##### Table of Contents









UNITED STATES

SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549




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Form 10-Q

|  |  |                                                                                                                                                                                                                 |  | 
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | 
|x |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
    OF
    THE SECURITIES EXCHANGE ACT OF 1934For the quarterly period ended September 30, 2003                                                                |  | 
|o |  | 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: 000-32057 |  | 

American Physicians Capital, Inc.

(Exact name of registrant as specified in its
charter)


|                                                                   |  |                                         
|------------------------------------------------------------------ |  | ----------------------------------------
|Michigan                                                           |  | 38-3543910                              
|(State or other jurisdiction of
    incorporation or organization) |  | (IRS employer
    identification number)

1301 North Hagadorn Road, East Lansing,
Michigan 48823

(Address of principal executive offices)(Zip
Code)


Registrants telephone number, including
area code: (517) 351-1150

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.

YESxNOo

Indicate by check mark whether the registrant is
an accelerated filer (as defined in Rule 12b-2 of the
Exchange Act)

YESxNOo

The number of shares outstanding of the
registrants common stock, no par value per share, as of
November 10 , 2003 was 8,452,228.



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TABLE OF CONTENTS



|                                                                                                                    |  |  |  |  |  |  |  | 
|------------------------------------------------------------------------------------------------------------------- |  |  |  |  |  |  |  | 
|TABLE OF CONTENTS                                                                                                  
|PART I. FINANCIAL INFORMATION                                                                                      
|CONDENSED CONSOLIDATED BALANCE SHEETS                                                                              
|CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)                                                            
|CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)                                              
|CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS                                                                    
|AMERICAN PHYSICIANS CAPITAL, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
|PART II. OTHER INFORMATION                                                                                         
|SIGNATURES                                                                                                         
|EXHIBIT INDEX                                                                                                      
|Exhibit 4.1                                                                                                        
|Exhibit 10.1                                                                                                       
|Exhibit 10.2                                                                                                       
|Exhibit 10.3                                                                                                       
|302 Certification of Chief Executive Officer                                                                       
|302 Certification of Chief Financial Officer                                                                       
|906 Certification of CEO & CFO                                                                                     



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##### Table of Contents








TABLE OF CONTENTS


|                              |                                                                                                   |  |    |    | 
|----------------------------- | ------------------------------------------------------------------------------------------------- |  | -- | -- | 
|PART I. FINANCIAL INFORMATION |                                                                                                   |  |    |   
|                              | Item 1. Financial Statements                                                                      |  |    |    | 
|                              | Condensed
    Consolidated Balance Sheets                                                         |  |    | 3  | 
|                              | Condensed
    Consolidated Statements of Income                                                   |  |    | 4  | 
|                              | Condensed
    Consolidated Statements of Comprehensive Income                                     |  |    | 5  | 
|                              | Condensed
    Consolidated Statements of Cash Flows                                               |  |    | 6  | 
|                              | Notes
    to Condensed Consolidated Financial Statements                                          |  |    | 7  | 
|                              | Item 2. Managements Discussion
    and Analysis of Financial Condition and Results of Operations |  |    | 16 | 
|                              | Item 3. Quantitative and Qualitative
    Disclosures About Market Risk                            |  |    | 33 | 
|                              | Item 4. Controls and Procedures                                                                   |  |    | 34 | 
|PART II. OTHER INFORMATION    |                                                                                                   |  |    |   
|                              | Item 2. Changes in Securities and Use
    of Proceeds                                             |  |    | 36 | 
|                              | Item 6. Exhibits and Reports on Form 8-K                                                          |  |    | 36 | 
|Signatures                    |                                                                                                   |  | 37 |   
|Exhibit Index                 |                                                                                                   |  | 38 |   

2



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PART I. FINANCIAL INFORMATION


AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES






CONDENSED CONSOLIDATED BALANCE
SHEETS


ITEM 1. FINANCIAL STATEMENTS

|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |   |         |         |           | 
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------ | ------------------------------------------ | ------- | ------- | ------------ | - | ------- | ------- | --------- | 
|                                                                                                                                                                           |                                                                                      | September 30,                              |         |         | December 31, |  
|                                                                                                                                                                           |                                                                                      | 2003                                       |         |         | 2002         |  
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|                                                                                                                                                                           |                                                                                      | (Unaudited)                                |         |         |             
|                                                                                                                                                                           |                                                                                      |                                           
|                                                                                                                                                                           |                                                                                      | (In thousands, except share data)          |        
|Assets                                                                                                                                                                     |                                                                                      |                                            |         |         |              |   |         |        
|Investments:                                                                                                                                                               |                                                                                      |                                            |         |         |              |   |         |        
|                                                                                                                                                                           | Fixed maturities, at fair value                                                      |                                            | $       | 686,012 |              |   | $       | 618,899 |          
|                                                                                                                                                                           | Equity securities, at fair value                                                     |                                            |         | 8,764   |              |   |         | 44      |          
|                                                                                                                                                                           | Other investments                                                                    |                                            |         | 30,661  |              |   |         | 30,788  |          
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|                                                                                                                                                                           |                                                                                      | Total investments                          |         |         | 725,437      |   |         |         | 649,731   | 
|Cash and cash equivalents                                                                                                                                                  |                                                                                      |                                            | 92,795  |         |              |   | 151,825 |        
|Premiums receivable                                                                                                                                                        |                                                                                      |                                            | 73,121  |         |              |   | 62,531  |        
|Reinsurance recoverable                                                                                                                                                    |                                                                                      |                                            | 110,240 |         |              |   | 98,128  |        
|Federal income tax recoverable                                                                                                                                             |                                                                                      |                                            | 4,321   |         |              |   | 1,100   |        
|Deferred federal income taxes                                                                                                                                              |                                                                                      |                                            |        |         |              |   | 42,542  |        
|Property and equipment, net of accumulated
    depreciation                                                                                                                |                                                                                      |                                            | 15,040  |         |              |   | 14,352  |        
|Intangible assets                                                                                                                                                          |                                                                                      |                                            | 362     |         |              |   |        |        
|Other assets                                                                                                                                                               |                                                                                      |                                            | 48,059  |         |              |   | 38,709  |        
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|                                                                                                                                                                           |                                                                                      | Total assets                               |         | $       | 1,069,375    |   |         | $       | 1,058,918 | 
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|Liabilities                                                                                                                                                                |                                                                                      |                                            |         |         |              |   |         |        
|Unpaid losses and loss adjustment expenses                                                                                                                                 |                                                                                      | $                                          | 678,136 |         |              | $ | 637,494 |        
|Unearned premiums                                                                                                                                                          |                                                                                      |                                            | 113,581 |         |              |   | 103,420 |        
|Long term debt                                                                                                                                                             |                                                                                      |                                            | 30,928  |         |              |   |        |        
|Note payable, officer                                                                                                                                                      |                                                                                      |                                            | 5,839   |         |              |   | 6,567   |        
|Other liabilities                                                                                                                                                          |                                                                                      |                                            | 36,536  |         |              |   | 31,148  |        
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|                                                                                                                                                                           |                                                                                      | Total liabilities                          |         |         | 865,020      |   |         |         | 778,629   | 
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|Shareholders Equity                                                                                                                                                       |                                                                                      |                                            |         |         |              |   |         |        
|Common stock, no par value,
    50,000,000 shares authorized: 8,457,408 and
    8,695,492 shares outstanding at September 30, 2003 and
    December 31, 2002, respectively |                                                                                      |                                            |        |         |              |   |        |        
|Additional paid-in-capital                                                                                                                                                 |                                                                                      |                                            | 85,240  |         |              |   | 92,148  |        
|Retained earnings                                                                                                                                                          |                                                                                      |                                            | 87,250  |         |              |   | 164,183 |        
|Unearned stock compensation                                                                                                                                                |                                                                                      |                                            | (453    | )       |              |   | (678    | )      
|Accumulated other comprehensive income:                                                                                                                                    |                                                                                      |                                            |         |         |              |   |         |        
|                                                                                                                                                                           | Net unrealized appreciation on investments, net
    of deferred federal income taxes |                                            |         | 32,318  |              |   |         | 24,636  |          
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|                                                                                                                                                                           |                                                                                      | Total shareholders equity                 |         |         | 204,355      |   |         |         | 280,289   | 
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  
|                                                                                                                                                                           |                                                                                      | Total liabilities and shareholders equity |         | $       | 1,069,375    |   |         | $       | 1,058,918 | 
|                                                                                                                                                                           |                                                                                      |                                            |         |         |              |  

The accompanying notes are an integral part of
the condensed consolidated financial statements.

3



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES






CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)


|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |         |   |   |         |         |  
|---------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------------------- | ------------------------------------- | ------- | ------- | ----------------- | - | ------- | ------ | - | - | ------- | ------- | - | - | ------- | ------- | -
|                                                                                         |                                                                                                |                                       |         |        
|                                                                                         |                                                                                                | Three Months Ended                    |         |         | Nine Months Ended |  
|                                                                                         |                                                                                                | September 30,                         |         |         | September 30,     |  
|                                                                                         |                                                                                                |                                       |         |         |                   |  
|                                                                                         |                                                                                                | 2003                                  |         |         | 2002              |   |         | 2003   |   |   | 2002    |        
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         |                                                                                                |                                      
|                                                                                         |                                                                                                | (In thousands, except per share data) |        
|Net premiums written                                                                     |                                                                                                | $                                     | 79,371  |         |                   | $ | 74,944  |        |   | $ | 179,202 |         |   | $ | 188,323 |        
|Change in net unearned premiums                                                          |                                                                                                |                                       | (22,783 | )       |                   |   | (13,523 | )      |   |   | (9,682  | )       |   |   | (17,353 | )      
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         | Net premiums earned                                                                            |                                       |         | 56,588  |                   |   |         | 61,421 |   |   |         | 169,520 |   |   |         | 170,970 |  
|Investment income                                                                        |                                                                                                |                                       | 11,400  |         |                   |   | 11,421  |        |   |   | 32,209  |         |   |   | 34,108  |        
|Net realized gains (losses)                                                              |                                                                                                |                                       | 143     |         |                   |   | (390    | )      |   |   | 1,291   |         |   |   | (678    | )      
|Other income                                                                             |                                                                                                |                                       | 161     |         |                   |   | 524     |        |   |   | 518     |         |   |   | 786     |        
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         | Total revenues and other income                                                                |                                       |         | 68,292  |                   |   |         | 72,976 |   |   |         | 203,538 |   |   |         | 205,186 |  
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|Losses and loss adjustment expenses                                                      |                                                                                                |                                       | 96,721  |         |                   |   | 62,928  |        |   |   | 203,733 |         |   |   | 178,461 |        
|Underwriting expenses                                                                    |                                                                                                |                                       | 11,721  |         |                   |   | 11,945  |        |   |   | 36,828  |         |   |   | 35,306  |        
|Investment expenses                                                                      |                                                                                                |                                       | 934     |         |                   |   | 609     |        |   |   | 2,083   |         |   |   | 2,529   |        
|Interest expense                                                                         |                                                                                                |                                       | 502     |         |                   |   | 95      |        |   |   | 875     |         |   |   | 278     |        
|Amortization expense                                                                     |                                                                                                |                                       | 133     |         |                   |   |        |        |   |   | 272     |         |   |   |        |        
|General and administrative expenses                                                      |                                                                                                |                                       | 715     |         |                   |   | 395     |        |   |   | 1,993   |         |   |   | 1,231   |        
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         | Total expenses                                                                                 |                                       |         | 110,726 |                   |   |         | 75,972 |   |   |         | 245,784 |   |   |         | 217,805 |  
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         | Loss before federal income taxes and cumulative
    effect of a change in accounting principle |                                       |         | (42,434 | )                 |   |         | (2,996 | ) |   |         | (42,246 | ) |   |         | (12,619 | )
|Federal income tax expense (benefit)                                                     |                                                                                                |                                       | 34,621  |         |                   |   | (1,048  | )      |   |   | 34,687  |         |   |   | (4,421  | )      
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         | Loss before cumulative effect of a change in
    accounting principle                          |                                       |         | (77,055 | )                 |   |         | (1,948 | ) |   |         | (76,933 | ) |   |         | (8,198  | )
|Cumulative effect of a change in accounting
    principle                                |                                                                                                |                                       |        |         |                   |   |        |        |   |   |        |         |   |   | (9,079  | )      
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|                                                                                         | Net loss                                                                                       |                                       | $       | (77,055 | )                 |   | $       | (1,948 | ) |   | $       | (76,933 | ) |   | $       | (17,277 | )
|                                                                                         |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |        
|Loss before cumulative effect of a change in
    accounting principle  per common share |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |         |   |   |         |        
|                                                                                         | Basic                                                                                          |                                       | $       | (9.03   | )                 |   | $       | (0.21  | ) |   | $       | (8.97   | ) |   | $       | (0.85   | )
|                                                                                         | Diluted                                                                                        |                                       | $       | (9.03   | )                 |   | $       | (0.21  | ) |   | $       | (8.97   | ) |   | $       | (0.85   | )
|Cumulative effect of a change in accounting
    principle  per common share             |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |         |   |   |         |        
|                                                                                         | Basic                                                                                          |                                       | $       |        |                   |   | $       |       |   |   | $       |        |   |   | $       | (0.95   | )
|                                                                                         | Diluted                                                                                        |                                       | $       |        |                   |   | $       |       |   |   | $       |        |   |   | $       | (0.95   | )
|Net loss  per common share                                                              |                                                                                                |                                       |         |         |                   |   |         |        |   |   |         |         |   |   |         |        
|                                                                                         | Basic                                                                                          |                                       | $       | (9.03   | )                 |   | $       | (0.21  | ) |   | $       | (8.97   | ) |   | $       | (1.80   | )
|                                                                                         | Diluted                                                                                        |                                       | $       | (9.03   | )                 |   | $       | (0.21  | ) |   | $       | (8.97   | ) |   | $       | (1.80   | )

The accompanying notes are an integral part of
the condensed consolidated financial statements.

4



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES






CONDENSED CONSOLIDATED STATEMENTS OF
COMPREHENSIVE INCOME (UNAUDITED)


|                                   |                                                                                                                                                                                                                                                           |                                   |         |      |                   |   |        |        |        |   |         |       |         |   |         |        |        | 
|---------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | --------------------------------- | ------- | ---- | ----------------- | - | ------ | ------ | ------ | - | ------- | ----- | ------- | - | ------- | ------ | ------ | 
|                                   |                                                                                                                                                                                                                                                           |                                   |         |     
|                                   |                                                                                                                                                                                                                                                           | Three Months Ended                |         |      | Nine Months Ended |  
|                                   |                                                                                                                                                                                                                                                           | September 30,                     |         |      | September 30,     |  
|                                   |                                                                                                                                                                                                                                                           |                                   |         |      |                   |  
|                                   |                                                                                                                                                                                                                                                           | 2003                              |         |      | 2002              |   |        | 2003   |        |   | 2002    |      
|                                   |                                                                                                                                                                                                                                                           |                                   |         |      |                   |   |        |        |        |   |         |      
|                                   |                                                                                                                                                                                                                                                           |                                  
|                                   |                                                                                                                                                                                                                                                           | (In thousands)                    |        
|Net loss                           |                                                                                                                                                                                                                                                           | $                                 | (77,055 | )    |                   | $ | (1,948 | )      |        | $ | (76,933 | )     |         | $ | (17,277 | )     
|Other comprehensive (loss) income: |                                                                                                                                                                                                                                                           |                                   |         |      |                   |   |        |        |        |   |         |       |         |   |         |       
|                                   | Unrealized (depreciation) appreciation on
    investment securities arising during the period, net of deferred
    federal income tax (benefit) expense of $(536) and $3,746,
    respectively, in 2003 and $5,871 and $10,440, respectively, in
    2002 |                                   |         | (996 | )                 |   |        | 10,903 |        |   |         | 6,957 |         |   |         | 19,388 |       
|                                   | Less reclassification adjustment for realized
    losses (gains) on investment securities included in net loss,
    net of income tax benefit (expense) of $11 and $(391),
    respectively, in 2003 and $137 and $135, respectively, in 2002             |                                   |         | 21   |                   |   |        | 254    |        |   |         | (725  | )       |   |         | 250    |       
|                                   |                                                                                                                                                                                                                                                           |                                   |         |      |                   |   |        |        |        |   |         |      
|                                   |                                                                                                                                                                                                                                                           | Other comprehensive (loss) income |         |      | (1,017            | ) |        |        | 10,649 |   |         |       | 7,682   |   |         |        | 19,138 | 
|                                   |                                                                                                                                                                                                                                                           |                                   |         |      |                   |   |        |        |        |   |         |      
|                                   |                                                                                                                                                                                                                                                           | Comprehensive (loss) income       |         | $    | (78,072           | ) |        | $      | 8,701  |   |         | $     | (69,251 | ) |         | $      | 1,861  | 
|                                   |                                                                                                                                                                                                                                                           |                                   |         |      |                   |   |        |        |        |   |         |      

The accompanying notes are an integral part of
the condensed consolidated financial statements.

5



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES






CONDENSED CONSOLIDATED STATEMENTS OF CASH
FLOWS


(UNAUDITED)


|                                     |                                                                                               |                                                    |                                                         |         |          |         |   |         |         |         |  
|------------------------------------ | --------------------------------------------------------------------------------------------- | -------------------------------------------------- | ------------------------------------------------------- | ------- | -------- | ------- | - | ------- | ------- | ------- | -
|                                     |                                                                                               |                                                   
|                                     |                                                                                               | Nine Months Ended                                  |                                                        
|                                     |                                                                                               | September 30,                                      |                                                        
|                                     |                                                                                               |                                                    |                                                        
|                                     |                                                                                               | 2003                                               |                                                         |         | 2002     |        
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|                                     |                                                                                               |                                                   
|                                     |                                                                                               | (In thousands)                                     |                                                        
|Cash flows from operating activities |                                                                                               |                                                    |                                                         |         |          |         |   |        
|                                     | Net loss                                                                                      |                                                    | $                                                       | (76,933 | )        |         | $ | (17,277 | )      
|                                     | Adjustments to reconcile net loss to net cash
    (used in) provided by operating activities: |                                                    |                                                         |         |          |         |   |         |        
|                                     |                                                                                               | Depreciation and amortization                      |                                                         |         | 4,790    |         |   |         | 3,011   |        
|                                     |                                                                                               | Net realized (gains) losses                        |                                                         |         | (1,291   | )       |   |         | 678     |        
|                                     |                                                                                               | Change in fair value of derivatives instruments    |                                                         |         | (465     | )       |   |         |        |        
|                                     |                                                                                               | Change in deferred federal income taxes            |                                                         |         | 38,285   |         |   |         | (5,085  | )      
|                                     |                                                                                               | Loss on equity method investees                    |                                                         |         | 272      |         |   |         |        |        
|                                     |                                                                                               | Goodwill impairment                                |                                                         |         |         |         |   |         | 13,968  |        
|                                     |                                                                                               | Change in unpaid loss and loss adjustment expenses |                                                         |         | 40,642   |         |   |         | 31,240  |        
|                                     |                                                                                               | Change in unearned premiums                        |                                                         |         | 10,161   |         |   |         | 19,454  |        
|                                     |                                                                                               | Changes in other assets and liabilities            |                                                         |         | (24,403  | )       |   |         | (8,759  | )      
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|                                     |                                                                                               |                                                    | Net cash (used in) provided by operating
    activities |         |          | (8,942  | ) |         |         | 37,230  |  
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|Cash flows from investing activities |                                                                                               |                                                    |                                                         |         |          |         |   |        
|                                     | Purchases                                                                                     |                                                    |                                                         |         |          |         |   |         |        
|                                     |                                                                                               | Available-for-sale  fixed maturities              |                                                         |         | (162,689 | )       |   |         | (84,973 | )      
|                                     |                                                                                               | Available-for-sale  equity securities             |                                                         |         | (10,561  | )       |   |         |        |        
|                                     |                                                                                               | Other invested assets                              |                                                         |         | (334     | )       |   |         | (224    | )      
|                                     |                                                                                               | Property and equipment                             |                                                         |         | (2,141   | )       |   |         | (1,195  | )      
|                                     | Sales and maturities                                                                          |                                                    |                                                         |         |          |         |   |         |        
|                                     |                                                                                               | Available-for-sale  fixed maturities              |                                                         |         | 100,488  |         |   |         | 37,719  |        
|                                     |                                                                                               | Available-for-sale  equity securities             |                                                         |         | 2,153    |         |   |         |        |        
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|                                     |                                                                                               |                                                    | Net cash used in investing
    activities               |         |          | (73,084 | ) |         |         | (48,673 | )
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|Cash flows from financing activities |                                                                                               |                                                    |                                                         |         |          |         |   |        
|                                     | Common stock repurchased                                                                      |                                                    |                                                         | (7,068  | )        |         |   | (27,483 | )      
|                                     | Principal payment on note payable                                                             |                                                    |                                                         | (1,000  | )        |         |   | (1,000  | )      
|                                     | Proceeds from issuance of long-term debt                                                      |                                                    |                                                         | 30,928  |          |         |   |        |        
|                                     | Proceeds from stock options exercised                                                         |                                                    |                                                         | 136     |          |         |   | 230     |        
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|                                     |                                                                                               |                                                    | Net cash provided by (used in) financing
    activities |         |          | 22,996  |   |         |         | (28,253 | )
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|                                     |                                                                                               |                                                    | Net decrease in cash and cash
    equivalents           |         |          | (59,030 | ) |         |         | (39,696 | )
|                                     |                                                                                               |                                                    | Cash and cash equivalents, beginning of
    period      |         |          | 151,825 |   |         |         | 106,444 |  
|                                     |                                                                                               |                                                    |                                                         |         |          |        
|                                     |                                                                                               |                                                    | Cash and cash equivalents, end of
    period            |         | $        | 92,795  |   |         | $       | 66,748  |  
|                                     |                                                                                               |                                                    |                                                         |         |          |        

The accompanying notes are an integral part of
the condensed consolidated financial statements.

6



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##### Table of Contents








AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)

1.     Basis of
Presentation

The accompanying Unaudited Condensed Consolidated
Financial Statements include the accounts of American Physicians
Capital, Inc. (APCapital) and its wholly owned
subsidiaries, together referred to in this report as the
Company. All significant intercompany accounts and
transactions are eliminated in consolidation.

The Company is principally engaged in the
business of providing medical professional liability and
workers compensation insurance throughout the United
States with a concentration of writings in the Midwest.

The accompanying Unaudited Condensed Consolidated
Financial Statements of the Company have been prepared in
conformity with accounting principles generally accepted in the
United States of America (GAAP) and with the
instructions for Form 10-Q and Rule 10-01 of
Regulation S-X as they apply to interim financial
information. Accordingly, they do not include all of the
information and footnotes required by GAAP for complete
financial statements.

In the opinion of management, all adjustments
(consisting of normal recurring adjustments) considered
necessary for a fair presentation have been included. The
operating results for the three-month and nine-month periods
ended September 30, 2003 are not necessarily indicative of
the results to be expected for the year ending December 31,
2003. The accompanying Unaudited Condensed Consolidated
Financial Statements should be read with the annual consolidated
financial statements and notes contained in the Companys
Annual Report on Form 10-K for the year ended
December 31, 2002.

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

The most significant estimates that are
susceptible to significant change in the near-term relate to the
determination of the loss and loss adjustment expense reserves,
investments, taxes, reinsurance, the reserve for extended
reporting period claims. Although considerable variability is
inherent in these estimates, management believes that the
current estimates are reasonable in all material respects. The
estimates are reviewed regularly and adjusted as necessary. Such
adjustments are reflected in current operations.

Certain 2002 amounts have been reclassified to
conform with the 2003 presentation.

Stock-based Compensation

The Company uses the intrinsic value-based method
to account for all stock-based employee compensation plans and
has adopted the disclosure alternative of Statement of Financial
Accounting Standard (SFAS) No. 123
Accounting for Stock-Based Compensation, as amended
by SFAS No. 148, Accounting for Stock-Based
Compensation  Transition and Disclosure. In
accordance with SFAS No. 123, as amended by SFAS
No. 148, the Company is required to disclose the pro forma
effects on operating results as if the Company had elected the
fair value approach to account for its stock-based employee
compensation plans.

7



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

If compensation had been determined based on the
fair value at the grant date, consistent with the provisions of
SFAS No. 123, our net loss and net loss per share would
have been as follows for the three months and nine months ended
September 30, 2003 and 2002:

|                                                                                                                                                                       |             |                                       |         |       |                   |   |        |       |   |   |         |       |   |   |         |       |  
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------- | ------------------------------------- | ------- | ----- | ----------------- | - | ------ | ----- | - | - | ------- | ----- | - | - | ------- | ----- | -
|                                                                                                                                                                       |             |                                       |         |      
|                                                                                                                                                                       |             | Three Months Ended                    |         |       | Nine Months Ended |  
|                                                                                                                                                                       |             | September 30,                         |         |       | September 30,     |  
|                                                                                                                                                                       |             |                                       |         |       |                   |  
|                                                                                                                                                                       |             | 2003                                  |         |       | 2002              |   |        | 2003  |   |   | 2002    |      
|                                                                                                                                                                       |             |                                       |         |       |                   |   |        |       |   |   |         |      
|                                                                                                                                                                       |             |                                      
|                                                                                                                                                                       |             | (In thousands, except per share data) |        
|Net loss, as reported                                                                                                                                                  |             | $                                     | (77,055 | )     |                   | $ | (1,948 | )     |   | $ | (76,933 | )     |   | $ | (17,277 | )    
|Add: Stock-based employee compensation expense
    included in reported net loss, net of related tax effects                                                           |             |                                       | 75      |       |                   |   | 75     |       |   |   | 225     |       |   |   | 227     |      
|Deduct: Total stock-based employee compensation
    expense determined under fair value based method for all awards
    granted since 2000, net of related tax effects |             |                                       | (349    | )     |                   |   | (537   | )     |   |   | (1,040  | )     |   |   | (1,729  | )    
|                                                                                                                                                                       |             |                                       |         |       |                   |   |        |       |   |   |         |      
|Pro forma net loss                                                                                                                                                     |             | $                                     | (77,329 | )     |                   | $ | (2,410 | )     |   | $ | (77,748 | )     |   | $ | (18,779 | )    
|                                                                                                                                                                       |             |                                       |         |       |                   |   |        |       |   |   |         |      
|Basic net loss per share                                                                                                                                               |             |                                       |         |       |                   |   |        |       |   |   |         |       |   |   |         |      
|                                                                                                                                                                       | As reported |                                       | $       | (9.03 | )                 |   | $      | (0.21 | ) |   | $       | (8.97 | ) |   | $       | (1.80 | )
|                                                                                                                                                                       | Pro forma   |                                       | $       | (9.06 | )                 |   | $      | (0.27 | ) |   | $       | (9.07 | ) |   | $       | (1.96 | )
|Diluted net loss per share(1)                                                                                                                                          |             |                                       |         |       |                   |   |        |       |   |   |         |       |   |   |         |      
|                                                                                                                                                                       | As reported |                                       | $       | (9.03 | )                 |   | $      | (0.21 | ) |   | $       | (8.97 | ) |   | $       | (1.80 | )
|                                                                                                                                                                       | Pro forma   |                                       | $       | (9.06 | )                 |   | $      | (0.27 | ) |   | $       | (9.07 | ) |   | $       | (1.96 | )



---

|    |                                                                                                                                                                                                                              
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | As the Company was in a net loss position for the
    three months and nine months ended September 30, 2003 and
    2002, no effect of options or other stock awards was calculated
    as the impact would be anti-dilutive.

Such pro forma disclosures may not be
representative of future compensation costs as options may vest
over several years and additional grants may be made.

There were no options granted during the three
months ended September 30, 2003. During the nine months
ended September 30, 2003, there were 5,000 options
granted.

Derivative Financial Instruments

During the second quarter of 2003, the Company
purchased interest-only certificates that may not allow for the
recovery of substantially all of its investment. These
certificates pay a variable rate of interest that is inversely
related to the London Interbank Offered Rate
(LIBOR). The Company has determined that these
certificates contain an embedded derivative instrument as
defined by SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities.

All interest-only certificates with an inverse
floating rate of interest are carried on the balance sheet at
fair value as a fixed maturity security. These certificates are
not linked to specific assets or liabilities on the balance
sheet or to a forecasted transaction and, therefore, do not
qualify for hedge accounting. In addition, the Company does not
feel that it can reliably identify and separately measure the
embedded derivative instrument. Any changes in the fair value of
the entire interest-only certificates, based on quoted market
prices, are recorded in current period earnings as investment
income.

At September 30, 2003 the Company had such
certificates with a fair value of approximately
$7.9 million. The fair value of these certificates
increased approximately $65,000 and $465,000 during the three
months and nine months ended September 30, 2003.

8



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

The Company uses these certificates as a part of
its overall interest rate risk-management strategy related to
its investment portfolio.

2.     Effects of New
Accounting Pronouncements

In November 2002, the Financial Accounting
Standards Board (FASB) issued FASB Interpretation
No. 45. Guarantors Accounting and Disclosure
Requirements for Guarantees of Indebtedness of Others
(FIN No. 45). This interpretation clarifies
disclosures required to be made by a guarantor in its interim
and annual financial statements and requires a guarantor to
recognize, at the inception of the guarantee, a liability for
the fair value of the obligation undertaken in issuing the
guarantee. The provisions of FIN No. 45 pertaining to the
recording of a liability are effective for all guarantees
entered into, or modified, after December 31, 2002. The
disclosure requirements of FIN No. 45 are effective for
financial statements of interim or annual periods ending after
December 31, 2002. APCapital has issued guarantees in
connection with its establishment of trusts and issuance of
debentures. The amounts due under the guarantees are also
recorded as liabilities in the Companys Unaudited
Condensed Consolidated Financial Statements in accordance with
the structure of the transaction. See Note 7 of the Notes to the
Unaudited Condensed Consolidated Financial Statements for
further details on the nature of the guarantees and the
transactions that gave rise to the guarantees.

In January 2003, the FASB issued FASB
Interpretation No. 46, Consolidation of Variable
Interest Entities (FIN No. 46). This
interpretation addresses consolidation by business enterprises
of variable interest entities and is effective immediately for
all variable interest entities created after January 31,
2003 and for the fiscal year or interim period beginning after
June 15, 2003 for all variable interest entities in which
the Company holds a variable interest that it acquired before
February 1, 2003. The Company has evaluated certain
investments, as required by FIN No. 46, and has determined
that its investments in statutory trusts used to issue
mandatorily redeemable trust preferred securities should not be
consolidated. Accordingly, the Company has not consolidated the
trusts in the accompanying Unaudited Condensed Consolidated
Financial Statements.

3.     Loss Per
Share

Net loss per common share is computed by dividing
net loss by the weighted average number of shares of common
stock and common stock equivalents (e.g., stock options and
stock awards) outstanding, calculated on a daily basis. Basic
weighted average shares outstanding for the three months and
nine months ended September 30, 2003 were 8,533,929 and
8,575,742, respectively, and 9,061,300 and 9,597,521,
respectively, for the three months and nine months ended
September 30, 2002. As the Company was in a net loss
position for the three months and nine months ended
September 30, 2003 and 2002, no effect of options or other
stock awards was calculated as the impact would have been
anti-dilutive.

9



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

The following table sets forth the computation of
basic and diluted loss before cumulative effect of a change in
accounting principle per common share:

|                                                           |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |         |   |  |   |        |  
|---------------------------------------------------------- | ------------------------------------------------------------------------------------------------ | ------------------------------------- | - | ------- | ----------------- |  | - | ------ | - |  | ---- | ------- | - |  | - | ------ | -
|                                                           |                                                                                                  |                                       |   |        
|                                                           |                                                                                                  | Three Months Ended                    |   |         | Nine Months Ended | 
|                                                           |                                                                                                  | September 30,                         |   |         | September 30,     | 
|                                                           |                                                                                                  |                                       |   |         |                   | 
|                                                           |                                                                                                  | 2003                                  |   |         | 2002              |  |   | 2003   |   |  | 2002 |        
|                                                           |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |        
|                                                           |                                                                                                  |                                      
|                                                           |                                                                                                  | (In thousands, except per share data) |  
|Numerator for basic and diluted loss per
    common share: |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |         |   |  |   |       
|                                                           | Loss before cumulative effect of a change in
    accounting principle                            |                                       | $ | (77,055 | )                 |  | $ | (1,948 | ) |  | $    | (76,933 | ) |  | $ | (8,198 | )
|                                                           |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |        
|Denominator:                                               |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |         |   |  |   |       
|                                                           | Denominator for basic loss per common
    share  weighted average shares outstanding            |                                       |   | 8,534   |                   |  |   | 9,061  |   |  |      | 8,576   |   |  |   | 9,598  |  
|                                                           | Effect of dilutive stock options and awards(1)                                                   |                                       |   |        |                   |  |   |       |   |  |      |        |   |  |   |       |  
|                                                           |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |        
|                                                           | Denominator for diluted loss per common
    share  adjusted weighted average shares outstanding |                                       |   | 8,534   |                   |  |   | 9,061  |   |  |      | 8,576   |   |  |   | 9,598  |  
|                                                           |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |        
|Loss per share:                                            |                                                                                                  |                                       |   |         |                   |  |   |        |   |  |      |         |   |  |   |       
|                                                           | Loss before cumulative effect of a change in
    accounting principle                            |                                       |   |         |                   |  |   |        |   |  |      |         |   |  |   |        |  
|                                                           | Basic                                                                                            |                                       | $ | (9.03   | )                 |  | $ | (0.21  | ) |  | $    | (8.97   | ) |  | $ | (0.85  | )
|                                                           | Diluted(1)                                                                                       |                                       | $ | (9.03   | )                 |  | $ | (0.21  | ) |  | $    | (8.97   | ) |  | $ | (0.85  | )




|    |                                                                                                                                                                                                                              
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | As the Company was in a net loss position for the
    three months and nine months ended September 30, 2003 and
    2002, no effect of options or other stock awards was calculated
    as the impact would be anti-dilutive.

4.     Segment
Information

The Company is organized and operates principally
in the property and casualty insurance industry and has five
reportable segments  medical professional liability,
workers compensation, health, personal and commercial, and
corporate and other. The accounting policies of the segments are
described in the Notes to the Unaudited Condensed Consolidated
Financial Statements included in the Companys most recent
Annual Report on Form 10-K.

Expense allocations are based primarily on loss
and loss adjustment expenses by line of business and certain
other estimates for underwriting expenses. Investment income,
investment expense, amortization expense and interest expense
are allocated to the segments based on that segments
ownership percentage of the assets or liabilities
underlying the income or expense. General and administrative
expenses are all attributed to the holding company and are
included in corporate and other.

|              |                                |                |   |          |              |  |   |          |           | 
|------------- | ------------------------------ | -------------- | - | -------- | ------------ |  | - | -------- | --------- | 
|              |                                | September 30,  |   |          | December 31, | 
|              |                                | 2003           |   |          | 2002         | 
|              |                                |                |   |          |              | 
|              |                                |               
|              |                                | (In thousands) |  
|Total assets: |                                |                |   |          |              |  |   |         
|              | Medical professional liability |                | $ | 884,45   |              |  | $ | 859,804  |          
|              | Workers compensation          |                |   | 135,709  |              |  |   | 153,612  |          
|              | Health                         |                |   | 14,523   |              |  |   | 19,003   |          
|              | Personal and commercial        |                |   | 4,486    |              |  |   | 4,089    |          
|              | Corporate and other            |                |   | 247,509  |              |  |   | 284,075  |          
|              | Intersegment eliminations      |                |   | (217,311 | )            |  |   | (261,665 | )        
|              |                                |                |   |          |              | 
|              |                                | Total          |   | $        | 1,069,375    |  |   | $        | 1,058,918 | 
|              |                                |                |   |          |              | 

10



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

|               |                                |                    |   |        |                   |  |   |        |        |  |      |         |         |  |   |         |         | 
|-------------- | ------------------------------ | ------------------ | - | ------ | ----------------- |  | - | ------ | ------ |  | ---- | ------- | ------- |  | - | ------- | ------- | 
|               |                                |                    |   |       
|               |                                | Three Months Ended |   |        | Nine Months Ended | 
|               |                                | September 30,      |   |        | September 30,     | 
|               |                                |                    |   |        |                   | 
|               |                                | 2003               |   |        | 2002              |  |   | 2003   |        |  | 2002 |        
|               |                                |                    |   |        |                   |  |   |        |        |  |      |        
|               |                                |                   
|               |                                | (In thousands)     |  
|Total revenue: |                                |                    |   |        |                   |  |   |        |        |  |      |         |         |  |   |        
|               | Medical professional liability |                    | $ | 50,939 |                   |  | $ | 49,387 |        |  | $    | 147,343 |         |  | $ | 135,810 |        
|               | Workers compensation          |                    |   | 11,713 |                   |  |   | 17,768 |        |  |      | 38,109  |         |  |   | 52,296  |        
|               | Health                         |                    |   | 5,431  |                   |  |   | 5,690  |        |  |      | 17,780  |         |  |   | 17,362  |        
|               | Personal and commercial        |                    |   | 34     |                   |  |   | (21    | )      |  |      | (185    | )       |  |   | (946    | )      
|               | Corporate and other            |                    |   | 314    |                   |  |   | 295    |        |  |      | 929     |         |  |   | 1,076   |        
|               | Intersegment eliminations      |                    |   | (139   | )                 |  |   | (143   | )      |  |      | (438    | )       |  |   | (412    | )      
|               |                                |                    |   |        |                   |  |   |        |        |  |      |        
|               |                                | Total              |   | $      | 68,292            |  |   | $      | 72,976 |  |      | $       | 203,538 |  |   | $       | 205,186 | 
|               |                                |                    |   |        |                   |  |   |        |        |  |      |        

|                                                                                                         |                                |                    |   |         |                   |   |   |        |        |   |      |         |         |   |   |         |         |  
|-------------------------------------------------------------------------------------------------------- | ------------------------------ | ------------------ | - | ------- | ----------------- | - | - | ------ | ------ | - | ---- | ------- | ------- | - | - | ------- | ------- | -
|                                                                                                         |                                |                    |   |        
|                                                                                                         |                                | Three Months Ended |   |         | Nine Months Ended |  
|                                                                                                         |                                | September 30,      |   |         | September 30,     |  
|                                                                                                         |                                |                    |   |         |                   |  
|                                                                                                         |                                | 2003               |   |         | 2002              |   |   | 2003   |        |   | 2002 |        
|                                                                                                         |                                |                    |   |         |                   |   |   |        |        |   |      |        
|                                                                                                         |                                |                   
|                                                                                                         |                                | (In thousands)     |  
|Income (loss) before federal income taxes and
    cumulative effect of a change in accounting principle: |                                |                    |   |         |                   |   |   |        |        |   |      |         |         |   |   |        
|                                                                                                         | Medical professional liability |                    | $ | (41,591 | )                 |   | $ | (4,711 | )      |   | $    | (39,933 | )       |   | $ | (13,294 | )      
|                                                                                                         | Workers compensation          |                    |   | 160     |                   |   |   | 2,816  |        |   |      | 1,395   |         |   |   | 4,951   |        
|                                                                                                         | Health                         |                    |   | 361     |                   |   |   | (482   | )      |   |      | (149    | )       |   |   | (2,029  | )      
|                                                                                                         | Personal and commercial        |                    |   | (371    | )                 |   |   | (395   | )      |   |      | (1,381  | )       |   |   | (1,648  | )      
|                                                                                                         | Corporate and other            |                    |   | (993    | )                 |   |   | (224   | )      |   |      | (2,178  | )       |   |   | (599    | )      
|                                                                                                         |                                |                    |   |         |                   |   |   |        |        |   |      |        
|                                                                                                         |                                | Total              |   | $       | (42,434           | ) |   | $      | (2,996 | ) |      | $       | (42,246 | ) |   | $       | (12,619 | )
|                                                                                                         |                                |                    |   |         |                   |   |   |        |        |   |      |        

In September 2003, management formally adopted a
plan to exit the health insurance line of business. The day to
day aspects of the Companys health insurance business are
administered by a third party administrator (TPA).
The contract between the TPA and the Company requires the
Company to provide a 180 day notice to the TPA of its
intent to terminate the agreement. The Company plans to give
notice of this termination effective December 31, 2003. The
Company will continue to renew policies during this 180-day
period, after which, the Company will not issue any additional
health insurance policies.

Subsequent to the end of the third quarter the
Company has entered into a non-binding letter of intent for the
sale of its workers compensation policy renewals. The sale
would provide the Company with a 2.5% fee for all premiums
renewed over the next three years. The Company would continue to
write business in Michigan and Minnesota under a 100%
reinsurance arrangement with the purchaser. This fronting
arrangement would continue for approximately one year, or until
the purchaser is licensed in those states. The Company would be
paid a fronting fee of 5.0% under this arrangement.

The Company has also begun the process of
negotiating a loss portfolio transfer for its existing workers
compensation reserves for unpaid loss and loss adjustment
expenses. As of September 30, 2003, workers
compensation reserves for unpaid losses and loss adjustment
expenses totaled $68.3 million, $62.4 million net of
reinsurance.

During the fourth quarter of 2003, the Company
will finalize the terms of this transaction.

5.     Goodwill

Effective January 1, 2002, the Company
adopted Statement of Financial Accounting Standard
(SFAS) No. 142, Goodwill and Other
Intangible Assets. At that date, the only goodwill or other

11



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

intangible asset recorded by the Company was the
$13.9 million associated with the purchase of
Stratton-Cheeseman Management Company in 1999. Based on the
results of the impairment testing, the recorded net goodwill of
$13.9 million was written off as the fair value of the
Companys reporting units did not support the carrying
value of previously recorded goodwill. For purposes of the
impairment testing, fair value was estimated using various
methods, including multiples of projected net income and market
capitalization. The goodwill impairment was recorded as a
cumulative effect of a change in accounting principle, net of a
deferred income tax benefit of $4.9 million. In accordance
with the transition guidance given in SFAS No. 142, the
goodwill impairment charge, net of tax, that was determined in
the fourth quarter of 2002 was recorded in the first quarter of
2002.

6.     Unpaid Losses
and Loss Adjustment Expenses

Activity in unpaid loss and loss adjustment
expenses for the nine months ended September 30, 2003
and 2002 was as follows:

|                               |                                |                     |         |         |         |   |         |         |         | 
|------------------------------ | ------------------------------ | ------------------- | ------- | ------- | ------- | - | ------- | ------- | ------- | 
|                               |                                |                    
|                               |                                | For the Nine Months |        
|                               |                                | Ended September 30, |        
|                               |                                |                     |        
|                               |                                | 2003                |         |         | 2002    |  
|                               |                                |                     |         |         |         |  
|                               |                                |                    
|                               |                                | (In thousands)      |        
|Balance, January 1             |                                | $                   | 637,494 |         |         | $ | 597,046 |        
|                               | Less, reinsurance recoverables |                     |         | (90,673 | )       |   |         | (91,491 | )      
|                               |                                |                     |         |         |         |  
|Net balance, beginning of year |                                |                     | 546,821 |         |         |   | 505,555 |        
|Incurred related to            |                                |                     |         |         |         |   |         |        
|                               | Current year                   |                     |         | 160,420 |         |   |         | 175,831 |        
|                               | Prior years                    |                     |         | 43,313  |         |   |         | 2,630   |        
|                               |                                |                     |         |         |         |  
|                               |                                | Total incurred      |         |         | 203,733 |   |         |         | 178,461 | 
|                               |                                |                     |         |         |         |  
|Paid related to                |                                |                     |         |         |         |   |         |        
|                               | Current year                   |                     |         | 21,687  |         |   |         | 25,786  |        
|                               | Prior years                    |                     |         | 148,197 |         |   |         | 120,969 |        
|                               |                                |                     |         |         |         |  
|                               |                                | Total paid          |         |         | 169,884 |   |         |         | 146,755 | 
|                               |                                |                     |         |         |         |  
|Net balance, September 30      |                                |                     | 580,670 |         |         |   | 537,261 |        
|                               | Plus, reinsurance recoverables |                     |         | 97,466  |         |   |         | 91,025  |        
|                               |                                |                     |         |         |         |  
|Balance, September 30          |                                | $                   | 678,136 |         |         | $ | 628,286 |        
|                               |                                |                     |         |         |         |  

During the nine months ended September 30,
2003 and 2002, management made adjustments to prior years
reserves for unpaid loss and loss adjustment expenses,
specifically, accident years 1999 through 2002. The unfavorable
development totaled $43.3 million in 2003 and
$2.6 million in 2002. As a percentage of net reserves as of
the beginning of the year, these adjustments represented 7.9%
and 0.5% in 2003 and 2002, respectively.

Unfavorable development of $43 million was
recorded in the third quarter of 2003 on the Companys
medical professional liability segment. This development was the
result of increased severities in paid claims in the third
quarter of 2003, which indicated a much higher trend in claims
severity. As a result, actuarial projections calculated higher
ultimate severities of loss on currently existing claims related
to the 1999 to 2002 accident years. Due to the higher ultimate
estimated severity and corresponding higher ultimate loss,
management increased its estimate of incurred but not reported
claims related to the 1999 through 2002 accident years.

The unfavorable development in the third quarter
of 2003 was primarily related to the Companys Florida
($16 million), Ohio ($16.4 million) and Kentucky
($15 million) markets, partially offset by positive

12



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

development in the Michigan market. The Company
announced its exit of the Florida market in 2002 and
discontinued writing occurrence policies in Ohio in early 2002.
Primarily due to the elimination of poor risks in Kentucky, the
Companys insured physician count in that state has
decreased approximately 10% from December 31, 2002.

Management believes that the estimate of the
ultimate liability for losses and loss adjustment expenses at
September 30, 2003 is reasonable and reflective of
anticipated ultimate experience. However, it is possible that
the Companys actual incurred loss and loss adjustment
expenses will not conform to the assumptions inherent in the
determination of the liability. Accordingly, it is reasonably
possible that the ultimate settlement of losses and the related
loss adjustment expenses may vary significantly from the
estimated amounts included in the accompanying Unaudited
Condensed Consolidated Financial Statements.

7.     Long Term
Debt

In May 2003, the Company formed American
Physicians Capital Statutory Trust I and APCapital
Trust II (the Trusts) by contributing equity of
$464,000 to each trust. The trusts were formed for the purpose
of issuing mandatorily redeemable trust preferred securities
(TPS). Each trust issued $15 million of TPS to
another trust formed by an institutional investor. The trusts
received a total of $29.1 million in net proceeds, after
the deduction of a total of approximately $906,000 of
commissions paid to the placement agents in the transactions.
These commissions were ultimately paid by APCapital, and have
been capitalized and are included in other assets on the
accompanying Unaudited Condensed Consolidated Balance Sheet.
Issuance costs will be amortized over five years as a component
of amortization expense. The TPS issued by the trusts have
financial terms similar to the floating rate junior subordinated
deferrable interest debentures (the Debentures)
issued by APCapital.

The gross proceeds from the trust issuances, and
the cash from the equity contribution, were used by the trusts
to purchase Debentures issued by APCapital. In accordance with
FIN No. 46, these trusts are not consolidated in the
Companys Unaudited Condensed Consolidated Financial
Statements. See Note 2 for further discussion regarding the
impact of FIN No. 46.

The Debentures issued by APCapital mature in
30 years and bear interest at an annual rate equal to the
three-month LIBOR plus 4.10% for the first trust issuance, and
plus 4.20% for the second trust issuance, payable quarterly
beginning in August 2003. The interest rate is adjusted on a
quarterly basis provided that prior to May 2008, the interest
rate shall not exceed 12.50%. The weighted average interest
rates of 5.32% (Trust I issuance) and 5.42% (Trust II
issuance) resulted in interest expense of approximately $414,000
and $602,000 for the three months and nine months ended
September 30, 2003. At September 30, 2003, accrued
interest payable to the trusts was approximately $182,000. The
Debentures are callable by APCapital at par beginning in May
2008. APCapital has guaranteed that the payments made to the
Trusts will be distributed by the Trusts to the holders of the
TPS.

The Debentures are unsecured obligations of the
Company and are junior in the right of payment to all future
senior indebtedness of the Company. The Company estimates that
the fair value of the debentures approximates the gross proceeds
of cash received at the time of issuance.

13



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

8.     Income
Taxes

The provision for income taxes for the three
months and nine months ended September 30, 2003 and 2002
consists of:

|                                 |  |                    |         |   |                   |   |        |      |  |   |         |   |  |   |        |  
|-------------------------------- |  | ------------------ | ------- | - | ----------------- | - | ------ | ---- |  | - | ------- | - |  | - | ------ | -
|                                 |  |                    |         |  
|                                 |  | Three Months Ended |         |   | Nine Months Ended |  
|                                 |  | September 30,      |         |   | September 30,     |  
|                                 |  |                    |         |   |                   |  
|                                 |  | 2003               |         |   | 2002              |   |        | 2003 |  |   | 2002    |  
|                                 |  |                    |         |   |                   |   |        |      |  |   |         |  
|                                 |  |                   
|                                 |  | (In thousands)     |        
|Current (benefit) expense        |  | $                  | (12,355 | ) |                   | $ | 3,145  |      |  | $ | (13,339 | ) |  | $ | (2,960 | )
|Deferred benefit                 |  |                    | (2,971  | ) |                   |   | (4,193 | )    |  |   | (1,921  | ) |  |   | (1,461 | )
|Deferred tax valuation allowance |  |                    | 49,947  |   |                   |   |       |      |  |   | 49,947  |   |  |   |       |  
|                                 |  |                    |         |   |                   |   |        |      |  |   |         |  
|                                 |  | $                  | 34,621  |   |                   | $ | (1,048 | )    |  | $ | 34,687  |   |  | $ | (4,421 | )
|                                 |  |                    |         |   |                   |   |        |      |  |   |         |  

Income taxes incurred do not bear the usual
relationship to income before income taxes for the three-month
and nine-month periods ended September 30, 2003 and 2002
due to the following:

|                         |                                  |                    |         |        |                   |  |        |         |  |   |        |      |   |  |       |       |  |   |         |        |   |  |        |         |  |   |         |      |   |  |       |       | 
|------------------------ | -------------------------------- | ------------------ | ------- | ------ | ----------------- |  | ------ | ------- |  | - | ------ | ---- | - |  | ----- | ----- |  | - | ------- | ------ | - |  | ------ | ------- |  | - | ------- | ---- | - |  | ----- | ----- | 
|                         |                                  |                    |         |       
|                         |                                  | Three Months Ended |         |        | Nine Months Ended | 
|                         |                                  | September 30,      |         |        | September 30,     | 
|                         |                                  |                    |         |        |                   | 
|                         |                                  |                    |         |        |                   |  |        |        
|                         |                                  | 2003               |         |        | 2002              |  |        | 2003    |  |   | 2002   |     
|                         |                                  |                    |         |        |                   |  |        |         |  |   |        |     
|                         |                                  |                    |         |        |                   |  |        |         |  |   |        |      |   | 
|                         |                                  |                   
|                         |                                  | (In thousands)     |        
|Loss before income taxes |                                  | $                  | (42,434 | )      |                   |  |        |         |  | $ | (2,996 | )    |   |  |       |       |  | $ | (42,246 | )      |   |  |        |         |  | $ | (12,619 | )    |   |  |       |      
|                         |                                  |                    |         |        |                   |  |        |         |  |   |        |      |   |  |       |       |  |   |         |        |   |  |        |        
|Tax at statutory rate    |                                  | $                  | (14,852 | )      |                   |  | 35.0%  |         |  | $ | (1,049 | )    |   |  | 35.0% |       |  | $ | (14,786 | )      |   |  | 35.0%  |         |  | $ | (4,417  | )    |   |  | 35.0% |      
|Tax effect of:           |                                  |                    |         |        |                   |  |        |         |  |   |        |      |   |  |       |       |  |   |         |        |   |  |        |         |  |   |         |      |   |  |       |      
|                         | Tax exempt interest              |                    |         | (124   | )                 |  |        | 0.3%    |  |   |        | (116 | ) |  |       | 3.9%  |  |   |         | (372   | ) |  |        | 0.9%    |  |   |         | (402 | ) |  |       | 3.2%  | 
|                         | Other items, net                 |                    |         | (350   | )                 |  |        | 0.8%    |  |   |        | 117  |   |  |       | -3.9% |  |   |         | (102   | ) |  |        | 0.2%    |  |   |         | 398  |   |  |       | -3.2% | 
|                         | Deferred tax valuation allowance |                    |         | 49,947 |                   |  |        | -117.7% |  |   |        |      |   |  |       | 0.0%  |  |   |         | 49,947 |   |  |        | -118.2% |  |   |         |     |   |  |       | 0.0%  | 
|                         |                                  |                    |         |        |                   |  |        |         |  |   |        |      |   |  |       |       |  |   |         |        |   |  |        |        
|                         |                                  | $                  | 34,621  |        |                   |  | -81.6% |         |  | $ | (1,048 | )    |   |  | 35.0% |       |  | $ | 34,687  |        |   |  | -82.1% |         |  | $ | (4,421  | )    |   |  | 35.0% |      
|                         |                                  |                    |         |        |                   |  |        |         |  |   |        |      |   |  |       |       |  |   |         |        |   |  |        |        

Deferred federal income tax assets and
liabilities are recognized for the estimated future tax
consequences attributable to the differences between financial
statement carrying amounts of existing assets and liabilities,
and their respective tax bases. The Company has reviewed its
deferred federal income tax assets for recoverability based on
the availability of future taxable income when the deductible
temporary differences are expected to reverse, and has
determined, based on its recent loss experience, that sufficient
taxable income may not exist in the periods of reversal.
Accordingly, the Company has recorded a deferred tax asset
valuation allowance for the entire net deferred tax asset. The
valuation allowance is recorded as federal income tax expense in
the accompanying Unaudited Condensed Consolidated Statements of
Income. Once the Company has re-established a pattern of
profitability, the deferred tax asset valuation allowance may be
reduced upon evaluation of the availability of future taxable
income.

14



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##### Table of Contents



AMERICAN PHYSICIANS CAPITAL, INC. AND
SUBSIDIARIES


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

At September 30, 2003 and December 31,
2002, the components of the net deferred tax asset were as
follows:

|                                      |                                     |                                                   |   |         |              |   |        |         |         |  
|------------------------------------- | ----------------------------------- | ------------------------------------------------- | - | ------- | ------------ | - | ------ | ------- | ------- | -
|                                      |                                     | September 30,                                     |   |         | December 31, |  
|                                      |                                     | 2003                                              |   |         | 2002         |  
|                                      |                                     |                                                   |   |         |              |  
|                                      |                                     |                                                  
|                                      |                                     | (In thousands)                                    |  
|Deferred tax assets arising from      |                                     |                                                   |   |         |              |   |        |        
|                                      | Losses and loss adjustment expenses |                                                   | $ | 29,672  |              |   | $      | 31,072  |        
|                                      | Net operating loss carryforwards    |                                                   |   | 17,083  |              |   |        | 3,326   |        
|                                      | Unearned and audit premiums         |                                                   |   | 8,191   |              |   |        | 8,140   |        
|                                      | Minimum tax credits                 |                                                   |   | 8,242   |              |   |        | 9,101   |        
|                                      | Realized losses on investments      |                                                   |   | 3,366   |              |   |        | 2,893   |        
|                                      | Goodwill                            |                                                   |   | 4,899   |              |   |        | 5,485   |        
|                                      | Other                               |                                                   |   | 2,663   |              |   |        | 1,846   |        
|                                      |                                     |                                                   |   |         |              |  
|                                      |                                     | Total deferred tax assets                         |   |         | 74,116       |   |        |         | 61,863  |  
|                                      |                                     |                                                   |   |         |              |  
|Deferred tax liabilities arising from |                                     |                                                   |   |         |              |   |        |        
|                                      | Deferred policy acquisition costs   |                                                   |   | (4,236  | )            |   |        | (3,807  | )      
|                                      | Unrealized gain on securities       |                                                   |   | (17,402 | )            |   |        | (13,266 | )      
|                                      | Other                               |                                                   |   | (2,531  | )            |   |        | (2,248  | )      
|                                      |                                     |                                                   |   |         |              |  
|                                      |                                     | Total deferred tax liabilities                    |   |         | (24,169      | ) |        |         | (19,321 | )
|                                      |                                     |                                                   |   |         |              |  
|                                      |                                     | Net deferred tax asset before valuation allowance |   |         | 49,947       |   |        |         | 42,542  |  
|                                      |                                     |                                                   |   |         |              |  
|                                      | Valuation allowance                 |                                                   |   | (49,947 | )            |   |        |        |        
|                                      |                                     |                                                   |   |         |              |  
|Net deferred tax asset                |                                     | $                                                 |  |         |              | $ | 42,542 |        
|                                      |                                     |                                                   |   |         |              |  

At September 30, 2003, the Company had
approximately $9.5 million of net operating loss
carryforwards that expire in 2012 and are limited to
approximately $910,000 annually, and approximately
$39.3 million of net operating loss carryforwards that
expire in 2018 and are not limited as to their annual use.
Additionally, the Company has $8.2 million of minimum tax
credits which can be carried forward indefinitely.

9.     Shareholders
Equity

On September 11, 2003, APCapitals
Board of Directors authorized the Company to purchase an
additional 500,000 shares of its outstanding common stock. This
brings the total number of shares authorized to be repurchased
under publicly announced plans to 3,615,439. During the quarter,
the Company purchased 251,300 shares at a cost of $7,068,000, or
an average price per share of $28.13, bringing the total number
of shares purchased pursuant to these authorizations to
3,175,570, at a total cost of $59,775,000, or an average price
per share of $18.82. The Companys repurchase of any of its
shares is subject to limitations that may be imposed by
applicable laws and regulations and the rules of the Nasdaq
Stock Market. The timing of the purchases and the number of
shares to be bought at any one time depend on market conditions
and the Companys capital requirements. As of
September 30, 2003, the Company has approximately 440,000
shares of its September 11, 2003 stock repurchase program
remaining to be purchased.

15



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##### Table of Contents



Item 2.     Managements
Discussion and Analysis of Financial Condition and Results of
Operations

The following discussion and analysis should be
read in conjunction with the Unaudited Condensed Consolidated
Financial Statements and the notes thereto included elsewhere in
this report and the Companys Annual Report on
Form 10-K for the year ended December 31, 2002. The
following discussion of our financial condition and results of
operations contains certain forward-looking statements related
to our anticipated future financial condition and operating
results and our current business plans. When we use words such
as believes, expects,
anticipates, estimates or similar
expressions, we are making forward-looking statements. These
forward-looking statements represent our outlook only as of the
date of this report. While we believe that any forward-looking
statements we have made are reasonable, actual results could
differ materially since these statements are based on our
current expectations and are subject to risks and uncertainties.
These risks and uncertainties are detailed from time to time in
reports filed by the Company with the Securities and Exchange
Commission (SEC). See, for example, the disclosures
in Item 1  Business 
Uncertainties Relating to Forward-Looking Statements of
the Companys Annual Report on Form 10-K for the year
ended December 31, 2002, and in other reports filed by the
Company with the SEC.

In addition to those factors previously detailed
and stated elsewhere in this report, the Company has identified
the following risks and uncertainties that could cause our
future actual results to differ materially from our current
expectations.



| |   |                                                                                                                                                                                                                                                                                  
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | A deterioration in the current accident year
    experience could result in a portion or all of our deferred
    policy acquisition costs not being recoverable, which would
    result in a charge to income.                                                                   
|
| |  | The continued adverse development related to the
    run-off of our personal and commercial business could result in
    additional unanticipated losses.                                                                                                                        
|
| |  | We may be unable to collect the full amount of
    reinsurance recoverable from Gerling Global, a significant
    reinsurer, if their cash flow or surplus levels are inadequate
    to make claim payments, which could result in a future charge to
    income.                
|
| |  | We may experience unforeseen costs in the fourth
    quarter of 2003 and in future periods, associated with our exit
    from the health insurance line of business and possible run-off
    of workers compensation claims, which could result in
    future charges to income.

Other factors not currently anticipated by
management may also materially and adversely affect the
Companys financial position and results of operations. The
Company does not undertake, and expressly disclaims any
obligation, to update or alter its forward-looking statements,
whether as a result of new information, future events or
otherwise, except as required by applicable law.

We operate primarily in three insurance product
segments: medical professional liability, workers
compensation, and health. Effective December 31, 2001, the
Company exited the personal and commercial lines of business.
The personal and commercial insurance operating segment will
continue to generate income (loss) due to the development
of unpaid loss and loss adjustment expenses associated with this
segment.

In September 2003, management formally adopted a
plan to exit the health insurance line of business.
Additionally, subsequent to the end of the third quarter of
2003, the Company has entered into a non-binding letter of
intent for the sale of its workers compensation policy
renewals.

See Note 4 of the Notes to Unaudited
Condensed Consolidated Financial Statements, contained elsewhere
in this report, for further information regarding the operating
results of our business segments.

Non GAAP and Other Financial
Measures

In the analysis of our operating results that
follows, we refer to various financial ratios and other measures
that management uses to analyze and compare the underwriting
results of our insurance operations. These ratios are calculated
on a GAAP basis and include:



| |   |                                                                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Loss
    ratio This ratio compares
    our losses and loss adjustment expenses incurred, net of
    reinsurance, to our net premiums earned, and indicates how much
    we expect to pay policyholders for claims and

16



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##### Table of Contents



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   | related settlement expenses compared to the
    amount of premiums we earn. The lower the percentage, the more
    profitable our insurance business is, all other things being
    equal.                                                                                                                                                                                                                                                                                                                                                            
|
| |  | Underwriting expense
    ratio This ratio compares
    our expenses to obtain new business and renew existing business,
    plus normal operating expenses, to our net premiums earned. The
    ratio is used to measure how efficient we are at obtaining
    business and operating the insurance segments. The lower the
    percentage, the more efficient we are, all else being equal.
    Sometimes, however, a higher underwriting expense ratio can
    result in better business and improve our loss ratio, and
    overall profitability.
|
| |  | Combined
    ratio This ratio equals
    the sum of our loss ratio and underwriting expense ratio. The
    lower the percentage, the more profitable our insurance business
    is. This ratio excludes the effects of investment income.                                                                                                                                                                                                                                                                                                            
|
| |  | Underwriting gain
    (loss) This measure equals
    the net premiums earned less loss and loss adjustment expenses
    as well as underwriting expenses. It is another measure of the
    underwriting performance of our various insurance segments.                                                                                                                                                                                                                                                                                               

In addition to our reported GAAP loss ratios, we
also report accident year loss ratios. The accident year loss
ratio is computed by taking total incurred loss and loss
adjustment expenses, less any development on prior year loss
reserves, divided by net premiums earned. We believe this ratio
is useful in evaluating our current underwriting performance, as
it focuses on the relationships between current premiums earned
and current losses. Considerable variability is inherent in the
establishment of loss reserves related to the current accident
year. While management believes that its estimate is reasonable,
there can be no assurance that these loss reserves will develop
as expected. Our method of calculating accident year loss ratios
may differ from those used by other companies and, therefore,
comparability may be limited.

17



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##### Table of Contents



Results of Operations  Three Months
and Nine Months Ended September 30, 2003, Compared to Three
Months and Nine Months Ended September 30, 2002

Medical
Professional Liability Insurance Operations

The following table sets forth the operating
results of our medical professional liability insurance segment
for the three-month and nine-month periods ended
September 30, 2003 and 2002.

|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |         |         |   |         |         |        |  |         |         |       | 
|------------------------------------------------------------------------------------------------------- | ---------------------------- | -------------------------------- | ------- | ---------- | ------------------------------- | - | ------- | ------ | ---------- | - | ------- | ------ | ------ | ---- | ------- | ------- | ----- | - | ------- | ------- | ------- | - | ------- | ------- | ------- | - | ------- | ------- | ------ |  | ------- | ------- | ----- | 
|                                                                                                        |                              |                                  |         |           
|                                                                                                        |                              | Three Months Ended September 30, |         |            | Nine Months Ended September 30, |  
|                                                                                                        |                              |                                  |         |            |                                 |  
|                                                                                                        |                              |                                  |         | Percentage |                                 |   |         |        | Percentage |  
|                                                                                                        |                              | 2003                             |         |            | 2002                            |   |         | Change |            |   | Change  |        |        | 2003 |         |         | 2002  |   |         | Change  |         |   | Change  |        
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|                                                                                                        |                              |                                 
|                                                                                                        |                              | (Dollars in thousands)           |        
|Direct premiums written:                                                                                |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |         |         |   |         |         |        |  |         |        
|                                                                                                        | Illinois                     |                                  | $       | 25,888     |                                 |   | $       | 15,180 |            |   | $       | 10,708 |        |      |         | 70.5%   |       |   | $       | 46,726  |         |   | $       | 29,207  |         |   | $       | 17,519  |        |  |         | 60.0%   |      
|                                                                                                        | Michigan                     |                                  |         | 20,764     |                                 |   |         | 18,852 |            |   |         | 1,912  |        |      |         | 10.1%   |       |   |         | 36,545  |         |   |         | 35,309  |         |   |         | 1,236   |        |  |         | 3.5%    |      
|                                                                                                        | Ohio                         |                                  |         | 13,000     |                                 |   |         | 11,502 |            |   |         | 1,498  |        |      |         | 13.0%   |       |   |         | 29,228  |         |   |         | 27,621  |         |   |         | 1,607   |        |  |         | 5.8%    |      
|                                                                                                        | Kentucky                     |                                  |         | 2,686      |                                 |   |         | 3,116  |            |   |         | (430   | )      |      |         | 13.8%   |       |   |         | 12,699  |         |   |         | 13,129  |         |   |         | (430    | )      |  |         | -3.3%   |      
|                                                                                                        | New Mexico                   |                                  |         | 5,132      |                                 |   |         | 4,330  |            |   |         | 802    |        |      |         | 18.5%   |       |   |         | 12,157  |         |   |         | 8,375   |         |   |         | 3,782   |        |  |         | 45.2%   |      
|                                                                                                        | Florida                      |                                  |         | 1,638      |                                 |   |         | 7,335  |            |   |         | (5,697 | )      |      |         | -77.7%  |       |   |         | 6,014   |         |   |         | 19,233  |         |   |         | (13,219 | )      |  |         | -68.7%  |      
|                                                                                                        | Nevada                       |                                  |         | 1,661      |                                 |   |         | 1,539  |            |   |         | 122    |        |      |         | 7.9%    |       |   |         | 4,079   |         |   |         | 3,553   |         |   |         | 526     |        |  |         | 14.8%   |      
|                                                                                                        | Other                        |                                  |         | 1,252      |                                 |   |         | 883    |            |   |         | 369    |        |      |         | 41.8%   |       |   |         | 3,245   |         |   |         | 2,285   |         |   |         | 960     |        |  |         | 42.0%   |      
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|                                                                                                        |                              | Total                            |         | $          | 72,021                          |   |         | $      | 62,737     |   |         | $      | 9,284  |      |         |         | 14.8% |   |         | $       | 150,693 |   |         | $       | 138,712 |   |         | $       | 11,981 |  |         |         | 8.6%  | 
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|Net premiums written                                                                                    |                              | $                                | 61,661  |            |                                 | $ | 54,842  |        |            | $ | 6,819   |        |        |      | 12.4%   |         |       | $ | 128,395 |         |         | $ | 120,412 |         |         | $ | 7,983   |         |        |  | 6.6%    |        
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|Net premiums earned                                                                                     |                              | $                                | 41,043  |            |                                 | $ | 40,089  |        |            | $ | 954     |        |        |      | 2.4%    |         |       | $ | 118,903 |         |         | $ | 108,064 |         |         | $ | 10,839  |         |        |  | 10.0%   |        
|Incurred loss and loss adjustment expenses:                                                             |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |         |         |   |         |         |        |  |         |        
|                                                                                                        | Current accident year losses |                                  |         | 40,823     |                                 |   |         | 44,656 |            |   |         | (3,833 | )      |      |         | -8.6%   |       |   |         | 118,242 |         |   |         | 122,451 |         |   |         | (4,209  | )      |  |         | -3.4%   |      
|                                                                                                        | Prior year losses            |                                  |         | 43,000     |                                 |   |         | 1,500  |            |   |         | 41,500 |        |      |         | 2766.7% |       |   |         | 44,250  |         |   |         | 4,000   |         |   |         | 40,250  |        |  |         | 1006.3% |      
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|                                                                                                        |                              | Total                            |         |            | 83,823                          |   |         |        | 46,156     |   |         |        | 37,667 |      |         |         | 81.6% |   |         |         | 162,492 |   |         |         | 126,451 |   |         |         | 36,041 |  |         |         | 28.5% | 
|Underwriting expenses                                                                                   |                              |                                  | 7,770   |            |                                 |   | 7,404   |        |            |   | 366     |        |        |      | 4.9%    |         |       |   | 22,662  |         |         |   | 20,471  |         |         |   | 2,191   |         |        |  | 10.7%   |        
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|Underwriting loss                                                                                       |                              | $                                | (50,550 | )          |                                 | $ | (13,471 | )      |            | $ | (37,079 | )      |        |      | 275.3%  |         |       | $ | (66,251 | )       |         | $ | (38,858 | )       |         | $ | (27,393 | )       |        |  | 70.5%   |        
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|Income (loss) before federal income taxes
    and cumulative effect of a change in accounting principle |                              | $                                | (41,595 | )          |                                 | $ | (4,711  | )      |            | $ | (36,884 | )      |        |      | -782.9% |         |       | $ | (39,937 | )       |         | $ | (13,294 | )       |         | $ | (26,643 | )       |        |  | -200.4% |        
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|Loss ratio:                                                                                             |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |         |         |   |         |         |        |  |         |        
|                                                                                                        | Accident year                |                                  |         | 99.5%      |                                 |   |         | 111.4% |            |   |         | -11.9% |        |      |         |         |       |   |         | 99.4%   |         |   |         | 113.3%  |         |   |         | -13.9%  |        |  |         |         |      
|                                                                                                        | Prior years                  |                                  |         | 104.7%     |                                 |   |         | 3.7%   |            |   |         | 101.0% |        |      |         |         |       |   |         | 37.3%   |         |   |         | 3.7%    |         |   |         | 33.6%   |        |  |         |         |      
|                                                                                                        |                              |                                  |         |            |                                 |   |         |        |            |   |         |        |        |      |         |         |       |   |         |         |         |   |         |        
|                                                                                                        | Calendar year                |                                  |         | 204.2%     |                                 |   |         | 115.1% |            |   |         | 89.1%  |        |      |         |         |       |   |         | 136.7%  |         |   |         | 117.0%  |         |   |         | 19.7%   |        |  |         |         |      
|Underwriting expense ratio                                                                              |                              |                                  | 18.9%   |            |                                 |   | 18.5%   |        |            |   | 0.4%    |        |        |      |         |         |       |   | 19.1%   |         |         |   | 18.9%   |         |         |   | 0.2%    |         |        |  |         |        
|Combined ratio                                                                                          |                              |                                  | 223.1%  |            |                                 |   | 133.6%  |        |            |   | 89.5%   |        |        |      |         |         |       |   | 155.8%  |         |         |   | 135.9%  |         |         |   | 19.9%   |         |        |  |         |        

Direct premiums written increased
$9.3 million, or 14.8%, to $72.0 million for the three
months ended September 30, 2003 compared to the three
months ended September 30, 2002. Direct premiums written
for the nine months ended September 30, 2003 increased
$12.0 million, or 8.6%, to $150.7 million compared to
the same period of 2002. These increases were primarily the
result of rate increases in all markets, especially Illinois,
Ohio and New Mexico. The increases were partially offset by a
decrease in the number of policies in-force primarily due to the
exit from our Florida market, the discontinuance of Ohio
occurrence-based policies and the elimination of poor risks in
other markets such as Kentucky.

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We believe that the current pricing environment
for medical professional liability insurance is favorable. We
expect medical professional liability direct premiums written to
increase moderately in the future as the Company is granted
additional rate increases by regulatory authorities. However,
this growth may be limited by the Companys ability to
allocate appropriate levels of statutory capital and surplus to
the medical professional liability segment. The Company is
continually seeking regulatory approval of additional rate
increases.

In the second quarter of 2002, the Company
announced its intention to discontinue writing medical
professional liability insurance in Florida. Medical
professional liability direct premiums written in the state of
Florida for the year ended December 31, 2002 were
$23.6 million, and the Company reported net loss and loss
adjustment expenses for that period of $35.2 million
relating to its Florida business. The Florida Department of
Insurance approved the Companys plan to exit this market
and in October 2002, the Company began mailing non-renewal
notices to medical professional liability policyholders whose
renewals would have been effective in December 2002. Florida law
requires the Company to offer extended reporting coverage for
previously insured periods, commonly referred to as tail
policies, at the time of non-renewal. Tail policies
typically have written premiums of approximately two times the
last annual policy premium. The Company expects that some
physicians will opt for this extended reporting coverage, which
will result in additional direct premiums written in 2003 and
net premiums earned in 2004.

In March 2003, the Company invested
$2.5 million, for a 49% ownership stake, in a new insurance
company, Physicians Insurance Company (PIC), managed
by the management of the Companys third-party
administrator who underwrites its Florida extended reporting
coverage. This new insurance company is seeking to write as many
of the tail policies as its capital and surplus levels will
permit, thereby limiting the Companys direct exposure to
future losses associated with underwriting Florida medical
professional liability extended reporting period coverages.
During the three months and nine months ended September 30,
2003, the Company, on a direct basis, wrote $1.6 million
and $6.0 million, respectively, in Florida. This compares
with budgeted writings of $4.8 million and $13.4 million,
respectively. The decrease in actual writings compared to budget
is in large part due to the greater than expected number of
policies being written by PIC. The Company lent $1 million
to the President of PIC to enable him to complete the
acquisition of the remaining 51% of outstanding shares of
PICs common stock. As of September 30, 2003, this
loan was entirely repaid.

In Ohio, the Company has experienced an increase
in the overall severity and frequency of large losses in the
Northeastern portion of the state. In response, early in 2002,
the Company reduced policy limits, discontinued writing
occurrence policies, and significantly restricted business
writing in this area. In Kentucky, the frequency and severity of
large losses has also increased. The Company has reduced policy
limits, discontinued occurrence based policies and reduced the
insured physician count, primarily through the non-renewal of
poor risks, in this state.

Net premiums earned for the three months ended
September 30, 2003 increased $954,000, or 2.4%, to
$41.0 million compared to $40.1 million for the three
months ended September 30, 2002. This increase was less
than the increase in direct premiums written as premiums written
during the quarter were largely unearned at September 30,
2003. Net premiums earned for the nine months ended
September 30, 2003 increased $10.8 million, or 10.0%,
compared to the same period of 2002. The increase in net
premiums earned for the nine months ended September 30,
2003 was greater than the increase in direct premiums written,
as premiums written in 2002 in Florida, continue to be earned in
2003.

The loss ratios for the three months and nine
months ended September 30, 2003 were 204.2% and 136.7%
compared to 115.1% and 117.0%, respectively, for the same
periods of 2002. These increases were the result of
$43 million of adverse development on prior year loss and
loss adjustment expense reserves in the third quarter of 2003.
This development occurred primarily in reserves for the accident
years 1999 through 2002, in the Companys Florida
($16.0 million), Ohio ($16.4 million) and Kentucky
($15.0 million) markets, partially offset by favorable
development in the Michigan market. This reserve increase was
primarily the result of an increase in the severity of paid
claims, which became apparent in the third quarter, and
indicated a much higher trend of ultimate average loss severity.
As a result of the higher projected ultimate average loss
severity,

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and corresponding higher ultimate projected
losses, management increased its estimate of incurred but not
reported claims related to the 1999 through 2002 accident years.


The loss ratio, on an accident year basis, was
99.5% for the three-month period and 99.4% for the nine-month
period ended September 30, 2003 compared to 111.4% and
113.3%, respectively, for the same periods of 2002. The
decreases in the accident year loss ratios were primarily the
result of rate increases taken in all markets.

Underwriting expenses for the three months and
nine months ended September 30, 2003 were $7.8 million
and $22.7 million, respectively, which represent increases
of $366,000 and $2.2 million, respectively, compared to the
same periods of 2002. The increases in underwriting expenses
were the result of commissions and premium taxes on higher
premium volumes. As a percentage of net premiums earned,
underwriting expenses were relatively unchanged in 2003 compared
to 2002.

Management has evaluated the Companys
deferred policy acquisition costs for recoverability and has
determined that, after consideration of future investment
income, all deferred policy acquisition costs carried on the
balance sheet as of September 30, 2003 are recoverable.
However, a deterioration in our projected accident year loss
ratios may result in these deferred costs not being recoverable,
which would result in additional underwriting expense in the
period the costs are charged off.

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##### Table of Contents



Workers Compensation Insurance
Operations

The following table sets forth the results of
operations of our workers compensation insurance segment
for the three-month and nine-month periods ended
September 30, 2003 and 2002.

|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |        |        |   |         |         |         |   |         |         |        | 
|------------------------------------------------------------------------------------------------ | ---------------------------- | -------------------------------- | ------ | ---------- | ------------------------------- | - | ------ | ------ | ---------- | - | ------ | ------ | ------ | ---- | ------- | ------- | ------ | - | ------ | ------ | ------ | - | ------ | ------ | ------ | - | ------- | ------- | ------- | - | ------- | ------- | ------ | 
|                                                                                                 |                              |                                  |        |           
|                                                                                                 |                              | Three Months Ended September 30, |        |            | Nine Months Ended September 30, |  
|                                                                                                 |                              |                                  |        |            |                                 |  
|                                                                                                 |                              |                                  |        | Percentage |                                 |   |        |        | Percentage |  
|                                                                                                 |                              | 2003                             |        |            | 2002                            |   |        | Change |            |   | Change |        |        | 2003 |         |         | 2002   |   |        | Change |        |   | Change |       
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|                                                                                                 |                              |                                 
|                                                                                                 |                              | (Dollars in thousands)           |       
|Direct premiums written:                                                                         |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |        |        |   |         |         |         |   |         |        
|                                                                                                 | Minnesota                    |                                  | $      | 3,758      |                                 |   | $      | 5,344  |            |   | $      | (1,586 | )      |      |         | -29.7%  |        |   | $      | 12,079 |        |   | $      | 25,483 |        |   | $       | (13,404 | )       |   |         | -52.6%  |       
|                                                                                                 | Michigan                     |                                  |        | 3,359      |                                 |   |        | 3,232  |            |   |        | 127    |        |      |         | 3.9%    |        |   |        | 8,515  |        |   |        | 9,663  |        |   |         | (1,148  | )       |   |         | -11.9%  |       
|                                                                                                 | Illinois                     |                                  |        | 2,955      |                                 |   |        | 3,326  |            |   |        | (371   | )      |      |         | -11.2%  |        |   |        | 6,387  |        |   |        | 7,869  |        |   |         | (1,482  | )       |   |         | -18.8%  |       
|                                                                                                 | Indiana                      |                                  |        | 1,591      |                                 |   |        | 2,376  |            |   |        | (785   | )      |      |         | -33.0%  |        |   |        | 3,765  |        |   |        | 5,748  |        |   |         | (1,983  | )       |   |         | -34.5%  |       
|                                                                                                 | Wisconsin                    |                                  |        | 631        |                                 |   |        | 60     |            |   |        | 571    |        |      |         | 951.7%  |        |   |        | 1,491  |        |   |        | 309    |        |   |         | 1,182   |         |   |         | 382.5%  |       
|                                                                                                 | Iowa                         |                                  |        | (1         | )                               |   |        | 151    |            |   |        | (152   | )      |      |         | -100.7% |        |   |        | 84     |        |   |        | 1,184  |        |   |         | (1,100  | )       |   |         | -92.9%  |       
|                                                                                                 | Kentucky                     |                                  |        | (2         | )                               |   |        | 624    |            |   |        | (626   | )      |      |         | -100.3% |        |   |        | (26    | )      |   |        | 3,762  |        |   |         | (3,788  | )       |   |         | -100.7% |       
|                                                                                                 | Other                        |                                  |        | 135        |                                 |   |        | 196    |            |   |        | (61    | )      |      |         | -31.1%  |        |   |        | 299    |        |   |        | 690    |        |   |         | (391    | )       |   |         | -56.7%  |       
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|                                                                                                 |                              | Total                            |        | $          | 12,426                          |   |        | $      | 15,309     |   |        | $      | (2,883 | )    |         |         | -18.8% |   |        | $      | 32,594 |   |        | $      | 54,708 |   |         | $       | (22,114 | ) |         |         | -40.4% | 
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|Net premiums written                                                                             |                              | $                                | 12,440 |            |                                 | $ | 14,603 |        |            | $ | (2,163 | )      |        |      | -14.8%  |         |        | $ | 33,788 |        |        | $ | 51,641 |        |        | $ | (17,853 | )       |         |   | -34.6%  |        
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|Net premiums earned                                                                              |                              | $                                | 10,275 |            |                                 | $ | 15,832 |        |            | $ | (5,557 | )      |        |      | -35.1%  |         |        | $ | 33,598 |        |        | $ | 46,636 |        |        | $ | (13,038 | )       |         |   | -28.0%  |        
|Incurred loss and loss adjustment expenses:                                                      |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |        |        |   |         |         |         |   |         |        
|                                                                                                 | Current accident year losses |                                  |        | 8,442      |                                 |   |        | 11,808 |            |   |        | (3,366 | )      |      |         | -28.5%  |        |   |        | 26,894 |        |   |        | 37,583 |        |   |         | (10,689 | )       |   |         | -28.4%  |       
|                                                                                                 | Prior year losses            |                                  |        |           |                                 |   |        | (500   | )          |   |        | 500    |        |      |         | -100.0% |        |   |        | (1,400 | )      |   |        | (2,000 | )      |   |         | 600     |         |   |         | -30.0%  |       
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|                                                                                                 |                              | Total                            |        |            | 8,442                           |   |        |        | 11,308     |   |        |        | (2,866 | )    |         |         | -25.3% |   |        |        | 25,494 |   |        |        | 35,583 |   |         |         | (10,089 | ) |         |         | -28.4% | 
|Underwriting expenses                                                                            |                              |                                  | 2,966  |            |                                 |   | 3,516  |        |            |   | (550   | )      |        |      | -15.6%  |         |        |   | 10,869 |        |        |   | 11,278 |        |        |   | (409    | )       |         |   | -3.6%   |        
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|Underwriting (loss) income                                                                       |                              | $                                | (1,133 | )          |                                 | $ | 1,008  |        |            | $ | (2,141 | )      |        |      | -212.4% |         |        | $ | (2,765 | )      |        | $ | (225   | )      |        | $ | (2,540  | )       |         |   | 1128.9% |        
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|Income before federal income taxes and cumulative
    effect of a change in accounting principle |                              | $                                | 160    |            |                                 | $ | 2,816  |        |            | $ | (2,656 | )      |        |      | -94.3%  |         |        | $ | 1,395  |        |        | $ | 4,951  |        |        | $ | (3,556  | )       |         |   | -71.8%  |        
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|Loss ratio:                                                                                      |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |        |        |   |         |         |         |   |         |        
|                                                                                                 | Accident year                |                                  |        | 82.2%      |                                 |   |        | 74.6%  |            |   |        | 7.6%   |        |      |         |         |        |   |        | 80.0%  |        |   |        | 80.6%  |        |   |         | -0.6%   |         |   |         |         |       
|                                                                                                 | Prior years                  |                                  |        | 0.0%       |                                 |   |        | -3.2%  |            |   |        | 3.2%   |        |      |         |         |        |   |        | -4.1%  |        |   |        | -4.3%  |        |   |         | 0.2%    |         |   |         |         |       
|                                                                                                 |                              |                                  |        |            |                                 |   |        |        |            |   |        |        |        |      |         |         |        |   |        |        |        |   |        |       
|                                                                                                 | Calendar year                |                                  |        | 82.2%      |                                 |   |        | 71.4%  |            |   |        | 10.8%  |        |      |         |         |        |   |        | 75.9%  |        |   |        | 76.3%  |        |   |         | -0.4%   |         |   |         |         |       
|Underwriting expense ratio                                                                       |                              |                                  | 28.9%  |            |                                 |   | 22.2%  |        |            |   | 6.7%   |        |        |      |         |         |        |   | 32.4%  |        |        |   | 24.2%  |        |        |   | 8.2%    |         |         |   |         |        
|Combined ratio                                                                                   |                              |                                  | 111.1% |            |                                 |   | 93.6%  |        |            |   | 17.5%  |        |        |      |         |         |        |   | 108.3% |        |        |   | 100.5% |        |        |   | 7.8%    |         |         |   |         |        

Beginning in June 2002, the Company filled
several executive and management positions with the intent to
improve the overall performance of this segment. Our plan was to
upgrade management expertise, re-underwrite and restructure the
book of business, and position this segment for growth. However,
during 2003, the workers compensation market has remained
very competitive and new business growth has not kept pace with
expectations. As a result, management has refocused its plan for
the workers compensation segment and there have been
several departures among the senior management team of this line.

As a result of our re-underwriting and
restructuring efforts in 2002 and 2003, direct premiums written
have decreased as the Company began to exit the Kentucky market,
and certain other higher-risk construction policies were
non-renewed in all markets. Direct premiums written decreased
$2.9 million, or 18.8%, for the three months ended
September 30, 2003 and $22.1 million, or 40.4%, for
the nine months ended September 30, 2003 compared to the
same periods of 2002.

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Subsequent to the end of the third quarter the
Company has entered into a non-binding letter of intent for the
sale of workers compensation policy renewals. The sale
would provide the Company with a 2.5% fee for all premiums
renewed over the next three years. The Company would continue to
write business in Michigan and Minnesota under a 100%
reinsurance arrangement with the purchaser. This fronting
arrangement would continue for approximately one year, or until
the purchaser is licensed in those states. The Company would be
paid a fronting fee of 5.0% under this arrangement.

The Company has also begun the process of
negotiating a loss portfolio transfer for its existing
workers compensation reserves for unpaid losses and loss
adjustment expenses. As of September 30, 2003,
workers compensation reserves for unpaid loss and loss
adjustment expenses totaled $68.3 million,
$62.4 million net of reinsurance.

During the fourth quarter of 2003, the Company
will finalize the terms of this transaction, and determine what,
if any, restructuring charges or reserve enhancements will be
needed. If the Company is required to run-off existing claims,
the charges related to this exit could be significant in the
fourth quarter.

Net premiums earned for the three months ended
September 30, 2003 decreased $5.6 million, or 35.1%,
compared to the same period of 2002 due primarily to the
restructuring efforts discussed above, which began primarily in
the fourth quarter of 2002. Net premiums earned for the nine
months ended September 30, 2003 decreased
$13.0 million, or 28.0%, compared to the nine months ended
September 30, 2002. This decrease was not as great as the
decrease in direct premiums written, as premiums written in 2002
on business that was non-renewed in 2003 continued to be earned
during the first nine months of 2003.

The restructuring of this book of business,
described above, combined with rate increases and improved
claims management, have translated into lower calendar year and
accident year loss ratios, 75.9% and 80.0%, respectively, for
the nine months ended September 30, 2003 compared to 76.3%
and 80.6%, respectively, for the same period of 2002. The
benefits of the improved claims management and rate increases,
however, were partially offset by an increase in loss adjustment
expenses related primarily to salaries of the executives and
managers the Company hired to restructure the workers
compensation book of business. The loss ratio for the three
months ended September 30, 2003 was 82.2% compared to 71.4%
for the same period of 2002. This increase was primarily
attributable to loss adjustment expense costs associated with
new staff, described above, that were not able to be absorbed
due to the decrease in net premiums earned for the period.

Prior year loss and loss adjustment expense
reserves developed favorably by $1.4 million during the
nine months ended September 30, 2003. This prior year
favorable development was related primarily to the
Companys Minnesota market, and was the result of losses on
prior accident years settling for less than originally
anticipated. Favorable development on prior year loss and loss
adjustment expense reserves was $500,000 and $2.0 million,
respectively, for the three months and nine months ended
September 30, 2002.

Salary and severance costs related to the
management team during the first half of 2003, combined with the
decreases in net premiums earned, were the primary reasons for
the increases in the underwriting expense ratios to 28.9% and
32.4%, respectively, during the three and nine-month periods
ending September 30, 2003 compared to 22.2% and 24.2%,
respectively, for the same periods of 2002.

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##### Table of Contents



Health Insurance
Operations

The following table sets forth the results of
operations of our health insurance segment for the three-month
and nine-month periods ended September 30, 2003 and 2002.

|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |        |        |   |        |       |      |   |        |       |       | 
|------------------------------------------------------------------------------------------------------- | ---------------------------- | -------------------------- | ----- | ---------- | --------------------------------------- | - | ------ | ------ | ---------- | - | ------ | ------ | ------ | ---- | ------- | ------ | ------ | - | ------ | ------ | ------ | - | ------ | ------ | ------ | - | ------ | ----- | ---- | - | ------ | ----- | ----- | 
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |  
|                                                                                                        |                              | For the Three Months Ended |       |            |                                        
|                                                                                                        |                              | September 30,              |       |            | For the Nine Months Ended September 30, |  
|                                                                                                        |                              |                            |       |            |                                         |  
|                                                                                                        |                              |                            |       | Percentage |                                         |   |        |        | Percentage |  
|                                                                                                        |                              | 2003                       |       |            | 2002                                    |   |        | Change |            |   | Change |        |        | 2003 |         |        | 2002   |   |        | Change |        |   | Change |       
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|                                                                                                        |                              |                           
|                                                                                                        |                              | (Dollars in thousands)     |      
|Direct premiums written                                                                                 |                              | $                          | 5,513 |            |                                         | $ | 5,773  |        |            | $ | (260   | )      |        |      | -4.5%   |        |        | $ | 18,095 |        |        | $ | 17,118 |        |        | $ | 977    |       |      |   | 5.7%   |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|Net premiums written                                                                                    |                              | $                          | 5,270 |            |                                         | $ | 5,500  |        |            | $ | (230   | )      |        |      | -4.2%   |        |        | $ | 17,258 |        |        | $ | 16,860 |        |        | $ | 398    |       |      |   | 2.4%   |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|Net premiums earned                                                                                     |                              | $                          | 5,270 |            |                                         | $ | 5,500  |        |            | $ | (230   | )      |        |      | -4.2%   |        |        | $ | 17,258 |        |        | $ | 16,860 |        |        | $ | 398    |       |      |   | 2.4%   |      
|Incurred loss and loss adjustment expenses:                                                             |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |        |        |   |        |       |      |   |        |      
|                                                                                                        | Current accident year losses |                            |       | 4,076      |                                         |   |        | 5,140  |            |   |        | (1,064 | )      |      |         | -20.7% |        |   |        | 15,284 |        |   |        | 15,797 |        |   |        | (513  | )    |   |        | -3.2% |      
|                                                                                                        | Prior year losses            |                            |       |           |                                         |   |        |       |            |   |        |       |        |      |         | 0.0%   |        |   |        | (468   | )      |   |        |       |        |   |        |      |      |   |        | 0.0%  |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|                                                                                                        |                              | Total                      |       |            | 4,076                                   |   |        |        | 5,140      |   |        |        | (1,064 | )    |         |        | -20.7% |   |        |        | 14,816 |   |        |        | 15,797 |   |        |       | (981 | ) |        |       | -6.2% | 
|Underwriting expenses                                                                                   |                              |                            | 978   |            |                                         |   | 1,022  |        |            |   | (44    | )      |        |      | -4.3%   |        |        |   | 3,077  |        |        |   | 3,557  |        |        |   | (480   | )     |      |   | -13.5% |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|Underwriting income (loss)                                                                              |                              | $                          | 216   |            |                                         | $ | (662   | )      |            | $ | 878    |        |        |      | -132.6% |        |        | $ | (635   | )      |        | $ | (2,494 | )      |        | $ | 1,859  |       |      |   | -74.5% |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|Income (loss) before federal income taxes
    and cumulative effect of a change in accounting principle |                              | $                          | 361   |            |                                         | $ | (482   | )      |            | $ | 843    |        |        |      | -174.9% |        |        | $ | (149   | )      |        | $ | (2,029 | )      |        | $ | 1,880  |       |      |   | -92.7% |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|Loss ratio:                                                                                             |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |        |        |   |        |       |      |   |        |      
|                                                                                                        | Accident year                |                            |       | 77.3%      |                                         |   |        | 93.5%  |            |   |        | -16.2% |        |      |         |        |        |   |        | 88.6%  |        |   |        | 93.7%  |        |   |        | -5.1% |      |   |        |       |      
|                                                                                                        | Prior years                  |                            |       | 0.0%       |                                         |   |        | 0.0%   |            |   |        | 0.0%   |        |      |         |        |        |   |        | -2.7%  |        |   |        | 0.0%   |        |   |        | -2.7% |      |   |        |       |      
|                                                                                                        |                              |                            |       |            |                                         |   |        |        |            |   |        |        |        |      |         |        |        |   |        |        |        |   |        |       
|                                                                                                        | Calendar year                |                            |       | 77.3%      |                                         |   |        | 93.5%  |            |   |        | -16.2% |        |      |         |        |        |   |        | 85.9%  |        |   |        | 93.7%  |        |   |        | -7.8% |      |   |        |       |      
|Underwriting expense ratio                                                                              |                              |                            | 18.6% |            |                                         |   | 18.6%  |        |            |   | 0.0%   |        |        |      |         |        |        |   | 17.8%  |        |        |   | 21.1%  |        |        |   | -3.3%  |       |      |   |        |      
|Combined ratio                                                                                          |                              |                            | 95.9% |            |                                         |   | 112.1% |        |            |   | -16.2% |        |        |      |         |        |        |   | 103.7% |        |        |   | 114.8% |        |        |   | -11.1% |       |      |   |        |      

All health direct premiums written are related to
our involvement with a single preferred provider organization
located in western Michigan. This coverage is provided as part
of our strategic relationship with the physician organization
that sponsors this plan. Direct premiums written decreased
$260,000, or 4.5%, to $5.5 million for the three months
ended September 30, 2003, compared to the same period of
2002. Direct premiums written increased $977,000, or 5.7%, to
$18.1 million for the nine months ended September 30,
2003 compared to the same period of 2002. The changes in direct
premiums written were the result of a decrease in the number of
covered lives during 2003 and the effect of rate increases in
2003. The number of covered lives has been decreasing as we
tighten our underwriting standards. The following table shows
the number of covered lives and the per-member-per-month
(PMPM) premium at September 30, 2003,
December 31, 2002, and September 30, 2002.

|             |                                   |         |  |                  |         |  |   |     | 
|------------ | --------------------------------- | ------- |  | ---------------- | ------- |  | - | --- | 
|             |                                   | Covered |  |                  | PMPM    | 
|             |                                   | Lives   |  |                  | Premium | 
|             |                                   |         |  |                  |         | 
|             |                                   |         |  | (actual dollars) |        
|Month Ended: |                                   |         |  |                  |         |  |   |    
|             | September 30, 2003                |         |  | 8,072            |         |  | $ | 221 | 
|             | December 31, 2002                 |         |  | 12,898           |         |  | $ | 188 | 
|             | September 30, 2002                |         |  | 11,230           |         |  | $ | 172 | 
|Change:      |                                   |         |  |                  |         |  |   |    
|             | September 2003 vs. December 2002  |         |  | (4,826           | )       |  | $ | 33  | 
|             | September 2003 vs. September 2002 |         |  | (3,158           | )       |  | $ | 49  | 

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##### Table of Contents



The increase in net premiums earned for the nine
months ended September 30, 2003 compared to the same period
of 2002 was less than the increase in direct premiums written
for the nine months ended September 30, 2003, as a result
of fewer assumed premiums due to our exit from a reinsurance
pool in the second quarter of 2002.

The decreases in loss ratio to 77.3% and 85.9%,
respectively, for the three months and nine months ended
September 30, 2003 compared to 93.5% and 93.7%,
respectively, for the same periods of 2002, were primarily the
result of improved underwriting and premium rate increases.
Prior year loss and loss adjustment expense reserves developed
favorably by $468,000 during the nine months ended
September 30, 2003. This favorable development was the
result of re-underwriting efforts in 2002.

Underwriting expenses and the underwriting
expense ratio for the three months ended September 30, 2003
were relatively consistent with the same period of 2002.
Underwriting expenses for the nine months ended
September 30, 2003 decreased $480,000 to $3.1 million
compared to the same period of 2002. As a percentage of net
premiums earned, underwriting expenses for the nine months ended
September 30, 2003 were 17.8% compared to 21.1% for the
same period of 2002. The decrease in underwriting expenses and
the underwriting expense ratio were primarily due to the
reduction of certain corporate overhead expenses related to the
health insurance segment as well as a reduction in fees charged
by a third-party administrator who handles policy administration
and premium collections on behalf of the Company.

In September 2003, management formally adopted a
plan to exit the health insurance line of business. The day to
day aspects of the Companys health insurance business are
administered by a third party administrator (TPA).
The contract between the TPA and the Company requires the
Company to provide a 180 day notice to the TPA of its
intent to terminate the agreement. The Company plans to give
notice of this termination effective December 31, 2003. The
Company will continue to renew policies during this 180-day
period, after which, the Company will not issue any additional
health insurance policies. Due to the one year term of most
health policies, the Company will continue to have written and
earned health insurance premiums throughout 2004 and into 2005.
However, the Company is pursuing the possible placement of this
business with another insurance carrier.

Personal
and Commercial Lines Insurance Operations

The Companys personal and commercial
insurance product segment experienced a loss before federal
income taxes and cumulative effect of a change in accounting
principle of $371,000 and $1.4 million, respectively, for
the three months and nine months ended September 30, 2003.
For the three months and nine months ended September 30,
2002, the losses were $395,000 and $1.6 million,
respectively. Loss before federal income taxes and cumulative
effect of a change in accounting principles is closely related
to the underwriting loss of the segment, as the investment
income and other expenses allocated to this segment are minimal.
However, in the first nine months of 2002, this segment recorded
a realized loss of $293,000 related to the write-off of software
that had previously been used to administer personal and
commercial insurance policies.

The 2003 underwriting losses were the result of a
ceded premium adjustment of $239,000 during the nine months
ended September 30, 2003, compared to an adjustment of
$590,000, during the same period of 2002. Loss and loss
adjustment expense reserves continued to develop unfavorably in
the amount of $380,000 for the three months ended
September 30, 2003 and $931,000 for the nine months ended
September 30, 2003, as compared to $324,000 and $630,000
for the same periods of 2002. In addition, through
September 30, 2003, the Company has paid approximately
$100,000 for third-party administrative service related to one
of its alternative-risk transfer programs that is in run-off, as
well as guarantee fund assessments of approximately $112,000.
There were no underwriting or other fees during the first nine
months of 2002.

In the second quarter of 2003, we engaged a
personal and commercial claims specialist to help the Company
bring the personal and commercial business to closure. We
anticipate that all outstanding personal and commercial claims
will settle by year end 2003. At September 30, 2003, there
were less than 50 claims outstanding. This segment, however,
will continue to generate income (loss) through 2003, and
potentially beyond, due to the development of unpaid loss and
loss adjustment expenses.

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##### Table of Contents



Corporate
and Other

For this segment, loss before federal income
taxes and cumulative effect of a change in accounting principle
for the three months ended September 30, 2003 was $993,000
compared to $224,000 for the same period of 2002. The increase
was primarily attributable to increases in general and
administrative expenses and interest expense as a result of the
issuance of floating rate junior subordinated deferrable
interest debentures discussed in Note 7 of the Notes to
Unaudited Condensed Consolidated Financial Statements. The
increase in these expenses was partially offset by an increase
in other income.

The increase in the loss before federal income
taxes and cumulative effect of a change in accounting principle
for the nine months ended September 30, 2003 to
$2.2 million from $599,000 for the same period of 2002 is
again attributable to increases in general and administrative
expenses and interest expense, as well as a decrease in
investment income related to this segment. In the first quarter
of 2002, APCapital had a portion of its assets invested in
long-term bonds that generated significantly more interest than
the short-term holdings of this segment in 2003.

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##### Table of Contents



Consolidated
Results of Operations

The following table sets forth our results of
operations on a consolidated basis. The discussion that follows
should be read in connection with the Unaudited Condensed
Consolidated Financial Statements, and Notes thereto, included
elsewhere in this report.

|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |         |         |         |        |         |         |        |        |        |         |       | 
|--------------------------------------------------------- | ------------------------------ | ------------------------------------------------------------------------------------------------------- | ------------------------------- | ---------- | --------------------------------------- | ------- | ------ | ------ | ---------- | ------ | ------ | ------ | ------- | ------ | ------- | ------ | -------- | ----- | ------- | ------- | ------- | ------- | ------- | ------- | ------- | ------- | ------ | ------- | ------- | ------ | ------ | ------ | ------- | ----- | 
|                                                          |                                |                                                                                                         |                                 |           
|                                                          |                                | For the Three Months Ended September 30,                                                                |                                 |            | For the Nine Months Ended September 30, |        
|                                                          |                                |                                                                                                         |                                 |            |                                         |        
|                                                          |                                |                                                                                                         |                                 | Percentage |                                         |         |        |        | Percentage |       
|                                                          |                                | 2003                                                                                                    |                                 |            | 2002                                    |         |        | Change |            |        | Change |        |         | 2003   |         |        | 2002     |       |         | Change  |         |         | Change  |        
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                |                                                                                                        
|                                                          |                                | (Dollars in thousands)                                                                                  |                                
|Net premiums earned by insurance segment:                 |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |         |         |         |        |         |         |        |        |       
|                                                          | Medical professional liability |                                                                                                         | $                               | 41,043     |                                         |         | $      | 40,089 |            |        | $      | 954    |         |        |         | 2.4%   |          |       | $       | 118,903 |         |         | $       | 108,064 |         |         | $      | 10,839  |         |        |        | 10.0%  |        
|                                                          | Workers compensation          |                                                                                                         |                                 | 10,275     |                                         |         |        | 15,832 |            |        |        | (5,557 | )       |        |         | -35.1% |          |       |         | 33,598  |         |         |         | 46,636  |         |         |        | (13,038 | )       |        |        | -28.0% |        
|Health                                                    |                                |                                                                                                         | 5,270                           |            |                                         |         | 5,500  |        |            |        | (230   | )      |         |        | -4.2%   |        |          |       | 17,258  |         |         |         | 16,860  |         |         |         | 398    |         |         |        | 2.4%   |       
|                                                          | Personal and commercial        |                                                                                                         |                                 |           |                                         |         |        |       |            |        |        |       |         |        |         |        |          |       |         | (239    | )       |         |         | (590    | )       |         |        | 351     |         |        |        | -59.5% |        
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                |                                                                                                         | Total net premiums earned       |            |                                         | 56,588  |        |        |            | 61,421 |        |        |         | (4,833 | )       |        |          | -7.9% |         |         |         | 169,520 |         |         |         | 170,970 |        |         |         | (1,450 | )      |        |         | -0.8% | 
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|Investment income                                         |                                |                                                                                                         | 11,400                          |            |                                         |         | 11,421 |        |            |        | (21    | )      |         |        | -0.2%   |        |          |       | 32,209  |         |         |         | 34,108  |         |         |         | (1,899 | )       |         |        | -5.6%  |       
|Net realized gains (losses)                               |                                |                                                                                                         | 143                             |            |                                         |         | (390   | )      |            |        | 533    |        |         |        | 136.7%  |        |          |       | 1,291   |         |         |         | (678    | )       |         |         | 1,969  |         |         |        | 290.4% |       
|Other income                                              |                                |                                                                                                         | 161                             |            |                                         |         | 524    |        |            |        | (363   | )      |         |        | -69.3%  |        |          |       | 518     |         |         |         | 786     |         |         |         | (268   | )       |         |        | -34.1% |       
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                |                                                                                                         | Total revenues and other income |            |                                         | 68,292  |        |        |            | 72,976 |        |        |         | (4,684 | )       |        |          | -6.4% |         |         |         | 203,538 |         |         |         | 205,186 |        |         |         | (1,648 | )      |        |         | -0.8% | 
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|Losses and loss adjustment expenses                       |                                |                                                                                                         | 96,721                          |            |                                         |         | 62,928 |        |            |        | 33,793 |        |         |        | 53.7%   |        |          |       | 203,733 |         |         |         | 178,461 |         |         |         | 25,272 |         |         |        | 14.2%  |       
|Underwriting expenses                                     |                                |                                                                                                         | 11,721                          |            |                                         |         | 11,945 |        |            |        | (224   | )      |         |        | -1.9%   |        |          |       | 36,828  |         |         |         | 35,306  |         |         |         | 1,522  |         |         |        | 4.3%   |       
|Investment expenses                                       |                                |                                                                                                         | 934                             |            |                                         |         | 609    |        |            |        | 325    |        |         |        | 53.4%   |        |          |       | 2,083   |         |         |         | 2,529   |         |         |         | (446   | )       |         |        | -17.6% |       
|Interest expense                                          |                                |                                                                                                         | 502                             |            |                                         |         | 95     |        |            |        | 407    |        |         |        | 428.4%  |        |          |       | 875     |         |         |         | 278     |         |         |         | 597    |         |         |        | 214.7% |       
|Amortization expense                                      |                                |                                                                                                         | 133                             |            |                                         |         |       |        |            |        | 133    |        |         |        |         |        |          |       | 272     |         |         |         |        |         |         |         | 272    |         |         |        |        |       
|General and administrative expenses                       |                                |                                                                                                         | 715                             |            |                                         |         | 395    |        |            |        | 320    |        |         |        | 81.0%   |        |          |       | 1,993   |         |         |         | 1,231   |         |         |         | 762    |         |         |        | 61.9%  |       
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                |                                                                                                         | Total expenses                  |            |                                         | 110,726 |        |        |            | 75,972 |        |        |         | 34,754 |         |        |          | 45.7% |         |         |         | 245,784 |         |         |         | 217,805 |        |         |         | 27,979 |        |        |         | 12.8% | 
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                | Income (loss) before federal income taxes
    and cumulative effect of a change in accounting principle |                                 |            | (42,434                                 | )       |        |        | (2,996     | )      |        |        | (39,438 | )      |         |        | -1316.4% |       |         |         | (42,246 | )       |         |         | (12,619 | )       |        |         | (29,627 | )      |        |        | -234.8% |      
|Federal income tax expense (benefit)                      |                                |                                                                                                         | 34,621                          |            |                                         |         | (1,048 | )      |            |        | 35,669 |        |         |        | 3403.5% |        |          |       | 34,687  |         |         |         | (4,421  | )       |         |         | 39,108 |         |         |        | 884.6% |       
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                | Income (loss) before cumulative effect of a
    change in accounting principle                          |                                 |            | (77,055                                 | )       |        |        | (1,948     | )      |        |        | (75,107 | )      |         |        | -3855.6% |       |         |         | (76,933 | )       |         |         | (8,198  | )       |        |         | (68,735 | )      |        |        | -838.4% |      
|Cumulative effect of a change in accounting
    principle |                                |                                                                                                         |                                |            |                                         |         |       |        |            |        |       |        |         |        |         |        |          |       |        |         |         |         | (9,079  | )       |         |         | 9,079  |         |         |        | 100.0% |       
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|                                                          |                                | Net income (loss)                                                                                       |                                 | $          | (77,055                                 | )       |        | $      | (1,948     | )      |        | $      | (75,107 | )      |         |        | -3855.6% |       |         | $       | (76,933 | )       |         | $       | (17,277 | )       |        | $       | (59,656 | )      |        |        | -345.3% |      
|                                                          |                                |                                                                                                         |                                 |            |                                         |         |        |        |            |        |        |        |         |        |         |        |          |       |         |         |         |         |         |        
|Loss ratio                                                |                                |                                                                                                         | 170.9%                          |            |                                         |         | 102.5% |        |            |        | 68.4%  |        |         |        |         |        |          |       | 120.2%  |         |         |         | 104.4%  |         |         |         | 15.8%  |         |         |        |        |       
|Underwriting ratio                                        |                                |                                                                                                         | 20.7%                           |            |                                         |         | 19.4%  |        |            |        | 1.3%   |        |         |        |         |        |          |       | 21.7%   |         |         |         | 20.7%   |         |         |         | 1.0%   |         |         |        |        |       
|Combined ratio                                            |                                |                                                                                                         | 191.6%                          |            |                                         |         | 121.9% |        |            |        | 69.7%  |        |         |        |         |        |          |       | 141.9%  |         |         |         | 125.1%  |         |         |         | 16.8%  |         |         |        |        |       

Net premiums earned for the three months ended
September 30, 2003 decreased $4.8 million, or 7.9%, to
$56.6 million and $1.5 million, or 0.8%, to
$169.5 million for the nine months ended September 30,
2003, compared to the same periods of 2002. The decreases were
primarily the result of the restructuring of our workers
compensation book of business, partially offset by rate
increases for workers compensation and medical
professional liability policies.

The decrease in investment income of
$1.9 million to $32.2 million for the nine months
ended September 30, 2003 was the result of the
Companys unusually large cash position during the first
half of 2003

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and lower short-term interest rates compared to
the same period of 2002. We delayed investing a portion of the
cash flow generated during the first half of 2003 due to the
very low interest rate environment and our reluctance to lock-in
longer-term interest rates at prevailing levels. The average
yield on the Companys cash and cash equivalents was
approximately 1% during the nine months ended September 30,
2003, which reduced the Companys average yield on its
investment portfolio to 5.54% for the nine months ended
September 30, 2003, from 6.10% for the same period of 2002.
Investment income for the three months ended September 30,
2003 was virtually unchanged compared to the same period of 2002
despite the decrease in interest rates. This was primarily due
to the purchase of approximately $15 million of interest
only mortgage-backed securities and approximately
$47 million of high-yield corporate securities late in the
second quarter and throughout the third quarter of 2003. The
average yield on the Companys investment portfolio was
5.89% for the three months ended September 30, 2003
compared to 6.18% for the same period of 2002.


Included in investment income for the three
months and nine months ended September 30, 2003 is
approximately $65,000 and $465,000 relating to the increase in
the fair value of derivative instruments. See
Item 3  Quantitative and Qualitative
Disclosures About Market Risk and Note 1 of the Notes
to Unaudited Condensed Consolidated Financial Statements
included elsewhere in this report for further discussion
regarding derivative instruments.

Net realized gains for the three months and nine
months ended September 30, 2003 are reduced by a $300,000 and
$1.3 million charge, respectively, for an other than
temporary impairment (OTTI) on enhanced
equipment trust certificates issued by Delta Airlines. Net
realized losses for the three months and nine months ended
September 30, 2002 were reduced by an OTTI charge of
$390,000 for the write down of Frontier bonds.

Loss and loss adjustment expenses increased
$33.8 million to $96.7 million for the three months
ended September 30, 2003 and $25.3 million to
$203.7 million for the nine months ended September 30,
2003 compared to the same period of 2002. The loss ratios for
the three months and nine months ended September 30, 2003
were 170.9% and 120.2%, respectively, compared to 102.5% and
104.4%, respectively, for the same periods of 2002. The
increases in incurred loss and loss adjustment expenses and the
loss ratios were primarily the result of $43 million of
unfavorable development on prior year reserves for unpaid loss
and loss adjustment expenses on the Companys medical
professional liability segment in the third quarter of 2003.
This development was the result of increased severities in paid
claims in the third quarter of 2003, which indicated a much
higher trend in claims severity. As a result, actuarial
projections calculated higher ultimate severities of loss on
currently existing claims related to the 1999 to 2002 accident
years. Due to the higher ultimate estimated severity and
corresponding higher ultimate loss, management increased its
estimate of incurred but not reported claims related to the 1999
through 2002 accident years. The unfavorable development in the
third quarter of 2003 was primarily related to the
Companys Florida ($16 million), Ohio
($16.4 million) and Kentucky ($15 million) markets,
partially offset by positive development in the Michigan market.
The Company announced its exit of the Florida market in 2002 and
discontinued writing occurrence policies in Ohio in early 2002.
Due to a very competitive pricing environment in Kentucky, the
Companys insured physician count in that state has
decreased approximately 10% from December 31, 2002.

Underwriting expenses for the three months ended
September 30, 2003 decreased $224,000 to $11.7 million
compared to the same period of 2002. The decrease was primarily
the result of reduced salary costs due to the departure of the
workers compensation management team. Underwriting
expenses for the nine months ended September 30, 2003
increased $1.5 million, or 4.3%, to $36.8 million
compared to $35.3 million for the same period of 2002. The
increase was primarily due to salary and other employee benefit
costs associated with the new workers compensation
management team prior to their departure, severance costs
associated with these departures, and an increase in commissions
and premium tax expense associated with increased premium
writings. The underwriting expense ratios for the three months
and nine months ended September 30, 2003 were 20.7% and
21.7%, respectively, compared to 19.4% and 20.7% for the same
periods of 2002. The increase in the underwriting expense ratio
for the nine months ended September 30, 2003 was primarily
the result of the items described above, compounded by the
decrease in net premiums earned. The increase in the loss ratio
for the three months ended September 30, 2003 compared to
2002 was primarily attributable to the decrease in net premiums
earned during the period.

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Investment expenses for the three months ended
September 30, 2003 increased $325,000 to $934,000. The
increase was primarily the result of expenses paid to the
third-party managers of the Companys high-yield bond
portfolio, as well as other third-party administrative costs
that were incurred in the third quarter of 2003. The expense for
the three months ended September 30, 2003 is more representative
of what management expects going forward. For the nine months
ended September 30, 2003, investment expenses were
$2.1 million compared to $2.5 million for the same
period of 2002. The decrease in investment expenses for the
nine-month period was primarily due to higher depreciation
expense on several of the Companys investment real estate
properties in the first nine months of 2002.

The increases in interest expense of $407,000 and
$597,000 for the three months and nine months ended
September 30, 2003 compared to the same periods of 2002
were the result of the issuance of $30.9 million of
floating rate junior subordinated deferrable interest debentures
(the Debentures) in May of 2003. See Note 7 of
the Notes to Unaudited Condensed Consolidated Financial
Statements contained elsewhere in this report for a more
detailed discussion of the Debentures.

Amortization expense in 2003 relates to a
definite-lived intangible asset acquired in connection with the
Companys investment in Physicians Insurance Company, as
well as capitalized debt issue costs associated with the
Companys issuance of the Debentures. The investment in
Physicians Insurance Company is discussed more fully in our
discussion of medical professional liability operating results
contained elsewhere in this report. See Note 7 of the Notes
to Unaudited Condensed Consolidated Financial Statements
contained elsewhere in this report for a discussion of the
Debentures.

The increases in the Companys general and
administrative expenses of $320,000 and $762,000 for the three
months and nine months ended September 30, 2003,
respectively, were primarily the result of a new errors and
omissions liability insurance policy acquired in mid-2002 as
well as increased legal, audit, and other professional fees
pertaining to compliance with the new Sarbanes-Oxley legislation
and related SEC rules.

The effective tax rates were (81.6%) and (82.1%),
respectively, for the three and nine months ended
September 30, 2003 compared to 35.0% for the three months
and nine months ended September 30, 2002. Due to net losses
reported by the Company in 2001 through 2003, the Company has
determined that it may not realize some or all of the future tax
benefits associated with its net deferred tax assets.
Accordingly, we have established a valuation allowance on our
net deferred tax assets of $49.9 million as of
September 30, 2003. This valuation allowance represents
100% of the Companys net deferred tax asset at September
30, 2003. These deferred tax assets will be reinstated to the
extent the Company has taxable income in future years. See
Note 8 of the Notes to Unaudited Condensed Consolidated
Financial Statements included elsewhere in this report for
further information regarding federal income taxes, deferred tax
assets and the valuation allowance.

The cumulative effect of a change in accounting
principle recorded in 2002 was the result of the write-off of
goodwill. See Note 5 of the Notes to Unaudited Condensed
Consolidated Financial Statements included elsewhere in this
report for further information regarding the write-off of
goodwill.

Liquidity, Capital Resources and Financial
Condition

The primary sources of our liquidity, on both a
short- and long-term basis, are funds provided by insurance
premiums collected, net investment income, recoveries from
reinsurance, and proceeds from the maturity or sale of invested
assets. We also enter into financing transactions from time to
time to acquire additional capital. The primary uses of cash, on
both a short- and long-term basis, are losses, loss adjustment
expenses, operating expenses, the acquisition of invested
assets, reinsurance premiums, taxes, and the repurchase of the
Companys stock.

APCapital is a holding company whose only
material assets are the capital stock of APAssurance and its
other subsidiaries, and cash. APCapitals ongoing cash flow
consists primarily of dividends and other permissible payments
from its subsidiaries and investment earnings on funds held. The
payment of dividends to APCapital by its insurance subsidiaries
is subject to limitations imposed by applicable state law.

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The Company is indebted to its President and
Chief Executive Officer (CEO) in the amount of
$7.0 million (reflected on our balance sheet at its present
value of $5.8 million at September 30, 2003) in
connection with the purchase of Stratton-Cheeseman Management
Company. The indebtedness is due in annual installments with the
final installment due April 2008. See the table at the end of
this section for further information regarding the timing and
amounts of these payments. The amount of the annual payments
will increase or decrease by $200,000 for each corresponding
half-grade level increase or decrease in the Companys A.M.
Best Company, Inc. rating. Certain events, such as the
termination, death or disability of the CEO, or a change in
control of the Company, could accelerate these payments.
Subsequent to the close of the third quarter, the Company
received a half-grade down grade in its A.M. Best rating, which
will decrease the annual payments in future years.

In May 2003, the Company issued Debentures
totaling $30.9 million. These Debentures bear interest at a
variable rate based on LIBOR, payable quarterly, and mature in
30 years. See Note 7 of the Notes to Unaudited
Condensed Consolidated Financial Statements contained elsewhere
in this report for a description of the Debentures and the
transactions in which they were issued. Subsequent to the close
of the third quarter, the Company issued an additional
$20.6 million of floating rate junior subordinated
deferrable interest debentures on substantially the same terms
as the Debentures.

The Companys net cash flow used in
operations was approximately $8.9 million for the nine
months ended September 30, 2003, compared to
$37.2 million provided by operations for the nine months
ended September 30, 2002. The decrease in cash provided by
operations was primarily the result of an increase in paid
losses of $23.1 million, an increase in premiums receivable
of $10.6 million, and the decrease in net premiums written
of $9.1 million.

At September 30, 2003, the Company had
$92.8 million of cash available and an investment portfolio
of $725.4 million. The portfolio includes
$23.8 million of bonds maturing in the next year. On a
long-term basis, fixed income securities are purchased on a
basis intended to provide adequate cash flows from future
maturities. As of September 30, 2003, $366.6 million
of bonds mature in the next one to five years and
$162.6 million mature in the next six to ten years. In
addition, the Company has $43.6 million of mortgage-backed
securities that provide periodic principal repayments.

Premiums receivable increased $10.6 million,
or 16.9%, to $73.1 million at September 30, 2003
compared to $62.5 million at December 31, 2002. The
increase in premiums receivable is a function of the timing of
premiums written. July is a heavy renewal month for the Company,
which is the primary reason for the increase in the premiums
receivable balance at September 30, 2003.

Reinsurance recoverable increased
$12.1 million to $110.2 million at September 30,
2003, compared to $98.1 million at December 31, 2002.
The increase was primarily the result of reinsurance
recoverables on a few large paid losses, as well as the increase
in the estimate for incurred but not reported claims above the
Companys net retention level. We have a net reinsurance
recoverable from Gerling Global (Gerling) of
approximately $15.4 million at September 30, 2003. In
2002, Gerlings parent company put Gerlings United
States subsidiary into run off resulting in a series of A.M.
Best rating downgrades for Gerling. We have discussed the
possibility of a settlement with Gerling, but have not received
an offer that we deem financially adequate. We continue to
believe that Gerling has adequate surplus and cash flow to
satisfy its obligations to us and we have not experienced any
difficulties in collecting amounts due from Gerling; however,
there can be no assurance that amounts currently recoverable
from Gerling will ultimately be collected. Because the Company
has not experienced any difficulties in collecting amounts from
Gerling, and in light of Gerlings current surplus levels
and cash flows, we determined not to accept the settlement offer
because we do not believe that it is in the Companys best
long-term economic interest. We will continue to monitor
Gerlings financial strength and liquidity and may pursue a
settlement in the future if circumstances change.

As the Company has incurred net losses for the
last three years, management has evaluated the recoverability of
the net deferred tax assets, and has determined, based on its
recent loss experience, that sufficient taxable income may not
exist in the years that our deductible temporary differences
will reverse. Accordingly, the Company has established a
deferred tax valuation allowance for 100% of its net deferred
tax asset of $49.9 million. See Note 8 of the Notes to
Unaudited Condensed Consolidated Financial Statements

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included elsewhere in this report for further
information regarding deferred tax assets and their impact on
federal income tax expense.


Reserves are reviewed for adequacy on a quarterly
basis by the Company with the assistance of internal as well as
independent actuaries. When reviewing reserves, the Company
analyzes historical data, including per claim information, the
Companys actual loss experience and industry historical
loss trends. This process assumes that past experience, adjusted
for the effects of current developments and anticipated trends,
is an appropriate basis for predicting future events.

The key assumptions used in managements
selection of ultimate reserves include the underlying actuarial
methodologies, a review of current pricing and underwriting
initiatives, an evaluation of reinsurance costs and retention
levels, and an analysis of claims development. As of
December 31, 2002, and subsequent quarters, the Company
recorded professional liability reserves based on internal and
independent actuarial best estimates.

The payment of medical professional liability
claims often is three to six years after the report of loss. As
a result, the ultimate payment can be difficult to project and
must be estimated using various actuarial methods. These
projections are usually based on an estimated average payment
(severity) times a projected total number of claims (frequency).
Accordingly, the estimated ultimate severity of losses to be
paid has a major impact on actuarial estimates of ultimate
losses and thus recorded reserves.

For the nine months ended September 30,
2003, the Company reported an increase in net ultimate loss
estimates for accident years 2002 and prior of
$43.3 million, or 7.9% of $546.8 million of net loss
and loss adjustment expense reserves at December 31, 2002.
The increase in net ultimate loss estimates reflected revisions
in the estimated reserves as a result of actual claims activity
in calendar year 2003 that differed from projected activity.

In the third quarter of 2003, a pattern of
increasing paid severity emerged on the Companys medical
professional liability losses related to the 1999 through 2002
accident years. In view of this higher than expected trend of
average paid severity, the Companys internal and
independent actuaries made significant upward adjustments to
their estimated ultimate severities on all claims incurred in
these accident years, which had the effect of significantly
increasing the projected ultimate loss on these years.
Accordingly, recorded reserves on these years were adjusted to
match these ultimate loss projections.

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Activity in the liability for unpaid loss and
loss adjustment expenses by insurance segment for the nine
months ended September 30, 2003 was as follows.

|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |       |       |  |   |         |         | 
|-------------------------------------------------------- | ------------------------------ | -------------- | ------- | ------- | ------------ | - | ------ | ------ | - | - | ------ | ------ | - | -------- | ----- | ----- |  | - | ------- | ------- | 
|                                                         |                                | Medical        |         |         |              |   |        |        |   |   |       
|                                                         |                                | Professional   |         |         | Workers     |   |        |        |   |   |        | All    |  
|                                                         |                                | Liability      |         |         | Compensation |   |        | Health |   |   | Other  |        |   | Segments |      
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|                                                         |                                |               
|                                                         |                                | (In thousands) |        
|Balance, December 31, 2002                               |                                | $              | 546,256 |         |              | $ | 80,274 |        |   | $ | 6,850  |        |   | $        | 4,114 |       |  | $ | 637,494 |        
|                                                         | Less, reinsurance recoverables |                |         | 81,501  |              |   |        | 7,282  |   |   |        | 280    |   |          |       | 1,610 |  |   |         | 90,673  | 
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|Net reserves, December 31, 2002                          |                                |                | 464,755 |         |              |   | 72,992 |        |   |   | 6,570  |        |   |          | 2,504 |       |  |   | 546,821 |        
|Incurred related to                                      |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |       |       |  |   |         |        
|                                                         | Current year                   |                |         | 118,242 |              |   |        | 26,894 |   |   |        | 15,284 |   |          |       |      |  |   |         | 160,420 | 
|                                                         | Prior years                    |                |         | 44,250  |              |   |        | (1,400 | ) |   |        | (468   | ) |          |       | 931   |  |   |         | 43,313  | 
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|                                                         |                                |                | 162,492 |         |              |   | 25,494 |        |   |   | 14,816 |        |   |          | 931   |       |  |   | 203,733 |        
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|Paid related to                                          |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |       |       |  |   |         |        
|                                                         | Current year                   |                |         | 1,824   |              |   |        | 7,420  |   |   |        | 12,443 |   |          |       |      |  |   |         | 21,687  | 
|                                                         | Prior years                    |                |         | 113,359 |              |   |        | 28,656 |   |   |        | 4,188  |   |          |       | 1,994 |  |   |         | 148,197 | 
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|                                                         |                                |                | 115,183 |         |              |   | 36,076 |        |   |   | 16,631 |        |   |          | 1,994 |       |  |   | 169,884 |        
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|Net reserves, September 30, 2003                         |                                |                | 512,064 |         |              |   | 62,410 |        |   |   | 4,755  |        |   |          | 1,441 |       |  |   | 580,670 |        
|                                                         | Plus, reinsurance recoverables |                |         | 88,852  |              |   |        | 5,879  |   |   |        | 170    |   |          |       | 2,565 |  |   |         | 97,466  | 
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|Balance, September 30. 2003                              |                                | $              | 600,916 |         |              | $ | 68,289 |        |   | $ | 4,925  |        |   | $        | 4,006 |       |  | $ | 678,136 |        
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      
|Development as a % of December 31, 2002 net
    reserves |                                |                | 9.5%    |         |              |   | -1.9%  |        |   |   | -7.1%  |        |   |          | 37.2% |       |  |   | 7.9%    |        
|                                                         |                                |                |         |         |              |   |        |        |   |   |        |        |   |          |      

The medical professional liability insurance
sector is going through a period of unprecedented increases in
loss costs. According to the American Medical Association,
several states, including many in which the Company operates,
are in a medical malpractice crisis. Claim settlements have been
increasing significantly, making the projection of ultimate
losses increasingly difficult. In addition, due to the long-tail
nature of this line of business, changes in the actuarially
projected ultimate severity can have a significant impact on the
balance of recorded reserves. Medical professional liability
reserves are expected to remain volatile for the foreseeable
future. Given the current environment, there can be no assurance
that additional significant reserve enhancements will not be
necessary in the future.

If the Company is required to run-off its
existing workers compensation claim reserves, reserve
enhancements may be needed related to this segment in the future
also.

The unearned premium reserve increased
$10.2 million, or 9.8%, to $113.6 million at
September 30, 2003, as compared to $103.4 million at
December 31, 2002. The increase was primarily attributable
to the increased volume of direct written premiums in the third
quarter of 2003 compared to the fourth quarter of 2002. July is
a heavy renewal month for the Companys medical
professional liability segment, which has the effect of
increasing the September 30 balance compared to December 31.

The Companys total shareholders
equity decreased $75.9 million to $204.4 million at
September 30, 2003 compared to $280.3 million at
December 31, 2002. This decrease was related to the
repurchase of outstanding common stock of the Company and the
net loss for the year, offset by net unrealized appreciation on
our investment securities. The market value of our fixed income
security portfolio is inversely related to interest rates.
Therefore, as interest rates have declined in 2003, the market
value of the Companys fixed income security portfolio has
increased. Net unrealized appreciation, net of deferred federal
income taxes, on the Companys investments was
$32.3 million at September 30, 2003, an increase of
$7.7 million compared to December 31, 2002.

On September 11, 2003, APCapitals
Board of Directors authorized the Company to purchase an
additional 500,000 shares of its outstanding common stock. This
brings the total number of shares authorized to be repurchased
under publicly announced plans to 3,615,439. During the quarter,
the Company purchased

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251,300 shares, at an average price of $28.13,
bringing the total number of shares purchased pursuant to these
authorizations to 3,175,570, at a total cost of $59,775,000, or
an average price per share of $18.82. The Companys
repurchase of any of its shares is subject to limitations that
may be imposed by applicable laws and regulations and the rules
of the Nasdaq Stock Market. The timing of the purchases and the
number of shares to be bought at any one time depend on market
conditions and the Companys capital requirements. As of
September 30, 2003, the Company has approximately 440,000
shares of its September 11, 2003 stock repurchase program
remaining to be purchased.


Based on historical trends, market conditions and
our business plans, we believe that our existing resources and
sources of funds, including the funds raised from the issuance
of the Debentures, will be sufficient to meet our short-term and
long-term liquidity needs. However, economic, market and
regulatory conditions may change, and there can be no assurance
that our funds will be sufficient to meet our short-term
liquidity needs.

The Company is contractually obligated by a note
payable to an officer, the Debentures, long-term operating
leases and other purchase commitments relating to capital
expenditures. The following table shows the nature and timing of
the Companys contractual obligations as of
September 30, 2003.

|                        |       |                        |        |           |        |   |       |       |  |       |       |       |           |         |       |       |  |   |        |        | 
|----------------------- | ----- | ---------------------- | ------ | --------- | ------ | - | ----- | ----- |  | ----- | ----- | ----- | --------- | ------- | ----- | ----- |  | - | ------ | ------ | 
|                        |       |                       
|                        |       | Payments Due by Period |       
|                        |       |                        |       
|                        |       |                        |        | Less Than |        |   | 1 - 3 |       |  | 3 - 5 |       |       | More Than |        
|Contractual Obligations |       | Total                  |        |           | 1 Year |   |       | Years |  |       | Years |       |           | 5 Years |      
|                        |       |                        |        |           |        |   |       |       |  |       |       |       |           |         |      
|                        |       |                       
|                        |       | (In Thousands)         |       
|Note payable to officer |       | $                      | 7,000  |           |        | $ | 1,000 |       |  | $     | 2,500 |       |           | $       | 3,500 |       |  | $ |       |       
|Operating leases        |       |                        | 6,088  |           |        |   | 1,367 |       |  |       | 1,805 |       |           |         | 1,129 |       |  |   | 1,787  |       
|Long-term debt          |       |                        | 30,928 |           |        |   |      |       |  |       |      |       |           |         |      |       |  |   | 30,928 |       
|Purchase commitments    |       |                        | 500    |           |        |   | 500   |       |  |       |      |       |           |         |      |       |  |   |       |       
|                        |       |                        |        |           |        |   |       |       |  |       |       |       |           |         |      
|                        | Total |                        | $      | 44,516    |        |   | $     | 2,867 |  |       | $     | 4,305 |           |         | $     | 4,629 |  |   | $      | 32,715 | 
|                        |       |                        |        |           |        |   |       |       |  |       |       |       |           |         |      

Significant Accounting Policies

The preparation of financial statements in
conformity with GAAP requires us to make estimates and
assumptions that affect amounts reported in the accompanying
Unaudited Condensed Consolidated Financial Statements and
related footnotes. These estimates and assumptions are evaluated
on an on-going basis based on historical developments, market
conditions, industry trends and other information we believe to
be reasonable under the circumstances. There can be no assurance
that actual results will conform to our estimates and
assumptions, and that reported results of operations will not be
materially adversely affected by the need to make accounting
adjustments to reflect changes in these estimates and
assumptions from time to time.

The policies relating to unpaid losses and loss
adjustment expenses, investments, taxes, reinsurance and the
reserve for extended reporting period claims are those we
believe to be the most sensitive to estimates and judgments.
They are more fully described in Item 7 of our most recent
Annual Report on Form 10-K and in Note 1 to our
consolidated financial statements contained in that report.
Other than as described below, there have been no material
changes to these policies during the most recent quarter.

The estimate for unpaid loss and loss adjustment
expenses at December 31, 2002 was adjusted to reflect an
increase in the severity of paid losses in the third quarter of
2003. See Note 6 of the Notes to Unaudited Condensed
Consolidated Financial Statements and Managements
Discussion and Analysis of Operating Results and Financial
Condition  Liquidity, Capital Resources,
and Financial Condition contained elsewhere in this report
for further discussion regarding these revised estimates.

The Company has invested in mortgage-backed
interest-only certificates that have been determined to include
an embedded derivative financial instrument as defined by SFAS
No. 133, Accounting for Derivative Instruments and
Hedging Activities. Changes in the fair value of these
derivative financial instruments are recorded as investment
income. A key assumption in the determination of the fair value
of these instruments is an assumption regarding pre-payment
rates. A change in the pre-payment rate assumption could affect
the

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pricing of these instruments, which could have a
material impact on net income. The Companys accounting
policy for derivative financial instruments is described in
Note 1 of the Notes to Unaudited Condensed Consolidated
Financial Statements contained elsewhere in this report


Effects of New Accounting
Pronouncements

In November 2002, the Financial Accounting
Standards Board (FASB) issued FASB Interpretation
No. 45. Guarantors Accounting and Disclosure
Requirements for Guarantees of Indebtedness of Others
(FIN No. 45). This interpretation clarifies
disclosures required to be made by a guarantor in its interim
and annual financial statements and requires a guarantor to
recognize, at the inception of the guarantee, a liability for
the fair value of the obligation undertaken in issuing the
guarantee. The provisions of FIN No. 45 pertaining to the
recording of a liability are effective for all guarantees
entered into, or modified, after December 31, 2002. The
disclosure requirements of FIN No. 45 are effective for
financial statements of interim or annual periods ending after
December 31, 2002. APCapital has issued guarantees in
connection with its establishment of trusts and issuance of
debentures. The amounts due under the guarantees are also
recorded as liabilities in the Companys consolidated
financial statements in accordance with the structure of the
transaction. See Note 7 for further details on the nature
of the guarantees and the transaction that gave rise to the
guarantees.

In January 2003, the Financial Accounting
Standards Board (FASB) issued FASB Interpretation
No. 46, Consolidation of Variable Interest
Entities (FIN No. 46). This
interpretation addresses consolidation by business enterprises
of variable interest entities and is effective immediately for
all variable interest entities created after January 31,
2003 and for the fiscal year or interim period beginning after
June 15, 2003 for all variable interest entities in which
the Company holds a variable interest that it acquired before
February 1, 2003. The Company has evaluated certain of its
investments, as required by FIN No. 46, and has determined
that its investments in statutory trusts used to issue
mandatorily redeemable trust preferred securities should not be
consolidated. Accordingly, the Company has not consolidated the
trusts in the Unaudited Condensed Consolidated Financial
Statements included elsewhere in this report.

Other

Subsequent to the close of the third quarter, the
Company has received a downgrade in its A.M. Best Company rating
from A-, which is classified as
Excellent, to B++, which is classified
as Very Good. Both ratings are considered
secure ratings by A.M. Best Company.



|        |                                                               
|------- | --------------------------------------------------------------
|Item 3. | Quantitative and Qualitative Disclosures About
    Market Risk

General

Market risk is the risk of loss due to adverse
changes in market rates and prices. As of September 30,
2003, the majority of our investment portfolio was invested in
fixed maturity securities, which are interest-sensitive assets,
and cash and cash equivalents. Accordingly, our primary market
risk is exposure to changes in interest rates. The fixed
maturity securities primarily consisted of U.S. government and
agency bonds, high-quality corporate bonds, high-yield corporate
bonds, mortgage-backed securities and tax-exempt U.S. municipal
bonds.

Qualitative Information About Market
Risk

Investments in our portfolio have varying degrees
of risk. The primary market risk exposure to the fixed maturity
portfolio is interest rate risk, which is limited somewhat by
our management of duration. The distribution of maturities and
sector concentrations are monitored on a regular basis.

At September 30, 2003, approximately 92.0%
of our fixed maturity portfolio (excluding approximately
$24.5 million of private placement issues) was considered
investment grade. Non-investment grade securities typically bear
more credit risk than those of investment grade quality. Credit
risk is the risk that amounts due the Company by creditors may
not ultimately be collected.

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We periodically review our investment portfolio
for any potential credit quality or collection issues and for
any securities with respect to which we consider any decline in
market value to be other than temporary. Investments which are
considered to be OTTI are written down to their estimated net
realizable value as of the end of the period. We utilize both
quantitative and qualitative evaluation methods to evaluate the
potential for OTTI. During the three months and nine months
ended September 30, 2003 we recorded an impairment charge
of $300,000 and $1.3 million, respectively, on enhanced
equipment trust certificates that were issued by Delta Airlines.
During the three months and nine months ended September 30,
2002 we recorded an impairment charge of $390,000 related to
Frontier bonds. At September 30, 2003, the Company has
remaining investments in Frontier and the Delta enhanced
equipment trust certificates of $325,000 and $5.4 million,
respectively, included in the Unaudited Condensed Consolidated
Balance Sheet included elsewhere in this report.

In June 2003, the Company invested approximately
$20 million in mortgage-backed securities and allocated an
additional $50 million for high-yield corporate bonds and
$6 million for equity investments. Through
September 30, 2003, approximately $47 million of the
high-yield allocation and $5.5 million of the equity
allocation had been invested. High-yield corporate bonds are
typically not investment grade.

Approximately $15 million of the
mortgage-backed securities purchased are interest-only
certificates. Unlike traditional fixed-maturity securities, the
fair value of these investments is not inversely related to
interest rates, but rather, moves in the same direction as
interest rates as the underlying financial instruments are
mortgage-backed securities. With mortgage-backed securities, as
interest rates rise, prepayments will decrease, which means that
the interest-only certificates will generate interest for a
longer period of time than originally anticipated, which in turn
will increase the market value of these investments.

In addition, approximately $8 million of
these interest-only certificates have an inverse floating rate
of interest tied to LIBOR. The Company has determined that these
inverse floating interest-only certificates contain
an embedded derivative as defined by SFAS No. 133. Because
the Company cannot readily segregate the fair value of the
embedded derivative from the host debt instrument, the entire
change in the fair value of these inverse floating interest-only
certificates is reported in earnings as investment income. For
the three and nine months ended September 30, 2003,
approximately $65,000 and $465,000, respectively, was included
in investment income for the change in fair value of the inverse
floating interest-only certificates.

Quantitative Information About Market
Risk

At September 30, 2003, our fixed income
security portfolio was valued at $686.0 million and had an
average modified duration of 3.07 years, compared to a
portfolio valued at $618.9 million with an average modified
duration of 3.20 years at December 31, 2002. The
following table shows the effects of a change in interest rates
on the fair value and modified duration of our portfolio. We
have assumed an immediate increase or decrease of 1% or 2% in
interest rate for illustrative purposes. You should not consider
this assumption, or the values shown in the table, to be a
prediction of actual future results.

|                |  |                        |         |  |                   |   |         |          |  |  |           |  |  |           |         |  |          |   |         |   |  |  |      | 
|--------------- |  | ---------------------- | ------- |  | ----------------- | - | ------- | -------- |  |  | --------- |  |  | --------- | ------- |  | -------- | - | ------- | - |  |  | ---- | 
|                |  |                        |         | 
|                |  | September 30, 2003     |         |  | December 31, 2002 |  
|                |  |                        |         |  |                   |  
|                |  | Portfolio              |         |  | Change in         |   |         | Modified |  |  | Portfolio |  |  | Change in |         |  | Modified |  
|Change in Rates |  | Value                  |         |  | Value             |   |         | Duration |  |  | Value     |  |  | Value     |         |  | Duration |  
|                |  |                        |         |  |                   |   |         |          |  |  |           |  |  |           |         |  |          |  
|                |  |                       
|                |  | (Dollars in thousands) |        
|+2%             |  | $                      | 651,643 |  |                   | $ | (34,369 | )        |  |  | 3.10      |  |  | $         | 581,066 |  |          | $ | (37,833 | ) |  |  | 2.94 | 
|+1%             |  |                        | 668,780 |  |                   |   | (17,232 | )        |  |  | 2.92      |  |  |           | 599,244 |  |          |   | (19,655 | ) |  |  | 2.97 | 
|0               |  |                        | 686,012 |  |                   |   |         |          |  |  | 3.07      |  |  |           | 618,899 |  |          |   |         |   |  |  | 3.20 | 
|-1%             |  |                        | 700,695 |  |                   |   | 14,683  |          |  |  | 2.90      |  |  |           | 639,729 |  |          |   | 20,830  |   |  |  | 3.26 | 
|-2%             |  |                        | 720,402 |  |                   |   | 34,390  |          |  |  | 2.97      |  |  |           | 661,713 |  |          |   | 42,814  |   |  |  | 3.37 | 

Item 4.     Controls
and Procedures

As of the end of the period covered by this
report, the Company carried out an evaluation, under the
supervision and with the participation of the Companys
management, including its Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and
operation of the Companys disclosure

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controls and procedures pursuant to
Rule 13a-15 of the Securities Exchange Act of 1934. Based
upon that evaluation, the Companys Chief Executive Officer
and Chief Financial Officer concluded that the Companys
disclosure controls and procedures are effective to cause the
material information required to be disclosed by the Company in
the reports that it files or submits under the Securities
Exchange Act of 1934 to be recorded, processed, summarized and
reported within the time periods specified in the SECs
rules and forms. There have been no changes in the
Companys internal controls over financial reporting during
the quarter ended September 30, 2003 that have materially
affected, or are reasonably likely to materially affect the
Companys internal controls over financial reporting.


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PART II. OTHER INFORMATION




|        |                                              
|------- | ---------------------------------------------
|Item 2. | Changes in Securities and Use of
    Proceeds

(c) On October 29, 2003, a subsidiary
trust of the Company issued $20 million of mandatorily
redeemable trust preferred securities (TPS) to a
trust formed by FTN Financial Capital Markets and Keefe,
Bruyette & Woods, Inc. The Companys trust received a
total of $19.4 million in net proceeds, after the deduction
of a total of approximately $600,000 of commissions paid to the
placement agent in the transaction. The proceeds were invested
in a debenture issued by the Company, as described in
Item 2. Managements Discussion and Analysis of
Financial Condition and Results of Operations 
Liquidity, Capital Resources and Financial Condition
included elsewhere in this report.

The Companys trust sold the TPS in a
non-public offering pursuant to Section 4(2) of the
Securities Act of 1933, as amended, or alternatively, in an
offshore transaction pursuant to Regulation S. The Company
believes these exemptions were available because the TPS was
sold in a private transaction to a trust organized outside the
United States by an institutional accredited investor
sophisticated and experienced with investments similar to the
TPS, subject to resale limitations and offering restrictions.



|        |                                     
|------- | ------------------------------------
|Item 6. | Exhibits and Reports on
    Form 8-K

(a) Exhibits.

| |      |  |  |                                                                                                                                                                                                            
| | ---- |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 4.1  |  |  | Indenture relating to Floating Rate Junior
    Subordinated Deferrable Interest Debentures Dated As Of
    October 29, 2003                                                                                
| | 10.1 |  |  | Amended And Restated Declaration Of Trust Dated
    As Of October 29, 2003 by and among U.S. Bank National
    Association, American Physicians Capital, Inc., William B.
    Cheeseman and Frank H. Freund
| | 10.2 |  |  | Placement Agreement, dated October 16, 2003
    between the Company, American Physicians Capital Statutory
    Trust III, FTN Financial Capital Markets and Keefe
    Bruyette & Woods, Inc.               
| | 10.3 |  |  | Guarantee Agreement Dated As Of October 29,
    2003 by and between U.S. Bank National Association and
    American Physicians Capital, Inc.                                                               
| | 31.1 |  |  | Certification of Chief Executive Officer pursuant
    to Rule 13a-14(a) under the Securities Exchange Act of 1934.                                                                                         
| | 31.2 |  |  | Certification of Chief Financial Officer pursuant
    to Rule 13a-14(a) under the Securities Exchange Act of 1934.                                                                                         
| | 32   |  |  | Certification of Chief Executive Officer and
    Chief Financial Officer pursuant to 18 U.S.C.
    Section 1350 and Rule 13a-14(b) under the Securities
    Exchange Act of 1934.                          

(b) Reports on Form 8-K.

The Company filed reports on Form 8-K on
(1) July 16, 2003, disclosing under Items 7 and 9
that it had issued a press release announcing the resignation of
Raymond Jacobsen, Chief Executive Officer of the Companys
workers compensation business unit;
(2) August 7, 2003, disclosing under Items 9 and
12 that it had issued a press release announcing its financial
results for the three months and six months ended
June 30, 2003 and certain other information; and
(3) September 9, 2003, disclosing under Items 7
and 9 that it had issued a press release announcing its
participation in a panel discussion at the Sandler ONeill
Insurance Conference. The information included in these reports
was considered furnished rather than filed. No financial
statements were filed with these reports.

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SIGNATURES


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

Date: November 14, 2003



| |                                  
| | ---------------------------------
| | AMERICAN PHYSICIANS CAPITAL, INC.



| |     |                         
| | --- | ------------------------
| | By: | /s/ WILLIAM B. CHEESEMAN

| |                                           
| | ------------------------------------------
| |                                           
| | William B. Cheeseman                      
| | Its: President and Chief Executive Officer



| |     |                    
| | --- | -------------------
| | By: | /s/ FRANK H. FREUND

| |                                          
| | -----------------------------------------
| |                                          
| | Frank H. Freund                          
| | Its: Executive Vice President, Treasurer,
| | Chief Financial Officer and              
| | principal accounting officer             

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EXHIBIT INDEX


|            |      |  |                     |                                                                                                                                                                                                            
|----------- | ---- |  | ------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit No. |      |  | Exhibit Description
|            |      |  |                    
|            | 4.1  |  |                     | Indenture relating to Floating Rate Junior
    Subordinated Deferrable Interest Debentures Dated As Of
    October 29, 2003                                                                                
|            | 10.1 |  |                     | Amended And Restated Declaration Of Trust Dated
    As Of October 29, 2003 by and among U.S. Bank National
    Association, American Physicians Capital, Inc., William B.
    Cheeseman and Frank H. Freund
|            | 10.2 |  |                     | Placement Agreement, dated October 16, 2003
    between the Company, American Physicians Capital Statutory
    Trust III, FTN Financial Capital Markets and Keefe
    Bruyette & Woods, Inc.               
|            | 10.3 |  |                     | Guarantee Agreement Dated As Of October 29,
    2003 by and between U.S. Bank National Association and American
    Physicians Capital, Inc.                                                               
|            | 31.1 |  |                     | Certification of Chief Executive Officer pursuant
    to Rule 13a-14(a) under the Securities Exchange Act of 1934.                                                                                         
|            | 31.2 |  |                     | Certification of Chief Financial Officer pursuant
    to Rule 13a-14(a) under the Securities Exchange Act of 1934.                                                                                         
|            | 32   |  |                     | Certification of Chief Executive Officer and
    Chief Financial Officer pursuant to 18 U.S.C.
    Section 1350 and Rule 13a-14(b) under the Securities
    Exchange Act of 1934.                          

38