**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


Washington,
      D.C. 20549





**FORM
      10-Q**





**x** **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE**


**SECURITIES
      EXCHANGE ACT OF 1934**


For
      the
      quarterly period ended March 31, 2006




 ̈  **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 0-6964







**21ST
      CENTURY INSURANCE GROUP**


(Exact
      name of registrant as specified in its charter)






**Delaware**
            
            **95-1935264**(State
                or other jurisdiction of incorporation or organization)
            
            (I.R.S.
                Employer Identification No.)**6301
                Owensmouth Avenue****Woodland
                Hills, California**
            
            **91367**(Address
                of principal executive offices)
            
            (Zip
                Code)**(818)
                704-3700**
            
            **www.21st.com**(Registrant’s
                telephone number, including area code)
            
            (Registrant’s
                web site)








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 whether the registrant is a large accelerated filer, an
      accelerated filer, or a non-accelerated filer. See definition of “accelerated
      filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
      (Check one):




Large
                  accelerated filero
              Accelerated
                  filerx
              Non-accelerated
                  filero




Indicate
      by check mark whether the registrant is a shell company (as defined in
      Rule 12b-2 of the Exchange Act).


Yes  ̈ No x





The
      number of shares outstanding of the issuer’s common stock as of April 12, 2006
      was 86,107,238.















**TABLE
      OF CONTENTS**





Description
            Page
                Number**PART
                I - FINANCIAL INFORMATION**Item
                1.
            Financial
                Statements
            2Item
                2.
            Management’s
                Discussion and Analysis of Financial Condition
                and Results of Operations
            17Item
                3.
            Quantitative
                and Qualitative Disclosures About Market
                Risk
            31Item
                4.
            Controls
                and Procedures
            33**PART
                II - OTHER INFORMATION**Item
                1.
            Legal
                Proceedings
            33Item
                1A.
            Risk
                Factors
            33Item
                2.
            Unregistered
                Sales of Equity Securities and Use of
                Proceeds
            33Item
                3
            Defaults
                Upon Senior Securities
            33Item
                4.
            Submission
                of Matters to a Vote of Security
                Holders
            33Item
                5.
            Other
                Information
            33Item
                6.
            Exhibits
            33**SIGNATURES**
            34**EXHIBIT
                INDEX**
            3531.1
            Certification
                of Principal Executive Officer31.2
            Certification
                of Principal Financial Officer32.1
            Certification
                Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section
                906 of
                the Sarbanes-Oxley Act of 2002




1
 *Table
            of Contents*





**PART
      I - FINANCIAL INFORMATION**





**ITEM
      1. FINANCIAL STATEMENTS**





**21ST
                CENTURY INSURANCE GROUP****CONDENSED
                CONSOLIDATED BALANCE SHEETS**Unaudited*AMOUNTS
                IN THOUSANDS, EXCEPT SHARE DATA*
            
            **March
                31, 2006**
            December
                31, 2005**Assets**Fixed
                maturity investments available-for-sale, at fair value (amortized
                cost:
                $1,467,093 and $1,365,948)
            
            **$**
            **1,434,761**
            
            $
            1,354,707Equity
                securities available-for-sale, at fair value (cost: $848 and
                $49,210)
            
            
            **850**
            
            
            47,367Total
                investments
            
            
            **1,435,611**
            
            
            1,402,074Cash
                and cash equivalents
            
            
            **35,146**
            
            
            68,668Accrued
                investment income
            
            
            **17,333**
            
            
            16,585Premiums
                receivable
            
            
            **107,231**
            
            
            100,900Reinsurance
                receivables and recoverables
            
            
            **6,223**
            
            
            6,539Prepaid
                reinsurance premiums
            
            
            **2,023**
            
            
            1,946Deferred
                income taxes
            
            
            **59,307**
            
            
            56,209Deferred
                policy acquisition costs
            
            
            **62,919**
            
            
            59,939Leased
                property under capital lease, net of deferred gain of $1,423 and
                $1,534
                and net of accumulated amortization of $38,273 and $36,995
            
            
            **21,587**
            
            
            22,651Property
                and equipment, at cost less accumulated depreciation of $94,976 and
                $89,595
            
            
            **147,047**
            
            
            145,811Other
                assets
            
            
            **42,183**
            
            
            38,907Total
                assets
            
            **$**
            **1,936,610**
            
            $
            1,920,229**Liabilities
                and stockholders’ equity**Unpaid
                losses and loss adjustment expenses
            
            **$**
            **508,428**
            
            $
            523,835Unearned
                premiums
            
            
            **331,152**
            
            
            319,676Debt
            
            
            **124,796**
            
            
            127,972Claims
                checks payable
            
            
            **40,609**
            
            
            42,681Reinsurance
                payable
            
            
            **755**
            
            
            643Other
                liabilities
            
            
            **94,057**
            
            
            75,450Total
                liabilities
            
            
            **1,099,797**
            
            
            1,090,257Commitments
                and contingenciesStockholders’
                equity:Common
                stock, par value $0.001 per share; 110,000,000 shares authorized;
                shares
                issued 86,101,668 and 85,939,889
            
            
            **86**
            
            
            86Additional
                paid-in capital
            
            
            **430,
                360**
            
            
            425,454Treasury
                stock, at cost; 5,929 shares
            
            
            **(84**
            **)**
            
            (84
            )Retained
                earnings
            
            
            **429,343**
            
            
            414,898Accumulated
                other comprehensive loss
            
            
            **(22,892**
            **)**
            
            (10,382
            )Total
                stockholders’ equity
            
            
            **836,813**
            
            
            829,972Total
                liabilities and stockholders’ equity
            
            **$**
            **1,936,610**
            
            $
            1,920,229




*See
      accompanying Notes to Condensed Consolidated Financial
      Statements.*





2
 *Table
            of Contents*




**21ST
                CENTURY INSURANCE GROUP****CONDENSED
                CONSOLIDATED STATEMENTS OF OPERATIONS**Unaudited*AMOUNTS
                IN THOUSANDS, EXCEPT SHARE DATA**Three
                Months Ended March 31,*
            
            **2006**
            2005**Revenues**Net
                premiums earned
            
            **$**
            **325,824**
            
            $
            336,364Net
                investment income
            
            
            **17,755**
            
            
            17,037Net
                realized investment losses
            
            
            **(1,067**
            **)**
            
            (460
            )Total
                revenues
            
            
            **342,512**
            
            
            352,941**Losses
                and expenses**Net
                losses and loss adjustment expenses
            
            
            **236,496**
            
            
            251,031Policy
                acquisition costs
            
            
            **59,333**
            
            
            64,323Other
                underwriting expenses
            
            
            **12,600**
            
            
            7,358Interest
                and fees expense
            
            
            **1,898**
            
            
            2,057Total
                losses and expenses
            
            
            **310,327**
            
            
            324,769Income
                before provision for income taxes
            
            
            **32,185**
            
            
            28,172Provision
                for income taxes
            
            
            **10,868**
            
            
            8,735Net
                income
            
            **$**
            **21,317**
            
            $
            19,437**Earnings
                per common share**Basic
                and diluted
            
            **$**
            **0.25**
            
            $
            0.23Weighted-average
                shares outstanding –basic
            
            
            **85,868,878**
            
            
            85,520,909Weighted-average
                shares outstanding–diluted
            
            
            **86,517,163**
            
            
            85,714,469




*See
      accompanying Notes to Condensed Consolidated Financial
      Statements.*




3
 *Table
            of Contents*




**21ST
        CENTURY INSURANCE GROUP**
 **CONDENSED
        CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY**
 Unaudited
 Common
                    Stock*$0.001
                    par value**AMOUNTS
                    IN THOUSANDS,*
                  *EXCEPT
                    SHARE DATA*
                
                *Issued
                    Shares*
                *Amount*
                *Additional
                    Paid-in Capital*
                *Treasury
                    Stock*
                *Retained
                    Earnings*
                *Accumulated
                    Other Comprehensive Loss*
                *Total*Balance
                    - January 1, 2006
                
                
                85,939,889
                
                $
                86
                
                $
                425,454
                
                $
                (84
                )
                $
                414,898
                
                $
                (10,382
                )
                $
                829,972Comprehensive
                    income (loss)
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                21,317
                (1)
                
                (12,510
                ) (2)
                
                8,807Cash
                    dividends declared on common stock ($0.08 per share)
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (6,872
                )
                
                
                
                
                (6,872
                )Exercise
                    of stock options
                
                
                58,229
                
                
                
                
                
                718
                
                
                
                
                
                
                
                
                
                
                
                718Issuance
                    of restricted stock
                
                
                103,550
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                —Stock-based
                  compensation cost
                
                
                
                
                
                
                
                
                4,099
                
                
                
                
                
                
                
                
                
                
                
                4,099Excess
                  tax benefits of stock-based compensation
                
                
                
                
                
                
                
                
                89
                
                
                
                
                
                
                
                
                
                
                
                89Balance
                    - March 31, 2006
                
                
                86,101,668
                
                $
                86
                
                $
                430,360
                
                $
                (84
                )
                $
                429,343
                
                $
                (22,892
                )
                $
                836,813





(1)  Net
      income for the three months ended March 31, 2006.




(2)  Net
      change in accumulated other comprehensive loss follows:




*Three
                Months Ended*
              *March
                31,2006*Unrealized
                holding losses arising during the period, net of tax benefit of
                $(7,109)
            
            $
            (13,204
            )Reclassification
                adjustment for investment losses included in net income, net of tax
                expense of $373
            
            
            694Total
            
            $
            (12,510
            )




*See
      accompanying Notes to Condensed Consolidated Financial
      Statements.*





4
 *Table
            of Contents*




**21ST
                CENTURY INSURANCE GROUP****CONDENSED
                CONSOLIDATED STATEMENTS OF CASH FLOWS**Unaudited*AMOUNTS
                IN THOUSANDS, EXCEPT SHARE DATA**Three
                Months Ended March 31,*
            
            **2006**
            2005**Operating
                activities**Net
                income
            
            **$**
            **21,317**
            
            $
            19,437Adjustments
                to reconcile net income to net cash provided by operating
                activities:Depreciation
                and amortization
            
            
            **6,661**
            
            
            6,602Net
                amortization of investment premiums and discounts
            
            
            **2,007**
            
            
            2,371Stock-based
                compensation cost
            
            
            **4,099**
            
            
            34Provision
                for deferred income taxes
            
            
            **2,820**
            
            
            3,459Realized
                losses on sale of investments
            
            
            **1,067**
            
            
            460**Changes
                in assets and liabilities**Premiums
                receivable
            
            
            **(6,331**
            **)**
            
            (8,496
            )Deferred
                policy acquisition costs
            
            
            **(2,980**
            **)**
            
            (8,636
            )Reinsurance
                receivables and recoverables
            
            
            **352**
            
            
            1,181Federal
                income taxes
            
            
            **4,529**
            
            
            10,407Other
                assets
            
            
            **(2,880**
            **)**
            
            2,883Unpaid
                losses and loss adjustment expenses
            
            
            **(15,407**
            **)**
            
            (5,371
            )Unearned
                premiums
            
            
            **11,476**
            
            
            14,579Claims
                checks payable
            
            
            **(2,072**
            **)**
            
            1,277Other
                liabilities
            
            
            **14,079**
            
            
            (743
            )Net
                cash provided by operating activities
            
            
            **38,737**
            
            
            39,444**Investing
                activities**Purchases
                of:Fixed
                maturity investments available-for-sale
            
            
            **(146,738**
            **)**
            
            (31,759
            )Equity
                securities available-for-sale
            
            
            **(35,627**
            **)**
            
            (70,902
            )Property
                and equipment
            
            
            **(6,627**
            **)**
            
            (7,629
            )Maturities
                and calls of fixed maturity investments available-for-sale
            
            
            **21,139**
            
            
            10,775Sales
                of:Fixed
                maturity investments available-for-sale
            
            
            **21,022**
            
            
            2,196Equity
                securities available-for-sale
            
            
            **83,989**
            
            
            69,539Net
                cash used in investing activities
            
            
            **(62,842**
            **)**
            
            (27,780
            )**Financing
                activities**Repayment
                of debt
            
            
            **(3,352**
            **)**
            
            (2,954
            )Dividends
                paid (per share: $0.08 and $0.04)
            
            
            **(6,872**
            **)**
            
            (3,422
            )Proceeds
                from the exercise of stock options
            
            
            **718**
            
            
            1,308Excess
                tax benefits from stock-based compensation
            
            
            **89**
            
            
            —Net
                cash used in financing activities
            
            
            **(9,417**
            **)**
            
            (5,068
            )Net
                (decrease) increase in cash and cash equivalents
            
            
            **(33,522**
            **)**
            
            6,596Cash
                and cash equivalents, beginning of period
            
            
            **68,668**
            
            
            34,697Cash
                and cash equivalents, end of period
            
            **$**
            **35,146**
            
            $
            41,293**Supplemental
                information:**Income
                taxes paid
            
            **$**
            **3,519**
            
            $
            6,784Interest
                paid
            
            
            **388**
            
            
            547




*See
      accompanying Notes to Condensed Consolidated Financial
      Statements.*





5
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED




**NOTE** **1** **.
      FINANCIAL STATEMENT PRESENTATION**





**General**


21st
      Century Insurance Group and subsidiaries (the “Company”) prepared the
      accompanying unaudited condensed consolidated financial statements in accordance
      with the rules and regulations of the Securities and Exchange Commission for
      interim reporting. As permitted under those rules and regulations, certain
      notes
      or other information that are normally required by accounting principles
      generally accepted in the United States of America (“GAAP”) have been condensed
      or omitted if they substantially duplicate the disclosures contained in the
      annual audited consolidated financial statements. The unaudited condensed
      consolidated financial statements should be read in conjunction with the audited
      consolidated financial statements and notes thereto included in the Company’s
      Annual Report on Form 10-K for the year ended December 31, 2005.




These
      unaudited condensed consolidated financial statements include all adjustments
      (including normal, recurring accruals) that are considered necessary for the
      fair presentation of our financial position and results of operations in
      accordance with GAAP. Intercompany accounts and transactions have been
      eliminated in consolidation. Operating results for the three-month period ended
      March 31, 2006 are not necessarily indicative of results that may be expected
      for the remaining interim periods or the year as a whole.




Certain
      prior period balances have been reclassified to conform to the current period
      presentation.





**Earnings
      Per Share (“EPS”)**


For
      each
      of the quarters ended March 31, 2006 and 2005, the numerator for the calculation
      of both basic and diluted earnings per share is equal to net income reported
      for
      that period. The difference between basic and diluted EPS denominators is due
      to
      dilutive common stock equivalents (stock options and restricted stock). Basic
      earnings per share excludes dilution and reflects net income divided by the
      weighted-average shares of common stock outstanding during the periods
      presented. The denominator for the computation of basic EPS was 85,868,878
      shares and 85,520,909 for the three months ended March 31, 2006 and 2005,
      respectively.




Diluted
      earnings per share is based upon the weighted-average shares of common stock
      and
      dilutive common stock equivalents outstanding during the periods presented.
      Common stock equivalents arising from dilutive stock options and restricted
      common stock are computed using the treasury stock method. For the three months
      ended March 31, 2006 and 2005, this amounted to 86,517,163 shares and 85,714,469
      shares, respectively, which include 648,285 and 193,560 dilutive common stock
      equivalents, respectively.




Options
      to purchase an aggregate of 4,552,553 and 7,208,291 shares of common stock
      for
      the three months ended March 31, 2006 and 2005, respectively, were not included
      in the computation of diluted earnings per share because the options’ exercise
      prices were greater than the average market prices of the common stock for
      each
      respective period. These options expire at various points in time through
      2016.




**Stock-Based
      Compensation**


Prior
      to
      January 1, 2006, the Company accounted for its stock-based compensation plans
      under the measurement and recognition provisions of Accounting Principles Board
      Opinion No. (“APB”) 25, *Accounting
      for Stock Issued to Employees* ,
      and
      related Interpretations, as permitted by Statement of Financial Accounting
      Standards No. (“FAS”) 123, *Accounting
      for Stock-Based Compensation* .
      Under
      the intrinsic-value method prescribed by APB 25, compensation cost for stock
      options was measured at the date of grant as the excess, if any, of the quoted
      market price of the Company’s stock over the exercise price of the options. All
      employee stock options were granted at or above the grant date market price.
      Accordingly, no compensation cost was recognized for fixed stock option grants
      in prior periods; however, stock-based compensation was included as a pro forma
      disclosure in the consolidated financial statement footnotes.




6
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED




Effective
      January 1, 2006, the Company adopted FAS 123 (revised 2004), *Share-Based
      Payment* (“FAS 123R”), which requires all stock-based payments to employees,
      including grants of employee stock options, to be recognized in the statements
      of operations based on their fair values. Determining the fair value of
      share-based awards at the grant date requires judgment in estimating the
      volatility and dividends over the expected term that the stock options will
      be
      outstanding prior to exercise. Judgment is also required in estimating the
      amount of stock-based awards expected to be forfeited prior to vesting. If
      actual forfeitures differ significantly from these estimates, stock-based
      compensation expense could be materially impacted.




**Recent
      Accounting Standards**


Statement
      of Position (“SOP”) 05-1 *,
      Accounting by Insurance Enterprises for Deferred Acquisition Costs in Connection
      with Modifications or Exchanges of Insurance Contracts,*be comes
      effective January ** 1,
      2007.
      SOP 05-1 provides guidance on accounting for deferred acquisition costs on
      internal replacements of insurance and investment contracts other than those
      specifically described in FAS 97, *Accounting
      and Reporting by Insurance Enterprises for Certain Long-Duration Contracts
      and
      for Realized Gains and Losses from the Sale of Investments* .
      The SOP
      defines an internal replacement as a modification in product benefits, features,
      rights, or coverage that occurs by the exchange of a contract for a new
      contract, or by amendment, endorsement, or rider to a contract, or by the
      election of a feature or coverage within a contract. The Company is currently
      assessing the effect of implementing this guidance.





**NOTE
      2** **.
      STOCK-BASED COMPENSATION**





On
      January 1, 2006, the Company adopted FAS 123R and began recognizing the cost
      of
      all employee stock options on a straight-line basis over their respective
      vesting periods, net of estimated forfeitures, using the modified-prospective
      transition method. Under this transition method, 2006 results include: (1)
      stock-based compensation cost related to stock options granted on or prior
      to,
      but not vested as of, December 31, 2005, based on the grant date fair value
      originally estimated for the pro forma disclosures in accordance with the
      original provisions of FAS 123 and (2) all stock-based payments granted
      subsequent to December 31, 2005, based on the grant date fair value estimated
      in
      accordance with the provisions of FAS 123R. Results for prior periods have
      not
      been restated.




FAS
      123R
      also prescribes the recognition of expense using the non-substantive vesting
      period approach for grants made after December 31, 2005. This expense
      attribution method requires recognition of compensation expense from the date
      of
      grant to the earlier of the vesting date or the date retirement eligibility
      is
      achieved for awards with retirement eligibility options. The use of the
      non-substantive vesting period approach will not affect the overall amount
      of
      compensation expense recognized, but could accelerate the recognition of
      expense. The Company will continue to follow the nominal vesting approach for
      the remaining portion of those outstanding awards that were unvested and granted
      prior to January 1, 2006, and will accordingly recognize expense from the grant
      date to the earlier of the actual date of retirement or the vesting date. This
      change resulted in the acceleration of $0.7 million expense for the three months
      ended March 31, 2006.




Stock-based
      awards are forfeited if officers and employees terminate prior to the vesting
      date. Any compensation cost previously recognized with respect to unvested
      stock
      awards is reversed in the period of forfeiture. Upon share option exercise
      or
      restricted share unit conversion, the Company issues new shares, unless the
      Company elects to use available treasury shares. The Company records forfeitures
      of restricted stock as treasury share repurchases.





Prior
      to
      the adoption of FAS 123R, the Company applied APB 25, and related
      Interpretations, in accounting for its stock-based compensation plans. All
      employee stock options were granted at or above the grant date market price.
      Accordingly, no compensation cost was recognized for stock option grants in
      prior periods. Also, the Company previously presented all benefits of tax
      deductions resulting from the exercise of share-based compensation as operating
      cash flows in the Condensed Consolidated Statement of Cash Flows. FAS 123R
      requires the benefits of tax deductions in excess of the compensation cost
      recognized for those options (excess tax benefits) to be classified as financing
      cash flows. First quarter 2006 results included $89 thousand of excess tax
      benefits as a financing cash inflow.




7
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





**2004
      Stock Option Plan**


The
      stockholders approved the 2004 Stock Option Plan (the “2004 Plan”) at the Annual
      Meeting of Shareholders on May 26, 2004. The 2004 Plan supersedes the 1995
      Stock
      Option Plan, which remains in effect only as to outstanding awards under it.
      The
      2004 Plan authorizes a Committee of the Board of Directors to grant stock
      options in respect of 4,000,000 shares to eligible employees and nonemployee
      directors, subject to the terms of the 2004 Plan. Additionally, under the 2004
      Plan, the Committee may grant stock options in respect of shares that were
      subject to outstanding awards under the 1995 Stock Option Plan to the extent
      such awards expire, are terminated, are canceled, or are forfeited for any
      reason without shares being issued.





A
      summary
      of securities issuable and issued for the Company’s stock option plans at March
      31, 2006, follows:





*AMOUNTS
                IN THOUSANDS*
            
            *1995
                Stock Option Plan*
            *2004
                Stock Option Plan*Total
                number of securities authorized
            
            
            10,000
            
            
            4,000Number
                of securities issued
            
            
            (944
            )
            
            —Number
                of securities issuable upon the exercise of all outstanding
                options
            
            
            (6,782
            )
            
            (3,640
            )Number
                of securities forfeited
            
            
            (2,559
            )
            
            (68
            )Number
                of forfeited securities returned to plan
            
            
            2,559
            
            
            68Unused
                options assumed by 2004 Stock Option Plan
            
            
            (2,274
            )
            
            2,274Number
                of securities remaining available for future grants under each
                plan
            
            
            —
            
            
            2,634





A
      summary
      of the Company’s stock option activity for the three months ended March 31,
      2006, and related information follows:




*AMOUNTS
                  IN THOUSANDS, EXCEPT PRICE DATA*
              
              *Number
                  of Options*
              *Weighted-Average
                  Exercise Price*Options
                  outstanding December 31, 2005
              
              
              8,869
              
              $
              16.22Granted
                  in 2006
              
              
              1,814
              
              
              16.62Exercised
                  in 2006
              
              
              (58
              )
              
              16.06Forfeited
                  in 2006
              
              
              (3
              )
              
              13.88Canceled
                  in 2006
              
              
              (200
              )
              
              18.73Options
                  outstanding March 31, 2006
              
              
              10,422
              
              
              16.24





The
      following table summarizes exercisable and non-vested options at March
      31:




*AMOUNTS
                IN THOUSANDS, EXCEPT PRICE DATA*
            
            **March
                31,**
              **2006**Total
                options outstanding
            
            
            **10,422**Non-vested
                options
            
            
            **(3,654**
            **)**Exercisable
                options
            
            
            **6,768**Weighted-average
                exercise price for exercisable options
            
            **$**
            **16.72**




8
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





The
      following table summarizes information about stock options outstanding at March
      31, 2006 (amounts in thousands, except price data):





*Outstanding*
            
            *Exercisable**Range
                of*
              *Exercise
                Prices*
            
            *Number
                of*
              *Options*
            *Weighted-*
              *Average*
              *Remaining*
              *Contractual*
              *Life*
            *Weighted-*
              *Average*
              *Exercise*
              *Price*
            *Aggregate*
              *Intrinsic*
              *Value*
            
            *Number
                of*
              *Options*
            *Weighted-*
              *Average*
              *Remaining*
              *Contractual*
              *Life*
            *Weighted-*
              *Average*
              *Exercise*
              *Price*
            *Aggregate*
              *Intrinsic*
              *Value*$ 
                11.68 -$13.00
            
            
            1,428
            
            
            7.1
                Years
            
            $
            11.87
            
            $
            5,617
            
            
            
            1,283
            
            
            7.0
                Years
            
            $
            11.74
            
            $
            5,20513.01
                - 15.00
            
            
            2,988
            
            
            8.5
                Years
            
            
            14.28
            
            
            4,534
            
            
            
            1,293
            
            
            8.2
                Years
            
            
            14.36
            
            
            1,86015.01
                - 17.00
            
            
            3,174
            
            
            8.1
                Years
            
            
            16.41
            
            
            3
            
            
            
            1,360
            
            
            5.7
                Years
            
            
            16.13
            
            
            317.01
                - 19.00
            
            
            1,796
            
            
            4.5
                Years
            
            
            18.05
            
            
            —
            
            
            
            1,796
            
            
            4.5
                Years
            
            
            18.05
            
            
            —19.01
                - 22.00
            
            
            250
            
            
            1.7
                Years
            
            
            20.72
            
            
            —
            
            
            
            250
            
            
            1.7
                Years
            
            
            20.72
            
            
            —22.01
                - 29.25
            
            
            786
            
            
            3.1
                Years
            
            
            25.43
            
            
            —
            
            
            
            786
            
            
            3.1
                Years
            
            
            25.43
            
            
            —$ 
                11.68 -$29.25
            
            
            10,422
            
            
            6.9
                Years
            
            
            16.24
            
            $
            10,154
            
            
            
            6,768
            
            
            5.6
                Years
            
            
            16.72
            
            $
            7,068


The
      fair
      values of stock options granted during the three months ended March 31, 2006,
      and 2005 were approximately $9.1 million and $6.0 million, respectively. The
      weighted-average fair value per share for options granted during the three-month
      periods ended March 31, 2006 and 2005 were $5.02 and $4.86, respectively. The
      intrinsic value of options exercised during the periods ended March 31, 2006
      and
      2005 were both $0.2 million. Intrinsic value for stock options is defined as
      the
      amount equal to the excess of the market price of the stock on the date of
      exercise over the exercise price. The grant date fair value of options vested
      during the periods ended March 31, 2006 and 2005 were both $6.6 million. The
      Company received proceeds of $0.7 million and $1.3 million from the exercise
      of
      stock options during the three-month periods ended March 31, 2006 and 2005,
      respectively. The tax benefit recognized as a result of stock option exercises
      was $43 thousand and $16 thousand for the first three months of 2006 and 2005,
      respectively.





**Restricted
      Shares Plan**


The
      Restricted Shares Plan, which was approved by the Company’s stockholders,
      currently authorizes grants of up to 1,421,920 shares of common stock to be
      made
      available to key employees. In general, one third of the shares granted vest
      on
      the anniversary date of each of the three years following the year of grant.
      The
      Company becomes entitled to an income tax deduction in an amount equal to the
      taxable income reported by the holders upon vesting of the restricted shares.
      Treasury shares represent forfeited restricted shares.





Total
      compensation expense relating to the Restricted Shares Plan was $0.1 million
      and
      $34 thousand for the three months ended 2006 and 2005, respectively.
      Unrecognized compensation cost in connection with restricted stock grants
      totaled $2.4 million and $1.0 million at March 31, 2006 and December 31, 2005,
      respectively. The cost is expected to be recognized over a weighted-average
      period of 2.6 years.





A
      summary
      of securities issuable and issued for the Company’s Restricted Shares Plan at
      March 31, 2006, follows:





*AMOUNTS
                IN THOUSANDS*
            
            *Restricted**Shares
                Plan*Total
                number of securities authorized
            
            
            1,422Number
                of securities issued
            
            
            (1,247
            )Number
                of forfeited securities returned to plan
            
            
            162Number
                of securities remaining available for future grants under the
                plan
            
            
            337




9
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





The
      following table summarizes activity under the Restricted Shares Plan for the
      three months ended March 31, 2006:




*AMOUNTS
              IN THOUSANDS, EXCEPT PRICE DATA*
            
            
            *Number
                of*
              *Shares*
            *Average
                Market*
              *Price
                Per Share*
              *on
                Date of Grant*Non-vested,
                December 31, 2005
            
            
            87
            
            $
            14.08Granted
                in 2006
            
            
            104
            
            
            15.88Non-vested,
                March 31, 2006
            
            
            191
            
            
            15.06





The
      fair
      values of restricted stock awards granted during the three-month period ended
      March 31, 2006 was $1.6 million. No restricted stock awards were granted during
      the three-month period ended March 31, 2005. The fair value of restricted stock
      awards that vested for the three months ended March 31, 2005 was $0.2 million.
      No restricted stock awards vested during the three months ended March 31, 2006.





**2006
      Stock-Based Compensation Summary**


The
      effect of the adoption of FAS 123R on the condensed consolidated statements
      of
      operations and cash flows is as follows:




*Three
                  Months Ended**March
                  31, 2006**AMOUNTS
                  IN THOUSANDS, EXCEPT SHARE DATA*
              
              *Without
                  FAS 123R**1***
              *FAS
                  123R Impact*
              *With
                  FAS 123R*Total
                  revenues
              
              $
              342,512
              
              $
              —
              
              $
              342,512Losses
                  and expensesNet
                  losses and loss adjustment expenses
              
              
              235,362
              
              
              1,134
              
              
              236,496Policy
                  acquisition costs
              
              
              58,846
              
              
              487
              
              
              59,333Other
                  underwriting expenses
              
              
              10,765
              
              
              1,835
              
              
              12,600Interest
                  and fees expense
              
              
              1,898
              
              
              —
              
              
              1,898Total
                  losses and expenses
              
              
              306,871
              
              
              3,456
              
              
              310,327Income
                  before provision for income taxes
              
              
              35,641
              
              
              (3,456
              )
              
              32,185Provision
                  for income taxes
              
              
              11,625
              
              
              (757
              )
              
              10,868Net
                  income
              
              $
              24,016
              
              $
              (2,699
              )
              $
              21,317Basic
                  earnings per common share
              
              $
              0.28
              
              $
              (0.03
              )
              $
              0.25Diluted
                  earnings per common share
              
              $
              0.28
              
              $
              (0.03
              )
              $
              0.25Net
                  cash provided by operating activities
              
              $
              38,826
              
              $
              (89
              )
              $
              38,737Net
                  cash used in financing activities
              
              
              (9,506
              )
              
              89
              
              
              (9,417
              )


In
      accordance with the modified-prospective transition method, pro forma results
      for prior periods have not been restated. The current period results include
      $0.7 million and $1.4 million of accelerated costs recorded to recognize the
      effect of retirement eligibility and actual vesting in accordance with an
      executive retention agreement, respectively. As compensation costs for certain
      employees are included in deferred policy acquisition costs, pre-tax
      compensation cost related to stock-based compensation of $510 thousand, and
      associated tax of $112 thousand, were deferred. The remaining unrecognized
      compensation cost related to unvested awards as of March 31, 2006, was $14.6
      million and the weighted-average period of time over which this cost will be
      recognized is 2.3 years.





**2005
      Stock-Based Compensation Pro Forma Summary**


Had
      compensation cost for the Company’s stock-based compensation plans been
      determined in the prior year based on the fair-value-based method for all
      awards, net income would have been reduced by $1.2 million for the three months
      ended March 31, 2005. The Company followed the nominal vesting period approach,
      which recognized compensation cost over the vesting period unless the employee
      retired before the end of the vesting period at which time the Company
      recognized any remaining unrecognized compensation cost at the date of
      retirement, for attributing stock compensation to individual periods for awards
      with retirement eligibility options. The Company did not determine the amount
      of
      stock-based compensation cost that would have been deferred as policy
      acquisition costs in its pro forma footnotes under FAS 123.




1
            Includes
                stock-based compensation related to restricted shares, as the previous
                accounting under APB 25 was consistent with that of FAS
                123.




10
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED




The
      pro
      forma net income and earnings per share amounts follow:




*Three
                Months Ended**AMOUNTS
                IN THOUSANDS, EXCEPT SHARE DATA*
            
            *March
                31, 2005***Net
                income, as reported**
            
            $
            19,437Add:
                Stock-based employee compensation expense included in reported net
                income,
                net of related tax effects
            
            
            22Deduct:
                Total stock-based employee compensation expense determined under
                fair-value-based method for all awards, net of related tax
                effects
            
            
            (1,268
            )**Net
                income, pro forma**
            
            $
            18,191**Basic
                and diluted earnings per share**As
                reported
            
            $
            0.23Pro
                forma
            
            $
            0.21





**Black-Scholes
      Assumptions**


The
      fair
      value of each option grant was estimated on the date of grant using the
      Black-Scholes option-pricing model with the following assumptions:




*Three
                Months Ended March 31,*
            
            **2006**
            2005
                Pro FormaRisk-free
                interest rate:Minimum
            
            
            **4.5%**
            
            
            3.9%Maximum
            
            
            **4.7%**
            
            
            3.9%Dividend
                yield
            
            
            **1.9%**
            
            
            1.1%Volatility
                factor of the expected market price of the Company’s common
                stock
            
            
            **0.29**
            
            
            0.32Expected
                option term (in years)
            
            
            **6 years**
            
            
            6 years





The
      expected term for options granted during the quarter ended March 31, 2006,
      was calculated using the simplified method in accordance with Staff Accounting
      Bulletin No. 107. The expected volatility of employee stock options was based
      on
      the historical volatility of key competitors in the property & casualty
      insurance industry (based on six years of closing stock prices). The Company
      believes that the use of historical competitor volatility better reflects
      current market expectations of the Company’s stock price volatility as the
      Company’s own historical stock price volatility is not representative of
      expected volatility due to significant prior year events that impacted the
      homeowners and earthquake lines, which are in runoff, and are not expected
      to
      significantly impact results in the future. The annual risk-free interest rate
      is based on a traded zero-coupon U.S. Treasury bond on the grant date with
      a
      term equal to the option’s expected term .




Options
      granted to employees generally have ten-year terms and vest over three years.
      Nonemployee director options vest over one year, provided that the nonemployee
      director is in the service of the Company during that time. Options granted
      to
      nonemployee directors expire one year after a nonemployee director ceases
      service with the Company, or ten years from the date of grant, whichever is
      sooner.




11
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





**NOTE
      3. HOMEOWNER AND EARTHQUAKE LINES IN RUNOFF**




California
      Senate Bill 1899 (“SB 1899”), effective from January 1, 2001 to December 31,
      2001, allowed the re-opening of previously closed earthquake claims arising
      out
      of the 1994 Northridge earthquake. More than ninety-nine percent of the claims
      submitted and litigation brought against the Company as a result of California
      SB 1899 have been resolved. The Company’s total loss and LAE reserves for SB
      1899 claims as of March 31, 2006 and December 31, 2005, were $0.1 million and
      $0.5 million, respectively.





Loss
      and
      loss adjustment expenses incurred for the homeowner and earthquake lines in
      runoff were $0.1 million and $0.2 million for the three months ended March
      31,
      2006 and 2005, respectively.








**NOTE
      4** **.
      COMMITMENTS AND CONTINGENCIES**





*Litigation.* In
      the
      normal course of business, the Company is named as a defendant in lawsuits
      related to claims and insurance policy issues, both on individual policy files
      and by class actions seeking to attack the Company’s business practices. Many
      suits seek unspecified extra-contractual and punitive damages as well as
      contractual damages under the Company’s insurance policies in excess of the
      Company’s estimates of its obligations under such policies. The Company cannot
      estimate the amount or range of loss that could result from an unfavorable
      outcome on these suits and it denies liability for any such alleged damages.
      The
      Company has not established reserves for potential extra-contractual or punitive
      damages, or for contractual damages in excess of estimates the Company believes
      are correct and reasonable under its insurance policies. Nevertheless,
      extra-contractual and punitive damages, if assessed against the Company, could
      be material in an individual case or in the aggregate. The Company may choose
      to
      settle litigated cases for amounts in excess of its own estimate of contractual
      damages to avoid the expense and risk of litigation.  Other
      than possibly for the contingencies discussed below, the Company does not
      believe the ultimate outcome of these matters will be material to its results
      of
      operations, financial condition or cash flows. The Company denies liability
      and
      has not established a reserve for the matters discussed below. A range of
      potential losses in the event of a negative outcome is discussed where
      known.





*Poss
      v. 21st Century Insurance Company* ** was
      filed
      on June 13, 2003, in Los Angeles Superior Court. The complaint sought injunctive
      and unspecified restitutionary relief against the Company under Business and
      Professions Code (“B&P”) Sec. 17200 for alleged unfair business practices in
      violation of California Insurance Code Sec. 1861.02(c) relating to Company
      rating practices. Based on California’s Proposition 64, passed in November 2004,
      the court granted the Company’s motion to dismiss the complaint, but allowed the
      addition of a second plaintiff, Leacy. The court stayed discovery in this
      litigation pending appellate court decisions involving similar issues by other
      parties. Because this matter is in the pleading stages and no discovery has
      taken place, no estimate of the range of potential losses in the event of a
      negative outcome can be made at this time.





*Cecelia
      Encarnacion, individually and as the Guardian Ad Litem for Nubia Cecelia
      Gonzalez, a Minor, Hilda Cecelia Gonzalez, a Minor, and Ramon Aguilera v. 20th
      Century Insurance* was
      filed on July 3, 1997, in Los Angeles Superior Court. Plaintiffs allege bad
      faith, emotional distress, and estoppel involving the Company’s (the Company was
      formerly named 20th Century Insurance) handling of a 1994 homeowner’s claim. On
      March 1, 1994, Ramon Aguilera, a homeowner policyholder, shot and killed Mr.
      Gonzalez (the minor children’s father) and was later sued by Ms. Encarnacion for
      wrongful death. On August 30, 1996, judgment was entered against Ramon Aguilera
      for $5.6 million. The Company paid for Aguilera’s defense costs through the
      civil trial; however, the homeowner’s policy did not provide indemnity coverage
      for the incident, and the Company refused to pay the judgment. After the trial,
      Aguilera assigned a portion of his action against the Company to Encarnacion
      and
      the minor children. Aguilera and the Encarnacion family then sued the Company
      alleging that the Company had promised to pay its bodily injury policy limit
      if
      Aguilera pled guilty to involuntary manslaughter. In August 2003, the trial
      court held a bench trial on the limited issues of promissory and equitable
      estoppel, and policy forfeiture. On September 26, 2003, the trial court issued
      a
      ruling that the Company cannot invoke any policy exclusions as a defense to
      coverage. On May 14, 2004, the court granted the Encarnacion plaintiffs’ motion
      for summary adjudication, ordering that the Company must
      pay
      the full amount of the underlying judgment of $5.6 million, plus interest,
      for a
      total of $10.5 million. The Company disagrees with this ruling as it appears
      inconsistent with the court’s simultaneous ruling denying the Company’s motion
      for summary judgment on grounds that there are triable issues of material fact
      as to whether plaintiffs are precluded from recovering damages as a consequence
      of Aguilera’s inequitable conduct. The Company also believes that the court’s
      decision was not supported by the evidence in the case, demonstrating that
      no
      promise to settle was ever made. The Company has appealed the judgment as to
      the
      Encarnacions. The trial as to Aguilera concluded on December 9, 2005, on his
      claims for bad faith, emotional distress, punitive damages and attorney fees.
      A
      jury found he sustained no damages as to these claims. The Company’s exposure in
      this case includes the aforementioned $10.5 million judgment plus post-judgment
      interest, which currently totals $1.6 million.





12
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





*Insurance
      Company cases (Ramona Goldenburg)* was
      originally filed as *Bryan
      Speck, individually, and on behalf of others similarly situated v. 21st Century
      Insurance Company, 21st Century Casualty Company, and 21st Century Insurance
      Group* .
      The
      original action was filed on June 20, 2002, in Los Angeles Superior Court.
      Plaintiff seeks California class action certification, injunctive relief, and
      unspecified actual and punitive damages. The complaint contends that the Company
      uses “biased” software in determining the value of total-loss automobiles.
      Specifically, Plaintiff alleges that database providers use improper methodology
      to establish comparable auto values and populate their databases with biased
      figures and that the Company and other carriers allegedly subscribe to the
      programs to unfairly reduce claims costs. This case is consolidated with similar
      actions against other insurers for discovery and pre-trial motions. A
      court-ordered appraisal of Speck’s vehicle was favorable to the Company and
      Ramona Goldenberg was substituted as a Plaintiff, replacing Speck. The Company
      intends to vigorously defend the suit with other defendants in the coordinated
      proceedings. This matter is in the pleading stage of litigation and no
      reasonable estimate of potential losses in the event of a negative outcome
      can
      be made at this time.





*Thomas
      Theis, on his own behalf and on behalf of all others similarly situated v.
      21st
      Century Insurance* was
      filed on June 17, 2002, in Los Angeles Superior Court. Plaintiff seeks
      California class action certification, injunctive relief, and unspecified actual
      and punitive damages. The complaint contends that after insureds receive medical
      treatment, the Company used a medical-review program to adjust expenses to
      reasonable and necessary amounts for a given geographic area and the adjusted
      amount is “predetermined” and “biased.” This case is consolidated with similar
      actions against other insurers for discovery and pre-trial motions. Depositions
      have recently been taken and the Company intends to vigorously defend the suit.
      This matter is in the discovery stage of litigation and no reasonable estimate
      of potential losses in the event of a negative outcome can be made at this
      time.





*Silvia
      Quintana, on her own behalf and on behalf of all others similarly situated
      v.
      21st Century Insurance* was
      filed on November 16, 2005 .
      This
      purported class action, filed in San Diego, names the Company in four causes
      of
      action: 1) violation of B&P Section 17200, 2) conversion, 3) unjust
      enrichment and, 4) declaratory relief. Silvia Quintana alleges that the
      Company’s demand for reimbursement of the medical payments it made to her
      pursuant to her insurance contract violates the “made-whole rule.” The Company
      anticipates that if the matter survives the initial pleading stage, it will
      be
      consolidated, for discovery and pre-trial motions, with actions alleging similar
      facts against other insurers. This matter is in the initial stages of pleading
      and no reasonable estimate of potential losses in the event of a negative
      outcome can be made at this time.






**NOTE
      5. ACCUMULATED OTHER COMPREHENSIVE LOSS**





Accumulated
      other comprehensive loss is a component of stockholders’ equity and includes all
      changes in unrealized appreciation and depreciation; reclassification
      adjustments for investment losses and gains included in net income; and changes
      in minimum pension liability in excess of unamortized prior service cost.





A
      summary
      of accumulated other comprehensive loss follows:




**March
                31,****2006**
            December
                31,2005Net
                unrealized losses on available-for-sale investments, net of deferred
                income taxes of $11,316 and $4,579
            
            **$**
            **(21,014**
            **)**
            $
            (8,504
            )Minimum
                pension liability in excess of unamortized prior service cost, net
                of
                deferred income taxes of $1,011 and $1,011
            
            
            **(1,878**
            **)**
            
            (1,878
            )Total
                accumulated other comprehensive loss
            
            **$**
            **(22,892**
            **)**
            $
            (10,382
            )




13
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





**NOTE** **6.
      EMPLOYEE BENEFIT PLANS**





The
      Company has both funded and unfunded non-contributory defined benefit pension
      plans, which together cover essentially all employees who have completed at
      least one year of service. For certain key employees designated by the Board
      of
      Directors, the Company sponsors an unfunded non-qualified supplemental executive
      retirement plan. The supplemental plan benefits are based on years of service
      and compensation during the three highest of the last ten years of employment
      prior to retirement and are reduced by the benefit payable from the pension
      plan
      and 50% of the social security benefit. For other eligible employees, the
      pension benefits are based on employees’ compensation during all years of
      service. The Company’s funding policy is to make annual contributions as
      required by applicable regulations.




**Components
      of Net Periodic Cost**


Net
      pension costs for all plans were comprised of the following:




*Three
                Months Ended**March
                31,***2006**
            2005Service
                cost
            
            **$**
            **1,872**
            
            $
            1,762Interest
                cost
            
            
            **1,971**
            
            
            1,855Expected
                return on plan assets
            
            
            **(2,108**
            **)**
            
            (1,830
            )Amortization
                of prior service cost
            
            
            **34**
            
            
            27Amortization
                of net loss
            
            
            **678**
            
            
            507Total
            
            **$**
            **2,447**
            
            $
            2,321





**Pension
      Plan Contributions**


The
      Company previously disclosed in its consolidated financial statements for the
      year ended December 31, 2005, that it did not expect to contribute to its
      qualified defined benefit pension plan in 2006. As of March 31, 2006, no
      contributions have been made. However, the amount and timing of future
      contributions to the Company’s qualified defined benefit pension plan depends on
      a number of unpredictable factors including statutory funding requirements,
      the
      market performance of the plan’s assets and future changes in interest rates
      that affect the actuarial measurement of the plan’s obligations.





Contributions
      to our non-qualified defined benefit pension plan generally are limited to
      amounts needed to make benefit payments to retirees, which are expected to
      total
      approximately $0.9 million in 2006.





**Defined
      Contribution Plans**


The
      Company sponsors a contributory savings and security plan for eligible employees
      and officers. The Company provides matching contributions equal to 75% of the
      lesser of 6% of an employee’s compensation or the amount contributed by the
      employee up to the maximum allowable under Internal Revenue Service regulations.
      The plan offers a variety of investment types among which employees exercise
      complete discretion as to choice and investment duration. The Company also
      sponsors a 401(K) supplemental plan to provide specified benefits to a select
      group of management and highly compensated employees. Company contributions
      to
      both plans were $1.9 million and $1.4 million for the three months ended March
      31, 2006 and 2005, respectively.





**NOTE
      7. SEGMENT INFORMATION**





The
      Company’s “Personal Auto Lines” reportable segment primarily markets and
      underwrites personal auto, motorcycle and personal umbrella insurance. The
      Company’s “Homeowner and Earthquake Lines in Runoff” reportable segment, which
      is in runoff, manages the runoff of the Company’s homeowner and earthquake
      programs. The Company has not written any earthquake coverage since 1994 and
      ceased writing homeowner policies in February 2002.





Insurers
      offering homeowner insurance in California are required to participate in the
      California FAIR Plan (“FAIR Plan”). The FAIR Plan is a state administered pool
      of difficult to insure homeowners’ exposures. Each participating insurer is
      allocated a percentage of the total premiums written and losses and LAE incurred
      by the pool according to its share of total homeowner direct premiums written
      in
      the state. Participation in the current year FAIR Plan operations is based
      on
      the pool from two years prior. Since the Company ceased writing homeowners
      business in 2002, the Company no longer receives assignments for plan years
      beyond 2004, but continues to participate in prior plan year activity, which
      is
      in runoff.





14
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





The
      Company evaluates segment performance based on pre-tax underwriting profit
      or
      loss. The Company does not allocate assets, net investment income, net realized
      investment gains or losses, other revenues, nonrecurring items, interest and
      fees expense, or income taxes to operating segments. The accounting policies
      of
      the reportable segments are the same as those described in Note 2 of the Notes
      to Consolidated Financial Statements included in our Annual Report on Form
      10-K
      for the year ended December 31, 2005. All revenues are generated from external
      customers and the Company does not rely on any major customer.





The
      following table presents net premiums earned, depreciation and amortization
      expense, and segment profit (loss) for the Company’s segments.





*Personal*
              *Auto
                Lines*
            *Homeowner
                and*
              *Earthquake*
              *Lines
                in Runoff**2***
            *Total**Three
                Months Ended March 31, 2006*
            
            
            
            ___________________Net
                premiums earned
            
            **$**
            **325,824**
            
            **$**
            —
            
            **$**
            **325,824**Depreciation
                and amortization expense
            
            
            **6,659**
            
            
            **2**
            
            
            **6,661**Segment
                profit (loss)
            
            
            **17,472**
            
            
            **(77**
            **)**
            
            **17,395***Three
                Months Ended March 31, 2005*Net
                premiums earned
            
            $
            336,361
            
            $
            3
            
            $
            336,364Depreciation
                and amortization expense
            
            
            6,600
            
            
            2
            
            
            6,602Segment
                profit (loss)
            
            
            13,824
            
            
            (172
            )
            
            13,652





The
      following table reconciles segment profit to consolidated income before
      provision for income taxes:





*Three
                Months Ended**March
                31,***2006**
            2005Segment
                profit
            
            **$**
            **17,395**
            
            $
            13,652Net
                investment income
            
            
            **17,755**
            
            
            17,037Realized
                investment losses
            
            
            **(1,067**
            **)**
            
            (460
            )Interest
                and fees expense
            
            
            **(1,898**
            **)**
            
            (2,057
            )Income
                before provision for income taxes
            
            **$**
            **32,185**
            
            $
            28,172








**NOTE
      8. VARIABLE INTEREST ENTITIES**





In
      January 2003, the FASB issued FASB Interpretation No. 46, *Consolidation
      of Variable Interest Entities, an interpretation of Accounting Research Bulletin
      No. 51* (“FIN
      46”), and amended it in December 2003. An entity is subject to the consolidation
      rules of FIN 46 and is referred to as a variable interest entity (“VIE”) if it
      lacks sufficient equity to finance its activities without additional financial
      support from other parties or if its equity holders lack adequate decision
      making ability based on criteria set forth in the interpretation. FIN 46 also
      requires disclosures about VIEs that a company is not required to consolidate,
      but in which a company has a significant variable interest.





2
            Homeowner
                and earthquake lines in runoff segment revenue represents premium
                earned
                as a result of the Company’s participation in the California FAIR
                Plan.




15
 *Table
            of Contents*




**21ST
      CENTURY INSURANCE GROUP**


**NOTES
      TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)**


**March
      31, 2006**


DOLLAR
      AMOUNTS IN THOUSANDS, EXCEPT WHERE NOTED





The
      Company has decided to purchase investments that provide housing and other
      services to economically disadvantaged communities. To that end, the Company
      is
      a voluntary member, along with other participating insurance organizations,
      of
      Impact Community Capital, LLC (“Impact”). Impact’s charter is to make loans and
      other investments in such communities.





The
      VIE
      structure provides a wider range of investment options through which insurance
      companies and other institutional investors can address the investment needs
      of
      these communities. The Company’s maximum participation in Impact C.I.L., LLC
      (“Impact C.I.L.”), a subsidiary of Impact and a VIE, is for up to 11.1% ($24.0
      million) of $216.0 million of the entity’s funding activities. These commitments
      consist of a $4.8 million minimum investment and a $19.2 million guarantee
      of a
      warehouse lending facility. Potential losses are limited to the Company’s
      participation as well as associated operating fees.





As
      of
      March 31, 2006, the Company’s pro rata share of these advances was approximately
      11.1%, or $4.8 million, and $5.0 million as of December 31, 2005, respectively.
      Potential losses are limited to the Company’s participation as well as
      associated operating fees. The revolving member loan and the warehouse financing
      agreement do not significantly impact the Company’s liquidity or capital.





The
      Company is not the primary beneficiary of any of the VIEs as the Company has
      voting rights, beneficiary rights, obligations, and ownership in proportion
      to
      each of its Impact related investments, none of which exceeds
      11.1%.





In
      addition to the above, the Company held $6.0 million and $6.2 million in other
      Impact related fixed-income investments as of March 31, 2006 and December 31,
      2005, respectively. The Company also held $0.3 million in other Impact related
      private equity investments reclassified as other assets as of March 31, 2006.
      There were no private equity investments for the same period in the prior year.
      Total Impact related investment income was $0.2 million and $0.2 million for
      the
      three months ended March 31, 2006 and 2005, respectively.




The
      Company does not have any other material VIEs that it needs, or will need,
      to
      consolidate or disclose.




16
 *Table
            of Contents*





**ITEM
      2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
      AND** **RESULTS OF OPERATIONS**





**Overview**


21st
      Century Insurance Group is an insurance holding company registered on the New
      York Stock Exchange. For convenience, the terms “Company”, “21st”, “we”, “us” or
“our” are used to refer collectively to the parent company and its subsidiaries.
      Management’s Discussion and Analysis of Financial Condition and Results of
      Operations (“MD&A”) should be read in conjunction with the accompanying
      condensed consolidated financial statements.





Founded
      in 1958, we are a direct-to-consumer provider of personal auto insurance. With
      $1.4 billion of revenue in 2005, we insure over 1.5 million vehicles in
      California, Texas, Illinois and six other states. We provide superior policy
      features and customer service at a competitive price. Customers can purchase
      insurance, service their policy, or report a claim at *www.21st.com* or on
      the phone with our licensed insurance professionals at 1-800-211-SAVE. Service
      is offered in English and Spanish, both on the phone and on the web, 24 hours
      a
      day, 365 days a year. 21st Century Insurance Company, 21st Century Casualty
      Company, and 21st Century Insurance Company of the Southwest are rated A+ by
      Fitch Ratings and Standard & Poor’s.





Our
      long-term financial goals include achieving a 96% or lower combined ratio,
      15%
      annual growth in premiums written, 15% return on stockholders’ equity, and
      strong financial ratings.





First
      quarter 2006 direct premiums written decreased 3.8% ($13.5 million) to $338.6
      million from $352.1 million in the first quarter of 2005. California direct
      premiums written decreased by 6.2% to $311.8 million, compared to $332.6 million
      for the same period in 2005, as a result of soft market conditions. Direct
      premiums written outside of California increased by 36.7% to $26.7 million,
      compared to $19.6 million for the same period in 2005. The Company currently
      plans on expanding into six additional states in 2006 to further its geographic
      expansion strategy.





The
      combined ratio was 94.7% in the first quarter of 2006, compared to 95.9% for
      the
      same period in 2005.





Underwriting
      expenses have been higher than in prior periods primarily due the Company’s
      geographic expansion efforts, the
      2006
      recognition of stock-based compensation, which resulted from our adoption of
      Statement of Financial Accounting Standards No. 123 (revised 2004), *Share-Based
      Payment* (“FAS
      123R”), severance, and corporate litigation. FAS 123R requires the recognition
      of compensation expense in the Condensed Consolidated Statement of Operations
      based on the estimated fair value of the employee share-based options. See *Critical
      Accounting Estimates - Stock-Based Compensation Expense* for
      further discussion. Stock-based compensation classified as underwriting expense
      for the three months ended March 31, 2006, was $2.4 million.





Stockholders’
      equity at March 31, 2006, increased to $836.8 million from $830.0 million at
      December 31, 2005. Book value per share at March 31, 2006 increased to $9.72
      per
      share from $9.66 per share at December 31, 2005.




Premiums
      written and statutory surplus have been presented to enhance investors’
understanding of the Company’s operations. These financial measures are not
      presented in accordance with accounting principles generally accepted in the
      United States of America (“GAAP”). Premiums written represent the premiums
      charged on policies issued during a fiscal period. Premiums earned, the most
      directly comparable GAAP measure, represents the portion of premiums written
      that is recognized as income on a pro rata basis over the terms of the policies.
      Statutory surplus represents equity as of the end of a fiscal period for the
      Company’s insurance subsidiaries, determined in accordance with statutory
      accounting principles prescribed by insurance regulatory authorities.
      Stockholders’ equity is the most directly comparable GAAP measure. ** The
      reconciliations of these financial measures to the most directly comparable
      GAAP
      measure are located in *Results
      of Operations* and *Liquidity
      and Capital Resources* ,
      respectively. These financial measures are not intended to replace, and should
      be read in conjunction with, the GAAP financial results.





See *Results
      of Operations* for more
      details as to our overall and personal auto lines results.




17
 *Table
            of Contents*




The
      remainder of this MD&A includes the following sections:




·
            Financial
                Condition




·
            Liquidity
                and Capital Resources




·
            Transactions
                with Related Parties




·
            Contractual
                Obligations and Commitments




·
            Results
                of Operations




·
            Net
                Investment Income




·
            Critical
                Accounting Estimates




·
            Forward-Looking
                Statements




**Financial
      Condition**


Stockholders’
      equity and book value per share increased to $836.8 million and $9.72,
      respectively, at March 31, 2006, compared to $830.0 million and $9.66 at
      December 31, 2005, respectively. The increase in stockholders’ equity for the
      three months ended March 31, 2006 was primarily due to net income of $21.3
      million and stock-based compensation cost of $4.1 million, offset by
      dividends to stockholders of $6.8 million and an increase in accumulated other
      comprehensive loss of $12.5 million (resulting from a $19.2 million increase
      in
      net unrealized losses on the investment portfolio due to rising market
      yields).





Investments
      and cash were approximately $1.5 billion at March 31, 2006, approximately the
      same as December 31, 2005. The Company initiated the sale of its equity
      securities during the first quarter of 2006 and is in the process of evaluating
      other investment vehicles for its equity portfolio. Applicable funds realized
      from the sale of equity securities were reinvested in fixed maturity
      investments.





Of
      our
      total investments at March 31, 2006, the percentage of investments in
      tax-exempt, fixed-income securities, 26.4%, compared to 23.1% at December 31,
      2005. At March 31, 2006, investment-grade securities comprised substantially
      all
      of the fair value of our investment portfolio. As of March 31, 2006, no
      investments were rated below investment grade.




The
      Company also has unrated, community investments representing 0.5% of total
      investments. These investments have been made in an effort to provide housing
      and other services to economically disadvantaged communities. See Note 8 of
      the
      Notes to Condensed Consolidated Financial Statements for additional
      information.




Increased
      advertising, sales and customer service costs through March 31, 2006 contributed
      to an increase in deferred policy acquisition costs (“DPAC”) of $3.0 million to
      $62.9 million, compared to $59.9 million at December 31, 2005. Our DPAC is
      estimated to be fully recoverable (see *Critical
      Accounting Estimates - Deferred Policy Acquisition Costs* ).





The
      following table summarizes unpaid losses and loss adjustment expenses (“LAE”),
      gross and net of applicable reinsurance, with respect to our lines of business:




**March
                31, 2006**
            
            December
                31, 2005*AMOUNTS
                IN THOUSANDS*
            
            **Gross**
            **Net**
            
            Gross
            NetUnpaid
                losses and LAEPersonal
                auto lines
            
            **$**
            **506,941**
            
            **$**
            **502,054**
            
            
            $
            521,528
            
            $
            516,849Homeowner
                and earthquake lines in runoff
            
            
            **1,487**
            
            
            **733**
            
            
            
            2,307
            
            
            1,368Total
            
            **$**
            **508,428**
            
            **$**
            **502,787**
            
            
            $
            523,835
            
            $
            518,217





At
      March
      31, 2006, gross unpaid losses and LAE decreased $15.4 million primarily due
      to a
      reserve decrease of $14.6 million in the personal auto lines as a result of
      favorable loss development and fewer number of exposures.
      The gross unpaid losses and LAE in the homeowner and earthquake lines decreased
      $0.8 million as the result of continued runoff activity (see *Critical
      Accounting Estimates - Losses and Loss Adjustment Expenses* for
      a
      description of the Company’s reserving process).




Unearned
      premiums increased 3.6% to $331.2 million at March 31, 2006, compared to $319.7
      million at December 31, 2005, primarily due to a 7.0% increase in premiums
      written in the first quarter of 2006 as compared to the fourth quarter in
      2005.




Debt
      of
      $124.8 million consists of $24.9 million of capital lease obligations and $99.9
      million of Senior Notes, net of discount. The decrease in debt of $3.2 million
      during the three months ended March 31, 2006 is primarily attributable to
      principal payments on the capital leases.




18
 *Table
            of Contents*




**Liquidity
      and Capital Resources**


*21st
      Century Insurance Group* .
      Our
      holding company’s main sources of liquidity historically have been dividends
      received from our insurance subsidiaries and proceeds from issuance of debt
      or
      equity securities. Apart from the exercise of stock options and restricted
      stock
      grants to employees, the effects of which have not been significant, we have
      not
      issued any equity securities since 1998 when American International Group,
      Inc.
      (“AIG”) exercised its warrants to purchase common stock for cash of $145.6
      million. Our insurance subsidiaries have not paid any dividends to our holding
      company since 2001 due to the previous uncertainty that surrounded the
      taxability of dividends received by holding companies from their insurance
      subsidiaries in California. See further discussion of the *Ceridian* case in *Critical
      Accounting Estimates - Income Taxes* .




Effective
      December 31, 2003, the California Department of Insurance (“CDI”), approved an
      intercompany lease whereby 21st Century Insurance Company leases certain
      computer software from our holding company. The monthly lease payment, currently
      $0.8 million, started in January 2004 and is subject to upward adjustment based
      on the cost incurred by the holding company to enhance the software.




On
      November 30, 2005, the CDI permitted an amendment to a term loan line that
      increased the available amount from $40 million to $150 million that our
      insurance subsidiary, 21st Century Insurance Company, can loan to our holding
      company. The balance of the term loan line as of March 31, 2006, was $66.0
      million.




Our
      holding company’s significant cash obligations over the next several years,
      exclusive of any dividends to stockholders that our directors may declare,
      consist of ongoing costs to enhance our computer software, the repayment of
      the
      $100 million principal on the Senior Notes due in 2013, the repayment of $66.0
      million principal on the term loan line, and related interest.




We
      expect
      to be able to meet those obligations from sources of cash currently available
      (i.e., cash and investments at the holding company, which totaled $23.6 million
      at March 31, 2006, payments received from the intercompany lease, and borrowing
      from our insurance subsidiary), additional funds obtainable from the capital
      markets or dividends received from our insurance subsidiaries. The effective
      2006 California state income tax rate applicable to any such dividends paid
      from
      our subsidiaries, if taxable, is approximately 1.8%.




In
      2006,
      our insurance subsidiaries could pay $113.0 million as dividends to the holding
      company without prior written approval from insurance regulatory authorities.




*Insurance
      Subsidiaries* .
      We have
      achieved underwriting profits in our core auto insurance operations for over
      four years and have thereby enhanced our liquidity. Our cash flow from
      operations and short-term cash position generally are more than sufficient
      to
      meet obligations for claim payments, which by the nature of the personal
      automobile insurance business tend to have an average duration of less than
      a
      year.




In
      California, where approximately 92.1% of our premiums were written for the
      three
      months ended March 31, 2006, underwriting profit improved without additional
      rate increases. Effective October 23, 2005, we implemented a class plan revision
      for our California business. A class plan revision increases the prices of
      some
      of our rating factors and decreases others and is designed to be a rate-neutral
      change overall, but is intended to improve the accuracy of our
      pricing.




Although
      in the past years we have been successful in gaining California regulatory
      approval for rate increases, there can be no assurance that insurance regulators
      will grant future rate increases that may be necessary to offset possible future
      increases in claims cost trends. Furthermore, we could be required to liquidate
      investments to pay claims, possibly during unfavorable market conditions, which
      could lead to the realization of losses on sales of investments. Adverse
      outcomes to any of the foregoing uncertainties would create some degree of
      downward pressure on the insurance subsidiaries’ earnings or cash flows, which
      in turn, could negatively impact our liquidity.




As
      of
      March 31, 2006, our insurance subsidiaries had a combined statutory surplus
      of
      $725.1 million compared to $704.7 million at December 31, 2005. The increase
      in
      statutory surplus was primarily due to statutory net income of $24.9 million,
      an
      increase in net unrealized investment gains of $1.1 million, and an increase
      in
      nonadmitted assets of $2.3 million offset by a $7.9 million decrease in the
      deferred income tax asset. The net premiums written to statutory surplus ratio
      was 1.8 at March 31, 2006, compared to 1.9 at December 31, 2005.




19
 *Table
            of Contents*




The
      following is a reconciliation of our stockholders’ equity to statutory
      surplus:




*AMOUNTS
                IN THOUSANDS*
            
            **March
                31,****2006**
            December
                31, 2005Stockholders’
                equity - GAAP
            
            **$**
            **836,813**
            
            $
            829,972Condensed
                adjustments to reconcile GAAP shareholders’ equity to statutory
                surplus:Net
                book value of fixed assets under capital leases
            
            
            **(23,011**
            **)**
            
            (24,185
            )Deferred
                gain under capital lease transactions
            
            
            **(706**
            **)**
            
            (914
            )Capital
                lease obligation
            
            
            **24,895**
            
            
            28,074Nonadmitted
                net deferred tax assets
            
            
            **(23,089**
            **)**
            
            (34,936
            )Net
                deferred tax assets related to items nonadmitted under SAP
            
            
            **24,137**
            
            
            38,544Intercompany
                receivables
            
            
            **(61,843**
            **)**
            
            (57,683
            )Fixed
                assets
            
            
            **(21,510**
            **)**
            
            (22,492
            )Equity
                in non-insurance entities
            
            
            **31,728**
            
            
            26,798Unrealized
                losses on investments
            
            
            **31,683**
            
            
            10,788Deferred
                policy acquisition costs
            
            
            **(62,919**
            **)**
            
            (59,939
            )Prepaid
                pension costs and intangible pension asset
            
            
            **(19,791**
            **)**
            
            (21,309
            )Other
                prepaid expenses
            
            
            **(14,623**
            **)**
            
            (11,049
            )Other,
                net
            
            
            **3,380**
            
            
            3,002Statutory
                surplus
            
            **$**
            **725,144**
            
            $
            704,671





**Transactions
      with Related Parties**


Several
      subsidiaries of AIG together own approximately 62% of our outstanding common
      stock and four of the eleven members of our Board of Directors are employees
      of
      AIG. Since 1995, the Company has entered into transactions with AIG
      subsidiaries, including reinsurance agreements, insurance coverage contracts,
      and investment management and investment accounting.




*Reinsurance
      agreements* -
      The
      Company’s catastrophe reinsurance agreement for its personal auto lines is
      provided by three participating entities, two of which are AIG subsidiaries.
      Together they reinsure any covered event up to $45.0 million in excess of $20.0
      million effective January 1, 2004 (up to $30.0 million in excess of $15.0
      million in 2003). This coverage was renewed effective January 1, 2005 and 2006.
      Total premiums ceded to AIG subsidiaries were $0.3 million and $0.2 million
      for
      the three months ended March 31, 2006 and 2005, respectively. Total reinsurance
      recoverables, net of payables, from AIG subsidiaries were $0.5 million and
      $0.6
      million as of March 31, 2006 and December 31, 2005, respectively.




*Corporate
      insurance coverage* -
      The
      Company has obtained the following corporate insurance policies from AIG
      subsidiaries:


·
            Workers’
                compensation insurance


·
            General
                liability insurance


·
            Property
                insurance


·
            Umbrella
                excess insurance


·
            Fiduciary
                liability insurance


·
            Fidelity
                insurance


·
            Auto
                insurance


·
            Employment
                practices liability insurance





Errors
      and omissions insurance was carried with AIG through September 30,
      2005.





Insurance
      expense attributable to AIG corporate insurance coverages was $0.8 million
      and
      $1.4 million for the three months ended March 31, 2006 and 2005,
      respectively.





20
 *Table
            of Contents*





*Investment
      management and investment accounting* -
      In
      October 2003, as a result of a competitive bidding process, we entered into
      an
      agreement with an AIG subsidiary to provide investment management and investment
      accounting services to the Company. The fees are determined as a percentage
      of
      the average invested asset balance and are classified with net investment
      income. This agreement was approved by the CDI. Investment management and
      accounting expense was constant at $0.2 million for the three months ended
      March
      31, 2006 and 2005, respectively.





**Contractual
      Obligations and Commitments**


See
      our
      discussion about variable interest entities and commitments in Note 8 of the
      Notes to Condensed Consolidated Financial Statements. There were no material
      changes outside the ordinary course of our business in our contractual
      obligations during the quarter ended March 31, 2006.




**Results
      of Operations**


*Consolidated
      Results.* The
      following table summarizes the Company’s consolidated results of
      operations:





*AMOUNTS
                IN THOUSANDS, EXCEPT SHARE DATA*
            
            *Results
                of Operations*
            
            *Increase/(Decrease)**Three
                Months Ended March 31,*
            
            **2006**
            2005
            
            2006
                vs. 2005Direct
                premiums written
            
            **$**
            **338,569**
            
            $
            352,117
            
            
            
            (3.8
            )%Net
                income
            
            
            **21,317**
            
            
            19,437
            
            
            
            9.7Basic
                and diluted earnings per share
            
            
            **0.25**
            
            
            0.23
            
            
            
            8.7





The
      2006
      results include net realized capital losses of $1.1 million compared to net
      realized capital losses of $0.5 million for the same period in 2005.





The
      following table summarizes losses and LAE incurred, net of applicable
      reinsurance, for the periods indicated:





*Three
                Months Ended*
              *March
                31,**AMOUNTS
                IN THOUSANDS*
            
            **2006**
            2005Net
                losses and LAE incurred related to insured events in:Current
                year personal auto lines
            
            **$**
            **243,511**
            
            $
            258,702Prior
                years:Personal
                auto lines
            
            
            **(7,092**
            **)**
            
            (7,847
            )Homeowner
                and earthquake lines in runoff
            
            
            **77**
            
            
            176Total
                prior years’ redundancy recorded in current year
            
            
            **(7,015**
            **)**
            
            (7,671
            )Total
                net losses and LAE
            
            **$**
            **236,496**
            
            $
            251,031





While
      we
      perform quarterly reviews of the adequacy of established unpaid losses and
      LAE,
      these estimates depend on many assumptions about the outcome of future events.
      There can be no assurance that our ultimate unpaid losses and LAE will not
      develop redundancies or adversely develop and materially differ from our unpaid
      losses and LAE as of March 31, 2006. In the future, if the unpaid losses and
      LAE
      develop redundancies or deficiencies, such redundancy or deficiency would have
      a
      positive or adverse impact, respectively, on future results of operations.
      See *Critical
      Accounting Estimates - Losses and Loss Adjustment Expenses* for
      additional discussion of our reserving policy.





Personal
      automobile insurance is our primary line of business. Vehicles insured outside
      of California accounted for 7.9%, and 5.6% of our direct premiums written for
      the three months ended March 31, 2006 and 2005, respectively. This increase
      is
      due to our ongoing geographic expansion program, which includes marketing in
      non-California states. The Company currently plans to expand into six additional
      states in 2006 to further its geographic expansion strategy.




21
 *Table
            of Contents*




*Personal
      Auto Lines Underwriting Results* .
      The
      following table presents the components of our personal auto lines underwriting profit and the components of the combined ratio:




*Increase/(Decrease)**AMOUNTS
                IN THOUSANDS*
            
            *Personal
                Auto Lines*
            
            *2006
                vs.2005**Three
                Months Ended March 31,*
            
            **2006**
            2005
            
            *Percent*
            *Amount*Direct
                premiums written
            
            **$**
            **338,569**
            
            $
            352,117
            
            
            
            (3.8
            )%
            $
            (13,548
            )Net
                premiums written
            
            **$**
            **337,223**
            
            $
            350,940
            
            
            
            (3.9
            )%
            $
            (13,717
            )Net
                premiums earned
            
            **$**
            **325,824**
            
            $
            336,361
            
            
            
            (3.1
            )%
            $
            (10,537
            )Net
                losses and LAE
            
            
            **236,419**
            
            
            250,856
            
            
            
            (5.8
            )
            
            (14,437
            )Underwriting
                expenses
            
            
            **71,933**
            
            
            71,681
            
            
            
            0.4
            
            
            252Underwriting
                profit
            
            **$**
            **17,472**
            
            $
            13,824
            
            
            
            26.4
            %
            $
            3,648Ratios:Loss
                and LAE ratio
            
            
            **72.6**
            **%**
            
            74.6
            %
            
            
            
            
            
            (2.0
            )%Underwriting
                expense ratio
            
            
            **22.0**
            
            
            21.3
            
            
            
            
            
            
            0.7Combined
                ratio
            
            
            **94.6**
            **%**
            
            95.9
            %
            
            
            
            
            
            (1.3
            )%





The
      following table reconciles our personal auto lines underwriting profit to our
      consolidated net income:




*Three
                Months Ended**March
                31,**AMOUNTS
                IN THOUSANDS*
            
            **2006**
            2005Personal
                auto lines underwriting profit
            
            **$**
            **17,472**
            
            $
            13,824Homeowner
                and earthquake lines in runoff underwriting loss
            
            
            **(77**
            **)**
            
            (172
            )Net
                investment income
            
            
            **17,755**
            
            
            17,037Realized
                investment losses
            
            
            **(1,067**
            **)**
            
            (460
            )Interest
                and fees expense
            
            
            **(1,898**
            **)**
            
            (2,057
            )Provision
                for income taxes
            
            
            **(10,868**
            **)**
            
            (8,735
            )Net
                income
            
            **$**
            **21,317**
            
            $
            19,437





The
      following table reconciles our personal auto lines direct premiums written
      to
      net premiums earned:




*Three
                Months Ended**March
                31,**AMOUNTS
                IN THOUSANDS*
            
            **2006**
            2005Direct
                premiums written
            
            **$**
            **338,569**
            
            $
            352,117Ceded
                premiums written
            
            
            **(1,346**
            **)**
            
            (1,177
            )Net
                premiums written
            
            
            **337,223**
            
            
            350,940Net
                change in unearned premiums
            
            
            **(11,399**
            **)**
            
            (14,579
            )Net
                premiums earned
            
            **$**
            **325,824**
            
            $
            336,361




We
      remain
      focused on achieving our long-term goals of a combined ratio of 96% or lower
      and
      15% growth in direct premiums written.  Direct
      premiums written in the three months ended March 31, 2006, decreased 3.8% to
      $338.6 million compared to $352.1 million for the same period in 2005. This
      decrease was primarily due to continued competitiveness in the California
      market. As the Company proceeds with its multi-state expansion, we believe
      that
      achieving our long-term growth goal will steadily depend less on the California
      marketplace.




Net
      premiums earned decreased 3.1% to $325.8 million for the three months ended
      March 31, 2006, compared to $336.4 million for the same period a year ago.
      This
      earned premium decrease is consistent with the decline in direct premiums
      written during the same period of 3.8%. The Company geographic expansion efforts
      will provide the Company with additional markets in which to sell its personal
      auto and other products.




22
 *Table
            of Contents*




Net
      losses and LAE incurred decreased 5.8% to $236.4 million for the three months
      ended March 31, 2006, compared to $250.9 million for the same period last year,
      primarily due to the fewer number of exposures. The first quarter 2006
      underwriting profit includes $7.1 million of favorable development related
      to
      prior accident years’ reserves, compared to $7.8 million of favorable
      development related to prior accident years’ reserves in the same period of
      2005. The effect on the loss and LAE ratios of changes in estimates relating
      to
      insured events of prior years during the first quarter of 2006 was approximately
      2.2%, compared to 2.3% in the same quarter last year. Changes in estimates
      are
      recorded in the period in which new information becomes available indicating
      that a change is warranted, usually in conjunction with our quarterly actuarial
      review.





The
      underwriting expense ratios to net premiums earned were 22.0% and 21.3% for
      the
      quarters ended March 31, 2006 and 2005, respectively. The increase was primarily
      due to our investments in the Company’s geographic
      expansion efforts, the
      2006
      recognition of stock-based compensation, severance, and corporate
      litigation .
      Several
      productivity enhancement initiatives are underway aimed at reducing per unit
      processing costs.





The
      combined ratio was 94.6% for the quarter ended March 31, 2006, compared to
      95.9%
      for the same period a year ago. The decrease was mainly due to favorable prior
      accident year loss and LAE development of $7.1 million.





*Homeowner
      and Earthquake Lines in Runoff.* We have
      not written any earthquake policies since 1994 and we exited the homeowner
      insurance business in February 2002. Underwriting results of the homeowner
      and
      earthquake lines, which are in runoff, include losses and LAE incurred of $0.1
      million for the three months ended March 31, 2006, compared to $0.2 million
      for
      the same period a year ago.





We
      have
      executed various transactions to exit from our homeowner line. Under a January
      1, 2002 agreement with Balboa Insurance Company (“Balboa”), a subsidiary of
      Countrywide Financial Corporation (“Countrywide”), 100% of homeowner unearned
      premium reserves and losses on or after that date were ceded to Balboa. Under
      the terms of this agreement, we retain certain loss adjustment expenses. On
      February 21, 2002, we began non-renewing homeowner policies as they expired.
      Substantially all of these customers were offered homeowner coverage through
      an
      affiliate of Countrywide. We have completed this process and no longer have
      any
      homeowner policies in force.




**Net
      Investment Income**


We
      utilize a conservative investment philosophy. No derivatives or nontraditional
      securities are held in our investment portfolio and only 0.1% of the portfolio
      consists of equity securities at March 31, 2006. Substantially the entire fixed
      maturity portfolio is investment grade. Net investment income was $17.8 million
      for the three months ended March 31, 2006, compared to $17.0 million for the
      same period in 2005. The slight increase in net investment income is the result
      of a higher average investment portfolio balance.





The
      average annual yields on invested assets were as follows:





*Three
                Months Ended**March
                31,***2006**
            2005Pre-tax
            
            
            **4.8**
            **%**
            
            4.8
            %After-tax
            
            
            **3.5**
            
            
            3.5





At
      March
      31, 2006, $378.5 million, or 26.4%, of our total fixed maturity investments
      at
      fair value were invested in tax-exempt bonds with the remainder, representing
      73.6% of the portfolio, invested in taxable securities, compared to 23.1% and
      76.9%, respectively, at December 31, 2005.





The
      net
      realized gains (losses) on the sale of investments were as follows:




*AMOUNTS
                IN THOUSANDS*
            
            *Net
                Realized Gains (Losses) on Sale of Investments**Three
                Months Ended March 31,*
            
            **2006**
            2005Gross
                realized gains
            
            **$**
            **1,492**
            
            $
            1,337Gross
                realized losses
            
            
            **(2,559**
            **)**
            
            (1,797
            )Net
                realized losses on investments
            
            **$**
            **(1,067**
            **)**
            $
            (460
            )




23
 *Table
            of Contents*




Our
      policy is to investigate, on a quarterly basis, all investments for possible
      “other-than-temporary” impairment when the fair value of a security falls below
      its amortized cost, based on all relevant facts and circumstances. No such
      impairments were recorded in the three months ended March 31, 2006 or 2005.
      See
      discussion under *Critical
      Accounting Estimates - Investments* for
      further information.





**Critical
      Accounting Estimates**


Our
      condensed consolidated financial statements are prepared in accordance with
      GAAP. The financial information contained within these statements is, to a
      significant extent, financial information that is based on estimates and
      assumptions. Our significant accounting policies are essential to understanding
      Management’s Discussion and Analysis of Financial Condition and Results of
      Operations. Some of our accounting policies require significant judgment to
      estimate values of either assets or liabilities. In addition, significant
      judgment may be needed to apply what often are complex accounting principles
      to
      individual transactions to determine the most appropriate treatment. We have
      established procedures and processes to facilitate making the judgments
      necessary to prepare the condensed consolidated financial statements.





The
      following is a summary of the more judgmental and complex accounting estimates
      and principles. In each area, we have discussed the assumptions most important
      in the estimation process. We have used the best information available to
      estimate the related items involved. Actual performance that differs from our
      estimates and future changes in the key assumptions could change future
      valuations and materially impact our financial condition and results of
      operations.





Management
      has discussed our critical accounting policies and estimates, together with
      any
      changes therein, with the Audit Committee of our Board of Directors.





*Losses
      and Loss Adjustment Expenses.* **** The
      estimated liabilities for losses and LAE include estimates of losses for known
      claims reported on or prior to the balance sheet dates, estimates of losses
      for
      claims incurred but not reported, estimates of expenses for investigating,
      adjusting and settling all incurred claims. Amounts reported are estimates
      of
      the ultimate costs of settlement, net of estimated salvage and subrogation.
      The
      estimated liabilities are necessarily subject to the outcome of future events,
      such as changes in medical and repair costs, as well as economic and social
      conditions that impact the settlement of claims. In addition, time can be a
      critical part of reserving determinations since the longer the span between
      the
      incidence of a loss and the payment or settlement of the claim, the more
      variable the ultimate settlement amount can be.




The
      methods used to determine such estimates and to establish the resulting reserves
      are continually reviewed and updated. Any resulting adjustments are reflected
      in
      current operating income on a dollar-for-dollar basis. For example, an upward
      revision of $1 million in the estimated recorded liability for unpaid losses
      and
      LAE would decrease underwriting profit, and pre-tax income, by the same $1
      million amount. Conversely, a downward revision of $1 million would increase
      pre-tax income by the same $1 million amount.





It
      is
      management’s belief that the reserves for losses and LAE are adequate to cover
      unpaid losses and LAE as of March 31, 2006. While we perform quarterly reviews
      of the adequacy of established unpaid losses and LAE reserves, there can be
      no
      assurance that our ultimate unpaid losses and LAE will not develop redundancies
      or deficiencies and possibly differ materially from our unpaid losses and LAE
      as
      of March 31, 2006. In the future, if the unpaid losses and LAE develop
      redundancies or deficiencies, then such redundancy or deficiency would have
      a
      positive or adverse impact, respectively, on future results of
      operations.





The
      process of making changes to unpaid losses and LAE begins with the preparation
      of several point estimates, a review of the actual claims experience, actual
      rate changes achieved, actual changes in coverage, mix of business, and changes
      in certain other factors such as weather and recent tort activity that may
      affect the loss and LAE ratio. Our actuaries prepare several point estimates
      of
      unpaid losses and LAE for each of the coverages, and they use their experience
      and judgment to arrive at an overall actuarial point estimate of the unpaid
      losses and LAE for that coverage.





Meetings
      are held with appropriate departments to discuss significant issues as a result
      of the review. This process culminates in a reserve meeting to review the unpaid
      losses and LAE. The basis for carried unpaid losses and LAE is the overall
      actuarial point estimate. Other relevant internal and external factors
      considered include a qualitative assessment of inflation and other economic
      conditions, changes in the legal, regulatory, judicial and social environments,
      underlying policy pricing, exposure and policy forms, claims handling, and
      geographic distribution shifts. As a result of the meeting, unpaid losses and
      LAE are finalized and we record quarterly changes in unpaid losses and LAE
      for
      each of our coverages. The change in unpaid losses and LAE for the quarter
      for
      each coverage is the difference between net ultimate losses and LAE and the
      net
      paid losses and LAE recorded through the end of the quarter. The overall change
      in our unpaid losses and LAE is based on the sum of these coverage level
      changes.





24
 *Table
            of Contents*




The
      point
      estimate methods include the use of paid loss triangles, incurred loss
      triangles, claim count triangles, and severity triangles, as well as expected
      loss ratio methods. Quantitative techniques frequently have to be supplemented
      by subjective consideration, including managerial judgment, to assure management
      satisfaction that the overall unpaid losses and LAE are adequate to meet
      projected losses. For example, in property damage coverages, repair cost trends
      by geographic region vary significantly. These factors are periodically reviewed
      and subsequently adjusted, as appropriate, to reflect emerging trends that
      are
      based upon past loss experience. Thus, many factors are implicitly considered
      in
      estimating the loss costs recognized.





Judgment
      is required in analyzing the appropriateness of the various methods and factors
      to avoid overreacting to data anomalies that may distort such prior trends.
      For
      example, changes in limits distributions or development in the most recent
      accident quarters would require more actuarial judgment. We do not believe
      disclosure of specific point estimates calculated by the actuaries would be
      meaningful. Any one actuarial point estimate is based on a particular series
      of
      judgments and assumptions of the actuary. Another actuary may make different
      assumptions, and therefore reach a different point estimate.





There
      is
      a potential for significant variation in ultimate development of unpaid losses
      and LAE. Most automobile claims are reported within two to three months whereas
      the estimate of ultimate severities exhibits greater variability at the same
      maturity. Generally, actual historical loss development factors are used to
      project future loss development and there can be no assurance that future loss
      development patterns will be the same as in the past. However, we believe that
      our reserving methodologies are in line with other personal lines insurers
      and
      would generally expect ultimate unpaid losses and LAE development to vary
      approximately 5% from the carried unpaid losses and LAE.




The
      Company has experienced changes in the mix of business and policy limits. We
      believe that the assumption with the highest likelihood of change that could
      materially affect carried unpaid losses and LAE is the estimate of the frequency
      of unpaid bodily injury claims. The Company has experienced approximately 12%
      lower bodily injury claim frequency over the past three years in California.
      A
      5% change in the estimate of the frequency of unpaid bodily injury claims would
      result in an approximate increase or decrease in total  unpaid
      losses and LAE of 2.9%, or $14.5 million, at March 31, 2006.




*Property
      and Equipment.* Accounting standards require a write-off to be recognized when an asset is
      vacated or an asset group’s carrying value exceeds its fair value. For purposes
      of recognition and measurement of an impairment loss, a long-lived asset or
      assets are grouped with other assets and liabilities at the lowest level for
      which identifiable cash flows are largely independent of the cash flows of
      other
      assets and liabilities. Accounting standards require asset groups to be tested
      for possible impairment under certain conditions. There have been no events
      or
      circumstances in the first quarter of 2006 that would require a reassessment
      of
      any asset group for impairment.




*Income
      Taxes* .
      Determining the consolidated provision for income tax expense, deferred tax
      assets and liabilities and any related valuation allowance involves judgment.
      GAAP require deferred tax assets and liabilities (“DTAs” and “DTLs,”
respectively) to be recognized for the estimated future tax effects attributed
      to temporary differences and carryforwards based on provisions of the enacted
      tax law. The effects of future changes in tax laws or rates are not anticipated.
      Temporary differences are differences between the tax basis of an asset or
      liability and its reported amount in the condensed consolidated financial
      statements. For example, we have a DTA because the tax bases of our loss and
      LAE
      reserves are smaller than their book bases. Similarly, we have a DTL because
      the
      book basis of our capitalized software exceeds its tax basis. Carryforwards
      include such items as alternative minimum tax credits, which may be carried
      forward indefinitely, and net operating losses (“NOLs”), which can be carried
      forward 15 years for losses incurred before 1998 and 20 years
      thereafter.




At
      March
      31, 2006, our DTAs totaled $128.3 million and our DTLs totaled $69.0 million.
      The net of those amounts, $59.3 million, represents the net deferred tax asset
      reported in the condensed consolidated balance sheets.  At
      December 31, 2005, our DTAs total $128.5 million and our DTLs total $72.3
      million. The net of those amounts, $56.2 million, represents the net deferred
      tax asset reported in the condensed consolidated balance sheets.




We
      are
      required to reduce DTAs (but not DTLs) by a valuation allowance to the extent
      that, based on the weight of available evidence, it is “more likely than not”
(i.e., a likelihood of more than 50%) that any DTAs will not be realized.
      Recognition of a valuation allowance would decrease reported earnings on a
      dollar-for-dollar basis in the year in which any such recognition were to occur.
      The determination of whether a valuation allowance is appropriate requires
      the
      exercise of management judgment. In making this judgment, management is required
      to weigh the positive and negative evidence as to the likelihood that the DTAs
      will be realized.




The
      Company’s net deferred tax assets include a net operating loss (“NOL”)
      carryforward for regular federal corporate tax purposes of approximately $62.5
      million, representing an unrealized tax benefit of $21.9 million at March 31,
      2006, compared to $33.6 million at December 31, 2005. The steady decline in
      the
      unrealized tax benefit of the NOL since 2002 resulted from the generation of
      taxable underwriting and investment income in the intervening years. At the
      current rate of utilization, the Company’s remaining NOL excluding 21st of
      Southwest should be fully utilized by the end of 2007, but in any event long
      before its statutory expiration.





25
 *Table
            of Contents*




Portions
      of our NOL carryforward are scheduled to expire beginning in 2017, as shown
      in
      the table below (amounts in thousands):




**Year
                of Expiration**
            
            **NOL
                Excluding 21st**
              **of
                the Southwest**
            **SRLY****1****NOL
                of 21st**
              **of
                the Southwest**
            **Consolidated
                NOL**2017
            
            $
            ―
            
            $
            1,550
            
            $
            1,5502018
            
            
            ―
            
            
            1,068
            
            
            1,0682019
            
            
            ―
            
            
            1,466
            
            
            1,4662020
            
            
            ―
            
            
            3,172
            
            
            3,1722021
            
            
            15,758
            
            
            2,180
            
            
            17,9382022
            
            
            37,316
            
            
            ―
            
            
            37,316Total
            
            $
            53,074
            
            $
            9,436
            
            $
            62,510





Our
      ability to fully utilize the remaining NOL depends on future taxable income
      either from continued operating profitability or from tax planning strategies
      we
      could implement, such as increasing the taxable portion of our investment
      portfolio. Because of the Company’s history of profitability over the past four
      years,  management
      believes it is reasonable to expect future underwriting profits and to conclude
      it is at least more likely than not that we will be able to realize the benefits
      of all of our DTAs, including our NOL. Accordingly, no valuation allowance
      has
      been recognized as of March 31, 2006. However, generating future taxable income
      is dependent on a number of factors, including regulatory and competitive
      influences that may be beyond our ability to control. Future underwriting losses
      could possibly jeopardize our ability to utilize our NOLs. In the event adverse
      development or underwriting losses due to either SB 1899 matters or other causes
      were to occur, management might be required to reach a different conclusion
      about the realization of the DTAs and, if so, recognize a valuation allowance
      at
      that time.





In
      a
      December 21, 2000, court ruling, *Ceridian
      Corporation v. Franchise Tax Board* ,
      a
      California statute that allowed a tax deduction for the dividends received
      from
      wholly-owned insurance subsidiaries was held unconstitutional on the grounds
      that it discriminated against out-of-state insurance holding companies.
      Subsequent to the court ruling, the staff of the California Franchise Tax Board
      (“FTB”) took the position that the discriminatory sections of the statute are
      not severable and the entire statute is invalid. As a result, the FTB began
      disallowing dividends-received deductions for all insurance holding companies,
      regardless of domicile, for open tax years ending on or after December 1, 1997.
      Although the FTB made no formal assessment, the Company anticipated a
      retroactive disallowance that would result in additional tax assessments and
      recorded a provision for this contingency in a prior year.




In
      the
      first quarter of 2005, the Company filed amended California tax returns and
      paid
      the State of California approximately $6.8 million to cover all issues
      outstanding with the FTB, including certain matters paid under protest as to
      which the Company reserved all its rights to file for refunds and appeal any
      adverse rulings by the FTB to the California State Board of Equalization
      (“SBE”). In September 2005, the FTB completed its audit and denied the Company’s
      refund claims. In December 2005, the Company filed an appeal with the SBE.
      The
      Company is unable to assess the likelihood that any refunds ultimately will
      be
      received from the State of California.




*Deferred
      Policy Acquisition Costs* .
      Deferred policy acquisition costs (“DPAC”) primarily include premium taxes,
      advertising, and other variable costs incurred with writing business. These
      costs are deferred and amortized over the 6-month policy period in which the
      related premiums are earned.




Management
      assesses the recoverability of deferred policy acquisition costs on a quarterly
      basis. The assessment calculates the relationship of actuarially estimated
      costs
      incurred to premiums from contracts issued or renewed for the period. We do
      not
      consider anticipated investment income in determining the recoverability of
      these costs. Based on current indications, management believes these costs
      are
      fully recoverable as of March 31, 2006.




1
            “SRLY”
                stands for Separate Return Limitation Year. Under the Federal tax
                code,
                only future income generated by 21st of Southwest may be
                utilizedagainst this portion of our NOL.





26
 *Table
            of Contents*




The
      loss
      and LAE ratio used in the recoverability estimate is based primarily on expected
      ultimate ratios provided by our actuaries. While management believes that is
      a
      reasonable assumption, actual results could differ materially from such
      estimates.




*Investments* .
      Investment securities generally must be classified as held-to-maturity,
      available-for-sale or trading. The appropriate classification is based partially
      on our ability to hold the securities to maturity and largely on management’s
      intentions at inception with respect to either holding or selling the
      securities. The classification of investment securities is significant since
      it
      directly impacts the accounting for unrealized gains and losses on securities.
      Unrealized gains and losses on trading securities flow directly through earnings
      during the periods in which they arise, whereas for available-for-sale
      securities they are recorded as a separate component of stockholders’ equity
      (accumulated other comprehensive income or loss) and do not affect earnings
      until realized. The fair values of our investment securities are generally
      determined by reference to quoted market prices and reliable independent
      sources. The cost of investment securities sold is determined by the specific
      identification method.




We
      are
      obligated to assess, at each reporting date, whether there is an
“other-than-temporary” impairment to our investment securities. In general, a
      security is considered a candidate for impairment if it meets any of the
      following criteria:




·
            Trading
                at a significant (25% or more) discount to par, amortized cost (if
                lower)
                or cost for an extended period of time (nine months or
                longer);




·
            The
                occurrence of a discrete credit event resulting in*(i)*the
                issuer defaulting on a material outstanding obligation; or*(ii)*the
                issuer seeking protection from creditors under the bankruptcy laws
                or any
                similar laws intended for the court supervised reorganization of
                insolvent
                enterprises; or*(iii)*the
                issuer proposing a voluntary reorganization pursuant to which creditors
                are asked to exchange their claims for cash or securities having
                a fair
                value substantially lower than par value of their claims;
                or




·
            In
                the opinion of the Company’s management, it is possible that the Company
                may not realize a full recovery on its investment, irrespective of
                the
                occurrence of one of the foregoing
                events.





For
      investments with unrealized losses due to market conditions or industry-related
      events, where the Company has the positive intent and ability to hold the
      investment for a period of time sufficient to allow a market recovery or to
      maturity, declines in value below cost are not assumed to be
      other-than-temporary. Where declines in values of securities below cost or
      amortized cost are considered to be other-than-temporary, such as when it is
      determined that an issuer is unable to repay the entire principal, a charge
      is
      required to be reflected in income for the difference between cost or amortized
      cost and the fair value.





The
      determination of whether a decline in market value is “other-than-temporary” is
      necessarily a matter of subjective judgment. No such charges were recorded
      in
      the three months ended March 31, 2006 or 2005. The timing and amount of realized
      losses and gains reported in income could vary if conclusions other than those
      made by management were to determine whether an other-than-temporary impairment
      exists. However, there would be no impact on equity because any unrealized
      losses would be already included in accumulated other comprehensive income
      (loss).





The
      following is a summary by issuer of non-investment grade securities and unrated
      securities held (at fair value):





**March
                31,**
            December
                31,*AMOUNTS
                IN THOUSANDS*
            
            **2006**
            2005Non-investment
                grade fixed maturity securities (i.e., rated below BBB-):Ford
                Motor Credit Company2
            
            **$**
            **—**
            
            $
            2,495Non-investment
                grade equity securities:AmerUs
                Group Co.3
            
            
            **—**
            
            
            864Unrated
                securities:Impact
                Community Capital, LLC4
            
            
            **2,023**
            
            
            2,023Impact
                Healthcare, LLC
            
            
            **413**
            
            
            413Impact
                Childcare, LLC
            
            
            **330**
            
            
            **—**Total
                non-investment grade and unrated securities
            
            **$**
            **2,766**
            
            $
            5,795Percentage
                of total investments, at fair value
            
            
            **0.2**
            **%**
            
            0.4
            %




2
            The
                Ford Motor Credit Company security matured in the first quarter of
                2006
                and the Company received all amounts due, thereby incurring no
                loss.


3
            The
                AmerUs Group Co. was a preferred stock holding that had an unrealized
                gain
                as of December 31, 2005.


4
            Impact
                Community Capital, LLC is a limited partnership that was voluntarily
                established by a group of California insurers to make loans and other
                investments that provide housing and other services to economically
                disadvantaged communities.




27
 *Table
            of Contents*





The
      following table summarizes investments held by us having an unrealized loss
      of
      $0.1 million or more and aggregate information relating to all other investments
      in unrealized loss positions as of March 31, 2006 and December 31,
      2005:




**March
                31, 2006**
            December
                31, 2005*AMOUNTS
                IN THOUSANDS,*
              *EXCEPT
                NUMBER OF ISSUES*
            
            ***#
                issues***
            ***Fair
                Value***
            ***Unrealized
                Loss***
            *#
                issues*
            *Fair
                Value*
            *Unrealized
                Loss*Investments
                with unrealized losses:Fixed
                maturity securities:Exceeding
                $0.1 million and in a loss position for:Less
                than 6 months
            
            
            **3**
            
            **$**
            **19,982**
            
            **$**
            **526**
            
            
            16
            
            $
            141,034
            
            $
            3,0746-12
                months
            
            
            **37**
            
            
            **264,278**
            
            
            **10,864**
            
            
            16
            
            
            129,044
            
            
            4,072More
                than 1 year
            
            
            **74**
            
            
            **504,783**
            
            
            **28,172**
            
            
            56
            
            
            433,368
            
            
            16,896Less
                than $0.1 million
            
            
            **128**
            
            
            **267,873**
            
            
            **5,036**
            
            
            113
            
            
            204,724
            
            
            4,347Total
                fixed maturity securities with unrealized losses
            
            
            **242**
            
            
            **1,056,916**
            
            
            **44,598**
            
            
            201
            
            
            908,170
            
            
            28,389Equity
                securities:Exceeding
                $0.1 million
            
            
            **—**
            
            
            **—**
            
            
            **—**
            
            
            2
            
            
            578
            
            
            305Less
                than $0.1 million
            
            
            **—**
            
            
            **—**
            
            
            **—**
            
            
            245
            
            
            35,672
            
            
            1,873Total
                equity securities with unrealized losses
            
            
            **—**
            
            
            **—**
            
            
            **—**
            
            
            247
            
            
            36,250
            
            
            2,178Total
                investments with unrealized losses5
            
            
            **242**
            
            **$**
            **1,056,916**
            
            **$**
            **44,598**
            
            
            448
            
            $
            944,420
            
            $
            30,567





A
      summary
      by contractual maturity of fixed maturity securities in an unrealized loss
      position by year of maturity follows:




**March
                31, 2006**
            December
                31, 2005*AMOUNTS
                IN THOUSANDS*
            
            ***Amortized
                Cost***
            ***Fair
                Value***
            ***Unrealized
                Loss***
            *Amortized
                Cost*
            *Fair
                Value*
            *Unrealized
                Loss*Fixed
                maturity securities:Due
                in one year or less
            
            **$**
            **2,031**
            
            **$**
            **1,995**
            
            **$**
            **36**
            
            $
            5,562
            
            $
            5,512
            
            $
            50Due
                after one year through five years
            
            
            **360,719**
            
            
            **347,204**
            
            
            **13,515**
            
            
            205,363
            
            
            200,075
            
            
            5,288Due
                after five years through ten years
            
            
            **385,947**
            
            
            **368,942**
            
            
            **17,005**
            
            
            415,417
            
            
            401,533
            
            
            13,884Due
                after ten years
            
            
            **352,817**
            
            
            **338,775**
            
            
            **14,042**
            
            
            310,217
            
            
            301,050
            
            
            9,167Total
                fixed maturity securities with unrealized losses
            
            **$**
            **1,101,514**
            
            **$**
            **1,056,916**
            
            **$**
            **44,598**
            
            $
            936,559
            
            $
            908,170
            
            $
            28,389





If
      our
      portfolio were to be impaired by market or issuer-specific conditions to a
      substantial degree, our liquidity, financial position and financial results
      could be materially adversely affected. Further, our income from these
      investments could be materially reduced, and write-downs of the value of certain
      securities could further reduce our profitability. In addition, a decrease
      in
      value of our investment portfolio could put our subsidiaries at risk of failing
      to satisfy regulatory capital requirements. If we were not at that time able
      to
      supplement our capital by issuing debt or equity securities on acceptable terms,
      our ability to continue growing could be adversely affected. ** See
      further discussion in *Item
      3. Quantitative and Qualitative Disclosures About Market Risk.*





*Stock-Based
      Compensation Expense* .
      For
      periods prior to January 1, 2006, the Company accounted for share-based payment
      transactions with employees in accordance with Statement of Financial Accounting
      Standard No. (“FAS”) 123, *Accounting
      for Stock-Based Compensation* .  Under
      the
      provisions of FAS 123, we had elected to continue using the intrinsic-value
      method of accounting for stock-based awards granted to employees in accordance
      with Accounting Principles Board Opinion No. 25, *Accounting
      for Stock Issued to Employees* .
      We did
      not recognize in income any compensation expense for the fair value of stock
      options awarded to employees as all employee stock options were granted at
      or
      above the grant date market price. However, stock-based employee compensation
      cost relating to restricted stock was recognized in the statement of income
      for
      periods prior to January 1, 2006. Effective January 1, 2006, the Company adopted
      the fair value recognition provisions of FAS 123 (revised 2004), *Share-Based
      Payment* (“FAS
      123R”). Unlike FAS 123, which was elective, FAS 123R requires that companies use
      a fair value method to value share-based payments and recognize the related
      compensation expense in net earnings. The Company uses the Black-Scholes
      option-pricing model to calculate the fair value of the employee stock options.





5
            Unrealized
                losses represent 4.2% and 3.2% of the total carrying value of investments
                with unrealized losses at March 31, 2006 and December 31,2005,
                respectively.




28
 *Table
            of Contents*




The
      Company adopted FAS 123R using the modified-prospective application method,
      and
      accordingly, financial statement amounts for the prior periods presented in
      this
      Form 10-Q have not been restated to reflect the fair value method of expensing
      share-based compensation under FAS 123R. The modified-prospective application
      method provides for the recognition of the fair value with respect to
      stock-based awards granted on or after January 1, 2006 and all previously
      granted, but unvested awards as of January 1, 2006.





The
      adoption of FAS 123R in the first quarter of 2006 resulted in additional
      stock-based compensation cost of $4.0 million, which previously would have
      been
      only presented in a pro forma footnote disclosure. The Company expects this
      cost
      to approximate $10.0 million for fiscal 2006. FAS 123R also requires the Company
      to estimate forfeitures in calculating the expense relating to stock-based
      compensation, as opposed to recognizing these forfeitures and corresponding
      reduction in expense as they occur. No adjustment for this cumulative effect
      was
      necessary as forfeitures were estimated in the Company’s prior year pro forma
      financial statements. In addition, FAS 123R requires the Company to reflect
      the
      cash savings resulting from excess tax benefits (i.e., the benefit of the tax
      deduction for a share-based payment that exceeds the recognized compensation
      cost for that award) in its financial statements as a financing cash flow,
      rather than as an operating cash flow as in prior periods. Basic and diluted
      earnings per share for the three months ended March 31, 2006 would have been
      $0.28 if the Company had not adopted FAS 123R, compared to reported basic and
      diluted earnings per share of $0.25.





For
      grants made on or after January 1, 2006, the Company applied the non-substantive
      vesting period approach, which requires recognition of compensation expense
      from
      the grant date to the earlier of the vesting date or the date retirement
      eligibility is achieved for awards with retirement eligibility options. The
      use
      of the non-substantive vesting approach will not affect the overall amount
      of
      compensation expense recognized, but will accelerate the recognition of expense.
      This resulted in $0.7 million in additional expense during the three months
      ended March 31, 2006. The Company also recognized $1.4 million in
      stock-based compensation expense in connection with the accelerated vesting
      of
      awards as part of an executive retention agreement. For the remaining portion
      of
      awards that were unvested and granted prior to January 1, 2006, the Company
      will
      continue to follow the nominal vesting period approach, and accordingly
      recognize the expense from the grant date to the vesting date.





See
      additional discussion in Note 2 of the Notes to Condensed Consolidated Financial
      Statements.





**Forward-Looking
      Statements**


This
      report contains statements that constitute forward-looking information.
      Investors are cautioned that these forward-looking statements are not guarantees
      of future performance or results and involve risks and uncertainties, and that
      actual results or developments may differ materially from the forward-looking
      statements as a result of various factors. You should not rely on
      forward-looking statements in this quarterly report on Form 10-Q.
      Forward-looking statements are statements not based on historical information
      and which relate to future operations, strategies, financial results or other
      developments. You can usually identify forward-looking statements by terminology
      such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,”
“estimate,” “predict,” “intend,” “potential,” or “continue” or with the negative
      of these terms or other comparable terminology.





Although
      we believe that the expectations reflected in these forward-looking statements
      are reasonable, we cannot guarantee our future results, level of activity,
      performance or achievements. Forward-looking statements include, among other
      things, discussions concerning our potential expectations, beliefs, estimates,
      forecasts, projections and assumptions. Forward-looking statements may address,
      among other things:




·
            Our
                strategy for growth;


·
            Underwriting
                results;


·
            Our
                expected combined ratio and growth of written
                premiums;


·
            Product
                development;


·
            Computer
                systems;


·
            Regulatory
                approvals;


·
            Market
                position;


·
            Financial
                results;


·
            Dividend
                policy; and


·
            Reserves.




29
 *Table
            of Contents*





It
      is
      possible that our actual results, actions and financial condition may differ,
      possibly materially, from the anticipated results, actions and financial
      condition indicated in these forward-looking statements. Other important factors
      that could cause our actual results and actions to differ, possibly materially,
      from those in the specific forward-looking statements include those discussed
      in
      this report under the heading *Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations* as well
      as:




·
            The
                effects of competition and competitors’ pricing
                actions;


·
            Changes
                in consumer preferences or buying
                habits;


·
            Adverse
                underwriting and claims experience;


·
            Customer
                service problems;


·
            The
                impact on our operations of natural disasters, principally earthquake,
                or
                civil disturbance, due to the concentration of our facilities and
                employees in Southern California;


·
            Information
                system problems;


·
            Control
                environment failures;


·
            Adverse
                developments in financial markets or interest rates;


·
            Results
                of legislative, regulatory or legal actions, including the inability
                to
                obtain approval for necessary licenses, rate increases and product
                changes
                and possible adverse actions taken by state regulators in market
                conduct
                examinations; and


·
            Our
                ability to service the Senior Notes, including our ability to receive
                dividends and/or sufficient payments from our subsidiaries to service
                our
                obligations.




We
      do not
      undertake any obligation to update or revise any forward-looking statements,
      whether as a result of new information, future events or otherwise.





30
 *Table
            of Contents*





**ITEM
      3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK**





Market
      risk is the risk of loss from adverse changes in market prices and interest
      rates. In addition to market risk, we are exposed to other risks, including
      the
      credit risk related to the issuers of the financial instruments in which we
      invest, the underlying insurance risk related to our core business and the
      exposure of the personal lines insurance business, as a regulated industry,
      to
      legal, legislative, judicial, political and regulatory action. Financial
      instruments are not used for trading purposes. The following disclosure reflects
      estimated changes in value that may result from selected hypothetical changes
      in
      market rates and prices. Actual results may differ.




Our
      cash
      flow from operations and short-term cash position generally have been more
      than
      sufficient to meet our projected obligations for claim payments, which by the
      nature of the personal automobile insurance business, tend to have an average
      duration of less than one year. The Company also obtained long-term fixed rate
      financing as a means of increasing the statutory surplus of the Company’s
      largest insurance subsidiary in 2002 and 2003. The Company primarily invests
      in
      fixed maturity investments. At March 31, 2006, comprised 99.9% of the fair
      value
      of the Company’s total investments.




The
      Company initiated the sale of its equity portfolio during the first quarter
      and
      is in the process of evaluating other equity products. The Company’s common
      equity portfolio represented approximately 0.1% of total investments at fair
      value as of March 31, 2006.




*Fixed
      maturity financial instruments.* For all
      of our fixed maturity investments, we seek to provide for liquidity and
      diversification while maximizing income without sacrificing investment quality.
      The value of the fixed maturity portfolio is subject to interest rate risk
      where
      the value of the fixed maturity portfolio decreases as market interest rates
      increase, and conversely, when market interest rates decrease, the value of
      the
      fixed maturity portfolio increases. Duration is a common measure of the
      sensitivity of a fixed maturity security’s value to changes in interest rates.
      The higher the duration, the more sensitive a fixed maturity security is to
      market interest rate fluctuations. Effective duration also measures this
      sensitivity, but it takes into account call terms, as well as changes in
      remaining term, coupon rate, cash flow, and other items.




Since
      fixed maturity investments with longer remaining terms to maturity usually
      tend
      to realize higher yields, the Company’s investment philosophy through 2003
      typically resulted in a portfolio with an effective duration of over 6 years.
      Due to the changing interest rate environment in 2004, management, in
      consultation with the Investment Committee, began targeting a lower duration
      for
      the Company’s fixed maturity investment portfolio to reduce the negative impact
      of potential increases in interest rates.  As
      a
      result, the effective duration of the fixed maturity portfolio declined from
      4.7
      years as of December 31, 2005 to 4.5 years at March 31, 2006.




The
      graphical depiction of the relationship between the yield on bonds of the same
      credit quality with different maturities is usually referred to as a yield
      curve. Because the yield on U.S. Treasury securities is the base rate (or “risk
      free rate”) from which non-government bond yields are normally benchmarked, the
      most commonly constructed yield curve is derived from the observation of prices
      and yields in the Treasury market. An upward sloping curve, where yield rises
      steadily as maturity increases, is referred to as a normal yield
      curve.




The
      following table shows the carrying values of our fixed maturity investments,
      which are reported at fair value, and our debt, which is reported at amortized
      cost. The table also presents estimated fair values at adjusted market rates
      assuming a parallel 100 basis point increase in market interest rates, given
      the
      effective duration noted above, for the fixed maturity investment portfolio
      and
      a parallel 100 basis point decrease in market interest rates for the debt
      determined from a present value calculation. The following sensitivity analysis
      summarizes only the exposure to market interest rate risk:




*DOLLAR
                AMOUNTS IN MILLIONS*
              *March
                31, 2006*
            
            *Carrying
                Value*
            *Estimated
                Carrying Value at Adjusted Market Rates/Prices Indicated
                Above*
            *Change
                in Value as a Percentage of Carrying Value*Fixed
                maturity investments available-for-sale, at fair value
            
            $
            1,434.8
            
            $
            1,371.0
            
            
            (4.4
            %)Debt
            
            
            124.8
            
            
            131.8
            
            
            5.6
            %





The
      discussion above provides only a limited, point-in-time view of the market
      risk
      sensitivity of our fixed rate financial instruments. The actual impact of
      interest rate changes on our fixed maturity investments in particular may differ
      significantly from those shown, as the analysis assumes a parallel shift in
      market interest rates. The analysis also does not consider any actions we could
      take in response to actual and/or anticipated changes in interest rates.





31
 *Table
            of Contents*




Market
      participants usually refer to the difference between long-term Treasury yields
      and short-term Treasury yields as the “slope” of the yield curve. If the spread
      between the long end of the curve, where maturities are high, and the short
      end
      of the curve, where maturities are low, narrows, the yield curve is said to
      be
“flattening”. Conversely, if the spread between the long end of the curve and
      the short end of the curve widens, the yield curve is said to be “steepening”.
      If the yields on the long end of the curve fall below those of the short end
      of
      the curve, the yield curve is said to be “inverted.”





The
      analysis above assumes a parallel shift in interest rates. However, the curve
      may also steepen, flatten or become inverted. This type of behavior may affect
      certain sections of the curve in disproportionate amounts. For example, if
      short-term Treasury yields rise and the yield curve flattens, fixed maturity
      instruments with short duration may be impacted to a greater degree than fixed
      maturity instruments with longer duration. Conversely, if long-term Treasury
      yields rise and the yield curve steepens, fixed maturity instruments with long
      duration may be impacted to a greater degree than fixed maturity instruments
      with shorter duration. The following summarizes the effective duration
      distribution of our fixed maturity investments portfolio.





*Effective
                Duration Ranges**March
                31, 2006*
            
            Below
                1
            1
                to 3
            3
                to 5
            5
                to 7
            7
                to 10
            10
                to 20Market
                value percentage of fixed maturity investment portfolio
            
            
            1.5%
            
            
            14.7%
            
            
            59.6%
            
            
            21.9%
            
            
            1.4%
            
            
            0.9%





32
 *Table
            of Contents*





**ITEM
      4. CONTROLS AND PROCEDURES**





**Evaluation
      of Disclosure Controls and Procedures**


We
      have
      established disclosure controls and procedures to ensure that material
      information relating to the Company, including its consolidated subsidiaries,
      is
      made known to the officers who certify the Company’s financial reports and to
      other members of senior management and the Board of Directors.





Based
      on
      their evaluation of the effectiveness of 21st Century Insurance Group’s
      disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)
      under the Securities Exchange Act of 1934) as of March 31, 2006, the Principal
      Executive Officer and Principal Financial Officer of 21st Century Insurance
      Group have concluded that such disclosure controls and procedures are effective
      to ensure that the information required to be disclosed by 21st Century
      Insurance Group in reports that it files or submits under the Securities
      Exchange Act of 1934 is recorded, processed, summarized and reported within
      the
      time periods specified in SEC rules and forms.





Management,
      with the participation of the Principal Executive Officer and Principal
      Financial Officer, has evaluated any changes in 21st Century Insurance Group’s
      internal control over financial reporting that occurred during the most recent
      fiscal quarter. Based on the evaluation, management, including the Principal
      Executive Officer and Principal Financial Officer, have concluded that no change
      in our internal control over financial reporting (as defined in Rule 13a-15(f)
      under the Securities Exchange Act of 1934) occurred during the quarter ended
      March 31, 2006 that has materially affected, or is reasonably likely to
      materially affect, our internal control over financial reporting.




**Inherent
      Limitations on Effectiveness of Controls**


A
      control
      system, no matter how well designed and operated, can provide only reasonable,
      not absolute, assurance that the control system’s objectives will be met.
      Further, no evaluation of controls can provide absolute assurance that
      misstatements due to error or fraud will not occur or that all control issues
      and instances of fraud, if any, have been detected. These inherent limitations
      include the realities that judgments in decision-making can be faulty and that
      breakdowns can occur because of simple error or mistake. Controls can also
      be
      circumvented by the individual acts of some persons, or by collusion of two
      or
      more people.





**PART
      II - OTHER INFORMATION**





**ITEM
      1. LEGAL PROCEEDINGS**





In
      the
      normal course of business, the Company is named as a defendant in lawsuits
      related to claims and insurance policy issues, both on individual policy files
      and by class actions seeking to attack the Company’s business practices. A
      description of the legal proceedings to which the Company and its subsidiaries
      are a party is contained in Note 4 of the Notes to Condensed Consolidated
      Financial Statements.





**ITEM
      1A. RISK FACTORS**





There
      are
      no material changes from the risk factors previously disclosed in Part I of
      Item
      1A in our Annual Report on Form 10-K for the fiscal year ended December 31,
      2005.





**ITEM
      2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
      PROCEEDS**





None.





**ITEM
      3. DEFAULTS UPON SENIOR SECURITIES**





None.





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





None.





**ITEM
      5. OTHER INFORMATION**





None.





**ITEM
      6. EXHIBITS**





See
      accompanying exhibit index.





33
 *Table
            of Contents*




**SIGNATURES**





Pursuant
      to the requirements of the Securities and Exchange Act of 1934, the registrant
      has duly caused this report to be signed on its behalf by the undersigned
      thereunto duly authorized.




21ST
                    CENTURY INSURANCE GROUP(Registrant)Date:
                April
                    26, 2006
                
                /s/
                    Bruce W. MarlowBRUCE
                    W. MARLOWPresident
                    and Chief Executive Officer(Principal
                    Executive Officer)Date:
                April
                    26, 2006
                
                /s/
                    Jesús C. ZaragozaJESÚS
                    C. ZARAGOZAVice
                    President and Controller(Principal
                    Financial Officer)


34
 *Table
                of Contents*
  **EXHIBIT
            INDEX**
  Exhibit
                      No.
                  Description31.1
                  Certification
                      of Principal Executive Officer Pursuant to Exchange Act Rule
                      13a-14(a).31.2
                  Certification
                      of Principal Financial Officer Pursuant to Exchange Act Rule
                      13a-14(a).32.1
                  Certification
                      Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to
                      Section 906 of
                      the Sarbanes-Oxley Act of 2002.






35