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                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

[x]     ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                                   ACT OF 1934

                   For the fiscal year ended December 31, 1996

                                       OR

[ ]   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
                              EXCHANGE ACT OF 1934
                 For the transition period from            to

                         COMMISSION FILE NUMBER 0-15022

                         FRONTIER INSURANCE GROUP, INC.
             (Exact name of Registrant as specified in its charter)

                DELAWARE                                   14-1681606
     (State or other jurisdiction of                    (I.R.S. Employer
     incorporation or organization)                    Identification No.)

195 LAKE LOUISE MARIE ROAD, ROCK HILL, NEW YORK            12775-8000
(Address of principal executive offices)                    (Zip Code)

       Registrant's telephone number, including area code: (914) 796-2100
 
          Securities registered pursuant to Section 12(b) of the Act:

                                                      Name of Each Exchange
          Title of Each Class                          on which Registered
      ----------------------------                   -----------------------
      Common Stock, $.01 par value                   New York Stock Exchange

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.

                 [x] Yes                                      [  ] No

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

The aggregate  market value of the voting stock (Common  Stock,  $.01 par value)
held by  non-affiliates  of the Registrant was  $637,733,039  on March 18, 1997,
based on the closing sales price of the Common Stock on such date.

The aggregate number of shares of the Registrant's Common Stock, $.01 par value,
outstanding on March 18, 1997, was 14,702,779.

                      Documents incorporated by reference:

                                      None

================================================================================


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"SAFE HARBOR"  STATEMENT UNDER THE PRIVATE  SECURITIES  LITIGATION REFORM ACT OF
1995:  This Annual Report,  on Form 10-K,  contains  forward-looking  statements
within the meaning of Section 27A of the  Securities Act of 1933 and Section 21E
of the  Securities  Exchange  Act of 1934 which are not  historical  facts,  and
involve  risks and  uncertainties  that  could  cause  actual  results to differ
materially  from those  expected  and  projected.  Such risks and  uncertainties
include the following:  general economic  conditions and conditions  specific to
the property and casualty  insurance  industry  including  its cyclical  nature,
regulatory  changes  and  conditions,  rating  agency  policies  and  practices,
competitive factors,  claims development and the impact thereof on loss reserves
and the Company's reserving policies,  the adequacy of the Company's reinsurance
programs, developments in the securities markets and the impact on the Company's
investment portfolio,  the success of the Company's acquisition program, changes
in generally  accepted  accounting  principles  and the risk factors listed from
time  to time in the  Company's  Securities  and  Exchange  Commission  filings.
Accordingly,  there can be no assurance  that the actual results will conform to
the forward-looking statements in the Annual Report.

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


                                     PART I

Item 1.  Business.

General

The  Company  is an  insurance  holding  company  which,  through  its direct or
indirect  wholly-owned  subsidiaries,   Frontier  Insurance  Company  ("Frontier
Insurance"),  Medical  Professional  Liability Agency, Ltd. ("Med Pro"), Pioneer
Claim  Management,   Inc.   ("Pioneer"),   Frontier  Pacific  Insurance  Company
("Frontier  Pacific," formerly  Contractors'  Surety Company),  Spencer Douglass
Insurance Associates  ("SDIA"),  United Capitol Holding Company ("United Capitol
Holding"),   United  Capitol  Insurance  Company  ("United  Capitol"),   Olympic
Underwriting  Managers,  Inc.  ("Olympic"),  Fischer  Underwriting  Group,  Inc.
("Fischer"),   Regency  Financial  Corporation  ("Regency  Financial"),  Regency
Insurance  Company  ("Regency") and Emrol  Installment  Premium  Discount,  Inc.
("Emrol"), and its 50% ownership of Douglass/Frontier LLC ("Douglass/Frontier"),
conducts  business as a specialty  property and casualty  insurer and reinsurer,
and performs claims adjusting and management services.  Frontier Insurance,  the
Company's principal insurance company subsidiary, was acquired by the Company in
April 1986. Med Pro, which underwrites the majority of the Company's medical and
dental malpractice programs,  was acquired by the Company in June 1987. Pioneer,
which performs claims adjusting and claims management services for the Company's
insurance  lines,  was organized  and commenced  business in October 1989 as the
successor  to a  claims  adjusting  company.  Frontier  Pacific,  the  Company's
California  insurance company subsidiary,  was acquired by Frontier Insurance in
October 1991 and changed its name from Contractors'  Surety Company in September
1993.  SDIA was acquired by the Company in April 1994 and is involved in placing
and servicing  license and permit bond business in California  and other western
states.  Douglass/Frontier  was  formed  as a joint  venture  in May 1995 and is
involved in placing and servicing  bail bond business.  United Capitol  Holding,
which was acquired by Frontier  Insurance in May 1996, through its subsidiaries,
United Capitol, Olympic and Fischer,  conducts business as an excess and surplus
lines  insurer  and as an  underwriting  management  company for  directors' and
officers' liability and property  coverages.  Regency Financial was organized by
the Company in June 1996 to acquire Regency,  a non-standard  automobile insurer
and Emrol, a premium finance company,  which were so acquired in September 1996.
In February  1996, the Company  acquired a 33% ownership  interest in Townsquare
Title  Insurance  Services,  which owns United General Title  Insurance  Company
("United  General").  In October 1996,  the Company  formed  Frontier  Financing
Trust,  a Delaware  statutory  business  trust,  for the sole purpose of issuing
certain convertible  preferred  securities and investing the proceeds thereof in
an equivalent amount of convertible  subordinated debentures of the Company. The
financial  statements of Frontier  Financing Trust have been  consolidated  with
those of the Company.  See  "Management's  Discussion  and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources," and NOTE
M of the NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS.

The  Company's  underwriting  strategy is to identify  niche markets or programs
that are  unattractive to other insurers due to the limited  potential market or
perceived excessive risks, which the Company

                                        2

<PAGE>

<PAGE>

believes  afford  favorable  opportunities  for  profitability  due  to  limited
potential competition and the Company's innovative  underwriting and value added
services,  principally  risk management,  coverage  enhancements and specialized
claims  management.  The Company  underwrites  specialty niche market  programs,
including  medical and dental  malpractice for  physicians,  social service care
providers,  alternative  risk  physicians,   psychiatrists,   chiropractors  and
dentists,  predominantly  in New  York,  Florida,  Illinois,  Ohio,  Texas,  and
Michigan.  The Company also  underwrites a variety of specialty  programs  under
general liability,  together with workers' compensation,  surety bonds for small
contractors,  contractor  license bonds,  license and permit bonds,  bail bonds,
custom bonds,  commercial  earthquake and other miscellaneous lines. The medical
and dental malpractice programs are currently produced on a direct basis through
Med Pro and are also marketed,  together with all other lines, through a network
of independent general agents and retail brokers.

Frontier  Insurance is licensed as a property and casualty insurer in 49 states,
the District of Columbia,  Puerto Rico and the Virgin  Islands,  and is rated A-
(Excellent) by A.M. Best Company,  Inc ("A.M. Best").  Additionally,  Standard &
Poor's  Insurance  Rating  Services  has given  Frontier  Insurance  an  Insurer
Claims-Paying Ability Rating of A+ (Excellent).  Frontier Pacific is licensed in
California and Nevada and is rated A-  (Excellent) by A.M. Best.  United Capitol
is licensed as a property and casualty  writer in Arizona and  Wisconsin,  is an
approved   excess  and  surplus   lines  insurer  in  47  states  and  is  rated
A-(Excellent)  by A.M.  Best;  Regency is  licensed as a property  and  casualty
writer in North  Carolina and South Carolina and is rated A- (Excellent) by A.M.
Best;  and United General is licensed as a title insurer in 30 states and is not
rated by A.M.  Best.  A.M.  Best's and Standard & Poor's ratings are based on an
analysis of the financial  condition and  operations of an insurance  company as
they relate to the industry in general,  are not designed for the  protection of
investors  and do not  constitute  recommendations  to buy,  sell  or  hold  any
security.

The  following  chart  provides  examples  of  typical  niche   markets/programs
underwritten by the Company for specific types of customers:
<TABLE>
<CAPTION>

Customer Type                      Coverage/Line of Business              Hypothetical Claim
-------------                      -------------------------              ------------------
<S>                               <C>                                      <C>
Doctors and dentists               professional liability                 patient injured

White water raft operators         general liability                      rafter injured through
                                                                          operator's negligence

Social service agencies            professional liability, general        client sues agency or
                                   liability, fire                        professional

Crane operators                    general liability                      crane damages a third
                                                                          party's property

Alarm installers                   general liability                      house is burglarized
                                                                          through faulty alarm
                                                                          installation

Small-construction contractors     surety bonds                           electrician or plumber
                                                                          fails to complete job

Self-Insured employers             excess worker's compensation/          workers'  compensation
                                   employer's liability                   loss exceeds
                                                                          employer's self-insured
                                                                          retention

Importers                          customs bonds                          importer fails to pay duty

Commercial property owners         earthquake (difference in conditions)  earthquake damages
                                                                          to building or disrupts
                                                                          operations
</TABLE>

                                             3

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Insurance Lines

The following  table sets forth the gross and net premiums by principal lines of
insurance  written by the Company and the related  percentages of the total such
premiums represented thereby for the year ended December 31, 1996:

<TABLE>
<CAPTION>

                                            Gross Premiums Written         Net Premiums Written
                                            -----------------------        ---------------------
                                              Dollars   Percentage          Dollars Percentage
                                              -------    ---------          ------- ----------
                                                       (dollar amounts in thousands)
<S>                                          <C>            <C>            <C>          <C>  
Medical malpractice (Including
   dental malpractice and social services)   $139,233       34.6%          $119,653     38.4%
General liability                             113,423       28.2             93,980     30.1
Surety                                         65,381       16.2             56,632     18.2
Workers' compensation                          25,429        6.3              6,253      2.0
Commercial earthquake                          16,541        4.1             11,904      3.8
Other                                          42,792       10.6             23,441      7.5
                                            ---------     ------         ----------  -------
    Total                                    $402,799      100.0%          $311,863    100.0%
                                             ========      =====           ========    =====
</TABLE>



Medical Malpractice

The Company commenced  underwriting medical malpractice  insurance in 1981 under
programs developed for physicians with varied practices, which include part-time
physicians, internists, physicians and other health care professionals providing
medical  services to clients of social service care  facilities  (mental health,
home  care,   etc.),   family   practitioners,   psychiatrists,   chiropractors,
dermatologists,  and other  specialists.  Physicians covered under the Company's
programs  generally must be members of a national,  state, or county society for
their particular  specialty and must limit their practice to such specialty,  or
be employed by a social services care facility, or be in practice or employed on
a part-time basis. The Company has implemented strict underwriting guidelines in
an attempt to  screen-out  undesirable  risks and reduce its  exposure.  Medical
malpractice  insurance  is written by the  Company on both an  occurrence  and a
claims made basis predominantly in New York, Florida, Illinois, Ohio, Texas, and
Michigan.  Additionally,  the Company markets a specialty program for physicians
unable to  obtain  traditional  malpractice  coverage  as a result of  excessive
malpractice claims, professional disciplinary proceedings and/or drug or alcohol
abuse.  Coverage  under this program is written with a deductible  and is priced
substantially higher than the Company's standard medical malpractice programs.

At December  31,  1996,  approximately  17,500  physicians  were  insured by the
Company,  of whom 600,  or 3.4%,  were  employed  as faculty  members at medical
schools of the State  University  of New York  ("SUNY"), 12,300, or 70.3%,  were
physicians  who were  members  of 19  medical  associations  which  endorsed  or
approved the Company's  medical  malpractice  insurance  program,  and 4,600, or
26.3% were  physicians  and other health care  professionals  providing  medical
services covered by the Company's social services care insurance program.  Since
December  31,  1990,  the number of SUNY  physicians  insured by the Company has
decreased by approximately 430,  attributable to increased competition and other
factors,  including  a 1990  decision  by the New York  State  Court  of  Claims
relating  to  SUNY  physicians  in  favor  of  the  Company.  See  "Management's
Discussion    and   Analysis   of   Financial    Condition    and   Results   of
Operations--Litigation with the State of New York."

Dental Malpractice

In August 1987, the Company commenced  underwriting dental malpractice insurance
for  dentists  viewed by the Company as preferred  risks.  Dentists who practice
oral surgery or who utilize anesthesia to render their patients unconscious are,
among others, not viewed as preferred risks and, accordingly,

                                        4

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are not eligible for coverage.  As with medical malpractice,  the endorsement of
related  professional   organizations  is  a  key  element  in  marketing;   the
endorsement  by the Academy of General  Dentistry in 1994 has proven  especially
beneficial.  Dental  malpractice is written by the Company  predominantly in New
York, Florida, and Ohio. At December 31, 1996, approximately 4,900 dentists were
insured by the Company under its dental malpractice program.

General Liability

The Company underwrites general liability coverages for day care centers,  crane
operators,  white  water  rafting,  health and social  services  programs,  pest
control operators,  fire protection  equipment dealers and installers,  security
guards,  excess  workers'  compensation/employer's  liability  for  self-insured
employers,  and a variety of other programs.  Further,  the Company  underwrites
umbrella  coverage  up to $5  million  over an  underlying  $1  million  general
liability   coverage.   The  Company's   specialty  insurance  programs  include
environmental  policies covering  enumerated  hazards with stated policy limits.
Although the Company  believes that such  policies,  together with the Company's
general,  professional and other liability policies,  do not subject the Company
to material  exposure for environmental  pollution claims,  there can be no such
assurance  in view of the  expansion of liability  for  environmental  claims in
recent litigation.

Surety

The Company directly  underwrites  surety bonds for small  contractors,  customs
bonds,  contractor  license  bonds,  bail bonds,  license and permit bonds,  and
self-insured employer's workers' compensation bonds.

Workers' Compensation

The Company underwrites workers' compensation coverage for cotton gins, jockeys,
feed  lots,  and other  specialty  niches.  Additionally,  the  Company  assumes
workers' compensation business as a result of its required  participation in the
National  Workers'  Compensation  Reinsurance  Pool and  other  residual  market
mechanisms.  Due  to  adverse  underwriting  results,  competitive  pricing  and
competition, the Company discontinued all workers' compensation business in 1993
except its cotton  gin and  feedlot  programs  in Texas,  its New Jersey  jockey
program,  and its social services program.  During 1996, the Company established
an alternative risk division and commenced  underwriting  workers'  compensation
coverage in conjunction with other programs.

Commercial Earthquake

In July 1995,  the  Company  commenced  underwriting  difference  in  conditions
("DIC") commercial  earthquake  policies under an agreement with a subsidiary of
Associated  International  Insurance  Company  ("Associated").  Pursuant  to the
agreement,  the Company and  Associated  underwrite  DIC  commercial  earthquake
policies  through a companion  carrier  facility  with  combined  limits of $7.5
million,  with two-thirds of the new and renewal policies being  underwritten by
Associated  and  one-third by the Company.  The  agreement  may be terminated by
either party upon 90 days' notice.

Other

The  Company  underwrites  other  lines  of  insurance,   including   commercial
multi-peril,  inland  marine,  ocean  marine,  property,  specialty  homeowners,
non-standard  auto,  and excess of loss group  accident and health.  In 1996 the
Company  began  to  assume,  on  a  quota  share  basis,   homeowners   business
underwritten by Omega Insurance Company.

Reinsurance

On July 1, 1996, the Company obtained  catastrophe  reinsurance coverage for its
homeowners  business  written,  which  provides  coverage  in the  amount of $14
million excess of a $1 million retention.

                                        5

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The Company  reinsures its ocean marine and  international  risks under multiple
layers of excess  reinsurance which provides coverage up to $9.95 million excess
of  $50,000  per  occurrence,  excess  of  an aggregate retention of $200,000 of
loss  occurrences  in  excess  of  $50,000.  Prior  to 1997,  the  Company  also
reinsured  ocean marine  business  written by its  subsidiary,  United  Capitol,
retaining  the first  $250,000  per  occurrence  and ceding up to $7.75  million
excess  of  $250,000,  per  occurrence  under  a  program led by Underwriters at
Lloyds on a losses occurring basis.  Effective January 1, 1997, this program was
replaced  by a similar  program  written  on a risks  attaching  basis by Munich
American Reinsurance Company and Munich Reinsurance Company, U.S. branch.

The Company cedes 100% of its environmental  liability  business to Underwriters
Reinsurance Company.  The Company reassumes 10% of this business,  together with
10%  of  the  environmental   liability  business   underwritten  by  Commercial
Underwriters Insurance Company and Underwriters Reinsurance Company. During 1995
and 1996, the Company  assumed mobile  homeowners  business from Omega Insurance
Company,  errors and omission  business which it acquired from Bankers  Multiple
Line Insurance Company ("BMLIC"),  in 1995. The Company also assumes reinsurance
from its required  participation  in residual  market pools such as the National
Workers' Compensation Reinsurance Pool.

Effective  January 1, 1995,  the Company  entered  into a stop loss  reinsurance
contract  with Centre  Reinsurance  Company of New York  ("Centre Re") for 1995,
1996 and 1997. Under the terms of the agreement,  Centre Re provides reinsurance
protection  for  losses  and LAE in  excess  of a  predetermined  ratio of these
expenses  to net  premiums  earned  for a given  accident  year for all lines of
business except certain  classes of surety bonds,  realtors errors and omissions
and all of the net premiums earned from United Capitol and Regency. The loss and
LAE ratio above which the reinsurance provides coverage is 66%, 65%, and 64% for
accident years 1995 through 1997,  respectively.  The maximum amount recoverable
for an accident year is 175% of the  reinsurance  premium paid for that accident
year, or $162.5  million in the aggregate  for the three years.  The  additional
reinsurance  coverages  described  herein are underlying  reinsurance  coverages
which inure to the benefit of this stop loss contract.

Effective July 15, 1995, the Company  implemented a program,  with 26 reinsurers
for its commercial Difference in Condition ("DIC") earthquake program, through a
per risk  excess  of loss  agreement  and four  layers  of  inuring  catastrophe
reinsurance.  The catastrophe layers attach at $2.5 million per occurrence up to
$40  million  per  occurrence  and allow one full  reinstatement  per year.  The
Company retains $50,000 per risk, $2.5 million per occurrence.

Effective  January  1,  1996,  the  Company  entered  into a  clash  reinsurance
agreement with Mutual  Assurance,  Inc.,  the Doctors'  Insurance  Company,  and
Reliance  Insurance  Company with respect to its medical  malpractice  business.
Under the  agreement,  reinsurance  is provided  to the Company for  occurrences
involving  multiple   physicians  for  $3  million  excess  of  $2  million  per
occurrence, subject to an aggregate of $6 million.

The majority of the Company's ceded business is reinsured by Centre  Reinsurance
Company of New York, Swiss  Reinsurance  America  Corporation,  and its umbrella
liability  business  by Munich  American  Reinsurance  Company. During 1996, the
Company reinsured a large workers' compensation program with the Commercial Risk
Re-Insurance Company.

Munich American Reinsurance Company is currently rated A+ (Superior), and Centre
Reinsurance  Company of New York and Swiss Reinsurance  America  Corporation are
currently rated A (Excellent) by A.M. Best Company, Inc.

                                        6

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<PAGE>

The  following  table is a  summary  of the  maximum  amount  of loss  typically
retained and ceded by the Company's  insurance  subsidiaries  as of December 31,
1996  (exclusive  of  facultative  reinsurance  and  the  Centre  Re  stop  loss
contract):

<TABLE>
<CAPTION>

                                         Maximum Retained Loss          Maximum Ceded Loss
                                             Per Occurrence/              Per Occurrence/
                                             Risk/Principal               Risk/Principal
                                         ----------------------         ------------------------
                                                    (dollar amounts in thousands)

<S>                                          <C>                            <C>     
Property lines                               $    500                       $  9,500
Casualty lines (excluding medical
  malpractice, health specialties,
  and social services)                          1,000                          4,000
Medical malpractice, health
  specialties and social services               1,000 (1)                      1,000
Workers' compensation                           1,000                          2,000
Surety                                          1,000 (3)                      4,000  (3)
Custom bonds                                    3,000 (4)                       N/A
Umbrella liability                              1,000                          4,000
Group accident and health                         250                            750
Excess workers' compensation/
  employers' liability                          1,000 (5)                      9,000  (5)
Earthquake                                      2,500 (2)                     47,500  (2)
Homeowners                                      1,000 (6)                     14,000  (6)
Ocean marine                                      250                          9,750
Directors and officers liability                1,000                          4,000
</TABLE>


----------
(1)   For  certain  risks  and  policy  years,  the  maximum  retained  loss per
      occurrence is $.5 million.  On a very limited basis,  the maximum retained
      loss per occurrence is $2 million.

(2)   Amounts  relate  to  the  contract   effective   January  1,  1997,  which
      catastrophe  layers  in  excess  of  $2.5  million  are  subject  to  a 5%
      coinsurance.

(3)   Effective  December 1, 1995, a layer of excess reinsurance was added for a
      maximum limit of $10 million per principal on a direct basis, $2.1 million
      on a net basis.

(4)   Amount  indicated is the maximum  face amount  (limit) on the bond issued,
      which  represents  the value of goods being  imported  that are subject to
      U.S. Customs duty. The actual exposure to the Company is the amount of any
      unpaid duty on the goods imported, which is generally approximately 15% of
      the face value of the goods,  and any penalties  associated  with the late
      payment of the duty.

(5)   Subject to a  catastrophe  retention  of $3 million per  occurrence  and a
      maximum ceded loss of $40 million per occurrence.

(6)   Excludes  the  effects of the  Company's  5%  retention  of $14 million in
      losses in excess of $1 million.


                                        7

<PAGE>

<PAGE>

Marketing

The Company  relies on multiple  distribution  channels to market its  insurance
products. Medical malpractice and dental malpractice insurance are produced on a
direct  basis by Med Pro and by  independent  brokers  and  agents.  License and
permit bonds are  marketed  directly by Frontier  Pacific and SDIA,  and through
independent  brokers and agents.  Bail bonds are  produced by  Douglass/Frontier
through a nationwide network of bail bondsmen.

The Company  relies  primarily on independent  insurance  agencies and insurance
brokerage  firms to generate sales of its remaining  lines of business.  General
liability, workers' compensation, multi-peril and property policies are produced
through  general agents,  principally in California,  Florida,  New Jersey,  New
York,  Pennsylvania,  and Texas,  and selected  small  agencies in New York on a
brokerage  basis.  Surety  bonds  for small  contractors  are  produced  through
independent  insurance  agents acting as retail  brokers and general  agents and
several small  insurance  companies which also act as reinsurers on the business
they produce.  Custom bonds are produced  through a specialty agency in New York
which derives the business from a nationwide  network of customs brokers located
in the various ports of entry.

The following  tables set forth for the three years ended December 31, 1996, the
gross and net premiums written produced  internally and by independent  agencies
and  brokerage  firms,  no one of  which  accounted  for  more  than  5% of such
premiums:
<TABLE>
<CAPTION>

                                                     Year Ended December 31
                            ---------------------------------------------------------------------
                                       1996                    1995                  1994
                             --------------------   -----------------------    ---------------
                             Premiums     Percent     Premiums     Percent     Premiums   Percent
                              Written    of Total      Written    of Total      Written  of Total
                            ----------   --------     --------    --------     ---------  --------
                                                 (dollar amounts in thousands)
<S>                          <C>            <C>        <C>            <C>        <C>         <C>  
GROSS PREMIUMS

  Internal                   $  78,411      19.5%      $ 56,118       21.2%      $ 48,099    24.2%
  All others                   324,388      80.5        208,196       78.8        150,793    75.8
                             ---------    ------      ---------     ------      ---------  ------
  Total                       $402,799     100.0%      $264,314      100.0%      $198,892   100.0%
                              ========     =====       ========      =====       ========   =====


NET PREMIUMS

  Internal                   $  56,511      18.1%     $  49,126       22.3%      $ 47,050    25.1%
  All others                   255,352      81.9        171,631       77.7        140,238    74.9
                             ---------    ------      ---------     ------      ---------  ------
  Total                       $311,863     100.0%      $220,757      100.0%      $187,288   100.0%
                              ========     =====       ========      =====       ========   =====

</TABLE>



Operating Ratios

Statutory Combined Ratio

The  statutory  combined  ratio  is  the  traditional  measure  of  underwriting
experience for insurance companies.  Generally,  if the statutory combined ratio
is below 100%,  an  insurance  company has an  underwriting  profit and if it is
above 100%, the insurer has an underwriting loss.

                                        8

<PAGE>

<PAGE>

The following  table reflects the  consolidated  statutory loss ratios,  expense
ratios  and  combined  ratios  of  the  Company's  primary  insurance  operating
subsidiaries,  Frontier Insurance,  Frontier Pacific  and,  from  May  and  July
1996,  United Capitol and Regency,  respectively,  determined in accordance with
statutory  accounting  practices,   together  with  the  property  and  casualty
industry-wide  statutory  combined  ratios  after  policyholders'  dividends  as
compiled by A.M. Best, for the years indicated:
<TABLE>
<CAPTION>

                                                            Year Ended December 31
                                            -----------------------------------------------
                                             1996     1995       1994       1993       1992
                                            ------    -----      -----      -----      ----

<S>                                          <C>        <C>        <C>       <C>        <C>  
Loss ratio                                   58.7%      60.0%      69.9%     66.4%      71.9%
Expense ratio                                32.2       31.1       28.2      27.8       24.9
                                             ----      -----      -----     -----      -----
Combined ratio                               90.9%      91.1%      98.1%     94.2%      96.8%
                                             ====      =====      =====     =====      =====
Industry combined ratio after
  policyholders' dividends                  105.9%     106.4%     108.4%    106.9%     115.7%
                                            =====      =====      =====     =====      =====
</TABLE>

Premium-to-Surplus Ratio

While there are no statutory  provisions  governing  premium-to-surplus  ratios,
regulatory  authorities  regard this ratio as an important  indicator  since the
lower the ratio,  the greater the insurer's  ability to withstand  abnormal loss
experience.  Guidelines  established  by the National  Association  of Insurance
Commissioners provide that an insurer's premium-to-surplus ratio is satisfactory
if it is below 3 to 1.

The following table sets forth the ratio of net premiums written during the year
to  policyholders'  surplus  at the  end of the  year  for  Frontier  Insurance,
Frontier Pacific, United Capitol and Regency for the years indicated:
<TABLE>
<CAPTION>

                                                           Year Ended December 31
                                            --------------------------------------------------
                                               1996      1995      1994       1993       1992
                                            ---------  --------  ---------  ---------  -------
                                                         (dollar amounts in thousands)
<S>                                          <C>       <C>        <C>        <C>       <C>     
Frontier Insurance:
  Net premiums written
    during the year                          $255,446  $205,614   $179,058   $115,028  $113,508
  Policyholders' surplus
    at end of year                           $262,899  $171,362   $104,871   $101,418   $76,438
  Ratio                                         .97/1    1.20/1     1.71/1     1.13/1    1.48/1

Frontier Pacific:
  Net premiums written
    during the year                           $32,040   $15,143     $8,230     $3,791    $2,740
  Policyholders' surplus
    at end of year                            $25,985   $17,155    $16,127    $15,108    $6,522
  Ratio                                        1.23/1     .88/1      .51/1      .25/1     .42/1

United Capitol:
  Net premiums written
    during the year                           $25,930   $10,981    $17,051    $17,708   $17,640
  Policyholders' surplus
    at end of year                            $53,355   $68,026    $61,750    $65,676   $62,387
  Ratio                                         .49/1     .16/1      .28/1      .27/1     .28/1

Regency:
  Net premiums written
    during the year                            $4,489    $4,441     $4,804     $5,587    $6,047
 Policyholders' surplus
    at end of year                             $5,105    $4,667     $4,521     $4,308    $4,070
  Ratio                                         .88/1     .95/1     1.06/1     1.30/1    1.49/1
</TABLE>

                                        9

<PAGE>

<PAGE>

Loss and LAE Reserves

Significant periods of time, ranging up to several years, may elapse between the
occurrence of an insured loss,  the reporting of the loss to the Company and its
payment of such loss.  Medical  malpractice and general liability usually have a
much  longer  period  of time  between  occurrence  of a loss and  payment  than
property  lines.  To  recognize  liabilities  for  unpaid  losses,  the  Company
establishes reserves, which are balance sheet liabilities representing estimates
of amounts  needed to pay claims and related  expenses  with  respect to insured
events which have occurred, including those not yet reported ("IBNR").

All claims are  investigated,  supervised  and adjusted by personnel of Pioneer,
which selects counsel and outside adjusting firms, if required, and monitors the
case and  approves  any  settlement.  Any payment in excess of $50,000  requires
approval by an officer of the Company. The Company believes claims management is
critical to  controlling  the amount of paid losses and has an internal staff of
experienced claims adjusters and attorneys assigned  exclusively to managing and
adjusting claims.

When a claim is reported,  the Company's claims adjusting  personnel establish a
formula case reserve,  which is based on historical average claim costs, for the
estimated amount to be paid. As more pertinent  information becomes available on
a claim, adjusting personnel change the reserve from a formula reserve to a case
basis reserve.  This case basis reserve is an estimate of the amount of ultimate
payment which  reflects the informed  judgment of such  personnel,  based on the
Company's reserving practices and the experience and knowledge of such personnel
regarding  the nature  and value of the  specific  type of claim.  Additionally,
reserves are  established  by the Company on an  aggregate  basis to provide for
IBNR losses and to maintain the overall  adequacy of reserves.  The Company also
establishes a related loss  adjustment  expense  ("LAE") reserve on an aggregate
basis representing the estimated expense of settling claims, including legal and
other fees and general expenses of administering the claims  adjustment  process
with respect to reported and unreported  losses.  Virtually all of the Company's
LAE is classified as allocated LAE as a result of its method of handling  claims
through Pioneer.  The Company does not discount its reserves either on the basis
of generally  accepted  accounting  practices  ("GAAP") or statutory  accounting
practices.

The  reserves  for  losses and LAE are  estimated  using  loss  evaluations  and
actuarial  projections  and represent  estimates of the ultimate net cost of all
unpaid losses and LAE incurred through December 31 of each year. These estimates
are subject to the effect of trends in claims  severity  and  frequency  and are
continually reviewed. As part of this process,  historical data are reviewed and
consideration  is given to the anticipated  impact of various  factors,  such as
legal  developments,  changes  in social  attitudes,  and  economic  conditions,
including the effects of inflation and anticipated  subrogation  recoveries with
respect to the surety line of business.  As  experience  develops and other data
becomes  available,  these  estimates  are revised,  as  required,  resulting in
increases or decreases  in reserves  for insured  events of prior years.  Future
adjustments,  if any,  will be  reflected  in the results of  operations  in the
period in which recognized.

                                       10

<PAGE>

<PAGE>

The following table sets forth a reconciliation of the beginning and ending loss
and LAE reserve balances,  net of reinsurance ceded, for each of the three years
in the period ended December 31, 1996:
<TABLE>
<CAPTION>

                                                                 Year Ended December 31
                                                      ----------------------------------------
                                                      1996            1995             1994
                                                      ----            ----             ----
                                                               (amounts in thousands)

<S>                                                    <C>            <C>           <C>     
Net reserves for losses and LAE, beginning of year     $294,393       $263,202      $216,486

Total acquired reserves                                  53,008          5,500

Incurred losses and LAE for claims relating to:
      Current year                                      160,470        126,769        97,044
      Prior years                                        (4,479)        (7,514)       13,874
                                                        -------        -------       -------
Total incurred losses and LAE                           155,991        119,255       110,918
                                                        -------        -------       -------

Loss and LAE payments for claims relating to:
      Current year                                       27,626         13,057         7,216
      Prior years                                       102,160         80,507        56,986
                                                        -------         ------        ------
Total payments                                          129,786         93,564        64,202
                                                        -------         ------        ------

Net reserves for losses and LAE, end of year            373,606        294,393       263,202
Total reinsurance recoverable on unpaid losses
      and LAE                                           165,467         73,043        49,435
                                                        -------       --------     ---------
Gross reserves for losses and LAE, end of year         $539,073       $367,436      $312,637
                                                       ========       ========      ========
</TABLE>


The Company's net reserves for unpaid losses and LAE, net of related reinsurance
recoverable,  at December 31, 1995 and 1994 were decreased in the following year
by approximately  $4.5 million and $7.5 million,  respectively,  and at December
31, 1993 were  increased in the following year by  approximately  $13.9 million,
for claims that had occurred on or prior to the balance sheet dates. No premiums
have  been  accrued  as a  result  of the  changes  to  prior-year  loss and LAE
reserves.

The net $4.5 million decrease in prior years' reserves in 1996 was the result of
favorable  claims  development  on the workers'  compensation  line of business.
Included in the net  development  was an increase  in prior  years'  reserves of
approximately $13 million which was entirely offset by subrogation  recoverables
recognized in connection  with a favorable  court ruling in 1995.  See NOTE C of
the  NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS. The significant increase in
the  reinsurance  recoverables  in  1996  was  due  to  the  contribution to the
recoverables as result of the acquisition of United Capitol  and Regency,  which
were  acquired  in  1996,  and  the  change in the type of  reinsurance  from an
aggregate  claim excess of loss to a stop loss for the majority of the Company's
losses.

The net $7.5  million  decrease  in the prior  years'  reserves  in 1995 was the
result of favorable  claims  development  on the general  liability and workers'
compensation lines and to subrogation  recoveries in the surety line of business
in excess of  expectations.  Included in the net  development was an increase in
prior years' reserves of approximately  $19 million which was entirely offset by
subrogation  recoverables recognized in connection with a favorable court ruling
in 1995. See NOTE C of the NOTES TO THE CONSOLIDATED  FINANCIAL  STATEMENTS. The
significant increase in the reinsurance  recoverable in 1995 was due to a change
in the type of reinsurance from an aggregate claim excess of loss to a stop loss
for the majority of the Company's losses. See "Reinsurance".

The $13.9  million  increase in prior years'  reserves in 1994  resulted  from a
$17.5  million  increase  in  the  reserves   attributable  to  adverse  medical
malpractice claims development in Florida as a result of higher

                                       11

<PAGE>

<PAGE>

than anticipated dollar settlements and from redundancies in other lines.

The following  table reflects the Company's  loss and LAE reserves  development,
net of estimated subrogation  recoverable through December 31, 1996, for each of
the preceding ten years:
<TABLE>
<CAPTION>

                                                                          Year Ended December 31
                                    ------------------------------------------------------------------------------------------------
                                     1986    1987     1988     1989      1990    1991    1992     1993      1994     1995     1996
                                    ------  ------   ------   ------    ------  ------  ------   ------    ------   ------   -----
                                                                         (amounts in thousands)

<S>                                 <C>    <C>      <C>      <C>      <C>      <C>      <C>      <C>      <C>      <C>       <C>    
Reserves for unpaid
  losses & LAE                     $27,271 $ 43,813 $ 64,971 $ 92,384 $120,096 $161,263 $185,074 $216,486 $263,202 $294,393 $373,606
Reserves reestimated
 at December 31:
  1 year  later                     28,495   46,385   67,486   93,419  119,875  162,121  188,387  230,360  255,689  289,914
  2 years later                     29,587   49,495   68,793   91,457  120,550  158,746  196,005  229,334  252,678
  3 years later                     31,906   50,890   66,532   91,527  115,310  163,537  191,401  214,712     --
  4 years later                     33,425   49,694   66,656   86,508  114,790  154,217  172,654     --       --
  5 years later                     32,730   49,895   64,254   87,795  107,907  133,768     --       --       --
  6 years later                     32,740   49,492   64,700   79,459   88,803     --       --       --       --
  7 years later                     33,563   48,749   55,300   62,667     --       --       --       --       --
  8 years later                     32,357   43,099   42,687     --       --       --       --       --       --
  9 years later                     30,720   32,391     --       --       --       --       --       --       --
 10 years later                     23,375     --       --       --       --       --       --       --       --

Cumulative redundancy                3,896   11,422   22,284   29,717   31,293   27,495   12,420    1,774   10,524    4,479

Cumulative amount of liability
 paid through December 31:
  1 year  later                      3,760    6,208    9,611   16,823    8,129   41,486   38,300   56,986   80,507  102,160
  2 years later                      7,477   12,946   20,006   13,230   35,864   62,175   74,113  113,471  148,513
  3 years later                     11,953   20,339   11,196   32,987   45,973   80,888  112,017  154,548     --
  4 years later                     16,605   14,902   24,825   39,166   58,043  104,672  139,333     --       --
  5 years later                     12,916   24,426   30,919   50,406   74,659  122,863     --       --       --
  6 years later                     18,466   27,766   39,664   61,276   86,405     --       --       --       --
  7 years later                     20,999   32,372   47,784   67,429     --       --       --       --       --
  8 years later                     23,259   38,271   50,119     --       --       --       --       --       --
  9 years later                     27,412   39,567     --       --       --       --       --       --       --
 10 years later                     27,820     --       --       --       --       --       --       --       --
Net reserve - December 31                                                                                 $263,202 $294,393 $373,606
Reinsurance recoverables                                                                                    49,435   73,043  165,467
                                                                                                          -------- -------- --------
Gross reserve                                                                                             $312,637 $367,436 $539,073
                                                                                                          ======== ======== ========
</TABLE>




The loss and LAE  reserves  of  Frontier  Insurance,  Frontier  Pacific,  United
Capitol  and  Regency  as  reported  in  their  Annual  Statements  prepared  in
accordance  with statutory  accounting  practices and filed with state insurance
departments  are  identical  with those  reflected  in the  Company's  financial
statements prepared in accordance with GAAP included herein,  before elimination
of  inter-company  transactions  and  except  for a  change  resulting  from the
rescission by Frontier Insurance in April 1986 of an offer to assume reinsurance
under a proposed  treaty with another  insurer which has been given  retroactive
effect herein but was not  reflected in the  statutory  filing with the New York
Insurance  Department  until the March 31,  1986  quarterly  statement,  thereby
reducing the GAAP  reserves at December 31, 1985, by $861,000 from the statutory
reserves at such date. Further, at December 31, 1986, Frontier  Insurance's loss
and LAE  reserves  under GAAP were  lower by  $138,000  than its 1986  statutory
reserves as a result of the revision of certain estimates with respect to liquor
law liability claims.

                                       12

<PAGE>

<PAGE>

Investments

Funds,  including  reserve funds,  are invested until required for the Company's
operations,  subject to restrictions on permissible  investments  established by
applicable  state  insurance  codes.  The  Company's  investment  strategy is to
maximize  after-tax  income while generally  limiting  investments to investment
grade  securities with high liquidity.  Prior to 1996, the Company's  investment
portfolio  was  managed  by Asset  Allocation  and  Management  Company  ("Asset
Allocation") and General Re New England Asset Management,  Inc.("New  England"),
registered  investment  advisors which specialize in insurance company portfolio
management,  pursuant to guidelines  established  by the Company.  In 1996,  the
Company hired a Chief Investment  Officer and the core fixed income portfolio is
now  being  managed  internally.   Asset  Allocation  and  New  England  provide
investment advisory and related services to the Company in asset classes such as
mortgage-backed  securities,  sinking fund preferred  stocks,  and other special
classes of securities.

The following  table contains  information  concerning the Company's  investment
portfolio at December 31, 1996:
<TABLE>
<CAPTION>

                                                           Market    Amount Reflected   Percent
                                             Cost (1)      Value     on Balance Sheet  of Total
                                            ---------     ---------  ---------------   ----------
                                                         (dollar amounts in thousands)

<S>                                          <C>           <C>            <C>           <C>
Available-for-sale securities
 Fixed maturity securities:
    U.S. Treasury securities and
        obligations of U.S. Government
      corporations and agencies              $ 29,708      $ 29,960      $ 29,960          4.3%
       Obligations of states and
      political subdivisions                  191,311       193,055       193,055         27.5
       Foreign governments                         30            24            24           .0
       Corporate securities                   162,336       164,398       164,398         23.4
       Mortgage-backed securities             296,896       297,840       297,840         42.5
                                             --------      --------      --------        -----
   Total fixed maturity securities            680,281       685,277       685,277         97.7
    Equity securities                          13,871        16,271        16,271          2.3
                                             --------      --------      --------        -----
    Total available-for-sale-securities      $694,152      $701,548      $701,548        100.0%
                                             ========      ========      ========        ===== 
   
</TABLE>

----------
(1) Original  cost  of  equity  and  short-term  securities  and,  as  to  fixed
    maturities,   original   cost  reduced  by   repayments   and  adjusted  for
    amortization of premiums or accrual of discounts.

The  following  table  sets  forth a profile  of the  Company's  fixed  maturity
investment portfolio by rating at December 31, 1996:

<TABLE>
<CAPTION>

                                                               Amount Reflected   Percent
                                                      Market          on            of
S&P/Moody's Rating (1)                                Value      Balance Sheet     Total
----------------------                             --------    ---------------    --------
                                                       (dollar amounts in thousands)
<S>                                                <C>           <C>              <C>  
AAA/Aaa (including U.S. Treasuries of $24,118)      $417,650      $417,650         60.9%
AA/Aa                                                101,460       101,460         14.8
A/A                                                  119,652       119,652         17.5
BBB/Baa                                               46,491        46,491          6.8
All other                                                 24            24           .0
                                                    --------      --------        -----
    Total                                           $685,277      $685,277        100.0%
                                                    ========      ========        =====
</TABLE>
----------

(1) Ratings are as assigned  primarily  by Standard & Poor's  Corporation,  with
    remaining ratings as assigned by Moody's Investors Service Inc.

                                       13

<PAGE>

<PAGE>

The following table sets forth the maturity  profile of the Company's  portfolio
of fixed maturity investments at December 31, 1996:
<TABLE>
<CAPTION>

                                                                    Amount Reflected   Percent
                                                          Market           on            of
Maturity                                                  Value       Balance Sheet     Total
--------                                               --------    ------------------  --------
                                                              (dollar amounts in thousands)
<S>                                                   <C>              <C>                  <C>
Due in one year or less                               $    2,656       $   2,656            .4%
Due after one year to 5 years                             81,800          81,800          11.9
Due after five years to 10 years                         119,248         119,248          17.4
Due after 10 years                                       183,732         183,732          26.8
Mortgage-backed securities                               297,841         297,841          43.5
                                                       ---------       ---------        ------
           Total                                        $685,277        $685,277         100.0%
                                                        ========        ========         =====
</TABLE>

The following  table  summarizes the Company's  investment  results for the five
years ended December 31, 1996, calculated on the mean of total investments as of
the first and last day of each calendar quarter:
<TABLE>
<CAPTION>

                                                           Year Ended December 31
                                          --------------------------------------------------------
                                            1996       1995       1994         1993       1992
                                          --------   --------   -------       ------     ------
                                                         (dollar amounts in thousands)
<S>                                       <C>         <C>        <C>          <C>        <C>    
Total net investment income               $38,933     $30,055    $22,975      $22,371    $20,208

Average annual pre-tax yield                  6.4%        6.4%       6.6%         7.8%       7.9%

Average annual after-tax yield                4.8%        4.9%       5.4%         6.3%       6.2%

Effective federal income tax rate
  on total net investment income             24.8%       23.7%      19.8%        19.3%      21.2%

</TABLE>

Regulation

Frontier Insurance,  Frontier Pacific, United Capitol and Regency are subject to
varying degrees of regulation and supervision in the jurisdictions in which they
transact  business under statutes which  delegate  regulatory,  supervisory  and
administrative  powers  to  state  insurance   commissioners.   Such  regulation
generally is designed to protect policyholders rather than investors and relates
to such matters as the standards of solvency  which must be met and  maintained;
the licensing of insurers and their agents; the nature of and examination of the
affairs  of  insurance   companies,   which  includes  periodic  market  conduct
examinations by the regulatory authorities;  annual and other reports,  prepared
on a statutory accounting basis, required to be filed on the financial condition
of insurers or for other purposes; establishment and maintenance of reserves for
unearned premiums and losses; and requirements regarding numerous other matters.
In general,  Frontier  Insurance,  Frontier Pacific,  Regency and United Capitol
must file all rates  for  insurance  directly  underwritten  with the  insurance
department of each state in which they operate on an admitted basis; reinsurance
generally is not subject to rate regulation.  Medical  malpractice  rates in New
York  are  established  by  the  New  York  State   Insurance   Department  (the
"Department").  Further, state insurance statutes typically place limitations on
the amount of dividends or other distributions payable by insurance companies in
order to protect their solvency.  New York, the jurisdiction of incorporation of
Frontier  Insurance,  requires that dividends be paid only out of earned surplus
and  limits  the  annual  amount  payable  without  the  prior  approval  of the
Department  to the lesser of 10% of  policyholders'  surplus or 100% of adjusted
net investment income. California, the jurisdiction of incorporation of Frontier
Pacific,  currently  limits the annual amount of dividends  payable  without the
prior approval of the California Insurance Department to the greater of

                                       14

<PAGE>

<PAGE>

10% of  policyholders'  surplus at the end of the previous calendar year or 100%
of net income for the previous  calendar year.  Wisconsin,  the  jurisdiction of
incorporation  of United  Capitol,  precludes the Company from paying  dividends
without prior approval of the  Commissioner of Insurance.  North  Carolina,  the
jurisdiction  of  incorporation  of Regency,  limits the amount payable  without
prior  approval and is limited to the lesser of 10% of statutory  surplus or net
income.

The Company is also  subject to statutes  governing  insurance  holding  company
systems in various jurisdictions.  Typically,  such statutes require the Company
to  file   information   periodically   with  the  state  insurance   regulatory
authorities,  including information concerning its capital structure, ownership,
financial  condition  and  general  business  operations.  Under  the  terms  of
applicable state statutes, any person or entity desiring to purchase more than a
specified  percentage  (commonly  10%)  of  the  Company's   outstanding  voting
securities is required to obtain regulatory  approval for the purchase.  Article
15 of the New York  Insurance  Law relating to holding  companies,  to which the
Company is subject,  requires,  inter alia,  disclosure of transactions  between
Frontier  Insurance  and  the  Company  or any of its  subsidiaries,  that  such
transactions  satisfy certain standards,  including that they be fair, equitable
and  reasonable  and  that  certain   material   transactions   be  specifically
non-disapproved by the Department.  Further, prior approval by the Department is
required of  affiliated  sales,  purchases,  exchanges,  loans or  extensions of
credit, or investments,  any of which involve 5% or more of Frontier Insurance's
admitted  assets as of the preceding  December 31st. In addition,  any documents
relating to the offering of  securities  by the  Company,  the proceeds of which
will be used for Frontier  Insurance,  must be approved by the Department.  With
respect to Frontier Pacific, United Capitol and Regency,  California,  Wisconsin
and North  Carolina  law with  respect to  holding  companies  is  substantially
equivalent to that of New York.

The National  Association of Insurance  Commissioners  ("NAIC") has  established
eleven financial ratios to assist state insurance departments in their oversight
of the financial  condition of insurance companies operating in their respective
states.  The NAIC  calculates  these  ratios based on  information  submitted by
insurers on an annual basis and shares the information with the applicable state
insurance departments. The ratios relate to leverage,  profitability,  liquidity
and loss  reserve  development.  Frontier  Insurance's  percentage  increase  in
surplus  exceeded the acceptable  range during 1996 due to a $64 million capital
infusion by the Company.  United  Capitol's  percentage  decrease in surplus was
outside the acceptable range during 1996 due to a $49.8 million dividend paid to
its previous parent prior to the acquisition by the Company, partially offset by
net income of $4.9  million  and a $27.2  million  capital  contribution  by the
Company.  United Capitol's  percentage increase in net written premiums exceeded
the  acceptable  range  during  1996 due to the  exceptionally  low net  written
premiums from under utilization of capital in previous years. Frontier Pacific's
percentage  increase in surplus exceeded the acceptable range during 1996 due to
a  $5.1  million  dollar  capital  infusion  by its  parent, Frontier Insurance.
Frontier  Pacific's  increase in net written  premiums and  percentage of agents
balances  were  outside  the acceptable  range  due to the increased writings in
California  in  the  majority  of the Company's programs, of which approximately
fifty percent was written in the fourth  quarter. See  "Management's  Discussion
and Analysis of Financial Condition and Results of Operations."

In their ongoing effort to improve solvency regulation,  the NAIC and individual
states have enacted  certain laws and statutory  financial  statement  reporting
requirements.  For  example,  NAIC rules  require  audited  statutory  financial
statements as well as actuarial  certification of loss and LAE reserves therein.
Other activities are focused on greater  disclosure of an insurer's  reliance on
reinsurance  and  changes  in its  reinsurance  programs  and  tighter  rules on
accounting  for  certain  overdue  reinsurance.   In  addition,   the  NAIC  has
implemented  risk-based capital requirements for property and casualty insurance
companies commencing in 1995 (see below).  These regulatory  initiatives and the
overall focus on solvency may intensify the  restructuring  and consolidation of
the insurance industry.  It is also possible that Congress may enact legislation
regulating the insurance industry.  While the impact of these regulatory efforts
on the Company's  operations  cannot be quantified  until  enacted,  the Company
believes it will be adequately  positioned to compete in an  environment of more
stringent regulation.

In 1994, the NAIC  implemented a risk-based  capital  measurement  formula to be
applied, commencing

                                       15

<PAGE>

<PAGE>

in 1995, to all property/casualty  insurance companies, which formula calculates
a minimum required  statutory net worth based on the  underwriting,  investment,
credit  loss  reserve  and other  business  risks  applicable  to the  insurance
company's  operations.  An  insurance  company  that  does  not  meet  threshold
risk-based capital  measurement  standards could be required to reduce the scope
of its operations and ultimately could become subject to statutory  receivership
proceedings.  See "Management's  Discussion and Analysis of Financial  Condition
and Results of Operations--Regulation."

Competition

The property and casualty insurance business is highly competitive,  principally
in terms of price and extent of  coverage.  In New York  State,  there are three
major  competitors,  as well as a number  of  other  insurers,  writing  medical
malpractice insurance for physicians, the Company's principal insurance program,
and in Florida such coverage is offered by a larger number of insurers. However,
the  Company  benefits  from the  endorsement  or  approval  of various  medical
associations,  many of whose  physician  members  are  insured  by the  Company.
Moreover, the Company's program, unlike those of its competitors,  is limited to
specified   classes  of   physicians.   Dental   malpractice   coverage  in  all
jurisdictions  is significantly  more competitive than medical  malpractice with
respect to rates and terms of  coverage.  Although  the  Company's  underwriting
strategy is to underwrite  specialty programs for niche markets, it nevertheless
encounters  competition  from carriers  engaged in insuring risks in the broader
lines of business which encompass niche programs.

Employees

The Company  currently  has 749  full-time  employees,  7 of whom are  executive
management,  and 33  part-time  employees.  The  Company  is not a party  to any
collective bargaining agreement and believes its relationship with its employees
to be good.

Item 2.  Properties.

The Company owns a  three-story  office  building at 195 Lake Louise Marie Road,
Rock Hill, New York, in which its executive offices and insurance operations for
Frontier  Insurance  are  located.  A  50,000  square  foot  addition  is  under
construction  and is anticipated to be completed in September  1997. The Company
also owns a one-story building in Rock Hill, New York, which it uses for storage
and a portion of which is rented, and an airplane for which it leases facilities
at a local airport.

The Company owns a one-story 6,000 sq. ft. building in Charlotte, North Carolina
where Regency Financial Corporation conducts its insurance operations.

The  Company  leases  office  space at  eighteen  locations  in 11  states at an
aggregate monthly rental of approximately $133,000.

The Company  believes  that upon  completion  of the addition at Rock Hill,  New
York, it will have adequate space for expansion of its existing operations.

Item 3.  Legal Proceedings.

         See "Management's Discussion and Analysis  of  Financial  Condition and
         Results of Operations- -Shareholder Litigation"


                                       16

<PAGE>

<PAGE>

Item 4.  Submission of Matters to a Vote of Security Holders.

On December 30, 1996, the Company held a Special Meeting of Stockholders to vote
upon  proposals  (i) to approve and ratify a financing  transaction  involving a
$172,500,000  offering of  Convertible  Trust  Originated  Preferred  Securities
issued by the Company's financing vehicle, Frontier Financing Trust, and (ii) to
adopt an amendment to the Company's Certificate of Incorporation  increasing the
authorized number of shares of Common Stock to 50,000,000 shares.

Present at the Special  Meeting in person or by proxy were holders of 13,273,611
shares of the  14,688,064  shares  of the  Company's  Common  Stock  issued  and
outstanding on November 22, 1996, the record date for the Special Meeting.

The vote on the proposals was as follows:

1)    To approve and ratify the financing transaction  description  in the Proxy
      Statement:

         For           Against            Abstain             Broker Non-Votes
         ---           -------            -------             ----------------
      11,005,986       36,220              13,421                 2,217,984

2)    To adopt an amendment to the Company's  Certificate  of  Incorporation  to
      increase the  authorized  number of shares of Common  Stock to  50,000,000
      shares:

         For           Against            Abstain             Broker Non-Votes
         ---           -------            -------             ----------------
      11,950,398      1,311,789            11,424                  -0-


                                       17

<PAGE>

<PAGE>

                                     PART II

Item 5.  Market for the  Registrant's  Common Stock and Related  Security Holder
         Matters.

The Company's  Common Stock is traded on the New York Stock  Exchange  under the
symbol FTR. The following table sets forth the high and low sales prices for the
Company's  Common Stock,  as reported by the New York Stock  Exchange,  for each
calendar  quarter  during the periods  indicated,  as adjusted to reflect  stock
dividends paid and stock splits:
<TABLE>
<CAPTION>

                                                    High                   Low
                                                    ----                   ---
<S>                                                 <C>                   <C>   
       1995:
         First Quarter                              $22.50                $18.41
         Second Quarter                              24.55                 21.36
         Third Quarter                               29.09                 22.95
         Fourth Quarter                              30.68                 25.00

       1996:
         First Quarter                              $30.11                $25.68
         Second Quarter                              38.00                 30.13
         Third Quarter                               41.13                 32.63
         Fourth Quarter                              39.87                 36.25

        1997:
         First Quarter (through March 18, 1997)     $44.25                $36.63

</TABLE>

On March  18,1997,  the Company had  approximately  896 holders of record of its
Common Stock,  which did not include  beneficial owners for shares registered in
nominee or street name.

During 1996,  the Company  declared  three  quarterly cash dividends of $.13 per
share and one  quarterly  cash  dividend of $.11 per share  (adjusted  for stock
dividend), constituting the sixteenth consecutive quarterly cash dividends. (See
"Business-Regulation"  for  restrictions  on the  payment  of  dividends  by the
Company's insurance subsidiaries.)

                                       18

<PAGE>

<PAGE>

Item 6.      Selected Financial Data

The  following   selected   financial   data  are  derived  from  the  Company's
consolidated  financial statements.  The data should be read in conjunction with
the  consolidated  financial  statements,  related  notes,  and other  financial
information included elsewhere in this report.
<TABLE>
<CAPTION>

Income Statement Data:                                                                Year Ended December 31
----------------------                                  ----------------------------------------------------------------------------
                                                           1996            1995             1994           1993             1992
                                                        ----------     ----------      -------------    ------------     -----------
                                                                            (in thousands, except per share dollar amounts)
<S>                                                       <C>            <C>             <C>             <C>             <C>       
   Revenues:
    Gross premiums written                                $  402,799     $  264,314      $  198,892      $  148,750      $  149,504
                                                          ==========     ==========      ==========      ==========      ==========
    Net premiums written                                  $  311,863     $  220,757      $  187,288      $  118,819      $  116,248
                                                          ==========     ==========      ==========      ==========      ==========
    Net premiums earned                                   $  265,989     $  196,220      $  156,755      $  116,372      $  105,171
    Net investment income                                     37,226         30,035          24,453          22,523          19,875
    Realized capital gains (losses)                            1,707             20          (1,478)           (152)            333
    Gross claims adjusting income                                 55            130             255             424           1,356
                                                          ----------     ----------      ----------      ----------      ----------
         Total revenues                                      304,977        226,405         179,985         139,167         126,735
  Expenses:
    Losses and loss adjustment expenses                      155,991        119,255         110,918          77,581          74,933
    Amortization of policy acquisition costs,
      underwriting, and other expenses                        88,080         62,975          47,737          31,293          26,604
    Minority interest in income of
      subsidiary trust                                         2,277
    Interest expense                                           1,970            895
                                                          ----------     ----------      ----------      ----------      ----------
         Total expenses                                      248,318        183,125         158,655         108,874         101,537
                                                          ----------     ----------      ----------      ----------      ----------
  Income before income taxes and
    cumulative effect of change in
    accounting principle                                      56,659         43,280          21,330          30,293          25,198
  Income taxes                                                16,592         12,069           4,350           7,130           6,236
                                                          ----------     ----------      ----------      ----------      ----------
  Income before cumulative effect
    of change in accounting principle                         40,067         31,211          16,980          23,163          18,962
  Cumulative effect of change in
    accounting for income taxes                                                                                 708                
                                                          ----------     ----------      ----------      ----------      ----------
         Net Income                                       $   40,067     $   31,211      $   16,980      $   23,871      $   18,962
                                                          ==========     ==========      ==========      ==========      ==========

   Net income per share - primary                              $2.77          $2.18           $1.19           $1.90           $1.60
                                                               =====          =====           =====           =====           =====
   Net income per share - fully diluted                        $2.73          $2.17           $1.18           $1.88           $1.58
                                                               =====          =====           =====           =====           =====
   Cash dividends declared per share                           $ .50          $ .48           $ .46           $ .40           $ .40
                                                               =====          =====           =====           =====           =====

<CAPTION>

  Balance Sheet Data:                                                                     December 31
  ------------------                                     ---------------------------------------------------------------------------
                                                             1996           1995            1994            1993            1992
                                                         -----------    ----------      -----------      ----------      -----------
  Total investments                                       $  838,320     $  552,714      $  407,618      $  343,591      $  262,010
  Total assets                                             1,246,407        773,348         599,117         527,657         406,149
  Liabilities for gross unpaid losses and
    loss adjustment expenses                                 539,073        367,436         312,637         274,035         238,941
  Total liabilities                                          810,880        543,615         408,853         341,963         299,400
    Guaranteed preferred beneficial interest
    in Company's convertible subordinated
    debentures                                               166,953

  Total shareholders' equity                                 268,574        229,733         190,264         185,694         106,749

Supplemental Primary Earnings Per Share Data:

  Realized capital gains (losses)-net of tax                  $  .07         $               $ (.06)         $ (.01)          $ .02
  Federal income tax "Fresh Start" benefits                                                                                     .03
  Cumulative effect of accounting change                                                                        .06
  Operating income                                              2.70           2.18            1.25            1.85            1.55
                                                              ------         ------          ------          ------           -----
  Net income                                                  $ 2.77         $ 2.18          $ 1.19          $ 1.90           $1.60
                                                              ======         ======          ======          ======           =====
  Book value                                                  $18.28         $15.99          $13.28          $13.04           $8.99
                                                              ======         ======          ======          ======           =====

Statutory Combined Ratio                                        90.9%          91.1%           98.1%           94.2%           96.8%
GAAP Combined Ratio                                             91.8%          92.7%          101.0%           93.2%           95.4%
Ratio of earnings to combined fixed
  charges and preferred stock dividends                        13.2x          39.1x             N/A             N/A             N/A

</TABLE>


                                       19

<PAGE>

<PAGE>

Management's  Discussion  and  Analysis of  Financial  Condition  and Results of
Operations

The following  discussion and analysis  should be read in  conjunction  with the
consolidated  financial  statements and notes thereto included elsewhere in this
report.

Results of Operations

The following  table sets forth the  Company's net premiums  earned by principal
lines of  insurance  for the three  years  indicated  and the dollar  amount and
percentage of change therein from year to year:
<TABLE>
<CAPTION>

                                                                                                    Increase (Decrease)
                                                                                      --------------------------------------------
                                                  Year Ended December 31                  1995  to 1996            1994 to 1995
                                            ------------------------------               ----------------       ----------------
                                            1996         1995         1994             Amount            %      Amount          %
                                            ----         ----         ----             -------          --     -------         --
                                                                   (Dollar amounts in thousands)
<S>                                        <C>         <C>         <C>               <C>               <C>    <C>            <C> 
Medical malpractice
  (including dental
   malpractice and social services)        $105,217    $ 88,295    $ 74,877          $ 16,922          19.2   $ 13,418       17.9
General liability                            78,641      50,026      28,631            28,615          57.2     21,395       74.7
Surety                                       51,369      39,756      30,344            11,613          29.2      9,412       31.0
Workers' compensation                         7,025      10,320      16,671            (3,295)        (31.9)    (6,351)     (38.1)
Commercial earthquake                         8,257         249                         8,008       3,216.1        249        n/a
Other                                        15,480       7,574       6,232             7,906         104.4      1,342       21.5
                                           --------    --------    --------          --------                 --------       ----
    Total                                  $265,989    $196,220    $156,755          $ 69,769          35.6   $ 39,465       25.2
                                           ========    ========    ========          ========                 ========       ====

</TABLE>


The following table sets forth the expense  components of the Company's combined
ratio  calculated  as a  percentage  of net  premiums  earned  on the  basis  of
generally accepted  accounting  principles ("GAAP Combined Ratio") for the three
years indicated:
<TABLE>
<CAPTION>

                                                                 Year Ended December 31
                                                          -------------------------------------
                                                           1996           1995            1994
                                                           ----           ----            ----
<S>                                                       <C>             <C>            <C>  
Losses                                                    36.5%           45.6%          54.1%
Loss adjustment expenses ("LAE")                          22.2            15.2           16.7
                                                          ----           -----         ------
Losses and LAE                                            58.7            60.8           70.8
Acquisition, underwriting, interest, and other expenses   33.1            31.9           30.2
                                                          ----           -----         ------
GAAP Combined Ratio                                       91.8%           92.7%         101.0%
                                                          ====           =====          =====
</TABLE>

Calendar Year 1996 Compared to Calendar Year 1995

A variety of factors accounted for the 35.6% growth in net premiums earned,  the
principal  factor being  increases in the majority of the Company's core and new
program  business,  partially  offset by a decrease  in  workers'  compensation,
particularly the cotton gin program, and by the increased ceding of net premiums
earned  under  the  Company's  aggregate  excess  of loss  reinsurance  contract
effective  January  1, 1996,  pursuant  to which  13.5% and 14% of net  premiums
earned in 1996 and  1995,  respectively,  was  ceded for all lines of  business,
except certain classes of surety bonds, realtors' errors and  omissions  and all
of the net premiums earned by United Capitol and Regency.

The  increase  in  medical   malpractice   net  premiums  earned  was  primarily
attributable  to an increase in the number of  physicians  insured,  principally
those  associated  with  mental  health,  home  care and  other  social  service
organizations,  growth in the programs for psychiatrists and alternative  risks,
geographical  expansion in Ohio,  Texas,  Michigan and  Illinois,  growth in the
dental program endorsed by the Academy of General Dentistry,  and rate increases
in Florida.

Net premiums earned for the general  liability line increased  primarily because
of increases in various programs,  including social services, alarms and guards,
demolition  contractors,  pest control, excess employer's liability and asbestos
abatement as a result of the  acquisition of United  Capitol in May 1996.  These
increases  were  partially  offset by a decrease in net  premiums  earned in the
umbrella and crane

                                       20

<PAGE>

<PAGE>

operator liability programs.

Growth  in  the  surety  net  premiums  earned  continued  in  1996,   primarily
attributable to expanded writings of license and permit bonds, small contractors
bonds, miscellaneous bonds, custom bonds and bail bonds.

Net premiums earned for the workers'  compensation line decreased primarily as a
result of decreases in the  specialty  niche program  for cotton  gins and  feed
lots, decreases in the social services  programs due to price competition, and a
lesser required participation in the National Workers' Compensation  Reinsurance
Pools.   These  decreases  were  partially   offset  by  increases  in  workers'
compensation  from the alternative  risk program which the Company  initiated in
1996.

Net premiums earned for the commercial  earthquake  program increased  primarily
due to the growth in the number of policies  written in 1996 over the comparable
period in 1995, when the program was initiated.

Net premiums earned for the other lines of business  increased  primarily due to
increased volume in commercial  package policies in the social services program,
and in the mobile  homeowners  program and auto  physical  damage  business as a
result of the  acquisition of Regency  effective in June 1996.  These  increases
were partially offset by decreases in other miscellaneous small programs.

Net investment  income before realized  capital gains and losses increased 23.9%
due principally to increases in invested  assets  resulting from the proceeds of
the issuance of Convertible Trust Originated Preferred Securities  ("Convertible
TOPrS")  in  October  1996,  cash  inflow  from  regular  operations,   and  the
contribution to net investment  income by United Capitol and Regency,  partially
offset by the  interest  charge on funds held by the  Company for the benefit of
the reinsurer of the Company's  aggregate excess of loss  reinsurance  contract.
Total net investment income increased 29.5% due to the  aforementioned  increase
in net investment  income and an increase in realized capital gains. The average
annual pre-tax yield on  investments,  excluding the charge for funds held under
the aggregate excess of loss reinsurance contract and realized capital gains and
losses, was 6.4%, unchanged from the previous year. The average annual after-tax
yield on  investments,  excluding  the charge for funds held under the aggregate
excess of loss reinsurance  contract and realized capital gains and losses,  was
4.8%, as compared to the previous year.

Gross  claims  adjusting  income  decreased  57.7%  primarily  as a result  of a
decrease in claim services  provided to outside  companies,  principally  Markel
Corporation.

Total revenues increased 34.7% as a result of the above.

Total expenses increased by 35.6%, similar to the 35.6% increase in net premiums
earned.  Losses and loss adjustment  expenses  ("LAE")  increased by 30.8% which
included a 8.5% increase in losses and a 97.5%  increase in LAE. The increase in
losses was  substantially  lower than for net  premiums  earned as a result of a
one-time  reallocation  of loss  reserves  to LAE  reserves,  favorable  reserve
development in accident  years prior to 1996 for general  liability and workers'
compensation  and  recoveries  under the  aggregate  excess of loss  reinsurance
contract which provides  coverage for certain losses and LAE in excess of 65% of
the net premiums earned for the 1996 accident year,  partially  offset by higher
loss and LAE ratios for business  written in 1996.  The Company  also  increased
prior years' reserves by approximately $13 million, which was entirely offset by
an increase  in the same amount of the  subrogation  recoverable  recognized  in
conjunction  with the  favorable  December  1995 ruling in the New York Court of
Appeals,  described in Note C of the Notes to Consolidated Financial Statements.
Such increase in the subrogation recoverable resulted from further documentation
and  verification  in the second  quarter of 1996 of claims  already paid by the
Company  and  reserves  held  by the  Company  that  the  Company  believes  are
reimbursable  by the State of New York.  The 97.5% increase in LAE resulted from
the increase in loss and LAE ratios, a one-time reallocation of loss reserves to
LAE reserves,  partially offset by a change in the line of business mix to those
having a lower percentage relationship

                                       21

<PAGE>

<PAGE>

of LAE to losses and the allocation of recoveries  under the aggregate excess of
loss contract. Due to the disproportionate relationship of losses and LAE to net
premiums  earned,  the loss and LAE component of the GAAP Combined Ratio was 2.1
percentage points lower than in the comparable 1995 period.  The 40% increase in
the amortization of policy  acquisition  costs,  underwriting and other expenses
was attributable primarily to an increase in direct commission expense resulting
from growth in programs with higher  commission rates, a decrease in reinsurance
contingent  commissions,  increased  staffing and marketing  expenses related to
expansion,  a  reduction  in  assessment  recoveries  from  the  Texas  Workers'
Compensation  Insurance  Facility,  and salary  increases.  The 120% increase in
interest  expense  was  primarily  the  result  of  increased  interest  expense
associated  with the  borrowing  under  the line of  credit.  The  Company  also
incurred  approximately  $2,277,000  of  expenses  in 1996  associated  with the
Convertible  TOPrS.  See  NOTE M of the  NOTES  TO  THE  CONSOLIDATED  FINANCIAL
STATEMENTS.  As the  non-claim  related  component  of the GAAP  Combined  Ratio
increased at a greater rate than premiums  earned,  the non-claim  component was
1.2 percentage points higher than in the comparable 1995 period.  The total GAAP
Combined  Ratio  decreased by .9  percentage  points to 91.8% as a result of the
above.

The  foregoing  changes  resulted in income before income taxes of $56.7 million
for the year ended 1996, a 30.9% increase from the comparable  1995 period.  Net
income for the year increased by $8.9 million, or 28.4%.

Calendar Year 1995 Compared to Calendar Year 1994

A variety of factors accounted for the 25.2% growth in net premiums earned,  the
principal  factor being  increases in the majority of the Company's core and new
program  business,  partially  offset by a decrease  in  workers'  compensation,
particularly  the  cotton gin  program,  and by the  increased  ceding of earned
premiums  under the  Company's  aggregate  excess of loss  reinsurance  contract
effective January 1, 1995, pursuant to which 14% of earned premium for all lines
of business,  except bail, customs, license and permit, and miscellaneous surety
bonds is ceded.

The  increase  in  medical   malpractice   net  premiums  earned  was  primarily
attributable  to an increase in the number of  physicians  insured,  principally
those  associated  with  mental  health,  home care,  and other  social  service
organizations,  growth in the program for psychiatrists,  greater penetration of
the Ohio physician market,  growth in the dental program endorsed by the Academy
of General Dentistry, and rate increases in Florida and other geographic areas.

Net premiums earned for the general  liability line increased  primarily because
of increases in various programs,  including social services, alarms and guards,
pest control and excess  employer's  liability.  These  increases were partially
offset by a decrease in net written  premiums  earned in the umbrella and in the
crane operator liability programs.

Growth  in  the  surety  net  premiums  earned  continued  in  1995,   primarily
attributable  to expanded  writings of license and permit bonds,  with bonds for
small contractors,  miscellaneous bonds, and bail bonds also showing substantial
percentage  increases.  The increase in license and permit  bonds was  primarily
attributable  to the  Company's  acquisition  in April 1994 of the  license  and
permit bond business of a California insurance agency.

Net premiums earned for the workers'  compensation line decreased primarily as a
result of decreases in the  specialty  niche program for cotton gins caused by a
weather-related  reduction in the cotton crop,  and  decreases in other  smaller
programs  due  to  the  Company's   decision  not  to  renew   accounts   deemed
unprofitable,  and decreased  required  participation  in the National  Workers'
Compensation  Reinsurance  Pools.  These  decreases  were  partially  offset  by
increases  in  workers'  compensation  premiums  written in the social  services
programs.

Net premiums earned for the other lines of business  increased  primarily due to
increased volume in commercial  package policies in the social services program,
and the recent start-up of an earthquake

                                       22

<PAGE>

<PAGE>

program.   These   increases  were  partially   offset  by  decreases  in  other
miscellaneous small programs.

Net investment  income before realized  capital gains and losses increased 22.8%
due principally to increases in invested  assets  resulting from the proceeds of
the $25 million  borrowing  under a line of credit  facility,  the January  1995
commutation of certain medical malpractice reinsurance treaties, and cash inflow
from regular  operations,  partially offset by the interest charge on funds held
by the Company  for the  benefit of the  reinsurer  of the  Company's  aggregate
excess of loss reinsurance contract. Total net investment income increased 30.8%
due to the  aforementioned  increase in net investment  income and a decrease in
realized  capital  losses.  The average  annual  pre-tax  yield on  investments,
excluding  the  charge  for  funds  held  under  the  aggregate  excess  of loss
reinsurance  contract and realized  capital gains and losses,  decreased to 6.4%
from 6.6%.  This  decrease is primarily the result of generally  lower  interest
rates  available  for funds  invested  in 1994 and 1995,  and a decrease  in the
Company's holdings of higher yielding investments, as a result of maturities and
calls  for  redemption.  The  average  annual  after-tax  yield on  investments,
excluding  the  charge  for  funds  held  under  the  aggregate  excess  of loss
reinsurance  contract and realized  capital gains and losses,  decreased to 4.9%
from 5.4%, primarily for the reasons described above.

Gross  claims  adjusting  income  decreased  49.0%  primarily  as a result  of a
decrease in claim services  provided to outside  companies,  principally  Markel
Corporation.

Total revenues increased 25.8% as a result of the above.

Total expenses increased by 15.4% compared to the 25.2% increase in net premiums
earned.  Losses and loss  adjustment  expenses  ("LAE")  increased  by 7.5% as a
result of a 5.5% increase in losses and a 14.1% increase in LAE. The increase in
losses was substantially  lower than that for net premiums earned as a result of
the one-time  addition of $17.5 million to the 1994 loss reserves  applicable to
the Company's medical malpractice business in Florida, subrogation recoveries in
the  surety  line of  business  in excess  of  expectations,  favorable  reserve
development in accident  years prior to 1995 for general  liability and workers'
compensation  and  recoveries  under the  aggregate  excess of loss  reinsurance
contract which provides  coverage for certain losses and LAE in excess of 66% of
the net  earned  premium  for the  1995  accident  year.  These  decreases  were
partially  offset by carrying  higher loss and LAE ratios to premiums earned for
1995 business.  The Company also increased prior years reserves by approximately
$19.0 million, offset by subrogation  recoverable of like amount,  recognized in
conjunction  with the favorable  ruling in the New York Court of Appeals as more
fully  described in Note--C of the Notes to Consolidated  Financial  Statements.
The 14.1%  increase in LAE  resulted  from the  increase in loss and LAE ratios,
partially offset by a change in the line of business mix to those having a lower
percentage  relationship of LAE to losses and the allocation of recoveries under
the aggregate  excess of loss contract and the favorable court ruling  mentioned
above.  Due to the  disproportionate  relationship  of losses  and LAE to earned
premium,  the  loss  and  LAE  component  of the  GAAP  Combined  Ratio  was 9.6
percentage  points lower than in the comparable 1994 period.  The 38.7% increase
in the amortization of policy acquisition costs was attributable primarily to an
increase in direct  commission  expense  resulting  from growth in programs with
higher  commission  rates,  a decrease in  reinsurance  contingent  commissions,
increased  staffing and  marketing  expenses  related to  expansion,  and salary
increases,  partially  offset  by  a  decrease  in  assumed  commission  expense
resulting from the continued  decrease in assumed  written  premiums.  The 25.1%
increase in underwriting,  other expenses and interest expense was primarily the
result of the interest  expense  associated with the borrowing under the line of
credit  facility,  an  increase in the  additions  to  allowance  for bad debts,
increased  staffing,  increased  facilities,  equipment  and  materials  expense
necessitated by the Company's growth, a reduction in assessment  recoveries from
the Texas  Workers'  Compensation  Insurance  Facility,  and  salary  increases,
partially  offset by a decrease  in  policyholder  dividends.  As the  non-claim
related  component of the GAAP Combined  Ratio  increased at a greater rate than
premiums earned,  the non-claim  component was 1.7 percentage points higher than
in the comparable  1994 period.  The total GAAP Combined Ratio  decreased by 8.3
percentage points to 92.7% as a result of the above.

The  foregoing  changes  resulted in income before income taxes of $43.3 million
for the year ended 1995,

                                       23

<PAGE>

<PAGE>

a 102.9%  increase  from the  comparable  1994  period.  Net income for the year
increased by $14.2 million, or 83.8%. The comparative results were significantly
impacted by the $17.5 million  addition to loss reserves in the third quarter of
1994 reflected above,  which resulted in a  disproportionately  lower net income
for the 1994 period.

Asset Portfolio Review

At  December  31,  1996,  the  Company's  total  assets  of  $1.25  billion  was
comprised  of  the  following:   cash  and   investments,   67.9%;   reinsurance
recoverables,  15.5%;  premiums  receivable and agents balances,  6.2%; deferred
expenses (policy  acquisition  costs and deferred  federal income taxes),  4.9%;
home office building, property and equipment, 3.0%; and other assets, 2.5%.

The Company  generally  invests in  securities  with fixed  maturities  with the
objective of providing  reasonable  returns while limiting  liquidity and credit
risk. As a result, its investment portfolio consists primarily of government and
governmental agency securities and high-quality  marketable corporate securities
which are rated at investment  grade levels.  At December 31, 1996,  the Company
held rated, or better-than-investment grade, fixed income debt securities with a
carrying amount of $ 685.3 million,  constituting  100.0% of the Company's fixed
maturity investments.

At December 31, 1996 and 1995, the Company's fixed maturity  securities included
mortgage-backed bonds of $297.8 million and $192.1 million, respectively,  which
are subject to risks  associated  with variable  prepayments  of the  underlying
mortgage  loans.  Prepayments  cause those  securities to have different  actual
maturities  than that expected at the time of purchase.  Securities that have an
amortized  cost greater than par that are backed by mortgages that prepay faster
than expected  will incur a reduction in yield or loss,  while  securities  that
have an amortized  cost less than par that are backed by  mortgages  that prepay
faster than expected  will generate an increase in yield or gain.  The degree to
which a security is  susceptible  to either gains or losses is influenced by the
difference  between its amortized cost and par, the relative  sensitivity of the
underlying  mortgages  backing the assets to prepayments in a changing  interest
rate  environment  and the repayment  priority of the  securities in the overall
securitization structure.

The Company limits the extent of its credit risk by purchasing  securities  that
are backed by stable collateral and by concentrating on securities with enhanced
priority in the  securitization  structure.  Such  securities  with reduced risk
typically  have  a  lower  yield  (but  higher   liquidity)   than   higher-risk
mortgage-backed  bonds  (i.e.,  mortgage-backed  bonds  structured  to  share in
residual cash flows or which cover interest only  payments).  At selected times,
higher-risk  securities may be purchased if they do not compromise the safety of
the  Company's  general  portfolio.  There are  negligible  default risks in the
Company's mortgage-backed bond portfolio as the vast majority of these bonds are
either guaranteed by U.S.  government-sponsored entities or are supported in the
securitization structure by junior securities resulting in the bonds having high
investment grade status.

At December 31, 1996,  the following  table  provides a profile of the Company's
fixed maturity investment portfolio by rating:
<TABLE>
<CAPTION>

                                                                       Amount          Percent
                                                        Market      Reflected on         of
    S&P/Moody's Rating                                  Value       Balance Sheet     Portfolio
    ------------------                                 --------    --------------    -----------
                                                               (Amounts in thousands)

<S>                                                    <C>            <C>              <C>  
    AAA/Aaa (including U.S. Treasuries of $24,118)     $417,650       $417,650          60.9%
    AA/Aa                                               101,460        101,460          14.8
    A/A                                                 119,652        119,652          17.5
    BBB/Baa                                              46,491         46,491           6.8
    All other                                                24             24            .0
                                                  -------------  -------------     ---------
                       Total                           $685,277       $685,277         100.0%
                                                       ========       ========         =====
</TABLE>


                                       24

<PAGE>

<PAGE>

Prior to January 1, 1994, the Company  classified  fixed maturity  securities in
accordance with the then existing accounting standards and,  accordingly,  those
fixed maturity  securities  that were not intended to be  held-to-maturity  were
designated as actively  managed,  and were carried at fair value with unrealized
holding gains and losses reported in a separate caption in shareholders' equity.
Other fixed  maturity  securities  were  carried at  amortized  cost,  since the
Company had both the ability and intent to hold those securities until maturity.

As of January 1, 1994, the Company adopted FASB Statement 115 and reclassified a
portion of its fixed maturity securities portfolio as "available-for-sale," with
the   remainder   being    classified   as    "held-to-maturity."    Under   the
reclassification,     the    fixed    maturity    securities    classified    as
"available-for-sale"  are carried at fair value and changes in fair values,  net
of applicable  income taxes,  are charged or credited  directly to shareholders'
equity.  "Held-to-maturity"  securities  are  reported at  amortized  cost.  The
adoption of Statement  115  increased  shareholders'  equity by $3.65 million at
January 1, 1994.

In December 1995, the Company reclassified all of its previously held securities
classified as held-to-maturity, to available-for-sale as permitted by the FASB's
Special  Report,  A Guide to  Implementation  of Statement 115 on Accounting for
Certain  Investments  in  Debt  and  Equities  -  Questions  and  Answers.   The
reclassification increased shareholders' equity by $2.75 million at December 31,
1995.

Liquidity and Capital Resources

The Company is a holding company,  receiving cash  principally  through sales of
equities, borrowings, and dividends from its subsidiaries,  certain of which are
subject  to  dividend  restrictions  described  in  Note I of the  Notes  to the
Consolidated  Financial  Statements.  The ability of insurance  and  reinsurance
companies  to  underwrite  insurance  and  reinsurance  is based on  maintaining
liquidity  and capital  resources  sufficient to pay claims and expenses as they
become due. The primary sources of liquidity for the Company's  subsidiaries are
funds  generated from insurance and  reinsurance  premiums,  investment  income,
commission and fee income,  capital  contributions from the Company and proceeds
from sales and maturities of portfolio  investments.  The principal expenditures
are for payment of losses and LAE,  underwriting  and other operating  expenses,
commissions, and dividends to shareholders and policyholders.

The  Company's  subsidiaries  maintain  liquid  operating  positions  and follow
investment  guidelines that are intended to provide for an acceptable  return on
investment while preserving capital,  maintaining  sufficient  liquidity to meet
their obligations, and as to the Company's insurance subsidiaries, maintaining a
sufficient  margin of capital and surplus to ensure their unimpaired  ability to
write insurance and assume reinsurance.

Cash flow generated from operations for 1996, 1995, and 1994 was $116.5 million,
$105.0 million, and $81.9 million, respectively, amounts adequate to meet all of
the Company's obligations.

In January 1994 and 1995,  investment  funds were  increased by $9.0 million and
$3.9 million,  respectively,  from the  commutation of the 1990, and 1991 treaty
years under the  medical  malpractice  reinsurance  treaties,  resulting  in the
receipt  of  $6.1  million  and  $3.9  million,  respectively,  in  cash  and  a
concomitant  increase in reserves  for unpaid  losses and LAE,  with the balance
received from the collection of contingent commissions earned by the Company for
the 1994 treaty year.

In April  1994,  the  Company  completed  the  acquisition  of Spencer  Douglass
Insurance  Associates,  Inc.,  a  California  license and permit bond  insurance
agency, for $3.2 million and entered into a five-year  consulting agreement with
the  owner/principal of the agency.  Personnel of the agency involved in placing
and  servicing  the  acquired  business  have become  employees  of the Company,
operating  from their  respective  locations in Phoenix,  Arizona;  Reno and Las
Vegas, Nevada; and San Jose, Orange County and La Jolla, California. All new and
renewal  policies with respect to the  approximately $5 million to $6 million of
license and permit bond business acquired are issued by the Company.

                                       25

<PAGE>

<PAGE>

In May 1995,  the  Company and R.  Spencer  Douglas  III  ("Douglass")  formed a
California    limited    liability    corporation,     Douglass/Frontier,    LLC
("Douglass/Frontier"),  a bail  bond  insurance  agency  to  which  the  Company
contributed  $2.4  million in cash and  Douglass  contributed  the assets of his
wholly-owned  existing bail bond agency.  The Company and Douglass share equally
in the ownership of Douglass/Frontier.

On June 29, 1995, the Company  obtained a 4 1/2 year, $35 million line of credit
facility  from The Bank of New York,  under which it borrowed  $25 million at an
interest rate of 6.87% per annum, payable quarterly. In June and September 1996,
the Company  borrowed an additional  $4.2 million and $2.9 million from The Bank
of New York (outside of the line of credit) at annual  interest  rates of 6.125%
and 6.3125%,  respectively,  payable quarterly,  due October 1996. In the fourth
quarter, the Company repaid all borrowings and terminated the facility.

As a  result  of a  review  by  AM  Best  of  Frontier  Insurance  Company's  A-
(Excellent)  rating,  the  Company  agreed  with AM  Best to make a $45  million
capital infusion to Frontier Insurance Company by June 30, 1995 in order to fund
its projected growth and retain its A- rating. At June 30, 1995, the Company had
completed the $45 million  capital  infusion,  utilizing a combination  of funds
previously held by the Company and loan proceeds from The Bank of New York loan.

In November 1995, the Company  acquired the realtors'  errors and omissions book
of business from Bankers Multiple Line Insurance Company ("BMLIC") for $400,000.
The personnel of BMLIC  involved in placing and servicing the acquired  business
have become  employees  of the Company and will  continue to operate  from their
location in Louisville, Kentucky.

In May 1996, the Company  completed the  acquisition  of United Capitol  Holding
Company  ("United  Capitol  Holding"),  the direct or indirect  parent of United
Capitol  Insurance  Company,  United Capitol  Managers,  Inc.  (renamed  Olympic
Underwriting  Mangers,  Inc.) and Fischer  Underwriting  Group,  Inc., for $31.0
million. United Capitol Holding, through its subsidiaries, underwrites specialty
risks such as asbestos  abatement,  environmental  liability and  directors' and
officers' liability.

Effective June 1996, the Company  completed the acquisition of Regency Insurance
Company and Emrol Premium  Discount,  Inc. in exchange for 238,087 shares of the
Company's Common Stock.  Regency underwrites  non-standard  automobile insurance
principally  in  North  Carolina  and  Emrol  finances  premiums  primarily  for
policyholders of Regency.

In October 1996, the Company  completed a $172.5 million offering of Convertible
TOPrS, issued through Frontier Financing Trust, a Delaware business trust formed
by the Company for the purpose of the transaction. The Convertible  TOPrS have a
dividend rate of 6 1/4% and are convertible  into 1.0663 shares of the Company's
Common Stock,  equivalent to a conversion  price of $46.89 per share. See NOTE M
of the NOTES TO THE  CONSOLIDATED  FINANCIAL  STATEMENTS.  Net  proceeds  to the
Company  from this  offering  were  $166.9  million of which  $32.1  million was
applied  to repay bank debt,  $60  million  was  contributed  to the  surplus of
Frontier Insurance and the remaining balance was available for general corporate
purposes.

During  1996,  the  Company   expended  $1.2  million  in  connection  with  the
construction  of an addition to its home office  building.  The Company plans to
occupy the  addition  in 1997 and will  expend  approximately  $11.3  million to
complete the facility.

In March 1992,  the Company  commenced  quarterly cash dividend  payments.  Cash
dividends  declared  in 1996,  1995 and 1994 were  $7,300,000,  $6,200,000,  and
$6,000,000, respectively.

On November  10, 1994,  the Company  authorized  a stock  repurchase  program to
purchase up to 1,000,000  shares of its Common Stock at such times and prices as
the  Company  deems  advantageous,  in  compliance  with SEC Rule  10b-18 at the
discretion of the Chairman of the Board. There is no commitment or obligation on
the part of the Company to purchase any particular number of shares, and

                                       26

<PAGE>

<PAGE>

the  program  may be  suspended  at any time at the  Company's  discretion.  The
Company did not purchase any shares in 1996.  In 1995 and 1994,  in  conjunction
with this repurchase  program,  the Company purchased 6,600 and 38,940 shares of
its Common Stock at a cost of $134,000 and $654,000, respectively.

On March 31, 1997, the Company announced that it executed a definitive agreement
to  acquire 100%  of  the stock of Lyndon Property Insurance Company and its six
subsidiaries,  Lyndon  Life  Insurance  Company,  Twin  Mercury  Life  Insurance
Company,  Gulfco  Life  Insurance  Company,  Lyndon  Southern Insurance Company,
Lyndon-DFS  Warranty  Services, Inc.  and  Lyndon General Agency of Texas, Inc.,
subject  to certain closing conditions and regulatory   approval,  at a purchase
price  of   approximately  $92,000,000.  The  purchase price will be financed by
Company funds and bank borrowings.

Reinsurance

Effective  January 1, 1995,  the Company  entered  into a stop loss  reinsurance
contract with Centre Reinsurance  Company of New York ("Centre Re") for accident
years'  commencing  1995.  Under the agreement,  Centre Re provides  reinsurance
protection within certain accident year and contract aggregate dollar limits for
losses  and LAE in  excess of a  predetermined  ratio of these  expenses  to net
premiums  earned for a given  accident  year for all lines of  business,  except
certain classes of surety bonds, and net premiums earned from United Capitol and
Regency. The loss and LAE ratio above which the reinsurance provides coverage is
66%,  65%,  and 64% for  accident  years 1995 through  1997,  respectively.  The
maximum  amount  recoverable  for an  accident  year is 175% of the  reinsurance
premium paid for the accident  year,  or  $162,500,000  in the aggregate for the
three years.

Litigation with the State of New York

In  December  1990,  the New York State  Court of Claims  rendered a decision in
favor of the  Company  holding  that a State  University  of New  York  ("SUNY")
medical school faculty member engaged in the clinical  practice of medicine at a
SUNY medical facility,  corollary to such physician's  faculty  activities,  was
within  the  scope of such  physician's  employment  by SUNY  and was  protected
against malpractice claims arising out of such activity by the State of New York
and not under  the  Company's  medical  malpractice  policy.  The  decision  was
affirmed on appeal by the New York State Appellate Division in November 1991 and
not  appealed  by the  State.  In July  1992,  the  State  of New  York  enacted
legislation  eliminating  medical school faculty  members of SUNY engaged in the
clinical practice of medicine at a SUNY medical facility from indemnification by
the State with  respect to  malpractice  claims  arising  out of such  activity,
retroactive  to July 1, 1991. In an opinion filed on September 3, 1993 the Court
of  Claims  of the  State of New  York  held,  inter  alia,  that the July  1992
legislation  by the State of New York  eliminating  SUNY medical  school faculty
members  engaged  in the  clinical  practice  of  medicine,  as  part  of  their
employment  by  SUNY,  from   indemnification  by  the  State  with  respect  to
malpractice  claims  arising  out  of  such  activity,  was  not  to be  applied
retroactively.  This  decision  was  affirmed  by the New York  State  Appellate
Division in April 1994.  Subsequently,  in February 1995, the Appellate Division
granted  leave to  Frontier  and the  State of New  York to have the  issues  of
Frontier's  entitlement  to  recover  its  costs  of  defense  and its  costs of
settlement ruled on by the State's highest Court, the New York Court of Appeals.
In  December  1995,  the New York  Court of  Appeals  ruled  on this  issue  and
concluded  that  Frontier  was  entitled to  recoveries  from the State for such
medical malpractice  claims. As a result of this decision,  the Company believes
that it will  benefit  economically  by not  being  ultimately  responsible  for
certain claims against SUNY physicians for whom it presently carries reserves is
entitled  to  reimbursement  of certain  claims  previously  paid;  accordingly,
effective  June 30, 1996 and December 31, 1995,  Frontier  recorded  subrogation
recoverables  of  approximately   $13,000,000  and  $19,000,000,   respectively,
representing  the amount of claims already paid and the reserves  currently held
by Frontier on open cases that management believes are reimbursable by the State
of New York. In January 1997,  the New York Court of Claims  rendered a decision
granting  summary  judgement  to the  Company  on three  SUNY  cases  that  were
previously paid by the Company.  This decision has been appealed by the State of
New York.  To the extent  that the amount of the actual  recovery  varies,  such
difference will be reported in the period recognized.  The Company is continuing
to defend all SUNY faculty  members  against  malpractice  claims that have been
asserted and is  maintaining  reserves  therefor  adjusted  for the  anticipated
recoveries.


                                       27

<PAGE>

<PAGE>
Regulation

In its ongoing effort to improve solvency  regulation,  the National Association
of Insurance  Commissioners  ("NAIC") and individual states have enacted certain
laws and financial  statement  changes.  The NAIC has adopted Risk-Based Capital
("RBC") requirements for  property/casualty  insurance companies to evaluate the
adequacy  of  statutory  capital  and  surplus in  relation  to  investment  and
insurance  risks  such as asset  quality,  mortality  and  morbidity,  asset and
liability  matching,  benefit  and loss  reserve  adequacy,  and other  business
factors.  The RBC  formula  is used by state  insurance  regulators  as an early
warning  tool to  identify,  for the purpose of  initiating  regulatory  action,
insurance companies that potentially are inadequately capitalized.  In addition,
the formula  defines new minimum  capital  standards that supplement the current
system of low fixed minimum capital and surplus requirements on a state-by-state
basis.  Regulatory  compliance  is  determined  by a ratio  of the  enterprise's
regulatory  total  adjusted  capital,  as defined by the NAIC, to its authorized
control  level RBC, as defined by the NAIC.  Companies  below  specific  trigger
points or ratios are classified  within certain  levels,  each of which requires
specific corrective action. The levels and ratios are as follows:
<TABLE>
<CAPTION>

                                                    Ratio of Total Adjusted Capital to
                                                       Authorized Control Level RBC
                   Regulatory Event                       (Less Than or Equal to)
                   ----------------                  -------------------------------
             <S>                                              <C>
               Company action level                                 2 *
               Regulatory action level                              1.5
               Authorized control level                             1
               Mandatory control level                              0.7

               *Or, 2.5 with negative trend.
</TABLE>

The ratios of total  adjusted  capital to  authorized  control level RBC for the
Company's insurance  subsidiaries were all in excess of 3:1 at both December 31,
1996 and 1995.

The  NAIC  currently  is in the  process  of  recodifying  statutory  accounting
practices,  the result of which is  expected  to  constitute  the only source of
"prescribed" statutory accounting practices. Accordingly, that project, which is
expected to completed in 1997,  will likely change,  to some extent,  prescribed
statutory  accounting  practices,  and may result in  changes  in the  Company's
insurance subsidiaries statutory surplus.

The thrust of these regulatory  efforts at all levels is to improve the solvency
of insurers.  These regulatory  initiatives,  and the overall focus on solvency,
may intensify the  restructuring  and  consolidation of the insurance  industry.
While the impact of these regulatory efforts on the Company's  operations cannot
be  quantified  until  enacted,  the  Company  believes  it will  be  adequately
positioned to compete in an environment of more stringent regulation.

Impact of Inflation

Property and casualty  insurance  premiums are established  before the amount of
losses and LAE, or the extent to which  inflation may affect such expenses,  are
known.  Consequently,  the Company  attempts,  in establishing its premiums,  to
anticipate  the potential  impact of inflation.  However,  for  competitive  and
regulatory  reasons,  the  Company  may  be  limited  in  raising  its  premiums
commensurate with anticipated inflation, in which event the Company, rather than
its insureds,  would absorb inflation costs.  Inflation also affects the rate of
investment  return on the Company's  investment  portfolio with a  corresponding
effect on the Company's investment income.


                                       28

<PAGE>

<PAGE>
Environmental Issues

The Company,  through its subsidiary,  United Capitol, in the ordinary course of
business,  writes insurance on accounts which have hazardous,  unique or unusual
risk characteristics. Since United Capitol's organization in 1986, its liability
policies have included an absolute  pollution  coverage  exclusions,  except for
policies providing pollution  liability coverage to contractors  involved in the
remediation of pre-existing  pollution.  In addition,  United Capitol's  product
liability and other primary general  liability  policies contain  exclusions for
coverage of claims for bodily  injury or property  damage  caused by exposure to
asbestos,  other than for the policies  providing coverage to asbestos abatement
contractors  for third party claims alleging bodily injury or property damage as
a result of exposure to asbestos. Employees of the insured contractor and others
required to be in the abatement area are excluded from coverage.

Although the Company  believes that such  policies,  together with the Company's
general,  professional  and  other  liability  policies,  do not  subject  it to
material exposure for environmental  pollution claims, there can be no assurance
of the Company's continued  protection in view of the expansion of liability for
environmental claims in recent litigation in the insurance industry.

Shareholder Litigation

The Company  has been  served with  several  purported  class  actions  alleging
violations  of federal  securities  laws by the Company  and, in some cases,  by
certain of its  officers  and  directors;  certain  other  actions  also  allege
violations of the common law. The complaints relate to the Company's November 5,
1994  announcement of its  third-quarter  financial  results and allege that the
Company previously had omitted and/or misrepresented material facts with respect
to its earnings and profits.  The Company  believes the suits are without  merit
and has retained  special legal counsel to contest them  vigorously and believes
that the Company's exposure to liability under such lawsuits,  if any, would not
have a material adverse effect on the Company's financial condition.

Item 8.      Financial Statements and Supplementary Data.

             See List of Financial Statements and Financial  Statement Schedules
             on Page F-1.

Item 9.      Changes   in  and  Disagreements  with  Accountants  on  Accounting
             and Financial Disclosure.

             None.

                                       29




<PAGE>
<PAGE>

                                    PART III

Item 10.  Directors and Executive Officers of the Registrant.

The  following  table  lists each  director  and each  executive  officer of the
Company, together with their respective age and office(s) held:

        Name               Age                     Office
-------------------        ---      --------------------------------------
Walter A. Rhulen           65       President and Chairman of the Board
Peter L. Rhulen            58       Vice President and Director
Harry W. Rhulen            33       Executive Vice President
Peter H. Foley             49       Executive Vice President - M & A
Mark H. Mishler            38       Vice President - Finance and Treasurer
Thomas J. Dietz            55       Vice President
Linda Markovits            48       Vice President - Investor Relations
James E. Kroh              53       Vice President - Human Resources
Lawrence E. O'Brien        56       Director
Douglas C. Moat            65       Director
Alan Gerry                 68       Director

      Walter A. Rhulen has been the  President  and Chairman of the Board of the
Company since  commencement  of its operations in July 1986 and the President of
Frontier  Insurance  since 1976.  Mr.  Rhulen was also the  President  of Rhulen
Agency,  a position he held for more than 22 years,  which office he resigned in
1986. Mr. Rhulen, a chartered property and casualty underwriter (CPCU), has more
than 40 years experience in the insurance business.

      Peter L.  Rhulen has been a Vice  President  and  director  of the Company
since  commencement  of its  operations  in July  1986 and a Vice  President  of
Frontier  Insurance  since  1976.  Mr.  Rhulen was  formerly  Vice  Chairman  of
Markel/Rhulen,  a position he held from October 1989 to September  1992, and now
acts as an independent insurance consultant. Mr. Rhulen is also Vice Chairman of
the Board and President of RAI Partners,  Inc.  (formerly Rhulen Agency), a firm
of which he has been an  executive  officer for more than 25 years.  Mr.  Rhulen
devotes  only minimal time to the affairs of the Company in his capacity as Vice
President.

      Harry W. Rhulen was elected  Executive  Vice  President  of the Company in
October 1996, having been a Vice President of the Company since June 1990 and an
employee since June 1989. Mr. Rhulen also serves as Chief  Executive  Officer of
United Capitol from its acquisition in May 1996.

      Peter H. Foley was  elected  Executive  Vice  President  of the Company in
October 1996, having been a Vice President of the Company since June 1995. Prior
thereto,  Mr. Foley served as Vice President of Aegis Security Insurance Company
from  September  1993 to June 1995,  Executive  Vice President and co-founder of
Connecticut Surety Insurance Company from May 1993 to September 1993, and Senior
Vice  President of E.W.  Blanch,  Inc. from November 1991 to May 1993. Mr. Foley
has served in various executive officer positions in the insurance  industry for
more than 22 years, and has served as principal of his own consulting firm.

      Mark H. Mishler was elected Vice  President - Finance and Treasurer of the
Company in October  1996,  having  been the Vice  President  and  Controller  of
Frontier  Insurance  Company  since 1995,  and an employee of the Company  since
1987. Mr. Mishler has more than 15 years experience in the insurance business.


                                                30



<PAGE>
<PAGE>


      Thomas J. Dietz has been a Vice  President of the Company  since July 1990
and the  President of Med Pro since its  inception  in 1986.  For more than five
years prior thereto, Mr. Dietz was a Vice President of Medical Quadrangle, Inc.,
an  insurance  agency  which acted as a broker to the Company  through  February
1987.  Mr. Dietz,  a CPCU,  has more than 29 years'  experience in the insurance
business.

      Linda  Markovits  has been an  employee of the  Company  since  1987,  was
elected an Assistant Vice President in January 1991 and a Vice President in June
1993. Ms. Markovits has 18 years of experience in the insurance business.

      James E. Kroh was elected Vice President - Human  Resources of the Company
in May 1996, and joined the Company in 1995. Prior thereto,  Mr. Kroh served for
in excess of five years as Vice President for PHICO Insurance Company.

      Lawrence E. O'Brien has been a director of the Company since June 1990 and
a member of the Audit  Committee  since that date. Mr.  O'Brien,  a CPCU, is the
President of O'Brien Management Company,  Inc., an insurance  consulting firm, a
position he has held since January 1988,  and was a co-founder and a director of
Underwriter  Management  Associates,  a managing  general  insurance agency with
which he had been  associated  since  its  inception  in 1983  until its sale in
September  1990.  From 1976 to 1987, Mr. O'Brien was Executive Vice President of
Associated  Risk  Managers,  a New York  statewide  affiliation  of  independent
insurance agents marketing specialized insurance programs.

      Douglas C. Moat has been a director of the Company since August 1991 and a
member of the Audit Committee since that date. Mr. Moat, a JD, CLU, and FLMI, is
Chairman of the Manhattan Group, Inc., an insurance and financial services firm.
Mr. Moat has over 40 years' experience in insurance and financial services sales
and management,  including 13 years as a private consultant.  During his career,
he has held  positions as Executive  Vice  President,  The Home Group;  Director
Financial Services Corporate Staff, ITT Corp.; Vice President, USLIFE Corp., and
President of USLIFE's mutual fund  subsidiary;  Vice President,  The Glens Falls
Group and the National Life Assurance Company of Canada. Mr. Moat is a member of
the New York State Bar  Association,  serves on several  insurance  and  banking
committees,  and writes and speaks extensively on insurance topics, often acting
as an expert witness.

      Alan Gerry was elected a director of the Company in March 1996.  Mr. Gerry
was the  founder of  Cablevision  Industries  Corporation,  the  eighth  largest
multiple  cable  system  operator in the United  States and its  Chairman of the
Board  and  Chief   Executive   Officer   until  its  merger  with  Time  Warner
Entertainment  in January 1996.  Mr. Gerry is a member of the Board of Directors
of Time Warner  Entertainment,  the National Cable Television  Association,  and
C-SPAN,  the industry  public  affairs  programming  network.  He was a founding
member of the Board of the Cable  Alliance for Education and is a past President
of the New York State Cable Television Association.

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

Messrs.  Walter A.  Rhulen and Peter L.  Rhulen are  brothers  and Mr.  Harry W.
Rhulen is the son of Walter A. Rhulen.

All  directors  hold office until the next annual  meeting of  shareholders  and
until their successors are elected and qualified.  Officers are elected annually
and serve at the pleasure of the Board of Directors,  subject to rights, if any,
under contracts of employment.


                                       31


<PAGE>
<PAGE>


Item 11. Executive Compensation

The  following  table  sets forth a summary  of the  compensation  earned by the
Company's  Chief  Executive  Officer and its four other most highly  compensated
executive officers during the year ended December 31, 1996 and the two preceding
years.

                           Summary Compensation Table

<TABLE>
<CAPTION>
                                                        Long-Term
                             Annual Compensation      Compensation
Name and                     -------------------          Awards
 Principal                   Salary        Bonus          ------            All Other
 Position          Year        ($)          ($)         Options (#)    Compensation ($) (1)
-----------        ----      -------      -------       -----------    --------------------

<S>                <C>       <C>          <C>            <C>             <C>   
Walter A. Rhulen   1996      500,000      415,500            --               30,000
  President        1995      500,000      296,900            --               23,400
  and Chairman     1994      500,000           --            --               27,300

Thomas J. Dietz    1996      250,000       75,000            --               20,000
  Vice President   1995      215,000       35,400            --               16,300
                   1994      215,000           --            --               15,000

Peter H. Foley     1996      191,000      157,800        20,000(2)            17,000
  Executive        1995       77,900       45,300        11,000(3)             3,600
  Vice President   1994          --            --            --                   --

Harry W. Rhulen    1996      125,000       65,000            --               14,000
  Executive        1995      105,000       23,900         2,750(4)            10,000
  Vice President   1994       90,000       10,000            --                9,200

Mark H. Mishler    1996      106,000       60,000            --               11,300
  Vice President   1995       87,000        8,900         2,750(4)             8,500
  and Treasurer    1994       80,000        7,500            --                6,700
</TABLE>

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

(1)  Represents the allocable  amount accrued for contribution by the Company to
     its  profit  sharing  plan  and  the  allocable  amount  of  the  Company's
     contribution   to  its  401K  plan.   The  allocable   amount  accrued  for
     contribution  to the Company's  profit sharing plan for Messrs.  W. Rhulen,
     Dietz, Foley, H. Rhulen and Mishler was $9,500,  $9,500, $9,500, $9,400 and
     $6,700, respectively, and the allocable amount contributed to the Company's
     401K Plan for Messrs.  W. Rhulen,  Dietz,  Foley, H. Rhulen and Mishler was
     $20,500, $10,500, $7,500, $4,600 and $4,600, respectively.

(2)  Exercisable cumulatively at the rate of approximately 10% of the underlying
     shares per year, commencing June 30, 1997.

(3)  Exercisable  cumulatively  at the rate of 25% of the underlying  shares per
     year, commencing June 5, 1996.

(4)  Exercisable  cumulatively  at the rate of 25% of the underlying  shares per
     year, commencing March 3, 1996.

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


                                       32


<PAGE>
<PAGE>


The following  table presents the value of unexercised  options held at December
31, 1996 by the individuals named in the Summary Compensation Table:

                               Options Value Table

                                                               Value of
                                Number of                    Unexercised
                               Unexercised                   In-the-Money
                                  Options                      Options
                               at Year-End (#)              at Year-End ($)*
                              Exercisable (E)/             Exercisable (E)/
        Name                 Unexercisable (U)            Unexercisable (U)
---------------------        -----------------            ----------------
Walter A. Rhulen                    --                          --

Thomas J. Dietz                 74,250 (E)                      -0- (E)

Peter H. Foley                   2,750 (E)                   43,938 (E)
                                28,250 (U)                  136,813 (U)

Harry W. Rhulen                105,854 (E)(1)                40,663 (E)
                                 2,744 (U)                   49,105 (U)

Mark H. Mishler                  2,049 (E)                   31,559 (E)
                                 2,516 (U)                   46,053 (U)


------------
*   Values are calculated by subtracting the exercise price from the fair market
    value of the Common Stock at year-end.

(1) Includes  103,215  shares  purchasable  at $45.45 per share upon exercise of
    options granted to Mr. Walter A. Rhulen, his father, and gifted to Mr. Harry
    W. Rhulen by his father.

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

    Mr. Harry W. Rhulen is the son of Mr. Walter A. Rhulen


                                       33


<PAGE>
<PAGE>


Item 12.  Security Ownership of Certain Beneficial Owners and Management

The following table sets forth the beneficial  ownership of the Company's Common
Stock at  December  31,  1996 by (i) each  person  known by the  Company  to own
beneficially five percent or more of such shares, (ii) each director, (iii) each
person named in the Summary Compensation Table under "Executive Compensation" on
page 32, and (iv) all directors and executive officers as a group, together with
their respective percentage ownership of the outstanding shares:

                              Amount and Nature of
                              Beneficial Ownership

<TABLE>
<CAPTION>
                                       Currently             Acquirable             Percent of
Name and Address                         Owned             Within 60 Days (1)      Outstanding
----------------                      ------------         --------------          -----------

<S>              <C>                  <C>                    <C>                      <C>
Walter A. Rhulen (2)...............   1,083,822(3)               --                    7.4
Peter L. Rhulen (2)................     972,950(4)               --                    6.6
Lawrence E. O'Brien................      34,392                  688                     *
Douglas C. Moat....................       4,263                  688                     *
Alan Gerry ........................         --                   --                      *
Thomas J. Dietz....................      69,704               74,250                   1.0
Harry W. Rhulen....................      97,631(5)           105,854(6)                1.4
Peter H. Foley.....................         952                2,750                     *
Mark H. Mishler....................        --                  2,049                     *
Estate of Jesse M. Farrow (2)......     859,594                --                      5.9
Denver Investment Advisors LLC
  1225 - 17th Street, 26th Floor
  Denver, CO  80202................   1,218,726(7)             --                      8.3
Wellington Management Company
  75 State Street
  Boston, MA 02109.................   1,139,071(8)             --                      7.8
All directors and executive
  officers as a group (9 persons)..   2,276,314              190,383                  16.8
</TABLE>

------------------------------------
* Less than 1%

(1) Reflects  number of  shares of Common  Stock  acquirable  upon  exercise  of
    options.

(2) Address is 195 Lake Louise Marie Road, Rock Hill, NY 12775-8000.

(3) Does not include 5,072 shares of Common Stock owned by the wife of Walter A.
    Rhulen, the beneficial ownership of which Mr. Rhulen disclaims.

(4) Does not include 13,216 shares of Common Stock owned by the wife of Peter L.
    Rhulen,  245,391  shares owned by the  children of Peter L.  Rhulen,  26,200
    shares of Common  Stock owned by The Eileen and Peter Rhulen  Foundation  of
    which Mr. Rhulen is President,  and 12,650 shares of Common Stock owned by a
    charitable  foundation  for which Mr.  Rhulen  acts as trustee.  Mr.  Rhulen
    disclaims beneficial ownership of the aforementioned shares.

(5) Includes 3,394 shares owned by a daughter of Mr. Harry W. Rhulen for whom he
    acts as custodian  under the Uniform  Gifts to Minors Act.  Does not include
    5,459 shares of Common  Stock owned by Mr.  Rhulen's  wife,  as to which Mr.
    Rhulen disclaims beneficial ownership.

(6) Includes  103,125  shares  purchasable  at $45.45 per share upon exercise of
    options granted to Mr. Walter A. Rhulen, his father, and gifted to Mr. Harry
    W. Rhulen by his father.

(7) Information is from Schedule 13G,  dated February 10, 1997,  filed by Denver
    Investment  Advisors,  LLC, which  reflects  shared  dispositive  power with
    respect to 1,218,726 shares.

(8) Information  is from a  Schedule  13G,  dated  January  24,  1997,  filed by
    Wellington Management Company,  which reflects shared dispositive power with
    respect to 1,139,071 shares.


                                       34


<PAGE>
<PAGE>


Item 13.   Certain Relationships and Related Transactions

           Not applicable.

                                     PART IV

Item 14.   Exhibits, Financial Statements, Schedules, and Reports on Form 8-K

           (a) List of documents filed as part of this Report.

               (1), (2) Financial Statements and Schedules.

                        See List of Financial Statements and Financial Statement
                        Schedules on page F-1.

               (3) The list of exhibits  required to be filed with this Report
                     is set forth in the Index to Exhibits herein.

           (b) Reports on Form 8-K.

               None.

           (c) Exhibits.

               See Index to Exhibits


                                       35


<PAGE>
<PAGE>


                           ANNUAL REPORT ON FORM 10-K

                   ITEM 8, ITEM 14(a)(1) and (2), (c), and (d)

                   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES

                                CERTAIN EXHIBITS

                          FINANCIAL STATEMENT SCHEDULES

                          YEAR ENDED DECEMBER 31, 1996

                         FRONTIER INSURANCE GROUP, INC.

                               ROCK HILL, NEW YORK



<PAGE>
<PAGE>


FORM 10-K--ITEM 14(a)(1) AND (2)

FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES

The  following  consolidated  financial  statements  and  supplemental  data  of
Frontier Insurance Group, Inc. and subsidiaries are included in Item 8:

Consolidated Balance Sheets--December 31, 1996 and 1995.....................F-3
Consolidated Statements of Income--Years Ended
    December 31, 1996, 1995 and 1994........................................F-5
Consolidated Statements of Shareholders' Equity--Three Years Ended
    December 31, 1996.......................................................F-6
Consolidated Statements of Cash Flows--Years Ended
    December 31, 1996, 1995 and 1994........................................F-7
Notes to the Consolidated Financial Statements..............................F-8
Supplemental Data--Quarterly Results of Operations (Unaudited)..............F-30

The following  consolidated  financial statement schedules of Frontier Insurance
Group, Inc. and subsidiaries are included in Item 14(a):

Schedule II  --Condensed Financial Information of Registrant................F-31
Schedule IV --Reinsurance...................................................F-34
Schedule V  --Valuation and Qualifying Accounts.............................F-35
Schedule VI --Supplemental Information Concerning
               Property/Casualty Insurance Operations.......................F-36

All other  schedules for which  provision is made in Article 7 of Regulation S-X
are not required under the related instructions,  are inapplicable,  or required
information is included in the consolidated financial statements, and therefore,
have been omitted.

                                       F-1



<PAGE>
<PAGE>


                         REPORT OF INDEPENDENT AUDITORS

Board of Directors and Shareholders
Frontier Insurance Group, Inc.

We have  audited  the  accompanying  consolidated  balance  sheets  of  Frontier
Insurance Group, Inc. and subsidiaries as of December 31, 1996 and 1995, and the
related consolidated statements of income,  shareholders' equity, and cash flows
for each of the three years in the period ended  December  31, 1996.  Our audits
also  included the  financial  statement  schedules  listed in the Index at Item
14(a).  These financial  statements and schedules are the  responsibility of the
Company's  management.  Our  responsibility  is to  express  an opinion on these
financial statements and schedules based on our audits.

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

In our opinion, the consolidated  financial statements referred to above present
fairly,  in all  material  respects,  the  consolidated  financial  position  of
Frontier  Insurance Group,  Inc. and subsidiaries at December 31, 1996 and 1995,
and the  consolidated  results of their operations and their cash flows for each
of the three years in the period ended  December 31, 1996,  in  conformity  with
generally  accepted  accounting  principles.  Also, in our opinion,  the related
financial  statement  schedules,  when  considered  in  relation  to  the  basic
financial  statements taken as a whole,  present fairly in all material respects
the information set forth therein.

As described in  Note B  to the  consolidated  financial  statements,  effective
January  1,  1994,  the Company adopted  Financial  Accounting  Standards  Board
Statement   115,   "Accounting  for  Certain  Investments  in  Debt  and  Equity
Securities."


                                           /S/     Ernst & Young LLP
                                           -------------------------

New York, New York
March 26, 1997, except for
Note O, as to which the date
is March 31, 1997


                                       F-2


<PAGE>
<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollar amounts in thousands)

                                     ASSETS

<TABLE>
<CAPTION>
                                                                    December 31
                                                            --------------------------
                                                               1996             1995
                                                            ----------        --------
<S>                                                              <C>             <C>  
Investments--Note H:
Securities, available for sale--at fair value:
   Fixed maturities (amortized cost:
    1996--$680,281; 1995--$510,056)                         $  685,277        $521,402
   Equity securities (cost: 1996--$13,871;
    1995--$20,132)                                              16,271          21,024
Short-term investments                                         133,835           7,353
Investment in limited liability corporation                      2,937           2,935
                                                            ----------        --------
        TOTAL INVESTMENTS                                      838,320         552,714

Cash                                                             8,332           5,115
Agents' balances due, less
   allowances for doubtful accounts
   (1996--$2,225; 1995--$3,346)                                 50,558          25,779
Premiums receivable from insureds,
   less allowances for doubtful accounts
   (1996--$60; 1995--$45)                                       26,225          24,177
Net reinsurance recoverables, less
   allowances for possible uncollectible
   amounts (1996--$517; 1995--$115)--Notes D and N             192,569          76,955
Accrued investment income                                        9,364           7,458
Federal income taxes recoverable                                 3,987             217
Deferred policy acquisition costs                               32,871          18,797
Deferred federal income tax asset--Note E                       27,620          23,627
Home office building, property and equipment--
   at cost, less accumulated depreciation and
   amortization (1996--$11,184; 1995--$7,679)                   37,167          29,668
Intangible assets, less accumulated amortization
   (1996--$3,808; 1995--$2,370)                                 11,738           3,082
Other assets                                                     7,656           5,759
                                                            ----------        --------
        TOTAL ASSETS                                        $1,246,407        $773,348
                                                            ==========        ========
</TABLE>


See notes to the consolidated financial statements.


                                       F-3


<PAGE>
<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS--Continued
(dollar amounts in thousands, except per share data)

                      LIABILITIES AND SHAREHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                                                    December 31
                                                            --------------------------
                                                               1996             1995
                                                            ----------        --------
<S>                                                         <C>               <C>     
LIABILITIES
 Policy liabilities--Notes C and D:
   Unpaid losses                                            $  429,506        $309,164
   Unpaid loss adjustment expenses                             109,567          58,272
   Unearned premiums                                           185,728         107,282
                                                            ----------        --------
         TOTAL POLICY LIABILITIES                              724,801         474,718

 Funds withheld under reinsurance contracts--Note N             64,065          28,226
 Cash dividend payable to shareholders                           1,904           1,568
 Note payable--Note F                                                           25,000
 Other liabilities                                              20,110          14,103
                                                            ----------        --------
         TOTAL LIABILITIES                                     810,880         543,615

COMMITMENTS AND CONTINGENCIES--Note L

GUARANTEED PREFERRED BENEFICIAL INTEREST
IN COMPANY'S CONVERTIBLE SUBORDINATED
DEBENTURES--Note M                                             166,953

SHAREHOLDERS' EQUITY--Notes A, G, I, and J
 Preferred stock, par value $.01
   per share; authorized and
   unissued--1,000,000 shares
 Common stock, par value $.01 per share;
   (shares authorized: 1996--50,000,000;
   1995--20,000,000, shares issued:
   1996--14,689,552; 1995--13,062,501)                             147             130
 Additional paid-in capital                                    221,984         167,587
 Net unrealized gains--Note H                                    4,807           7,955
 Retained earnings                                              42,424          54,849
                                                            ----------        --------
         SUBTOTAL                                              269,362         230,521

 Less treasury stock--at cost (1996--45,540 shares;
   1995--41,400 shares)                                            788             788
                                                            ----------        --------
         TOTAL SHAREHOLDERS' EQUITY                            268,574         229,733
                                                            ----------        --------

         TOTAL LIABILITIES AND
         SHAREHOLDERS' EQUITY                               $1,246,407        $773,348
                                                            ==========        ========
</TABLE>


See notes to the consolidated financial statements.


                                       F-4


<PAGE>
<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(dollar amounts in thousands, except per share data)

<TABLE>
<CAPTION>
                                                           Year Ended December 31
                                                  ---------------------------------------
                                                     1996           1995           1994
                                                  ---------      ---------      ---------
<S>                                               <C>            <C>            <C>      
REVENUES--Note D
  Premiums written                                $ 402,799      $ 264,314      $ 198,892
  Premiums ceded                                    (90,936)       (43,557)       (11,604)
                                                  ---------      ---------      ---------
          NET PREMIUMS WRITTEN                      311,863        220,757        187,288
  Increase in net unearned premiums                 (45,874)       (24,537)       (30,533)
                                                  ---------      ---------      ---------
          NET PREMIUMS EARNED                       265,989        196,220        156,755
  Net investment income                              37,226         30,035         24,453
  Realized capital gains (losses)                     1,707             20         (1,478)
                                                  ---------      ---------      ---------
          TOTAL NET INVESTMENT
             INCOME--Note H                          38,933         30,055         22,975
  Gross claims adjusting income--Note B                  55            130            255
                                                  ---------      ---------      ---------
          TOTAL REVENUES                            304,977        226,405        179,985

EXPENSES
  Losses--Notes C and D                              97,058         89,422         84,777
  Loss adjustment expenses--Notes C and D            58,933         29,833         26,141
  Amortization of policy acquisition
     costs--Note B                                   57,540         42,258         30,463
  Underwriting and other expenses                    30,540         20,717         17,274
  Minority interest in income of consolidated
     subsidiary trust--Note M                         2,277
  Interest expense--Note F                            1,970            895
                                                  ---------      ---------      ---------
           TOTAL EXPENSES                           248,318        183,125        158,655
                                                  ---------      ---------      ---------

INCOME BEFORE INCOME TAXES                           56,659         43,280         21,330

Income taxes--Note E
  State                                                 723          1,173            554
  Federal                                            15,869         10,896          3,796
                                                  ---------      ---------      ---------
           TOTAL INCOME TAXES                        16,592         12,069          4,350
                                                  ---------      ---------      ---------

                   NET INCOME                     $  40,067      $  31,211      $  16,980
                                                  =========      =========      =========

PER SHARE DATA--Note B
  Primary earnings per common share               $    2.77      $    2.18      $    1.19
                                                  =========      =========      =========
  Fully diluted earnings per common share         $    2.73      $    2.17      $    1.18
                                                  =========      =========      =========

WEIGHTED AVERAGE COMMON SHARES
  OUTSTANDING (in thousands):
  Primary                                            14,453         14,313         14,291
  Fully diluted                                      15,219         14,405         14,401
</TABLE>


See notes to the consolidated financial statements.


                                       F-5


<PAGE>
<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(dollar amounts in thousands, except per share data)

<TABLE>
<CAPTION>
Three Years Ended December 31, 1996                                     Net Unrealized
                                                           Additional    Gains(Losses)
                                                   Common    Paid-in     on Securities     Retained  Treasury         Total
                                                    Stock    Capital   Available-for-Sale  Earnings    Stock   Shareholders' Equity
                                                   ------  ----------  ------------------  --------  --------  --------------------
<S>                                                 <C>     <C>              <C>           <C>        <C>           <C>     
Balances at January 1, 1994                         $ 86    $166,663         $   55        $18,890                  $185,694

 Add (deduct):
   Net income                                                                               16,980                    16,980
   Expenses associated with 1993 issuance
        of 1,408,000 shares of common stock                      (47)                                                    (47)
   Common stock split (3 for 2)                       43         (43)
   Purchase of 35,400 shares as  treasury stock                                                       $(654)            (654)
   Stock options exercised                             1         636                                                     637
   Cumulative effect of change in accounting
     principle -- Note B                                                      3,651                                    3,651
   Net unrealized losses on securities
     available-for-sale (net of tax)                                        (10,013)                                 (10,013)
   Cash dividends paid and accrued ($.46 per share)                                         (5,984)                   (5,984)
                                                    ----      --------      -------        -------    -----        ---------
Balances at December 31, 1994                        130       167,209       (6,307)        29,886     (654)         190,264
                                                    ----      --------      -------        -------    -----        ---------
 Add (deduct):
   Net income                                                                               31,211                    31,211
   Purchase of 6,000 shares as  treasury stock                                                         (134)            (134)
   Stock options exercised                                         378                                                   378
   Transfer of securities to available-for-sale
     (net of tax) - Note B                                                    2,753                                    2,753
    Net unrealized gains on securities
     available-for-sale (net of tax)                                         11,509                                   11,509
   Cash dividends paid and accrued ($.48 per share)                                         (6,248)                   (6,248)
                                                    ----      --------      -------        -------    -----         --------
Balances at December 31, 1995                        130       167,587        7,955         54,849     (788)         229,733
                                                    ----      --------      -------        -------    -----         --------
 Add (deduct):
   Net income                                                                               40,067                    40,067
   Common stock dividend (10%)                        14        45,222                     (45,236)
   Stock options exercised                             1         1,102                                                 1,103
   Issuance of 238,087 shares of common stock          2         8,073                                                 8,075
   Net unrealized losses on securities
     available-for-sale (net of tax)                                         (3,148)                                  (3,148)
   Cash dividends paid and accrued ($.50 per share)                                         (7,256)                   (7,256)
                                                    ----      --------      -------        -------    -----         --------
Balances at December 31, 1996                       $147      $221,984      $ 4,807        $42,424    $(788)        $268,574
                                                    ====      ========      =======        =======    =====         ========
</TABLE>

See notes to the consolidated financial statements.

                                       F-6



<PAGE>
<PAGE>

FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(dollar amounts in thousands)
<TABLE>
<CAPTION>
                                                              Year Ended December 31
                                                   -------------------------------------------
                                                     1996              1995             1994
                                                   --------          --------         --------
     
OPERATING ACTIVITIES
<S>                                                <C>               <C>              <C>     
 Net income                                        $ 40,067          $ 31,211         $ 16,980
 Adjustments to reconcile net
   income to net cash provided
   by operating activities:
     Increase in policy liabilities                 145,636            80,857           63,274
     Decrease (increase) in
       reinsurance balances                         (35,473)            5,403           15,619
     Increase in agents' balances
       and premiums receivable                      (21,402)           (8,825)          (6,950)
     Increase in deferred policy
       acquisition costs                            (14,366)           (5,584)          (6,393)
     Increase in accrued investment
       income                                        (1,369)           (2,380)            (161)
     Deferred income tax expense (benefit)            2,279              (175)          (5,162)
     Depreciation and amortization                    3,687             2,384              305
     Realized capital losses (gains)                 (1,707)              (20)           1,478
     Other                                             (895)            2,110            2,871
                                                   --------          --------         --------

       NET CASH PROVIDED BY
         OPERATING ACTIVITIES                       116,457           104,981           81,861

INVESTING ACTIVITIES
 Proceeds from sales of fixed maturities
   available-for-sale                               129,523            46,650           26,245
 Proceeds from sales of fixed maturities
   held-to-maturity                                                    12,534
 Proceeds from calls, paydowns and
   maturities of fixed maturities
   available-for-sale                               191,888            77,999           25,250
 Proceeds from calls, paydowns and maturities
   of fixed maturities held-to-maturity                                33,783           19,175
 Proceeds from sales of equity securities            15,256            36,465           63,200
 Purchases of fixed maturities
   available-for-sale                              (430,713)         (294,379)         (35,994)
 Purchases of fixed maturities
   held-to-maturity                                                   (33,327)        (109,127)
 Purchases of equity securities                      (5,533)           (4,559)         (68,783)
 Purchases of wholly-owned subsidiaries,
   net of cash acquired                             (28,996)
 Net (purchases) sales of
   short-term investments                          (108,889)            5,534            4,001
 Additions to home office building                   (1,178)           (2,568)          (2,191)
 Purchases of property and equipment                 (9,431)             (328)            (996)
 Proceeds from sales of property and equipment          438
 Purchase of renewal rights                              (8)             (633)          (3,427)
 Investment in limited liability corporation             (2)           (2,400)
                                                   --------          --------         --------

       NET CASH USED IN
         INVESTING ACTIVITIES                      (247,645)         (125,229)         (82,647)

FINANCING ACTIVITIES
 Proceeds from guaranteed preferred
 beneficial interest in Company's
 convertible subordinated debentures                166,914
 Proceeds from borrowings                             7,100            25,000
 Repayment of borrowings                            (33,792)
 Issuance of common stock                             1,103               378              590
 Cash dividends paid                                 (6,920)           (6,243)          (5,717)
 Purchase of treasury stock                                              (134)            (654)
                                                   --------          --------         --------

       NET CASH PROVIDED BY (USED IN)
         FINANCING ACTIVITIES                       134,405            19,001           (5,781)
                                                   --------          --------         --------

       INCREASE (DECREASE) IN CASH                    3,217            (1,247)          (6,567)
         Cash at beginning of year                    5,115             6,362           12,929
                                                   --------          --------         --------
       CASH AT END OF YEAR                         $  8,332         $   5,115         $  6,362
                                                   ========         =========         ========
</TABLE>


See notes to the consolidated financial statements.

                                       F-7

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

NOTE A--OPERATIONS AND ACQUISITIONS

Frontier  Insurance  Group,  Inc.,  and its  subsidiaries  (the  "Company"),  is
principally a specialty  property and casualty  insurer  operating in 50 states.
The  Company's  principal  lines of business  are medical  malpractice,  general
liability, surety, and commercial earthquake accounting for approximately 34.6%,
28.2% , 16.2% and 4.1% of gross  premiums  written  in 1996,  respectively.  The
medical  malpractice  programs are marketed  principally  through the  Company's
wholly-owned subsidiary, Medical Professional Liability Agency, Ltd ("Med Pro").
The  Company  also  has  a  bail  bond  program,   which  is  marketed   through
Douglass/Frontier  LLC, a fifty percent owned entity (see below).  The Company's
remaining lines of business are marketed primarily through independent agents.

In April 1994,  the  Company  completed  the  acquisition  of certain  assets of
Spencer Douglass Insurance Associates, Inc. ("SDIA") constituting that company's
California  license and permit bond insurance agency business for $3,200,000 and
entered into a five-year  consulting  agreement with the  owner/principal.  This
acquisition  was accounted for as a purchase.  The purchase  price of $3,200,000
exceeded by the same amount the net book value of the business acquired.

In May 1995,  the  Company and R.  Spencer  Douglas  III  ("Douglass")  formed a
California    limited    liability     corporation,     Douglass/Frontier    LLC
("Douglass/Frontier"), a bail bond insurance agency. The Company made an initial
cash  investment  of  $2,400,000,   and  Douglass  contributed  the  assets  and
liabilities  of his wholly  owned  existing  bail bond  agency.  The Company and
Douglass  share  equally  in  the  ownership  of  Douglass/Frontier.  All of the
Company's bail bond business is written  through  Douglass/Frontier  and for the
years  ended  December  31,  1996 and 1995,  was  approximately  $7,608,000  and
$4,800,000,  respectively.  At December 31, 1996 and 1995, Douglass/Frontier had
premium  balances due the Company in the normal course of business of $2,358,000
and  $1,271,000,  and notes payable to the Company of  $3,291,000  and $212,000,
respectively.  At December 31, 1996,  the Company had an interest of $537,000 in
the undistributed earnings of Douglass/Frontier.

In December 1995,  the Company  purchased  certain assets from Bankers  Multiple
Line Insurance  Company  ("BMLIC")  constituting  BMLIC's  realtors'  errors and
omissions  ("Realtors'  E & O") business for  $400,000.  The purchase  agreement
provides  that,  if  certain  conditions  cease to exist in  future  years,  the
purchase price may be reduced.  In addition,  the Company was paid approximately
$8,000,000  to assume  BMLIC's  obligations  under its existing  Realtors' E & O
policies consisting of $2,287,000 of unearned premium reserves and $5,713,000 of
undiscounted   loss  and  loss  adjustment   expense  ("LAE")  reserves  at  the
acquisition date. The Company's maximum liability  relative to its assumption of
the loss and LAE reserves is $7,141,000  with BMLIC  retaining the liability for
any  losses in excess of this  amount.  During  1996,  the  Company  earned  the
previously  assumed unearned premiums and paid $3,948,000 in losses and LAE, and
at December 31, 1996 holds related reserves of $1,765,000.

In May 1996, the Company  completed the  acquisition  of United Capitol  Holding
Company ("United Capitol  Holding") and its  wholly-owned  subsidiaries,  United
Capitol Insurance  Company ("United  Capitol"),  United Capitol  Managers,  Inc.
(renamed Olympic  Underwriting  Managers,  Inc.) and Fischer Underwriting Group,
Inc., for $31,020,000,  which exceeded the fair value of the net assets acquired
by approximately  $7,700,000.  From its headquarters in Atlanta,  Georgia, these
entities underwrite  specialty risks such as asbestos  abatement,  environmental
liability and directors' and officers' liability. This acquisition was accounted
for as a purchase.

In September 1996, the Company  completed the  acquisition of Regency  Insurance
Company  ("Regency") and Emrol Installment  Premium Discount,  Inc. ("Emrol") in
exchange for 238,087 shares

                                       F-8

<PAGE>

<PAGE>

FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE A--OPERATIONS AND ACQUISITIONS--Continued

of the Company's  Common Stock,  which had a market value per share of $33.92 on
June 11, 1996, the effective date of the agreement. The purchase price, which is
inclusive of $221,000 of capitalized  acquisition costs, exceeded the fair value
of the net assets acquired by approximately $2,400,000.  Regency, an underwriter
of non-standard  automobile  insurance is located in Charlotte,  North Carolina.
Emrol finances premiums primarily for policyholders of Regency. This acquisition
was accounted for as a purchase.

The  assets  acquired,  liabilities  assumed  and the  related  goodwill  of the
companies  purchased  in  1996,  are  summarized  in  the  following  table  (in
thousands):

<TABLE>
<CAPTION>
                                          United Capitol    Regency and
                                             Holding           Emrol              Total
                                          --------------    -----------         --------
<S>                                         <C>               <C>               <C>     
     Purchase Price                         $ 31,020          $  8,296          $ 39,316

     Assets acquired:
        Invested assets                       74,966             4,168            79,134
        Other assets                          49,797            11,833            61,630
                                            --------          --------          --------
     Total assets acquired                   124,763            16,001           140,764

     Liabilities assumed:
        Unpaid losses and LAE                 84,823             4,163            88,986
        Other liabilities                     16,604             5,944            22,548
                                            --------          --------          --------
     Total liabilities assumed               101,427            10,107           111,534
                                            --------          --------          --------

     Net assets acquired                      23,336             5,894            29,230
                                            --------          --------          --------
     Excess of purchase price over
       net assets acquired                  $  7,684          $  2,402          $ 10,086
                                            ========          ========          ========
</TABLE>


                                       F-9

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE A--OPERATIONS AND ACQUISITIONS--Continued

The following  schedule  summarizes the Company's pro forma unaudited results of
operations for the years ended December 31, 1996 and 1995, assuming the purchase
of United Capitol Holding,  Regency and Emrol had been consummated as of January
1, 1995 (in thousands, except per share data):

<TABLE>
<CAPTION>
                                                              Year Ended December 31
                                                            --------------------------
                                                              1996              1995
                                                            --------          --------
                                                                    (Unaudited)
<S>                                                         <C>               <C>     
      Net premiums earned                                   $271,452          $214,347
      Net investment income (including net capital
         gains and losses)                                    41,385            33,831
      Other revenues                                              55               130
                                                            --------          --------
         Total revenues                                      312,892           248,308

      Losses and LAE                                         158,963           130,068
      Amortization of policy acquisition costs                57,248            43,489
      Underwriting and other expenses                         32,615            25,991
      Minority interest in income of
         consolidated subsidiary trust                         2,277
      Interest expense                                         1,970               895
                                                            --------          --------
         Total expenses                                      253,073           200,443
                                                            --------          --------

      Income before income taxes                              59,819            47,865

      Income tax expense                                      17,831            13,317
                                                            --------          --------

         Net income                                         $ 41,988          $ 34,548
                                                            ========          ========

      Per share data:
         Primary earnings per common share                  $   2.87          $   2.37
                                                            ========          ========
         Fully diluted earnings per common share            $   2.82          $   2.36
                                                            ========          ========
</TABLE>

The  foregoing  pro  forma  financial  information   has   been   prepared   for
informational  purposes only  and  includes  certain  adjustments  relating   to
investment income,  amortization of goodwill, and also for 1995, loss and  other
expenses,  together  with  the  related  income  tax  effects.  The  pro   forma
financial information is not necessarily indicative of the results of operations
as they would have been had the transactions been  consummated  on  the  assumed
dates.

The  Company's  Preferred  Stock may be issued from time to time by the Board of
Directors  in one or more  series and  classes  and with such  dividend  rights,
conversion   rights,   voting   rights,   redemption   provisions,   liquidation
preferences,  and other rights and  restrictions  as the Board of Directors  may
determine.

On December 31, 1996,  the Company held a Special  Meeting of  Stockholders  and
voted to adopt an amendment to the Company's  Certificate  of  Incorporation  to
increase  the  authorized number  of shares  of the Company's  Common Stock from
20,000,000 to 50,000,000.

NOTE B--SIGNIFICANT ACCOUNTING POLICIES

Basis  of  Presentation  and  Principles  of  Consolidation:   The  accompanying
financial  statements have been prepared in accordance  with generally  accepted
accounting  principles ("GAAP"),  which, as to insurance companies,  differ from
the  statutory  accounting  practices  prescribed  or  permitted  by  regulatory
authorities.  The  consolidated  financial  statements  include the accounts and
operations  of  Frontier  Insurance  Group,  Inc.  and  all  subsidiaries.   All
significant  intercompany  accounts and  transactions  have been  eliminated  in
consolidation.


                                      F-10

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE B--SIGNIFICANT ACCOUNTING POLICIES--Continued

Use of Estimates: The preparation of financial statements requires management to
make estimates and assumptions that affect the amounts reported in the financial
statements and accompanying  notes.  Such estimates and assumptions could change
in the future as more  information  becomes known which could impact the amounts
reported and disclosed herein.

Recognition of Premium Revenues: Direct, assumed, and ceded reinsurance premiums
written  are  recognized  as  earned  pro  rata  over the  terms of the  related
insurance policies.

Investments: Effective January 1, 1994, the Company adopted Financial Accounting
Standards Board ("FASB") Statement 115,  "Accounting for Certain  Investments in
Debt and Equity Securities"  ("FASB 115"). Under FASB 115,  investments in fixed
maturities are  classified in three  categories:  held-to-maturity,  trading and
available-for-sale;  investments  in equity  securities are classified as either
available-for-sale or trading. Held-to-maturity securities are reported at cost,
adjusted  for  amortization  of  premium or  discount;  trading  securities  are
reported at fair value,  with unrealized  gains and losses included in earnings;
and  available-for-sale  securities  are reported at fair value with  unrealized
gains and losses excluded from earnings and reported in a separate  component of
shareholders' equity,  net of applicable income taxes. This change in accounting
had  no  effect  on  net  income;  however,  the  accounting  change   increased
shareholders' equity at January 1, 1994 by  $3,651,000, net of applicable income
taxes, representing the amount of unrealized gains on fixed-maturity investments
classified  as  available-for-sale.  Under  the  former  rules,  debt securities
(principally bonds, notes and redeemable preferred stocks) were carried at cost,
adjusted for the amortization of premium or  discount  and  other-than-temporary
market  value  declines.  Unrealized  gains  and  losses were excluded from both
earnings and shareholders' equity.

In December 1995, the Company  reclassified all of its securities  classified as
held-to-maturity to the  available-for-sale  category as permitted by the FASB's
Special  Report, "A Guide to  Implementation  of Statement 115 on Accounting for
Certain  Investments in Debt and Equity Securities - Questions and Answers." The
securities  reclassified had a carrying value of $190,474,000 and a market value
of $194,709,000  at the date of transfer.  This  reclassification  resulted in a
$2,753,000 increase, net of applicable income taxes, in shareholders' equity.

Fixed maturities available-for-sale (principally bonds and notes) are carried at
fair value.  Fair values for  available-for-sale  fixed maturity  securities are
based on quoted market prices, where available.

For fixed  maturity  securities not actively  traded,  fair values are estimated
using values obtained from  independent  pricing  services.  For mortgage backed
securities,  the Company considers estimates of future principal  prepayments in
the calculation of the constant  effective yield necessary to apply the interest
method.  If a difference  arises between the prepayments  anticipated and actual
prepayments  received,  the Company  recalculates the effective yield to reflect
the  actual  payments  received  and the  anticipated  future  payments.  Equity
securities  (principally common and nonredeemable  preferred stocks) are carried
at fair value, based on quoted market prices. Short-term investments are carried
at their principal balances, which approximates their fair value. Realized gains
and losses from the sales or liquidation of investments are determined using the
specific  identification  basis. Changes in the fair value of available-for-sale
securities are reflected as unrealized gains or losses directly in shareholders'
equity net of federal income tax.

The  investment  in  Douglass/Frontier  is accounted for under the equity method
based on Douglas/Frontier's GAAP results of operations.


                                      F-11

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE B--SIGNIFICANT ACCOUNTING POLICIES--Continued

Home Office Building,  Property and Equipment: Home office building is stated at
cost, net of accumulated depreciation computed, for both financial reporting and
federal income tax purposes, on the straight-line basis over an estimated useful
life of 31.5 years.  Property and equipment is stated at cost net of accumulated
depreciation and amortization computed, for financial reporting purposes, on the
straight-line  basis over estimated useful lives between three to ten years and,
for federal income tax purposes,  using accelerated  methods and guideline lives
ranging from three to seven years. During 1996, 1995, and 1994, depreciation and
amortization expense was $3,413,000, $2,440,000, and $1,939,000, respectively.

In April 1993 and in July 1996, the Company put into service and began to occupy
its new home office  facility and purchased a corporate jet,  respectively.  The
cost of the  facility's  construction  and  purchase  of the  jet  was  financed
internally by the Company.  However,  to receive favorable tax status,  title to
the facility and jet resides with the County of Sullivan Industrial  Development
Agency ("IDA") which, in turn,  issued to the Company its twenty-year bonds with
a face  value  equal  to the  total  cost of the  facility  and jet.  Under  the
provisions of related  agreements,  title to the facility and jet reverts to the
Company on  maturity  of the  bonds,  or sooner  for a nominal  fee,  should the
Company so desire. Accordingly, as a result of these agreements, the home office
facility and corporate jet are reported in the accompanying financial statements
as, "Home office building, property and equipment." As of December 31, 1996, the
outstanding, par value of the IDA bonds was $24,574,000;  which approximates the
carrying values of such assets.

Deferred Policy  Acquisition  Costs:  Recoverable  policy acquisition costs that
vary with and are  directly  related  to the  production  of  business,  such as
commissions and premium taxes, net of reinsurance  allowances,  are deferred and
amortized to income as the related premiums are earned. Anticipated losses, LAE,
and policy maintenance expenses, based on historical and current experience, are
considered in determining the recoverability of such deferred policy acquisition
costs.  When the anticipated  losses,  LAE,  acquisition and policy  maintenance
expenses exceed the related unearned premiums,  without considering  anticipated
investment income, a provision for the indicated deficiency is recorded.

Intangible  Assets:  Intangible  assets are stated at cost,  net of  accumulated
amortization  computed on a  straight-line  basis over  estimated  useful  lives
ranging from two to seven years for insurance renewal rights and five to fifteen
years for other intangible assets,  including goodwill. The Company assesses the
recoverability of intangible  assets by determining  whether the amortization of
the balance over its remaining  life can be recovered  through the  undiscounted
future operating cash flows of the acquired operations.

Unpaid Losses and LAE: The  liabilities  for unpaid losses and LAE represent the
estimated  liabilities for reported claims, claims incurred but not yet reported
("IBNR"),  and the related LAE. The  liabilities  for unpaid  losses and LAE are
determined  using  case-basis  evaluations and actuarial  analyses and represent
estimates  of the  ultimate  expected  cost of all  losses and LAE unpaid at the
balance sheet dates.

The liabilities for unpaid losses and LAE have been reduced by estimated salvage
and subrogation recoverable and have not been reduced from their ultimate values
by the effects of  discounting  estimated  ultimate  payments  to their  present
value.

Reinsurance:  Assumed  reinsurance  premiums  written,  commissions,  and unpaid
losses are accounted


                                      F-12


<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE B--SIGNIFICANT ACCOUNTING POLICIES--Continued

for  based  principally  on the  reports  received  from  the  ceding  insurance
companies and in a manner  consistent with the terms of the related  reinsurance
agreements.  Liabilities for unpaid losses, LAE and unearned premiums are stated
gross of ceded reinsurance  recoverables.  Deferred policy acquisition costs are
stated net of the amounts of  reinsurance  ceded,  as are  premiums  written and
earned, losses and LAE incurred, and amortized acquisition costs.

Contingent  Reinsurance  Commissions:  Contingent  reinsurance  commissions  are
accounted for on an earned basis and are accrued,  in accordance  with the terms
of the  applicable  reinsurance  agreement,  based  on the  estimated  level  of
profitability   relating   to  such   reinsured   business.   Accordingly,   the
profitability  of  the  reinsured  business  is  continually   reviewed  and  as
adjustments  become  necessary,   such  adjustments  are  reflected  in  current
operations.  Contingent reinsurance commissions are included in other assets and
other liabilities.

Income Taxes:  Income tax provisions are based on income  reported for financial
statement  purposes,  adjusted for permanent  differences  between financial and
taxable income. Deferred federal income taxes are recognized using the liability
method,  whereby tax rates are applied to the temporary  differences between the
financial reporting and tax bases of assets and liabilities. Deferred tax assets
and  liabilities  are  adjusted  for  changes  in  tax  rates  or  laws, and the
adjustment  is  reflected in  income during  the period in  which such change is
enacted.

Earnings per Share:  Primary  earnings per common share are computed by dividing
net income by the weighted average common shares  outstanding during the period.
The weighted  average shares  outstanding  have been adjusted  retroactively  to
reflect the effects of stock  splits and stock  dividends.  The effect of common
stock  equivalents  (stock  options) is excluded from the  calculations  because
their effect is not material. Fully diluted earnings per common share assume the
conversion of all  securities  whose  contingent  issuance would have a dilutive
effect on earnings.

Gross Claims  Adjusting  Income:  Claims adjusting income is accounted for on an
accrual basis, gross of related expenses. During 1996, 1995, and 1994, operating
expenses  included with  underwriting and other expenses  associated with claims
adjusting income amounted to $637,000, and $203,000, and $331,000, respectively.

Impact of Recently  Issued  Accounting  Standards:  In June 1996,  the Financial
Accounting  Standards Board issued  Statement 125,  Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, which provides
accounting and reporting standards for sales, securitizations,  and servicing of
receivables  and  other  financial  assets,  secured  borrowing  and  collateral
transactions,  and the  extinguishments  of liabilities.  The Statement is to be
applied to transactions occurring after December 31, 1996 including transfers of
assets pursuant to securitization  structures that previously were entered into.
However,  the FASB has issued a proposed  amendment  that would delay until 1998
the  effective  date of certain  of the  statement's  provisions  that deal with
securities  lending,   repurchase  and  dollar  repurchase  agreements  and  the
recognition  of  collateral.  The Company will adopt  Statement 125 in the first
quarter  1997,  excluding  the  provisions  that deal with  securities  lending,
repurchase and dollar repurchase agreements,  and the recognition of collateral,
which will be adopted in 1998  pursuant to the proposed  amendment.  The Company
does not believe the effect of the  adoption  will be material to its  financial
position or results of operations.


                                      F-13

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE B--SIGNIFICANT ACCOUNTING POLICIES--Continued

Reclassifications:  Certain prior year amounts have been reclassified to conform
to the 1996 presentation.

NOTE C--UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES

The liabilities for unpaid losses and LAE are estimated by management  utilizing
methods and procedures which they believe are reasonable.  These liabilities are
necessarily  subject  to the  impact of future  changes  in claim  severity  and
frequency, as well as numerous other factors.  Although management believes that
the estimated  liabilities for unpaid losses and LAE are reasonable,  because of
the extended period of time over which such losses are reported and settled, the
subsequent  development of these  liabilities may not conform to the assumptions
inherent in their  determination and,  accordingly,  may vary from the estimated
amounts included in the accompanying  financial  statements.  To the extent that
the actual  emerging loss  experience  varies from the  assumptions  used in the
determination  of  these  liabilities,  they  are  adjusted  to  reflect  actual
experience.  Such  adjustments,  to the extent they occur,  are  reported in the
period recognized.

The  anticipated  effect of inflation is implicitly  considered  when estimating
reserves for losses and LAE.

Although  anticipated  price  increases  due  to  inflation  are  considered  in
estimating  the ultimate  claim costs,  the  increase in average  severities  of
claims is caused by a number  of  factors  that vary with the types of  policies
written.  Average  severities are projected based on historical  trends adjusted
for  implemented  changes in  underwriting  standards,  policy  provisions,  and
general economic trends.  Those anticipated trends are monitored based on actual
development and are adjusted as necessary.  The effects of such  adjustments are
reported in the period recognized.

In  December  1990,  the New York State  Court of Claims  rendered a decision in
favor of the  Company  holding  that a State  University  of New  York  ("SUNY")
medical school faculty member engaged in the clinical  practice of medicine at a
SUNY medical facility,  corollary to such physician's  faculty  activities,  was
within  the  scope of such  physician's  employment  by SUNY  and was  protected
against malpractice claims arising out of such activity by the State of New York
and not under  the  Company's  medical  malpractice  policy.  The  decision  was
affirmed on appeal by the New York State Appellate Division in November 1991 and
not  appealed  by the  State.  In July  1992,  the  State  of New  York  enacted
legislation  eliminating  medical school faculty  members of SUNY engaged in the
clinical practice of medicine at a SUNY medical facility from indemnification by
the State with  respect to  malpractice  claims  arising  out of such  activity,
retroactive  to July 1, 1991. In an opinion filed on September 3, 1993 the Court
of  Claims  of the  State of New  York  held,  inter  alia,  that the July  1992
legislation  by the State of New York  eliminating  SUNY medical  school faculty
members  engaged  in the  clinical  practice  of  medicine,  as  part  of  their
employment  by  SUNY,  from   indemnification  by  the  State  with  respect  to
malpractice  claims  arising  out  of  such  activity  was  not  to  be  applied
retroactively.  This  decision  was  affirmed  by the New York  State  Appellate
Division in April 1994.  Subsequently,  in February 1995, the Appellate Division
granted leave to the Company and the State of New York to have the issues of the
Company's  entitlement  to  recover  its  costs  of  defense  and its  costs  of
settlement ruled on by the State's highest Court, the New York Court of Appeals.
In  December  1995,  the New York  Court of  Appeals  ruled  on this  issue  and
concluded  that the Company was entitled to  recoveries  from the State for such
medical malpractice  claims. As a result of this decision,  the Company believes
that it will  benefit  economically  by not  being  ultimately  responsible  for
certain claims against SUNY  physicians for whom it presently  carries  reserves
and  be  entitled  to   reimbursement   for  certain  claims   previously  paid;
accordingly,  in 1996 and 1995, the Company recorded subrogation recoverables of
approximately $13,000,000 and


                                      F-14

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE C--UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES--Continued

$19,000,000,  respectively,  representing  the amount of claims already paid and
the reserves currently held by the Company on the cases that management believes
are  reimbursable  by the State of New York. In January 1997, the New York Court
of Claims rendered a decision granting summary judgement to the Company on three
SUNY cases that were  previously  paid by the  Company.  This  decision has been
appealed  by the State of New  York.  To the  extent  the  amount of the  actual
recovery varies, such difference will be reported in the period recognized.  The
Company is continuing  to defend all SUNY faculty  members  against  malpractice
claims that have been asserted and is maintaining reserves therefor adjusted for
the anticipated recoveries.

The following table sets forth a reconciliation of the beginning and ending loss
and LAE reserve balances,  net of reinsurance ceded, for each of the three years
in the period ended December 31, 1996 (in thousands):

<TABLE>
<CAPTION>
                                                                   Year Ended December 31
                                                           -------------------------------------
                                                             1996           1995          1994
                                                           --------      --------       --------
<S>                                                        <C>           <C>            <C>     
Net reserves for losses and LAE, beginning of year         $294,393      $263,202       $216,486

Total acquired reserves                                      53,008         5,500

Incurred losses and LAE for claims relating to:
         Current year                                       160,470       126,769         97,044
         Prior years                                         (4,479)       (7,514)        13,874
                                                           --------      --------       --------
Total incurred losses and LAE                               155,991       119,255        110,918
                                                           --------      --------       --------

Loss and LAE payments for claims relating to:
         Current year                                        27,626        13,057          7,216
         Prior years                                        102,160        80,507         56,986
                                                           --------      --------       --------
Total payments                                              129,786        93,564         64,202
                                                           --------      --------       --------

Net reserves for losses and LAE, end of year                373,606       294,393        263,202
Total reinsurance recoverable on unpaid losses
         and LAE                                            165,467        73,043         49,435
                                                           --------      --------       --------
Gross reserves for losses and LAE, end of year             $539,073      $367,436       $312,637
                                                           ========      ========       ========
</TABLE>


The  Company's  reserves for unpaid  losses and LAE, net of related  reinsurance
recoverable,  at December 31, 1995 and 1994 were decreased in the following year
by approximately  $4,479,000 and $7,514,000,  respectively,  and at December 31,
1993  the  reserves  were  increased  in the  following  year  by  approximately
$13,900,000,  for claims that had occurred prior to the balance sheet dates.  No
premiums have been accrued as a result of the changes to prior year loss and LAE
reserves.

The  $4,479,000  decrease  in prior  years'  reserves  in 1996 was the result of
favorable  claims  development  on the workers'  compensation  line of business.
Included in the net development is an


                                      F-15

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE C--UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES--Continued

increase  in prior  years'  reserves  of  approximately  $13,000,000  which  was
entirely  offset by  subrogation  recoverables  recognized in connection  with a
favorable  court ruling in 1995.  The  significant  increase in the  reinsurance
recoverable  in 1996 was due to the  contribution  to the  recoverable by United
Capitol and Regency,  which were acquired in 1996, and the change in the type of
reinsurance  from an  aggregate  claim  excess  of loss, to a stop loss  for the
majority of the Company's losses.

The $7,514,000  decrease in the prior years'  reserves in 1995 was the result of
favorable claims development on the general liability and worker's  compensation
lines and to subrogation  recoveries in the surety line of business in excess of
expectations.  Included in the net development,  was an increase in prior years'
reserves of approximately  $19,000,000,  which was entirely offset by additional
subrogation  recoverables  recognized  in connection  with the  favorable  court
ruling in 1995. The significant increase in the reinsurance  recoverable in 1995
was due to the change in the type of reinsurance  from an aggregate claim excess
of loss, to a stop loss for the majority of the Company's losses.

The  $13,874,000  increase  in prior  years'  reserves in 1994  resulted  from a
$17,500,000 increase in the reserves attributable to adverse medical malpractice
claims  development in Florida from higher than anticipated  dollar  settlements
and from redundancies in other lines.

Because  of the  adverse  development  experienced  in  1994,  the  Company  has
significantly  restructured  the manner in which it adjudicates its claims.  The
change in process  included,  among  other  things,  placing  more  reliance  on
internal  claim  examiners  and  in-house   attorneys  than  on  third  parties,
especially for the Company's medical  malpractice claims in Florida.  Management
believes  that the  revised  process  will  result  in better  control  over the
ultimate costs to adjudicate its claims and the related indemnity costs enabling
management  to settle  such  claims for amounts  reflected  in the  accompanying
financial  statements.  However,  management  recognizes that many factors could
impact the successful  implementation of its revised process, and to the extent,
future  claim costs are not reduced from current  levels as  anticipated  in the
implementation   plan,   actual   ultimate  claim  costs  could  vary,   perhaps
significantly, from those included in the accompanying financial statements.

NOTE D--REINSURANCE

The Company maintains  reinsurance with various unrelated  insurance  companies,
principally for its direct business  written,  whereby amounts written in excess
of  certain  retention  limits  are  ceded to those  companies  generally  under
reinsurance treaty  arrangements.  Beginning in 1995, the Company entered into a
three-year stop loss reinsurance contract with Centre Reinsurance Company of New
York  ("Centre  Re").  Under the  terms of the  agreement,  Centre  Re  provides
reinsurance  protection  within  certain  accident  year and contract  aggregate
dollar  limits for losses  and LAE in excess of a  predetermined  ratio of these
expenses to earned  premiums for a given accident year for all lines of business
except bail,  customs,  license and permit, and miscellaneous  surety bonds. The
loss and LAE ratio above which the  reinsurance  provides  coverage is 66%, 65%,
and 64% for accident years 1995 through 1997, respectively.

Although  the  reinsurance  companies  are liable to the Company for the amounts
reinsured, the Company remains liable to its insureds for the full amount of the
policies   written  whether  or  not  the   reinsurance   companies  meet  their
obligations.   Consequently,  allowances  are  established  for  amounts  deemed
uncollectible.  To minimize its exposure to significant  losses from reinsurance
insolvencies,  the Company  evaluates the financial  condition of its reinsurers
and  monitors  concentration  of credit risk from  similar  geographic  regions,
activities or economic characteristics of the reinsurers. At December


                                      F-16

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE D--REINSURANCE--Continued

31,  1996,  the  Company  has  outstanding  gross  reinsurance  recoverables  of
$74,002,000 from its largest reinsurer,  Centre Re; however,  under the terms of
the reinsurance  arrangements,  the Company is withholding  $63,766,000 of funds
due Centre Re.  Accordingly,  the net outstanding  recoverable from Centre Re is
$10,236,000.   Of  the   remaining   net   reinsurance   recoverables   balance,
approximately 43% is due from three reinsurers;  one rated A+ (Superior) and two
rated A (Excellent) by A.M. Best Company, Inc.

The  following is a summary of the maximum  amount of loss retained and ceded by
the Company for new and renewal policies as of December 31, 1996, 1995, and 1994
(exclusive of facultative  reinsurance and the Centre Re stop loss contract) (in
thousands):

<TABLE>
<CAPTION>
                                             Maximum Retained Loss                Maximum Ceded Loss
                                                Per Occurrence/                      Per Occurrence/
                                                Risk/Principal                       Risk/Principal
                                         ----------------------------      --------------------------------
                                                 December 31                          December 31
                                         ----------------------------      --------------------------------
                                          1996       1995       1994        1996          1995        1994
                                         ------     ------     ------      ------        ------      ------
<S>                                     <C>         <C>        <C>         <C>           <C>         <C>   
Property lines                          $   500     $  200     $  200      $ 9,500       $  800      $  800
Casualty lines (excluding medical
  malpractice, health
  specialties and social services)        1,000      1,000      1,000        4,000        1,000       1,000
Medical malpractice, health
  specialties and social services         1,000(1)   1,000(1)   1,000(1)     1,000        1,000       1,000
Workers' compensation                     1,000      1,000      1,000        2,000        2,000       2,000
Surety                                    1,000(5)   1,000(5)   1,000        4,000(5)     4,000(5)      500
Custom bonds                              3,000(3)   3,000(3)     650(3)       N/A          N/A         N/A
Umbrella liability                        1,000      1,000        400        4,000        4,000       4,800
Group accident and health                   250        250        250          750          750         750
Excess workers' compensation/
  employers' liability                    1,000(4)   1,000(4)   1,000(4)     9,000(4)     9,000(4)    9,000(4)
Earthquake                                2,500(2)   2,500                  47,500(2)    37,500
Homeowners                                1,000(6)                          14,000(6)
Ocean marine                                250                              9,750
Directors' and officers' liability        1,000                              4,000
</TABLE>

(1)  For  certain  risks  and  policy  years,  the  maximum  retained  loss  per
     occurrence is $500,000.  On a very limited basis, the maximum retained loss
     per occurrence is $2,000,000.

(2)  Amounts relate to the contract effective January 1, 1997, which catastrophe
     layers in excess of $2,500,000 are subject to 5% coinsurance.

(3)  Amount  indicated  is the maximum  face amount  (limit) on the bond issued,
     which represents the value of goods being imported that are subject to U.S.
     Customs  duty.  The  actual  exposure  to the  Company is the amount of any
     unpaid duty on the goods imported,  which is generally approximately 15% of
     the face value of the goods,  and any  penalties  associated  with the late
     payment of the duty.

(4)  Subject to a  catastrophe  retention of  $3,000,000  per  occurrence  and a
     maximum ceded loss of $40,000,000 per occurrence.

(5)  Effective December 1, 1995, two layers of excess reinsurance were added for
     a maximum limit of $10,000,000 per principal on a direct basis,  $2,100,000
     on a net basis.

(6)  Excludes the effect of the Company's 5% retention of  $14,000,000 in losses
     in excess of $1,000,000.


                                      F-17

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE D--REINSURANCE--Continued

Prior to 1994, the Company assumed  reinsurance under various reinsurance treaty
arrangements  and through  mandatory  participation  in various states' residual
market  pools and  reinsurance  facilities.  The  amount of risk  assumed by the
Company   varies  in  amount  by  treaty  and  does  not  exceed   $500,000  per
occurrence/risk/surety  bond  principal  after  retrocessions.  As  part  of its
acquisition of BMLIC's  realtors errors and omissions  business,  the Company is
reinsuring  policies issued by BMLIC until such time as the program is filed and
can be  underwritten  on the Company's  policies.  In 1996, the Company began to
assume,  on a quota  share  basis,  homeowners  business  underwritten  by Omega
Insurance Company.

The Company also  reinsured  ocean marine  business  written by its  subsidiary,
United Capitol. The Company retained the first $250,000 per occurrence and ceded
up to $9,750,000 excess of $250,000 per occurrence.  The reinsurance program was
led by underwriters at Lloyds on a losses occurring basis.  Effective January 1,
1997,  this  program  was  replaced  by a  similar  program  written  on a risks
attaching basis by Munich American  Reinsurance  Company and Munich  Reinsurance
Company, U.S. branch.

On July 1, 1996, the Company  implemented a catastrophe  reinsurance program for
its homeowners  business  written in the state of Florida.  The program provides
coverage in the amount of $14,000,000 excess of a $1,000,000 retention.

In 1996,  the Company began  assuming and writing on a direct basis ocean marine
business.  The Company reinsures its ocean marine and international  risks under
multiple  layers of excess  reinsurance.  Coverage is provided up to  $9,950,000
excess of $50,000 per occurrence,  excess of an aggregate  retention of $200,000
of loss occurrences in excess of $50,000.

The Company cedes 100% of its environmental  liability  business to Underwriters
Reinsurance Company. The Company reassumes 10% of this business,  along with 10%
of  environmental  liability  business  underwritten by Commercial  Underwriters
Insurance Company and Underwriters Reinsurance Company.

In 1995 and 1994,  the  Company's  medical  malpractice  reinsurers  agreed to a
commutation  for  treaty  years  1991 and 1990, respectively.  As  a  result  of
their commutation,  the Company recaptured its liability for ceded unpaid losses
and LAE  of  approximately  $3,900,000  and $6,100,000 for treaty years 1991 and
1990, respectively, and received cash of an equal  amount, resulting in no  gain
or loss. After the  commutation,  there was no change in the net incurred losses
or loss ratios as a result of these transactions.

In  1996,  1995,  and  1994,  the  Company   recognized  and  accrued  (reduced)
reinsurance  contingent profit commissions earned of $773,000,  ($783,000),  and
($337,000), respectively.

The  components  of the net  reinsurance  recoverable  balances  included in the
accompanying balance sheets are as follows (in thousands):

                                                Year Ended December 31
                                             ----------------------------
                                               1996                1995
                                             --------             -------
Ceded paid losses & LAE recoverable          $  7,519             $ 2,639
Ceded unpaid losses and LAE                   165,467              73,043
Ceded unearned premiums                        32,403               5,541
Ceded reinsurance payable                     (12,820)             (4,268)
                                             --------             -------
TOTAL                                        $192,569             $76,955
                                             ========             =======


                                      F-18

<PAGE>

<PAGE>

FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE D--REINSURANCE--Continued

The reinsurance  ceded  components of the amounts  reflected in the accompanying
statements of income are as follows (in thousands):

                                            Year Ended December 31
                                 -------------------------------------------
                                   1996              1995              1994
                                 -------           -------           -------
Ceded premiums earned            $73,643           $42,086           $17,562
Ceded incurred losses             56,597            25,557            14,114
Ceded incurred LAE                18,240            11,700             3,664



The effect of reinsurance on premiums  written and earned in 1996, 1995 and 1994
was as follows (in thousands):

<TABLE>
<CAPTION>
                          1996                     1995                     1994
                        Premiums                 Premiums                 Premiums
                  -------------------      -------------------      -------------------
                   Written    Earned        Written     Earned       Written     Earned
                  --------   --------      --------   --------      --------   --------
<S>               <C>        <C>           <C>        <C>           <C>        <C>     
Direct            $394,057   $332,345      $259,222   $235,696      $195,614   $169,893
Assumed              8,742      7,287         5,092      2,610         3,278      4,424
Ceded              (90,936)   (73,643)      (43,557)   (42,086)      (11,604)   (17,562)
                  --------   --------      --------   --------      --------   --------
Net premiums      $311,863   $265,989      $220,757   $196,220      $187,288   $156,755
                  ========   ========      ========   ========      ========   ========
</TABLE>


NOTE E--INCOME TAXES

State income taxes represent the amount of current state income taxes incurred.

The Company files a consolidated  federal income tax return,  which includes the
income and expenses of its subsidiaries from the dates of their acquisition.

The components of federal income tax expense are as follows (in thousands):

<TABLE>
<CAPTION>
                                                         Year Ended December 31
                                              -----------------------------------------
                                                1996              1995            1994
                                              -------           -------          ------
<S>                                           <C>               <C>              <C>
Federal income tax expense (benefit):
  Current                                     $13,590           $11,071          $8,958
  Deferred                                      2,279              (175)         (5,162)
                                              -------           -------          ------
 TOTAL FEDERAL INCOME TAX EXPENSE             $15,869           $10,896          $3,796
                                              =======           =======          ======
</TABLE>


                                      F-19

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE E--INCOME TAXES--Continued.

A reconciliation of federal income tax, based on the prevailing corporate income
tax rate of 35%, to the federal income tax expense reflected in the accompanying
financial statements is as follows (in thousands):

                                                 Year Ended December 31
                                          -------------------------------------
                                           1996           1995           1994
                                          -------        -------        -------
Tax rate applied
  to pre-tax income                       $19,831        $15,148        $ 7,465
Add (deduct) tax effect of:
  Tax-exempt interest income               (3,026)        (2,754)        (2,726)
  Dividend received deduction                (752)          (634)          (805)
  State income taxes                         (253)          (410)          (194)
  Other                                        69           (454)            56
                                          -------        -------        -------
  FEDERAL INCOME TAX EXPENSE              $15,869        $10,896        $ 3,796
                                          =======        =======        =======


Significant  components of the Company's  deferred tax assets and liabilities at
December 31, 1996, 1995 and 1994 are as follows (in thousands):

                                                       December 31
                                          -------------------------------------
                                           1996           1995           1994
                                          -------        -------        -------
Deferred tax assets:
  Reserve discounting, including
   salvage and subrogation                $30,515        $26,466        $26,341
  Unearned premium reserve                 10,732          7,121          5,404
  Net unrealized losses on available-
   for-sale securities                                                    3,396
  Other                                     2,624          1,879            437
                                          -------        -------        -------
Total deferred tax assets                  43,871         35,466         35,578

Deferred tax liabilities:
  Deferred policy acquisition costs        11,504          6,579          4,625
  Net unrealized gains on available-
   for-sale securities                      2,588          4,284
  Other                                     2,159            976            186
                                          -------        -------        -------

Total deferred tax liabilities             16,251         11,839          4,811
                                          -------        -------        -------

Net deferred tax assets                   $27,620        $23,627        $30,767
                                          =======        =======        =======


                                      F-20

<PAGE>

<PAGE>


FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE E--INCOME TAXES--Continued

Deferred federal income taxes result from timing  differences in the recognition
of certain income and expenses for tax and financial  statement purposes and are
summarized as follows (in thousands):

                                                 Year Ended December 31
                                          -------------------------------------
                                           1996           1995           1994
                                          -------        -------        -------
Reserve discounting, including
  salvage and subrogation                 $   119        $  (125)       $(4,997)
Unearned premium reserve                   (3,211)        (1,718)        (2,137)
Deferred policy acquisition costs           4,666          1,954          2,258
Excess depreciation expense                   120            220             64
Bad debt expense (credit)                     279           (404)          (354)
Other                                         306           (102)             4
                                          -------        -------        -------

     TOTAL DEFERRED FEDERAL
      INCOME TAX EXPENSE (BENEFIT)        $ 2,279        $  (175)       $(5,162)
                                          =======        =======        =======

The Company made income tax payments of $17,021,000, $12,829,000 and $9,330,000,
in 1996, 1995, and 1994, respectively.

NOTE F--CREDIT FACILITY AND OTHER DEBT

In 1995,  the Company  obtained a variable  rate line of credit for  $35,000,000
with  the  Bank of New  York.  Under  this  arrangement,  the  Company  borrowed
$7,100,000 and $25,000,000 in 1996 and 1995,  respectively.  The credit facility
agreement was terminated in 1996.

The Company also  extinguished  approximately  $1,700,000  of long-term  debt in
1996, which was assumed in conjunction with the acquisition of Emrol.

Interest incurred during 1996 and 1995 is as follows (in thousands):

                                                1996          1995
                                               ------         ----
         Bank credit facility                  $1,892         $895
         Other long-term debt                      78
                                               ------         ----
         TOTAL                                 $1,970         $895
                                               ======         ====


                                      F-21


<PAGE>
<PAGE>



FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE G--STATUTORY FINANCIAL INFORMATION

A  reconciliation  of  the  consolidated  amounts  of  insurance   subsidiaries'
policyholders' surplus as of December 31, 1996 and 1995, and net income for each
of the years ended December 31, 1996,  1995 and 1994, on a statutory  accounting
basis  ("SAP") as  reported  to  insurance  regulatory  authorities, to the GAAP
shareholders' equity  and net income  included in the  accompanying consolidated
financial statements, is as follows (in thousands):


<TABLE>
<CAPTION>
                                                             1996                              1995                    1994
                                                ------------------------------     ----------------------------        ------
                                                                          Net                              Net           Net
                                                Surplus/Equity          Income     Surplus/Equity        Income        Income
                                                --------------          ------     --------------        ------        ------
<S>                                                 <C>               <C>            <C>                <C>           <C>     
Insurance subsidiaries'
     consolidated SAP amounts                       $268,004          $28,874        $171,362           $26,407       $  6,623
Add (deduct):
  Deferred policy acquisition costs                   32,871           14,365          18,797             5,585          8,139
  Nonadmitted assets and unauthorized
     reinsurance                                      14,738                           15,667
  Investment valuation                                 4,296               48          11,440               (24)
  Allowance for doubtful accounts                     (2,768)             875          (3,506)           (1,154)        (1,011)
  Intangible assets                                    3,255             (188)                              495           (147)
  Deferred federal income taxes                       28,157           (2,062)         23,805               352          4,551
  Other than temporary market decline                   (715)            (225)           (490)             (490)
  Other additions (deductions)                          (864)            (588)            394               393
                                                    --------          -------        --------           -------        -------
INSURANCE SUBSIDIARIES'
   CONSOLIDATED GAAP AMOUNTS                         346,974           41,099         237,469            31,564         18,155

  Shareholders' equity and net loss
    arising from activities of
    the parent company and its
    non-insurance subsidiaries                       (78,400)          (1,032)         (7,736)             (353)        (1,175)
                                                    --------          -------        --------           -------        -------
CONSOLIDATED AMOUNTS--GAAP BASIS                    $268,574          $40,067        $229,733           $31,211        $16,980
                                                    ========          =======        ========           =======        =======
</TABLE>

                                      F-22


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE H--INVESTMENTS

The major  categories of total net  investment  income are summarized as follows
(in thousands):

<TABLE>
<CAPTION>
                                                             Year Ended December 31
                                                 --------------------------------------------
                                                       1996             1995             1994
                                                 --------------   --------------   ----------
<S>                                                 <C>              <C>             <C>    
Interest and dividends:
  Fixed maturities                                  $37,623          $28,338         $20,942
  Equity securities                                   1,190            1,745           3,774
  Short-term and other investments                    3,830            2,529             695
Interest expense on funds held                       (4,307)          (2,174)
Limited liability corporation                             2              535
                                                    -------          -------         -------
    Investment income before expenses                38,338           30,973          25,411
Less investment expenses                              1,112              938             958
                                                    -------          -------         -------
    Net investment income                            37,226           30,035          24,453
                                                    -------          -------         -------
Realized capital gains (losses):
Securities available-for-sale:
   Fixed maturities                                   1,245            1,265             325
   Equity securities                                    463           (1,920)         (1,743)
Short-term investments                                   (1)                              (1)
Fixed maturities held-to-maturity                                        675             (59)
                                                    -------          -------         -------
    Total realized capital gains (losses)             1,707               20          (1,478)
                                                    -------          -------         -------
 TOTAL NET INVESTMENT INCOME                        $38,933          $30,055         $22,975
                                                    =======          =======         =======
</TABLE>


Gross realized capital gains on available-for-sale  securities in 1996, 1995 and
1994 were $3,882,000,  $2,509,000,  and $987,000,  respectively.  Gross realized
capital  losses on  available-for-sale  securities  in 1996,  1995 and 1994 were
$2,175,000,  $3,164,000,  and  $2,604,000,  respectively.  Also,  gross realized
capital gains in 1995 and 1994 on held-to-maturity  securities were $675,000 and
$27,000, respectively, and gross realized capital losses were $86,000 in 1994.

The change in net unrealized  gains/(losses)  on  fixed-maturity  securities was
$(6,350,000),   $28,490,000   and   $(25,177,000)   in  1996,   1995  and  1994,
respectively;  the corresponding  amounts for equity securities were $1,508,000,
$4,704,000 and $(3,896,000).

At December 31, 1996, bonds and notes with an amortized cost of $25,911,000 were
on deposit with various regulatory authorities to meet statutory requirements.

                                      F-23


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE H--INVESTMENTS--Continued

Investments  in  available-for-sale  securities  are  summarized  as follows (in
thousands):


<TABLE>
<CAPTION>
                                                          Gross         Gross
                                                       Unrealized    Unrealized       Fair
                                            Cost         Gains         Losses         Value
                                            ----       ----------    ----------       -----
<S>                                      <C>             <C>             <C>          <C>     
At December 31, 1996:
   Fixed maturity securities:
      U.S. Treasury securities and      
      obligations of U.S. government    
      corporations and agencies          $ 29,708        $   409         $  157       $ 29,960
      Obligations of states and         
      political subdivisions              191,311          2,485            741        193,055
      Foreign governments                      30                             6             24
      Corporate securities                162,336          3,299          1,237        164,398
      Mortgage-backed securities          296,896          3,483          2,539        297,840
                                         --------        -------      ---------       --------
  Total fixed maturity securities         680,281          9,676          4,680        685,277
   Equity securities                       13,871          2,702            302         16,271
                                         --------        -------      ---------       --------
   TOTAL                                 $694,152        $12,378         $4,982       $701,548
                                         ========        =======         ======       ========
                                        
At December 31, 1995:                   
  Fixed maturity securities:            
     U.S. Treasury securities and       
     obligations of U.S. government     
     corporations and agencies           $ 29,602        $ 1,519      $       3       $ 31,118
     Obligations of states and          
     political subdivisions               189,363          4,154            611        192,906
     Foreign governments                       20                                           20
     Corporate securities                 102,667          3,992          1,395        105,264
     Mortgage-backed securities           188,404          5,080          1,390        192,094
                                         --------        -------      ---------       --------
                                        
  Total fixed maturity securities         510,056         14,745          3,399        521,402
                                        
  Equity securities                        20,132          1,191            299         21,024
                                         --------        -------      ---------       --------
                                        
  TOTAL                                  $530,188        $15,936      $   3,698       $542,426
                                         ========        =======      =========       ========
</TABLE>
 

                                      F-24


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE H--INVESTMENTS--Continued

At December 31, 1996,  the  amortized  cost and  estimated  market value of debt
securities,  by contractual maturity,  are shown below (in thousands).  Expected
maturities will differ from contractual  maturities  because  borrowers may have
the right to call or  prepay  obligations  with or  without  call or  prepayment
penalties.

<TABLE>
<CAPTION>
                                                      Estimated
                                     Amortized          Market
                                        Cost            Value
                                     ---------        ----------
<S>                                   <C>              <C>     
Due in one year or less               $  2,656         $  2,656
Due after one year to five years        80,741           81,800
Due after five years to ten years      117,429          119,248
Due after ten years                    182,559          183,732
Mortgage backed securities             296,896          297,841
                                      --------         --------
    TOTAL                             $680,281         $685,277
                                      ========         ========
</TABLE>


NOTE I--DIVIDEND AND CAPITAL RESTRICTIONS

The  Company's   insurance   subsidiaries  are  subject  to  certain  regulatory
supervision by their respective domiciliary states. Such regulation is generally
designed to protect  policyholders  and includes such matters as  maintenance of
minimum  statutory  surplus and  restrictions  on the payments of dividends.  At
December 31, 1996, the maximum  dividend that may be paid to the Company in 1997
without regulatory approval is approximately $27,000,000.

Additionally,  the  insurance  subsidiaries  are  subject to certain  Risk-Based
Capital ("RBC") requirements as specified by the NAIC. Under those requirements,
the amount of capital and surplus maintained by the insurance companies is to be
determined  based on the various  risk  factors  related to it. At December  31,
1996, the Company met the RBC requirements.

NOTE J--STOCK OPTIONS

The Company has elected to follow  Accounting  Principles  Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB 25) and related  interpretations
in accounting for its employee stock options  because,  as discussed  below, the
alternative  fair value  accounting  provided for under FASB  Statement No. 123,
"Accounting for  Stock-Based  Compensation," requires  use  of option  valuation
models that were not developed for use in valuing employee stock options.  Under
APB 25,  because the exercise  price of the  Company's  employee  stock  options
equals  the  market  price of the  underlying  stock on the  date of  grant,  no
compensation expense is recognized.

The Company has adopted  stock option plans (the  "Plans")  under which  800,051
shares of common  stock are  reserved  for  issuance  upon  exercise  of options
granted pursuant to the Plans.  Under the Plans,  incentive stock options may be
granted to employees and nonqualified stock options may be granted to employees,
directors,  and such other  persons as the Board of  Directors  (or a  committee
appointed by the Board) determines will assist the Company's business endeavors,
at exercise prices equal to at least 100% of the fair market value of the common
stock on the date of grant. Incentive


                                      F-25


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE J--STOCK OPTIONS-- Continued

stock options granted under the Plans are not  exercisable  until one year after
grant and expire  five years after the date of grant.  In addition to  selecting
the  optionees,  the Board (or such  committee)  determines the number of shares
subject to each option,  the expiration date and vesting periods of nonqualified
stock  options and  otherwise  administers  the Plans.  Certain of the Company's
officers are  ineligible to participate  in the Plans.  Incentive  stock options
have been granted at various times and for varying amounts.

During 1993, the Company granted the President and Chairman of the Board,  and a
Vice President,  separate stock options outside of the Plans to purchase 412,500
and 74,250  shares,  respectively,  of the Company's  Common Stock at $45.45 per
share at any time through  December 31, 1999,  which options were outstanding at
December 31, 1996.

Pro forma information regarding net income and earnings per share is required by
Statement 123, which also requires that the  information be determined as if the
Company has  accounted  for its employee  stock  options  granted  subsequent to
December 31, 1994 under the fair value method of that Statement.  The fair value
for these  options  was  estimated  at the date of grant  using a  Black-Scholes
option pricing model with the following  weighted-average  assumptions  for 1996
and 1995, respectively;  risk-free interest rates of 6.20% and 7.05%; a dividend
yield of 1.25%; volatility factors of the expected market price of the Company's
Common Stock of .25 and .25; and a weighted-average  expected life of the option
of 5 years.

The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded  options which have no vesting  restrictions  and are fully
transferable.  In addition,  option valuation models require the input of highly
subjective  assumptions  including the expected stock price volatility.  Because
the  Company's  employee  stock  options  have   characteristics   significantly
different from those of traded  options,  and because  changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion,  the  existing  models do not  necessarily  provide a  reliable  single
measure of the fair value of its employee stock options.

For purposes of pro forma  disclosures,  the estimated fair value of the options
is amortized to expense over the options'  vesting  period.  The  Company's  pro
forma information follows (in thousands, except per share data):
<TABLE>
<CAPTION>
                                                                 1996         1995
                                                               -------       ------
<S>                                                            <C>           <C>    
Pro forma net income                                           $39,813       $31,053
                                                               =======       =======
Pro forma primary earnings per common share                      $2.75         $2.17
                                                                 =====         =====
Pro forma fully diluted earnings per common share                $2.71         $2.16
                                                                 =====         =====
</TABLE>

For purposes of pro forma disclosure, the estimated fair value of the options is
amortized  to expense  over the  options'  vesting  period and does not  include
grants prior to January 1, 1995. As such,  the pro forma net income and earnings
per share are not indications of future years.


                                      F-26


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE J--STOCK OPTIONS--Continued

A summary of the Company's stock option  activity,  and related  information for
the years ended December 31 follows:

<TABLE>
<CAPTION>
                                         1996                        1995                       1994
                             -----------------------------------------------------------------------------------
                             Options   Weighted-Average   Options    Weighted-Average  Options  Weighted-Average
                              (000)     Exercise Price     (000)      Exercise Price    (000)    Exercise Price

<S>                            <C>           <C>            <C>           <C>            <C>          <C>
Outstanding-beginning of year  349           $20            250           $18            339          $16
Granted                         69            34            175            19              2           28
Exercised                      (83)           13            (46)            8            (81)           8
Canceled                       (10)           22            (30)           23            (10)          24
                               ---                          ---                          ---             
Outstanding-end of year        325            24            349            20            250           18
                               ===                          ===                          ===             
Exercisable at end of year     108            23            122            17            118           14
                                                                                               
</TABLE>


The  weighted  average fair value of options  granted  during 1996 and 1995 were
$10.26 and $6.15,  respectively.  Exercise prices for options  outstanding as of
December 31, 1996 ranged from $18.86 to $39.75. The weighted-average contractual
life of those options is 3.8 years.


NOTE K--EMPLOYEE BENEFIT PLANS

The Company  sponsors  an employee  savings  plan  (401(k))  whereby the Company
contributes  a base of 2% of the salary of all  full-time  employees and matches
50% of the employee's  personal  contribution up to 2% of the employee's salary.
The maximum Company contribution, base and match, is 4% of an employee's salary.
In addition,  the Company has a  noncontributory  profit  sharing  plan.  At the
discretion of the Board of Directors, the Company may contribute up to 4% of the
eligible salaries of full-time employees who have completed one year of service.

The Company's total expense related to employee benefit plan  contributions  for
1996, 1995 and 1994 was $1,691,000, $1,221,000 and $1,030,000, respectively.

NOTE L--COMMITMENTS AND CONTINGENCIES

At December 31, 1996, the future minimum rental  commitment for operating leases
was   as   follows:   1997--$1,600,000;    1998--$1,356,000;   1999--$1,298,000;
2000--$857,000; 2001--$563,000, and 2002 and thereafter--$328,000.  These leases
are for the rental of office  space,  the initial terms of which run five years,
with a negotiated  renewal  option at the end of the term.  Total rental expense
for  1996,  1995,  and 1994  amounted  to  $1,112,000,  $720,000  and  $479,000,
respectively.

In 1996, the Company  entered into certain  contractual  agreements with several
contractors  and vendors in connection  with the  construction of an addition to
its home office  building and the purchase of office  equipment.  The  remaining
commitments that will be paid in 1997 total approximately $11,300,000.

The Company  has been  served with  several  purported  class  actions  alleging
violations  of federal  securities  laws by the Company  and, in some cases,  by
certain of its  officers  and  directors;  certain  other  actions  also  allege
violations  of  the  common  law.  The   complaints   relate  to  the  Company's
announcement



                                      F-27


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE L--COMMITMENTS AND CONTINGENCIES--Continued

of its third  quarter,  1994  financial  results  and  allege  that the  Company
previously had omitted and/or misrepresented  material facts with respect to its
earnings and profits.

The amount of  potential  loss is not possible to estimate as of the present due
to the fact that these actions  allege  differing  class  periods,  and until an
actual  class is  certified in the  consolidation  action,  the number of shares
impacted by the claims cannot be ascertained. The Company believes the suits are
without merit and has retained special legal counsel to contest them vigorously.
The  Company is  involved  in other  unrelated  litigation  which is  considered
incidental  to its  business.  The  ultimate  outcome of all  litigation  is not
expected to be material in relation  to the  Company's  financial  position  and
results of operations.

The insurance subsidiaries record guaranty assessments when such assessments are
billed  by  the  respective   guaranty  funds.   In  addition,   each  insurance
subsidiary's policy is to accrue for any significant  insolvencies when the loss
is probable and the assessment amount can be reasonably  estimated.  In the case
of most  insurance  insolvencies,  the ability of each  insurance  subsidiary to
reasonably estimate the insolvent insurer's  liabilities or develop a meaningful
range of the  insolvent's  liabilities is  significantly  impaired by inadequate
financial data with respect to the state of the insolvent company as supplied by
the guaranty funds.

On November  10, 1994,  the Company  authorized  a stock  repurchase  program to
purchase up to 1,000,000 shares of its Common Stock at such times and prices the
Company deems  advantageous in compliance with SEC Rule 10b-18 at the discretion
of the Chairman of the Board.  There is no  commitment or obligation on the part
of the Company to purchase any particular number of shares,  and the program may
be  suspended  at any time at the  Company's  discretion.  In 1995 and 1994,  in
conjunction with this repurchase program,  the Company acquired 6,600 and 38,940
shares at a cost of $134,000 and $654,000, respectively.

NOTE M--GUARANTEED PREFERRED BENEFICIAL INTEREST IN COMPANY'S CONVERTIBLE
SUBORDINATED DEBENTURES

In October  1996,  the Company  completed a  $172,500,000  offering of 3,450,000
shares of 6 1/4% Convertible  Trust Originated  Preferred  Securities  ("TOPrS")
through its wholly-owned  consolidated  subsidiary,  Frontier Financing Trust, a
statutory  business  trust formed by the Company for the sole purpose of issuing
the TOPrS and investing the proceeds  thereof in an equivalent  amount of 6 1/4%
Convertible  Subordinated  Debentures  (the  "Debentures")  of the Company which
mature on October 16, 2026. The initial  purchasers'  discount of $4,744,000 was
deducted from the proceeds of the offering.  The Company also incurred  $842,000
of additional  offering costs in connection with this transaction,  resulting in
net proceeds of $166,914,000 to the Company.  The total offering costs have been
capitalized  and are being  amortized  on a  straight-line  basis over a 30 year
period,  in conjunction with the maturity date of the Debentures.  The TOPrS are
carried on the balance sheet net of the  unamortized  offering  costs,  which at
December 31, 1996 amounted to approximately $5,500,000.

The TOPrS are mandatorily redeemable under certain conditions and amounts due to
holders are fully and unconditionally  guaranteed by the Company. The Debentures
(the sole assets of the trust) are

                                      F-28


<PAGE>
<PAGE>




FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS--Continued

NOTE M--GUARANTEED PREFERRED BENEFICIAL INTEREST IN COMPANY'S CONVERTIBLE
SUBORDINATED DEBENTURES--Continued

subordinate to all Company debt and to the claims of creditors and policyholders
of the  Company's  subsidiaries.  The TOPrS are  convertible  into shares of the
Company's Common Stock at an initial conversion rate of 1.0663 shares of Company
Common Stock for each preferred share which is equivalent to a conversion  price
of $46.89  per  common  share (or  3,678,735  shares of Common  Stock in total).
Holders of the TOPrS have no voting rights.

The Debentures are redeemable by the Company, at its option, in whole or in part
at a redemption  price on or after October 16, 1999,  provided the closing price
of the  Company's  Common  Stock is at least  150% of the per  share  conversion
price,  for a minimum  of 20  trading  days  within a period  of 30  consecutive
trading days ending on the fifth  trading day price to the notice of  redemption
or anytime on or after  October  16,  2000.  The  Company has the right to defer
interest  payments  on the  Debentures  at any time by  extending  the  interest
payment date for up to 20 consecutive quarters, but not beyond the maturity date
of the Debentures.

Holders of the TOPrS are entitled to receive cumulative cash distributions at an
annual rate of 6 1/4% of the liquidation amount of $50 per share,  accruing from
the  date  of  original  issuance  and  payable   quarterly  in  arrears.   Such
distributions  are made from  interest  received on the  Debentures,  which have
terms that  parallel the terms of the TOPrS.  During 1996,  the Company  accrued
$2,246,000  payable  to  holders  of the TOPrS and  amortized  a portion  of the
capitalized offering costs. The corresponding expenses are reported as "Minority
interest  in  income  of  consolidated  subsidiary  trust"  in the  accompanying
consolidated statement of income.

NOTE N--CONCENTRATIONS

The  Company,  which is licensed to conduct  business in 50 states,  attempts to
diversify  its  exposures  geographically,  as well as across  various  types of
risks.  However,  its medical  malpractice  business in the Florida  marketplace
comprises 7.2% of the Company's  gross premiums  written and its surety and bond
business, which is focused primarily in the California marketplace, accounts for
16.2% of its gross premiums  written in 1996. Also, the Company relies primarily
on a small  number  of  reinsurers.  At  December  31,  1996,  the  Company  has
outstanding  gross  reinsurance  recoverables  of  $74,002,000  from its largest
reinsurer,  Centre Re; however, under the terms of the reinsurance arrangements,
Frontier is withholding $63,766,000 of funds due Centre Re. Accordingly, the net
outstanding recoverable from Centre Re is $10,236,000.

NOTE O--SUBSEQUENT EVENT

On March 31, 1997, the Company announced that it executed a definitive agreement
to  acquire  100%  of the stock of Lyndon Property Insurance Company and its six
subsidiaries,  Lyndon  Life  Insurance  Company,  Twin  Mercury  Life  Insurance
Company,  Gulfco  Life  Insurance  Company,  Lyndon  Southern Insurance Company,
Lyndon - DFS  Warranty Services, Inc. and Lyndon General  Agency of Texas, Inc.,
subject  to certain closing  conditions  and  regulatory approval, at a purchase
price  of   approximately $92,000,000.


                                      F-29


<PAGE>
<PAGE>







FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

SUPPLEMENTAL DATA

QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)


The following is a summary of unaudited quarterly results of operations for 1996
and 1995 (in thousands, except per share data):

<TABLE>
<CAPTION>
                                     1996                                  1995
                      ----------------------------------    ----------------------------------
                        1st      2nd      3rd      4th        1st      2nd      3rd      4th
                      -------  -------  -------  -------    -------  -------  -------  -------
<S>                   <C>      <C>      <C>      <C>        <C>      <C>      <C>      <C>    
Net premiums earned   $58,294  $66,148  $70,327  $71,220    $45,754  $46,440  $49,873  $54,153
Total net investment
  income                8,477    9,202    9,429   11,825      5,981    7,434    8,168    8,472
Net income              9,264    9,769    9,513   11,521      6,886    7,785    8,245    8,295

Per share data:

Primary earnings per
 common share             .65      .68      .66      .79        .48      .55      .57      .58
Fully diluted earnings
  per common share        .65      .68      .66      .74        .48      .55      .57      .58
</TABLE>


Earnings per share information is based on the weighted average number of shares
outstanding  for the period and have been  adjusted  to reflect  the  effects of
stock dividends and stock splits.

Due to  changes  in the number of average  common  stock and  equivalent  shares
outstanding,  quarterly  earnings  per share may not add to the  totals  for the
years.

In the second quarter of 1996 and the fourth quarter 1995, the Company increased
reserves related to prior years' by  approximately  $13,000,000 and $19,000,000,
respectively, which was entirely offset by subrogation recoverable recognized in
connection with the favorable Court of Appeals decision.


                                      F-30


<PAGE>
<PAGE>




SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT

FRONTIER INSURANCE GROUP, INC. (PARENT COMPANY)

BALANCE SHEETS
(dollar amounts in thousands, except per share data)

<TABLE>
<CAPTION>
                                                                           December 31
                                                                -------------------------------
                                                                  1996                   1995
                                                                --------               --------
<S>                                                             <C>                    <C>     
ASSETS                                                      
Investments in subsidiaries                                     $354,230               $239,557
Investment in limited liability corporation                        2,937                  2,935
Short-term investments                                            63,902                  1,176
Cash                                                                 422                     99
Real estate, equipment and software--at cost, less          
  accumulated depreciation and amortization                 
 (1996--$3,442; 1995--$2,046)                                      7,227                  6,442
Intangible assets, less accumulated amortization
  (1996--$3,221; 1995--$2,370)                                     2,238                  3,082
Other assets                                                       9,021                  4,889
                                                               ---------               --------
  TOTAL ASSETS                                                  $439,977               $258,180
                                                                ========               ========
LIABILITIES AND SHAREHOLDER'S EQUITY
LIABILITIES                                               
Convertible subordinated debentures                       
  due to subsidiary trust                                       $166,953
Note payable                                                                          $  25,000
Accrued expenses and other liabilities                             4,450                  3,447
                                                               ---------               --------
  TOTAL LIABILITIES                                              171,403                 28,447
                                                          
SHAREHOLDERS' EQUITY                               
Preferred stock, par value $.01 per share;
     authorized and unissued--1,000,000 shares
Common stock; par value $.01 per share;
     (shares authorized:  1996--50,000,000; 1995--20,000,000,
     shares issued:  1996--14,689,552; 1995--13,062,501)             147                    130
Additional paid-in capital                                       221,984                167,587
Net unrealized gains on investments held                     
     by subsidiaries (net of tax)                                  4,807                  7,955
Retained earnings                                                 42,424                 54,849
                                                               ---------               --------
   SUBTOTAL                                                      269,362                230,521
         Less treasury stock--at cost (1996--45,540 shares;
            1995--41,400 shares)                                     788                    788
                                                               ---------               --------
  TOTAL SHAREHOLDERS' EQUITY                                     268,574                229,733
                                                               ---------               --------
  TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY                   $ 439,977               $258,180
                                                               =========               ========
</TABLE>

These  condensed  financial  statements  should be read in conjunction  with the
accompanying consolidated financial statements and notes thereto.

                                      F-31


<PAGE>
<PAGE>




SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT--Continued

FRONTIER INSURANCE GROUP, INC. (PARENT COMPANY)

STATEMENTS OF INCOME
(dollar amounts in thousands)
<TABLE>
<CAPTION>
                                                           Year Ended December 31
                                               -------------------------------------------
                                                 1996              1995             1994
                                               --------          --------          -------
<S>                                               <C>            <C>               <C>    
REVENUES
 Dividend income from subsidiary               $  1,500
 Investment income                                1,256          $  1,544          $ 2,296
 Realized capital losses                                             (377)          (1,259)
                                                -------           -------           -------
                         TOTAL REVENUES           2,756             1,167            1,037

EXPENSES
 Operating and administrative                       582               714              944
 Interest expense                                 4,169               895
                                                -------           -------           -------
                         TOTAL EXPENSES           4,751             1,609              944
                                                -------           -------           -------

    INCOME (LOSS) BEFORE FEDERAL
          INCOME TAXES AND EQUITY
          IN UNDISTRIBUTED INCOME OF
          SUBSIDIARIES                           (1,995)             (442)               93
                                              
Federal income tax expense (benefit)(1)          (2,337)             (207)               20
                                                -------           -------           -------
                                              
   INCOME (LOSS) BEFORE EQUITY                
          IN UNDISTRIBUTED INCOME             
          OF SUBSIDIARIES                           342              (235)               73
                                              
Equity in undistributed                       
 income of subsidiaries                          39,725            31,446            16,907
                                                -------           -------           -------
   NET INCOME                                   $40,067           $31,211           $16,980
                                                =======           =======           =======
</TABLE>

(1) Under the terms of its tax-sharing  agreement with its subsidiaries,  income
    tax  provisions  for the  individual  companies  are  computed on a separate
    company basis.  Accordingly,  the Company's  income tax benefit results from
    the  utilization  of the parent company  separate  return loss to reduce the
    consolidated taxable income of the Company and its subsidiaries.

These  condensed  financial  statements  should be read in conjunction  with the
accompanying consolidated financial statements and notes thereto.

                                      F-32


<PAGE>
<PAGE>




SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT--Continued

FRONTIER INSURANCE GROUP, INC. (PARENT COMPANY)

STATEMENTS OF CASH FLOWS
(dollar amounts in thousands)
<TABLE>
<CAPTION>
                                                            Year Ended December 31,
                                                 ------------------------------------------
                                                    1996              1995            1994
                                                 ---------          --------        -------
<S>                                              <C>                <C>             <C>    
OPERATING ACTIVITIES
 Income (loss) before equity in
  undistributed income of subsidiaries           $     342          $   (235)       $    73
 Adjustments to reconcile net income
  (loss) to net cash provided by
  (used in) operating activities:
     Change in federal income taxes                 (1,558)            2,447         (1,502)
     Change in due to (from) subsidiaries             (215)           (4,838)         1,950
     Depreciation and amortization                   2,287             1,788            977
     Realized capital losses                                             377          1,259
     Other                                          (1,692)              721           (144)
                                                 ---------          --------        -------

        NET CASH PROVIDED BY
        (USED IN) OPERATING ACTIVITIES                (836)              260          2,613

INVESTING ACTIVITIES
 Capital contribution to subsidiary                (69,800)          (19,445)(1)
 Purchase of wholly-owned subsidiary                  (221)
 Sales (purchases) of equity securities                                4,017           (864)
 Net (purchases) sales of
  short-term investments                           (62,726)           (1,129)        10,406
 Purchase of real estate                                                (395)
 Purchases of equipment                             (2,181)           (1,634)        (1,209)
 Purchase of policy renewal rights                      (8)             (426)        (3,427)
 Investment in limited liability corporation            (2)           (2,400)
                                                 ---------          --------        -------

       NET CASH PROVIDED BY
       (USED IN) INVESTING ACTIVITIES             (134,938)          (21,412)         4,906

FINANCING ACTIVITIES
 Proceeds from convertible debentures              166,914
 Proceeds from borrowings                            7,100            25,000
 Repayment of borrowings                           (32,100)
 Issuance of common stock                            1,103               378            590
 Cash dividends paid                                (6,920)           (6,243)        (5,717)
 Purchase of treasury stock                                             (134)          (654)
                                                 ---------          --------        -------
       NET CASH PROVIDED BY (USED IN)
       FINANCING ACTIVITIES                        136,097            19,001         (5,781)
                                                 ---------          --------        -------
       INCREASE (DECREASE) IN CASH                     323            (2,151)         1,738
       Cash at beginning of year                        99             2,250            512
                                                 ---------          --------        -------
       CASH AT END OF YEAR                       $     422          $     99        $ 2,250
                                                 =========          ========        =======
</TABLE>

(1)  In conjunction with the cash capital contribution,  the Company transferred
     $28.0  million  of  equity  securities  to  its  subsidiary,  for  a  total
     contribution of $47.4 million.

These  condensed  financial  statements  should be read in conjunction  with the
accompanying consolidated financial statements and notes thereto.

                                      F-33


<PAGE>
<PAGE>





SCHEDULE IV--REINSURANCE

FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

(dollar amounts in thousands)

<TABLE>
<CAPTION>
            Col. A                Col. B              Col. C                Col. D       Col. E
-----------------------------    --------      -----------------------     --------    ----------
                                                                                       Percentage
                                               Ceded to      Assumed                   of Amount
                                                 Other      from Other        Net      Assumed to
         Description              Direct       Companies     Companies      Amount         Net
-----------------------------    --------      ---------    ----------     --------    ----------
<S>                              <C>            <C>                        <C>            <C>
Year ended December 31, 1996:
 Premiums written:
   Medical malpractice           $139,233       $19,580                    $119,653
   General liability              108,984        19,443        $4,439        93,980        4.7%
   Surety                          65,074         8,749           307        56,632        0.5
   Workers' compensation           25,125        19,176           304         6,253        4.9
   Commercial earthquake           16,396         4,637           145        11,904        1.2
   Other                           39,246        19,351         3,546        23,441       15.1
                                 --------       -------        ------      --------       ----
    TOTAL                        $394,058       $90,936        $8,741      $311,863        2.8%
                                 ========       =======        ======      ========       ====
Year ended December 31, 1995:                                                      
 Premiums written:                                                                 
    Medical malpractice          $117,431       $18,049                    $ 99,382    
    General liability              65,900        12,841        $3,813        56,872        6.7%
    Surety                         49,137         5,734           142        43,545        0.3
    Workers' compensation          11,047         1,683           569         9,933        5.7
    Commercial earthquake           4,067         1,159                       2,908    
    Other                          11,640         4,091           568         8,117        7.0
                                 --------       -------        ------      --------        --- 
                                                                                   
   TOTAL                         $259,222       $43,557        $5,092      $220,757        2.3%
                                 ========       =======        ======      ========        === 
                                                                                   
                                                                                   
Year ended December 31, 1994:                                                      
 Premiums written:                                                                 
   Medical malpractice           $ 90,107       $ 2,338                    $ 87,769    
   General liability               45,072         4,419       $    46        40,699        0.1%
   Surety                          36,871           388           296        36,779        0.8
   Workers' compensation           12,940         1,087         2,704        14,557       18.6
   Other                           10,624         3,372           232         7,484        3.1
                                 --------       -------        ------      --------        --- 
    TOTAL                        $195,614       $11,604        $3,278      $187,288        1.8%
                                 ========       =======        ======      ========        === 
</TABLE>


                                      F-34


<PAGE>
<PAGE>




                  SCHEDULE V--VALUATION AND QUALIFYING ACCOUNTS

                 FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES

                          (dollar amounts in thousands)


<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------
                COL. A                     COL. B                     COL. C                     COL. D       COL. E
----------------------------------------------------------------------------------------------------------------------
                                                                     ADDITIONS
                                                        ------------------------------------
             Description                   Balance at         (1)                (2)                        Balance at
                                         Beginning of   Charged to Costs   Charged to Other    Deductions     end of
                                            Period        and Expenses     Accounts-Describe    Describe      Period
----------------------------------------------------------------------------------------------------------------------
<S>                                         <C>              <C>           <C>                  <C>           <C>   
Year ended December 31, 1996:
 Reserves and allowances deducted
   from asset accounts:
     Allowance for doubtful accounts        $3,391           $  365                             $1,471(A)     $2,285
     Allowance for possible reinsurance
        uncollectible amounts                  115              402                                              517


Year ended December 31, 1995:
 Reserves and allowances deducted
   from asset accounts:
     Allowance for doubtful accounts        $2,237           $1,154                                           $3,391
     Allowance for possible reinsurance
        uncollectible amounts                  115                                                               115


Year ended December 31, 1994:
 Reserves and allowances deducted from
   asset accounts:

     Allowance for doubtful accounts        $1,240           $  997                                           $2,237
     Allowance for possible reinsurance
        uncollectible amounts                  101               14                                              115
</TABLE>


(A) Amounts charged off.

                                      F-35


<PAGE>
<PAGE>





                SCHEDULE VI--SUPPLEMENTAL INFORMATION CONCERNING
                     PROPERTY/CASUALTY INSURANCE OPERATIONS




                 FRONTIER INSURANCE GROUP, INC. AND SUBSIDIARIES
                              (Net of Reinsurance)

                             (amounts in thousands)
<TABLE>
<CAPTION>

       Col. A           Col. B       Col. C      Col. D       Col. E     Col. F 
-----------------    ----------- ------------- -----------   --------  ---------
                                                                                
                                      Net                                       
                       Deferred  Unpaid Claims  Discount,                       
                        Policy     and Claim     if any,        Net             
   Affiliation       Acquisition  Adjustment   Deducted in   Unearned    Earned 
 with Registrant        Costs      Expenses      Column C    Premiums   Premiums
-----------------    ----------- ------------- -----------   --------   --------
<C>                    <C>         <C>                       <C>        <C>     
1996 Consolidated      $32,871     $373,606                  $153,325   $265,989
1995 Consolidated       18,797      294,393                   101,741    196,220
1994 Consolidated       13,213      263,202                    77,339    156,755


<CAPTION>

       Col. A           Col. G          Col. H             Col. I        Col. J      Col. K
-----------------     ---------- -------------------    ------------  -----------   ---------
                                   Claims and Claim
                                 Adjustment Expenses    Amortization
                         Total   Incurred Related to    of Deferred   Paid Claims
                          Net       (1)        (2)        Policy       and Claim       Net
   Affiliation        Investment  Current     Prior     Acquisition    Adjustment   Premiums
 with Registrant        Income      Year      Years        Costs        Expenses     Written
-----------------     ----------  --------   --------   ------------  -----------   ---------
<C>                     <C>       <C>        <C>          <C>           <C>         <C>     
1996 Consolidated       $38,933   $160,470   $(4,479)     $57,540       $129,786    $311,863
1995 Consolidated        30,055    126,764    (7,514)      42,258         93,564     220,757
1994 Consolidated        22,975     97,044    13,874       30,463         64,202     187,288
</TABLE>




                                      F-36





<PAGE>
<PAGE>




                                          SIGNATURES

Pursuant to the  requirements of Section 13 or 15(d) of the Securities  Exchange
Act of 1934,  the  Registrant  has duly  caused  this report to be signed on its
behalf by the undersigned, thereunto duly authorized.

                                             FRONTIER INSURANCE GROUP, INC.

                                      By:    /s/     WALTER A. RHULEN
                                            ------------------------------------
                                                     Walter A. Rhulen
                                             Chairman of the Board and President

                                      Date:      March 27, 1997


Pursuant to the requirements of the Securities Exchange Act of 1934, this annual
report on Form 10-K has been signed below by the following  persons on behalf of
the registrant and in the capacities and on the dates indicated.

                Signature and Title                                   Date

     /s/          WALTER A. RHULEN                              March 27, 1997
     ---------------------------------------
                  Walter A. Rhulen
          Chairman of the Board, President
                    and Director
            (Principal Executive Officer)


     /s/           PETER L. RHULEN                              March 27, 1997
     ---------------------------------------
                   Peter L. Rhulen
             Vice President and Director


     /s/         LAWRENCE E. O'BRIEN                            March 27, 1997
     ---------------------------------------
                 Lawrence E. O'Brien
                      Director


     /s/           DOUGLAS C. MOAT                              March 27, 1997
     ---------------------------------------
                   Douglas C. Moat
                      Director


     /s/             ALAN GERRY                                 March 27, 1997
     ---------------------------------------
                     Alan Gerry
                      Director


     /s/           MARK H. MISHLER                              March 27, 1997
     ---------------------------------------
                   Mark H. Mishler
              Vice President - Finance
                    and Treasurer
     (Principal Financial and Accounting Officer)



<PAGE>
<PAGE>



                         FRONTIER INSURANCE GROUP, INC.
                         ------------------------------

                                   EXHIBITS TO

                           ANNUAL REPORT ON FORM 10-K

                            FOR THE FISCAL YEAR ENDED

                                DECEMBER 31, 1996





<PAGE>
<PAGE>




                                       INDEX TO EXHIBITS

<TABLE>
<S>      <C>                                                                               <C>
 3.1(a)  Copy of Registrant's Restated Certificate of Incorporation....................... (1)

 3.2     Copy of Registrant's By-Laws..................................................... (2)

 4.1     Indenture dated as of October 16, 1996 between the Registrant and The Bank
           of New York, as trustee, with form of Debenture attached as Exhibit A thereto...(8)

10.1     Copy of Registrant's Stock Option Plan, including forms of option.................(1)

10.2(a)  Copy of Employment Agreement between Registrant
           and Walter A. Rhulen............................................................(5)

10.6     Copy of Registrant's Profit Sharing Plan..........................................(2)

10.7     Copy of Asset Purchase Agreement between Registrant
           and Rhulen Agency, Inc..........................................................(3)

10.8     Copy of Insurance Placement Agreement between Frontier
           Insurance Company and Markel Service, Incorporated..............................(3)

10.9     Copy of Agency Agreement between Frontier Insurance Company
           and Markel Service, Incorporated................................................(3)

10.10    Copy of Registrant's 1992 Incentive and Non-Incentive
           Stock Option Plan...............................................................(4)

10.11    Copy of Division of Business and Non-Competition Agreement
           between Markel Service, Inc. and Frontier Insurance Company.....................(4)

10.12    Description of Registrant's Executive Bonus Plan..................................(5)

10.13    Copy of Credit Agreement between Registrant and The Bank of New York..............(6)

10.14    Stock Purchase Agreement dated February 29, 1996 among Frontier Insurance
           Company Acquisition Corp. and, for purposes of Section 2.3(c) and Article 11
           only, Capsure Holdings Corp.....................................................(7)

10.15    United Capitol Holding Company and Subsidiaries Financial Statements as of
            December 31, 1995 and 1994 (with Independent Auditors' Report thereon)
            and Unaudited Interim Condensed Consolidated Financial Statements as of
            March 31, 1996.................................................................(7)

10.16    Frontier Insurance Group, Inc. and Subsidiaries' Unaudited Pro Forma
            Condensed Consolidated Statements of Income for the Year Ended December
            31, 1995 and Three Months Ended March 31, 1996, and Balance Sheet as of
            March 31, 1996 together with the related Notes thereto.........................(7)

10.17    Amended and Restated Declaration of Trust dated as of October 16, 1996
           among Registrant, as sponsor.  Walter A. Rhulen and Peter H. Foley, as regular
           trustees.  The Bank of New York, as property trustee, and The Bank of New
           York (Delaware), as Delaware trustee, with the terms of the Preferred Securities
           attached as Annex I thereto, and the form of Preferred Security attached as
           Exhibit A-1 thereto.............................................................(8)
</TABLE>




<PAGE>
<PAGE>


<TABLE>
<S>     <C>                                                                                <C>
10.18    Preferred Securities Guarantee Agreement dated as of October 16, 1996 between
           the Registrant and The Bank of New York, as trustee for the benefit of the
           holders from time to time of the Preferred Securities...........................(8)

10.19    Registration Rights Agreement dated as of October 16, 1996 among Registrant,
           Frontier Financing Trust, and Merrill Lynch & Co., Merrill Lynch, Pierce, Fenner
           & Smith Incorporated, Donaldson , Lufkin & Jenrette Securities Corporation,
           Oppenheimer & Co., Inc. and Stephens Inc., as representatives of the initial
           purchasers of the Preferred Securities..........................................(8)

11       Computation of Per Share Earnings.................................................

12       Statement RE:  Computation of Ratio of Earnings to Fixed Charges..................

22(a)    List of Registrant's Subsidiaries.................................................

23       Consent of Independent Auditors...................................................

29       Schedule P of Annual Statement for year ended December 31, 1996, filed as
            a paper format exhibit on Form SE pursuant to Section 232.311 of Regulation
            ST, of Frontier Insurance Company and of Frontier Pacific Insurance Company,
            as filed with the New York State Department of Insurance and the California
            Department of Insurance, respectively..........................................
</TABLE>


(1)  Filed  as  the  same  numbered  Exhibit  to the  Registrant's  Registration
     Statement  on Form S-1  (File  No.  33-7340)  and  incorporated  herein  by
     reference.

(2)  Filed as the same  numbered  Exhibit to the  Registrant's  Annual Report on
     Form 10-K for the year ended December 31, 1988 and  incorporated  herein by
     reference.

(3)  Filed as the same  numbered  Exhibit to the  Registrant's  Annual Report on
     Form 10-K for the year ended December 31, 1989 and  incorporated  herein by
     reference.

(4)  Filed as the same  numbered  Exhibit to the  Registrant's  Annual Report on
     Form 10-K for the year ended December 31, 1992 and  incorporated  herein by
     reference.

(5)  Filed as the same  numbered  Exhibit to the  Registrant's  Annual Report on
     Form 10-K for the year ended December 31, 1993 and  incorporated  herein by
     reference.

(6)  Filed as the same  numbered  Exhibit to the  Registrant's  Annual Report on
     Form 10-K for the year ended December 31, 1995.

(7)  Filed as the same numbered Exhibit to the  Registrant's  Report on Form 8-K
     dated May 22, 1996 and incorporated herein by reference.

(8)  Filed as the same numbered  Exhibit to the  Registrants  Report on Form 8-K
     dated October 16, 1996 and incorporated herein by reference.

<PAGE>