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

                               Amendment No. 1 on
                    FORM 10-K/ATO ANNUAL REPORT ON FORM 10-K

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

                   For the fiscal year ended December 31, 2002

                                       OR

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

             For the transition period from           to          .
                                            ---------    ---------

                         Commission file number: 0-14950

                              Argonaut Group, Inc.
             (Exact name of Registrant as specified in its charter)

                   Delaware                                  95-4057601
       (State or other jurisdiction of                    (I.R.S. Employer
       incorporation or organization)                  Identification Number)

         10101 Reunion Place, Suite 500
                San Antonio, Texas                              78216
    (Address of principal executive offices)                 (Zip code)

                                 (210) 321-8400
               (Registrant's telephone number including area code)

          Securities registered pursuant to section 12(g) of the Act:

                   Common Stock, par value of $0.10 per share
                              (Title of securities)

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the 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. [X]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [X] No [ ]

As of June 30, 2002, the aggregate market value of the voting stock held by
nonaffiliates was approximately $431.7 million.

As of March 31, 2003, the Registrant had 21,604,351 shares of common stock
outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

Part III: Excerpts from Argonaut Group, Inc.'s Proxy Statement for the Annual
Meeting of Shareholders to be held on May 14, 2003

<PAGE>

                               Argonaut Group, Inc
                        Amendment No. 1 on Form 10-K/A to
                           Annual Report on Form 10-K
                      For the Year Ended December 31, 2002

                                TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                     PART 1
                                                                                          Page
                                                                                          ----
<S>     <C>                                                                                <C>
Item    1.   Business..................................................................     3
Item    2.   Properties................................................................    15
Item    3.   Legal Proceedings.........................................................    15
Item    4.   Submission of Matters to a Vote of Security Holders.......................    17

                                     PART II

Item    5.   Market for Registrant's Common Equity and Related
                Stockholder Matters....................................................    17
Item    6.   Selected Financial Data...................................................    18
Item    7.   Management's Discussion and Analysis of Results of Operations
                and Financial Condition................................................    19
Item   7A.   Quantitative and Qualitative Disclosures about Market Risk................    38
Item    8.   Financial Statements and Supplementary Data...............................    39
Item    9.   Changes in and Disagreements with Accountants on Accounting
                and Financial Disclosure...............................................    39

                                    PART III

Item   10.   Directors and Executive Officers of the Registrant........................    39
Item   11.   Executive Compensation....................................................    39
Item   12.   Security Ownership of Certain Beneficial Owners and Management............    40
Item   13.   Certain Relationships and Related Transactions............................    40
Item   14.   Controls and Procedures...................................................    40

                                     PART IV

Item   15.   Exhibits, Financial Statement Schedules and Reports on Form 8-K...........    40
</TABLE>

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Explanatory Note

This Amendment No. 1 to the Annual Report filed on Form 10-K/A is being filed to
amend the following disclosures:

     . Adding additional disclosures to Part I, Item 1 - Reinsurance, on page 9;
     . Clarifying the footnotes to Table II on page 13;
     . Adding additional disclosure to Part I, Item 1 - Reserves for Losses and
       Loss Adjustment Expenses on page 14;
     . Adding additional disclosure to Part I, Item 7 - Management's Discussion
       and Analysis of Results of Operations and Financial Condition - Overview
       on page 20;
     . Adding additional disclosure to Part I, Item 7 - Management's Discussion
       and Analysis of Results of Operations and Financial Condition
       - Segment Results, Run-off lines on page 29; and
     . Correcting an error in the unaudited table in footnote 19 - Acquisitions
       on page F-32.

Forward Looking Statements

This report on Form 10-K/A contains "forward looking statements", including but
not limited to, those under Item 7 "Management's Discussion and Analysis of
Results of Operations and Financial Conditions" section relating to liquidity
and capital resources, significant accounting policies, the discussion of
asbestos and environmental liability claims, the notes to the consolidated
financial statements, and other sections herein, which are made pursuant to the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995.
The forward-looking statements are based on Argonaut Group, Inc.'s (the
"Company") current expectations and beliefs concerning future developments and
their potential effects on the Company. There can be no assurance that actual
developments will be those anticipated by the Company. Actual results may differ
materially as a result of significant risks and uncertainties, including
non-receipt of the expected payments, changes in interest rates, effect of the
performance of financial markets on investment income and fair values of
investments, development of claims and the effect on loss reserves, accuracy in
projecting loss reserves, the impact of competition and pricing environments,
changes in the demand for the Company's products, the effect of general economic
conditions, adverse state and federal legislation and regulations, developments
relating to existing agreements, heightened competition, changes in pricing
environments, and changes in asset valuations. For a more detailed discussion of
risks and uncertainties, see the Company's public filings made with the
Securities and Exchange Commission. The Company undertakes no obligation to
publicly update any forward-looking statements.

                                     PART I.

Item 1. Business

Introduction

Argonaut Group, Inc. ("Argonaut Group" or "the Company") is a national provider
of specialty insurance products focused on specific niches of property-casualty
insurance. During 2002, the Company continued its strategy initiated in 2001 of
diversifying its product line and expanding geographically. Argonaut Insurance
Company was established in 1948 and is directly owned by the Company and is the
parent of the Company's other property and casualty insurance companies.
Workers' compensation is the primary line of insurance written by Argonaut
Insurance Company and the following subsidiaries: Argonaut-Midwest Insurance
Company, Argonaut-Northwest Insurance Company, Argonaut-Southwest Insurance
Company, and Georgia Insurance Company. Argonaut Insurance Company and the above
subsidiaries have entered into a pooling agreement whereby all premiums, losses,
and associated underwriting expenses are allocated between the members of the
pool. Argonaut Great Central Insurance Company ("Argonaut Great Central") was
established in Illinois in 1948 and was purchased by Argonaut Insurance Company
in 1971. AGI Properties, Inc., a non-insurance company, owns and leases certain
real properties. AGI Properties was incorporated in California in 1970 and is
wholly owned by Argonaut Insurance Company. Trident Insurance Services LLC
("Trident"), a managing general underwriter formed as a limited liability
company in Texas, was established in 2000 and acquired by the Company in 2001.
Argonaut Group is Trident's immediate parent.

Front Royal, Inc., a wholly owned subsidiary of Argonaut Insurance Company
acquired in the third quarter of 2001, is a holding company for specialty
insurance underwriters with particular expertise in excess and surplus lines and
workers' compensation for certain targeted types of businesses. Its principal
subsidiaries are the Colony

                                       3

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Insurance Group ("Colony") and the Rockwood Casualty Insurance Group
("Rockwood"). Colony is comprised of Colony Insurance Company, Colony National
Insurance Company and Colony Specialty Insurance Company. Rockwood is comprised
of Rockwood Casualty Insurance Company and Somerset Casualty Insurance Company.
Colony Insurance Company, Colony National Insurance Company and Colony Specialty
Insurance Company have entered into an intercompany pooling agreement whereby
all premiums, losses and associated underwriting expenses are allocated between
members of the pool. Rockwood Casualty Insurance Company and Somerset Casualty
Insurance Company have also entered into an intercompany pooling agreement.

Business Segments and Products

The Company's operations include four continuing business segments: excess and
surplus lines, specialty commercial, specialty workers' compensation and public
entity and one run-off segment.

Excess and Surplus Lines. Excess and surplus lines, or E&S, insurance carriers
provide insurance that is unavailable or difficult to obtain by businesses in
the admitted market due to the unique characteristics of the consumers or the
lack of insurers writing such coverage. The excess and surplus lines market
allows Colony to underwrite certain risks with more flexible policy terms at
unregulated premium rates. Colony operates primarily on an E&S basis and focuses
on insureds that generally cannot purchase insurance from standard lines
insurers due to the perceived risks related to their businesses. Colony provides
commercial liability, commercial property, products liability and environmental
liability coverages to commercial enterprises, including restaurants, artisan
contractors, day-care centers and manufacturers, and professional liability
coverages for health care providers (other than physicians) and other
professionals. Colony is approved as a non-admitted insurer in 48 states, the
District of Columbia and the U.S. Virgin Islands.

Specialty Commercial. This segment provides property and casualty coverages
targeting specific groups of insureds and is underwritten by Argonaut Great
Central and Rockwood. Argonaut Great Central is domiciled in Illinois and
specializes in providing package insurance policies for certain classes of
insureds. Argonaut Great Central focuses on small to medium sized risks and
targets three broadly defined markets: food and hospitality, retail services and
organizations and institutions. Argonaut Great Central is licensed in 33 states
and provides property, general liability, commercial automobile, workers'
compensation and umbrella insurance policies.

Rockwood concentrates on underwriting specialty workers' compensation insurance
and is licensed in 13 states. Premiums written in Pennsylvania, Rockwood's
domiciliary state, account for 70% of Rockwood's business. Rockwood provides
workers' compensation insurance for coal mines and other mining business and
small commercial accounts. In addition, Rockwood provides supporting general
liability, pollution liability, umbrella liability, inland marine, commercial
automobile and surety business. The supporting lines of business represent less
than 10% of Rockwood's gross written premiums.

Specialty Workers' Compensation. Workers' compensation is the primary line of
insurance underwritten by Argonaut Insurance Company and its pooled
subsidiaries. Argonaut Insurance Company and its pooled subsidiaries also
underwrite complementary lines of commercial insurance for a small number of
their clients, primarily consisting of general liability and commercial
automobile, but generally target companies whose workers' compensation needs
will result in significant annual premiums (generally between $250,000 and $5
million.) Argonaut Insurance Company also provides workers' compensation
insurance for smaller employers. Argonaut Insurance Company, domiciled in
California, is licensed in 50 states and the District of Columbia.

In the first half of 2003, Argonaut Insurance Company will reorganize its
operations to concentrate on casualty risk management solutions for upper-middle
market accounts. Risk management business has been the core of Argonaut
Insurance Company's operations since the early 1990's. With the elimination of
non-strategic businesses, Argonaut Insurance Company will reduce its workforce
by approximately 15 percent over the first and second quarters of 2003 and will
incur a reorganization charge of approximately $3 million in the first half of

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2003. The reorganization will also have the effect of reducing operating
expenses in the latter half of 2003 and in future years.

Public Entity. Trident functions as a managing general underwriter, dedicated to
servicing the insurance needs of preferred small to medium sized governmental
entities throughout the United States. Trident offers comprehensive insurance
package, including property, inland marine, crime, general liability, public
officials' liability, law enforcement liability, automobile liability,
automobile physical damage and excess liability coverages. Trident currently
underwrites its products through Argonaut Great Central and Argonaut Insurance
Company.

Argonaut Group was incorporated in Delaware in 1986 and its executive offices
are located at 10101 Reunion Place, Suite 500, San Antonio, Texas 78216. Its
telephone number is (210) 321-8400. The Company's website address is
www.argonautgroup.com.

Argonaut Group files annual, quarterly and current reports, proxy statements and
other information and documents with the Securities and Exchange Commission
("SEC".) The Company makes available free of charge on its website its annual
report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K
and amendments to those reports filed with or furnished to the SEC pursuant to
Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as
reasonably practical after it electronically files them with or furnishes them
to the SEC.

Additional information relating to the Company's business segments is included
under Item 7 "Management's Discussion and Analysis of Results of Operations and
Financial Conditions" on pages 18 - 35 and note 14 "Business Segments" in the
Notes to the Consolidated Financial Statements.

Marketing

The Company's insurance subsidiaries utilize a nationwide network of agents and
insurance brokers to market and distribute their insurance products. During
2002, the Company continued to diversify its premium base, with no individual
state contributing more than 15% of total gross written premiums. The Company
services its policyholders and agents through local offices located
strategically nationwide.

Excess and Surplus Lines. Colony markets its excess and surplus lines products
through approximately 170 wholesale agents through two separate channels. The
first channel is through binding agreements with the wholesale agent. The
wholesale agent is contracted to quote and issue a policy subject to stringent
parameters in a detailed manual. The second channel consists of wholesale agents
that request quotes for insurance policies on risks not included in a binding
agreement. The evaluation, underwriting and policy issuance is completed by
Colony. These channels account for 45% and 55% of Colony's direct written
premiums, respectively.

Specialty Commercial. Rockwood markets its workers' compensation products
through approximately 825 retail agents. Rockwood personnel individually
underwrite each policy. Argonaut Great Central also markets its products through
retail agents and the underwriting decision rests with Argonaut Great Central.

Specialty Workers' Compensation. Argonaut Insurance Company markets its large
workers' compensation products through brokers and its small workers'
compensation policies through wholesale agents. Argonaut Insurance Company plans
on exiting the small workers' compensation program in the first quarter of 2003
and therefore will discontinue the use of wholesale agents during 2003.

Public Entity. Trident markets its policies through approximately 500 retail
agents and five exclusive marketing partners. The ultimate underwriting decision
rests with Trident. The Trident Public Entity programs are not available in all
states, but are principally marketed in those states that have strong tort
immunities, or damage caps, that help insulate public entities from loss.

                                       5

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Competition

The property and casualty insurance industry historically is cyclical. The
demand for property and casualty insurance can vary significantly, generally
rising as the overall level of economic activity increases and falling as such
activity decreases. The property and casualty insurance industry and especially
the reinsurance business also have been very competitive. Prior to 2000,
insurance companies kept insurance premiums relatively low, offsetting lower
margins on underwriting with investment returns. Due to lower investment returns
beginning in 2000, poor underwriting results on business written in prior years
and additional losses due to potential acts of terrorism, the insurance industry
in general increased prices to more closely approximate the cost of coverage.
The Company's insurance subsidiaries have experienced more favorable premium
pricing beginning in the second half of 2000 and continuing into 2002.

The property-casualty insurance industry is characterized by a large number of
competing companies and modest market shares by industry participants. According
to A.M. Best Company ("A.M. Best"), a leading insurance industry rating and
analysis firm, as of December 31, 2001, there were approximately 2,500
property-casualty insurance companies operating in the United States. Argonaut
Group's principal insurance subsidiaries ranked among the 250 largest property
and casualty insurance company organizations in the United States, measured by
net premiums written (113th), and policyholder's surplus (123rd). With respect
to admitted assets, Argonaut Group's insurance subsidiaries ranked 88th relative
to its industry peers.

The Company's insurance subsidiaries are rated by A.M. Best. A.M. Best is
generally considered to be the leading insurance rating agency, and its ratings
are used by insurance buyers, agents and brokers, and other insurance companies
as an indicator of financial strength and security, and are not intended to
reflect the quality of the rated company for investment purposes. A.M. Best
assigns ratings ranging from "A++ (Superior)" to "F (In Liquidation)". In
January, 2003, A. M. Best affirmed the rating of the Company's insurance
subsidiaries as follows: Argonaut Insurance Company as an "A" (Excellent) with a
negative outlook; Colony and Rockwood were affirmed as an "A" (Excellent) with a
stable outlook; and Argonaut Great Central was affirmed as an "A- (Excellent)"
with a stable outlook. A.M. Best reviews its ratings on a periodic basis, and
ratings of the Company's insurance subsidiaries are therefore subject to change.

On February 4, 2003, Standard & Poors Ratings Services ("S&P") announced it was
lowering the Company's counterparty credit and financial strength ratings to
'BBB+' from 'A'. S&P stated that the reduction of the rating was based on
declines in the Company's capitalization.

A significant downgrade in these ratings could affect the Company's competitive
position in the insurance industry, make it more difficult for the Company to
market its products and result in a material loss of business as policyholders
move to other companies with higher claims-paying and financial strength
ratings. These ratings are subject to revision or withdrawal at any time by the
rating agencies, and therefore, no assurance can be given that the Company's
primary insurance subsidiaries can maintain these ratings. Each rating should be
evaluated independently of any other rating.

The Company's principal competitors cannot be easily classified. The Company's
principal lines of business are written by numerous other insurance companies.
Competition for any one account may come from very large national firms or
smaller regional companies. For the Company's workers' compensation lines,
additional competition comes from state workers' compensation funds.

Property and casualty insurance is a highly competitive business, particularly
with respect to E&S, commercial lines and workers' compensation insurance. Over
the past several years, competition has become more intense, due to the efforts
of many insurance companies to obtain, maintain and expand market share by
offering relatively low premium rates. Competition has grown from established
companies and the entry of new competitors into the industry. These factors have
resulted in low revenue growth, deterioration in operating profits and, until
recently, falling prices for the property and casualty industry. However, the
industry has begun to show renewed focus on

                                       6

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premium rate adequacy, and as a result, the downward pressure on premium rates
is abating as many competitors implement rate increases.

To remain competitive, the Company's strategy includes, among other measures,
(1) using appropriate pricing, (2) maintaining underwriting discipline, (3)
selling to selected markets, (4) utilizing technological innovations for the
marketing and sale of insurance, (5) controlling expenses, (6) maintaining high
ratings from A.M. Best, (7) providing quality services to agents and
policyholders, and (8) acquiring suitable property and casualty books of
business.

Regulation

Risk-Based Capital. The Company's insurance subsidiaries are subject to the
Risk-Based Capital ("RBC") provisions under The Insurers Model Act. RBC is
designed to measure the acceptable amount of capital on the inherent specific
risks of each insurer. RBC is measured annually. State regulatory authorities
use the RBC formula to identify insurance companies which may be
undercapitalized and may require further regulatory attention. The formula
prescribes a series of risk measurements to determine a minimum capital amount
for an insurance company, based on the profile of the individual company. The
ratio of a company's actual policyholder surplus to its minimum capital
requirements will determine whether any state regulatory action is required.

The RBC for The Insurers Model Act provides four levels of regulatory activity
if the RBC ratio yielded by the calculation falls below specified minimums. At
each of four successively lower RBC ratios specified by statute, increasing
regulatory remedies become available, some of which are mandatory. The four
levels are: (1) Company Action Level Event, (2) Regulatory Action Level Event,
(3) Authorized Control Level Event, and (4) Mandatory Control Level Event. As of
December 31, 2002, Argonaut Insurance Company's RBC is within the Company Action
Level Event. However, Argonaut Insurance Company requested from the California
Department of Insurance permission to report a parcel of its real estate at its
agreed upon sales price. The California Department of Insurance granted Argonaut
Insurance Company the permitted practice. Without the permitted practice
Argonaut Insurance Company's RBC would have been within the Regulatory Action
Level Event, which would have required the Company's corrective action plan to
be approved by the department of insurance. The Company is required to submit to
the insurance regulator a comprehensive plan, detailing out the circumstances
that resulted in the ratio being below the minimum standard. Additionally, the
Company's plan must detail the actions to be taken to restore the ratio to above
minimum standards (see discussion under Item 7 "Management's Discussion and
Analysis of Results of Operations and Financial Conditions" on pages 18 - 35.)

Other regulatory issues. The Company's insurance subsidiaries are subject to the
supervision and regulation of the states in which they are domiciled. Such
supervision and regulation is designed to protect the Company's policyholders
rather than the Company's shareholders. Such supervision and regulation includes
matters relating to authorized lines of business, underwriting standards,
financial condition standards, licensing of insurers, investment standards,
premium levels, policy provisions, the filing of annual and other financial
reports prepared on the basis of Statutory Accounting Principles, the filing and
form of actuarial reports, dividends, and a variety of other financial and
non-financial matters.

The Company's insurance subsidiaries are members of the statutorily created
insolvency guarantee associations in all states where they are authorized to
transact business. These associations were formed for the purpose of paying
claims of insolvent companies. The Company is assessed its pro rata share of
such claims based upon its premium writings, subject to a maximum annual
assessment per line of insurance. Such costs can generally be recovered through
surcharges on future premiums. The Company does not believe that assessments on
current insolvencies will have a material effect on its financial condition or
results of operations.

The Company, as an insurance holding company, is subject to regulation by
certain states. All states have enacted legislation which regulates insurance
holding companies such as the Company and its subsidiaries. This legislation
generally provides that each insurance company in the holding company is
required to register with the

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department of insurance of its state of domicile and furnish information
concerning the operations of companies within the holding company system which
may materially affect the operations, management or financial condition of the
insurers within the group. Such regulation generally provides that transactions
between companies within the holding company system must be fair and equitable.
Transfers of assets among such affiliated companies, certain dividend payments
from insurance subsidiaries and certain material transactions between companies
within the system may be subject to prior notice to, or prior approval by, state
regulatory authorities.

As an insurance holding company, Argonaut Group is largely dependent on
dividends and other permitted payments from its insurance subsidiaries to pay
any cash dividends to its shareholders and for its operating capital. The
ability of the Company's insurance subsidiaries to pay dividends to the Company
is subject to certain restrictions imposed under California insurance law, which
is the state of domicile for Argonaut Insurance Company, the Company's immediate
insurance subsidiary under which all other insurance subsidiaries are owned.
During 2003, Argonaut Insurance Company will be permitted to pay dividends of up
to $25.8 million to the Company without additional approval from the California
Department of Insurance, though business and regulatory considerations may
impact the amount of dividends actually paid. Due to Argonaut Insurance
Company's RBC, the Company's ability to receive dividends from Argonaut
Insurance Company may require prior approval from the California Department of
Insurance.

Reinsurance

As is common practice within the insurance industry, the Company transfers a
portion of the risks insured under its policies to other companies through
reinsurance. During 2002, the Company had over $622 million of gross written
premiums of which it ceded, or transferred to reinsurers, approximately $138
million, or 22% of gross written premiums, for reinsurance protection. This
reinsurance is maintained to protect the insurance subsidiaries against the
severity of losses on individual claims and unusually serious occurrences in
which a number of claims produce an aggregate extraordinary loss. Although
reinsurance does not discharge the Company's subsidiaries from their primary
obligation to pay policyholders for losses insured under the policies they
issue, reinsurance does make the assuming reinsurer liable to the insurance
subsidiaries for the reinsured portion of the risk. As of December 31, 2002, the
Company had approximately $470.1 million of reinsurance receivables from
reinsurers for losses that they are or will likely be obligated to reimburse the
Company for under reinsurance contracts, net of a reserve for doubtful accounts
of $15.9 million. The collectibility of reinsurance is largely a function of the
solvency of reinsurers. The Company performs annual credit reviews on its
reinsurers, focusing on, among other things, financial capacity, stability,
trends and commitment to the reinsurance business. The Company also requires
assets in trust, letters of credit or other acceptable collateral to support
balances due from reinsurers not authorized to transact business in the
applicable jurisdictions. However, due to the Company's longevity, it has not
always been standard business practice to require security for balances due;
therefore, certain balances are not collateralized. Despite these measures, a
reinsurer's insolvency or inability to make payments under the terms of a
reinsurance contract could have a material adverse effect on the Company's
results of operations and financial condition.

Since December 31, 2002, certain reinsurance carriers have been downgraded by
rating agencies and filed with the Securities and Exchange Commission
documentation regarding deteriorating financial condition. Amounts due from such
reinsurers on paid claims and case reserves total $53.0 million, of which $0.1
million is ninety days past due. The Company cannot reasonably estimate the
probability of the uncollectibility of these balances at this time. The Company
will continue to monitor these reinsurers; however, as of December 31, 2002 the
Company believes these reinsurers will honor their obligations to the Company.
It is possible that future financial deterioration of such reinsurers could
result in the uncollectibilty of certain balances and therefore impact the
financial results of the Company.

The Company entered into a retroactive adverse loss development reinsurance
agreement ("the agreement") with Inter-Ocean N.A. Reinsurance Company, Ltd.
("Inter-Ocean") effective December 31, 2002 for the workers'

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compensation, commercial multiple peril, general liability and asbestos,
environmental and other latent losses lines of business. The ceded losses for
adverse development are calculated on a tiered structure and subject to certain
limitations. The overall adverse development coverage of $119.0 million is in
the following layers:

     First $90.0 million of Adverse Development - 100% covered ($90.0 million of
     coverage)
     Next $40.0 million of Adverse Development - 25% covered ($10.0 million of
     coverage)
     Next $20.0 million of Adverse Development - 50% covered ($10.0 million of
     coverage)
     Next $15.0 million of Adverse Development - 60% covered ($9.0 million of
     coverage)

The primary limitation relate to asbestos, environmental and other latent
losses, which are as follows.

     First $40 million of adverse development is available to be ceded under the
     agreement
     Next $15 million of adverse development is retained by the Company under
     the agreement
     Next $25 million of adverse development is available to be ceded under the
     agreement
     Remaining adverse development is retained by the Company under the
     agreement

Due to the long-term nature of this contract, management determined it was
prudent to provide for a commutation provision should business conditions
warrant. The Company has the option to commute the reinsurance agreement at any
time if the funds withheld balance is positive. Should future adverse
development be minimal it could be economical for the Company to commute the
agreement depending on the funds withheld balance. The funds withheld balance is
credited at the greater of (1) the five year treasury strip rate plus 2.0% or
(2) 4.5%. The interest rate is adjusted quarterly. The funds withheld balance is
payable to the reinsurers, less losses paid and profit share, if the agreement
is not commuted by December 31, 2017. In addition, the funds withheld balance,
less losses paid and profit share, is required to be placed in a trust for the
benefit of the reinsurer should the Company's A.M. Best Rating fall below B++
(currently at A) or Statutory Surplus fall below $193.5 million (at $258.0
million as of 12/31/02).

At December 31, 2002, the Company ceded $165 million of carried reserves.
Related to those cessions, the Company also recorded $118.5 million as
reinsurance funds withheld, $6.5 million as ceded reinsurance payable, and $40.0
million as deferred gain pursuant to SFAS No. 113, "Accounting and Reporting for
Reinsurance of Short-Duration and Long-Duration Contracts". The deferred gain
will be amortized over the estimated settlement period using the interest method
also in accordance with SFAS No. 113.

The Company has $79.0 million of unused coverage under the Inter-Ocean agreement
for future adverse development, if any, on workers' compensation, commercial
multiple peril, general liability and asbestos, environmental and other latent
losses.

Market conditions beyond the Company's control, such as the amount of surplus in
the reinsurance market and natural and man-made catastrophes, determine the
availability and cost of the reinsurance protection it purchases. The Company
cannot be assured that reinsurance will remain continuously available to the
same extent and on the same terms and rates as are currently available. If the
Company is unable to maintain its current level of reinsurance or purchase new
reinsurance protection in amounts that are considered sufficient, the Company
would either have to be willing to accept an increase in its net exposures or
reduce its insurance writings. Since the events of September 11, 2001,
reinsurers have generally included terrorism exclusions or limits in their
reinsurance agreements. Although this has not materially affected the business
written or the Company's results of operations, future terrorist attacks leading
to claims under policies that have been underwritten without terrorism
exclusions may have a material adverse effect on the Company's results of
operations and financial condition.

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Additional information relating to the Company's reinsurance activities is
included under Item 7 "Management's Discussion and Analysis of Results of
Operations and Financial Conditions" on pages 18 - 35 and note 5 "Reinsurance"
in the Notes to the Consolidated Financial Statements.

Reserves for Losses and Loss Adjustment Expenses

The Company records reserves for specific claims incurred and reported and
reserves for claims incurred but not reported. The estimates of losses for
reported claims are established judgmentally on an individual case basis. Such
estimates are based on the Company's particular experience with the type of risk
involved and its knowledge of the circumstances surrounding each individual
claim. Reserves for reported claims consider the Company's estimate of the
ultimate cost to settle the claims, including investigation and defense of the
claim, and may be adjusted for differences between costs originally estimated
and costs re-estimated or incurred.

Reserves for incurred but not reported claims are based on the estimated
ultimate cost of settling claims, including the effects of inflation and other
social and economic factors, using past experience adjusted for current trends
and any other factors that would modify past experience. The Company uses a
variety of statistical and actuarial techniques to analyze current claim costs,
frequency and severity data, and prevailing economic, social and legal factors.
Reserves established in prior years are adjusted as loss experience develops and
new information becomes available. Adjustments to previously estimated reserves
are reflected in results in the year in which they are made.

The Company is subject to claims arising out of catastrophes that may have a
significant effect on its business, results of operations, and/or financial
condition. Catastrophes can be caused by various events, including hurricanes,
windstorms, earthquakes, hailstorms, explosions, severe winter weather, fires
and by man-made events, such as terrorist attacks. The incidence and severity of
catastrophes are inherently unpredictable. The extent of losses from a
catastrophe is a function of both the total amount of insured exposure in the
area affected by the event and the severity of the event. Insurance companies
are not permitted to reserve for catastrophes until such event takes place.
Therefore, although the Company actively manages its exposure to catastrophes
through its underwriting process and the purchase of reinsurance protection, an
especially severe catastrophe or series of catastrophes could exceed its
reinsurance and may have a material adverse impact on its results of operations
and/or financial condition.

After September 11, 2001, the Company has attempted to reduce its exposure to
terrorist activity where underwriters determine that there is a significant risk
of loss from terrorism activities. These risks could include high profile
locations, public entities and risks located in close proximity to potential
terrorist targets. The Terrorism Risk Insurance Act of 2002 ("the Act") was
signed into law effective November 26, 2002. Policyholders now have a right to
purchase insurance coverage for losses arising out of "certified acts" of
terrorism, as defined in Section 102(1) of the Act. Coverage provided by the
policy for losses caused by certified acts of terrorism is partially reimbursed
by the United States under a formula established by federal law. Under this
formula, the United States pays 90% of covered terrorism losses exceeding a
statutorily established deductible paid by the insurance company providing the
coverage. For a significant portion of the commercial insurance business offered
by the Company's insurance subsidiaries, excluding its workers' compensation
business, state insurance departments must approve the terms of the insurance
forms and new exclusions included in those forms. As of November 30, 2002, all
states except for California, Georgia, Florida and New York, have approved
terrorism exclusions for polices on commercial insurance business, other than
workers' compensation insurance. Accordingly, the Company is attempting to
include terrorism exclusions when permitted. The Company's Excess and Surplus
Lines carriers are not subject to state regulation of forms and rates. They will
exclude certified as well as non-certified acts of terrorism in all lines and in
all states unless coverage for certified losses is elected by the policyholder
for an additional premium. Terrorism exclusions are not permitted under workers'
compensation laws of any state or jurisdiction in which the Company operates.
When underwriting existing and new workers' compensation business, the Company
considers the added potential risk of loss due to terrorist activity, and this
may lead to the Company to decline to underwrite the risk or non-renew certain
business. However, even when terrorism exclusions are permitted, clients may
object to a terrorism exclusion.

                                       10

<PAGE>

Certain business may still be desirable to underwrite without an exclusion, and
some or many of the Company's insurance policies may not include a terrorism
exclusion. Therefore, future terrorist attacks may result in losses that have a
material adverse effect on the Company's results of operations and/or financial
condition.

The Company has discontinued active underwriting of certain lines of business.
The Company is still obligated to pay losses incurred on these lines which
include general liability and medical malpractice policies written in past
years. The lines currently in run-off are characterized by long elapsed periods
between the occurrence of a claim and any ultimate payment to resolve the claim.
Included in run-off lines are claims related to asbestos and environmental
liabilities arising out of general liability policies primarily written in the
1970's and into the mid 1980's, with a limited number of claims occurring on
policies written into the early 1990's. Additional discussion on run-off lines
can be found under Item 7 "Management's Discussion and Analysis of Results of
Operations and Financial Conditions" on pages 18 - 35 and note 17 "Run-off
Lines" in the Notes to the Consolidated Financial Statements.

The tables on page 11 and 12 present a development of loss and loss adjustment
expense reserve liabilities and payments for the years 1993 through 2002. The
information presented in Table I is net of the effects of reinsurance. The
information presented in Table II includes only amounts related to direct and
assumed insurance. The amounts in the tables for the years ended December 31,
1993 to 2000 do not include Colony's and Rockwood's unpaid losses and loss
adjustment expenses. The top line on the tables shows the estimated liability
for unpaid losses and loss adjustment expense recorded at the balance sheet date
for each of the years indicated.

The second section shows the cumulative amounts paid as of the end of successive
years related to those reserves. The third section shows the original recorded
reserves as of the end of successive years adjusted to reflect facts and
circumstances later discovered. The last line, cumulative deficiency or
redundancy, compares the adjusted reserves to the reserves as originally
established and shows that the reserves as originally recorded were either
inadequate or excessive to cover the estimated cost of claims as of the
respective year end.

                                       11

<PAGE>

Table I

 Analysis of Losses and Loss Adjustment Expense (LAE) Development (in millions)
                              (Net of Reinsurance)

<TABLE>
<CAPTION>
                            1993       1994       1995       1996      1997     1998      1999      2000      2001     2002
                          --------   --------   --------   --------   ------   -------   -------   -------   ------   ------
<S>                       <C>        <C>        <C>        <C>        <C>      <C>       <C>       <C>       <C>      <C>
Reserves for Losses
   and LAE (a)            $1,107.6   $  976.6   $  858.1   $  951.0   $884.0   $ 763.2   $ 706.5   $ 757.6   $929.6   $838.2
Cumulative Amount
   Paid as of: (b)
   1 year later           $  259.9   $  239.7   $  214.2   $  179.0   $172.7   $ 149.8   $ 160.9   $ 154.0   $200.2
   2 years later             444.7      417.9      356.2      309.7    278.7     274.0     282.8     255.1
   3 years later             588.8      531.5      468.6      392.7    374.1     373.6     366.3
   4 years later             684.1      623.9      537.9      469.5    452.4     442.8
   5 years later             758.5      682.9      606.2      537.9    511.8
   6 years later             814.8      742.4      668.8      589.8
   7 years later             864.8      799.2      717.4
   8 years later             915.3      844.4
   9 years later             958.0

Reserves Re-estimated
   as of:
   1 year later           $1,086.8   $  996.5   $1,073.6   $  934.0   $819.2   $ 785.4   $ 833.9   $ 773.2   $991.6
   2 years later           1,083.0    1,180.8    1,038.9      895.5    851.1     884.3     835.6     820.3
   3 years later           1,283.4    1,159.2    1.014.1      916.0    922.8     879.8     889.4
   4 years later           1,277.3    1,152.5    1,033.8      979.4    917.9     934.5
   5 years later           1,268.2    1,154.6    1,092.6      972.5    973.5
   6 years later           1,262.2    1,202.0    1,082.8    1,024.9
   7 years later           1,299.8    1,190.8    1,136.8
   8 years later           1,282.8    1,246.0
   9 years later           1,339.6

Cumulative (Deficiency)
Redundancy: (c)           $ (232.0)  $ (269.4)  $ (278.7)  $  (73.9)  $(89.5)  $(171.3)  $(182.9)  $ (62.7)  $(62.0)
</TABLE>

(a)  Reserves for losses and LAE, net of reinsurance

(b)  Cumulative amounts paid, net of reinsurance payments

(c)  Represents changes of net reserves between the original estimate of the
     indicated year and the reserve re-estimate as of the end of the current
     year. Re-estimated reserves are calculated by adding cumulative amounts
     paid subsequent to year end to remaining estimated unpaid losses and LAE
     for each year.

                                       12

<PAGE>

Table II

 Analysis or Losses and Loss Adjustment Expense (LAE) Development (in millions)
                         (Direct and Assumed Insurance)

<TABLE>
<CAPTION>
                           1993       1994       1995       1996      1997        1998       1999       2000       2001       2002
                         --------   --------   --------   --------   --------   --------   --------   --------   --------   --------
<S>                      <C>        <C>        <C>        <C>        <C>        <C>        <C>        <C>        <C>        <C>
Reserves for Losses
   and LAE (a)           $1,284.1   $1,161.5   $1,026.1   $1,158.8   $1,063.2   $  935.8   $  897.4   $  930.7   $1,147.8   $1,281.6

Cumulative Amount
 Paid as of: (b)
   1 year later          $  288.3   $  267.5   $  245.2   $  234.7   $  197.0   $  177.8   $  218.9   $  190.0   $  246.0
   2 years later            499.3      474.8      437.8      389.3      329.6      358.2      375.2      316.1
   3 years later            668.9      625.4      572.1      498.5      479.0      490.8      481.6
   4 years later            787.9      737.5      665.5      617.0      588.5      580.1
   5 years later            881.4      817.9      774.0      712.1      666.8
   6 years later            951.1      916.0      861.6      782.5
   7 years later          1,039.2      996.5      928.6
   8 years later          1,113.1    1.059.7
   9 years later          1,173.5

Reserves Re-estimated
   as of:
   1 year later          $1,291.7   $1,179.7   $1.300.3   $1,159.7   $1,006.2   $  990.1   $1,048.3   $  966.2   $1,265.3
   2 years later          1,278.8    1,423.1    1,282.8    1,134.3    1,069.7    1,108.6    1,063.3    1,061.3
   3 years later          1,533.8    1,404.1    1.267.2    1,182.5    1,156.5    1,115.1    1,167.6
   4 years later          1,526.6    1,412.1    1,317.3    1,248.4    1,162.3    1,219.4
   5 years later          1,532.5    1,440.9    1.379.7    1,251.9    1,268.3
   6 years later          1,546.4    1,489.9    1,380.7    1,354.4
   7 years later          1,585.5    1,488.4    1,483.7
   8 years later          1,578.7    1,592.1
   9 years later          1,683.5

Cumulative (Deficiency)
   Redundancy: (c)       $ (399.4)  $ (430.6)  $ (457.6)  $ (195.6)  $ (205.1)  $ (283.6)  $ (270.2)  $ (130.6)  $ (117.5)
</TABLE>

(a)  Gross reserves for losses and LAE, prior to the effects of reinsurance

(b)  Cumulative gross amounts paid, prior to the effect of reinsurance

(c)  Represents changes of gross reserves between the original estimate of the
     indicated year and the reserve re-estimate as of the end of the current
     year. Re-estimated reserves are calculated by adding cumulative amounts
     paid subsequent to year end to remaining estimated unpaid losses and LAE
     for each year.

Loss development recognized in 2001 was primarily the result of reserve
strengthening related to the Company's exposure to asbestos and environmental
liabilities. During 2002, the Company recorded approximately $59.8 million in
reserves strengthening, net of reinsurance, related to asbestos and
environmental claims incurred on policies written many years ago. Additional
information on the Company's exposure to asbestos and environmental claims can
be found under Item 7 "Management's Discussion and Analysis of Results of
Operations and Financial Conditions" on pages 18 - 35 and note 17 "Run-off
Lines" in the Notes to the Consolidated Financial Statements.

Loss deterioration recognized in 2000 increased due to poor experience in the
workers' compensation line of business. In particular, loss experience in the
State of California was worse than anticipated. The negative effect of a
California legal ruling adverse to the industry in 1996 began manifesting itself
starting in 1999, and continuing through 2000 the workers' compensation industry
in California reported results that worsened with

                                       13

<PAGE>

each quarter. The impact of the legal ruling increased claim costs for
California workers' compensation accidents which occurred in 1997 and
thereafter. This legal ruling was the 1996 Minnear Decision which gave a
worker's physician complete control in determining all aspects of a workers'
compensation leave and return, eliminating any input from insurers. The full
effect of the legal changes was delayed due to the nature of workers
compensation injuries and the sometimes subjective nature of the system which
administers the settlement of workers' claims. It took many months before the
injured workers went through the system with a claim coming under the law and
subsequent claims are administered according to the new standard. As a result,
loss estimates established by the Company, and the industry, in prior years
proved inadequate with the passage of time. Upon actuarial review of the
changing loss climate, the Company increased net workers compensation loss and
loss adjustment expense reserves by $124.0 million during 2000, of which $29.1
million related to the 1999 accident year, $27.5 million related to the 1998
accident year and $13.4 million related to the 1997 accident year. The balance
was spread over a number of years, dating back to 1990. A reasonable possibility
exists that the claims experience could be the indication of an unfavorable
trend which would require the Company to record additional reserves. Adverse
development on these claims continued into 2001, though ata greatly reduced
rate. During 2001, the Company recorded an additional $7.0 million in net loss
and loss adjustment expense reserves related to its specialty workers'
compensation segment.

     In the quarter ended September 30, 1996 the Company increased reserves for
asbestos and environmental exposure and construction defect exposure by
approximately $200 million for general liability coverage written in the 1970's
and into the mid 1980's. This increase to loss reserves resulted in adverse loss
development for those accident years (see Table I and Table II Analysis of
Losses and Loss Adjustment Expense Development). The reasons for the significant
reserve increase included the following industry developments: (1) the
industry's ultimate exposure to pollution liability was finally judged to be
quantifiable. It was said that virtually all pollution sites had been
identified, clean up costs were judged easier to calculate, and there was more
stable legal precedent on apportionment among potentially responsible parties,
primary carriers, excess carriers and reinsurers; (2) claims were reaching
levels where reinsurers were notified of the exposure; and (3) industry
estimates of asbestos and environmental reserves were twice what they were in
early 1996. In establishing the liability for unpaid claims and claim adjustment
expenses related to asbestos-related illness and toxic waste cleaning, Argonaut
management considered facts currently known and the current state of the law and
coverage litigation. Liabilities were recognized for known claims when
sufficient information had been developed to indicate the involvement of a
specific insurance policy, and management could reasonably estimate its
liability.

Caution should be exercised in evaluating the information shown in the above
tables. It should be noted that each amount includes the effects of all changes
in amounts for prior periods. In addition, the tables present calendar year
data. It does not present accident or policy year development data, which some
readers may be more accustomed to analyzing. The social, economic and legal
conditions and other trends which have had an impact on the changes in the
estimated liability in the past are not necessarily indicative of the future.
Accordingly, readers are cautioned against extrapolating any conclusions about
future results from the information presented in this table.

Investments

The Company holds a diversified portfolio of investments in high quality bonds,
U.S. Treasury notes and government agencies, state and municipal bonds and
preferred and common stocks.

The Company's investment strategy is to manage its investment portfolio in order
to minimize losses, both realized and unrealized. The Company manages a portion
of its fixed income portfolio internally. Additionally, two professional fixed
income managers manage the remainder of the portfolio under guidelines
established by the Company. The majority of the equity portfolio is managed
through an external investment manager, Fayez Sarofim & Co.

                                       14

<PAGE>

Additional information relating to the Company's investment portfolio is
included under Item 7 "Management's Discussion and Analysis of Results of
Operations and Financial Conditions" on pages 18 - 35 and note 4 "Investments"
in the Notes to the Consolidated Financial Statements.

Employees

As of February 28, 2003, the Company had 913 employees. The Company provides a
comprehensive benefits program for substantially all of its employees, including
retirement plans, savings plans, disability programs, group life programs, group
health programs and tuition reimbursements programs. Management believes that
the Company's relationship with its employees is good.

Item 2. Properties

The Company leases office space in San Antonio, Texas for its corporate
headquarters as well as for certain support functions for Argonaut Insurance
Company. Argonaut Insurance Company's headquarters are located in a facility
that consists of an office building on approximately two acres of land in Menlo
Park, California. Argonaut Great Central's headquarters are located in a
facility in Peoria, Illinois. Argonaut Insurance Company and Argonaut Great
Central own the buildings in which their headquarters are located. In addition,
the Company has entered into other leases in conjunction with its operations at
various locations throughout the country. The Company believes that its
properties are adequate for its present needs.

Item 3. Legal Proceedings

Argonaut Insurance Company v. Los Angeles Metropolitan Transit Authority. On
August 30, 1996, the Los Angeles County Metropolitan Transportation Authority
("MTA") filed a civil action against Argonaut Insurance Company alleging breach
of contract, breach of the covenant of good faith and fair dealing, and
requesting ancillary relief in the form of an accounting, an injunction and
restitution in connection with allegations regarding failures to perform under
certain contracts of insurance. The MTA contends that it has been damaged by an
unspecified amount.

Argonaut Insurance Company has responded to the complaint, and believes it has
meritorious defenses, and intends to vigorously contest these claims.
Additionally, Argonaut Insurance Company brought certain counterclaims against
the MTA in connection with the facts underlying the lawsuit regarding the
coverage provided under the insurance policy issued, particularly reimbursement
of claims paid on behalf of the MTA by Argonaut Insurance Company. Reimbursement
is being sought on claims because the amounts paid were within the MTA's
deductible limits or above the MTA's policy limits and therefore due either from
the MTA or excess reinsurers under the terms of the policy issued. In the ten
years prior to the dispute, the MTA reimbursed Argonaut Insurance Company for
all such amounts on a regular basis in the ordinary course of business. The
Company currently carries a receivable on its financial statements in the amount
of approximately $48.6 million relating to amounts funded below the deductible
limit or in excess of policy limits and accordingly due under the terms of the
insurance policy. Management has consulted with its attorneys regarding the
merits of the Company's claim and based on these discussions believe the $48.6
million owed to Argonaut Insurance Company to be a valid claim. Further,
management believes the MTA has the financial wherewithall to pay the Company's
claim. In addition to the above amounts, Argonaut Insurance Company is seeking
collection of certain unpaid administrative claim handling fees and prejudgment
interest on all amounts due which are not included in the aforementioned
receivable.

The trial judge for the MTA litigation has ordered that the first stage of this
case to be tried before a three-judge panel instead of jury by agreement of the
parties during the third quarter of 2003. That trial will primarily consider a
portion of Argonaut Insurance Company's counterclaim for sums it contends are
due to it from the MTA. To date the Court has ruled on five motions for summary
adjudication relating to the recoverability of the

                                       15

<PAGE>

receivable and the number of occurrences at issue between the parties. In each
instance the Court has adopted the position asserted by Argonaut Insurance
Company.

Voluntary Market Premium Litigation. Argonaut Insurance Company was sued in
sixteen lawsuits brought on behalf of alleged classes of purchasers of
retrospectively rated workers' compensation insurance, alleging that the
defendants, including other compensation insurers, charged the purported class
unlawful premiums. Plaintiffs have threatened to bring similar claims against
Argonaut Insurance Company in several other states, but to date have not. Of the
original sixteen suits filed, all but four have either been dismissed or
judgment entered for defendant at the trial court level, although some rulings
are subject to appeal or further review. Two of the remaining five have been
determined no longer material, with all but one count having been dismissed and
class certification denied, and one case has been dormant for over two years.
The remaining case has been acted on through appeal to Federal Fifth Circuit
Court, which reversed the trial court's ruling approving class certification.
Argonaut Insurance Company intends to vigorously defend these lawsuits and has
been successful in having a number of them dismissed or stayed. Management is
unable to determine the potential financial impact of lawsuits which remain
pending. Absent further developments of an adverse nature in these cases not
presently anticipated by management, no further reporting on these proceeding in
future public filings is anticipated at this time.

Diamond Woodworks vs. Argonaut Insurance Company. Filed in the Superior Court of
Orange County, California, this case arose out of Argonaut Insurance Company's
alleged mishandling of a workers' compensation claim and alleged fraudulent acts
towards the plaintiff. On June 19, 2000 the jury awarded approximately $700,000
in compensatory damages and $14.0 million in punitive damages against the
Argonaut Insurance Company, which verdict was subsequently confirmed by the
Court. Argonaut Insurance Company filed post judgment motions and the judgment
for punitive damages was reduced to $5.5 million. Argonaut Insurance Company is
pursuing an appeal of the adverse final judgment, and has posted a surety bond
for the judgment pending appeal. The Company has recorded its best estimate of
loss related to this case.

Princeville Hotel v. Argonaut Insurance Company. The underlying case alleges
wrongful denial of a property damage claim originally made in 1991 by the
Princeville Hotel in Hawaii regarding installation of a new roof for that
facility. Additional claims have also been brought for failure to provide a
defense to two contractors listed as additional insureds on the policy. Although
all indemnity and defense obligations arising under the policy in connection
with the underlying claim have been resolved and accrued for by the Company in
prior periods, claims for extra-contractual damages, including punitive damages,
have been brought by the additional insureds or their assigns and are still
pending. The Company is unable, with any degree of certainty, to comment upon
the range of any potential loss, or whether such an outcome is probable or
remote, in light of ongoing discovery conducted in the case its investigation of
the matter conducted thus far, but notes that punitive damages in a case of this
nature could be material to the results of the Company, if awarded by a jury.

Lila Mitchell, et al. v. Argonaut Insurance Company, et al. On October 7, 2002,
an action was filed in the Superior Court of Alameda County, California, Case
No. 2002067900 by Western MacArthur Company, MacArthur Company, Western Asbestos
Company and certain other individual claimants against Argonaut Insurance
Company ("Argonaut"), The Home Insurance Company and The Hartford Accident &
Indemnity Company. This case seeks coverage for claims already at issue in the
previously filed action entitled Western MacArthur Company and MacArthur Company
v. United States Fidelity & Guaranty Co., The Saint Paul Companies, Inc., St.
Paul Fire & Marine Ins. Co., and Argonaut Insurance Company, Alameda Superior
Court Case No. 721595-7 seeking adjudication of the same issues as presented in
that action. Argonaut's sole nexus to these suits is nine construction wrap-up
policies with an occurrence limit of $200,000 per policy issued to Western
MacArthur Company and Western Asbestos Company, respectively, for liability
arising out of work performed on five construction sites in the 1960s and 70's.
Management estimates that approximately 1% of the claimants in the purported
class action suits against Western MacArthur were associated in any way with the
job sites covered by the Argonaut policies. Argonaut has in the ordinary course
of business set up reserves in

                                       16

<PAGE>

connection with these claims in prior years. Based on the above circumstances,
management's evaluation of Argonaut's exposure to the Western MacArthur
litigation remains unchanged and no adjustments to the existing reserves are
planned based on any of the recent events in this series of lawsuits.

The insurance subsidiaries of the Company are parties to legal actions
incidental to their business. Based on the advice of counsel, management of the
Company believes that the resolution of these matters will not materially affect
the Company's financial condition or results of operations.

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

No matters were submitted to a vote of Argonaut Group's security holders during
the last quarter of its fiscal year ended December 31, 2002.

                                     PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

Market Information

The Company's common stock trades on the NASDAQ National Market under the symbol
"AGII." The following table sets forth the range of high and low sales prices
for the Company's common stock for fiscal year 2002 and 2001:

                       2002            2001
                  -------------   -------------
                   High    Low     High    Low
                  -----   -----   -----   -----
First Quarter     22.89   18.17   21.25   13.50
Second Quarter    23.50   17.43   20.19   14.50
Third Quarter     23.55   15.05   20.10   13.46
Fourth Quarter    18.23   13.20   19.81   14.85

On March 31, 2003, closing price of the Company's common stock was $8.55 per
share.

Holders of Common Stock

The number of holders of record of the Company's Common Stock as of March 31,
2003 was 5,902.

Dividends

The payment of dividends and the amount thereof is determined by the Board of
Directors and depends, among other factors, upon the Company's earnings,
operations, financial condition, capital requirements and general business
outlook at the time payment is considered. The quarterly dividends paid to
shareholders for first, second and third quarters of 2002 was $0.15 per common
share. The quarterly dividends paid to shareholders for 2001 were $0.41 per
common share for the first, second and third quarter, and $0.15 per common share
for the fourth quarter. Total cash dividends paid to shareholders were $13.1
million and $29.8 million for the years ended December 31, 2002 and 2001,
respectively.

In March 2003, the Company's Board of Directors suspended payment of the
Company's quarterly dividend beginning with the fourth quarter of 2002 to
support the capital needs of the Company. In connection with the Company's sale
of Series A Mandatory Convertible Preferred Stock, the Company has agreed not to
pay dividends to common shareholders for a period of two years.

                                       17

<PAGE>

Sale of Securities

On March 31, 2003, the Company sold approximately 2.4 million shares of Series A
Mandatory Convertible Preferred Stock. The preferred shares were sold through a
private placement to a group of investors. The Company received gross proceeds
of $29.4 million from HCC Insurance Holdings, Inc. as a result of this sale. The
proceeds were used to increase the statutory surplus and RBC of Argonaut
Insurance Company. The preferred shares are convertible at any time into common
stock at the option of the holder at an initial conversion price of $12.00. Any
outstanding preferred shares will automatically convert into common shares on
the tenth anniversary of the issuance. The preferred shares will initially pay a
7 percent dividend on a quarterly basis. The dividend rate is subject to certain
adjustments based upon the Company's A.M. Best rating and Risk Based Capital
level. The holders of the preferred shares will be entitled to vote on an
as-converted basis on all matters submitted for the vote of the Argonaut Group
common shareholders. Additionally, under the terms of the private placement, the
Company has agreed not to pay dividends to common shareholders for a period of
two years.

On March 31, 2003 the Company borrowed $18.0 million from HCC Insurance
Holdings, Inc. The Company contributed $12.0 million of the borrowing to
Argonaut Insurance Company, $5.0 million will be held in escrow for dividend
payments related to the Series A Mandatory Convertible Preferred Stock, and $1.0
million will be held by the Company for general corporate purposes. The note
payable is due March 31, 2006, bears interest at 12% annually and is prepayable
at the Company's option at anytime. The note contains certain covenants, one of
which requires repayment should the Company enter into other debt agreements or
issues additional shares of Series A Mandatory Convertible Preferred Stock.

Additionally, the Company has an agreement with an additional investor to
participate in the issue of the Series A Mandatory Convertible Preferred Stock.
The investor has committed to a $6.0 million investment. The proceeds from this
investor are expected to be received on April 10, 2003. The proceeds from this
sale will be used to prepay a portion of the debt discussed above.

Item 6. Selected Financial Data

The following selected financial data are derived from the Company's
consolidated financial statements. The information set forth below should be
read in conjunction with "Management's Discussion and Analysis of Results of
Operation and Financial Condition", included under Item 7 on pages 18 - 35 and
the financial statements and notes thereto, included in Item 8 "Financial
Statements and Supplementary Data" on pages 36.

                                       18

<PAGE>

<TABLE>
<CAPTION>
                                                      For the Years Ended December 31,
                                           ----------------------------------------------------
(in millions except per share amounts)       2002       2001       2000       1999       1998
-------------------------------------      --------   --------   --------   --------   --------
<S>                                        <C>        <C>        <C>        <C>        <C>
Statement of Operations Data
Gross written premiums                     $  622.1   $  272.1   $  186.1   $  140.3   $  162.7
Net written premiums                          484.0      219.6      163.9      122.2      144.1
                                           --------   --------   --------   --------   --------
Earned Premiums                               378.4      221.9      124.6       93.0      138.5
Net investment income                          52.9       53.6       62.0       68.5       77.4
Gains on sales of investments                  26.6       17.1       23.3        2.8       51.2
                                           --------   --------   --------   --------   --------
Total revenue                                 457.9      292.6      209.9      164.3      267.1

Losses and loss adjustment expenses           334.6      189.7      247.6      121.4       95.1
Underwriting, acquisition and insurance
   expense                                    144.4       99.6       91.5       68.4       78.5
                                           --------   --------   --------   --------   --------
Total expenses                                479.0      289.3      339.1      189.8      173.6

Income (loss) before income taxes             (21.1)       3.3     (129.2)     (25.5)      93.5
Provision (benefit) for income taxes           65.9        0.4      (45.9)     (10.3)      30.8
                                           --------   --------   --------   --------   --------
Net income (loss)                          $  (87.0)  $    2.9   $  (83.3)  $  (15.2)  $   62.7
                                           ========   ========   ========   ========   ========
Net income (loss) per common share:
   Basic                                   $  (4.04)  $   0.13   $  (3.77)  $  (0.64)  $   2.62
                                           ========   ========   ========   ========   ========
   Diluted                                 $  (4.04)  $   0.13   $  (3.77)  $  (0.64)  $   2.61
                                           ========   ========   ========   ========   ========
Balance Sheet Data

Invested assets                            $1,181.3   $1,153.2   $1,085.5   $1,175.9   $1,372.8
Total assets                               $2,208.9   $1,863.2   $1,568.3   $1,625.1   $1,823.0

Reserves for losses and loss adjustment
expense                                    $1,281.6   $1,147.8   $  930.7   $  897.4   $  935.8
Shareholders'equity                        $  327.7   $  447.5   $  501.1   $  628.4   $  754.4

Cash dividends declared per common share   $   0.45   $   1.38   $   1.64   $   1.64   $   1.64
</TABLE>

Item 7. Management's Discussion and Analysis of Results of Operations and
        Financial Condition

The following discussion should be read in conjunction with the consolidated
financial statements and related notes on page 38. This discussion contains
forward-looking statements that involve risks and uncertainties. The Company's
actual results could differ materially from those anticipated in the forward
looking statements as a result of various factors described in this report.

Overview

Argonaut Group is a national specialty underwriter, focusing on
property-casualty lines of insurance. During 2002, the Company continued the
strategy it began in 2001 of diversifying its product lines and expanding
geographically. For the year ended December 31, 2000, specialty workers'
compensation premiums accounted for approximately 78% of gross written premiums.
For the year ended December 31, 2002, specialty workers' compensation premiums
had declined to approximately 32% of gross written premiums, whereas excess and
surplus lines and specialty commercial accounted for 41% and 21% of gross
written premiums, respectively. The Company has continued to expand
geographically. For the year ended December 31, 2000, approximately 50% of total
direct written premiums were concentrated in four states (California,
Pennsylvania, Texas and Illinois.) For the year ended December 31, 2002,
approximately 50% of direct written premiums were concentrated in six states
(California, Pennsylvania, Texas, Florida, Illinois and Maryland.)

On August 23, 2001, pursuant to an Agreement and Plan of Merger and Assignment
and Assumption Agreement dated May 7, 2001 and August 15, 2001 respectively,
Argonaut Group acquired all of the outstanding stock of Front Royal, Inc.
("Front Royal"). Front Royal is a holding company for specialty insurance
underwriters with

                                       19

<PAGE>

particular expertise in excess and surplus lines and workers' compensation for
targeted types of businesses. Its principal subsidiaries are Colony Insurance
Group ("Colony") and Rockwood Insurance Group ("Rockwood"). Argonaut Group paid
approximately $168 million in cash for all the issued and outstanding stock of
Front Royal. Operating results from the Front Royal subsidiaries are included in
the consolidated statement of income from the date of acquisition.

The fair value of the reserve for loss and loss adjustment expenses was
determined by applying the following procedures:

     1.   A consulting actuary was engaged to review the reserves for loss and
          loss adjustment expenses. Such analysis included but was not limited
          to a review of internal and external actuarial data, interviews with
          claims personnel, analysis of loss payout patterns as well as
          historical loss trends. The result of this analysis provided the
          Company with its best estimate of Front Royal, Inc.'s reserve for loss
          and loss adjustment expenses and was consistent with the historical
          financial statements of Front Royal, Inc.

     2.   The Company's consulting actuary and management analyzed the fair
          value of the reserve for loss and loss adjustment expenses by first
          applying a risk margin to stated reserves. A risk margin incorporates
          the inherent variability in the reserve for losses and loss adjustment
          expenses for the particular lines of business underwritten by an
          insurer. In order to determine the risk margin management reviewed the
          risk charge as calculated in the acquired companies' Risk Based
          Capital calculation ("RBC" see liquidity and capital resources). RBC
          utilizes industry data for the respective lines of business as well as
          company specific data and applies a risk charge to such lines of
          business based on historical development over the most recent ten
          years. The risk charge of approximately 10% was then applied to the
          stated reserves in order to estimate the value of the reserve for loss
          and loss adjustment expenses utilizing the RBC factors. A discount
          factor was then applied to the reserves utilizing the historical
          payout patterns of the insurance companies acquired. The approximate
          yield on the investment portfolio of the acquired insurance companies
          reflects an average yield on securities held by the companies to meet
          the obligations of the underlying loss liabilities as they are paid.
          This was the discount rate applied and approximated 5%. The result of
          this analysis indicated the reserve for loss and loss adjustment
          expenses as stated in the Front Royal, Inc. financial statements
          approximated fair value. Accordingly, the stated value of the reserve
          for loss and loss adjustment expenses represented fair market value
          for purposes of applying purchase accounting principles.

Results of operations

The following is a comparison of selected data from the Company's operations:

                                         Years ended December 31,
                                        -------------------------
(in milliions)                           2002     2001      2000
--------------                          ------   ------   -------
Gross written premiums                  $622.1   $272.1   $ 186.1
                                        ======   ======   =======
Earned premiums                         $378.4   $221.9   $ 124.6
Net investment income                     52.9     53.6      62.0
Realized investment gains, net            26.6     17.1      23.3
                                        ------   ------   -------
   Total revenue                        $457.9   $292.6   $ 209.9
                                        ======   ======   =======
Income (loss) before taxes               (21.1)     3.3    (129.2)
Provision (benefit) for income taxes      65.9      0.4     (45.9)
                                        ------   ------   -------
Net income (loss)                       $(87.0)  $  2.9   $ (83.3)
                                        ======   ======   =======
Combined ratio                           126.6%   130.3%    272.2%
                                        ======   ======   =======

                                       20

<PAGE>

Consolidated gross written and earned premiums increased in 2002 due to the
inclusion of Colony and Rockwood for the full year period as compared to the
four-month period since acquisition in 2001, combined with rate increases and
new business in all segments. Colony and Rockwood contributed approximately
$335.7 million of gross written premiums and $220.6 million of earned premiums
during 2002, compared to $71.1 million in gross written premiums and $57.2
million of earned premiums during 2001.

Consolidated net investment income reflects the impact of lower investment
yields on higher invested assets due to positive cash flows from operations for
the year ended December 31, 2002. Total invested assets were approximately
$1,181.3 million, $1,153.2 million and $1,085.5 million as of December 31, 2002,
2001 and 2000, respectively.

The Company manages its investment portfolio in order to minimize losses, both
realized and unrealized. Gross realized gains were $38.9 million for the year
ended December 31, 2002, as compared to $31.5 million and $26.4 million in 2001
and 2000, respectively. Gross realized losses were $12.3 million, $14.4 million
and $3.1 million for the years ended December 31, 2002, 2001 and 2000,
respectively. Included in gross realized losses for the year ended December 31,
2002 were write downs of approximately $4.9 million due to the recognition of
other than temporary impairments on certain investment securities (see
discussion on page 34.)

The consolidated loss ratios were 88.4%, 85.5% and 198.7% for the years ended
December 31, 2002, 2001 and 2000, respectively. Losses and loss adjustment
expenses were increased by approximately $59.8 million (or 15.8% of earned
premiums for the year) during 2002 due to reserve strengthening in the run-off
lines, particularly relating to the Company's asbestos liabilities. (See the
section entitled "Run-off Lines" on pages 24 - 28 for further discussion.) The
loss ratio for the year ended December 31, 2000, includes reserve strengthening
of approximately $134.0 million relating to the specialty workers' compensation
segment (see discussion on page 23.)

Consolidated expense ratios were 38.2%, 44.9% and 73.4% for the years ended
December 31, 2002, 2001 and 2000, respectively. The decrease in the expense
ratio resulted from the economies of scale realized from the increase in gross
written premiums, primarily driven by the excess and surplus lines and specialty
commercial segments.

As of December 31, 2002, the Company had a net deferred tax asset of $91.9
million before valuation allowance, consisting of net operating loss
carryforwards and temporary differences between taxable income determined in
accordance with accounting principles generally accepted in the United States
("GAAP") and the current tax laws. The provision for income taxes for the year
ended December 31, 2002, includes a valuation allowance for the deferred tax
asset of $71.9 million. The valuation allowance was recorded by management based
on its interpretation of the provisions of Statement of Financial Accounting
Standards No. 109. The deferred tax asset, net of the valuation allowance, is
$20.0 million as of December 31, 2002 (see discussion on page 35.)

Segment Results

Segment Identification. As a result of acquisition of Front Royal, a new
business segment reporting structure was implemented in the fourth quarter of
2001. The ongoing business segments are: excess and surplus lines, specialty
commercial, specialty workers' compensation and public entity. All prior periods
presented have been reclassified to reflect the current segments.

In evaluating the operating performance of its segments, the Company focuses on
core underwriting and investing results before consideration of realized gains
or losses from the sales of investments. Although this measure of profit (loss)
does not replace net income (loss) computed in accordance with GAAP as a measure
of profitability, management utilizes this measure of profit (loss) to focus its
segments on generating operating income which excludes realized gains and losses
on sales of investments.

                                       21

<PAGE>

Excess and Surplus Lines. Colony provides commercial property and casualty
insurance on both an admitted and non-admitted basis, focusing primarily on
excess and surplus lines, providing a market for insurance covering risks for
which there is not a ready market from admitted carriers. Colony's insureds
include restaurants, artisan contractors, day-care centers, manufacturers and
other professionals. Colony was acquired by the Company effective September 1,
2001, and its results from operations are included from this date. The Company
did not have a comparable segment prior to that date.

The following table summarizes the results of operations for the excess and
surplus segment:

                                      Years ended December 31,
                                      ------------------------
(in millions)                               2002    2001
                                           ------   -----
Gross written premiums                     $257.9   $50.5
                                           ======   =====
Premiums earned                             152.3    36.8
Losses and loss adjustment expenses          96.6    22.3
Underwriting expense                         47.6    12.3
                                           ------   -----
   Underwriting income                        8.1     2.2

Interest income, net                         10.4     3.3
                                           ------   -----
   Segment income                          $ 18.5   $ 5.5
                                           ======   =====
Combined ratio                               94.7%   94.0%
                                           ======   =====

For the year ended December 31, 2002, the excess and surplus lines segment
reported segment profit of $18.5 million and a combined ratio of 94.7%, compared
to segment profit of $5.5 million and a combined ratio of 94.0% for the same
period ended 2001.

Gross written premiums for the year ended 2002 included approximately $132.3
million related to new business. During 2002, this segment underwrote new
business through its renewal rights acquisition of Fulcrum Insurance Company,
resulting in additional gross written premiums of approximately $53.9 million.
Renewal premiums for the year ended December 31, 2002 were approximately $83.0
million. The retention rate was approximately 37.2% of policies written in the
prior year and 55.5% of written premium for the year ended December 31, 2002.
This is a reflection of the current environment of the excess and surplus lines
market, in that the current year premium has a similar risk profile to expiring
business, and is being written at higher rates. Partially offsetting these
increases were cancellations and endorsements which reduced gross written
premiums by approximately $11.3 million. Results for the year ended December 31,
2001 include activity for the four months since acquisition of Colony.

The excess and surplus lines segment's loss ratio was 63.4% for the year ended
December 31, 2002 compared to 60.6% for the four month period ended December,
31, 2001. The increase in the loss ratio during 2002 was attributable to two
factors. First, although similar in risk profile, the business generated by the
new markets is recorded at a higher loss ratio to recognize the uncertainty
associated with this new business. Second, improvements in claims handling
procedures implemented during 2002 resulted in a strengthening of case reserves.
These improvements in claims handling procedures have resulted in better control
over future loss development and ultimate loss settlements. Loss reserves for
the excess and surplus lines were $180.1 million and $138.7 million as of
December 31, 2002 and 2001, respectively.

The expense ratio for the year ended December 31, 2002 was 31.3%, compared to
33.4% for the four months ended December 31, 2001. Colony continues to manage
its underwriting expenses and has realized a benefit in a reduction in the
expense ratio due to increased premium volume.

The increase in investment income was the result a complete twelve-month period
being included for 2002, as compared to four months included in 2001, coupled
with positive cash flow that increased invested assets.

                                       22

<PAGE>

Specialty Commercial. Argonaut Great Central and Rockwood provide specialty
commercial insurance coverage. Argonaut Great Central specializes in commercial
multi-peril, workers' compensation and umbrella insurance coverage in three
broadly defined markets: food and hospitality, retail services and organizations
and institutions. Rockwood provides commercial property and casualty insurance
primarily in Pennsylvania and Maryland. Rockwood focuses on underwriting
workers' compensation coverage, general liability and other property and
casualty coverage for commercial and mining risks.

The following table summarizes the specialty commercial segment results of
operations for the years ended December 31, 2002, 2001 and 2000. Rockwood was
acquired by the Company effective September 1, 2001, and its results from
operations are included from this date.

                                      Years ended December 31,
                                      ------------------------
(in millions)                          2002     2001     2000
                                      ------   ------   ------
Gross written premiums                $128.5   $ 64.6   $ 38.5
                                      ======   ======   ======
Premiums earned                        105.4     54.5     29.8
Losses and loss adjustment expenses     74.8     40.3     28.2
Underwriting expense                    30.3     15.9     13.8
                                      ------   ------   ------
Underwriting income                      0.3     (1.7)   (12.2)

Interest income, net                    10.2      6.7      5.6
                                      ------   ------   ------
Segment results                       $ 10.5   $  5.0   $ (6.6)
                                      ======   ======   ======
Combined ratio                          99.7%   103.0%   140.9%
                                      ======   ======   ======

For the year ended December 31, 2002, the specialty commercial segment reported
segment profit of $10.5 million and a combined ratio of 99.7%, compared to
segment profit of $5.0 million and a combined ratio of 103.0% for the same
period ended 2001. For the year ended December 31, 2000, this segment reported a
segment loss of $6.6 million and a combined ratio of $140.9%.

The increase in gross written premiums resulted primarily from the inclusion of
Rockwood for the entire twelve-month period in 2002, as compared to the
four-month period in 2001, combined with rate increases and new business. For
the year ended December 31, 2002, Rockwood's renewal premiums approximated $59.9
million, which equated to a retention rate of 91.6%. The renewal premiums
included rate increases of 10% over the prior year. Rockwood also reported gross
written premiums of approximately $16.4 million related to new business for the
year ended December 31, 2002. Argonaut Great Central generated renewal premiums
of approximately $36.5 million, with average rate increases of 15%. Argonaut
Great Central's retention rate was 85.6% for the year ended 2002. New business
written by Argonaut Great Central totaled $13.7 million for the period ended
December 31, 2002. The increase in gross written premiums in 2001 as compared to
2000 was the result of Rockwood contributing $21.7 million in premiums combined
with Argonaut Great Central implementing average rate increases of 20.9%.

The specialty commercial segment's loss ratio for the year ended December 31,
2002 was 70.9%, compared to 73.8% and 94.8% for 2001 and 2000, respectively.
Argonaut Great Central recorded total losses and loss adjustment expense of
$24.4 million for the year ended December 31, 2002, compared to $26.3 million
and $28.2 million for 2001 and 2000, respectively. The implementation of more
stringent underwriting standards and claims initiatives at Argonaut Great
Central, combined with pricing actions and geographical and product
diversification, have resulted in the improvement in the loss ratio to 67.5% for
the year ended December 31, 2002, compared to 77.4% and 94.8% for 2001 and 2000,
respectively. Rockwood reported losses and loss adjustment expenses of $50.3
million for the year ended December 31, 2002, compared to $13.9 million for the
period since acquisition ending December 31, 2001. Rockwood's loss ratio
increased from 68.3% for the four months ended December 31, 2001 to 72.7% for
the twelve months ended December 31, 2002. The increase in the loss ratio for
2002 was primarily the result of development in the workers' compensation line
related to higher than anticipated indemnity and medical exposure for accident
years 2000 and 2001. Partially offsetting the workers' compensation increases
was favorable development on general liability and other lines of business. The
specialty commercial segment

                                       23

<PAGE>

reported loss reserves of $172.2 million, $156.9 million and $51.1 million as of
December 31, 2002, 2001 and 2000, respectively.

The expense ratio for the specialty commercial segment was 28.8% for the year
ended December 31, 2002, compared to 29.2% and 46.1% for 2001 and 2000,
respectively. The continued improvement in the expense ratio was primarily the
result of increased premium volumes and cost containment. The increase in net
investment income for the year ended December 31, 2002 was primarily the result
of Rockwood contributing investment income for the complete twelve-month period,
as opposed to the four month-period since acquisition in 2001. For the year
ended December 31, 2002, Rockwood reported $6.9 million of investment income,
compared to $2.2 million for the four months since acquisition in 2001.
Investment income was negatively impacted by lower yields which was partially
offset by an increase in invested assets due to positive cash flow.

Specialty Workers' Compensation. Specialty workers' compensation is the primary
line of insurance written by Argonaut Insurance Company. Argonaut Insurance
Company generally targets companies whose workers' compensation needs will
result in significant annual premiums (generally between $250,000 and $5
million). These classes of insurance require specific underwriting expertise and
a commitment to enhance the safety of the workplace. Insureds partner with
Argonaut Insurance Company to effectively manage losses.

The following table summarizes the results of operations for the specialty
workers' compensation segment:

                                       Years ended December 31,
                                      -------------------------
(in millions)                          2002     2001     2000
                                      ------   ------   -------
Gross written premiums                $201.9   $145.7   $ 146.0
                                      ======   ======   =======
Premiums earned                        109.2    126.5      94.6
Losses and loss adjustment expenses     94.5    129.2     207.3
Underwriting expense                    52.1     54.3      71.8
                                      ------   ------   -------
   Underwriting loss                   (37.4)   (57.0)   (184.5)

Interest income, net                    31.4     42.5      56.0
                                      ------   ------   -------
   Segment loss                       $ (6.0)  $(14.5)  $(128.5)
                                      ======   ======   =======
Combined ratio                         134.2%   145.1%    295.0%
                                      ======   ======   =======

Gross written premiums for the year ended December 31, 2002 include
approximately $82.9 million in premiums on new policies, an increase of
approximately $37.6 million over 2001. The increase was primarily attributable
to business acquired through a renewal rights purchase and small workers'
compensation products. Renewal premiums for the year ended December 31, 2002
totaled $94.8 million, an increase of $8.3 million over 2001. The specialty
workers' compensation segment's retention ratio was 60%, with an average premium
rate increase of 15%. Gross written premiums were comparable for the years ended
December 31, 2001 and 2000.

Gross earned premiums increased $9.3 million on core retained business in 2002
versus 2001. The decline in net premiums earned in 2002 as compared to 2001 was
primarily the result of increased ceded premiums. For policies incepting
subsequent to September 30, 2001, reinsurance coverage was purchased which
decreased the specialty workers' compensation loss retention from $1 million to
$250,000 per occurrence. The effect of this treaty along with significantly
higher reinsurance rates obtained for the January 1, 2002 renewal reinsurance
treaties, covering losses incurred above $1 million, resulted in significantly
increased ceded premiums in 2002. The increase in rates for reinsurance treaties
incepting on January 1, 2002 was primarily driven by the terrorist attacks of
September 11, 2001. The increase in earned premiums in 2001 as compared to 2000
was primarily the result of additional earned premiums on retrospectively rated
policies.

Losses and loss adjustment expenses for the year ended December 31, 2002
resulted in a loss ratio of 86.6%, compared to 102.2% and 219.2% for 2001 and
2000, respectively. The Company began to re-underwrite the

                                       24

<PAGE>

specialty workers' compensation book of business in the second half of 2000 in
an effort to obtain rate increases and improve risk selection. Losses and loss
adjustment expenses reported in 2002 include losses of approximately $13.0
million attributable to a single policy from a program that incepted three years
ago. The Company no longer insures this risk effective January, 2003.

As of December 31, 2002, 2001 and 2000, the following is certain claims data
with respect to specialty workers' compensation:

                                               2002      2001      2000
                                              -------   -------   -------
Open claims                                    10,354    11,485    12,209
Claims closed during year                      13,885    17,246    21,896
Average net paid loss on closed claims        $ 6,042   $ 5,840   $ 4,886
Average net outstanding loss on open claims   $29,812   $30,206   $26,040

Net losses and loss adjustment expenses reported in 2001 and 2000 include
reserve strengthening of $7.0 million and $134.0 million, respectively. Loss
reserves for this segment were $630.0 million, $622.2 million and $622.9 million
as of December 31, 2002, 2001 and 2000, respectively. The reserve strengthening
in 2001 and 2000 was primarily the result of deteriorating results for the
Company's California business. A 1996 California legal ruling adverse to the
industry referred to as the Minnear Decision was a primary driver increasing
claims severity. This decision gave a worker's physician control in determining
all aspects of a worker's medical condition which significantly reduced an
insurer's ability to manage the claim. The recognition of levels of claims
severity escalation began emerging in 1999 and continued into 2000. As a result,
the Company, as well as the workers' compensation industry in California,
reported deteriorating results. Recognition of the full effect of this legal
ruling was delayed due to the nature of workers' compensation injuries, the
subjective nature of the system which administers the claims and the amount of
time from the accident occurring and the claimant passing through the system.
The claims experience related to increased severities could be an indication of
a trend in the state of California and other states, and increase ultimate
losses for future accident years. Reserves for losses and loss adjustment
expenses are based on actuarial methods that include various techniques and
include industry data as well as company specific data. An independent actuarial
firm reviews the Company's specialty workers' compensation reserves quarterly.

The expense ratio for the specialty workers' compensation segment was 47.6% for
the year ended December 31, 2002, compared to 42.9% and 75.8% for 2001 and 2000,
respectively. Lower earned premiums in 2002 due to higher ceded premiums are
causing the expense ratio increase in 2002. In addition, commissions, premiums
taxes, licenses and bureau fees are a function of written premiums as opposed to
earned premiums. These expenses increased for 2002 due to the increase in
written premiums as discussed above. During 2002, this segment deferred $13.0
million of acquisition costs. Acquisition costs were not deferred during 2001.
The decrease in underwriting expense in 2001 as compared to 2000 was primarily
the result of cost saving initiatives implemented in the fourth quarter of 2000,
focusing on reducing compensation and outside service expenses. Additionally,
during 2000, deferred acquisition costs of approximately $1.4 million were
written off.

In the first half of 2003, Argonaut Insurance Company will reorganize its
operations to concentrate on casualty risk management solutions for upper-middle
market accounts, which have been the historical core of its business. With the
elimination of non-strategic businesses, Argonaut Insurance Company will reduce
its workforce by 15 percent over the first and second quarters of 2003 and will
incur a reorganization charge of approximately $3 million in the first half of
2003. The reorganization will also have the effect of reducing operating
expenses in the latter half of 2003 and in future years. In its refocused
configuration, Argonaut Insurance Company is expected to produce less than 20
percent of the Group's gross written premium on a prospective basis.

Decreases in net investment income were the result of declining invested assets
coupled with declining yields. Total invested assets, as respect to specialty
workers' compensation, declined from $990.2 million at December 31, 2000 to
$690.5 million and $629.0 million at December 31, 2001 and 2002, respectively.
The decline in the

                                       25

<PAGE>

invested balances between 2000 and 2001 was primarily related to the
disbursement of funds related to the acquisition of Front Royal.

Public Entity. Trident functions as a managing general underwriter, dedicated to
servicing the insurance needs of governmental entities throughout the United
States. Trident, through Argonaut Great Central and, to a lesser extent,
Argonaut Insurance Company, provides property and casualty insurance to
municipalities with populations of less than 30,000, counties with populations
of less than 100,000 and special purpose districts such as water districts.
Trident commenced activity in 2000, and results for the year ended December 31,
2000 were not material.

The following table summarizes the results of operations for the public entity
segment:

                                      Years ended December 31,
                                      ------------------------
(in millions)                          2002     2001     2000
                                      ------   ------   ------
Gross written premiums                $ 33.8   $ 12.7    $ 1.5
                                      ======   ======   ======
Earned premiums                         11.5      4.1      0.2
Losses and loss adjustment expenses      8.1      3.0      0.2
Underwriting expense                     3.7      1.1      0.3
                                      ------   ------   ------
   Underwriting loss                    (0.3)      --     (0.3)

Interest income, net                     0.6      0.1       --
                                      ------   ------   ------
   Segment profit (loss)              $  0.3   $  0.1    $(0.3)
                                      ======   ======   ======
Combined ratio                         102.3%   101.0%    NM(1)
                                      ======   ======   ======

(1)  NM - not meaningful

For the year ended December 31, 2002, the public entity segment reported a
segment profit of $0.3 million, compared to $0.1 million for 2001. The segment
combined ratio was comparable between the two years.

The increase in gross written premiums was primarily the result of new business
written in 2002. For the year ended December 31, 2002, the public entity
segment's new business was approximately $21.9 million. Additionally, the
segment wrote $11.9 million of renewal business, of which $1.6 million
represented rate increases. The public entity segment's retention ratio was
64.9% during 2002.

Losses and loss adjustment expenses for the year ended December 31, 2002
resulted in a loss ratio of 70.3% compared to 72.8% for 2001. Net loss reserves
for the public entity segment were $6.7 million and $5.6 million as of December
31, 2002 and 2001, respectively.

The expense ratio for the year ended December 31, 2002 was 32.0% compared to
28.2% for 2001. The increase in the expense ratio primarily resulted from a
reduced ceding commission on the segment's quota share reinsurance agreement.

Run-off lines. The Company has discontinued active underwriting of certain lines
of business. The Company is still obligated to pay losses incurred on these
lines which include general liability and medical malpractice policies written
in past years. The lines currently in run-off are characterized by long elapsed
periods between the occurrence of a claim and any ultimate payment to resolve
the claim. The Company utilizes a specialized staff dedicated to administer and
settle these claims.

For the year ended December 31, 2002, the run-off segment recorded a segment
loss of $67.8 million. The segment loss was the result of reserve strengthening
of approximately $59.8 million discussed below, plus an increase in the
allowance for doubtful accounts related to reinsurance recoverable balances of
approximately $7.2 million.

                                       26

<PAGE>

Argonaut Insurance Company is exposed to asbestos liability at the primary level
through claims filed against its direct insureds, as well as through its
position as a reinsurer of other primary carriers. Argonaut Insurance Company's
direct liability arises primarily from policies issued from the mid 1970s to
early 1980s which pre-dated policy contract wording that excluded asbestos
exposure. The majority of the policies were issued on behalf of small
contractors or construction companies. The Company believes that the frequency
and severity of asbestos claims for such insureds is typically less than that
experienced for large, industrial manufacturing and distribution concerns.

Argonaut Insurance Company also assumed risk as a reinsurer for a limited period
of time, primarily for the period from 1970 to 1975, a portion of which was
assumed from the London market. Argonaut Insurance Company reinsured risks on
policies written by direct carriers. The reinsurance typically provided coverage
for limits attaching at a relatively high dollar amount which are payable only
after other layers of reinsurance are exhausted. Some of the claims now being
filed on policies reinsured by Argonaut Insurance Company are on behalf of
claimants who may have been exposed at some time to asbestos incorporated into
buildings they occupied, but have no current medical problems resulting from
such exposure. Additionally, lawsuits are being brought against businesses that
were not directly involved in the manufacture or installation of materials
containing asbestos. The Company believes that claims generated out of this
population of claimants will likely be characterized by high frequency but low
severity, resulting in incurred losses generally lower than the asbestos claims
filed over the past decade and could be below Argonaut Insurance Company's
attachment level.

Corporate policy beginning in 1985 was to exclude asbestos coverage on all
general liability policies. During the third quarter of 2002, management
identified claims associated with certain general liability policies issued
through one office from 1985 to the early 1990's which did not exclude absolute
asbestos coverage. The Company strengthened its loss reserves by $7.0 million in
the third quarter for these claims. The Company reviewed policy files issued
during this period for additional exposures and management believes the policies
written were limited to this specific time frame and location.

The following table represents the components of gross loss reserves for the
run-off lines for each of the years in the three-year period ended December 31,
2002.

                                       27

<PAGE>

(in millions)                               2002     2001     2000
------------                               ------   ------   ------
Asbestos:
   Direct written
      Case reserves                        $ 15.9   $ 16.2   $ 20.6
      ULAE                                    4.3      1.5      1.2
      IBNR                                   70.4      8.3      2.9
                                           ------   ------   ------
         Total direct written reserves       90.6     26.0     24.7
   Assumed domestic
      Case reserves                        $ 28.8   $ 25.3   $ 24.9
      ULAE                                    3.2      4.0      4.3
      IBNR                                   43.5     31.2     33.7
                                           ------   ------   ------
         Total assumed domestic reserves     75.5     60.5     62.9
   Assumed London
      Case reserves                          13.0     12.1     11.1
      ULAE                                    1.4      1.1      1.1
      IBNR                                   19.3      6.4      6.4
                                           ------   ------   ------
         Total assumed London reserves       33.7     19.6     18.6
                                           ------   ------   ------
            Total asbestos reserves         199.8    106.1    106.2
Environmental:
   Case reserves                             17.8     20.0     25.6
   ULAE                                       1.4      4.4      6.4
   IBNR                                      17.5     37.7     54.9
                                           ------   ------   ------
         Total environmental reserves        36.7     62.1     86.9
Other run-off lines                          56.1     56.2     63.6
                                           ------   ------   ------
Total reserves - ruin-off lines            $292.6   $224.4   $256.7
                                           ======   ======   ======

The following table represents a reconciliation of total gross and net reserves
for the run-off lines for each of the years in the three-year period ended
December 31, 2002. Amounts in the net column are reduced by reinsurance
recoverables.

<TABLE>
<CAPTION>
(in millions)                                   2002              2001              2000
------------                              ---------------   ---------------   ---------------
                                           Gross     Net     Gross     Net     Gross     Net
                                          ------   ------   ------   ------   ------   ------
<S>                                       <C>      <C>      <C>      <C>      <C>      <C>
Environmental and asbestos:
   Loss reserves, beginning of the year   $168.2   $130.7   $193.1   $152.3   $231.5   $164.5
   Incurred losses                          93.1     61.4      5.9     (5.8)     8.5      9.1
   Losses paid                              24.7     13.8     30.9     15.8     46.9     21.4
                                          ------   ------   ------   ------   ------   ------
Loss reserves - environmental and
   asbestos, end of the year               236.5    178.3    168.2    130.7    193.1    152.3
Other run-off lines                         56.1     44.1     56.2     49.1     63.6     54.9
Net reserves ceded - retroactive
   reinsurance contract                       --    (40.0)      --       --       --       --
                                          ------   ------   ------   ------   ------   ------
Total reserves - run-off lines            $292.6   $182.4   $224.4   $179.8   $256.7   $207.2
                                          ======   ======   ======   ======   ======   ======
</TABLE>

Reserves for the run-off lines, especially environmental and asbestos
liabilities, are reviewed and updated. Argonaut Insurance Company conducted a
study of its asbestos and environmental reserves in the fourth quarter of 2002,
and as a result strengthened its asbestos reserves by $52.8 million.

The decision to strengthen asbestos reserves was the result of an evaluation and
review of exposure to asbestos claims, particularly in light of recent industry
and litigation trends, actual claims experience, and actuarial analysis by the
Company's consulting and internal actuaries. However, some uncertainty remains
regarding the severity and frequency of future claims to the extent that other
carriers and policyholders may not have provided notice of loss or addressed
issues of coverage. Additional uncertainty is created by continued unfavorable
trends in the

                                       28

<PAGE>

insurance industry related to asbestos. All of these factors were considered as
part of the decision to strengthen reserves in the fourth quarter of 2002.
Although legislative reform for class action lawsuits, judicial and legislative
actions imposing minimum proof requirements, and other tort-related reforms are
possible in the near term, the study did not take these mitigating factors into
account in evaluating the severity or frequency of claims.

Total reserves for environmental and asbestos claims were $178.3 million, net of
reinsurance. Management uses various actuarial methods to determine the
potential range of losses for the run-off lines in total, which resulted in a
range of potential ultimate liability, net of reinsurance, of $117.6 million to
$300.6 million. In determining their best estimate, management primarily relied
on the report year method. The report year method relies the most heavily on the
Company's historical claims and severity information, whereas other methods rely
more heavily on industry information. This method produces an estimate of losses
which have been incurred but not yet reported based on projections of numbers of
future claims and the average severity for those future claims. The severities
were calculated based on Argonaut specific data and in management's opinion best
reflect Argonaut liabilities based upon the insurance policies issued. As a
result of this reserve increase, the reserve for incurred but not reported
environmental and asbestos claims (net of reinsurance) at December 31, 2002, was
$102.1 million for total environmental and asbestos reserves, compared to $58.2
million as of December 31, 2001. The reserve for incurred but not reported
claims for the remaining run-off lines (net of reinsurance) was $15.3 million as
of December 31, 2002, compared to $18.8 million as of December 31, 2001.

The following table represents a reconciliation of environmental and asbestos
claims outstanding for each of the years in the three-year period ended December
31, 2002.

                                      2002    2001    2000
                                     -----   -----   ------
Open claims, beginning of the year   8,291   8,742   10,409
Claims closed during the year        1,376   1,511    3,166
Claims opened during the year        1,325   1,060    1,499
                                     -----   -----   ------
Open claim end of the year           8,240   8,291    8,742
                                     =====   =====   ======

The following table represents gross payments on asbestos and environmental
claims for each of the years in the three-year period ended December 31, 2002.

(in millions)                      2002    2001    2000
------------                      -----   -----   -----
Gross payments on closed claims   $ 0.4   $ 5.2   $14.3
Gross payments on open claims      24.3    25.7    32.6
                                  -----   -----   -----
Total gross payments              $24.7   $30.9   $46.9
                                  =====   =====   =====

The above tables indicate downward trends in the number of open claims and total
gross payments over the past three years. Due to the types of coverages within
Argonaut Insurance Company's run-off lines of business, a significant amount of
judgment and uncertainty exists in establishing the reserves for losses and loss
adjustment expenses. Factors that increase these uncertainties are: (1) lack of
historical data, (2) inapplicability of standard actuarial projection
techniques, (3) uncertainties regarding ultimate claim costs, (4) coverage
interpretations, and (5) the judicial, statutory and regulatory environments
under which these claims may ultimately be resolved. Significant uncertainty
remains as to the ultimate liability to the Company due to the potentially long
waiting period between exposure and emergence of any bodily injury or property
damage and the resulting potential for involvement of multiple policy periods
for individual claims. Additionally, recent industry trends show an increasing
number of claims being filed by individuals who claim asbestos exposure, but who
have no symptoms of asbestos-related disease. Due to these uncertainties, the
current trends cannot be relied on to predict future results.

                                       29

<PAGE>

The Company, through its subsidiary Argonaut Insurance Company, has been named
in various legal actions filed by MacArthur Company, Western Asbestos Company
and certain other individual claimants. Argonaut Insurance Company's involvement
in these actions stems from nine construction wrap-up policies with an
occurrence limit of $200,000 per policy issued to Western MacArthur Company and
Western Asbestos Company, respectively, for liability arising out of work
performed on five construction sites in the 1960's and 1970's. Management
estimates that approximately 1% of the claimants in the purported class action
suits against Western MacArthur were associated in any way with the job sites
covered by the Argonaut Insurance Company policies. Argonaut Insurance Company
has in the ordinary course of business set up reserves in connection with these
claims in prior years. Based on this limited exposure, management believes
current reserves are sufficient to cover any losses which may arise out of these
actions.

Although management has determined and recorded its best estimate of the
reserves for losses and loss adjustment expenses for run-off lines, current
judicial and legislative decisions continue to broaden liability, expand policy
scopes and increase the severity of claims payments. As a result of these and
other recent developments, the uncertainties inherent in estimating ultimate
loss reserves are heightened, further complicating the already complex process
of determining loss reserves. The industry as a whole is involved in extensive
litigation over these coverages and liability issues, and must contend with the
continuing uncertainty in its effort to quantify these exposures.

Liquidity and Capital Resources

The nature of insurance is that cash collected on premiums written is invested,
interest and dividends are earned thereon, and loss and settlement expenses are
paid out over a period of years. This period of time varies by line of business
and by the circumstances surrounding each claim. A substantial portion of the
Company's loss and loss expenses are paid out over more than one year.
Additional cash outflow occurs through payments of underwriting and acquisition
costs such as commissions, taxes, payrolls and general overhead expenses.

For the year ended December 31, 2002, net cash provided by operating activities
was $116.8 million as compared with net cash used of $37.4 million and $94.1
million in 2001 and 2000, respectively. The cash flow provided by operations in
2002 was primarily the result of an increase in gross written premiums. The cash
flow used for operations in 2001 was primarily attributable to claims payments
for run-off lines. The cash flow used for operations in 2000 was the result of
claims payments on run-off lines combined with payments on claims incurred on
workers' compensation policies written in prior years.

The Company invests excess cash in a variety of investment securities. As of
December 31, 2002, the Company's investment portfolio consisted of 75.7% fixed
maturities, 20.1% equities and 4.8% other, compared to 67.6% fixed maturities,
28.3% equities and 4.1% other for the same period in 2001. The Company
classifies its investment portfolio as available for sale; therefore all
investments are reported at fair market value, with unrealized gains and losses
being reported as a component of shareholders' equity. The current downturn in
the investment markets, particularly the equities market, has resulted in
shareholder's equity being reduced by approximately $20.8 million, net of tax,
due to the reduction of unrealized gains. As of December 31, 2002, the Company
held common stock in Curtiss-Wright Corp. with a fair market value of $40.8
million, or approximately 12.4% of total shareholders' equity. As of December
31, 2001, the Company had no investment in any one investment exceeding 10% of
shareholder's equity.

The Company's insurance subsidiaries require liquidity and adequate capital to
meet ongoing obligations to policyholders and claimants, and to cover operating
expenses. During the three years ended December 31, 2002, the Company's
liquidity generated from operations and investment income were sufficient to
meet obligations. Adequate levels of liquidity and surplus are maintained to
manage the risks inherent with any differences between the duration of its
liabilities and invested assets. The Company believes it maintains sufficient
liquidity to pay

                                       30

<PAGE>

claims and expenses, as well as unforeseen events such as reinsurer
insolvencies, inadequate premium rates, or reserve deficiencies.

The Company maintains a comprehensive reinsurance program at levels management
considers adequate to diversify risk and safeguard its financial position.
Across all sectors, reinsurance rates have substantially increased. The
additional reinsurance costs of the Company's program, to the extent not passed
on to customers through increased rates, may have a negative impact on
liquidity.

The Company entered into a retroactive adverse loss development reinsurance
agreement on December 31, 2002 to initially cede $125 million of carried
reserves for the workers' compensation, commercial multiple peril, general
liability and asbestos, environmental and other latent losses lines of business.
At December 31, 2002, $118.5 million has been recorded as reinsurance funds
withheld and $6.5 as ceded reinsurance payable, which was paid during the first
quarter of 2003.

The agreement provides up to $119 million of future adverse development, if any,
on workers' compensation, commercial multiple peril, general liability and
asbestos, environmental and other latent losses. The cessions for adverse
development are calculated on a tiered structure and subject to certain
limitations. The Company has the option to commute the reinsurance agreement at
any time if the funds withheld balance is positive. The reinsurance agreement is
effective for reserves as of December 31, 2002, with the exception of reserves
for asbestos, environmental, and other latent losses which are effective as of
September 30, 2002.

A trust has also been established to secure payments owed to the Company from
the reinsurer. The Company is the sole beneficiary of this trust. Securities of
approximately $84 million were transferred to the trust as of December 31, 2002,
and securities of approximately $16 million were transferred to the trust in
February 2003 to secure such payments.

Concerns over terrorist activity have both curtailed the availability of
reinsurance for terrorism related risks and increased the cost of obtaining such
reinsurance where it is still available. The effect of this industry-wide
phenomenon on Argonaut Group's insurance subsidiaries varies by line of
business, but reinsurance coverage for terrorist acts involving nuclear,
biological and chemical agents is no longer available or cost prohibitive in
some instances, thus preventing ceding of these risks through reinsurance.
Argonaut Group's insurance subsidiaries have reviewed their accounts for
potential exposure to these risks as well as other risks in order to make
appropriate decisions on policy exclusions, pricing and renewals, although laws
in many states (and particularly those relating to workers' compensation
insurance) place limits on the ability of insurers to effectively address these
risks by contract.

In addition to its investment portfolio, the Company's subsidiaries own real
property for use as home office facilities for Argonaut Insurance Company and
Argonaut Great Central, as well as three commercial properties in California.
These real properties are included in "Other Assets" valued at $3.9 million,
which is their original cost less accumulated depreciation. The current fair
market value of the three commercial properties is estimated at $88 million,
based on appraisals completed in November 2001. Subsequent to December 31, 2002,
the Company closed the sale of a parcel of undeveloped property (see discussion
on page 31.)

Various state insurance laws restrict the amount that may be transferred to the
Company from its subsidiaries in the form of dividends without the prior
approval of regulatory authorities. In addition, that portion of the Company's
net equity which results from the difference between statutory insurance
accounting practices and generally accepted accounting principals would not be
available for dividends. During 2002, dividends of $11.5 million were paid to
the Company by Argonaut Insurance Company. Argonaut Insurance Company is the
immediate subsidiary of the Company and is regulated by the California Insurance
Code. Under California Insurance regulations, Argonaut Insurance Company will be
able to pay dividends in 2003 up to $25.8 million.

                                       31

<PAGE>

Based on Argonaut Insurance Company's RBC ratio at December 31, 2002, the
California Department of Insurance may require prior approval of any dividends.

The quarterly dividend paid to shareholders for 2002 was $0.15 per common share,
for a total of $0.60 per share, as compared to $1.38 and $1.64 per common share
for 2001 and 2000, respectively. The Company reduced the dividend in order to
preserve the capital base and to fund future profitable growth opportunities.
During the first quarter of 2003, the board of directors suspended the payment
of shareholder dividends to support the capital needs of the Company.

As of December 31, 2002, the Company had repurchased and retired approximately
7.9 million shares of its common stock out of a total 10 million shares
authorized for repurchase. No common stock was repurchased and retired during
2002.

On March 31, 2003, the Company sold approximately 2.4 million shares of Series A
Mandatory Convertible Preferred Stock. The preferred shares were sold through a
private placement to a group of investors. The Company received gross proceeds
of $29.4 million from HCC Insurance Holdings, Inc. as a result of this sale. The
proceeds were used to increase the statutory surplus and RBC of Argonaut
Insurance Company. The preferred shares are convertible at any time into common
stock at the option of the holder at an initial conversion price of $12.00. Any
outstanding preferred shares will automatically convert into common shares on
the tenth anniversary of the issuance. The preferred shares will initially pay a
7 percent dividend on a quarterly basis. The dividend rate is subject to certain
adjustments based upon the Company's A.M. Best rating and Risk Based Capital
level. The holders of the preferred shares will be entitled to vote on an
as-converted basis on all matters submitted for the vote of the Argonaut Group
common shareholders. Additionally, under the terms of the private placement, the
Company has agreed not to pay dividends to common shareholders for a period of
two years.

On March 31, 2003 the Company borrowed $18.0 million from HCC Insurance
Holdings, Inc. The Company contributed $12.0 million of the borrowing to
Argonaut Insurance Company, $5.0 million will be held in escrow for dividend
payments related to the Series A Mandatory Convertible Preferred Stock, and $1.0
million will be held by the Company for general corporate purposes. The note
payable is due March 31, 2006, bears interest at 12% annually and is prepayable
at the Company's option at anytime. The note contains certain covenants, one of
which requires repayment should the Company enter into other debt agreements or
issues additional shares of Series A Mandatory Convertible Preferred Stock.

Additionally, the Company has an agreement with an additional investor to
participate in the issue of the Series A Mandatory Convertible Preferred Stock.
The investor has committed to a $6.0 million investment. The proceeds from this
investor are expected to be received on April 10, 2003. The proceeds from this
sale will be used to prepay a portion of the debt discussed above.

The insurance subsidiaries must maintain certain levels of policyholders'
surplus to support premium writings. Guidelines of the National Association of
Insurance Commissioners suggest that a property and casualty insurer's ratio of
annual statutory net premium written to policyholders' surplus should not exceed
3-to-1. The ratio of combined annual statutory net premium written by the
insurance subsidiaries to their combined policyholders' surplus was 2.3-to-1 as
of December 31, 2002. Current levels of policyholders' surplus are adequate to
support current premium writings, based on this standard. The Company is
currently monitoring premium and statutory surplus levels of the insurance
subsidiaries to ensure that the subsidiaries maintain adequate premiums to
surplus ratio. Failure of any insurance subsidiary to maintain adequate levels
of policyholders' surplus could negatively impact the ability to write
additional premiums.

In addition, regulators and rating agencies utilize a risk-based capital test
designed to measure the acceptable amounts of capital and surplus an insurer
should maintain, based on specific inherent risks of each insurer. Insurers
failing to meet this benchmark level may be subject to scrutiny by the insurer's
domiciliary insurance department and potentially result in rehabilitation or
liquidation. As of December 31, 2002, Argonaut Insurance

                                       32

<PAGE>

Company's RBC ratio was within the Company Action Level Event. At this level,
the regulated insurer is required to submit a Comprehensive Plan of Action to
the regulatory body detailing the steps it is taking to raise the RBC ratio
above the minimum specified by statute. The plan, to be submitted to the
California Department of Insurance, must contain the following:

     .    An analysis of the conditions that contributed to the company's
          financial condition;
     .    Proposals to improve Argonaut Insurance Company's RBC;
     .    Projections of the company's financial results, such as operating
          income, net income, capital and surplus, with and without proposed
          corrective actions;
     .    Key assumptions underlying the projections and their related
          sensitivity; and
     .    Quality of and problems with the company's business.

The following factors contributed to deterioration of the Company's RBC ratio
during the year ended December 31, 2002:

     .    Reserve increases for asbestos and environmental liabilities;
     .    Declines in the fair value of the equity portfolio;
     .    High rate of growth in gross written premiums; and
     .    Losses in the specialty workers' compensation segment.

Argonaut Insurance Company's plan to increase RBC includes:

     .    Reducing its exposure to the equity markets;
     .    Selling certain real estate holdings that will result in realized
          gains and therefore increase surplus;
     .    Scaling back operations of the less profitable business segments; and
     .    Pursuing capital raising avenues.

The Company is in the process of documenting its plan to the California
Department of Insurance detailing the actions Argonaut Insurance Company will
implement to restore the RBC ratio to above minimum requirements.

On March 20, 2003 a subsidiary of Argonaut Insurance Company, AGI Properties,
Inc. sold a parcel of real estate in Torrance, California for approximately
$24.0 million. AGI Properties received $4.5 million in cash and issued a note
receivable for the remainder. The note is due November 30, 2004 and bears
interest at 3.5% annually. The sale of this property resulted in a realized gain
of approximately $20.0 million which was included in Argonaut Insurance
Company's statutory surplus and RBC as of December 31, 2002 as a permitted
practice authorized by the California Department of Insurance.

On March 31, 2003, AGI Properties, Inc., sold certain parcels of real estate for
$40.0 million. AGI Properties, Inc. received $8.0 million in cash and issued
notes receivable for the remaining $32.0 million. The notes receivable pay
interest at LIBOR plus 400 basis points, are capped at 6% and are payable
September 30, 2004. The result of the sales of certain real estate and the
related realized gains increased Argonaut Insurance Company's statutory surplus
by approximately $32.0 million and correspondingly increased Argonaut Insurance
Company's RBC.

On March 31, 2003, the Company sold approximately 2.4 million shares of Series A
Mandatory Convertible Preferred Stock. The preferred shares were sold through a
private placement to a group of investors led by HCC Insurance Holdings, Inc.
The Company received gross proceeds of $29.4 million as a result of this sale.
The proceeds were used to increase the statutory surplus and RBC of Argonaut
Insurance Company. The preferred shares are convertible into common stock at the
option of the holder at an initial conversion price of $12.00. Any outstanding
preferred shares will automatically convert into common shares on the tenth
anniversary of the issuance. The preferred shares will initially pay a 7 percent
dividend on a quarterly basis. The dividend rate is subject to certain
adjustments based upon the Company's A.M. Best rating and Risk Based Capital
level. The

                                       33

<PAGE>

holders of the preferred shares will be entitled to vote on an as-converted
basis on all matters submitted for the vote of the Argonaut Group common
shareholders. Additionally, under the terms of the private placement, the
Company has agreed not to pay dividends to common shareholders for a period of
two years.

On March 31, 2003 the Company borrowed $18.0 million from HCC Insurance
Holdings, Inc. and contributed the full amount of the borrowing to Argonaut
Insurance Company. The note payable is due March 31, 2006, bears interest at 12%
annually and is prepayable at the Company's option at anytime. The note contains
certain covenants, one of which requires repayment should the Company enter into
other debt agreements or issues additional shares of Series A Mandatory
Convertible Preferred Stock.

Additionally, the Company has an agreement with an additional investor to
participate in the issue of the Series A Mandatory Convertible Preferred Stock.
The investor has committed to a $6.0 million investment. The proceeds from this
investor are expected to be received on April 10, 2003. The proceeds from this
sale will be used to prepay a portion of the debt discussed above.

The capital contributed to Argonaut Insurance Company during the first quarter
of 2003, if contributed prior to December 31, 2002, would have increased its RBC
over the Company Action Level. It is the Company's expectation that profits
generated during 2003 and/or other capital raising initiatives will be
sufficient to maintain Argonaut Insurance Company's RBC ratio above the Company
Action Level.

Pension Plans

The determination of pension plan expense and the requirements for funding the
Company's pension plans are based on a number of actuarial assumptions.
Management's selection of plan assumptions, primarily the discount rate used to
calculate the projected benefit obligation and the expected long-term rate of
return on plan assets, can have a significant impact on the resulting estimated
projected benefit obligation and pension cost, and thus on the consolidated
results of operations. Such plan assumptions are determined annually, subject to
revision if significant events occur during the year.

The pension plan measurement date for purposes of our consolidated financial
statements is December 31. The market-related value of plan assets is determined
based on their fair value at the measurement date. The projected benefit
obligation is determined based on the present value of projected benefit
distributions at an assumed discount rate. The discount rate used reflects the
rate at which management believes the pension plan obligations could be
effectively settled at the measurement date, as though the pension benefits of
all plan participants were determined as of that date. At December 31, 2002, the
Company modified certain assumptions surrounding the Company's pension plans.
Specifically, the Company reduced its assumptions on discount rate from 7.5% to
6.75% and expected rate of increase in future compensation levels from 4.5% to
4.0%. The expected rate of return on plan assets remained unchanged at 6.0%.

The Company's current investment strategy is to invest in callable U.S. Agency
securities and minimize exposure to the equity market. Management believes this
strategy will result in above average short term yields while protecting the
portfolio from rising interest rates. As of December 31, 2002, investment mix of
the pension portfolio was 92% U.S Government agencies, 6% short term
investments, and 2% preferred stock. Fair market value of the investment
portfolio as of December 31, 2002 was $36.0 million and included net unrealized
losses of $0.8 million.

Total pension expense for the year ended December 31, 2002 was approximately
$1.0 million. As of December 31, 2002, the Company has a prepaid pension asset
of approximately $4.1 million. The estimated pension liability as of December
31, 2002 was $34.7 million (vested and non-vested participants.) Based on the
current funding status of the pension plan, the expected changes in pension plan
asset values and pension obligations in 2003, the Company does not believe any
significant funding of the pension plans will be required during the year ended
December 31, 2003.

                                       34

<PAGE>

Related Party Transactions

The Company utilized Fayez Sarofim & Co. to manage a portion of its investment
portfolio, for which an investment advisory fee is paid. Fayez Sarofim & Co. is
wholly owned by Sarofim Group, Inc., of which Fayez Sarofim, a member of the
Company's board of directors, is the majority shareholder. Total fees for
services paid to Fayez Sarofim & Co. were approximately $0.5 million, $0.6
million and $0.7 million for the years ended December 31, 2002, 2001 and 2000,
respectively. The Company believes that this transaction has been entered into
on terms no less favorable than could have been negotiated with non-affiliated
third parties.

Other

The Company does not have any off-balance sheet arrangements or financing
activities with special-purpose entities (SPEs).

Recent Accounting Pronouncements

The discussion of the adoption and pending adoption of recently issued
accounting policies is included in "Note 1 - Business and Significant Accounting
Policies" in the Notes to the Consolidated Financial Statements, included in
Item 8 "Financial Statements and Supplementary Data" on page 36.

Critical Accounting Estimates

Reserves for Losses and Loss Adjustment Expenses. The Company establishes
reserves for the estimated total unpaid costs of losses and loss adjustment
expense ("LAE"), which cover events that occurred in 2002 and prior. These
reserves reflect the best estimates of the total cost of claims that have been
reported, but not yet paid. The process of establishing loss reserves is complex
and imprecise as it reflects significant judgmental factors, such as past loss
experience, current claim trends and the prevailing social, economic and legal
environments. Reserves are established for claims that have been incurred but
have not been reported based on actuarial estimates.

The Company utilizes a variety of actuarial techniques and methods to determine
the ultimate losses and loss adjustment expenses. Methods used include paid loss
development method, incurred loss development method, Bornhuetter-Ferguson
method, loss ratio method, report year method and claim count development
method. The combination of the methods produces a point estimate for each line
of business, which the Company books as management's best estimates given the
available facts at that point in time. Each business segment is analyzed
individually. The Company uses internal data in the analysis, however, industry
data is used where credibility of internal data is low and in the development of
tail factors. The Company analyzes loss reserves on a monthly basis. An
independent actuary reviews the specialty workers' compensation reserves on a
quarterly basis. A study of reserves by the Company's consulting actuary for the
run-off lines is conducted semi annually using additional actuarial methods.

Inconsistent judicial decisions and legislative actions continue to broaden
liability and scope of policy coverage and to increase the severity of claim
payments. As a result, the uncertainties inherent in estimating the ultimate
claim costs on the basis of past claims costs have been heightened, further
complicating the already complex loss reserving process. Final claim payments,
however, may differ from the established reserves, particularly when these
payments may not occur for several years. Any adjustments to reserves are
reflected in the results for the year during which the adjustments are made.

In addition to the previously described general uncertainties encountered in
estimating reserves, there are significant additional uncertainties in
estimating the amount of the Company's potential losses from asbestos and
environmental claims. Reserves for asbestos and environmental claims cannot be
estimated with traditional loss

                                       35

<PAGE>

reserving techniques that rely on historical accident year development factors
due to the uncertainties surrounding these types of claims. Among the
uncertainties impacting the estimation of such losses are: (1) potentially long
waiting periods between exposure and emergence of any bodily injury or property
damage; (2) difficulty in identifying sources of environmental or asbestos
contamination; (3) difficulty in properly allocating responsibility and/or
liability for environmental or asbestos damage; (4) changes in underlying laws
and judicial interpretation of those laws; (5) potential for an environmental or
asbestos claim to involve many insurance providers over many policy periods; (6)
long reporting delays from insureds to insurance companies (7) historical data
concerning asbestos and environmental losses, which is more limited than
historical information on other types of claims; (8) questions concerning
interpretation and application of insurance coverage; and (9) uncertainty
regarding the number and identity of insureds with potential asbestos or
environmental exposure. Case reserves and expense reserves for costs of related
litigation have been established where sufficient information has been
developed. Additionally, incurred but not reported reserves have been
established to cover additional exposure on known and unknown claims.

The Company currently underwrites environmental and pollution coverages on a
limited number of policies and underground storage tanks. The Company
establishes reserves to the extent that, in the judgment of management, the
facts and prevailing law reflect an exposure for the Company or its ceding
company not dissimilar to those results the industry has experienced with regard
to asbestos and environmental related claims. Due to the uncertainties discussed
above, the ultimate losses may vary materially from current loss reserves and
could have a material adverse effect on the Company's future financial
condition, results of operations and cash flows.

Through its subsidiary, Rockwood, the Company has exposure to claims for black
lung disease. Those diagnosed with black lung disease are eligible to receive
workers' compensation benefits from various federal and state programs. These
programs are continually being reviewed by the governing bodies and may be
revised without notice in such a way as to increase the level of the Company's
exposure. Reserves for losses are maintained for these exposures and, in
management's opinion, adequately cover the Company's risk.

Management believes that the aggregate loss reserves at December 31, 2002 were
adequate to cover claims for losses that have occurred, including both known
claims and claims yet to be reported. In establishing these reserves, management
considers facts currently known and the present judicial and legislative
environment. However, given the expansion of coverage and liability by the
courts and the legislatures in the recent past and the possibility of similar
interpretations in the future, particularly with regard to asbestos and
environmental claims, additional loss reserves may develop in future periods.
These potential increases cannot be reasonably estimated at the present time.
Any increases could have an adverse impact on future operating results,
liquidity, risk-based capital ratios and the ratings assigned to the insurance
subsidiaries by the nationally recognized insurance rating agencies.

Investments. The Company's investment portfolio is classified as
available-for-sale. Accordingly, the Company carries the investment portfolio on
its balance sheet at estimated fair value. The Company measures the fair value
of the investments based upon quoted market prices. Unrealized appreciation or
depreciation of investments carried at market value is excluded from net income
and credited or charged, net of applicable deferred income taxes, directly to a
separate component of shareholders' equity. The change in unrealized
appreciation or depreciation during the year is reported as a component of other
comprehensive income (loss).

The Company evaluates its investment portfolio for impairments to individual
securities which are deemed to be other than temporary. The Company evaluates
each individual security based on a variety of factors, such as trends in the
market price, degree to which market price is below cost, length of time
security has been trading below cost, changes in dividend and interest payment
pattern and ability of the Company to hold the security to allow for recovery.
For those securities where the Company's acquisition cost is greater than fair
market value, the Company discusses such securities internally or with its
investment advisor. If the Company determines a decline in value is other than a
temporary situation, the cost basis of the security is written down to its fair
value

                                       36

<PAGE>

with the amount of the write down included in earnings as a realized loss in the
period the impairment was identified. During the year ended December 31, 2002,
realized investment gains for the equity and bond portfolios were reduced $4.0
million and $0.9 million, respectively, due to the recognition of other than
temporary impairment on certain securities (pre-tax.) During the years ended
December 31, 2001 and 2000, no securities were identified as having incurred an
impairment that was determined to be other than temporary.

The Company regularly monitors its investment portfolio for securities which
have suffered an impairment which is deemed to be other than temporary. Of those
securities whose acquisition cost exceeded fair market value at December 31,
2002, approximately $14.3 million (pre-tax) are at risk of being written down in
the next twelve months.

Deferred Acquisition Costs. Policy acquisition costs, which include commissions,
premium taxes, fees and certain other costs of underwriting policies, are
deferred and amortized over the same period in which the related premiums are
earned. Deferred acquisition costs are limited to the estimated amounts
recoverable after providing for losses and expenses that are expected to be
incurred, based upon historical and current experience. Anticipated investment
income is considered in determining whether a premium deficiency exists. The
Company continually reviews the methods of making such estimates and
establishing the deferred costs, and any adjustments are made in the accounting
period in which the adjustment arose.

Deferred Tax Asset. Deferred tax assets and liabilities are determined based on
the differences between the financial reporting and tax bases of assets and
liabilities. Deferred tax liabilities are recognized for temporary differences
that will result in taxable amounts in future years. Deferred tax assets are
recognized for deductible temporary differences and tax operating loss and tax
credit carryforwards. The deferred tax assets and liabilities are measured by
applying the enacted tax rates and laws in effect for the years in which such
differences are expected to reverse. The components of the Company's deferred
tax asset are net operating loss carryforwards and temporary differences
primarily attributable to loss reserve discounting. The net operating loss
carryforwards begin expiring after 2009. The Company's deferred tax liabilities
resulted from unrealized gains in the investment portfolio.

Realization of deferred tax assets is dependent upon the Company's generation of
sufficient taxable income in the future to recover tax benefits that cannot be
recovered from taxes paid in the carryback period, generally two years. Due to
the cumulative loss position of the Company over the past three years,
management established a valuation allowance of $71.9 million against the
deferred tax asset. Though the Company believes the deferred tax asset will be
fully utilized through future net income, the valuation allowance was
established based on the Company's interpretation of SFAS No. 109, particularly
due to the cumulative loss position noted above and SFAS No. 109's guidance
related to the facts and circumstances in such a situation. If future taxable
income is not sufficient to recover the net deferred tax assets as of December
31, 2002, the maximum charge to provision for income taxes will be $20.0
million. If the Company generates sufficient future taxable income to fully
utilize the deferred tax assets as of December 31, 2002, the maximum benefit for
income taxes will be $91.9 million.

Goodwill. Goodwill represents the excess of the purchase price over the fair
value of net assets of subsidiaries acquired. As required by SFAS No. 142, the
Company assigned goodwill to its reporting units. As required by SFAS No. 142,
the Company completed the transitional goodwill impairment test required by SFAS
No. 142 in the second quarter of 2002 and determined that there was no
indication of goodwill impairment. Additionally, the Company tested goodwill for
impairment as of September 30, 2002 and determined that no impairment of
goodwill was indicated. Annually, the Company will perform an impairment of
goodwill test. If impairment indicators exist between the annual testing
periods, management will perform an impairment of goodwill test to determine if
the fair value of the reporting unit is below the carrying value and therefore,
require a write-down of goodwill for that reporting segment. In evaluating
whether impairment exists in the certain reporting units, management also
considers the fair value in excess of the carrying value for certain assets.

                                       37

<PAGE>

Item 7A. Quantitative and Qualitative Disclosures about Market Risk

The primary market risk exposures that result in an impact to the investment
portfolio relates to equity price changes and interest rate changes. The Company
does not hold any foreign currency risk or derivative instruments.

The Company holds a diversified portfolio of investments in common stocks
representing U.S. firms in industries and market segments ranging from small
market capitalization stocks to the Standard & Poors 500 stocks. The marketable
equity securities are carried on the balance sheet at fair market value, and are
subject to the risk of potential loss in market value resulting from adverse
changes in prices. Equity price risk is managed primarily through the daily
monitoring of funds committed to the various types of securities owned and by
limiting the exposure in any one investment or type of investment. At December
31, 2002 and 2001 the fair market value of the common stock portfolio was $237.1
million and $326.3 million, respectively. The reduction in the portfolio was a
function of sales of certain holdings and a decrease in the net unrealized
gains. A hypothetical decrease of 10% in the market price of each security held
at December 31, 2002 and 2001 would have resulted in a decrease of $23.7 million
and $32.6 million, respectively, in the fair value of the equity portfolio.

The Company's primary exposure to interest rate risk relates to its fixed
maturity investments including redeemable preferred stock. Changes in market
interest rates directly impact the market value of the fixed maturity securities
and redeemable preferred stocks. Some fixed income securities have call or
prepayment options. This subjects the Company to reinvestment risk as issuers
may call their securities and Argonaut Group reinvests the proceeds at lower
interest rates. The following interest rate sensitivity analysis measures the
potential change in fair value for the fixed maturity investments resulting from
changes in the rate of 100, 200, and 300 basis points as of December 31, 2002:

                                       38

<PAGE>

Interest Rate Sensitivity Analysis

<TABLE>
<CAPTION>
                                                               Base
                                    -300     -200     -100     Case     100      200      300
                                   ------   ------   ------   ------   ------   ------   ------
<S>                                <C>      <C>      <C>      <C>      <C>      <C>      <C>
Book Yield                            5.0%     5.0%     5.0%     5.0%     5.1%     5.1      5.2%
Market Yield                          3.4%     3.4%     3.4%     3.6%     3.7%     3.7%     3.7%
Average Life (years)                  5.1      5.1      5.1      5.2      5.4      5.5      5.6
Option Adjusted Duration (years)      3.5      3.6      3.6      3.5      3.5      3.6      3.7
Market Value                       $985.3   $955.8   $923.8   $892.6   $861.0   $829.1   $798.3
</TABLE>

Exposure to interest rate risks is managed by adhering to specific guidelines in
connection with the investment portfolio. The Company primarily invests in high
investment grade bonds ("AAA" rated U.S. treasury notes and government agencies
and "A" or better for municipal bonds, corporate bonds and preferred stocks.)
Less than 1.0% of the fixed income portfolio is invested in bonds rated lower
than "BBB", with a 20-year maximum effective maturity.

In addition to managing a portion of its fixed income portfolio internally, the
Company also utilizes the service of two professional fixed income investment
managers. The Company manages a majority of the common stock portfolio through
an external investment manager, Fayez Sarofim & Co.

Item 8. Financial Statements and Supplementary Data

The report of the independent auditors, the consolidated financial statements of
Argonaut Group, Inc. and subsidiaries and the supplementary financial
information called for by this Item 8 are included in this report beginning on
page F-1 and are incorporated herein by reference.

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

None

                                    PART III

Item 10. Directors and Executive Officers of the Registrant

Incorporated herein by reference is the information appearing under the captions
"Election of Directors, Executive Officers," "Security Ownership of Principal
Shareholders and Management," and "Section 16(a) Beneficial Ownership Reporting
Compliance" in the Company's Proxy Statement to be filed with the Securities and
Exchange Commission relating to the Company's Annual Meeting of Shareholders to
be held on May 14, 2003.

Item 11. Executive Compensation

Incorporated herein by reference is the information appearing under the captions
"Compensation of Executive Officers," "Indemnification," "Pension Plan," and
"Compensation of Directors" in the Company's Proxy Statement to be filed with
the Securities and Exchange Commission relating to the Company's Annual Meeting
of Shareholders to be held on May 14, 2003.

                                       39

<PAGE>

Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters.

The Company has two equity based compensation plans, the Argonaut Group, Inc.
Amended and Restated Stock Incentive Plan and the Argonaut Group, Inc.
Non-Employee Director Stock Option Plan. The following table sets forth
information as of December 31, 2002 concerning the Company's equity compensation
plans, each of which was approved by the shareholders:

<TABLE>
<CAPTION>
                                    Number of           Weighted_
                                Securities To Be       Average Per            Number of Securities
                                   Issued Upon        Share Exercise        Remaining Available For
                                   Exercise of           Price of            Future Issuance Under
                                   Outstanding          Outstanding       Equity Compensation Plans
                                Options, Warrants   Options, Warrants        (Excluding Securities
         Plan Category              and Rights          and Rights      Reflected in the First Column)
-----------------------------   -----------------   -----------------   ------------------------------
<S>                                 <C>                  <C>                       <C>
Equity compensation plans
  approved by shareholders          2,043,350            $20.40                    1,882,630

Equity compensation plans not
  approved by shareholders                 --                --                           --
</TABLE>

Incorporated herein by reference is the information appearing under the caption
"Security Ownership of Principal Shareholders and Management" in the Company's
Proxy Statement to be filed with the Securities and Exchange Commission relating
to the Company's Annual Meeting of Shareholders to be held on May 14, 2003.

Item 13. Certain Relationships and Related Transactions

Incorporated herein by reference is the information appearing under the caption
"Compensation Committee Interlocks and Insider Participation" in the Company's
Proxy Statement to be filed with the Securities and Exchange Commission relating
to the Company's Annual Meeting of Shareholders to be held on May 14, 2003.

Item 14. Controls and Procedures

Based on their most recent evaluation, which was completed within 90 days of the
filing of this Form 10-K, the Company's principal executive officer and
principal financial officer believe the Company's disclosure controls and
procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) are effective.
There were not any significant changes in internal controls or in other factors
that could significantly affect these controls subsequent to the date of their
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses.

On March 31, 2003, the audit committee of the board of directors approved the
following non-audit services to be performed by Ernst & Young LLP: tax
preparation and planning, audit of the statutory financial statements of the
insurance subsidiaries and audit of the Company benefit plans.

                                     PART IV

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

(a)  1.   Financial Statements

          Selected Financial Data

                                       40

<PAGE>

          Report of Independent Auditors

          Consolidated Balance Sheets  -  December 31, 2002 and 2001

          Consolidated Statements of Operations
             For the Years Ended December 31, 2002, 2001 and 2000

          Consolidated Statements of Comprehensive Income (Loss)
             For the Years Ended December 31, 2002, 2001 and 2000

          Consolidated Statements of Shareholders' Equity
             For the Years Ended December 31, 2002, 2001 and 2000

          Consolidated Statements of Cash Flow
             For the Years Ended December 31, 2002, 2001 and 2000

          Notes to Consolidated Financial Statements

(a)  2.   Financial Statement Schedules
             Report of Independent Public Accountants on Schedules

          Schedule II - Condensed Financial Information of Registrant
             December 31, 2002 and 2001

          Schedule III - Supplementary Insurance Information
             For the years ended December 31, 2002, 2001 and 2000

          Schedule V - Valuation and Qualifying Accounts for the Year Ended
             December 31, 2002

          Schedule VI - Supplementary Information for Property-Casualty
             Insurance Companies For the years ended December 31, 2002,
             2001 and 2000

All other schedules and notes specified under Regulation S-X are omitted because
they are either not applicable, not required or the information called for
therein appears in response to the items of Form 10-K or in the Consolidated
Financial Statements and the related Notes to Consolidated Financial Statements
of Argonaut Group, Inc. and its subsidiaries listed on the above index.

(a)  3. Exhibits

The following exhibits are numbered in accordance with Item 601 of Regulation
S-K and, except as noted, are filed herewith.

3.1  Composite Copy of Certificate of Incorporation of Registrant (previously
     filed).

3.2  Amended and Restated Bylaws of the Registrant (previously filed).

10.1 Argonaut Group, Inc. 1986 Stock Option Plan (incorporated by reference to
     the Exhibit 10.1 to the Registrant's Form 10 Registration Statement dated
     September 3, 1986, filed with the Securities and Exchange Commission on
     September 4, 1986).

                                       41

<PAGE>

10.2 Argonaut Group, Inc. Retirement Plan (incorporated by reference to the
     Exhibit 10.2 to the Registrant's Form 10 Registration Statement dated
     September 3, 1986, filed with the Securities and Exchange Commission on
     September 4, 1986).

10.3 Tax Agreement by and among Registrant and its subsidiaries and Teledyne,
     Inc. (incorporated by reference to the Exhibit 10.3 to the Registrant's
     Form 10 Registration Statement dated September 3, 1986, filed with the
     Securities and Exchange Commission on September 4, 1986).

10.4 Argonaut Group, Inc. 1986 Stock Option Plan, as amended (incorporated by
     reference to the Exhibit 4.3 to the Registrant's Registration Statement on
     Form S-8 filed with the Securities and Exchange Commission on February 13,
     1987).

10.5 401(k) Retirement Savings Plan (incorporated by reference to the Exhibit
     10.4 to the Registrant's Form 10-K filed with the Securities and Exchange
     Commission on February 28, 1989).

10.6 Employee Stock Investment Plan (incorporated by reference to the Exhibit
     4.3 to the Registrant's Registration Statement on Form S-8 filed with the
     Securities and Exchange Commission on October 10, 1989).

10.7 Argonaut Group, Inc. 1986 Stock Option Plan, as amended (incorporated by
     reference to the Exhibit 4.3 to the Registrant's Registration Statement on
     Form S-8 filed with the Securities and Exchange Commission on December 9,
     1997).

10.8 Argonaut Group, Inc. Stock Option Plan, as amended (incorporated by
     reference to the Exhibit 4.3 to the Registrant's Registration Statement on
     Form S-8 filed with the Securities and Exchange Commission on August 27,
     1999).

10.9  Argonaut Group, Inc. Amended and Restated Stock Incentive Plan
      (incorporated by reference to Appendix A to the Registrant's Definitive
      Proxy on Schedule 14-A filed with the Securities and Exchange Commission
      on April 9, 2002.)

10.10 Employee Stock Investment Plan (incorporated by reference to the Exhibit
      4.3 to the Registrant's Registration Statement on Form S-8 filed with the
      Securities and Exchange Commission on October 22, 1999).

10.11  Stock Purchase Agreement By and Among Queensway Financial Holdings
      Limited, Queensway Holdings, Inc., Hermitage Insurance Company, North
      Pointe Financial Services, Inc., Universal Fire And Casualty Insurance
      Company, Argonaut Specialty Group, Inc., and Argonaut Insurance Company
      (incorporated by reference to the Registrant's Form 10-Q filed with the
      Securities and Exchange Commission on May 14, 2001.) Dated as of April 12,
      2001.

10.12 Agreement and Plan of Merger By and Among Argonaut Insurance Company,
      Argonaut Midwest Insurance Company, Argonaut Acquisition Corp. and Front
      Royal, Inc. (incorporated by reference to the Registrant's Form 10-Q filed
      with the Securities and Exchange Commission on May 14, 2001.) Dated as of
      May 7, 2001.


10.13 Argonaut Group, Inc. Non-Employee Director Stock Option Plan (incorporated
      by reference to Exhibit 99 to the Registrant's registration statement on
      Form S-8 (File No. 333-43228)).

21.   Subsidiaries of Registrant, as amended (incorporated by reference to the
      Exhibit 21 to the Registrant's Form 10-K Annual Report for the year ended
      December 31, 2001 filed with the Securities and Exchange Commission on
      March 28, 2002.)

23.   Consent of Independent Auditors - Ernst & Young LLP (previously filed).

                                       42

<PAGE>

99.1 Certification of Compliance with Section 906 Sarbanes-Oxley Act of 2002

(b)  Reports on Form 8-K.

     A Form 8-K/A Current Report dated November 14, 2002 was filed related to
     the restatement of certain pro forma financial information previously filed
     related to the Company's acquisition of Front Royal, Inc.

     A Form 8-K Current Report dated March 13, 2003 was filed related to the
     Company's announcement of the results of the asbestos and environmental
     reserves study.

                                       43

<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 amendment to be signed on its
behalf by the undersigned, thereunto duly authorized

                                     Argonaut Group, Inc.
                                     (Registrant)


                                     /s/ Mark W. Haushill
                                     -------------------------------------------
                                     Mark W. Haushill
                                     Vice President, Chief Financial Officer and
                                        Treasurer (principal financial and
                                        accounting  officer)

Dated:  July 23, 2003

                                       44

<PAGE>

                            CERTIFICATE OF COMPLIANCE

I, Mark E. Watson III, certify that:

1.   I have reviewed this amended annual report on Form 10-K/A of Argonaut
     Group, Inc.;

2.   Based on my knowledge, this annual report does not contain any untrue
     statement of a material fact or omit to state a material fact necessary to
     make the statements made, in light of the circumstances under which such
     statements were made, not misleading with respect to the period covered by
     this annual report;

3.   Based on my knowledge, the financial statements, and other financial
     information included in this annual report, fairly present in all material
     respects the financial condition, results of operations and cash flows of
     the registrant as of, and for, the periods presented in this annual report;

4.   The registrant's other certifying officers and I are responsible for
     establishing and maintaining disclosure controls and procedures (as defined
     in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

     a)   designed such disclosure controls and procedures to ensure that
          material information relating to the registrant, including its
          consolidated subsidiaries, is made known to us by others within those
          entities, particularly during the period in which this annual report
          is being prepared;

     b)   evaluated the effectiveness of the registrant's disclosure controls
          and procedures as of a date within 90 days prior to the filing date of
          this annual report (the "Evaluation Date"); and

     c)   presented in this annual report our conclusions about the
          effectiveness of the disclosure controls and procedures based on our
          evaluation as of the Evaluation Date;

5.   The registrant's other certifying officers and I have disclosed, based on
     our most recent evaluation, to the registrant's auditors and the audit
     committee of registrant's board of directors (or persons performing the
     equivalent functions):

     a)   all significant deficiencies in the design or operation of internal
          controls which could adversely affect the registrant's ability to
          record, process, summarize and report financial data and have
          identified for the registrant's auditors any material weaknesses in
          internal controls; and

     b)   any fraud, whether or not material, that involves management or other
          employees who have a significant role in the registrant's internal
          controls; and

6.   The registrant's other certifying officers and I have indicated in this
     annual report whether there were significant changes in internal controls
     or in other factors that could significantly affect internal controls
     subsequent to the date of our most recent evaluation, including any
     corrective actions with regard to significant deficiencies and material
     weaknesses.

     CERTIFIED this 23rd day of July, 2003.


                                       /s/ Mark E. Watson III
                                       -----------------------------------------
                                           Mark E. Watson III
                                           President and Chief Executive Officer

                                       45

<PAGE>

                            CERTIFICATE OF COMPLIANCE

I, Mark W. Haushill, certify that:

1.   I have reviewed this amended annual report on Form 10-K/A of Argonaut
     Group, Inc.;

2.   Based on my knowledge, this annual report does not contain any untrue
     statement of a material fact or omit to state a material fact necessary to
     make the statements made, in light of the circumstances under which such
     statements were made, not misleading with respect to the period covered by
     this annual report;

3.   Based on my knowledge, the financial statements, and other financial
     information included in this annual report, fairly present in all material
     respects the financial condition, results of operations and cash flows of
     the registrant as of, and for, the periods presented in this annual report;

4.   The registrant's other certifying officers and I are responsible for
     establishing and maintaining disclosure controls and procedures (as defined
     in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

     a)   designed such disclosure controls and procedures to ensure that
          material information relating to the registrant, including its
          consolidated subsidiaries, is made known to us by others within those
          entities, particularly during the period in which this annual report
          is being prepared;

     b)   evaluated the effectiveness of the registrant's disclosure controls
          and procedures as of a date within 90 days prior to the filing date of
          this annual report (the "Evaluation Date"); and

     c)   presented in this annual report our conclusions about the
          effectiveness of the disclosure controls and procedures based on our
          evaluation as of the Evaluation Date;

5.   The registrant's other certifying officers and I have disclosed, based on
     our most recent evaluation, to the registrant's auditors and the audit
     committee of registrant's board of directors (or persons performing the
     equivalent functions):

     a)   all significant deficiencies in the design or operation of internal
          controls which could adversely affect the registrant's ability to
          record, process, summarize and report financial data and have
          identified for the registrant's auditors any material weaknesses in
          internal controls; and

     b)   any fraud, whether or not material, that involves management or other
          employees who have a significant role in the registrant's internal
          controls; and

6.   The registrant's other certifying officers and I have indicated in this
     annual report whether there were significant changes in internal controls
     or in other factors that could significantly affect internal controls
     subsequent to the date of our most recent evaluation, including any
     corrective actions with regard to significant deficiencies and material
     weaknesses.

     CERTIFIED this 23rd day of July, 2003


                                       /s/ Mark W. Haushill
                                       -----------------------------------------
                                           Mark W. Haushill
                                           Vice President
                                           Chief Financial Officer and Treasurer

                                       46

<PAGE>

              REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULES

To the Shareholders of Argonaut Group, Inc.

We have audited in accordance with auditing standards generally accepted in the
United States, the consolidated financial statements included in Argonaut Group,
Inc.'s annual report to shareholders incorporated by reference in this Form
10-K, and have issued our report thereon dated January 29, 2002. Our audit was
made for the purpose of forming an opinion on the basic consolidated financial
statements taken as a whole. The schedules listed in Part IV, Item 14(a)(2) are
the responsibility of the Company's management and are presented for purposes of
complying with the Securities and Exchange Commission's rules and are not part
of the basic consolidated financial statements. These schedules have been
subjected to the auditing procedures applied in our audit of the basic
consolidated financial statements and, in our opinion, based on our audit and
the report of other auditors, fairly state in all material respects then
financial data required to be set forth therein in relation to the basic
consolidated financial statements taken as a whole.


                                                        /s/  ARTHUR ANDERSEN LLP
                                                        ------------------------

San Francisco, California
January 29, 2002

THIS INDEPENDENT PUBLIC ACCOUNTANTS' REPORT IS A COPY OF A PREVIOUSLY ISSUED
REPORT OF ARTHUR ANDERSEN LLP. ARTHUR ANDERSEN LLP HAS NOT REISSUED THIS REPORT;
NOR HAS ARTHUR ANDERSEN LLP CONSENTED TO ITS INCLUSION IN THIS ANNUAL REPORT ON
FORM 10-K (AFTER REASONABLE EFFORTS TO OBTAIN SUCH CONSENT). WHILE THE EXTENT OF
ANY RESULTING LIMITATIONS ON RECOVERY BY INVESTORS IS UNCLEAR, THE LACK OF A
CURRENTLY DATED CONSENT TO THE INCLUSION OF SUCH REPORT IN THIS ANNUAL REPORT ON
FORM 10-K AND TO THE INCORPORATION OF SUCH REPORT INTO ANY OTHER FILING COULD
LIMIT THE TIME WITHIN WHICH ANY ACTIONS MUST BE BROUGHT BY INVESTORS AGAINST
ARTHUR ANDERSEN LLP FOR LIABILITIES ARISING UNDER SECTION 11 OF THE SECURITIES
ACT OF 1933.

                                       47

<PAGE>

                              ARGONAUT GROUP, INC.
                                   SCHEDULE II
                  CONDENSED FINANCIAL INFORMATION OF REGISTRANT
                                 ($ in millions)

BALANCE SHEETS

                                                                 December 31,
                                                               ---------------
                                                                2002     2001
                                                               ------   ------
Assets
   Short-term investments                                      $   --   $  4.4
   Cash & cash equivalents                                        1.9      0.1
   Investment in subsidiaries                                   344.7    453.8
   Cost in excess of net assets purchased                        27.4     27.4
   Deferred federal income taxes                                (17.4)    (6.7)
   Other assets                                                   8.1      8.8
                                                               ------   ------
      Total Assets                                             $364.7   $487.8
                                                               ======   ======

Liabilities & Shareholders' Equity
   Income taxes payable                                        $  6.6   $  3.1
   Other liabilities                                              1.8      2.3
   Due to subsidiaries                                           28.6     34.9
                                                               ------   ------
      Total Liabilities                                          37.0     40.3
   Shareholders Equity                                          327.7    447.5
                                                               ------   ------
      Total Liabilities and Shareholders' Equity               $364.7   $487.8
                                                               ======   ======

STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
                                                          For The Year Ended December 31,
                                                          -------------------------------
                                                               2002     2001    2000
                                                              ------   -----   ------
<S>                                                           <C>      <C>     <C>
Revenues                                                      $  0.5   $(0.5)     3.8
                                                              ------   -----   ------
Expenses:
   Amortization of cost in excess of net assets                   --     2.8      2.8
   Other expenses                                                9.8     4.1      9.5
                                                              ------   -----   ------
   Total operating expenses                                      9.8     6.9     12.3
                                                              ------   -----   ------

Loss before tax and undistributed earnings                      (9.3)   (7.4)    (8.5)
Provision (benefit) for income taxes                             3.1    (1.2)    (4.5)
                                                              ------   -----   ------
Net loss before equity in earnings of subsidiaries             (12.4)   (6.2)    (4.0)
Equity in undistributed earnings (loss) of subsidiaries        (74.6)    9.1    (79.3)
                                                              ------   -----   ------
Net Income (loss)                                             $(87.0)  $ 2.9   $(83.3)
                                                              ======   =====   ======
</TABLE>

                                       48

<PAGE>

                              ARGONAUT GROUP, INC.
                                   SCHEDULE II
                  CONDENSED FINANCIAL INFORMATION OF REGISTRANT
                                 ($ in millions)

STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                          For The Years Ended
                                                              December 31,
                                                        ------------------------
                                                         2002     2001     2000
                                                        ------   ------   ------
<S>                                                     <C>      <C>      <C>
Cash flows from operating activities:
   Net income (loss)                                    $(87.0)  $  2.9   $(83.3)
   Adjustments to reconcile net income (loss) to
      net cash provided by operations:
      Amortization                                         0.6      2.8      2.8
      Undistributed loss (earnings) in subsidiaries       74.6     (9.1)    79.3
      Dividend from subsidiary                            11.5     34.1     50.6
      Decrease in deferred federal income taxes
         receivable                                       10.6      3.2      6.9
      Increase (decrease) in due from/to subsidiaries     (6.3)     2.1     (3.2)
      Increase (decrease) in income taxes payable          3.5     (0.5)     2.8
      Other, net                                           3.6      0.9     (8.3)
                                                        ------   ------   ------
   Net cash provided by operations                        11.1     36.4     47.6
                                                        ------   ------   ------

Cash flows from investing activities:
      Increase acquisition of fixed assets                (1.0)      --       --
      Decrease (increase) in short-term investments        4.4     (3.4)    (0.9)
                                                        ------   ------   ------
   Net cash provided (used) by investing activities        3.4     (3.4)    (0.9)
                                                        ------   ------   ------

Cash flows from financing activities:
      Repurchase of common stock                            --     (3.2)   (10.6)
      Payment of cash dividend                           (13.1)   (29.8)   (36.2)
      Exercise of stock options                            0.4       --       --
                                                        ------   ------   ------
   Net cash used by financing activities                 (12.7)   (33.0)   (46.8)
                                                        ------   ------   ------

Increase (decrease) in cash & cash equivalents             1.8      0.0     (0.1)
Cash & cash equivalents, beginning of period               0.1      0.1      0.2
                                                        ------   ------   ------
Cash & cash equivalents, end of period                  $  1.9   $  0.1   $  0.1
                                                        ======   ======   ======
</TABLE>

                                       49

<PAGE>

                               ARGONAUT GROUP, INC.
                                  SCHEDULE III
                       SUPPLEMENTARY INSURANCE INFORMATION
                  Years Ended December 31, 2002, 2001 and 2000
                                 ($ in millions)

<TABLE>
<CAPTION>
                                                                                            Amortization
                                         Future           Premium  Net Invest.  Ben, Loss,   (Deferral)    Other      Premiums
                                  DAC   Benefits   UPR    Revenue    Income      & LAE          DPAC      Insur. Exp   Written
       Segment                    (a)      (b)     (c)      (d)      (e)(1)       (f)           (g)        (h)(2)       (i)
-------------------------------  -----  --------  ------  -------  -----------  ----------  ------------  ----------  --------
<S>                              <C>    <C>       <C>      <C>        <C>         <C>         <C>          <C>        <C>
Year Ended December 31, 2002

Excess & Surplus Lines           $30.8  $  180.1  $134.7   $152.3     $10.4       $ 96.6      $(15.1)       $ 62.7     $219.3
Specialty Commercial              10.9     172.2    61.3    105.4      10.2         74.8        (2.6)         32.9      111.0
Specialty Workers' Compensation   13.0     630.0    88.9    109.2      31.4         94.5       (13.0)         65.1      134.2
Public Entity                       --       6.7      --     11.5       0.6          8.1        (1.7)          5.4       19.5
Run-off Lines                       --     292.6      --       --        --         60.6          --           7.2         --
Corporate & Other                   --        --      --       --       0.3           --          --           3.5         --
                                 -----  --------  ------   ------     -----       ------      ------        ------     ------
                                 $54.7  $1,281.6  $284.9   $378.4     $52.9       $334.6      $(32.4)       $176.8     $484.0
                                 =====  ========  ======   ======     =====       ======      ======        ======     ======

Year Ended December 31, 2001

Excess & Surplus Lines           $15.7  $  138.7  $ 64.1   $ 36.8     $ 3.3       $ 22.3      $   --        $ 12.3     $ 39.8
Specialty Commercial               6.6     156.9    43.3     54.5       6.7         40.3        (1.2)         17.1       55.3
Specialty Workers' Compensation     --     622.2    56.3    126.5      42.5        129.2          --          54.4      118.0
Public Entity                       --       5.6      --      4.1       0.2          3.0        (0.8)          2.0        6.5
Run-off Lines                       --     224.4      --       --        --         (5.1)         --           5.1         --
Corporate & Other                   --        --      --       --       0.9           --          --          10.8         --
                                 -----  --------  ------   ------     -----       ------      ------        ------     ------
                                 $22.3  $1,147.8  $163.7   $221.9     $53.6       $189.7      $ (2.0)       $101.6     $219.6
                                 =====  ========  ======   ======     =====       ======      ======        ======     ======

Year Ended December 31, 2000

Excess & Surplus Lines           $  --  $     --  $   --   $   --     $  --       $   --      $   --        $   --     $   --
Specialty Commercial               0.2      51.1    19.4     29.8       5.6         28.2         1.7          12.1       32.7
Specialty Workers' Compensation     --     622.9    50.3     94.6      56.0        207.3         1.4          70.4      130.4
Public Entity                       --        --      --      0.2        --          0.2          --           0.3        0.8
Run-off Lines                       --     256.7      --       --        --         11.9          --            --         --
Corporate & Other                   --        --      --       --       0.4           --          --           5.6         --
                                 -----  --------  ------   ------     -----       ------      ------        ------     ------
                                 $ 0.2  $  930.7  $ 69.7   $124.6     $62.0       $247.6      $  3.1        $ 88.4     $163.9
                                 =====  ========  ======   ======     =====       ======      ======        ======     ======
</TABLE>

(a)  Deferred Acquisition Costs
(b)  Future Policy Benefits, Claims and Claim Adjustment Expenses
(c)  Unearned Premiums
(d)  Premium Revenue, net (premiums earned)
(e)  Net Investment Income
(f)  Benefits, Claims and Claim Adjustment Expenses
(g)  Amortization of Deferred Policy Acquisition Costs
(h)  Other Insurance Expenses
(i)  Premiums Written, net
(1)  Net investment income allocated based upon each segment's share of
     investable funds
(2)  Other insurance expenses allocated based on specific identification, where
     possible, and related activities.

                                       50

<PAGE>

                              ARGONAUT GROUP, INC.
                                   SCHEDULE V
                        VALUATION AND QUALIFYING ACCOUNTS
                                  (In millions)

<TABLE>
<CAPTION>
                                                   Balance at   Charged to   Charged to
                                                    Beginning    Cost and       Other                   Balance at
                                                    of Period    Expense      Accounts    Deductions   End of Period
                                                   ----------   ----------   ----------   ----------   -------------
<S>                                                    <C>        <C>           <C>          <C>           <C>
Year ended December 31, 2002
   Deducted form assets:
      Valuation allowance for deferred tax asset       $--        $71.9         $--          $--           $71.9
                                                       ===        =====         ===          ===           =====
</TABLE>

                                       51

<PAGE>

                              ARGONAUT GROUP, INC.
                                   SCHEDULE VI
                       SUPPLEMENTARY INSURANCE INFORMATION
                                 ($ in millions)

<TABLE>
<CAPTION>
                                                                 Years Ended December 31,
                                                               ----------------------------
                                                                 2002       2001      2000
                                                               --------   --------   ------
<S>                                                            <C>        <C>        <C>
Deferred acquisition costs                                     $   54.7   $   22.3   $  0.2
                                                               ========   ========   ======
Reserves for losses and loss adjustment expenses               $1,281.6   $1,147.8   $930.7
                                                               ========   ========   ======
Unamortized discount in reserves for losses                    $   45.4   $   45.9   $ 42.8
                                                               ========   ========   ======
Unearned premium                                               $  284.9   $  163.7   $ 69.7
                                                               ========   ========   ======
Premiums earned                                                $  378.4   $  221.9   $124.6
                                                               ========   ========   ======
Net investment income                                          $   52.9   $   53.6   $ 62.0
                                                               ========   ========   ======
Losses and loss adjustment expenses incurred:
     Current Year                                              $  272.6   $  172.5   $122.6
     Prior Years                                               $   62.0   $   17.2   $125.0
                                                               ========   ========   ======
Amortization (deferral) of policy acquisition costs            $  (32.4)  $   (2.0)  $  3.1
                                                               ========   ========   ======
Paid losses and loss adjustment expenses, net of reinsurance   $  261.0   $  214.9   $196.5
                                                               ========   ========   ======
Gross premiums written                                         $  622.1   $  272.1   $186.1
                                                               ========   ========   ======
</TABLE>

                                       52

<PAGE>

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<S>                                                                          <C>
Report of Independent Auditors -- Ernst & Young LLP.......................    F-2
Report of Independent Public Accountants -- Arthur Andersen LLP...........    F-3
Report of Independent Auditors -- Ernst & Young LLP for Front Royal, Inc..    F-4
Consolidated Financial Statements:
   Consolidated Balance Sheets............................................    F-5
   Consolidated Statements of Operations..................................    F-6
   Consolidated Statements of Comprehensive Income (Loss).................    F-7
   Consolidated Statements of Shareholders' Equity........................    F-8
   Consolidated Statements of Cash Flow...................................    F-9
   Notes to Consolidated Financial Statements.............................   F-10
</TABLE>

                                       F-1

<PAGE>

                         REPORT OF INDEPENDENT AUDITORS

Board of Directors and Shareholders
Argonaut Group, Inc.

We have audited the accompanying consolidated balance sheet of Argonaut Group,
Inc. (the "Company") as of December 31, 2002, and the related consolidated
statements of operations, comprehensive income (loss), shareholders' equity, and
cash flows for the year then ended. Our audit also included the financial
statement schedules as of December 31, 2002 and for the year then ended listed
in the Index at Item 15(a)(2). These consolidated financial statements and
schedules are the responsibility of the Company's management. Our responsibility
is to express an opinion on these consolidated financial statements and
schedules based on our audit. The consolidated financial statements and
schedules of Argonaut Group, Inc. as of December 31, 2001 and for each of the
two years then ended were audited by other auditors who have ceased operations
and whose report dated January 29, 2002, expressed an unqualified opinion,
including reference to other auditors who audited the consolidated financial
statements of Front Royal, Inc. which are included in the consolidated financial
statements of the Company, on those statements before the reclassification
adjustments, conforming disclosures and transitional disclosures described in
Note 1.

We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides 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
Argonaut Group, Inc. at December 31, 2002, and the consolidated results of its
operations and its cash flows for the year then ended, in conformity with
accounting principles generally accepted in the United States. 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 discussed in Note 1 to the consolidated financial statements, in 2002 the
Company changed its method of accounting for goodwill and other intangible
assets.

As discussed above, the consolidated financial statements of the Company as of
December 31, 2001 and for each of the two years then ended were audited by other
auditors who have ceased operations. As described in Note 1, these financial
statements have been revised. We audited the reclassification adjustments,
conforming disclosures and transitional disclosures described in Note 1 that
were applied to revise the 2001 and 2000 consolidated financial statements. In
our opinion, such reclassification adjustments, conforming disclosures and
transitional disclosures are appropriate and have been properly applied.
However, we were not engaged to audit, review or apply any procedures to the
2001 or 2000 consolidated financial statements of the Company other than with
respect to such reclassification adjustments, conforming disclosures and
transitional disclosures and, accordingly, we do not express an opinion or any
other form of assurance on the 2001 and 2000 consolidated financial statements
taken as a whole.


                                                 /s/ ERNST & YOUNG LLP
                                                 -------------------------------

San Antonio, Texas
April 1, 2003

                                       F-2

<PAGE>

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To the Shareholders of Argonaut Group, Inc.:

We have audited the accompanying consolidated balance sheets of Argonaut Group,
Inc. (a Delaware Corporation) and subsidiaries as of December 31, 2001 and 2000,
and the related consolidated statements of operations, comprehensive income,
shareholders' equity, and cash flow for each of the three years in the period
ended December 31, 2001. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits. We did not audit the consolidated
financial statements of Front Royal, Inc., which statements reflect total assets
and total revenues of 26.9 percent and 22.5 percent in 2001, respectively, of
the related consolidated totals. Those statements were audited by other auditors
whose report has been furnished to us, and our opinion, insofar as it relates to
the amounts included for those entities, is based solely on the report of the
other auditors.

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

In our opinion, based on our audits and the report of other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Argonaut Group, Inc. and
subsidiaries as of December 31, 2001 and 2000, and the results of their
operations, comprehensive income and cash flow for each of the three years in
the period ended December 31, 2001, in conformity with generally accepted
accounting principles.

ARTHUR ANDERSEN LLP

San Francisco, California
January 29, 2002

THIS INDEPENDENT PUBLIC ACCOUNTANTS' REPORT IS A COPY OF A PREVIOUSLY ISSUED
REPORT OF ARTHUR ANDERSEN LLP. ARTHUR ANDERSEN LLP HAS NOT REISSUED THIS REPORT;
NOR HAS ARTHUR ANDERSEN LLP CONSENTED TO ITS INCLUSION IN THIS ANNUAL REPORT ON
FORM 10-K (AFTER REASONABLE EFFORTS TO OBTAIN SUCH CONSENT). WHILE THE EXTENT OF
ANY RESULTING LIMITATIONS ON RECOVERY BY INVESTORS IS UNCLEAR, THE LACK OF A
CURRENTLY DATED CONSENT TO THE INCLUSION OF SUCH REPORT IN THIS ANNUAL REPORT ON
FORM 10-K AND TO THE INCORPORATION OF SUCH REPORT INTO ANY OTHER FILING COULD
LIMIT THE TIME WITHIN WHICH ANY ACTIONS MUST BE BROUGHT BY INVESTORS AGAINST
ARTHUR ANDERSEN LLP FOR LIABILITIES ARISING UNDER SECTION 11 OF THE SECURITIES
ACT OF 1933.

THE ARTHUR ANDERSEN LLP REPORT REFERS TO THE CONSOLIDATED BALANCE SHEET AS OF
DECEMBER 31, 2000 AND THE RELATED CONSOLIDATED STATEMENTS OF OPERATIONS,
COMPREHENSIVE INCOME, SHAREHOLDERS' EQUITY AND CASH FLOW FOR THE YEAR ENDED
DECEMBER 31, 1999, WHICH ARE NO LONGER INCLUDED IN THE ACCOMPANYING FINANCIAL
STATEMENTS.

                                       F-3

<PAGE>

                         Report of Independent Auditors

Board of Directors and Shareholder
Front Royal, Inc.

We have audited the accompanying consolidated balance sheet of Front Royal, Inc
as of December 31, 2001, and the related consolidated statements of income,
changes in shareholder's equity and cash flows for the four months ended
December 31, 2001. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.

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

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Front Royal, Inc.
at December 31, 2001, and the consolidated results of its operations and its
cash flows for the four months ended December 31, 2001, in conformity with
accounting principles generally accepted in the United States.


                                                 /s/ ERNST & YOUNG LLP
                                                 -------------------------------

Richmond, Virginia
January 29, 2002

                                       F-4

<PAGE>

                              ARGONAUT GROUP, INC.
                           CONSOLIDATED BALANCE SHEETS
                     (in millions, except per share amounts)

<TABLE>
<CAPTION>
                                                                    December 31,
                                                                -------------------
                                                                  2002       2001
                                                                --------   --------
<S>                                                             <C>        <C>
               Assets
   Investments:
      Fixed maturities, available for sale, at fair value       $  894.1   $  779.4
         (cost: 2002 - $850.7; 2001 - $767.1)
      Equity securities, available for sale, at fair value         237.1      326.3
         (cost: 2002 - $149.2; 2001 - $175.6)
      Other long term, at fair value                                10.0        4.8
         (cost: 2002 - $10.8; 2001 - $5.2)
      Short-term investments, at fair value                         40.1       42.7
         (cost: 2002 - $40.1; 2001 - $42.7)
                                                                --------   --------
   Total investments                                             1,181.3    1,153.2
                                                                --------   --------

   Cash and cash equivalents                                        77.4       14.0
   Accrued investment income                                        13.0       12.5
   Receivables:
      Due from insureds                                            221.6      187.9
      Due from reinsurance                                         470.1      256.5
   Goodwill                                                        105.7      102.4
   Deferred federal income tax asset, net                           20.0       78.1
   Deferred acquisition costs                                       54.7       22.3
   Other assets                                                     65.1       36.3
                                                                --------   --------
            Total assets                                        $2,208.9   $1,863.2
                                                                ========   ========

         Liabilities and Shareholders' Equity

   Reserves for losses and loss adjustment expenses             $1,281.6   $1,147.8
   Unearned premiums                                               284.9      163.7
   Funds held                                                      163.6       33.7
   Accrued underwriting expenses                                    49.8       31.3
   Ceded reinsurance payable, net                                   34.0        6.2
   Deferred gain, retroactive reinsurance                           40.0         --
   Income taxes payable, net                                         1.5        5.0
   Other liabilities                                                25.8       28.0
                                                                --------   --------
            Total liabilities                                    1,881.2    1,415.7
                                                                --------   --------

Shareholders' equity:
   Common stock - $0.10 par, 35,000,000 shares authorized
      21,602,082 and 21,557,238 shares issued and outstanding
      at December 31, 2002 and 2001, respectively                    2.2        2.2
   Additional paid-in capital                                       96.4       93.6
   Retained earnings                                               145.9      246.0
   Deferred stock compensation                                      (1.7)        --
   Accumulated other comprehensive income                           84.9      105.7
                                                                --------   --------
Total shareholders' equity                                         327.7      447.5
                                                                --------   --------
         Total liabilities and shareholders' equity             $2,208.9   $1,863.2
                                                                ========   ========
</TABLE>

See accompanying notes.

                                       F-5

<PAGE>

                              ARGONAUT GROUP, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                     (in millions, except per share amounts)

<TABLE>
<CAPTION>
                                                     For the years ended December 31,
                                                     --------------------------------
                                                         2002     2001      2000
                                                        ------   ------    -------
<S>                                                     <C>      <C>       <C>
Premiums and other revenue:
   Earned premiums                                      $378.4   $221.9    $ 124.6
   Net investment income                                  52.9     53.6       62.0
   Realized investment gains, net                         26.6     17.1       23.3
                                                        ------   ------    -------
Total revenue                                            457.9    292.6      209.9
                                                        ------   ------    -------

Expenses:
   Losses and loss adjustment expenses                   334.6    189.7      247.6
   Underwriting, acquisition and insurance expense       144.4     99.6       91.5
                                                        ------   ------    -------
Total expenses                                           479.0    289.3      339.1
                                                        ------   ------    -------

Income (loss) before income taxes                        (21.1)     3.3     (129.2)
Provision (benefit) for income taxes                      65.9      0.4      (45.9)
                                                        ------   ------    -------
Net income  (loss)                                      $(87.0)  $  2.9    $ (83.3)
                                                        ======   ======    =======

Net income (loss) per common share:
      Basic                                             $(4.04)  $ 0.13    $ (3.77)
                                                        ======   ======    =======
      Diluted                                           $(4.04)  $ 0.13    $ (3.77)
                                                        ======   ======    =======
</TABLE>

See accompanying notes.

                                       F-6

<PAGE>

                              ARGONAUT GROUP, INC.
             CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
                                  (in millions)

<TABLE>
<CAPTION>
                                                       For the years ended December 31,
                                                       --------------------------------
                                                            2002      2001     2000
                                                           -------   ------   ------
<S>                                                        <C>       <C>      <C>
Net income (loss)                                          $ (87.0)  $  2.9   $(83.3)
                                                           -------   ------   ------
Other comprehensive income (loss):
   Unrealized gains (losses) on securities:
      Gains (losses) arising during the period                (5.4)   (19.0)    27.6
      Reclassification adjustment for gains included
         in net income or loss                               (26.6)   (17.1)   (23.3)
                                                           -------   ------   ------
Other comprehensive income (loss) before tax                 (32.0)   (36.1)     4.3
Income tax expense (benefit) related to other
   comprehensive income (loss)                               (11.2)   (12.6)     1.5
                                                           -------   ------   ------
Other comprehensive income (loss), net of tax                (20.8)   (23.5)     2.8
                                                           -------   ------   ------
Comprehensive loss                                         $(107.8)  $(20.6)  $(80.5)
                                                           =======   ======   ======
</TABLE>

See accompanying notes

                                       F-7

<PAGE>

                              ARGONAUT GROUP, INC.
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                     (in millions except per share amounts)

<TABLE>
<CAPTION>
                                                                                    Accumulated
                                            Additional                Deferred         Other
                                   Common    Paid-In     Retained       Stock      Comprehensive   Shareholders'
                                   Stock     Capital     Earnings   Compensation       Income          Equity
                                   ------   ----------   --------   ------------   -------------   -------------
<S>                                 <C>       <C>         <C>          <C>            <C>             <C>
Balance, January 1, 2000            $2.2      $96.8       $403.0       $  --          $126.4          $628.4
   Net loss                           --         --        (83.3)         --              --           (83.3)
   Change in net unrealized
      appreciation on securities      --         --           --          --             2.8             2.8
   Retirement of common stock         --       (2.4)        (8.2)         --              --           (10.6)
   Cash dividend ($1.64/share)        --         --        (36.2)         --              --           (36.2)
                                    ----      -----       ------       -----          ------          ------
Balance, December 31, 2000           2.2       94.4        275.3          --           129.2           501.1
   Net income                                                2.9                                         2.9
   Change in net unrealized
      appreciation on securities      --         --           --          --           (23.5)          (23.5)
   Retirement of common stock         --       (0.8)        (2.4)         --              --            (3.2)
   Cash dividend ($1.38/share)        --         --        (29.8)         --              --           (29.8)
                                    ----      -----       ------       -----          ------          ------
Balance, December 31, 2001           2.2       93.6        246.0          --           105.7           447.5
   Net loss                           --         --        (87.0)         --              --           (87.0)
   Change in net unrealized
      appreciation on securities      --         --           --          --           (20.8)          (20.8)
   Exercise of stock options          --        0.4           --          --              --             0.4
   Non vested stock, net of
      amortization                    --        2.4           --        (1.7)             --             0.7
   Cash dividend ($0.60/share)        --         --        (13.1)         --              --           (13.1)
                                    ----      -----       ------       -----          ------          ------
Balance, December 31, 2002          $2.2      $96.4       $145.9       $(1.7)         $ 84.9          $327.7
                                    ====      =====       ======       =====          ======          ======
</TABLE>

See accompanying notes

                                       F-8

<PAGE>

                              ARGONAUT GROUP, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOW
                                  (in millions)

<TABLE>
<CAPTION>
                                                                  For the years ended December 31,
                                                                  --------------------------------
                                                                      2002      2001      2000
                                                                     -------   -------   ------
<S>                                                                  <C>       <C>       <C>
Cash flows from operating activities:
   Net income (loss)                                                 $ (87.0)  $   2.9   $(83.3)
   Adjustments to reconcile net income (loss) to
      net cash provided (used) by operations:
         Amortization and depreciation                                   7.4       7.3      5.4
         Deferred federal income tax expense (benefit)                  69.4      (0.7)   (46.9)
         Gains on sales of investments                                 (26.6)    (17.1)   (23.3)
   Change in:
      Accrued investment income                                         (0.5)      6.7      0.3
      Receivables                                                     (247.3)    (19.0)   (16.5)
      Unearned premiums on ceded reinsurance                           (12.8)     (8.4)    (2.7)
      Reserves for losses and loss adjustment expenses                 133.8     (16.9)    33.3
      Unearned premiums                                                121.2      15.3     25.8
      Deferred policy acquisition costs                                (32.4)    (22.1)     3.1
      Accrued underwriting expenses and funds held                     148.4       1.0      0.4
      Deferred gain, retroactive reinsurance                            40.0        --       --
      Other assets and liabilities, net                                  3.2      13.6     10.3
                                                                     -------   -------   ------
Cash provided (used) by operating activities                           116.8     (37.4)   (94.1)
                                                                     -------   -------   ------

Cash flows from investing activities:
   Sales of fixed maturity investments                                  65.7     280.0     64.9
   Maturities and mandatory calls of fixed maturity investments        176.1     295.3     16.1
   Sales of equity securities                                           69.6      78.5     87.5
   Purchases of fixed maturity investments                            (330.8)   (347.7)   (18.2)
   Purchases of equity securities                                      (15.2)    (33.9)   (28.4)
   Change in short-term investments                                      2.7      (2.9)    (7.5)
   Acquisition, net of cash received                                    (3.3)   (162.9)      --
   Other, net                                                           (5.5)     (2.9)     2.5
                                                                     -------   -------   ------
Cash (used) provided by investing activities                           (40.7)    103.5    116.9
                                                                     -------   -------   ------

Cash flows from financing activities:
   Retirement of common stock                                             --      (3.2)   (10.6)
   Stock options exercised                                               0.4        --       --
   Payment of cash dividend                                            (13.1)    (29.8)   (36.2)
   Repayment of debt                                                      --     (26.3)      --
                                                                     -------   -------   ------
Cash used by financing activities:                                     (12.7)    (59.3)   (46.8)
                                                                     -------   -------   ------

Change in cash and cash equivalents                                     63.4       6.8    (24.0)
Cash and cash equivalents, beginning of period                          14.0       7.2     31.2
                                                                     -------   -------   ------
Cash and cash equivalents, end of period                             $  77.4   $  14.0   $  7.2
                                                                     =======   =======   ======

Additional disclosure:
   Income taxes paid                                                 $   0.9   $   0.9   $ (5.8)
                                                                     =======   =======   ======
</TABLE>

See accompanying notes

                                       F-9

<PAGE>

                              ARGONAUT GROUP, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Business and Significant Accounting Policies

Business. Argonaut Group, Inc. (the Company) is a national provider of specialty
insurance products focused on high-quality customer service for specific niches
of property-casualty insurance. Argonaut Insurance Company provides specialty
workers' compensation coverage and is headquartered in Menlo Park, California.
Specialty commercial coverage is written by Argonaut Great Central Insurance
Company, headquartered in Peoria, Illinois, and Rockwood Casualty Insurance
Company, headquartered in Rockwood, Pennsylvania. Colony Insurance Group,
located in Richmond, Virginia, writes excess and surplus lines coverage. Public
entity coverages are provided by Trident Insurance Services, a wholly-owned
subsidiary of the Company.

Basis of Presentation. The consolidated financial statements of the Company and
its subsidiaries have been prepared in accordance with accounting principles
generally accepted in the United States (GAAP), which differ from statutory
insurance accounting practices. The preparation of financial statements in
conformity with GAAP requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.

The financial statements include the accounts and operations of the Company and
its subsidiaries. All material intercompany accounts and transactions have been
eliminated.

In the accompanying consolidated balance sheet as of December 31, 2001, the
Company reclassified the amount of ceded reinsurance payable, net into a
separate line item and reclassified the amounts of accrued underwriting expenses
and funds held into separate line items. Additionally, in the accompanying
consolidated statements of cash flows for the years ended December 31, 2001 and
2000, the Company reclassified the amount of the change in deferred policy
acquisition costs into a separate line item. Further, the Company included
disclosures related to gross unrealized gains and gross unrealized losses on
equity securities and other long-term investments at December 31, 2001, and
gross realized gains and gross realized losses on equity securities for the
years ended December 31, 2001 and 2000 in two tables in Note 4. The Company also
included disclosures related to its reserves for asbestos exposure for the years
ended December 31, 2001 and 2000 in a table in Note 17. In addition, the Company
included the required transitional disclosures related to its adoption of SFAS
No. 142 "Goodwill and Other Intangible Assets" in a table in Note 1 and also
included disclosures related to allocated goodwill by segment as of December 31,
2001 in Note 14. Certain other prior year balances have been reclassified to
reflect current year classifications; however, these reclassifications were not
material. These reclassification adjustments, conforming disclosures and
transitional disclosures had no impact on previously reported earnings or
shareholders' equity.

Cash and cash equivalents. Cash and cash equivalents include cash on hand and
securities with an original maturity of less than ninety days.

Investments. Investments in fixed maturities at December 31, 2002 and 2001
include bonds, notes and redeemable preferred stocks. Equity securities include
common and nonredeemable preferred stocks. Short-term investments consist of
funds which are in excess of the Company's near-term operating and claims-paying
needs and are invested in certificates of deposit, commercial paper, and money
market funds.

The amortized cost of fixed maturity securities is adjusted for amortization of
premiums and accretion of discounts. This amortization or accretion is included
in net investment income.

For the mortgage-backed bond portion of the fixed maturity securities portfolio,
the Company recognizes income using a constant effective yield based on
anticipated prepayments and estimated economic life of the securities. When
actual prepayments differ significantly from anticipated prepayments, the
estimated economic life is recalculated and the remaining unamortized premium or
discount is amortized prospectively over the remaining economic life.

All investments are considered available for sale and are carried at fair value.
The Company measures the fair value of the investments based upon quoted market
prices. The cost of securities sold is based on the specific identification
method.

                                      F-10

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

The Company evaluates its investment portfolio for impairments to individual
securities which are deemed to be other than temporary. The Company evaluates
each individual security based on a variety of factors, such as trends in the
market price, degree to which market price is below cost, length of time
security has been trading below cost, changes in dividend and interest payment
pattern and ability of the Company to hold the security to allow for recovery.
For those securities where the Company's acquisition cost are less than fair
market value, the Company discusses such securities with its investment advisor.
During the year ended December 31, 2002, realized investment gains for the
equity and bond portfolios were reduced $4.0 million and $0.9 million,
respectively, due to the recognition of other than temporary impairment on
certain securities. During the years ended December 31, 2001 and 2000, no
securities were identified as having an other than temporary impairment.

Receivables. Receivables due from insureds are presented net of a reserve for
doubtful accounts of $4.9 million and $5.0 million at December 31, 2002 and
2001, respectively, and include $48.6 million currently in litigation (see note
15).

Receivables due from reinsurance represent amounts of paid losses and loss
adjustment expenses, case reserves and incurred but not reported amounts ceded
to reinsurers under reinsurance treaties. These amounts are presented in the
balance sheets net of a net of a reserve for doubtful accounts of $15.9 million
and $8.7 million at December 31, 2002 and 2001, respectively. During 2002 the
Company increased its allowance for doubtful accounts by $7.2 million for
amounts due from reinsurers related to run-off lines of business.

The carrying value of receivables due from insurers and receivables due from
reinsurers approximate fair value.

Accrued retrospective premiums, included in receivables due from insureds, are
based upon actuarial estimates of expected ultimate losses. Accrued
retrospective premiums receivable were $28.1 million and $24.8 million at
December 31, 2002 and 2001, respectively. Management believes that the estimate
for accrued retrospective premium receivable is appropriate based upon
contractual terms and is recoverable. While the eventual receivable may differ
from the current estimate, management does not believe that this difference will
have a material effect, either adversely or favorably, on the Company's
financial position and results of operations.

Goodwill. Effective July 1, 2001, the Company adopted the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations" and SFAS No. 142, "Goodwill and Other Intangible Assets,"
applicable to business combinations completed after June 30, 2001. In accordance
with these standards, goodwill related to acquisitions consummated after June
30, 2001 is not amortized. During the year ended December 31, 2001, the Company
recorded goodwill of $75.0 million related to the acquisition of Front Royal.
During 2002, the Company paid an additional $3.3 million to the former
shareholders of record as final settlement for the buy out of Front Royal Inc.
which increased goodwill accordingly (see note 19).

Goodwill of $27.1 million at December 31, 2002 and 2000, relates to Teledyne,
Inc.'s acquisition of Argonaut Insurance Company in 1969, and is net of
accumulated amortization of $42.5 million. Goodwill had been amortized on a
straight-line basis over a 25-year period beginning October 1, 1986. Effective
January 1, 2002, in accordance with SFAS No. 142, the Company no longer
amortized goodwill into expense, resulting in a reduction of total expenses of
$2.8 million per year.

The Company fully adopted the provisions of SFAS No. 142 effective January 1,
2002. As required by SFAS No. 142, the Company assigned goodwill assigned to its
reporting units. As required by SFAS No. 142, the Company completed the
transitional goodwill impairment test required by SFAS No. 142 in the second
quarter of 2002 and determined that there was no indication of goodwill
impairment. Additionally, the Company tested goodwill for impairment as of
September 30, 2002 and determined that no impairment of goodwill was indicated.
Annually, the Company will perform an impairment of goodwill test. If impairment
indicators exist between the annual testing periods, management will perform an
impairment of goodwill test to determine if the fair value of the reporting unit
is below the carrying value and therefore, require a write-down of goodwill for
that reporting segment.

Had SFAS No. 142 been adopted the first day of 2000, net income (loss) as of
December 31 would have been adjusted as follows:

                                      F-11

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

<TABLE>
<CAPTION>
(in millions, except per share amounts)                   2002     2001     2000
--------------------------------------                   ------   -----   ------
<S>                                                      <C>      <C>     <C>
Net income (loss) as reported                            $(87.0)  $ 2.9   $(83.3)
Add back: Goodwill amortization                              --     2.8      2.8
                                                         ------   -----   ------
Adjusted net income (loss)                               $(87.0)  $ 5.7   $(80.5)
                                                         ======   =====   ======

Net income (loss) per common share - basic
   As reported                                           $(4.04)  $0.13   $(3.77)
   Goodwill amortization                                     --    0.13     0.12
                                                         ------   -----   ------
Adjusted net income (loss) per common share - basic      $(4.04)  $0.26   $(3.65)
                                                         ======   =====   ======

Net income (loss) per common share - dilutive
   As reported                                           $(4.04)  $0.13   $(3.77)
   Goodwill amortization                                           0.13     0.12
                                                         ------   -----   ------
Adjusted net income (loss) per common share - dilutive   $(4.04)  $0.26   $(3.65)
                                                         ======   =====   ======
</TABLE>

Premiums Earned. Premium revenue is recognized ratably over the policy period.
Premiums that have yet to be earned are reported as unearned premiums on the
balance sheet.

Deferred Acquisition Costs. Policy acquisition costs, which include commissions,
premium taxes, fees and certain other costs of underwriting policies, are
deferred, when such policies are profitable, and amortized over the same period
in which the related premiums are earned. Anticipated investment income is
considered in determining whether a premium deficiency exists. The Company
continually reviews the methods of making such estimates and establishing the
deferred costs, and any adjustments are made in the accounting period in which
the adjustment arose.

Reserves for Losses and Loss Adjustment Expenses. Liabilities for unpaid losses
and loss adjustment expenses include the accumulation of individual case
estimates for claims reported as well as estimates of incurred but not reported
claims and estimates of claim settlement expenses. Reinsurance recoverable on
unpaid claims and claim expense represent estimates of the portion of such
liabilities that will be recoverable from reinsurers. Amounts recoverable from
reinsurers are recognized as assets at the same time and in a manner consistent
with the unpaid claims liabilities associated with the reinsurance policy.

Estimates are based upon past claim experience modified for current trends as
well as prevailing economic, legal and social conditions. While management
believes that amounts included in the accompanying financial statements are
adequate, such estimates may be more or less than the amounts ultimately paid
when the claims are settled. The estimates are continually reviewed and any
changes are reflected in current operations. Further, the nature of loss
exposures involve significant variability due to the long tailed payments on
claims related to asbestos and environmental coverages and workers' compensation
coverages. As such, losses and loss adjustment expenses could vary significantly
from the recorded amounts.

Property and Equipment. Property and equipment used in operations, including
certain costs incurred to develop or obtain computer software for internal use,
are capitalized and carried at cost less accumulated depreciation. Depreciation
is calculated using a straight-line method over the estimated useful lives of
the assets, generally 3 to 40 years. The accumulated depreciation for property
and equipment was $29.3 million and $31.0 million as of December 31, 2002 and
2001, respectively.

Stock-Based Compensation. The Company uses the intrinsic value method to account
for stock-based compensation plans. Under the intrinsic value method,
compensation expense is measured as the excess, if any, of the quoted market
price of the stock at the measurement date over the amount an employee must pay
to acquire the stock. The Company discloses the pro forma effect of accounting
for stock-based compensation under the fair value method prescribed in SFAS No.
123.

Income Taxes. Deferred tax assets and liabilities are recognized for the
estimated future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted tax rates in effect for the year in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period in which the change is enacted.

                                      F-12

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Reinsurance. In the normal course of business, the Company's insurance
subsidiaries reinsure certain risks above certain retention levels with other
insurance enterprises. Reinsurance receivables include claims paid by the
Company and estimates of unpaid losses and loss adjustment expenses that are
subject to reimbursement under reinsurance and retrocessional contracts. The
method for determining the reinsurance receivable for unpaid losses and loss
adjustment expenses involves reviewing actuarial estimates of gross unpaid
losses and loss adjustment expenses to determine the Company's ability to cede
unpaid losses and loss adjustment expenses under its existing reinsurance
contracts. This method is continually reviewed and updated and any adjustments
resulting there from are reflected in earnings in the period identified.
Reinsurance premiums, commissions and expense reimbursements are accounted for
on a basis consistent with those used in accounting for the original policies
issued and the term of the reinsurance contracts. Amounts recoverable from
reinsurers for benefits and losses for which the Company's insurance
subsidiaries have not been relieved of their legal obligations to the
policyholder are reported as assets.

New Accounting Pronouncements. In June 2001, the Financial Accounting Standards
Board ("FASB") issued SFAS No. 143, "Accounting for Obligations Associated with
the Retirement of Long-Lived Assets". SFAS No. 143 establishes accounting
standards for the recognition and measurement of an asset retirement obligation
and its associated asset retirement cost. It also provides accounting guidance
for legal obligations associated with the retirement of tangible long-lived
assets. SFAS No. 143 is effective for fiscal years beginning after June 15,
2002, with early adoption permitted. The Company adopted the provisions of SFAS
No. 143 effective January 1, 2002. The adoption of this standard did not have a
material impact on the consolidated results of operations or financial position.

In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets". SFAS No. 144 establishes a single accounting
model for the impairment or disposal of long-lived assets and new standards for
reporting discontinued operations. SFAS No. 144 superseded SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of" and APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions". The provisions of
SFAS No. 144 are effective in fiscal years beginning after December 15, 2001
and, in general, are to be applied prospectively. The Company adopted the
provisions of SFAS No. 144 effective January 1, 2002. The adoption of this
standard did not have a material impact on the consolidated results of
operations and financial position.

In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 supersedes Emerging Issues Task
Force Issue No. 94-3. SFAS No. 146 requires that the liability for a cost
associated with an exit or disposal activity be recognized when the liability is
incurred, not at the date of an entity's commitment to an exit or disposal plan.
The provisions of SFAS No. 146 are effective for exit or disposal activities
initiated after December 31, 2002. In the first quarter of 2003, the Company is
re-organizing Argonaut Insurance Company (see note 3.) The transaction will be
accounted for in accordance with SFAS No. 146.

In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Discloures." SFAS No. 148 establishes alternative
methods of transition for a voluntary change to the fair value based method of
accounting for stock-based compensation. In addition, the statement amends the
disclosure requirements of SFAS No. 123, "Accounting for Stock-Based
Compensation" to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. SFAS No. 148
is effective for financial statements for fiscal years ending after December 15,
2002. The Company adopted the provisions of SFAS No. 148 relating to pro forma
reporting in December 2002. The Company has not made a determination regarding
accounting for stock-based compensation on the fair value method, but does not
anticipate a change in methodology to have a material impact on its consolidated
financial position, results of operations or cash flows.

2. Risk-Based Capital

The Company's insurance subsidiaries are subject to Risk-Based Capital ("RBC")
under The Insurers Model Act. RBC is designed to measure the acceptable amount
of capital an insurer should have based on the inherent specific risks of each
insurer. State regulatory authorities use the RBC formula to identify insurance
companies which may be undercapitalized and which may require further regulatory
attention. The formula prescribes a series of risk measurements to determine a
minimum capital amount for an insurance company, based on the profile of the
individual company. The ratio of a company's

                                      F-13

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

actual policyholder surplus to its minimum capital requirements will determine
whether any state regulatory action is required.

The RBC for The Insurers Model Act provides four levels of regulatory activity
if the RBC ratio yielded by the calculation falls below specified minimums. At
each of four successively lower RBC ratios specified by statute, increasing
regulatory remedies become available, some of which are mandatory. The four
levels are: (1) Company Action Level Event, where the company is required to
submit a corrective plan of action; (2) Regulatory Action Level Event, where the
company's corrective plan of action must be approved by the state Insurance
Commissioner, who may require an audit of the insurer's financial position; (3)
Authorized Control Level Event, where the Insurance Commissioner is authorized
to take actions it considers necessary to protect the best interests of the
policyholders and creditors of the insurer; and (4) Mandatory Control Level
Event, where the Insurance Commissioner is required to take actions it considers
necessary to protect the best interests of the policyholders and creditors of
the insurer. At December 31, 2002, Argonaut Insurance Company's RBC was within
the Company Action Level Event. However, Argonaut Insurance Company requested
from the California Department of Insurance permission to report a parcel of its
real estate at its agreed upon sales price. The California Department of
Insurance granted Argonaut Insurance Company the permitted practice. Without the
permitted practice Argonaut Insurance Company's RBC would have been within the
Regulatory Action Level Event, which would have required the Company's
corrective action plan to be approved by the department of insurance. Without
effective corrective action, Argonaut Insurance Company's statutory surplus
could decline, and therefore be subject to increasing levels of regulatory
control, including coming under the control of the California Department of
Insurance. Additionally, any further decline of the statutory surplus may limit
the growth opportunities of the insurance companies. Further deterioration of
the statutory surplus may result in the downgrading of the insurance
subsidiaries by the national rating agencies, potentially impacting the
Company's ability to write new business and retain existing insureds.

The following factors contributed to the deterioration of RBC to the company
action level during the past year: reserve increases for environmental and
asbestos liabilities; declines in the fair value of the equity portfolio; high
rate of premium growth; and losses in the specialty workers' compensation
segment. Under the Company Action Level, Argonaut Insurance Company is required
to submit to the California Department of Insurance a Comprehensive Plan of
Action. The plan is to include an analysis of the conditions that contributed to
Argonaut Insurance Company's RBC condition; proposals to increase the RBC ratio;
provide projections of Argonaut Insurance Company's RBC with and without
proposed corrective actions; and key assumptions underlying the proposals. The
Company is currently in the process of drafting the detail plan for submission
to the California Department of Insurance. Argonaut Insurance Company wholly
owns all of the insurance subsidiaries within the Company. Due to the RBC of
Argonaut Insurance Company other domiciliary states may require prior approval
of: (a) dividends (b) intercompany transactions or (c) reinsurance agreements.

The State of California Department of Insurance is currently in the process of
performing its normal triennial examination. The examination covers the years
1999 through 2002 and will incorporate all the insurance subsidiaries of the
Company.

3. Subsequent Events

Reorganization of Argonaut Insurance Company. Due to the sustained losses
incurred by Argonaut Insurance Company over the past four years, the Company is
in the process of establishing a plan to reorganize Argonaut Insurance Company.
This reorganization will refocus Argonaut Insurance Company's efforts on
casualty risk management business, which has been the core business of Argonaut
Insurance Company since the early 1990's. The Company estimates incurring a
restructuring charge of approximately $3.0 million in the first half of 2003
related to the restructuring, consisting primarily of severance and office
closing expenses.

Sale of Real Estate. On March 20, 2003 a subsidiary of Argonaut Insurance
Company, AGI Properties, Inc. sold a parcel of real estate in Torrance,
California for approximately $24.0 million. AGI Properties received $4.5 million
in cash and issued a note receivable for the remainder. The note is due November
30, 2004 and bears interest at 3.5% annually. The sale of this property resulted
in a realized gain of approximately $20.0 million which was included in Argonaut
Insurance Company's statutory surplus and RBC as of December 31, 2002 as
permitted by the California Department of Insurance.

                                      F-14

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

On March 31, 2003, AGI Properties, Inc., sold certain parcels of real estate for
$40.0 million. AGI Properties, Inc. received $8.0 million in cash and issued
notes receivable for the remaining $32.0 million. The notes receivable pay
interest at LIBOR plus 400 basis points, are capped at 6% and are payable
September 30, 2004. The result of the sales of certain real estate and the
related realized gains is anticipated to increase in 2003 Argonaut Insurance
Company's statutory surplus by approximately $32.0 million and correspondingly
increased Argonaut Insurance Company's RBC.

Private Equity Placement. On March 31, 2003, the Company sold approximately 2.4
million shares of Series A Mandatory Convertible Preferred Stock. The preferred
shares were sold through a private placement to a group of investors. The
Company received gross proceeds of $29.4 million from HCC Insurance Holdings,
Inc. as a result of this sale. The proceeds were used to increase the statutory
surplus and RBC of Argonaut Insurance Company. The preferred shares are
convertible at any time into common stock at the option of the holder at an
initial conversion price of $12.00. Any outstanding preferred shares will
automatically convert into common shares on the tenth anniversary of the
issuance. The preferred shares will initially pay a 7 percent dividend on a
quarterly basis. The dividend rate is subject to certain adjustments based upon
the Company's A.M. Best rating and Risk Based Capital level. The holders of the
preferred shares will be entitled to vote on an as-converted basis on all
matters submitted for the vote of the Argonaut Group common shareholders.
Additionally, under the terms of the private placement, the Company has agreed
not to pay dividends to common shareholders for a period of two years.

On March 31, 2003 the Company borrowed $18.0 million from HCC Insurance
Holdings, Inc. The Company contributed $12.0 million of the borrowing to
Argonaut Insurance Company, $5.0 million will be held in escrow for dividend
payments related to the Series A Mandatory Convertible Preferred Stock, and $1.0
million will be held by the Company for general corporate purposes. The note
payable is due March 31, 2006, bears interest at 12% annually and is prepayable
at the Company's option at anytime. The note contains certain covenants, one of
which requires repayment should the Company enter into other debt agreements or
issues additional shares of Series A Mandatory Convertible Preferred Stock.

Additionally, the Company has an agreement with an additional investor to
participate in the issue of the Series A Mandatory Convertible Preferred Stock.
The investor has committed to a $6.0 million investment. The proceeds from this
investor are expected to be received on April 10, 2003. The proceeds from this
sale will be used to prepay a portion of the debt discussed above.

Investment Portfolio. Argonaut Insurance Company also plans to reduce its equity
holdings during the first six months of 2003. The proceeds of the sales will be
reinvested in fixed maturities and mitigate fluctuations in statutory surplus as
it relates to market price volatility.

4. Investments

Gains and losses on sales and calls of investments for the years ended December
31, were as follows:

(in millions)               2002    2001    2000
------------                -----   -----   -----
Fixed maturities            $(1.2)  $(1.7)  $(0.6)
Equity securities            27.8    18.8    23.9
                            -----   -----   -----
Realized investment gains   $26.6   $17.1   $23.3
                            =====   =====   =====

The amortized cost and fair value of investments as of December 31 were as
follows:

                                      F-15

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

<TABLE>
<CAPTION>
                                                           Gross        Gross
                                             Amortized   Unrealized   Unrealized     Fair
(in millions)                                  Cost        Gains        Losses      Values
------------                                 ---------   ----------   ----------   --------
<S>                                           <C>          <C>           <C>       <C>
2002
Fixed maturities
   U.S. Treasury securities                   $  184.7     $ 13.7        $ 0.4     $  198.0
   U.S. Government agencies                      292.1       10.7          0.2        302.6
   Obligations of states and political                                                   --
      subdivisions                                18.3        1.2          0.3         19.2
   Corporate securities                          234.7       14.9          1.6        248.0
   Mortgage backed securities                    118.5        6.9          1.5        123.9
   Foreign Government                              0.9         --                       0.9
   Redeemable preferred stock                      1.5         --           --          1.5
                                              --------     ------        -----     --------
Total fixed maturities                        $  850.7     $ 47.4        $ 4.0     $  894.1
                                              --------     ------        -----     --------
Equity securities
   Banks, trusts and insurance companies      $   13.5     $ 12.9        $ 0.2     $   26.2
   Industrial, miscellaneous and all other       135.7       84.4          9.2        210.9
                                              --------     ------        -----     --------
Total equity securities                       $  149.2     $ 97.3        $ 9.4     $  237.1
Other long term investments                       10.8        0.1          0.9         10.0
Short term investments                            40.1         --           --         40.1
                                              --------     ------        -----     --------
Total invested assets                         $1,050.8     $144.8        $14.3     $1,181.3
                                              ========     ======        =====     ========
</TABLE>

<TABLE>
<CAPTION>
                                                           Gross        Gross
                                             Amortized   Unrealized   Unrealized     Fair
(in millions)                                  Cost        Gains        Losses      Values
------------                                 ---------   ----------   ----------   --------
<S>                                            <C>         <C>           <C>       <C>
2001
Fixed maturities
   U.S. Treasury securities                    $177.4      $  8.1        $  --     $  185.5
   U.S. Government agencies                     244.3         4.8          0.9        248.2
   Obligations of states and political
      subdivisions                               31.9         0.1          0.2         31.8
   Corporate securities                         213.5         2.2          1.9        213.8
   Mortgage backed securities                    96.8         0.5          0.4         96.9
   Foreign Government                             2.0          --           --          2.0
   Redeemable preferred stock                     1.2          --           --          1.2
                                               ------      ------        -----     --------
Total fixed maturities                         $767.1      $ 15.7        $ 3.4     $  779.4
                                               ------      ------        -----     --------
Equity securities
   Banks, trusts and insurance companies       $ 16.8      $ 23.8        $ 0.1     $   40.5
   Industrial, miscellaneous and all other      158.8       134.4          7.4        285.8
                                               ------      ------        -----     --------
Total equity securities                        $175.6      $158.2        $ 7.5     $  326.3
Other long term investments                       5.2          --          0.4          4.8
Short term investments                           42.7          --           --         42.7
                                               ------      ------        -----     --------
Total invested assets                          $990.6      $173.9        $11.3     $1,153.2
                                               ======      ======        =====     ========
</TABLE>

The amortized cost and fair values of fixed maturity investments as of December
31, 2002, by contractual maturity, were as follows:

                                      F-16

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

                                         Amortized    Fair
(in millions)                              Costs      Value
------------                             ---------   ------
Due in one year or less                      30.6      31.1
Due after one year through five years       398.3     419.3
Due after five years through ten years      233.6     246.3
Thereafter                                   69.7      73.5
Mortgage-backed                             118.5     123.9
                                         ---------   ------
Total                                      $850.7    $894.1
                                         =========   ======

The expected maturities may differ from the contractual maturities because
debtors may have the right to call or prepay obligations without penalties.

Investment income and expenses for the years ended December 31, were as follows:

(in millions)                                   2002    2001    2000
------------                                    -----   -----   -----
Investment income:
   Interest and dividends on fixed maturities   $43.0   $39.3   $49.1
   Dividends on equity securities                 7.0     7.3    10.4
   Interest on short-term investments             0.9     4.9     0.3
   Other                                          4.6     4.0     3.8
                                                -----   -----   -----
                                                 55.5    55.5    63.6
Investment expenses                              (2.6)   (1.9)   (1.6)
                                                -----   -----   -----
Net investment income                           $52.9   $53.6   $62.0
                                                =====   =====   =====

Proceeds from sales of fixed maturity investments were $65.7 million, $280.0
million and $64.9 million in 2002, 2001 and 2000, respectively. Proceeds from
sales of equity securities were $69.6 million, $78.5 million and $87.5 million
in 2002, 2001 and 2000, respectively. The following table presents the Company's
realized gains (losses) from investment sales:

(in millions)                  2002     2001    2000
------------                  ------   ------   -----
Realized gains
   Fixed maturities           $  0.9   $  4.6   $ 1.5
   Equity securities            38.0     26.9    24.9
                              ------   ------   -----
      Gross realized gains      38.9     31.5    26.4
Realized losses
   Fixed maturities             (2.1)    (6.3)   (2.1)
   Equity securities           (10.2)    (8.1)   (1.0)
                              ------   ------   -----
      Gross realized losses    (12.3)   (14.4)   (3.1)
Net realized gains
                              ------   ------   -----
   from investment sales      $ 26.6   $ 17.1   $23.3
                              ======   ======   =====

At December 31, 2002, the amortized cost and fair value of investments on
deposit with various insurance regulatory agencies were $326.3 million and
$368.9 million, respectively.

Additionally, U.S. Treasury Notes with an amortized cost of $1.8 million and
fair value of $1.9 million were pledged as collateral for surety bonds which
were issued to various states in lieu of depositing bonds. Investments with an
amortized cost of $15.4 million and fair value of $16.1 million were pledged as
collateral for various other reasons such as reinsurance.

                                      F-17

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

5. Reinsurance

The Company reinsures certain risks with other insurance companies. Such
arrangements serve to limit the Company's maximum loss on catastrophes and large
or unusually hazardous risks. The Company is liable for reinsurance ceded in the
event its reinsurers do not meet their obligations. Thus, a credit exposure
exists with respect to reinsurance ceded to the extent that any reinsurer is
unable to meet the obligations assumed under the reinsurance contracts. The
Company's reserves for nonrecoverable reinsurance balances receivable on paid
losses and incurred claims were $15.9 million and $8.7 million as of December
31, 2002 and 2001, respectively. Under certain of the reinsurance agreements,
funds are held to secure performance of reinsurers in meeting their obligations.
The amount of such funds was $223.5 million and $17.8 million at December 31,
2002 and 2001, respectively.

Since December 31, 2002, certain reinsurance carriers have been downgraded by
rating agencies and filed with the Securities and Exchange Commission
documentation regarding deteriorating financial condition. Amounts due from such
reinsurers on paid claims and case reserves total $53.0 million, of which $42.0
million is due from one reinsurer. The Company cannot reasonably estimate the
probability of the uncollectibility of these balances at this time. The Company
will continue to monitor these reinsurers; however, as of December 31, 2002 the
Company believes these reinsurers will honor their obligations to the Company.
It is possible that future financial deterioration of such reinsurers could
result in the uncollectibilty of certain balances and therefore impact the
financial results of the Company.

Included in the 2002 reinsurance receivable balance of $470.1 million was $165.0
million of ceded loss reserves related to the adverse loss development
reinsurance agreement (see discussion below.)

Estimated losses recoverable from reinsurers and the ceded portion of unearned
premiums are reported as assets.

Losses and loss adjustment expenses of $334.6 million, $189.7 million and $247.6
million for the years ending December 31, 2002, 2001 and 2000, respectively, are
net of amounts ceded to reinsurers of $122.4 million $53.3 million and $46.2
million, respectively.

While the Company is not in the business of assuming reinsurance risks, it is
required to accept certain assigned risks and other legally mandated reinsurance
obligations. However, in previous years, the Company actively assumed various
forms of casualty reinsurance for which it continues to maintain reserves for
losses and loss adjustment expenses (see note 17).

Premiums for the years ended December 31, were as follows:

(in millions)                               2002      2001     2000
------------                               -------   ------   ------

Direct written premiums                    $ 592.5   $263.2   $184.0
Reinsurance ceded to other companies        (138.1)   (52.4)   (22.2)
Reinsurance assumed from other companies      29.6      8.8      2.1
                                           -------   ------   ------
   Net written premiums                    $ 484.0   $219.6   $163.9
                                           =======   ======   ======

Direct earned premiums                     $ 483.9   $259.1   $142.8
Reinsurance ceded to other companies        (133.2)   (44.0)   (19.4)
Reinsurance assumed from other companies      27.7      6.8      1.2
                                           -------   ------   ------
   Net earned premiums                     $ 378.4   $221.9   $124.6
                                           =======   ======   ======

Percentage of reinsurance assumed to net
   earned premiums                             7.3%     3.1%     1.0%

The Company entered into a retroactive adverse loss development reinsurance
agreement ("the agreement") with Inter-Ocean N.A. Reinsurance Company, Ltd.
("Inter-Ocean") effective December 31, 2002 for the workers' compensation,
commercial multiple peril, general liability and asbestos, environmental and
other latent losses lines of business. The ceded losses for adverse development
are calculated on a tiered structure and subject to certain limitations. The
Company has the option to commute the reinsurance agreement at any time if the
funds withheld balance is positive. At December 31, 2002, the Company ceded $165
million of carried reserves. Related to those cessions, the Company also
recorded $118.5 million as

                                      F-18

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

reinsurance funds withheld, $6.5 million as ceded reinsurance payable, and $40.0
million as deferred gain pursuant to SFAS No. 113, "Accounting and Reporting for
Reinsurance of Short-Duration and Long-Duration Contracts."

The Company has $79.0 million of unused coverage under the Inter-Ocean agreement
for future adverse development, if any, on workers' compensation, commercial
multiple peril, general liability and asbestos environmental and other latent
losses.

6. Other Assets

Other assets at December 31 are comprised of the following:

(in millions)                             2002    2001
------------                             -----   -----
Ceded unearned premiums                  $30.6   $17.8
Furniture, fixtures and equipment, net    17.9    10.7
Agency                                     6.1      --
Prepaid pension asset                      4.1     3.7
Capital lease                              1.3     1.4
Other                                      5.1     2.7
                                         -----   -----
   Total other assets                    $65.1   $36.3
                                         =====   =====

7. Reserves for Losses and Loss Adjustment Expenses

The following table provides a reconciliation of reserves for losses and loss
adjustment expenses for the years ended December 31, 2002, 2001 and 2000.

<TABLE>
<CAPTION>
(in millions)                                             2002       2001      2000
------------                                            --------   --------   ------
<S>                                                     <C>        <C>        <C>
Net beginning of the year                               $  929.6   $  757.6   $706.5
Add:
Net reserves from acquired companies                          --      197.2       --
Net reserves ceded - retroactive reinsurance contract     (165.0)        --       --
Losses and LAE incurred during current calendar
   year, net of reinsurance:
      Current accident year                                272.6      172.5    122.6
      Prior accident years                                  62.0       17.2    125.0
                                                        --------   --------   ------
Losses and LAE acquired and incurred during
   calendar year, net of reinsurance                       169.6      386.9    247.6
Deduct:
Losses and LAE payments made during current
   calendar year, net of reinsurance:
      Current accident year                                 60.8       46.6     39.7
      Prior accident years                                 200.2      168.3    156.8
                                                        --------   --------   ------
Losses and LAE payments made during current
   calendar year, net of reinsurance                       261.0      214.9    196.5
Net reserves -- end of period                              838.2      929.6    757.6
Add:
Reinsurance recoverable on unpaid losses and
   LAE, end of period                                      443.4      218.2    173.1
                                                        --------   --------   ------
Gross reserves -- end of period                         $1,281.6   $1,147.8   $930.7
                                                        ========   ========   ======
</TABLE>

Reserves for losses and loss adjustment expenses represent the estimated
indemnity cost and related adjustment expenses necessary to investigate and
settle claims. Such estimates are based upon individual case estimates for
reported claims,

                                      F-19

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

estimates from ceding companies for reinsurance assumed, and actuarial estimates
for losses which have been incurred but not yet reported to the insurer. Any
change in probable ultimate liabilities is reflected in current operating
results.

Adverse development during 2002 was primarily the result of strengthening
reserves for run-off lines of $59.8 million (see note 17.) Adverse loss
development incurred in 2000 was the result of reserve strengthening
attributable to California workers' compensation business written prior to 2000.

In the opinion of management, the Company's reserves represent the best estimate
of its ultimate liabilities, based on currently known facts, current law,
current technology, and assumptions considered reasonable where facts are not
known. Due to the significant uncertainties mentioned above and related
management judgments, there can be no assurance that future loss development,
favorable or unfavorable, will not occur.

Pension-type reserves (tabular reserves) are indemnity reserves that are
calculated using discounts determined with reference to actuarial tables, which
incorporate interest and contingencies such as mortality, remarriage, inflation,
or recovery from disability applied to a reasonably determinable payment stream.
Pension-type reserves do not include medical loss reserves or loss adjustment
expense reserves. Argonaut Insurance Company discounted certain workers'
compensation pension-type reserves using a maximum interest rate of 3.5% in 2002
and 2001. The amount of unamortized discount was $34.0 million at December 31,
2002 and $35.5 million at December 31, 2001. Rockwood discounted certain
workers' compensation pension-type reserves using a maximum interest rate of
4.0%. The amount of unamortized discount was $11.4 million at December 31, 2002
and $10.4 million at December 31, 2001.

8. Income Taxes

The Company's income tax provision includes the following components:

(in millions)                                    2002     2001     2000
------------                                    ------   ------   ------

Current tax provision (benefit) related to:
   Current tax provision                        $ (3.5)  $  1.1   $  1.0
Deferred tax provision (benefit) related to:
   Future tax deductions                         (10.3)   (11.7)   (12.8)
   Net operating loss carryforward                 7.8     11.8    (34.1)
   Deferred alternative minimum tax provision       --     (0.8)      --
   Valuation allowance change                     71.9       --       --
                                                ------   ------   ------
Income tax provision (benefit)                  $ 65.9   $  0.4   $(45.9)
                                                ======   ======   ======

A reconciliation of the Company's income tax provision or benefit to the
provision or benefit which would have resulted if the tax had been computed at
the statutory rate is as follows:

<TABLE>
<CAPTION>
(in millions)                                              2002    2001    2000
------------                                              -----   -----   ------
<S>                                                       <C>     <C>     <C>
Income tax provision (benefit) at statutory rates (35%)   $(7.4)  $ 1.2   $(45.2)
Tax effect of:
   Tax exempt interest                                     (0.3)   (0.6)    (0.2)
   Dividends received deduction                            (1.2)   (1.5)    (2.2)
   Valuation allowance change                              71.9      --       --
   Other permanent adjustments, net                         2.9     1.3      1.7
                                                          -----   -----   ------
Income tax provision (benefit)                            $65.9   $ 0.4   $(45.9)
                                                          =====   =====   ======
</TABLE>

Deferred taxes arise from temporary differences in the recognition of revenue
and expenses for tax and financial reporting purposes. Net deferred tax assets
at December 31, 2002, 2001 and 2000 result from the tax-effected temporary
differences shown in the following table. Tax benefits of $11.2 million, $12.6
million and a tax provision of $1.5 million relating to

                                      F-20

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

changes in the unrealized gains on available-for-sale investment securities were
recorded directly to shareholders' equity. Net deferred tax assets of $9.0
million were recorded in connection with the acquisition of Front Royal, Inc. as
of August 31, 2001.

(in millions)                             2002     2001     2000
------------                             ------   ------   ------
Deferred liability on unrealized gains
   Unrealized gains                      $(45.7)  $(56.9)  $(69.5)
Deferred tax assets:
   Reserve discounting                     48.4     52.5     44.6
   Alternative minimum tax                  4.1     13.0     12.2
   Net operating loss carryforward         66.0     63.3     68.9
   Other, net                              19.1      6.2     (0.4)
                                         ------   ------   ------
Deferred tax asset, gross                 137.6    135.0    125.3
   Valuation allowance                    (71.9)      --       --
                                         ------   ------   ------
                                         $ 20.0   $ 78.1   $ 55.8
                                         ======   ======   ======

Realization of deferred tax assets is dependent upon the Company's generation of
sufficient taxable income in the future to recover tax benefits that cannot be
recovered from taxes paid in the carryback period, generally two years. Due to
the cumulative loss position of the Company over the past three years,
management established a valuation allowance of $71.9 million against the
deferred tax asset. Though the Company believes the deferred tax asset will be
fully utilized through future net income, the valuation allowance was
established based on the Company's interpretation of SFAS No. 109, particularly
due to the cumulative loss position noted above and SFAS No. 109's guidance
related to the facts and circumstances in such a situation. The Company has a
regular federal tax net operating loss carryforward of $2.1 million to expire in
2009, $28.4 million to expire in 2012, $44.8 million to expire in 2019, and
$113.2 million to expire in 2020. The alternative minimum tax assets do not
expire.

9. Shareholders' Equity

The Company is authorized to issue 5,000,000 shares of $0.10 par value preferred
stock. No preferred shares were issued or outstanding at December 31, 2002 and
2001.

During 2001 and 2000, the Company retired 201,500 and 601,800 shares of its
common stock, respectively, at prevailing market prices. No shares were retired
during 2002. The Company also retired 1,064, 147 and 1,083 shares, during 2002,
2001 and 2000, respectively, that were acquired through exercise of employee
stock options, or from forfeited non-vested shares from the employee stock
purchase plan.

The Company's insurance subsidiaries are regulated by the various states in
which they do business and prepare their financial statements in accordance with
statutory accounting principles. The amount of statutory net income and surplus
(shareholders' equity) for the insurance subsidiaries for the years ended
December 31, was as follows:

(in millions)        2002     2001      2000
------------        ------   ------   -------
Net income (loss)   $ (4.4)  $ 18.1   $(120.3)
Surplus             $258.0   $269.2   $ 360.6

Various state insurance laws restrict the amount that may be transferred to
Argonaut Group, Inc. from its subsidiaries in the form of dividends without
prior approval of regulatory authorities. In addition, that portion of the
Company's net equity which results from the difference between statutory
insurance practices and generally accepted accounting principles would not be
available for dividends. During 2002, dividends of $11.5 million were paid to
the Company by Argonaut Insurance Company and did not require the approval of
regulatory authorities. Argonaut Insurance Company is the immediate subsidiary
of the Company and is regulated by the California Insurance Code. Under
California Insurance Regulations, Argonaut Insurance Company is permitted to pay
dividends in 2003 up to $25.8 million to Argonaut Group. However, due to
Argonaut Insurance Company's risk-based capital ratio at December 31, 2002 (see
note 2), future dividends paid to the Company from Argonaut Insurance Company
may require prior approval from the California Department of Insurance.

                                      F-21

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

10. Earning Per Share

The following table presents the calcualtion of net income (loss) per common
share on a basic and diluted basis for the years ended December 31:

<TABLE>
<CAPTION>
(dollars in millions, except per share amounts)      2002           2001          2000
----------------------------------------------    -----------   -----------   -----------
<S>                                               <C>           <C>           <C>
Net income (loss)                                 $     (87.0)  $       2.9   $     (83.3)
                                                  ===========   ===========   ===========

Weighted average shares-basic                      21,570,306    21,610,931    22,069,662
Effect of dilutive securities:
   Stock options                                           --         9,303            --
                                                  -----------   -----------   -----------
Weighted average shares-diluted                    21,570,306    21,620,234    22,069,662
                                                  ===========   ===========   ===========

Net income (loss) per common share-basic          $     (4.04)  $      0.13   $     (3.77)
Net income (loss) per common share-diluted        $     (4.04)  $      0.13   $     (3.77)
</TABLE>

In 2001, options to purchase 1,319,950 shares of common stock at a price ranging
from $17.31 to $35.50 were not included in the computation of diluted earnings
per share because the options' exercise price was greater than the average
market price of the common shares. These options expire in 2003 through 2012.
For years 2002 and 2000 the options do not appear because the net loss would
cause their effect to be antidilutive.

11. Underwriting, Acquisition and Insurance Expenses

Underwriting, acquisition, and insurance expenses for the years ended December
31, were as follows:

(in millions)                                             2002     2001     2000
------------                                             ------   ------   -----
Commissions                                              $ 68.6   $ 23.9   $14.1
General expenses                                           86.7     63.3    61.2
State assessments                                           9.0      5.8     6.4
Taxes, licenses and bureau fees                            12.5      8.6     6.7
                                                         ------   ------   -----
                                                          176.8    101.6    88.4
Amortization (deferral) of policy acquisition costs       (32.4)    (2.0)    3.1
                                                         ------   ------   -----
Total underwriting, acquisition and insurance expenses   $144.4   $ 99.6   $91.5
                                                         ======   ======   =====

12. Pension Benefits

The Company sponsors a qualified defined benefit plan and a non-qualified
unfunded supplemental defined benefit plan.

The following table sets forth the change in benefit obligation, change in plan
assets, weighted-average assumptions and components of net periodic benefit cost
as of December 31 with respect to the qualified and non-qualified defined
benefit pension plans.

(in millions)                                        2002    2001
------------                                        -----   -----
Change in benefit obligation
Projected benefit obligation at beginning of year   $30.2   $28.3
Service cost                                          1.3     1.3
Interest cost                                         2.2     2.1
Actuarial (gain) loss                                 2.1     0.8
Benefits paid                                        (2.6)   (2.3)
                                                    -----   -----
Projected benefit obligation at end of year         $33.2   $30.2
                                                    =====   =====

                                      F-22

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in millions)                                     2002    2001
------------                                     -----   -----
Change in plan assets
Fair value of plan assets at beginning of year   $36.8   $33.2
Actual return on plan assets                       0.3     3.5
Employer contributions                             1.6     2.4
Benefits paid                                     (2.7)   (2.3)
                                                 -----   -----
Fair value of plan assets at end of year         $36.0   $36.8
                                                 =====   =====

Funded status                                    $ 2.8   $ 6.6
Unrecognized actuarial loss                       (0.8)   (5.2)
Unrecognized prior service costs                   0.9     1.1
Unrecognized net transition obligation            (0.1)   (0.2)
                                                 -----   -----
Net amount recognized                            $ 2.8   $2.3
                                                 =====   =====

Amounts recognized in the balance sheet consist of:

(in millions)                                     2002    2001
------------                                     -----   -----
Prepaid benefit costs                            $ 4.3   $ 3.7
Accrued benefit liability                         (2.0)   (1.9)
Intangible asset                                   0.5     0.5
                                                 -----   -----
Net amount recognized                            $ 2.8   $ 2.3
                                                 =====   =====

Assumption as of December 31:

                                                          2002   2001
                                                          ----   ----
Weighted average discount rate                            6.75%  7.50%
Long term rate of return on plan assets                    6.0%   6.0%
Expected rate of increase in future compensation levels    4.0%   4.5%

(in millions)                               2002    2001    2000
------------                               -----   -----   -----
Components of net periodic benefit costs
Service cost                               $ 1.3   $ 1.3   $ 1.2
Interest cost                                2.1     2.1     2.0
Expected return on plan assets              (2.2)   (2.0)   (1.8)
Amortization of:
   Transition asset                           --      --    (0.1)
   Prior service costs                       0.1     0.1     0.2
   (Gain) loss                              (0.3)   (0.2)   (0.3)
                                           -----   -----   -----
Total                                       (0.2)   (0.1)   (0.2)
                                           -----   -----   -----
Net periodic benefit cost                  $ 1.0   $ 1.3   $ 1.2
                                           =====   =====   =====

The projected benefit obligation, accumulated benefit obligation, and fair value
of plan assets for the defined benefit pension plan with accumulated benefit
obligations in excess of plan assets were $2.2 million, $2.0 million and $0
respectively, as of December 31, 2002, and $2.1 million, $1.9 million and $0,
respectively, as of December 31, 2001.

Substantially all employees of the Company are eligible to participate in
employee savings plans. Under these plans, a percentage of an employee's pay may
be contributed to various savings alternatives including, under one plan,
investment in the Company's common stock. The plans call for the Company to
match the employee's contribution under various formulae. Charges to income
related to such Company matching were $0.8 million in 2002, $0.6 million in
2001, and $0.5 million in 2000.

                                      F-23

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

13.  Stock Based Compensation Plans

In April 2002, the shareholders approved the 2002 Amended and Restated Stock
Incentive Plan, which amended the 1986 Stock Option Plan. Under the Stock
Incentive Plan, an aggregate 4.5 million shares of Argonaut Group, Inc. common
stock may be issued to key employees. The options may be incentive stock options
or nonqualified stock options. If incentive options are granted, the exercise
price of the options will be the fair market value of the shares on the date
that the option is granted. During 2002, options to purchase 709,000 shares of
common stock were issued, of which 125,000 were granted at an exercise price
which was below the fair market value of the shares on the date of grant.

The Stock Incentive Plan allows for up to 500,000 shares to be issued as
non-vested stock to officers and certain key employees. The shares vest in equal
annual installments over a period of two to three years, subject to continued
employment. The stock is not issued until the vesting requirements are met, thus
the stock does not carry any voting or dividend rights. Upon granting of the
non-vested stock, unearned compensation equivalent to the market value at the
date of grant is charged to shareholders' equity and subsequently amortized to
expense over the vesting period. As of December 31, 2002, 99,200 shares are
outstanding net of forfeitures of 11,900 shares. Compensation expense of $0.6
million was recognized in 2002.

In April 2000, the Board of Directors of the Company adopted the Non-Employee
Director Stock Option Plan. The Non-Employee Director Plan provides for the
issuance of options to purchase common stock to directors of the Company who are
not employees. The Company may issue up to 150,000 shares of common stock upon
exercise of options issued under the Non-Employee Director Plan. The options
issued under the Non-Employee Director Plan are not "incentive stock options".
All options will have an exercise price equal to the fair market value as of the
date of grant.

In October, 1995, the FASB issued SFAS No. 123, "Accounting for Stock Based
Compensation". As permitted by SFAS No. 123, the Company has not changed its
method of accounting for stock options but has provided the additional required
disclosures in the tables below.

At December 31, 2002, under the Stock Incentive Plan, 1,795,630 shares were
available for future grant, including up to 400,800 available as non-vested
shares. The options are fully vested after 4 years and expire on the 11-year
anniversary of the grant. The shareholders have approved all employee stock
compensation plans.

At December 31, 2002, under the Non-Employee Director Plan, 87,000 shares were
available for future grant. The options are fully vested after 1 year and expire
after 10 years. The shareholders approved the Non-Employee Directors Plan at the
2000 annual meeting.

A summary of the status of the Company's stock option plans at December 31,
2002, 2001 and 2000 is presented in the table below.

<TABLE>
<CAPTION>
                                                  2002                          2001                           2000
                                      ----------------------------   ----------------------------   ----------------------------
                                                  Weighted-Average               Weighted-Average               Weighted-Average
                                      Shares       Exercise Price     Shares      Exercise Price    Shares       Exercise Price
                                      ---------   ----------------   ---------   ----------------   ---------   ----------------
<S>                                   <C>              <C>           <C>              <C>           <C>              <C>
Oustanding at beginning of the year   1,810,450        $21.34        1,423,990        $23.89          853,390        $28.62
Granted                                 730,000         21.03          628,500         16.85          672,800         18.36
Exercised                               (23,450)        18.04               --            --               --            --
Canceled                               (545,800)        24.47         (242,040)        24.70         (102,200)        26.93
                                      ----------                     ---------                      ---------
Oustanding at end of the year         1,971,200         20.40        1,810,450         21.34        1,423,990         23.89
                                      ==========                     =========                      =========
Exercisable at end of year              664,800         22.17          694,605         26.68          634,503         28.56
Weighted-average fair value of
   options granted during the year                     $ 5.97                         $ 2.20                         $ 1.86
</TABLE>

                                      F-24

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

Exercise prices for options outstanding as of December 31, 2002 ranged from
$15.70 to $35.50. The following table provides certain information with respect
to stock options outstanding at December 31, 2002:

                                     Weighted      Weighted Average
   Range of       Stock Options       Average         Remaining
Exercise Prices    Outstanding    Exercise Price   Contractual Life
---------------   -------------   --------------   ----------------
$15.70 to 19.50     1,210,800         $17.74              9.1
$20.68 to 29.25       632,350          23.22              9.4
$30.00 to 35.50       128,050          31.64              4.4
                    ---------
                    1,971,200
                    =========

The following table provides certain information with respect to stock options
exercisable at December 31, 2002:

                                     Weighted
   Range of       Stock Options       Average
Exercise Prices    Exercisable    Exercise Price
---------------   -------------   --------------
$15.70 to 19.50      405,400          $17.85
$20.68 to 29.25      131,350           26.28
$30.00 to 35.50      128,050           31.64
                     -------
                     664,800
                     =======

Had compensation cost of both plans been determined in accordance with SFAS No.
123, net income (loss) per common share would have been as shown in the
following table:

(in millions, except per share amounts)              2002     2001    2000
--------------------------------------              ------   -----   ------
Net income (loss), as reported                      $(87.0)  $ 2.9   $(83.3)
Deduct: Total stock-based employee
   compensation determined under fair
   value based methods for all awards, net of tax     (0.4)   (0.3)    (0.3)
                                                    ------   -----   ------
Pro forma net income (loss)                         $(87.4)  $ 2.6   $(83.6)
                                                    ======   =====   ======

Earnings per share
   Basic - as reported                              $(4.04)  $0.13   $(3.77)
   Basic - pro forma                                $(4.05)  $0.12   $(3.79)

   Diluted - as reported                            $(4.04)  $0.13   $(3.77)
   Diluted - pro forma                              $(4.05)  $0.12   $(3.79)

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

                                    2002            2001            2000
                               -------------   -------------   -------------
Risk-free rate of return       3.06% to 4.71%  3.66% to 5.06%  5.32% to 6.67%
Expected dividend yields                3.19%           7.92%           9.51%
Expected option life (years)            6.07            6.21            6.21

14.  Segment Information

The Company is primarily engaged in writing property and casualty insurance. The
Company has classified its business into the following four continuing segments:
excess and surplus lines, specialty commercial, specialty workers' compensation
and public entity. Additionally, the Company no longer underwrites certain
coverages and classifies the results as run-off for

                                      F-25

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

purposes of segment reporting. The Company considers many factors, including the
nature of the segment's insurance products, production sources, distribution
strategies and regulatory environment in determining how to aggregate operating
segments.

The reporting segments follow the same accounting policies used for the
Company's consolidated financial statements and described in the summary of
significant accounting policies. The segments are evaluated based on their net
pre-tax operating results. Net pre-tax operating income (loss) represents net
earned premiums plus investment income less operating expenses for each segment,
and excludes general corporate expenses and other income and expenses of a
general nature. Identifiable assets by segment are those assets used in the
operation of each segment. Identifiable assets are not assigned to run-off
lines.

There are no major customers from whom the Company derives 10% or more of its
revenue. The Company does not engage in foreign operations.

Revenues, income before taxes and identifiable assets of each reporting segment
for the years ended December 31 were as follows:

(in millions)                             2002     2001      2000
------------                            -------   ------   -------
Revenues:
   Earned premiums
      Excess & surplus lines            $ 152.3   $ 36.8   $    --
      Specialty commercial                105.4     54.5      29.8
      Specialty workers' compensation     109.2    126.5      94.6
      Public entity                        11.5      4.1       0.2
      Run-off lines                          --                 --
                                        -------   ------   -------
   Total earned premiums                  378.4    221.9     124.6
   Net investment income
      Excess & surplus lines               10.4      3.3        --
      Specialty commercial                 10.2      6.7       5.6
      Specialty workers' compensation      31.4     42.6      56.0
      Public entity                         0.6      0.2        --
      Run-off lines                          --       --        --
      Corporate & other                     0.3      0.8       0.4
                                        -------   ------   -------
   Total net investment income             52.9     53.6      62.0
   Realized investment gains, net          26.6     17.1      23.3
                                        -------   ------   -------
Total revenue                           $ 457.9   $292.6   $ 209.9
                                        =======   ======   =======

Income (loss) before income tax
   Segment income (loss):
      Excess & surplus lines            $  18.5   $  5.5   $    --
      Specialty commercial                 10.5      5.0      (6.6)
      Specialty workers' compensation      (6.0)   (14.5)   (128.5)
      Public entity                         0.3      0.1      (0.3)
      Run-off lines                       (67.8)      --     (11.9)
                                        -------   ------   -------
                                          (44.5)    (3.9)   (147.3)
   Corporate and other income (loss)       (3.2)    (9.9)     (5.2)
   Realized investment gains, net          26.6     17.1      23.3
                                        -------   ------   -------
Total income (loss) before income tax   $ (21.1)  $  3.3   $(129.2)
                                        =======   ======   =======

                                      F-26

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

The following table represents identifiable assets as of December 31, 2002 and
2001:

(in millions)                       2002       2001
------------                      --------   --------
Excess & surplus lines            $  498.6   $  350.9
Specialty commercial                 351.3      312.7
Specialty workers' compensation    1,324.5    1,156.1
Public entity                         33.4       15.9
Run-off lines                           --         --
Corporate & other                      1.1       27.7
                                  --------   --------
   Total                          $2,208.9   $1,863.3
                                  ========   ========

Included in identifiable assets as of December 31, 2002 was allocated goodwill
$48.5 million for the excess and surplus line segment, $29.8 million for the
specialty commercial segment and $27.1 million for the specialty workers'
compensation segment. Allocated goodwill as of December 31, 2001 was $46.6
million for the excess and surplus lines segment, $28.4 million for the
specialty commercial segment and $27.1 million for the specialty workers'
compensation segment.

15.  Commitments and Contingencies

Argonaut Insurance Company v. Los Angeles Metropolitan Transit Authority. On
August 30, 1996, the Los Angeles County Metropolitan Transportation Authority
("MTA") filed a civil action against Argonaut Insurance Company alleging breach
of contract, breach of the covenant of good faith and fair dealing, and
requesting ancillary relief in the form of an accounting, an injunction and
restitution in connection with allegations regarding failures to perform under
certain contracts of insurance. The MTA contends that it has been damaged by an
unspecified amount.

Argonaut Insurance Company has responded to the complaint, and believes it has
meritorious defenses, and intends to vigorously contest these claims.
Additionally, Argonaut Insurance Company brought certain counterclaims against
the MTA in connection with the facts underlying the lawsuit regarding the
coverage provided under the insurance policy issued, particularly reimbursement
of claims paid on behalf of the MTA by Argonaut Insurance Company. Reimbursement
is being sought on claims because the amounts paid were within the MTA's
deductible limits or above the MTA's policy limits and therefore due either from
the MTA or excess reinsurers under the terms of the policy issued. In the ten
years prior to the dispute, the MTA reimbursed Argonaut Insurance Company for
all such amounts on a regular basis in the ordinary course of business. The
Company currently carries a receivable on its financial statements in the amount
of approximately $48.6 million relating to amounts funded below the deductible
limit or in excess of policy limits and accordingly due under the terms of the
insurance policy. Management has consulted with its attorneys regarding the
merits of the Company's claim and based on these discussions believe the $48.6
million owed to Argonaut Insurance Company to be a valid claim. Further,
management believes the MTA has the financial wherewithall to pay the Company's
claim. In addition to the above amounts, Argonaut Insurance Company is seeking
collection of certain unpaid administrative claim handling fees and prejudgment
interest on all amounts due which are not included in the aforementioned
receivable.

The trial judge for the MTA litigation has ordered that the first stage of this
case be tried during the third quarter of 2003 before a three-judge panel
instead of jury by agreement of the parties. That trial will primarily consider
a portion of Argonaut Insurance Company's counterclaim for sums it contends are
due to it from the MTA. To date the Court has ruled on five motions for summary
adjudication relating to the recoverability of the receivable and the number of
occurrences at issue between the parties. In each instance the Court has adopted
the position asserted by Argonaut Insurance Company. The Company is unable to
estimate the range of any potential loss or recovery.

Voluntary Market Premium Litigation. Argonaut Insurance Company was sued in
sixteen lawsuits brought on behalf of alleged classes of purchasers of
retrospectively rated workers' compensation insurance, alleging that the
defendants, including other compensation insurers, charged the purported class
unlawful premiums. Plaintiffs have threatened to bring similar claims against
Argonaut Insurance Company in several other states, but to date have not. Of the
original sixteen suits filed, all but four have either been dismissed or
judgment entered for defendant at the trial court level, although some rulings
are

                                      F-27

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

subject to appeal or further review. Two of the remaining five have been
determined no longer material, with all but one count having been dismissed and
class certification denied, and one case has been dormant for over two years.
The remaining case has been acted on through appeal to Federal Fifth Circuit
Court, which reversed the trial court's ruling approving class certification.
Argonaut Insurance Company intends to vigorously defend these lawsuits and has
been successful in having a number of them dismissed or stayed. Management is
unable to determine the potential financial impact of lawsuits which remain
pending.

Diamond Woodworks vs. Argonaut Insurance Company. Filed in the Superior Court of
Orange County, California, this case arose out of Argonaut Insurance Company's
alleged mishandling of a workers' compensation claim and alleged fraudulent acts
towards the plaintiff. On June 19, 2000 the jury awarded approximately $700,000
in compensatory damages and $14.0 million in punitive damages against the
Argonaut Insurance Company, which verdict was subsequently confirmed by the
Court. Argonaut Insurance Company filed post judgment motions and the judgment
for punitive damages was reduced to $5.5 million. Argonaut Insurance Company is
pursuing an appeal of the adverse final judgment, and has posted a surety bond
for the judgment pending appeal. The Company has recorded its best estimate of
loss related to this case.

Princeville Hotel v. Argonaut Insurance Company. The underlying case alleges
wrongful denial of a property damage claim originally made in 1991 by the
Princeville Hotel in Hawaii regarding installation of a new roof for that
facility. Additional claims have also been brought for failure to provide a
defense to two contractors listed as additional insureds on the policy. Although
all indemnity and defense obligations arising under the policy in connection
with the underlying claim have been resolved and accrued for by the Company in
prior periods, claims for extra-contractual damages, including punitive damages,
have been brought by the additional insureds or their assigns and are still
pending. The Company is unable, with any degree of certainty, to estimate the
range of any potential loss, or whether such an outcome is probable or remote,
in light of ongoing discovery conducted in the case its investigation of the
matter conducted thus far, but notes that punitive damages in a case of this
nature could be material to the results of the Company, if awarded by a jury.

Lila Mitchell, et al. v. Argonaut Insurance Company, et al. On October 7, 2002,
an action was filed in the Superior Court of Alameda County, California, Case
No. 2002067900 by Western MacArthur Company, MacArthur Company, Western Asbestos
Company and certain other individual claimants against Argonaut Insurance
Company ("Argonaut"), The Home Insurance Company and The Hartford Accident &
Indemnity Company. This case seeks coverage for claims already at issue in the
previously filed action entitled Western MacArthur Company and MacArthur Company
v. United States Fidelity & Guaranty Co., The Saint Paul Companies, Inc., St.
Paul Fire & Marine Ins. Co., and Argonaut Insurance Company, Alameda Superior
Court Case No. 721595-7 seeking adjudication of the same issues as presented in
that action. Argonaut's sole nexus to these suits is nine construction wrap-up
policies with an occurrence limit of $200,000 per policy issued to Western
MacArthur Company and Western Asbestos Company, respectively, for liability
arising out of work performed on five construction sites in the 1960s and 70's.
Management estimates that approximately 1% of the claimants in the purported
class action suits against Western MacArthur were associated in any way with the
job sites covered by the Argonaut policies. Argonaut has in the ordinary course
of business set up reserves in connection with these claims in prior years.
Based on the above circumstances, management's evaluation of Argonaut's exposure
to the Western MacArthur litigation remains unchanged and no adjustments to the
existing reserves are planned based on any of the recent events in this series
of lawsuits.

The insurance subsidiaries of the Company are parties to legal actions
incidental to their business. Based on the advice of counsel, management of the
Company believes that the resolution of these matters will not materially affect
the Company's financial condition or results of operations.

16.  Leases

Rockwood has entered into a fifteen-year capital lease agreement for its home
office building with an affiliate of one of its former owners. Under the terms
of this lease, Rockwood has the option to purchase the property at any time
during the lease for a scheduled price equal to all of the remaining fixed
payments discounted at 8.5%, including a required payment of $2.5 million at the
end of the lease term. If Rockwood fails to exercise such option, the lessor may
require Rockwood to purchase the property for $2.5 million at the conclusion of
the lease. For financial reporting purposes, the lease has been recorded in

                                      F-28

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

other liabilities at its present value using a discount rate of 8.5%. The future
minimum rental payments required under this lease are as follows.

(in millions)   Amount Due
------------    ----------
2003               $0.7
2004                0.7
2005                0.7
2006                0.7
2007                0.7
Thereafter          5.3
                   ----
Total              $8.8
                   ====

The Company leases additional office space under lease agreements that expire at
various intervals and are subject to renewal options at market rates prevailing
at the time of renewal. At December 31, 2002, future minimum payments under
non-cancelable operating leases are as follows.

(in millions)   Amount Due
------------    ----------
2003              $ 4.5
2004                3.5
2005                3.0
2006                1.3
2007                0.6
Thereafter          1.6
                  -----
Total             $14.5
                  =====

17.  Run-off Lines

The Company has discontinued active underwriting of certain lines of business,
including general liability, assumed reinsurance and medical malpractice.
Included in the reinsurance assumed and general liability are exposures to
claims for asbestos and environmental liabilities. The Company is still
obligated to pay losses incurred on these lines which include general liability
and medical malpractice policies written in past years. The lines currently in
run-off are characterized by long elapsed periods between the occurrence of a
claim and any ultimate payment to resolve the claim. The Company utilizes a
specialized staff dedicated to administer and settle these claims. The following
table presents the Company's reserves for run-off lines as of December 31:

(in millions)              2002       2001
------------             --------   --------
Run-off lines:
   Reinsurance assumed   $  173.9   $  158.4
   Other liability          100.4       47.4
   Medical malpractice       18.3       18.6
                         --------   --------
                            292.6      224.4
Continuing lines            989.0      923.4
                         --------   --------
Total reserves           $1,281.6   $1,147.8
                         ========   ========

The following table presents the Company's net underwriting loss from run-off
lines for the three years ended December 31:

                                      F-29

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(in millions)                   2002      2001     2000
------------                   -------   ------   -------
Run-off lines:
   Reinsurance assumed         $ (28.8)  $  4.9   $  (8.3)
   Other liability               (38.8)    (9.5)     (3.1)
   Medical malpractice            (0.2)     4.6      (0.5)
                               -------   ------   -------
                                 (67.8)      --     (11.9)
Continuing lines                 (29.3)   (56.7)   (197.1)
                               -------   ------   -------
Underwriting loss                (97.1)   (56.7)   (209.0)
Corporate and other expenses      (3.5)   (10.8)     (5.6)
                               -------   ------   -------
Total underwriting loss        $(100.6)  $(67.5)  $(214.6)
                               =======   ======   =======

The Company has received asbestos and environmental liability claims arising out
of general liability coverage primarily written in the 1970's and into the mid
1980's. Environmental and asbestos claims have originated from polices directly
written by the company and from reinsurance assumed during this period,
including a portion assumed from the London market. Polices written under the
direct segment did not include coverages for Fortune 500 companies, which
industry analysts believe the bulk of the exposures exist. For the assumed
business, the majority of the Company's exposure is for the second and third
wave of asbestos claims, which is assumed to be lower than the primary company's
exposure. The following table represents the total reserves for the Company's
asbestos exposure as of December 31:

(in millions)                            2002     2001     2000
------------                            ------   ------   ------
Direct written
   Case reserves                        $ 15.9   $ 16.2   $ 20.6
   ULAE                                    4.3      1.5      1.2
   IBNR                                   70.4      8.3      2.9
                                        ------   ------   ------
      Total direct written reserves       90.6     26.0     24.7
Assumed domestic
   Case reserves                        $ 28.8   $ 25.3   $ 24.9
   ULAE                                    3.2      4.0      4.3
   IBNR                                   43.5     31.2     33.7
                                        ------   ------   ------
      Total assumed domestic reserves     75.5     60.5     62.9
Assumed London
   Case reserves                          13.0     12.1     11.1
   ULAE                                    1.4      1.1      1.1
   IBNR                                   19.3      6.4      6.4
                                        ------   ------   ------
      Total assumed London reserves       33.7     19.6     18.6
                                        ------   ------   ------
Total asbestos reserves                 $199.8   $106.1   $106.2
                                        ======   ======   ======

Beginning in 1986, standard liability policies contained an express exclusion
for asbestos and environmental related damage. During 2002, management
identified a limited number of claims associated with certain general liability
policies issued through one office from 1985 to the early 1990's which did not
exclude absolute asbestos coverage. Management has conducted extensive analysis
on the policy files and believes this is an isolated incident involving one
field office over a specified period of time. In the third quarter of 2002, the
Company strengthened its asbestos reserves by $7.0 million related to claims
under such policies.

Reserves for environmental and asbestos claims cannot be estimated with
traditional loss reserving techniques that rely on historical accident year loss
development factors. The uncertainty in the environmental and asbestos reserves
estimates arises from several factors including lack of historical data,
inapplicability of standard actuarial projection techniques, uncertainty with
regards to claim costs, coverage interpretations, and the judicial, statutory
and regulatory provisions under which the claims may be ultimately resolved. It
is impossible to predict how the courts will interpret coverage issues and these
resolutions may have a material impact on the ultimate resolution of the
environmental and asbestos liabilities. The Company uses a variety of estimation
methods to calculated reserves as a whole; however, reserves for environmental
and asbestos

                                      F-30

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

claims were determined based on the reported year method. This method relies
most heavily on the Company's historical claims and severity information. Other
methods rely more heavily on industry information. Further, the Company engages
an outside consulting actuary to perform semi-annual analysis on the Company's
exposure to run-off lines.

During 2002, the Company reached settlements with 23 policyholders for amounts
that totaled approximately $8.3 million. No settlements were pending as of
December 31, 2002. The Company continues to actively pursue settlements where
the facts of the claims warrant this course of action.

Case reserves and expense reserves for costs have been established where
sufficient information has been developed to indicate the involvement of a
specified insurance policy. Additionally, incurred but not reported reserves
have been established to cover additional exposures on both known and unasserted
claims. The following table details out paid losses and loss reserves for
environmental and asbestos claims as of December 31, 2002:

<TABLE>
<CAPTION>
                                                                          Percent of total
(in millions, except number     Number of     Total paid                 environmental and
     of policyholders)        policyholders   claims (1)   Reserves (1)  asbestos reserves
---------------------------   -------------   ----------   -----------   -----------------
<S>                                <C>           <C>          <C>            <C>
Direct business                    296           $ 4.3        $ 15.5           8.7%
Assumed - domestic                  89             7.3          41.7          23.4%
Assumed - London                   370             2.2          19.0          10.7%
                                   ---           -----        ------         -----
                                                  13.8          76.2          42.7%

Unallocated IBNR                                               102.1          57.3%
                                                 -----        ------         -----
Total                              755           $13.8        $178.3         100.0%
                                                 =====        ======         =====
</TABLE>

(1) net of reinsuance ended

Based on internal and external studies of its exposures in the run-off lines,
the Company strengthened its reserves by $52.8 million in the fourth quarter of
2002 resulting in a charge to earnings of the same amount. Management uses
various actuarial methods to determine the potential range of losses for the
run-off lines in total, which resulted in a range of potential ultimate
liability, net of reinsurance, of $146.7 million to $329.7 million. As discussed
in note 5, the Company has ceded $40.0 million of the increase in these reserves
to the adverse development cover. The ceding of these the reserve strengthening
to the adverse development coverage had no impact on earnings. After considering
the reserve strengthening in the fourth quarter of 2002, management has recorded
its best estimate of reserves. Although management has recorded its best
estimate of loss reserves utilizing internal and consulting actuaries, due to
the uncertainties of estimation of liabilities that may arise as discussed
herein, further deterioration of claims could occur in the future.

18.  Permitted Statutory Accounting Practices

The Company's insurance subsidiaries prepare their statutory financial
statements in accordance with accounting practices prescribed or permitted by
the insurance departments of the state in which they are domiciled. Effective
January 1, 2001, the insurance subsidiaries were required to prepare their
statutory based financial statements in accordance with the National Association
of Insurance Commissioners' Accounting Practices and Procedures ("NAIC SAP")
subject to any deviations prescribed or permitted by the insurance department of
their state of domicile. Statutory accounting changes adopted to conform to the
provisions of NAIC SAP are reported as a cumulative effect to unassigned surplus
in the period of the change. As a result of the changes in accounting principles
adopted to conform to the provisions of NAIC SAP, the Company recorded an
increase in unassigned surplus of $24.6 million in 2001, primarily attributable
to the recording of a deferred tax asset.

Permitted statutory accounting practices encompass all accounting practices not
so prescribed but which the appropriate regulatory agency has allowed in
practice. In 2002, Argonaut Insurance Company received a permitted practices
letter from the California Department of Insurance allowing a parcel of property
that sold on March 21, 2003 to be recorded at the contracted sales price as of
December 31, 2002. This permitted practice increased statutory surplus by
approximately $23.0 million. No other permitted practices are currently applied
by the insurance subsidiaries.

                                      F-31

<PAGE>

                              ARGONAUT GROUP, INC.
             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

19.  Acquisition

On August 23, 2001, pursuant to an Agreement and Plan of Merger, and Assignment
and Assumption Agreement (the "Agreement") dated May 7, 2001 and August 15, 2001
respectively, the Company acquired all of the outstanding stock of Front Royal.
Front Royal operates specialty niche insurance underwriters with particular
expertise in excess and surplus lines and workers' compensation for targeted
types of businesses. Its principal subsidiaries are Colony Insurance Group,
located in Richmond, Virginia; Rockwood Casualty Insurance Company, located in
Rockwood, Pennsylvania; and The Redwoods Group, a managing general underwriter,
headquartered in Morrisville, North Carolina. The Company paid $165 million in
cash for all the issued and outstanding stock of Front Royal as of the date of
acquisition. During 2002, the Company paid an additional $3.3 million to the
former shareholders' of Front Royal, representing additional consideration and
interest, and was recorded as an increase to goodwill. Front Royal's operating
results are included in the Company's consolidated statement of income from the
date of acquisition. The acquisition of the Front Royal insurance companies has
significantly added to Argonaut Group's growing specialty insurance franchise,
adding products and underwriting capabilities in areas complementary to its
traditional products.

The Front Royal acquisition was recorded under the purchase method of accounting
and in accordance with SFAS No. 141 . The purchase price has been allocated to
assets acquired and liabilities assumed based on fair market values at the date
of acquisition. The fair value of assets acquired and liabilities assumed is
summarized as follows:

(in millions)
------------
Fair value of assets acquired   $ 466.4
Goodwill                           78.3
Liabilities assumed              (376.4)
                                -------
Cash paid for acquisition         168.3
Cash acquired                      (2.1)
                                -------
Net cash paid                   $ 166.2
                                =======

Included in liabilities assumed was debt of $26.3 million, which was re-paid by
the Company subsequent to acquisition.

The following pro forma consolidated data present operating results of the
Company as if the acquisition of Front Royal had occurred January 1, 2001 and
2000, respectively. The pro forma results are not intended to be indicative of
the consolidated results of operations that would have been reported if the
acquisition had occurred at the dates indicated or of the consolidated results
of future operations.

                                          Years ended December 31,
                                          ------------------------
(in millions, except per share amounts)        2001     2000
--------------------------------------        ------   ------
                                                (unaudited)
Revenue                                       $400.0   $346.2
Net income (loss)                                4.6    (61.9)
Per share data
   Primary                                    $ 0.21   $(2.80)
   Fully diluted                              $ 0.21   $(2.80)

20.  Quarterly Financial Data -- Unaudited

The following table represents unaudited quarterly financial data for the years
ended December 31, 2002 and 2001. In the opinion of management, all adjustments
necessary to present fairly the results of operations for such periods have been
made. Total revenues and net income include gains on the sale of investments.
The Company cannot anticipate when or if similar gains may occur in the future.
Since financial results rely heavily on estimates, caution should be used in
drawing specific conclusions from quarterly consolidated results.

                                      F-32

<PAGE>

<TABLE>
<CAPTION>
                                                    Three Months Ended
                                          ---------------------------------------
(in millions, except per share amounts)   March 31   June 30   Sept. 30   Dec. 31
--------------------------------------    --------   -------   --------   -------
<S>                                        <C>        <C>       <C>       <C>
2002

Total revenues                             $106.0     $103.7    $110.4    $ 137.8
Net income (loss) before taxes               10.8        9.3       6.1      (47.3)
Net income (loss)                             7.5        6.1       4.7     (105.3)
Net income (loss) per common share
   Basic*                                  $ 0.35     $ 0.28    $ 0.22    $ (4.88)
   Diluted*                                $ 0.34     $ 0.28    $ 0.22    $ (4.88)

Comprehensive income (loss)                  12.0        5.7     (22.4)    (103.1)

2001

Total revenues                             $ 45.4     $ 55.7    $ 72.4    $ 119.1
Net income (loss) before taxes               (0.4)       2.7       1.9       (0.9)
Net income (loss)                             0.3        1.9       1.3       (0.6)
Net income (loss) per common share
   Basic*                                  $ 0.02     $ 0.09    $ 0.06    $ (0.03)
   Diluted*                                $ 0.02     $ 0.09    $ 0.06    $ (0.03)

Comprehensive income (loss)                 (15.5)       2.8     (10.9)       3.0
</TABLE>

*    Basic and diluted earnings per share are computed independently for each
     quarter and full year based on the respective average number of common
     shares outstanding; therefore, the sum of the quarterly net income per
     share data may not equal the net income per share for the year.

The fourth quarter of 2002 results of operations were adversely impacted by the
reserve strengthening of $52.8 million in the run-off lines as discussed in note
17 and by the establishment of a valuation allowance of $71.9 million on
deferred taxes as discussed in note 8.

                                      F-33