Rights
     or to distribute  certificates which evidence fractional shares (other than
     fractions which are integral  multiples of one one-thousandth of a share of
     Preferred Stock). Fractions of Preferred Stock in integral multiples of one
     one-thousandth  of a share of  Preferred  Stock may, at the election of the
     Corporation,   be  evidenced  by  depositary   receipts,   pursuant  to  an
     appropriate  agreement between the Corporation and a depositary selected by
     it,  provided  that  such  agreement  shall  provide  that the  holders  of
     depositary  receipts shall have all the rights,  privileges and preferences
     to which they are entitled as beneficial  owners of the Preferred Stock. In

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     lieu  of  fractional  shares  which  are  not  integral  multiples  of  one
     one-thousandth  of a share of Preferred Stock, the Corporation shall pay to
     the  registered  holders  of  Right  Certificates  at the time  such  Right
     Certificates  are  exercised as herein  provided an amount in cash equal to
     the same  fraction of the current  market  value of one share of  Preferred
     Stock.  For purposes of this Section  14(b),  the current market value of a
     share of Preferred Stock shall be the closing price of a share of Preferred
     Stock (as determined  pursuant to Section 11(d)(ii) hereof) for the Trading
     Day immediately prior to the date of such exercise.

(b)  Following  the  occurrence  of a Section  11(a)(ii)  Event or a Section  13
     Event,  the Corporation  shall not be required to issue fractions of shares
     of  its  Common  Stock  upon  exercise  of  the  Rights  or  to  distribute
     certificates or Book-Entries which evidence fractional shares of its Common
     Stock.  In lieu of fractional  shares of its Common Stock,  the Corporation
     may pay to the registered  holders of Right  Certificates  at the time such
     Rights are exercised as herein provided an amount in cash equal to the same
     fraction of the current market value of one share of its Common Stock.  For
     purposes of this Section  14(c),  the current  market value of one share of
     Common Stock of the Corporation  shall be the closing price of one share of
     Common Stock of the Corporation (as determined pursuant to Section 11(d)(i)
     hereof) for the Trading Day immediately prior to the date of such exercise.

(c)  The holder of a Right by the acceptance of the Right  expressly  waives his
     right to  receive  any  fractional  Rights or any  fractional  shares  upon
     exercise of a Right except as permitted by this Section 14.

Section 15. RIGHTS OF ACTION. All rights of action in respect of this Agreement,
except  the  rights  of action  vested  in the  Rights  Agent  pursuant  to this
Agreement  are  vested  in  the  respective  registered  holders  of  the  Right
Certificates  (and,  prior to the Distribution  Date, the registered  holders of
Common  Stock  of the  Corporation);  and any  registered  holder  of any  Right
Certificate  (or,  prior  to the  Distribution  Date,  of  Common  Stock  of the
Corporation),  without the  consent of the Rights  Agent or of any holder of any
other Right Certificate (or, prior to the Distribution  Date, of Common Stock of
the Corporation)  may, in his own behalf and for his own benefit,  enforce,  and
may  institute  and  maintain  any  suit,  action  or  proceeding   against  the
Corporation  to enforce,  or otherwise  act in respect of, his right to exercise
the Rights  evidenced by such Right  Certificate in the manner  provided in such
Right  Certificate and in this Agreement.  Without limiting the foregoing or any
remedies  available to the holders of Rights,  it is  specifically  acknowledged
that the  holders  of Rights  would not have an  adequate  remedy at law for any
breach of this  Agreement  and will be entitled to specific  performance  of the
obligations  hereunder  and  injunctive  relief  against  actual  or  threatened
violations of the obligations of any Person subject to this Agreement.

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Section 16.  AGREEMENT  OF RIGHT  HOLDERS.  Every holder of a Right by accepting
such Right  consents  and agrees with the  Corporation  and the Rights Agent and
with every other holder of a Right that:

(a)  prior to the Close of Business on the earlier of the  Distribution  Date or
     the Expiration  Date, the Rights shall be evidenced by the  Book-Entries or
     certificates  for shares of Common Stock of the  Corporation  registered in
     the name of the holders of such shares (which  Book-Entries or certificates
     for  shares  of  Common  Stock of the  Corporation  shall  also  constitute
     certificates  for  Rights)  and each  Right  will be  transferable  only in
     connection with the transfer of Common Stock of the Corporation;

(b)  after the Distribution  Date, the Right  Certificates are transferable only
     on the registry  books of the Rights Agent if  surrendered at the office of
     the Rights Agent designated for such purposes, duly endorsed or accompanied
     by a proper instrument of transfer;

(c)  the  Corporation  and the Rights  Agent  shall deem and treat the Person in
     whose name the Right  Certificate (or, prior to the Distribution  Date, the
     associated  Common Stock  Book-Entry or  certificate)  is registered as the
     absolute owner thereof and of the Rights evidenced thereby (notwithstanding
     any  notations  of  ownership  or writing on the Right  Certificate  or the
     associated   Common  Stock  certificate  made  by  anyone  other  than  the
     Corporation or the Rights Agent) for all purposes  whatsoever,  and neither
     the Corporation nor the Rights Agent shall be affected by any notice to the
     contrary; and

(d)  notwithstanding  anything in this  Agreement to the  contrary,  neither the
     Corporation  nor the Rights Agent shall have any liability to any holder of
     a Right or other Person as a result of its  inability to perform any of its
     obligations  under this Agreement by reason of any preliminary or permanent
     injunction   or  other   order,   decree,   judgment  or  ruling   (whether
     interlocutory or final) issued by a court of competent jurisdiction or by a
     governmental,  regulatory or  administrative  agency or commission,  or any
     statute,  rule, regulation or executive order promulgated or enacted by any
     governmental authority, prohibiting or otherwise restraining performance of
     such  obligation;  PROVIDED,  HOWEVER,  the  Corporation  must use its best
     efforts  to have any such  order,  decree,  judgment  or  ruling  lifted or
     otherwise overturned as soon as possible.

Section 17. RIGHT  CERTIFICATE  HOLDER NOT DEEMED A STOCKHOLDER.  No holder,  as
such,  of any Right or Right  Certificate  shall be  entitled  to vote,  receive
dividends  or be  deemed  for  any  purpose  the  holder  of the  number  of one
one-thousandths  of a share of Preferred  Stock or any other  securities  of the
Corporation  which may at any time be  issuable  on the  exercise  of the Rights
represented  thereby,  nor  shall  anything  contained  herein  or in any  Right
Certificate  be  construed  to  confer  upon the  holder  of any  Right or Right
Certificate,  as such, any of the rights of a stockholder of the  Corporation or
any right to vote for the election of directors or upon any matter  submitted to
stockholders  at any  meeting  thereof,  or to give or  withhold  consent to any

                                      206

corporate  action,  or to receive notice of meetings or other actions  affecting
stockholders  (except as provided in Section  24),  or to receive  dividends  or
subscription  rights, or otherwise,  until the Right or Rights evidenced by such
Right  Certificate  shall have been exercised in accordance  with the provisions
hereof.

Section 18. CONCERNING THE RIGHTS AGENT.

(a)  The Corporation  agrees to pay to the Rights Agent reasonable  compensation
     for all services rendered by it hereunder and, from time to time, on demand
     of the Rights  Agent,  its  reasonable  expenses and counsel fees and other
     disbursements  incurred  in  the  preparation,   delivery,  administration,
     amendment and execution of this Agreement and the exercise and  performance
     of its duties  hereunder.  The  Corporation  also agrees to  indemnify  the
     Rights Agent for,  and to hold it harmless  against,  any loss,  liability,
     damage,  judgment,  fine,  penalty,  claim,  demand,  settlement,  cost  or
     expense, incurred without gross negligence, bad faith or willful misconduct
     (as each is finally determined by a court of competent jurisdiction) on the
     part of the Rights Agent, for any action taken, suffered, or omitted by the
     Rights Agent in connection with the acceptance and  administration  of this
     Agreement,  including the costs and expenses of defending against any claim
     of liability.  The indemnity  provided herein shall survive the termination
     of this Agreement, the termination and the expiration of the Rights and the
     resignation or removal of the Rights Agent. The costs and expenses incurred
     in enforcing this right of indemnification shall be paid by the Corporation
     promptly upon the request of the Rights Agent.

(b)  The Rights Agent shall be  authorized  to rely on,  shall be protected  and
     shall incur no liability for or in respect of any action taken, suffered or
     omitted by it in connection with the acceptance and  administration of this
     Agreement  or the  exercise  or  performance  of its  duties  hereunder  in
     reliance upon any Right  Certificate or certificate  for Preferred Stock or
     Common Stock of the Corporation or for other securities of the Corporation,
     instrument  of  assignment  or transfer,  power of  attorney,  endorsement,
     affidavit, letter, notice, direction,  consent,  certificate,  statement or
     other  paper or  document  believed  by it to be genuine  and to be signed,
     executed  and,  where  necessary,  verified or  acknowledged  by the proper
     Person or Persons.

Section 19.       MERGER OR CONSOLIDATION OR CHANGE OF NAME OF RIGHTS AGENT.

(a)  Any Person into which the Rights Agent or any successor Rights Agent may be
     merged or with which it may be  consolidated,  or any Person resulting from
     any  merger or  consolidation  to which the Rights  Agent or any  successor
     Rights Agent shall be a party, or any Person  succeeding to the shareholder
     services business of the Rights Agent or any successor Rights Agent,  shall
     be the  successor  to the Rights  Agent  under this  Agreement  without the
     execution  or filing of any paper or any  further act on the part of any of

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     the parties hereto;  PROVIDED,  HOWEVER, that such Person would be eligible
     for appointment as a successor Rights Agent under the provisions of Section
     21 hereof.  The purchase of all or substantially  all of the Rights Agent's
     assets  employed in the performance of transfer agent  activities  shall be
     deemed a merger or  consolidation  for purposes of this Section 19. In case
     at the time such successor Rights Agent shall succeed to the agency created
     by  this  Agreement,   any  of  the  Right  Certificates  shall  have  been
     countersigned but not delivered,  any such successor Rights Agent may adopt
     the countersignature of the predecessor Rights Agent and deliver such Right
     Certificates  so  countersigned;  and in case at that time any of the Right
     Certificates shall not have been countersigned,  any successor Rights Agent
     may  countersign  such  Right  Certificates  either  in  the  name  of  the
     predecessor  Rights Agent or in the name of the successor Rights Agent; and
     in all such  cases  such  Right  Certificates  shall  have  the full  force
     provided in the Right Certificates and in this Agreement.

(b)  In case at any time the name of the Rights  Agent  shall be changed  and at
     such time any of the Right  Certificates  shall have been countersigned but
     not delivered,  the Rights Agent may adopt the  countersignature  under its
     prior name and deliver Right Certificates so countersigned;  and in case at
     that time any of the Right Certificates shall not have been  countersigned,
     the Rights  Agent may  countersign  such Right  Certificates  either in its
     prior  name or in its  changed  name;  and in all  such  cases  such  Right
     Certificates  shall have the full force provided in the Right  Certificates
     and in this Agreement.

Section 20. DUTIES OF RIGHTS AGENT.  The Rights Agent undertakes only the duties
and  obligations  expressly  imposed by this Agreement (and no implied duties or
obligations)  upon the  following  terms  and  conditions,  by all of which  the
Corporation and the holders of Right Certificates,  by their acceptance thereof,
shall be bound:

(a)  The Rights Agent may consult with legal  counsel  selected by it (which may
     be legal  counsel for the  Corporation),  and the advice or opinion of such
     counsel  shall be full and complete  authorization  and  protection  to the
     Rights  Agent,  and the Rights  Agent  shall incur no  liability  for or in
     respect of any action taken, suffered or omitted by it in good faith and in
     accordance with such advice or opinion.

(b)  Whenever in the  performance  of its duties under this Agreement the Rights
     Agent  shall  deem it  necessary  or  desirable  that  any  fact or  matter
     (including, without limitation, the identity of an Acquiring Person and the
     determination  of the Current Market Price per share of Preferred Stock and
     Common Stock) be proved or established by the Corporation  prior to taking,
     suffering or omitting  any action  hereunder,  such fact or matter  (unless
     other evidence in respect thereof be herein specifically prescribed) may be
     deemed to be conclusively proved and established by a certificate signed by
     the Chairman of the Board, the Chief Executive  Officer,  the President (if
     any) or the Senior Vice President and General  Counsel and by the Treasurer

                                      208

     or the Secretary of the Corporation and delivered to the Rights Agent;  and
     such certificate  shall be full  authorization and protection to the Rights
     Agent,  and the Rights Agent shall have no  liability  for or in respect of
     any  action  taken,  suffered  or  omitted  in good  faith by it under  the
     provisions of this Agreement in reliance upon such certificate.

(c)  The  Rights  Agent  shall  be  liable  hereunder  only  for its  own  gross
     negligence,  bad faith or willful misconduct (as each is finally determined
     by  a  court  of   competent   jurisdiction).   Anything  to  the  contrary
     notwithstanding,  in no event shall the Rights Agent be liable for special,
     indirect,   consequential  or  incidental  loss  or  damages  of  any  kind
     whatsoever (including but not limited to lost profits),  even if the Rights
     Agent has been  advised  of the  likelihood  of such loss or  damage.  This
     Section  20(c)  shall  survive  the  termination  of  this  Agreement,  the
     termination and expiration of the Rights, and the resignation or removal of
     the Rights Agent.

(d)  The  Rights  Agent  shall  not be  liable  for or by  reason  of any of the
     statements of fact or recitals  contained in this Agreement or in the Right
     Certificates (except its countersignature thereof) or be required to verify
     the same,  but all such  statements and recitals are and shall be deemed to
     have been made by the Corporation only.

(e)  The  Rights  Agent  shall  not have any  liability  for,  nor be under  any
     responsibility  in  respect  of  the  validity  of  this  Agreement  or the
     execution  and  delivery  hereof  (except the due  execution  hereof by the
     Rights  Agent) or in  respect of the  validity  or  execution  of any Right
     Certificate (except its countersignature  thereof);  nor shall it be liable
     or  responsible  for any  breach  by the  Corporation  of any  covenant  or
     condition  contained  in this  Agreement or in any Right  Certificate;  nor
     shall it be responsible for any adjustment required under the provisions of
     Section 11 or Section 13 or responsible for the manner, method or amount of
     any such  adjustment  or the  ascertaining  of the  existence of facts that
     would require any such  adjustment  (except with respect to the exercise of
     Rights  evidenced by Right  Certificates  after  actual  notice of any such
     adjustment); nor shall it be liable or responsible for any determination by
     the Board of Directors of the  Corporation  of the Current  Market Price of
     the Preferred Stock or Common Stock of the Corporation; nor shall it by any
     act  hereunder be deemed to make any  representation  or warranty as to the
     authorization  or  reservation  of  any  shares  of  Common  Stock  of  the
     Corporation or Preferred Stock or other securities to be issued pursuant to
     this  Agreement  or any Right  Certificate  or as to whether  any shares of
     Preferred  Stock or Common  Stock of the  Corporation  or other  securities
     will,  when  issued,  be  validly  authorized  and  issued,  fully paid and
     nonassessable.

(f)  The  Corporation  agrees that it will  perform,  execute,  acknowledge  and
     deliver or cause to be performed, executed,  acknowledged and delivered all
     such further and other acts,  instruments  and assurances as may reasonably
     be required by the Rights Agent for the carrying out or  performing  by the
     Rights Agent of the provisions of this Agreement.

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(g)  The Rights Agent is hereby  authorized and directed to accept  instructions
     with respect to the  performance of its duties  hereunder from the Chairman
     of the Board,  the Chief  Executive  Officer,  the President (if any),  the
     Senior Vice President and General  Counsel,  the Secretary or the Treasurer
     of  the  Corporation,   and  to  apply  to  such  officers  for  advice  or
     instructions in connection with its duties, and such advice or instructions
     shall be full  authorization  and  protection  to the Rights  Agent and the
     Rights  Agent  shall  incur no  liability  for or in  respect of any action
     taken,  suffered  or omitted to be taken by it in good faith in  accordance
     with the advice or instructions of any such officer.

(h)  The  Rights  Agent and any  stockholder,  director,  Affiliate,  officer or
     employee of the Rights Agent may buy,  sell or deal in any of the Rights or
     other securities of the Corporation or become pecuniarily interested in any
     transaction in which the Corporation may be interested, or contract with or
     lend  money to the  Corporation  or  otherwise  act as fully and  freely as
     though it were not Rights Agent under this Agreement.  Nothing herein shall
     preclude  the  Rights  Agent  from  acting  in any other  capacity  for the
     Corporation or for any other Person.

(i)  The  Rights  Agent may  execute  and  exercise  any of the rights or powers
     hereby  vested in it or perform any duty  hereunder  either itself or by or
     through  its  attorneys  or  agents,  and the  Rights  Agent  shall  not be
     answerable  or  accountable  for any act,  omission,  default,  neglect  or
     misconduct  of any  such  attorneys  or  agents  or  for  any  loss  to the
     Corporation,  to holders of the Rights or any other Person  resulting  from
     any such act, omission, default, neglect or misconduct, PROVIDED reasonable
     care was exercised in the selection and continued employment thereof.

(j)  No provision of this Agreement  shall require the Rights Agent to expend or
     risk its own  funds or  otherwise  incur  any  financial  liability  in the
     performance of any of its duties hereunder or in the exercise of its rights
     if there should be reasonable  grounds for believing that repayment of such
     funds or adequate  indemnification  against  such risk or  liability is not
     reasonably assured for it.

(k)  If, with respect to any Right  Certificate  surrendered to the Rights Agent
     for  exercise  or  transfer,  the  certificate  attached  to  the  form  of
     assignment or form of election to purchase,  as the case may be, has either
     not been completed properly or indicates an affirmative  response to clause
     1 and/or 2 thereof, the Rights Agent shall not take any further action with
     respect to such  requested  exercise or transfer  without first  consulting
     with the Corporation.

Section 21.  CHANGE OF RIGHTS AGENT.  The Rights Agent or any  successor  Rights
Agent may resign and be discharged  from its duties under this Agreement upon 30

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days' notice in writing mailed to the  Corporation and to each transfer agent of
the  Common  Stock of the  Corporation  and  Preferred  Stock by  registered  or
certified  mail,  and to the holders of the Right  Certificates  by  first-class
mail. The Corporation may remove the Rights Agent or any successor  Rights Agent
upon 30 days' notice in writing,  mailed to the Rights Agent or successor Rights
Agent, as the case may be, and to each transfer agent of the Common Stock of the
Corporation  and Preferred  Stock by registered  or certified  mail,  and to the
holders of the Right Certificates by first-class mail. If the Rights Agent shall
resign  or be  removed  or shall  otherwise  become  incapable  of  acting,  the
Corporation  shall appoint a successor to the Rights Agent.  If the  Corporation
shall  fail to make such  appointment  within a period of 30 days  after  giving
notice  of such  removal  or after  it has  been  notified  in  writing  of such
resignation or incapacity by the resigning or  incapacitated  Rights Agent or by
the holder of a Right Certificate (who shall, with such notice, submit his Right
Certificate for inspection by the  Corporation),  then the registered  holder of
any Right  Certificate may apply to any court of competent  jurisdiction for the
appointment of a new Rights Agent. Any successor Rights Agent, whether appointed
by the  Corporation  or by such a court,  shall be a Person  organized and doing
business under the laws of the United States, or any state of the United States,
so long as such Person is in good  standing,  is  authorized  under such laws to
exercise   shareholders  services  powers  and  is  subject  to  supervision  or
examination  by  federal  or state  authority  and  which has at the time of its
appointment  as Rights  Agent a  combined  capital  and  surplus of at least $50
million. After appointment,  the successor Rights Agent shall be vested with the
same powers,  rights,  duties and  responsibilities as if it had been originally
named as Rights Agent without  further act or deed; but the  predecessor  Rights
Agent shall deliver and transfer to the  successor  Rights Agent any property at
the time held by it  hereunder  and execute  and deliver any further  assurance,
conveyance,  act or deed necessary for the purpose. Not later than the effective
date of any such  appointment,  the  Corporation  shall file  notice  thereof in
writing with the predecessor  Rights Agent and each transfer agent of its Common
Stock  and  Preferred  Stock,  and  mail a  notice  thereof  in  writing  to the
registered  holders  of the  Right  Certificates.  Failure  to give  any  notice
provided  for in this  Section 21,  however,  or any defect  therein,  shall not
affect the  legality  or validity  of the  resignation  or removal of the Rights
Agent or the appointment of the successor Rights Agent, as the case may be.

Section  22.  ISSUANCE  OF NEW RIGHT  CERTIFICATES.  Notwithstanding  any of the
provisions of this Agreement or of the Rights to the contrary,  the  Corporation
may, at its option, issue new Right Certificates  evidencing Rights in such form
as may be  approved  by  resolution  of its Board of  Directors,  to reflect any
adjustment  or change in the  Purchase  Price and the number or kind or class of
shares of stock or other  securities  or  property  purchasable  under the Right
Certificates  made in  accordance  with the  provisions  of this  Agreement.  In
addition,  in connection with the issuance or sale of shares of its Common Stock
following the Distribution  Date (other than upon exercise of a Right) and prior
to the Expiration  Date, the  Corporation  (A) shall,  with respect to shares of
Common  Stock so issued or sold  pursuant to the  exercise  of stock  options or
under any employee  plan or  arrangement,  or upon the  exercise,  conversion or

                                      211

exchange of securities,  notes or debentures issued by the Corporation,  and (B)
may, in any other  case,  if deemed  necessary  or  appropriate  by the Board of
Directors  of  the  Corporation,   issue  Right  Certificates  representing  the
appropriate number of Rights in connection with such issuance or sale; PROVIDED,
HOWEVER, that (I) no such Right Certificate shall be issued if and to the extent
that the Corporation shall be advised by counsel that such issuance would create
a significant  risk of material  adverse tax  consequences to the Corporation or
the Person to whom such Right Certificate would be issued and (II) no such Right
Certificate  shall be issued if and to the extent  that  appropriate  adjustment
shall otherwise have been made in lieu of the issuance thereof.

Section 23. REDEMPTION.

(a)  The  Corporation  may,  by  resolution  of its Board of  Directors,  at its
     option,  at any time prior to the earlier of (X) the Stock Acquisition Time
     or (Y) the Close of Business on the Final Expiration  Date,  redeem all but
     not less than all of the then  outstanding  Rights at a redemption price of
     $.001 per Right  (payable  in cash,  shares of Common  Stock  (based on the
     Current  Market Price of the Common Stock at the time of redemption) or any
     other form of consideration deemed appropriate by the Board of Directors of
     the Corporation),  appropriately adjusted to reflect any stock split, stock
     dividend  or similar  transaction  occurring  after the date  hereof  (such
     redemption price being hereinafter referred to as the "REDEMPTION PRICE").

(b)  Immediately  upon the action of the Board of Directors  of the  Corporation
     ordering the  redemption of the Rights (or at such time  subsequent to such
     action as the Board of Directors  may  determine),  and without any further
     action and  without  any  notice,  the right to  exercise  the Rights  will
     terminate  and the only right  thereafter of the holders of Rights shall be
     to receive  the  Redemption  Price.  Within 10 days after the action of the
     Board of Directors  ordering the redemption of the Rights,  the Corporation
     shall give notice of such redemption to the holders of the then outstanding
     Rights and to the Rights  Agent by mailing  such notice to all such holders
     at their last  addresses  as they  appear  upon the  registry  books of the
     Rights Agent or, prior to the  Distribution  Date, on the registry books of
     the  transfer  agent for the Common  Stock of the  Corporation.  Any notice
     which is mailed  in the  manner  herein  provided  shall be  deemed  given,
     whether  or not the  holder  receives  the  notice.  Each  such  notice  of
     redemption  will  state the method by which the  payment of the  Redemption
     Price will be made.  Neither the  Corporation  nor any of its Affiliates or
     Associates  may redeem,  acquire or purchase  any Rights at any time in any
     manner other than that specifically set forth in this Section 23 or Section
     24 hereof and other than in connection  with the repurchase of Common Stock
     of the Corporation prior to the Distribution Date.

                                      212

Section 24. EXCHANGE.

(a)  The Board of Directors of the Corporation  may, at its option,  at any time
     after any Person becomes an Acquiring  Person,  exchange all or part of the
     then  outstanding  and  exercisable  Rights (which shall not include Rights
     that have become null and void  pursuant to the  provisions of Section 7(e)
     hereof)  for shares of Common  Stock at an  exchange  ratio of one share of
     Common Stock per Right,  appropriately adjusted to reflect any stock split,
     stock dividend or similar transaction occurring after the date hereof (such
     exchange  ratio being  hereinafter  referred to as the  "EXCHANGE  RATIO").
     Notwithstanding  the  foregoing,  the  Board  of  Directors  shall  not  be
     empowered to effect such  exchange at any time after any Person (other than
     an Exempt  Person),  together with all  Affiliates  and  Associates of such
     Person, becomes the Beneficial Owner of 50% or more of the shares of Common
     Stock then outstanding.

(b)  Immediately  upon the action of the Board of Directors  of the  Corporation
     ordering  the  exchange  of any Rights  pursuant to  paragraph  (a) of this
     Section 24 and without any further action and without any notice, the right
     to exercise such Rights shall terminate and the only right  thereafter of a
     holder of such Rights  shall be to receive  that number of shares of Common
     Stock equal to the number of such Rights held by such holder  multiplied by
     the Exchange Ratio.  The  Corporation  shall promptly give public notice of
     any such  exchange  (with  prompt  notice  thereof  to the  Rights  Agent);
     PROVIDED,  HOWEVER, that the failure to give, or any defect in, such notice
     shall not affect the validity of such exchange.  The  Corporation  promptly
     shall  mail a notice of any such  exchange  to all of the  holders  of such
     Rights at their last  addresses as they appear upon the  registry  books of
     the Rights Agent.  Any notice which is mailed in the manner herein provided
     shall be deemed given,  whether or not the holder receives the notice. Each
     such notice of exchange  will state the method by which the exchange of the
     shares of Common Stock for Rights will be effected and, in the event of any
     partial exchange, the number of Rights which will be exchanged. Any partial
     exchange  shall be effected  PRO RATA based on the number of Rights  (other
     than Rights which have become void  pursuant to the  provisions  of Section
     7(e) hereof) held by each holder of Rights.

(c)  In any  exchange  pursuant  to this  Section  24, the  Corporation,  at its
     option,  may substitute  shares of Preferred  Stock (or any other series of
     preferred stock of the Corporation  containing terms substantially  similar
     to the  terms of the  Preferred  Stock)  for some or all of the  shares  of
     Common  Stock   exchangeable  for  Rights,  at  the  initial  rate  of  one
     one-thousandth  of a share of  Preferred  Stock (or of such other series of
     preferred  stock of the  Corporation)  for each share of Common  Stock,  as
     appropriately  adjusted to reflect  adjustments in the voting rights of the
     Preferred  Stock pursuant to the terms  thereof,  so that the fraction of a
     share of Preferred Stock (or of such other series of preferred stock of the
     Corporation) delivered in lieu of each share of Common Stock shall have the
     same voting rights as one share of Common Stock.

(d)  In the event that there shall not be  sufficient  shares of Common Stock or
     Preferred  Stock (or any other series of preferred stock of the Corporation
     containing terms substantially similar to the terms of the Preferred Stock)

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     issued  but not  outstanding  or  authorized  but  unissued  to permit  any
     exchange of Rights as  contemplated in accordance with this Section 24, the
     Corporation  shall take all such action as may be  necessary  to  authorize
     additional  shares of Common Stock or Preferred Stock (or such other series
     of preferred  stock of the  Corporation)  for issuance upon exchange of the
     Rights.

(e)  The  Corporation  shall not be  required  to issue  fractions  of shares of
     Common Stock or to distribute  Book-Entries or certificates  which evidence
     fractional shares of Common Stock. In lieu of such fractional  shares,  the
     Corporation shall pay to the registered  holders of the Right  Certificates
     with regard to which such fractional  shares would otherwise be issuable an
     amount in cash equal to the same fraction of the current  market value of a
     whole share of Common Stock.  For the purposes of this  paragraph  (d), the
     current  market value of a whole share of Common Stock shall be the closing
     price of a share of Common  Stock (as  determined  pursuant  to the  second
     sentence of Section 11(d) hereof) for the Trading Day immediately  prior to
     the date of exchange pursuant to this Section 24.

Section 25. NOTICE OF CERTAIN EVENTS.

(a)  In case  the  Corporation  shall  at any  time  after  the  earlier  of the
     Distribution  Date or the Stock  Acquisition  Time  propose  (i) to pay any
     dividend  payable  in stock of any class to the  holders  of its  Preferred
     Stock or to make any other  distribution  to the  holders of its  Preferred
     Stock (other than a regular  periodic  dividend out of earnings or retained
     earnings of the Corporation),  or (II) to offer to the holders of Preferred
     Stock  options,  rights or warrants  to  subscribe  for or to purchase  any
     additional  Preferred  Stock or  shares  of stock of any class or any other
     securities,  rights or options, or (III) to effect any  reclassification of
     the  Preferred  Stock  (other than a  reclassification  involving  only the
     subdivision of outstanding  shares of Preferred  Stock),  or (IV) to effect
     any merger,  consolidation or other  combination into or with, or to effect
     any sale or other transfer (or to permit one or more of its Subsidiaries to
     effect any sale or other transfer),  in one or more  transactions,  of more
     than 50% of the assets,  cash flow or earning power of the  Corporation and
     its Subsidiaries  (taken as a whole) to, any other Person, or (V) to effect
     the  liquidation,  dissolution or winding up of the  Corporation,  then, in
     each such case,  the  Corporation  shall give to the Rights  Agent and each
     holder of a Right, in accordance  with Section 26 hereof,  a notice of such
     proposed  action,  which shall  specify the record date for the purposes of
     such stock dividend or distribution  of rights or warrants,  or the date on
     which such  reclassification,  merger,  consolidation,  combination,  sale,
     transfer,  liquidation,  dissolution or winding up is to take place and the
     date of  participation  therein  by the  holders  of  Common  Stock  of the
     Corporation or Preferred  Stock, if any such date is to be fixed,  and such
     notice shall be so given in the case of any action covered by clause (i) or
     (ii) above at least  twenty days prior to the record  date for  determining
     holders of Preferred Stock for purposes of such action,  and in the case of
     any such other action, at least twenty days prior to the date of the taking

                                      214

     of such proposed action or the date of participation therein by the holders
     of Common Stock of the Corporation or Preferred  Stock,  whichever shall be
     the earlier.  The failure to give notice required by this Section 25 or any
     defect  therein  shall not affect the  legality  or  validity of the action
     taken by the Corporation or the vote upon any such action.

(b)  In case any of the events set forth in Section  11(a)(ii) or Section  13(a)
     of this Agreement shall occur,  then, in any such case, (I) the Corporation
     shall as soon as  practicable  thereafter  give to the Rights  Agent and to
     each  holder of a Right,  to the extent  feasible  and in  accordance  with
     Section 26, a notice of the  occurrence of such event,  which shall specify
     the event and the  consequences  of the event to  holders  of Rights  under
     Section  11(a)(ii) or Section  13(a)  hereof,  and (II) all  references  in
     Section 25(a) hereof to Preferred Stock shall be deemed thereafter to refer
     also to Common Stock or other securities issuable in respect of the Rights.

Section 26. NOTICES. Notices or demands authorized by this Agreement to be given
or made by the Rights Agent or by the holder of any Right  Certificate  to or on
the Corporation shall be sufficiently given or made if sent by first-class mail,
postage  prepaid,  addressed (until another address is filed in writing with the
Rights Agent) as follows:

         Principal Financial Group, Inc.
         711 High Street
         Des Moines, Iowa  50392
         Attention:  Corporate Secretary

Subject to the provisions of Section 21, any notice or demand authorized by this
Agreement to be given or made by the  Corporation  or by the holder of any Right
Certificate  to or on the Rights  Agent shall be  sufficiently  given or made if
sent by first-class mail,  postage prepaid,  addressed (until another address is
filed in writing with the Corporation) as follows:

         Mellon Investor Services LLC
         85 Challenger Road
         Ridgefield Park, NJ 07660
         Attention:  Gary Wozniak

Notices  or  demands  authorized  by this  Agreement  to be given or made by the
Corporation  or the Rights Agent to the holder of any Right  Certificate  (or if
prior to the  Distribution  Date to each  holder of a  certificate  representing
shares of Common Stock of the Corporation)  shall be sufficiently  given or made
if sent by first-class mail, postage prepaid, addressed to such Right holder (or

                                      215

if  prior  to the  Distribution  Date to such  holder  of  Common  Stock  of the
Corporation) at the address of such holder as shown on the registry books of the
Corporation.

Section 27. SUPPLEMENTS AND AMENDMENTS.  Prior to the Stock Acquisition Time and
subject to the penultimate  sentence of this Section 27, the Corporation may, by
resolution  of its  Board of  Directors,  and the  Rights  Agent  shall,  if the
Corporation  so directs,  supplement or amend any provision of this Agreement in
any respect  whatsoever  (including,  without  limitation,  any extension of the
period in which the Rights may be redeemed)  without the approval of any holders
of certificates representing shares of Common Stock of the Corporation. From and
after the Stock Acquisition Time and subject to the penultimate sentence of this
Section 27,  without the  approval of any holders of  certificates  representing
shares  of  Common  Stock  of the  Corporation  or of  Right  Certificates,  the
Corporation  may, by resolution of its Board of Directors,  and the Rights Agent
shall,  if the  Corporation  so directs,  supplement or amend this  Agreement in
order (I) to cure any  ambiguity,  (II) to correct or  supplement  any provision
contained  herein  which  may  be  defective  or  inconsistent  with  any  other
provisions  herein,  (III) to shorten or lengthen  any time period  hereunder or
(IV) to change or  supplement  or make any other  provisions in any manner which
the  Corporation  may deem  necessary or  desirable,  which shall not  adversely
affect the  interests  of, or diminish  substantially  or eliminate the benefits
intended  to be  afforded  by the Rights to, the  holders of Right  Certificates
(other  than an  Acquiring  Person  or an  Affiliate  or  Associate  of any such
Person);  PROVIDED,  HOWEVER,  that this  Agreement may not be  supplemented  or
amended to  lengthen,  pursuant  to clause  (iii) of this  sentence,  (A) a time
period  relating to when the Rights may be redeemed or to modify the ability (or
inability) of the Board of Directors of the Corporation to redeem the Rights, in
either case at such time as the Rights are not then  redeemable or (B) any other
time period unless such lengthening is for the purpose of protecting,  enhancing
or clarifying the rights of or the benefits to the holders of Rights (other than
an Acquiring  Person or an Affiliate or Associate of any such Person).  Upon the
delivery of a certificate from an appropriate  officer of the Corporation  which
states that the proposed supplement or amendment is in compliance with the terms
of this  Section 27 and PROVIDED  that such  supplement  or amendment  does not,
without prior consent of the Rights Agent, change or increase the Rights Agent's
duties,  liabilities  or obligations  hereunder,  the Rights Agent shall execute
such  supplement  or  amendment.  Notwithstanding  anything  contained  in  this
Agreement  to the  contrary,  no  supplement  or  amendment  shall be made which
changes  the  Redemption  Price  or the  Final  Expiration  Date.  Prior  to the
Distribution  Date,  the  interests  of the  holders  of Rights  shall be deemed
coincident with the interests of the holders of Common Stock.

Section 28. SUCCESSORS. All the covenants and provisions of this Agreement by or
for the benefit of the  Corporation  or the Rights Agent shall bind and inure to
the benefit of their respective successors and assigns hereunder.

Section 29. DETERMINATIONS AND ACTIONS BY THE BOARD OF DIRECTORS, ETC.

                                      216

(a)  For all purposes of this Agreement, any calculation of the number of shares
     of Common Stock outstanding at any particular time,  including for purposes
     of determining  the  particular  percentage of such  outstanding  shares of
     Common Stock of which any Person is the Beneficial Owner,  shall be made in
     accordance  with the last  sentence of Rule  13d-3(d)(1)(i)  of the General
     Rules and Regulations under the Exchange Act. The Board of Directors of the
     Corporation shall have the exclusive power and authority to administer this
     Agreement  and to exercise  all rights and powers  specifically  granted to
     such  Board  of  Directors,  or as may be  necessary  or  advisable  in the
     administration of this Agreement,  including, without limitation, the right
     and power to (I) interpret the  provisions of this  Agreement and (II) make
     all determinations  deemed necessary or advisable for the administration of
     this Agreement (including, without limitation, a determination to redeem or
     not  redeem  the  Rights  or to amend  the  Agreement).  All such  actions,
     calculations,  interpretations and determinations  (including, for purposes
     of clause (y) below, all omissions with respect to the foregoing) which are
     done  or  made  by  the  Board  of  Directors  of  the  Corporation  or the
     Corporation  in good faith,  (X) shall be final,  conclusive and binding on
     the Corporation,  the Rights Agent,  the holders of the Right  Certificates
     and all other  parties and (y) shall not subject the Board of  Directors of
     the  Corporation  to any  liability  to the holders of the Rights and Right
     Certificates.  The  Rights  Agent  shall  assume  that  all  such  actions,
     calculations,  interpretations and determinations which are done or made by
     the Board of Directors were done or made in good faith.

(b)  Nothing  contained in this Agreement shall be deemed to be in derogation of
     the obligation of the Board of Directors of the Corporation to exercise its
     fiduciary duty.  Without limiting the foregoing,  nothing contained in this
     Agreement  shall  be  construed  to  suggest  or imply  that  the  Board of
     Directors  of the  Corporation  shall not be  entitled to reject any tender
     offer,  or to take any other action  (including,  without  limitation,  the
     commencement,  prosecution, defense or settlement of any litigation and the
     submission of additional or  alternative  offers or other  proposals)  with
     respect  to any  tender  offer  that the  Board of  Directors  believes  is
     necessary or appropriate in the exercise of such fiduciary duty.

Section  30.  BENEFITS OF THIS  AGREEMENT.  Nothing in this  Agreement  shall be
construed to give to any Person other than the Corporation, the Rights Agent and
the registered holders of the Right Certificates (and, prior to the Distribution
Date,  registered  holders of the Common Stock of the  Corporation) any legal or
equitable right, remedy or claim under this Agreement;  but this Agreement shall
be for the sole and exclusive  benefit of the Corporation,  the Rights Agent and
the registered holders of the Right Certificates (and, prior to the Distribution
Date, registered holders of the Common Stock of the Corporation).

Section 31.  SEVERABILITY.  If any term,  provision,  covenant or restriction of
this Agreement is held by a court of competent  jurisdiction  or other authority
to be invalid,  void or unenforceable,  the remainder of the terms,  provisions,

                                      217

covenants  and  restrictions  of this  Agreement  shall remain in full force and
effect  and shall in no way be  affected,  impaired  or  invalidated;  PROVIDED,
HOWEVER, that notwithstanding anything in this Agreement to the contrary, if any
such term, provision, covenant or restriction is held by such court or authority
to be  invalid,  void  or  unenforceable  and  the  Board  of  Directors  of the
Corporation  determines  in its good faith  judgment  that  severing the invalid
language from this  Agreement  would  adversely  affect the purpose or effect of
this Agreement,  the right of redemption set forth in Section 23 hereof shall be
reinstated  and  shall not  expire  until  the  Close of  Business  on the tenth
Business Day following the date of such determination by the Board of Directors.

Section 32.  GOVERNING  LAW. This  Agreement and each Right  Certificate  issued
hereunder  shall be deemed to be a contract  made under the laws of the State of
Delaware and for all purposes  shall be governed by and  construed in accordance
with the laws of such State  applicable  to contracts  to be made and  performed
entirely within such State.

Section  33.  COUNTERPARTS.  This  Agreement  may be  executed  in any number of
counterparts and each of such  counterparts  shall for all purposes be deemed to
be an original,  and all such counterparts shall together constitute but one and
the same instrument.

Section 34. DESCRIPTIVE  HEADINGS.  Descriptive headings of the several Sections
of this  Agreement  are inserted for  convenience  only and shall not control or
affect the meaning or construction of any of the provisions hereof.

                                    SIGNATURE

IN WITNESS  WHEREOF,  the parties have caused this Agreement to be duly executed
and their respective corporate seals to be hereunto affixed and attested, all as
of the day and year first above written.

Attest:                                   PRINCIPAL FINANCIAL GROUP, INC.

By  /s/ Joyce N. Hoffman                  By  /s/ Karen E. Shaff
     Name:  Joyce N. Hoffman              Name:  Karen E. Shaff
     Title: Senior Vice President         Title: Senior Vice President and
            Coporate Secretary                   General Counsel

Attest:                                   Mellon Investor Services LLC,
                                          as Rights Agent

By  /s/ James J. Mabli                    By  /s/ Marie Sandauer
     Name:  James J. Mabli                Name:  Marie Sandauer
     Title: Vice President                Title: Vice President and Regional
                                                 Manager

                                      218

                                                                      EXHIBIT A
                         PRINCIPAL FINANCIAL GROUP, INC.

                          Certificate of Designation,
                             Preferences and Rights
                            Pursuant to Section 151
                         of the General Corporation Law
                            of the State of Delaware
                              --------------------

                          Certificate of Designation,
                             Preferences and Rights
                                       of
                 Series A Junior Participating Preferred Stock

I,  [officer],   being  the  [title]  of  Principal  Financial  Group,  Inc.,  a
corporation organized and existing under the General Corporation Law of Delaware
(the "CORPORATION"), do hereby certify:

FIRST: That, pursuant to authority expressly vested in the Board of Directors of
the Corporation by the provisions of its Certificate of Incorporation, the Board
of Directors on , duly adopted the following resolution:

RESOLVED, that, pursuant to the authority vested in the Board in accordance with
the provisions of the Amended and Restated  Certificate of  Incorporation of the
Corporation,  a Series A Junior  Participating  Preferred Stock, par value $0.01
per share, of the Corporation (the "Series A Preferred Stock") be, and it hereby
is, created,  and that the  designation  and the voting powers,  preferences and
relative participating,  optional and other special rights of the shares of such
series, and the qualifications, limitations or restrictions thereof be set forth
in Exhibit A to the Rights  Agreement (the  "Certificate  of Designation for the
Series A Preferred Stock"); and

FURTHER RESOLVED,  that the aggregate number of shares of the preferred stock of
the  Corporation  that shall  constitute  the Series A Preferred  Stock shall be
2,500,000 shares.

SECOND:  That the  designation  and the voting powers,  preferences and relative
participating,  optional and other special  rights of the shares of such series,
and the qualifications, limitations or restrictions thereof are as follows:

Section 1.  DESIGNATION AND NUMBER OF SHARES.  2,500,000 shares of the Preferred
Stock of the Corporation shall constitute a series of Preferred Stock designated
as Series A Junior Participating Preferred Stock (hereinafter referred to as the

                                      219

"SERIES A PREFERRED STOCK"). Such number of shares may be increased or decreased
by resolution of the Board of Directors; PROVIDED, that no decrease shall reduce
the  number  of shares of  Series A  Preferred  Stock to a number  less than the
number of shares  then  outstanding  plus the  number  of  shares  reserved  for
issuance upon the exercise of  outstanding  options,  rights or warrants or upon
the  conversion  of  any  outstanding   securities  issued  by  the  Corporation
convertible into Series A Preferred Stock.

Section 2. DIVIDENDS AND DISTRIBUTIONS.

(A)  Subject  to the  rights  of the  holders  of any  shares  of any  series of
     Preferred  Stock (or any similar  stock)  ranking prior and superior to the
     Series A Preferred  Stock with respect to dividends,  the holders of shares
     of Series A Preferred  Stock, in preference to the holders of Common Stock,
     par value $0.01 of the  Corporation  (the "COMMON  STOCK") and of any other
     junior stock which may be outstanding,  shall be entitled to receive, when,
     as and if declared by the Board of Directors out of funds legally available
     for the purpose,  annual dividends  payable in cash on the fifteenth day of
     December  in each  year  (each  such  date  being  referred  to herein as a
     "DIVIDEND  PAYMENT  DATE"),  commencing on the first Dividend  Payment Date
     after  the first  issuance  of a share or  fraction  of a share of Series A
     Preferred Stock, in an amount per share (rounded to the nearest cent) equal
     to the greater of (A) $10.00 per share, or (B) subject to the provision for
     adjustment hereinafter set forth, 1000 times the aggregate per share amount
     of all cash  dividends,  and 1000  times the  aggregate  per  share  amount
     (payable in kind) of all non-cash dividends or other  distributions,  other
     than a dividend  payable in shares of Common Stock or a subdivision  of the
     outstanding  shares of Common  Stock (by  reclassification  or  otherwise),
     declared  on the Common  Stock  since the  immediately  preceding  Dividend
     Payment Date,  or, with respect to the first Dividend  Payment Date,  since
     the  first  issuance  of any  share  or  fraction  of a share  of  Series A
     Preferred Stock. In the event the Corporation  shall at any time declare or
     pay any  dividend on Common  Stock  payable in shares of Common  Stock,  or
     effect a subdivision  or combination or  consolidation  of the  outstanding
     shares of Common Stock (by reclassification or otherwise) into a greater or
     lesser number of shares of Common Stock,  then in each such case the amount
     to which  holders  of shares  of Series A  Preferred  Stock  were  entitled
     immediately prior to such event under clause (b) of the preceding  sentence
     shall be adjusted by multiplying  such amount by a fraction,  the numerator
     of which is the number of shares of Common  Stock  outstanding  immediately
     after  such event and the  denominator  of which is the number of shares of
     Common Stock that were outstanding immediately prior to such event.

(B)  The  Corporation  shall declare a dividend or  distribution on the Series A
     Preferred  Stock as provided in paragraph  (A) of this Section  immediately
     after it declares a dividend or  distribution  on the Common  Stock  (other
     than a dividend  payable in shares of Common Stock);  PROVIDED that, in the
     event no dividend or  distribution  shall have been  declared on the Common
     Stock  during the period  between any  Dividend  Payment  Date and the next

                                      220

     subsequent  Dividend  Payment  Date,  a dividend of $10.00 per share on the
     Series A Preferred  Stock shall  nevertheless be payable on such subsequent
     Dividend Payment Date.

(C)  Dividends  shall begin to accrue and be cumulative on outstanding shares
     or Series A Preferred  Stock from the Dividend  Payment Date next preceding
     the date of issue of such  shares of Series A Preferred  Stock,  unless the
     date of issue of such  shares  is prior to the  record  date for the  first
     Dividend  Payment Date, in which case  dividends on such shares shall begin
     to accrue  from the date of issue of such  shares,  or  unless  the date of
     issue is a Dividend Payment Date or is a date after the record date for the
     determination  of holders of shares of Series A Preferred Stock entitled to
     receive a quarterly  dividend and before such  Dividend  Payment  Date,  in
     either  of  which  events  such  dividends  shall  begin to  accrue  and be
     cumulative from such Dividend  Payment Date.  Accrued but unpaid  dividends
     shall accumulate but shall not bear interest.  Dividends paid on the shares
     of Series A Preferred Stock in an amount less than the total amount of such
     dividends at the time accrued and payable on such shares shall be allocated
     PRO  RATA on a  share-by-share  basis  among  all such  shares  at the time
     outstanding.  The  Board  of  Directors  may  fix a  record  date  for  the
     determination  of holders of shares of Series A Preferred Stock entitled to
     receive  payment of a dividend  or  distribution  declared  thereon,  which
     record  date shall be not more than 60 days prior to the date fixed for the
     payment thereof.

     Section 3. VOTING RIGHTS. The holders of shares of Series A Preferred Stock
     shall have the following voting rights:

     (A) Subject to the provisions for adjustment as hereinafter set forth, each
     share of Series A Preferred  Stock shall entitle the holder thereof to 1000
     votes (and each one  one-thousandth  of a share of Series A Preferred Stock
     shall entitle the holder thereof to one vote) on all matters submitted to a
     vote of the stockholders of the  Corporation.  In the event the Corporation
     shall at any time declare or pay any  dividend on Common  Stock  payable in
     shares  of  Common  Stock  or  effect  a  subdivision   or  combination  or
     consolidation  of the  outstanding  shares  of  Common  Stock  or  effect a
     subdivision or combination or  consolidation  of the outstanding  shares of
     Common Stock (by  reclassification  or otherwise)  into a greater or lesser
     number  of shares of  Common  Stock,  then in each such case the  number of
     votes per share to which holders of shares of Series A Preferred Stock were
     entitled  immediately  prior to such event shall be adjusted by multiplying
     such number by a fraction,  the  numerator of which is the number of shares
     of  Common  Stock   outstanding   immediately  after  such  event  and  the
     denominator  of which is the  number of shares  of Common  Stock  that were
     outstanding immediately prior to such event.

     (B)  Except  as  otherwise   provided   herein,   in  the   Certificate  of
     Incorporation, in any other certificate of designation creating a series of
     preferred  stock or any similar stock,  or by law, the holders of shares of

                                      221

     Series A Preferred  Stock and the holders of shares of Common Stock and any
     other capital stock of the  Corporation  having general voting rights shall
     vote  together  as  one  class  on  all  matters  submitted  to a  vote  of
     stockholders of the Corporation.

     (C) Except as provided herein,  in Section 10 or by applicable law, holders
     of Series A Preferred  Stock shall have no special  voting rights and their
     consent  shall not be required  (except to the extent they are  entitled to
     vote with holders of Common Stock as set forth herein) for  authorizing  or
     taking any corporate action.

Section 4. CERTAIN RESTRICTIONS.

     (A)  Whenever  quarterly  dividends  or other  dividends  or  distributions
     payable on the Series A  Preferred  Stock as  provided  in Section 2 are in
     arrears,  thereafter  and  until  all  accrued  and  unpaid  dividends  and
     distributions,  whether or not  declared,  on shares of Series A  Preferred
     Stock outstanding shall have been paid in full, the Corporation shall not:

     (i)  declare  or pay  dividends  on,  make any other  distributions  on any
          shares  or  stock  ranking  junior  (either  as to  dividends  or upon
          liquidation,  dissolution  or  winding-up)  to the Series A  Preferred
          Stock;

     (ii) declare  or pay  dividends,  or make any other  distributions,  on any
          shares of stock  ranking on a parity  (either as to  dividends or upon
          liquidation,  dissolution  or winding  up) with the Series A Preferred
          Stock except  dividends paid ratably on the Series A Preferred  Stock,
          and all such parity stock on which dividends are payable or in arrears
          in  proportion  to the total  amounts to which the holders of all such
          shares are then entitled;

     (iii)redeem or purchase or otherwise  acquire for  consideration  shares of
          any stock ranking junior (either as to dividends or upon  liquidation,
          dissolution or winding-up) to the Series A Preferred  Stock,  PROVIDED
          that the  Corporation  may at any time  redeem,  purchase or otherwise
          acquire  shares of any such junior stock in exchange for shares of any
          stock of the  Corporation  ranking  junior  (either as to dividends or
          upon dissolution, liquidation or winding up) to the Series A Preferred
          Stock; or

     (iv) purchase or otherwise acquire for consideration any shares of Series A
          Preferred Stock, or any shares of stock ranking on a parity (either as
          to dividends or upon liquidation,  dissolution or winding-up) with the
          Series A Preferred  Stock,  except in accordance with a purchase offer
          made in  writing  or by  publication  (as  determined  by the Board of
          Directors)  to all holders of such shares upon such terms as the Board
          of Directors,  after  consideration of the respective  annual dividend
          rates and other  relative  rights and  preferences  of the  respective

                                      222

          series and classes,  shall determine in good faith will result in fair
          and equitable treatment among the respective series or classes.

     (v)  The Corporation  shall not permit any subsidiary of the Corporation to
          purchase or otherwise acquire for consideration any shares of stock of
          the Corporation  unless the Corporation  could, under paragraph (A) of
          this Section 4, purchase or otherwise acquire such shares at such time
          and in such manner.

Section 5. REACQUIRED  SHARES.  Any shares of Series A Preferred Stock purchased
or otherwise  acquired by the  Corporation  in any manner  whatsoever,  shall be
retired and canceled  promptly after the  acquisition  thereof.  All such shares
shall upon their cancellation become authorized but unissued shares of preferred
stock,  without  designation as to series,  and may be reissued as part of a new
series of preferred  stock to be created by  resolution  or  resolutions  of the
Board of Directors,  subject to the conditions and  restrictions on issuance set
forth  herein,  in the  Restated  Certificate  of  Incorporation,  in any  other
certificate of designation  creating a series of preferred  stock or any similar
stock or as otherwise required by law.

Section  6.  LIQUIDATION,  DISSOLUTION  OR  WINDING-UP.  Upon any  voluntary  or
involuntary  liquidation,  dissolution  or  winding-up  of the  Corporation,  no
distribution  shall be made (A) to the holders of shares of stock ranking junior
(either as to dividends or upon  liquidation,  dissolution or winding-up) to the
Series A Preferred Stock unless prior thereto, the holders of shares of Series A
Preferred  Stock shall have received the higher of (I) $1000 per share,  plus an
amount equal to accrued and unpaid dividends and distributions thereon,  whether
or not declared,  to the date of such payment,  or (II) an aggregate  amount per
share,  subject to the provision for adjustment  hereinafter set forth, equal to
1000 times the aggregate amount to be distributed per share to holders of Common
Stock; nor shall any distribution be made (B) to the holders of stock ranking on
a parity (either as to dividends or upon liquidation, dissolution or winding-up)
with the Series A Preferred  Stock,  except  distributions  made  ratably on the
Series A Preferred  Stock and all other such parity stock in  proportion  to the
total  amounts to which the  holders of all such shares are  entitled  upon such
liquidation,  dissolution or winding-up.  In the event the Corporation  shall at
any time declare or pay any dividend on Common Stock payable in shares of Common
Stock,  or  effect  a  subdivision  or  combination  or   consolidation  of  the
outstanding  shares of Common Stock (by  reclassification  or otherwise)  into a
greater or lesser number of shares of Common  Stock,  then in each such case the
aggregate  amount to which  holders of shares of Series A  Preferred  Stock were
entitled  immediately  prior to such event under the  provision in clause (A) of
the  preceding  sentence  shall be  adjusted  by  multiplying  such  amount by a
fraction  the  numerator  of which is the  number  of  shares  of  Common  Stock
outstanding  immediately  after such event and the  denominator  of which is the
number of shares of Common Stock that were outstanding immediately prior to such
event.

                                      223

Section 7. CONSOLIDATION,  MERGER, ETC. In case the Corporation shall enter into
any consolidation,  merger, combination or other transaction in which the shares
of Common Stock are  exchanged  for or changed  into other stock or  securities,
cash and/or any other property, or otherwise changed, then in any such case each
share of Series A Preferred Stock shall at the same time be similarly  exchanged
or changed into an amount per share  (subject to the  provision  for  adjustment
hereinafter  set  forth)  equal to 1000  times  the  aggregate  amount of stock,
securities,  cash and/or any other property  (payable in kind),  as the case may
be, into which or for which each share of Common Stock is changed or  exchanged.
In the event the  Corporation  shall at any time  declare or pay any dividend on
Common  Stock  payable in shares of Common  Stock,  or effect a  subdivision  or
combination  or  consolidation  of the  outstanding  shares of Common  Stock (by
reclassification  or  otherwise)  into a greater  or lesser  number of shares of
Common  Stock,  then in each such  case the  amount  set forth in the  preceding
sentence  with respect to the exchange or change of shares of Series A Preferred
Stock shall be adjusted by  multiplying  such amount by a fraction the numerator
of which is the number of shares of Common Stock  outstanding  immediately after
such event and the  denominator of which is the number of shares of Common Stock
that were outstanding immediately prior to such event.

Section 8. NO  REDEMPTION.  The shares of Series A Preferred  Stock shall not be
redeemable

Section 9. RANK.  Unless  otherwise  provided  in the  Restated  Certificate  of
Incorporation  of the Corporation or a Certificate of Designation  relating to a
subsequent series of preferred stock of the Corporation,  the Series A Preferred
Stock shall rank junior to all other series of the Corporation's preferred stock
as to the payment of dividends and the  distribution  of assets on  liquidation,
dissolution or winding-up, and senior to the Common Stock of this Corporation.

Section  10.  AMENDMENT.  The  Restated  Certificate  of  Incorporation  of  the
Corporation,  as  amended,  shall  not be  amended  in any  manner  which  would
materially  alter or change the  powers,  preferences  or special  rights of the
Series A Preferred Stock so as to affect them adversely  without the affirmative
vote of the holders of at least two-thirds of the outstanding shares of Series A
Preferred Stock, voting together as a single series.

Section  11.  FRACTIONAL  SHARES.  Series A  Preferred  Stock  may be  issued in
fractions of a share (in one  one-thousandths  of a share and integral multiples
thereof)  which  shall  entitle  the  holder,  in  proportion  to such  holder's
fractional shares, to exercise voting rights, receive dividends,  participate in
distributions and to have the benefit of all other rights of holders of Series A
Preferred Stock.

                                      224

IN WITNESS WHEREOF, this Certificate of Designation is executed on behalf of the
Corporation by its [title] and attested by its Secretary this th day of , .

                                                  ----------------------------
                                                  Name:    [officer]
                                                  Title:   [title]

ATTEST:

- -----------------------------
Name:
Title:

                                      225

                                                                       EXHIBIT B

                           [Form of Right Certificate]

Certificate No. R-                                                 ______ Rights

NOT EXERCISABLE AFTER __________ ____, 2011 OR EARLIER IF THE BOARD OF DIRECTORS
ORDERS THE  REDEMPTION  OR  EXCHANGE  OF THE  RIGHTS.  THE RIGHTS ARE SUBJECT TO
REDEMPTION  AT $.001  PER RIGHT  AND TO  EXCHANGE  ON THE TERMS SET FORTH IN THE
RIGHTS AGREEMENT.  UNDER CERTAIN CIRCUMSTANCES,  RIGHTS BENEFICIALLY OWNED BY AN
ACQUIRING PERSON OR AN AFFILIATE OR ASSOCIATE THEREOF (AS SUCH TERMS ARE DEFINED
IN THE RIGHTS  AGREEMENT)  AND ANY  SUBSEQUENT  HOLDER OF SUCH RIGHTS MAY BECOME
NULL AND VOID. THE RIGHTS SHALL NOT BE EXERCISABLE, AND SHALL BE VOID SO LONG AS
HELD, BY A HOLDER IN ANY JURISDICTION  WHERE THE REQUISITE  QUALIFICATION TO THE
ISSUANCE TO SUCH HOLDER,  OR THE EXERCISE BY SUCH HOLDER,  OF THE RIGHTS IN SUCH
JURISDICTION SHALL NOT HAVE BEEN OBTAINED OR BE OBTAINABLE.

                               Rights Certificate

                         PRINCIPAL FINANCIAL GROUP, INC.

This certifies that __________,  or registered  assigns, is the registered owner
of the  number  of Rights  set forth  above,  each of which  entitles  the owner
thereof,  subject  to  the  terms,  provisions  and  conditions  of  the  Rights
Agreement,  dated as of _______ ____, 2001, as the same may be amended from time
to time (the "RIGHTS  AGREEMENT"),  between Principal  Financial Group,  Inc., a
Delaware  corporation (the  "CORPORATION"),  and Mellon Investor Services LLC, a
New Jersey limited liability company (the "RIGHTS Agent"),  to purchase from the
Corporation at any time after the Distribution  Date (as such term is defined in
the Rights  Agreement) and prior to 5:00 P.M.  (Eastern time)  on_________ ____,
2011, at the principal  office of the Rights Agent,  or its successors as Rights
Agent, one one-thousandth of a fully paid nonassessable share of Series A Junior
Participating  Preferred  Stock,  par  value  $0.01 per  share  (the  "PREFERRED
STOCK"),   of  the  Corporation,   at  a  purchase  price  of  $______  per  one
one-thousandth  of a share of  Preferred  Stock  (the  "PURCHASE  PRICE"),  upon
presentation  and surrender of this Right  Certificate with the Form of Election
to Purchase and the Certificate  contained therein duly executed.  The number of
Rights evidenced by this Right  Certificate (and the number of one one-thousands
of a share of Preferred Stock which may be purchased upon exercise  thereof) set
forth  above,  and the  Purchase  Price  per one  one-thousandth  of a share  of

                                      226

Preferred  Stock set forth above,  are the number and  Purchase  Price as of , ,
based on the shares of Preferred Stock as constituted at such date.

From and after the first occurrence of a Section  11(a)(ii) Event (as defined in
the Rights  Agreement),  if the Rights  evidenced by this Right  Certificate are
beneficially  owned by (I) an  Acquiring  Person or an  Affiliate  or  Associate
thereof (as such terms are defined in the Rights  Agreement),  (II) a transferee
of any such  Acquiring  Person (or of any  Associate or  Affiliate  thereof) who
becomes a transferee  after such Acquiring Person (or any Associate or Affiliate
thereof)  becomes  such or (III) under  certain  circumstances  specified in the
Rights Agreement,  a transferee of such Acquiring Person (or of any Associate or
Affiliate  thereof) who becomes a transferee prior to or concurrently  with such
Acquiring  Person  becoming such,  such Rights shall become null and void and no
holder  hereof  shall have any right with  respect to such Rights from and after
the occurrence of such Section 11(a)(ii) Event.

The Rights  evidenced by this Right  Certificate  shall not be exercisable,  and
shall  be void so long as  held,  by a  holder  in any  jurisdiction  where  the
requisite  qualification to the issuance to such holder, or the exercise by such
holder,  of the Rights in such  jurisdiction  shall not have been obtained or be
obtainable.

As provided in the Rights  Agreement,  the Purchase  Price and the number of one
one-thousandths  of a share of  Preferred  Stock or the number and kind of other
securities  which may be purchased upon the exercise of the Rights  evidenced by
this Right  Certificate  are subject to  modification  and  adjustment  upon the
happening of certain events,  including  Section 11(a)(ii) Events and Section 13
Events (as defined in the Rights Agreement).

This Right Certificate is subject to all of the terms, provisions and conditions
of the Rights  Agreement,  as it may be amended from time to time,  which terms,
provisions and conditions are hereby incorporated herein by reference and made a
part hereof and to which  Rights  Agreement  reference is hereby made for a full
description  of the  rights,  limitations  of  rights,  obligations,  duties and
immunities hereunder of the Rights Agent, the Corporation and the holders of the
Right Certificates, which limitations of rights include the temporary suspension
of the exercisability of such Rights under the specific  circumstances set forth
in the  Rights  Agreement.  Copies of the  Rights  Agreement  are on file at the
principal executive offices of the Corporation and the above-mentioned office of
the  Rights  Agent and are also  available  upon  written  request to the Rights
Agent.

This Right Certificate, with or without other Right Certificates, upon surrender
at the principal  office of the Rights Agent, may be exchanged for another Right
Certificate  or Right  Certificates  of like  tenor and date  evidencing  Rights
entitling the holder to purchase a like aggregate number of one  one-thousandths
of a share of Preferred Stock as the Rights  evidenced by the Right  Certificate
or Right  Certificates  surrendered shall have entitled such holder to purchase.

                                      227

If this Right  Certificate  shall be  exercised  in part,  the  holder  shall be
entitled to receive upon  surrender  hereof  another Right  Certificate or Right
Certificates for the number of whole Rights not exercised.

Subject to the provisions of the Rights Agreement,  the Rights evidenced by this
Right  Certificate may be redeemed by the  Corporation at a redemption  price of
$.001 per Right at any time prior to the  earlier  of (I) the Stock  Acquisition
Time (as defined in the Rights  Agreement) and (II) the close of business on the
Expiration Date (as defined in the Rights Agreement).  Subject to the provisions
of the Rights  Agreement,  the rights evidenced by this Right Certificate may be
exchanged  in whole or part for shares of Common Stock or  fractional  shares of
Preferred Stock (or any other substantially similar series of preferred stock of
the Corporation).

No fractional  shares of Preferred Stock will be issued upon the exercise of any
Right or Rights  evidenced  hereby  (other  than  fractions  which are  integral
multiples of one one-thousandth of a share of Preferred Stock, which may, at the
election of the Corporation,  be evidenced by depositary receipts),  but in lieu
thereof a cash payment will be made, as provided in the Rights Agreement.

Other than those  provisions  relating to the redemption price of the Rights and
the  Expiration  Date,  any of the  provisions  of the Rights  Agreement  may be
amended by the Board of Directors of the  Corporation in any respect  whatsoever
up until the Stock  Acquisition Time and thereafter in certain respects which do
not adversely affect the interests of holders of Right Certificates  (other than
an Acquiring Person or the Affiliates or Associates thereof).

No  holder  of this  Right  Certificate  shall be  entitled  to vote or  receive
dividends or be deemed for any purpose the holder of shares of  Preferred  Stock
or of any other securities of the Corporation  which may at any time be issuable
on the exercise hereof,  nor shall anything contained in the Rights Agreement or
herein be construed to confer upon the holder hereof, as such, any of the rights
of a  stockholder  of the  Corporation  or any right to vote for the election of
directors or upon any matter  submitted to stockholders at any meeting  thereof,
or to give or withhold consent to any corporate  action, or to receive notice of
meetings  or other  actions  affecting  stockholders  (except as provided in the
Rights Agreement), or to receive dividends or subscription rights, or otherwise,
until the Right or Rights  evidenced by this Right  Certificate  shall have been
exercised as provided in the Rights Agreement.

This Right Certificate shall not be valid or obligatory for any purpose until it
shall have been countersigned by the Rights Agent.

                                      228

WITNESS the facsimile  signature of the proper  officers of the  Corporation and
its corporate seal. Dated as of ______ _____, -----.

         ATTEST:                                PRINCIPAL FINANCIAL GROUP, INC.

         __________________________             By ____________________________
              Secretary                         Title:

         Countersigned:
         MELLON INVESTOR SERVICES LLC

         By _______________________
         Authorized Signature

                                      229

                   [Form of Reverse Side of Right Certificate]

                               FORM OF ASSIGNMENT

                (To be executed by the registered holder if such

               holder desires to transfer the Right Certificate.)

FOR  VALUE  RECEIVED  ____________________________  hereby  sells,  assigns  and
transfers                                                                   unto
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
(Please print name and address of transferee) this Right  Certificate,  together
with  all  right,  title  and  interest  therein,  and does  hereby  irrevocably
constitute and appoint  _____________________  Attorney,  to transfer the within
Right Certificate on the books of the within named Corporation,  with full power
of substitution. Dated:_____________, ____

                                                     --------------------------
                                                     Signature

Signatures Guaranteed:
The  undersigned  hereby  certifies that (1) the Rights  evidenced by this Right
Certificate are not beneficially owned by an Acquiring Person or an Affiliate or
Associate  thereof  (as  defined  in the  Rights  Agreement);  and (2) after due
inquiry and to the best  knowledge  of the  undersigned,  it [ ] did [ ] did not
acquire the Rights  evidenced by this Right  Certificate from any Person who is,
was or  subsequently  became an  Acquiring  Person or an  Affiliate or Associate
thereof.

                                                     ---------------------------
                                                     Signature

                                      230

The signature to the foregoing Assignment must correspond to the name as written
upon the face of this Right Certificate in every particular,  without alteration
or enlargement or any change whatsoever.

                                      231

                          FORM OF ELECTION TO PURCHASE

                      (To be executed if holder desires to
                        exercise the Right Certificate.)

To Principal Financial Group, Inc.:
The undersigned  hereby irrevocably  elects to exercise  _______________  Rights
represented by this Right  Certificate to purchase the shares of Preferred Stock
issuable  upon the  exercise  of such  Rights (or such other  securities  of the
Corporation  or of any other Person  which may be issuable  upon the exercise of
the Rights) and requests that certificates for such shares be issued in the name
of:
Please    insert    social    security    or    other     identifying     number
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
                         (Please print name and address)

If such  number of Rights  shall not be all the Rights  evidenced  by this Right
Certificate,  a new Right  Certificate for the balance  remaining of such Rights
shall be  registered  in the name of and  delivered  to:  Please  insert  social
security or other identifying number

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
                         (Please print name and address)

Dated:__________________, ____

                                      232

                   [Form of Election to Purchase -- continued]

                                                     --------------------------
                                                     Signature

(Signature  must  conform in all  respects to name of holder as specified on the
face of this Right Certificate.)

Signature Guaranteed:

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

                        (To be completed if applicable)

The  undersigned  hereby  certifies that (1) the Rights  evidenced by this Right
Certificate are not beneficially owned by an Acquiring Person or an Affiliate or
Associate  thereof (as defined in the Rights  Agreement);  (2) after due inquiry
and to the best knowledge of the undersigned, it [ ] did [ ] did not acquire the
Rights  evidenced  by this  Right  Certificate  from any  Person  who is, was or
subsequently became an Acquiring Person of an Affiliate or Associate thereof.

                                                     ---------------------------
                                                     Signature
- --------------------------------------------------------------------------------

                                     NOTICE

In the event the  certification  set forth above in the Forms of Assignment  and
Election is not completed, the Corporation will deem the beneficial owner of the
Rights  evidenced  by this Right  Certificate  to be an  Acquiring  Person or an
Affiliate or Associate  thereof (as defined in the Rights Agreement) and, in the
case  of an  Assignment,  will  affix  a  legend  to that  effect  on any  Right
Certificates issued in exchange for this Rights Certificate.

                                      233

                                                                       EXHIBIT C

UNDER CERTAIN CIRCUMSTANCES, RIGHTS BENEFICIALLY OWNED BY AN ACQUIRING PERSON OR
AN  AFFILIATE  OR  ASSOCIATE  THEREOF  (AS SUCH TERMS ARE  DEFINED IN THE RIGHTS
AGREEMENT) AND ANY SUBSEQUENT HOLDER OF SUCH RIGHTS MAY BECOME NULL AND VOID.

                         PRINCIPAL FINANCIAL GROUP, INC.

                          SUMMARY OF RIGHTS TO PURCHASE
                                 PREFERRED STOCK

The Board of Directors of Principal  Financial Group,  Inc. (the  "CORPORATION")
has  authorized  the issuance of one Preferred  Share Purchase Right (a "RIGHT")
for each  outstanding  share of Common Stock,  par value $0.01 per share, of the
Corporation (the "COMMON STOCK"). The following is a summary of the terms of the
Rights.

Each Right entitles the registered  holder to purchase from the  Corporation one
one-thousandth of a share of Series A Junior Participating  Preferred Stock, par
value $0.01 per share, of the Corporation (the "PREFERRED  STOCK") at a price of
$______  per one  one-thousandth  of a share  of  Preferred  Stock,  subject  to
adjustment (the "PURCHASE  PRICE").  The description and terms of the Rights are
set  forth in a  Rights  Agreement,  dated as of  October  22,  2001(the  Rights
Agreement, as it may be amended from time to time, is hereinafter referred to as
the "RIGHTS  AGREEMENT")  between the Corporation  and Mellon Investor  Services
LLC,  a New Jersey  limited  liability  company,  as Rights  Agent (the  "RIGHTS
AGENT").

Initially,  the Rights  will be  attached to all Common  Stock  book-entries  or
certificates representing shares then outstanding,  and no separate book-entries
or  certificates   representing  the  Rights  ("RIGHT   CERTIFICATES")  will  be
distributed.  The Rights will separate from the Common Stock and a "DISTRIBUTION
DATE" will occur upon the  earlier to occur of (I) ten days  following  the time
(the  "STOCK  ACQUISITION  TIME")  of a public  announcement  or  notice  to the
Corporation  that a person or group of  affiliated  or  associated  persons  (an
"ACQUIRING  PERSON")  acquired,  or obtained  the right to  acquire,  beneficial
ownership of 10% or more of the outstanding Common Stock of the Corporation, and
(II) ten business days (or, if determined by the Board of Directors, a specified
or unspecified  later date)  following the  commencement  or  announcement of an
intention to make a tender offer or exchange offer which,  if successful,  would
cause the bidder to own 10% of more of the outstanding Common Stock.

The Rights Agreement  provides that, until the Distribution Date, (I) the Rights
will be transferred  with and only with the Common Stock,  (II) new Common Stock

                                      234

certificates issued after __________ ____, 2001, upon transfer,  new issuance or
reissuance of the Common Stock, will contain a notation incorporating the Rights
Agreement by reference and (III) the surrender for transfer of any of the Common
Stock book-entries or certificates outstanding will also constitute the transfer
of the Rights  associated  with the shares of Common Stock  represented  by such
certificate or book-entry.  As soon as  practicable  following the  Distribution
Date,  separate  Right  Certificates  will be mailed to holders of record of the
Common  Stock as of the  close of  business  on the  Distribution  Date and such
separate Right Certificates alone will evidence the Rights. Except in connection
with  issuance of Common Stock  pursuant to employee  stock  plans,  options and
certain convertible securities,  and except as otherwise determined by the Board
of Directors,  only shares of Common Stock issued prior to the Distribution Date
will be issued with Rights.

The Rights are not  exercisable  until the  Distribution  Date.  The Rights will
expire on __________  ____,  2011,  unless earlier  redeemed or exchanged by the
Corporation as described below.

In the event that, after the Stock Acquisition Time, the Corporation is acquired
in  a  merger  or  other  business   combination   transaction  (except  certain
transactions  with a person  who  became  an  Acquiring  Person as a result of a
tender offer described in the next  succeeding  paragraph) or 50% or more of its
assets,  cash flow or earning power is sold,  proper  provision shall be made so
that each holder of a Right shall thereafter have the right to receive, upon the
exercise thereof at the then current exercise price of the Right, that number of
shares of common stock of the  acquiring  corporation  which at the time of such
transaction  would have a market value (as defined in the Rights  Agreement)  of
two times the Purchase  Price of the Right.  In the event that,  after the Stock
Acquisition Time, the Corporation were the surviving corporation of a merger and
its Common Stock were changed or exchanged,  proper  provision  shall be made so
that each  holder of a Right  will  thereafter  have the right to  receive  upon
exercise  that  number of shares of  common  stock of the  Corporation  having a
market value of two times the exercise price of the Right.

In the event that a person or group becomes an Acquiring Person,  each holder of
a Right  (other than the  Acquiring  Person) will  thereafter  have the right to
receive  upon  exercise  that  number of shares of Common  Stock (or, in certain
circumstances,  cash, a reduction in the Purchase Price,  Preferred Stock, other
equity securities of the Corporation, debt securities of the Corporation,  other
property  or a  combination  thereof)  having a market  value (as defined in the
Rights Agreement) of two times the Purchase Price of the Right.  Notwithstanding
any of the foregoing, following the occurrence of any of the events set forth in
this paragraph,  all Rights that are, or (under certain circumstances  specified
in the Rights Agreement) were, beneficially owned by any Acquiring Person (or an
affiliate, associate or transferee thereof) will be null and void. A person will
not be an  Acquiring  Person  if  the  Board  of  Directors  of the  Corporation
determines  that such person or group became an Acquiring  Person  inadvertently

                                      235

and such  person or group  promptly  divests  itself of a  sufficient  number of
shares of Common  Stock so that such  person or group is no longer an  Acquiring
Person.

The Purchase Price payable, and the number of shares of Preferred Stock or other
securities  or  property  issuable,  upon  exercise of the Rights are subject to
adjustment  from time to time to  prevent  dilution  (I) in the event of a stock
dividend on, or a subdivision, combination or reclassification of, the Preferred
Stock,  (II) upon the grant to holders of Preferred  Stock of certain  rights or
warrants to subscribe for Preferred Stock or convertible securities at less than
the current market price of Preferred  Stock or (III) upon the  distribution  to
holders of Preferred  Stock of evidences of  indebtedness  or assets  (excluding
regular  periodic cash dividends or dividends  payable in Preferred Stock) or of
subscription rights or warrants (other than those referred to above). The number
of Rights and number of shares of Preferred  Stock issuable upon the exercise of
each  Right  are also  subject  to  adjustment  in the  event of a stock  split,
combination or stock dividend on the Common Stock.

With certain  exceptions,  no adjustment in the Purchase  Price will be required
until  cumulative  adjustments  require  an  adjustment  of at  least 1% in such
Purchase  Price.  No fractional  shares of Preferred Stock will be issued (other
than fractions which are integral  multiples of one one-thousandth of a share of
Preferred Stock which may, upon the election of the Corporation, be evidenced by
depositary  receipts)  and, in lieu thereof,  an adjustment in cash will be made
based on the market price of the Preferred  Stock on the last trading date prior
to the date of exercise.

At any  time  prior  to the  earlier  of the  Stock  Acquisition  Time  and  the
Expiration Date (as defined in the Rights Agreement), the Board of Directors may
redeem the Rights in whole,  but not in part, at a price of $.001 per Right (the
"REDEMPTION  PRICE").  Immediately  upon the  action of the  Board of  Directors
ordering  redemption of the Rights, the Rights will terminate and the only right
of the holders of Rights will be to receive the Redemption Price.

At any  time  after a  person  becomes  an  Acquiring  Person  and  prior to the
acquisition  by such Person of 50% or more of the  outstanding  shares of Common
Stock,  the Board of Directors of the Corporation may exchange the Rights (other
than Rights  beneficially owned by such Person which have become void), in whole
or part, at an exchange ratio of one share of Common Stock per Right (subject to
adjustment).  The  Corporation,  at its option,  may  substitute  one-thousandth
(subject  to  adjustment)  of a share of  Preferred  Stock (or  other  series of
substantially  similar  preferred  stock of the  Corporation)  for each share of
Common Stock to be exchanged.

Each share of Preferred Stock  purchasable upon exercise of the Rights will have
a  minimum  preferential  dividend  of $10 per  year,  but will be  entitled  to
receive, in the aggregate, a dividend of 1000 times the dividend declared on the
shares of Common Stock. In the event of  liquidation,  the holders of the shares

                                      236

of Preferred Stock will be entitled to receive a minimum  liquidation payment of
$1000 per  share,  but will be  entitled  to receive  an  aggregate  liquidation
payment  equal to 1000 times the payment  made per share of Common  Stock.  Each
share of Preferred Stock will have one thousand votes,  voting together with the
shares  of Common  Stock.  In the event of any  merger,  consolidation  or other
transaction  in which  shares  of  Common  Stock are  exchanged,  each  share of
Preferred  Stock will be entitled  to receive  1000 times the amount and type of
consideration  received per share of Common  Stock.  The rights of the shares of
Preferred Stock as to dividends and liquidation, and in the event of mergers and
consolidations, are protected by anti-dilution provisions.

Until a Right is exercised,  the holder thereof, as such, will have no rights as
a stockholder of the Corporation, other than rights resulting from such holder's
ownership of shares of Common Stock, including, without limitation, the right to
vote or to receive  dividends.  While the distribution of the Rights will not be
taxable to stockholders or to the Corporation,  stockholders may, depending upon
the circumstances,  recognize taxable income in the event that the Rights become
exercisable for Common Stock (or other  consideration) of the Corporation or for
common stock of the acquiring corporation as set forth above.

Other than those provisions relating to the Redemption Price and expiration date
of the Rights,  any of the provisions of the Rights  Agreement may be amended by
the Board of Directors prior to the Stock Acquisition Time. After such time, the
provisions  of the Rights  Agreement may be amended by the Board of Directors in
order to cure any ambiguity,  to correct or supplement defective or inconsistent
provisions,  to shorten or lengthen any time period under the Rights  Agreement,
to make changes  which do not  adversely  affect the interests of the holders of
Rights  (excluding  the  interests  of any  Acquiring  Person)  or to shorten or
lengthen any time period under the Rights Agreement;  PROVIDED, HOWEVER, that no
amendment to adjust the time period  governing  redemption shall be made at such
time as the Rights are not redeemable.

The term "VOTING STOCK" means (I) the shares of Common Stock of the  Corporation
and (II) any other shares of capital stock of the  Corporation  entitled to vote
generally in the election of  directors  or entitled to vote  together  with the
shares of Common Stock in respect of any merger,  consolidation,  sale of all or
substantially  all of the  Corporation's  assets,  liquidation,  dissolution  or
winding up.

A copy of the Rights  Agreement has been filed with the  Securities and Exchange
Commission as an Exhibit to the Corporation's Registration Statement on Form S-1
dated  ___________ ____, 2001. Copies of the Rights Agreement are available free
of charge from the Corporation.  This summary description of the Rights does not
purport to be complete  and is  qualified  in its  entirety by  reference to the
Rights  Agreement,  as it may be  amended  from  time to time,  which is  hereby
incorporated herein by reference.

                                      237

                                                                   Exhibit 10.3

RESOLVED,  that the Principal  Financial  Group Long-Term  Performance  Plan (as
amended  and  restated  as of January 1,  2001)  ("Plan")  be amended to clarify
Section 4.9(c) of the Plan to read as follows:

     (c) Distribution of Deferral Account. Final Performance Units deferred that
     were  payable in Common Stock shall be  distributed  in Common  Stock.  The
     number of shares  distributed  shall be equal to the number of shares  that
     would have originally been distributed in the absence of deferral, adjusted
     for stock  splits,  stock  dividends  and  reinvestment  of cash  dividends
     between the end of the Performance  Period for which the Final  Performance
     Units  were  granted  and  the  date  the  deferred  amounts  are  actually
     distributed.  Final  Performance  Units  deferred that were payable in cash
     shall be distributed in cash. The amount of cash distributed shall be based
     on the End Imputed Value for the last Performance Period ended prior to the
     distribution. The number of shares distributed shall be equal to the number
     of shares that would have  originally  been  distributed  in the absence of
     deferral,  adjusted for stock splits,  stock dividends and  reinvestment of
     cash  dividends  between  the end of the  Performance  Period for which the
     Final  Performance Units were granted and the date the deferred amounts are
     actually  distributed.  The  amount  distributed  upon  termination  of the
     Participant's  employment  for  any  reason  except  Retirement  or if  the
     Participant  becomes  Disabled  shall be based on the  average  fair market
     value of Principal  Financial Group, Inc. stock during the 20 business days
     prior to the distribution.  If the End Imputed Value is calculated based on
     the  quotient  set forth in Article  II,  then End  Imputed  Value shall be
     adjusted,  if  necessary,  to make the  denominator  equal to the number of
     Initial  Performance Units established for the Performance Period for which
     the Final Performance Units were granted.

                                      238

                                                                   EXHIBIT 10.12

Michael Daley
270 Farmstead Hill Road
Fairfield, CT  06430

Dear Mike

It is with  great  pleasure  that I offer you the  position  of  Executive  Vice
President of Principal Life Insurance Company with a start date of June 5, 2000.
This offer is subject to approval of the Principal's Board of Directors and they
meet on Monday, May 15. Please respond to this offer no later than May 10, 2000.

As  Executive  Vice  President,  you  will  report  to me,  and will  receive  a
compensation  package  consisting of cash compensation and full participation in
the benefits available to executive vice presidents,  as well as a comprehensive
relocation package:

I.   Annual Cash Compensation

     A.   Base Compensation. Your base compensation will be $350,000.

     B.   PrinPay.  The annual  incentive pay plan has a target award of 45% for
          executive  vice  presidents.  The award is based on the  prior  year's
          earnings,  and is paid early in the  following  year,  if  performance
          goals are met.  The  level of the  payout is  dependent  upon  meeting
          certain  corporate  and business  unit  financial,  customer  service,
          internal  process and learning and growth goals.  The range of payouts
          could be 0 - 200% of the 45% award target.  You will receive a prorata
          portion of this award for the time you work in 2000.

     C.   Long Term Incentive  Plan. Our long term incentive  compensation  plan
          has a performance unit concept. It will grant participants performance
          units designed to reward them for three year cumulative  corporate ROE
          and earnings performance,  based on a pre-determined  formula. It will
          contain  an  incentive  opportunity  targeted  at 60% of base  pay for
          executive vice presidents.  The plan will also have additional  upside
          (and downside)  potential,  depending on certain thresholds and target
          levels  being met. The bonus based on 2000 base pay will be payable in
          2003,  and will be based on corporate  performance  in 2000,  2001 and
          2002. You will

                                      239

          participate  as if  you  were  employed  for  all  of  2000.  A  brief
          description of the plan is included.

          In  recognition  of the stock options you have had, you will receive a
          bonus  to be paid  early  in 2001  and  2002.  These  bonuses  will be
          equivalent  to the Long Term  Incentive  Plan  payments you would have
          received had you been employed in 1998 and 1999.

II.  In addition to generous  health  benefits,  we offer an executive  benefits
     package.  Information  is included about the major benefits and the package
     includes:

     A.   Life insurance,  dental and vision insurance and long-term  disability
          insurance.  Any eligibility  waiting period for these benefits will be
          waived. You will also have the opportunity to purchase Group Universal
          life insurance and property and casualty insurance.

     B.   A non-contributory defined benefit pension plan with an annual cost of
          living adjustment.

     C.   A defined  contribution  (401(k)) plan, with an employer match feature
          and attractive investment choices.

     D.   Non-qualified  plans designed to protect  executives  from  government
          limits.

     E.   Access  to a  financial  planner.  Principal  will  pay for the  first
          session of planning through Ernst & Young.

     F.   Additional fringe benefits,  including membership in a private club in
          downtown Des Moines with dining facilities.

     G.   You will have eighty (80) hours of Paid Time Off ("PTO") at the outset
          of your  employment,  and will then accrue  eight (8)  additional  PTO
          hours per bi-weekly pay period.

III. Given that you will be moving  your  family  from  Fairfield,  Connecticut,
     Principal will also pay your relocation costs, including:

     A.   The costs of moving your  household  goods from  Fairfield  to the Des
          Moines area.

                                      240

     B.   The normal  and  customary  closing  costs for your home in Des Moines
          that are  normally  incurred by the buyer in  securing a mortgage  and
          transferring  title,  as well as two house hunting trips to Des Moines
          for you and  your  spouse.  We will  also pay the  realtor's  fees for
          selling your home in Fairfield.

     C.   We will also pay for housing  costs as needed while you maintain  your
          residence in Fairfield for up to six months.

We very much want you to join our team, and look forward to your answer.  Please
call me should you have any questions.

Sincerely,

/s/ J. Barry Griswell
_____________________________________
J. Barry Griswell
President and Chief Executive Officer
Phone:  (515) 247-5749
Fax:  (515) 248-8617

                                      241

                                                                     Exhibit 21

                             PROPRIETARY INFORMATION
================================================================================
               PRINCIPAL FINANCIAL GROUP, INC. - Member Companies
                                   12/31/2001
================================================================================
                                                              Jurisdiction of
ENTITY NAME                                                    Incorporation
================================================================================

ANDUEZA & PRINCIPAL CREDITOS  HIPOTECARIOS S.A.                            Chile
- --------------------------------------------------------------------------------
BENEFIT FIDUCIARY CORPORATION                                       Rhode Island
- --------------------------------------------------------------------------------
BOSTON INSURANCE TRUST, INC.                                       Massachusetts
- --------------------------------------------------------------------------------
BRASILPREV PREVIDENCIA PRIVADA S.A.                                       Brazil
- --------------------------------------------------------------------------------
DELAWARE CHARTER GUARANTEE & TRUST COMPANY                              Delaware
- --------------------------------------------------------------------------------
DENTAL-NET, INC.                                                         Arizona
- --------------------------------------------------------------------------------
DISTRIBUIDORA PRINCIPAL MEXICO, S.A. de C.V.                              Mexico
- --------------------------------------------------------------------------------
EMPLOYERS DENTAL SERVICES, INC.                                          Arizona
- --------------------------------------------------------------------------------
EQUITY FC, LTD.                                                             Iowa
- --------------------------------------------------------------------------------
EXECUTIVE BENEFIT SERVICES, INC.                                  North Carolina
- --------------------------------------------------------------------------------
EXECUTIVE BROKER DEALER SERVICES, LLC                             North Carolina
- --------------------------------------------------------------------------------
HEALTHRISK RESOURCE GROUP, INC.                                             Iowa
- --------------------------------------------------------------------------------
IDBI-PRINCIPAL ASSET MANAGEMENT COMPANY                                    India
- --------------------------------------------------------------------------------
IDBI-PRINCIPAL TRUSTEE COMPANY LIMITED                                     India
- --------------------------------------------------------------------------------
ING/PRINCIPAL PENSIONS CO., LTD                                            Japan
- --------------------------------------------------------------------------------
INSOURCE GROUP, LLC                                                     Delaware
- --------------------------------------------------------------------------------
PATRICIAN ASSOCIATES, INC.                                            California
- --------------------------------------------------------------------------------
PETULA ASSOCIATES, LTD.                                                     Iowa
- --------------------------------------------------------------------------------
PETULA PROLIX DEVELOPMENT COMPANY                                           Iowa
- --------------------------------------------------------------------------------
PFG DO BRASIL LTDA                                                        Brazil
- --------------------------------------------------------------------------------
PPI EMPLOYEE BENEFITS CORPORATION                                    Connecticut
- --------------------------------------------------------------------------------
PREFERRED PRODUCT NETWORK, INC.                                         Delaware
- --------------------------------------------------------------------------------

                                      242

- --------------------------------------------------------------------------------
PRINCIPAL AFORE, S.A., DE C.V.                                            Mexico
- --------------------------------------------------------------------------------
PRINCIPAL ASSET MANAGEMENT COMPANY (ASIA) LTD.                         Hong Kong
- --------------------------------------------------------------------------------
PRINCIPAL ASSET MARKETS, INC.                                               Iowa
- --------------------------------------------------------------------------------
PRINCIPAL AUSTRALIA (HOLDINGS) PTY LTD                                 Australia
- --------------------------------------------------------------------------------
PRINCIPAL BANK                                                           Federal
- --------------------------------------------------------------------------------
PRINCIPAL CAPITAL FUTURES TRADING ADVISOR, LLC                          Delaware
- --------------------------------------------------------------------------------
PRINCIPAL CAPITAL GLOBAL INVESTORS LTD                                 Australia
- --------------------------------------------------------------------------------
PRINCIPAL COMMERCIAL ACCEPTANCE, LLC                                    Delaware
- --------------------------------------------------------------------------------
PRINCIPAL COMMERCIAL FUNDING, LLC                                       Delaware
- --------------------------------------------------------------------------------
PRINCIPAL COMPANIA DE SEGUROS DE VIDA CHILE S.A.                           Chile
- --------------------------------------------------------------------------------
PRINCIPAL CONSULTING (INDIA) PRIVATE LIMITED                               India
- --------------------------------------------------------------------------------
PRINCIPAL DELAWARE NAME HOLDING COMPANY, INC.                           Delaware
- --------------------------------------------------------------------------------
PRINCIPAL DEVELOPMENT ASSOCIATES, INC.                                California
- --------------------------------------------------------------------------------
PRINCIPAL DEVELOPMENT INVESTORS, L.L.C.                                 Delaware
- --------------------------------------------------------------------------------
PRINCIPAL ENTERPRISE CAPITAL, LLC                                       Delaware
- --------------------------------------------------------------------------------
PRINCIPAL FC, LTD.                                                          Iowa
- --------------------------------------------------------------------------------
PRINCIPAL FINANCIAL ADVISORS, INC.                                          Iowa
- --------------------------------------------------------------------------------
PRINCIPAL FINANCIAL GROUP (MAURITIUS) LTD.                             Mauritius
- --------------------------------------------------------------------------------
PRINCIPAL FINANCIAL GROUP INVESTMENTS (AUSTRALIA) PTY LTD              Australia
- --------------------------------------------------------------------------------
PRINCIPAL FINANCIAL GROUP, INC.                                         Delaware
- --------------------------------------------------------------------------------
PRINCIPAL FINANCIAL SERVICES (AUSTRALIA), INC.                              Iowa
- --------------------------------------------------------------------------------

                                      243

- --------------------------------------------------------------------------------
PRINCIPAL FINANCIAL SERVICES, INC.                                          Iowa
- --------------------------------------------------------------------------------
PRINCIPAL GENERATION PLANT, LLC                                         Delaware
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS (ASIA) LIMITED                              Hong Kong
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS (AUSTRALIA) LIMITED                         Australia
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS (AUSTRALIA) SERVICE COMPANY PTY LTD         Australia
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS (EUROPE) LIMITED                       United Kingdom
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS (IRELAND) LTD                                 Ireland
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS (SIGNAPORE) LIMITED                         Singapore
- --------------------------------------------------------------------------------
PRINCPAL GLOBAL INVESTORS TRUST                                         Delaware
- --------------------------------------------------------------------------------
PRINCIPAL GLOBAL INVESTORS, LLC                                         Delaware
- --------------------------------------------------------------------------------
PRINCIPAL HEALTH CARE, INC.                                                 Iowa
- --------------------------------------------------------------------------------
PRINCIPAL HOLDING COMPANY                                                   Iowa
- --------------------------------------------------------------------------------
PRINCIPAL HOTEL LTD                                                    Australia
- --------------------------------------------------------------------------------
PRINCIPAL HOTELS AUSTRALIA PTY LTD                                     Australia
- --------------------------------------------------------------------------------
PRINCIPAL HOTELS HOLDINGS PTY LTD                                      Australia
- --------------------------------------------------------------------------------
PRINCIPAL INSURANCE COMPANY (HONG KONG) LIMITED                        Hong Kong
- --------------------------------------------------------------------------------
PRINCIPAL INTERNATIONAL (ASIA) LIMITED                                 Hong Kong
- --------------------------------------------------------------------------------
PRINCIPAL INTERNATIONAL ARGENTINA, S.A.                                Argentina
- --------------------------------------------------------------------------------
PRINCIPAL INTERNATIONAL DE CHILE S.A.                                      Chile
- --------------------------------------------------------------------------------
PRINCIPAL INTERNATIONAL HOLDING COMPANY, LLC                            Delaware
- --------------------------------------------------------------------------------
PRINCIPAL INTERNATIONAL, INC.                                               Iowa
- --------------------------------------------------------------------------------

                                      244

- --------------------------------------------------------------------------------
PRINCPAL INVESTMENTS (AUSTRALIA) LIMITED                                Delaware
- --------------------------------------------------------------------------------
PRINCIPAL INVESTORS CORPORATION                                       New Jersey
- --------------------------------------------------------------------------------
PRINCIPAL LIFE COMPANIA DE SEGUROS DE VIDA, S.A.                       Argentina
- --------------------------------------------------------------------------------
PRINCIPAL LIFE INSURANCE COMPANY                                            Iowa
- --------------------------------------------------------------------------------
PRINCIPAL MANAGEMENT CORPORATION                                            Iowa
- --------------------------------------------------------------------------------
PRINCIPAL MEXICO COMPANIA DE SEGUROS, S.A. de C.V.                        Mexico
- --------------------------------------------------------------------------------
PRINCIPAL MEXICO SERVICIOS, S.A. de C.V.                                  Mexico
- --------------------------------------------------------------------------------
PRINCIPAL MORTGAGE REINSURANCE COMPANY                                   Vermont
- --------------------------------------------------------------------------------
PRINCIPAL NET LEASE INVESTORS, L.L.C.                                   Delaware
- --------------------------------------------------------------------------------
PRINCIPAL PENSIONES, S.A. DE C.V.                                         Mexico
- --------------------------------------------------------------------------------
PRINCIPAL PORTFOLIO SERVICES, INC.                                          Iowa
- --------------------------------------------------------------------------------
PRINCIPAL REAL ESTATE INVESTORS (AUSTRALIA) LIMITED                    Australia
- --------------------------------------------------------------------------------
PRINCIPAL REAL ESTATE INVESTORS, LLC                                    Delaware
- --------------------------------------------------------------------------------
PRINCIPAL RESIDENTIAL MORTGAGE FUNDING, LLC                             Delaware
- --------------------------------------------------------------------------------
PRINCIPAL RESIDENTIAL MORTGAGE SERVICING, LLC                           Delaware
- --------------------------------------------------------------------------------
PRINCIPAL RESIDENTIAL MORTGAGE, INC.                                        Iowa
- --------------------------------------------------------------------------------
PRINCIPAL RETIRO COMPANIA DE SEGUROS DE RETIRO, S.A.                   Argentina
- --------------------------------------------------------------------------------
PRINCIPAL SIEFORE, S.A. DE C.V.                                           Mexico
- --------------------------------------------------------------------------------
PRINCIPAL SPECTRUM ASSOCIATES, INC.                                   California
- --------------------------------------------------------------------------------
PRINCIPAL TACTICAL ASSET MANAGEMENT PTY LTC                               Mexico
- --------------------------------------------------------------------------------
PRINCIPAL TANNER ADMINISTRADORA GENERAL DE FONDOS MUTUOS S.A.              Chile
- --------------------------------------------------------------------------------

                                      245

- --------------------------------------------------------------------------------
PRINCIPAL TRUST COMPANY (ASIA) LIMITED                                 Hong Kong
- --------------------------------------------------------------------------------
PRINCIPAL WHOLESALE MORTGAGE, INC.                                          Iowa
- --------------------------------------------------------------------------------
PRINCOR FINANCIAL SERVICES CORPORATION                                      Iowa
- --------------------------------------------------------------------------------
PROFESSIONAL PENSIONS, INC.                                          Connecticut
- --------------------------------------------------------------------------------
SPECTRUM ASSET MANAGEMENT, INC.                                      Connecticut
- --------------------------------------------------------------------------------
ZAO PRINCIPAL INTERNATIONAL                                               Russia
- --------------------------------------------------------------------------------

                                      246

                                                                     Exhibit 23

                         CONSENT OF INDEPENDENT AUDITORS

We consent to the incorporation by reference in the Registration Statement (Form
S-8 No. 333-72006) pertaining to Principal Financial Group, Inc. Stock Incentive
Plan, Principal Financial Group Long-Term  Performance Plan, Principal Financial
Group, Inc.  Directors Stock Plan, and Principal  Financial Group, Inc. Employee
Stock Purchase Plan and in the Registration  Statement (Form S-8 No.  333-72002)
pertaining to The Principal  Select  Savings Excess Plan,  Nonqualified  Defined
Contribution Plan for Designated Participants, The Principal Select Savings Plan
for Individual Field, and The Principal Select Savings Plan for Employees of our
reports  dated  January 31,  2003,  with respect to the  consolidated  financial
statements  and schedules of Principal  Financial  Group,  Inc.  included in the
Annual Report (Form 10-K) for the year ended December 31, 2002.

                                                           /s/ Ernst & Young LLP

Des Moines, Iowa
March 3, 2003

                                      247

                                                                      Exhibit 24

                                POWER OF ATTORNEY

Each person whose signature appears below hereby authorizes and appoints J.
Barry Griswell, Michael H. Gersie, Karen E. Shaff and Joyce N. Hoffman, and each
of them, as such person's true and lawful attorney-in-fact and agent, with full
power of substitution and resubstitution, to sign on such person's behalf
individually and in each capacity stated below the Annual Report on Form 10-K
under the Securities Exchange Act of 1934, as amended, of Principal Financial
Group, Inc., and to file the same, with all exhibits thereto, and other
documents in connection therewith, with the Securities and Exchange Commission,
granting unto said attorney-in-fact and agent, and each of them, full power and
authority to do and perform each and every thing requisite and necessary to be
done in connection therewith, as fully to all intents and purposes as such
person could do in person, hereby ratifying and confirming all that such
attorney-in-fact or agent may lawfully do or cause to be done by virtue hereof.

Dated February 24, 2003

     /s/ J. Barry Griswell                         /s/ Charles S. Johnson
     J. Barry Griswell                             Charles S. Johnson
     Chairman, President and Chief                 Director
     Executive Officer, Director

     /s/ Michael H. Gersie                         /s/ William T. Kerr
     Michael H. Gersie                             William T. Kerr
     Executive Vice President and Chief            Director
     Financial Officer

     /s/ Betsy J. Bernard                          /s/ R. L. Keyser
     Betsy J. Bernard                              Richard L. Keyser
     Director                                      Director

     /s/ J. Carter-Miller                          /s/ Victor H. Loewenstein
     Jocelyn Carter-Miller                         Victor H. Loewenstein
     Director                                      Director

     /s/ Gary E. Costley                           /s/ Federico F. Pena
     Gary E. Costley                               Federico F. Pena
     Director                                      Director

     /s/ D. J. Drury                               /s/ Donald M. Stewart
     David J. Drury                                Donald M. Stewart
     Director                                      Director

     /s/ Daniel Gelatt                             /s/ Elizabeth E. Tallett
     C. Daniel Gelatt, Jr.                         Elizabeth E. Tallett
     Director                                      Director

     /s/ Sandra L. Helton
     Sandra L. Helton
     Director

                                      248

                                                                    Exhibit 99.1

              CERTIFICATION PURSUANT TO SECTION 1350 OF CHAPTER 63
                      OF TITLE 18 OF THE UNITED STATES CODE

I, J.  Barry  Griswell,  Chairman,  President  and Chief  Executive  Officer  of
Principal  Financial  Group,  Inc.,  certify that (i) the Form 10-K for the year
ended December 31, 2002 fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934 and (ii) the information  contained
in the Form 10-K for the year ended  December 31, 2002 fairly  presents,  in all
material  respects,  the  financial  condition  and  results  of  operations  of
Principal Financial Group, Inc.

                                           /s/ J. Barry Griswell
                                           ------------------------------------
                                           J. Barry Griswell
                                           Chairman, President and Chief
                                           Executive Officer
                                           Date:  March 5, 2003

                                      249

                                                                   Exhibit 99.2

              CERTIFICATION PURSUANT TO SECTION 1350 OF CHAPTER 63
                      OF TITLE 18 OF THE UNITED STATES CODE

I, Michael H. Gersie,  Executive Vice President and Chief  Financial  Officer of
Principal  Financial  Group,  Inc.,  certify that (i) the Form 10-K for the year
ended December 31, 2002 fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934 and (ii) the information  contained
in the Form 10-K for the year ended  December 31, 2002 fairly  presents,  in all
material  respects,  the  financial  condition  and  results  of  operations  of
Principal Financial Group, Inc.

                                    /s/ Michael H. Gersie
                                    --------------------------------------------
                                    Michael H. Gersie
                                    Executive Vice President and Chief
                                    Financial Officer
                                    Date:  March 5, 2003

                                      250