SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C.  20549





FORM
10-Q





QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT


OF
1934





For the
Quarter Ended June 30, 2008




Commission
File No. 001-12257




MERCURY
GENERAL CORPORATION


(Exact
name of registrant as specified in its charter)








California
            95-2211612(State
      or other jurisdiction
            (I.R.S.
      Employerof
      incorporation or organization)
            Identification
      No.)





4484
      Wilshire Boulevard, Los Angeles, California
            90010(Address
      of principal executive offices)
            (Zip
      Code)





Registrant's
telephone number, including area code: (323) 937-1060





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 o





Indicate
by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definition of “large accelerated filer,” “accelerated filer,” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check one):




Large
accelerated filer   x                                                                                
       Accelerated filer  o


Non-accelerated
filer  o
(Do not check if a smaller reporting
company)           Smaller
reporting company  o




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





Yes  o              No  x





At July
31, 2008, the Registrant had issued and outstanding an aggregate of54,743,913shares of its Common Stock.












PART
I - FINANCIAL INFORMATION
 
 Item
      1.
              Financial
      Statements
 
 MERCURY
GENERAL CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
BALANCE SHEETS
 (in
thousands, except share data)
 (unaudited)
 
 June 30,
              
              December 31,2008
              
              2007ASSETSInvestments:Fixed
      maturities available for sale, at fair value (amortized cost:
      $2,860,455)
              $
              -
              
              $
              2,887,760Fixed
      maturities trading, at fair value (amortized cost:
    $2,814,579)
              
              2,772,028
              
              
              -Equity
      securities available for sale, at fair value (cost:
    $317,869)
              
              -
              
              
              413,123Equity
      securities trading, at fair value (cost: $397,892;
$13,126)
              
              493,143
              
              
              15,114Short-term
      investments, at fair value (amortized cost: $219,197;
      $272,678)
              
              218,884
              
              
              272,678Total
      investments
              
              3,484,055
              
              
              3,588,675Cash
              
              43,239
              
              
              48,245Receivables:Premiums
      receivable
              
              279,478
              
              
              294,663Premium
      notes
              
              29,665
              
              
              27,577Accrued
      investment income
              
              36,850
              
              
              36,436Other
              
              7,595
              
              
              9,010Total
      receivables
              
              353,588
              
              
              367,686Deferred
      policy acquisition costs
              
              205,954
              
              
              209,805Fixed
      assets, net
              
              188,504
              
              
              172,357Other
      assets
              
              35,444
              
              
              27,728Total
      assets
              $
              4,310,784
              
              $
              4,414,496LIABILITIES
      AND SHAREHOLDERS' EQUITYLosses
      and loss adjustment expenses
              $
              1,020,932
              
              $
              1,103,915Unearned
      premiums
              
              919,622
              
              
              938,370Notes
      payable
              
              154,067
              
              
              138,562Accounts
      payable and accrued expenses
              
              119,402
              
              
              125,755Current
      income taxes
              
              4,056
              
              
              3,150Deferred
      income taxes
              
              3,149
              
              
              30,852Other
      liabilities
              
              223,228
              
              
              211,894Total
      liabilities
              
              2,444,456
              
              
              2,552,498Commitments
      and contingenciesShareholders'
      equity:Common
      stock without par value or stated value: (Authorized 70,000,000 shares;
      issued and outstanding 54,743,913 shares in 2008 and 54,729,913 shares in
      2007)
              
              70,250
              
              
              69,369Accumulated
      other comprehensive income
              
              175
              
              
              80,557Retained
      earnings
              
              1,795,903
              
              
              1,712,072Total
      shareholders' equity
              
              1,866,328
              
              
              1,861,998Total
      liabilities and shareholders’ equity
              $
              4,310,784
              
              $
              4,414,496
 
 See
accompanying notes to the consolidated financial statements.
 
  2
  MERCURY
GENERAL CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF INCOME
 (in
thousands, except share and per share data)
 (unaudited)
 
 Three
      Months Ended June 30,2008
              
              
              2007Revenues:Earned
      premiums
              
              $
              711,204
              
              
              $
              754,076Net
      investment income
              
              
              38,995
              
              
              
              40,795Net
      realized investment gains
              
              
              36,496
              
              
              
              9,989Other
              
              
              1,202
              
              
              
              1,225Total
      revenues
              
              
              787,897
              
              
              
              806,085Expenses:Losses
      and loss adjustment expenses
              
              
              489,545
              
              
              
              504,378Policy
      acquisition costs
              
              
              157,441
              
              
              
              165,685Other
      operating expenses
              
              
              43,169
              
              
              
              38,636Interest
              
              
              1,486
              
              
              
              2,269Total
      expenses
              
              
              691,641
              
              
              
              710,968Income
      before income taxes
              
              
              96,256
              
              
              
              95,117Provision
      for income taxes
              
              
              25,530
              
              
              
              25,608Net
      income
              
              $
              70,726
              
              
              $
              69,509BASIC
      EARNINGS PER SHARE (weighted average shares outstanding 54,733,880 in 2008
      and 54,697,028 in 2007)
              
              $
              1.29
              
              
              $
              1.27DILUTED
      EARNINGS PER SHARE (weighted average shares 54,997,272 as adjusted by
      263,392 for the dilutive effect of options in 2008 and 54,847,531 as
      adjusted by 150,503 for the dilutive effect of options in
      2007)
              
              $
              1.29
              
              
              $
              1.27Dividends
      declared per share
              
              $
              0.58
              
              
              $
              0.52
 
 See
accompanying notes to the consolidated financial statements.
 
  3
  MERCURY
GENERAL CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF INCOME
 (in
thousands, except share and per share data)
 (unaudited)
 
 Six
      Months Ended June 30,2008
              
              
              2007Revenues:Earned
      premiums
              
              $
              1,432,120
              
              
              $
              1,509,828Net
      investment income
              
              
              78,294
              
              
              
              82,940Net
      realized investment (losses) gains
              
              
              (55,641
              )
              
              
              8,947Other
              
              
              2,496
              
              
              
              2,572Total
      revenues
              
              
              1,457,269
              
              
              
              1,604,287Expenses:Losses
      and loss adjustment expenses
              
              
              973,018
              
              
              
              1,014,137Policy
      acquisition costs
              
              
              317,582
              
              
              
              330,896Other
      operating expenses
              
              
              87,484
              
              
              
              78,003Interest
              
              
              1,996
              
              
              
              4,635Total
      expenses
              
              
              1,380,080
              
              
              
              1,427,671Income
      before income taxes
              
              
              77,189
              
              
              
              176,616Provision
      for income taxes
              
              
              10,424
              
              
              
              46,654Net
      income
              
              $
              66,765
              
              
              $
              129,962BASIC
      EARNINGS PER SHARE (weighted average shares outstanding 54,731,897 in 2008
      and 54,685,473 in 2007)
              
              $
              1.22
              
              
              $
              2.38DILUTED
      EARNINGS PER SHARE (weighted average shares 54,894,590 as adjusted by
      162,693 for the dilutive effect of options in 2008 and 54,828,667 as
      adjusted by 143,194 for the dilutive effect of options in
      2007)
              
              $
              1.22
              
              
              $
              2.37Dividends
      declared per share
              
              $
              1.16
              
              
              $
              1.04
 
 See
accompanying notes to the consolidated financial statements.
 
  4
  MERCURY
GENERAL CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF COMPREHENSIVE INCOME
 (in
thousands)
 (unaudited)
 
 Three
      Months Ended June 30,2008
              
              
              2007Net
      income
              
              $
              70,726
              
              
              $
              69,509Other
      comprehensive income (loss), before tax:Net
      unrealized losses on available-for-sale securities
              
              
              -
              
              
              
              (29,538
              )Gains
      on cash flow hedge
              
              
              713
              
              
              
              -Other
      comprehensive income (loss), before tax
              
              
              713
              
              
              
              (29,538
              )Income
      tax benefit related to net unrealized losses on available-for-sale
      securities
              
              
              -
              
              
              
              (10,321
              )Income
      tax expense related to gains on cash flow hedge
              
              
              249
              
              
              
              -Comprehensive
      income, net of tax
              
              $
              71,190
              
              
              $
              50,292
 
 See
accompanying notes to the consolidated financial statements.
 
  5
  MERCURY
GENERAL CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF COMPREHENSIVE INCOME
 (in
thousands)
 (unaudited)
 
 Six
      Months Ended June 30,2008
              
              
              2007Net
      income
              
              $
              66,765
              
              
              $
              129,962Other
      comprehensive income (loss), before tax:Net
      unrealized losses on available-for-sale securities
              
              
              -
              
              
              
              (15,203
              )Gains
      on cash flow hedge
              
              
              269
              
              
              
              -Other
      comprehensive income (loss), before tax
              
              
              269
              
              
              
              (15,203
              )Income
      tax benefit related to net unrealized losses on available-for-sale
      securities
              
              
              -
              
              
              
              (5,321
              )Income
      tax expense related to gains on cash flow hedge
              
              
              94
              
              
              
              -Comprehensive
      income, net of tax
              
              $
              66,940
              
              
              $
              120,080
 
 See
accompanying notes to the consolidated financial statements.
 
  6
  MERCURY
GENERAL CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF CASH FLOWS
 (in
thousands)
 (unaudited)
 
 Six
      Months Ended June 30,2008
              
              
              2007Cash
      flows from operating activities:Net
      income
              
              $
              66,765
              
              
              $
              129,962Adjustments
      to reconcile net income to net cash provided by operating
      activities:Depreciation
      and amortization
              
              
              13,075
              
              
              
              12,821Net
      realized investment losses (gains)
              
              
              55,641
              
              
              
              (8,947
              )Bond
      amortization, net
              
              
              3,643
              
              
              
              2,079Excess
      tax benefit from exercise of stock options
              
              
              (59
              )
              
              
              (170
              )Decrease
      (increase) in premiums receivable
              
              
              15,185
              
              
              
              (4,806
              )Increase
      in premium notes receivable
              
              
              (2,088
              )
              
              
              (1,951
              )Decrease
      (increase) in deferred policy acquisition costs
              
              
              3,851
              
              
              
              (4,119
              )(Decrease)
      increase in unpaid losses and loss adjustment expenses
              
              
              (82,983
              )
              
              
              1,860(Decrease)
      increase in unearned premiums
              
              
              (18,748
              )
              
              
              13,431Decrease
      in accounts payable and accrued expenses
              
              
              (6,353
              )
              
              
              (3,628
              )Decrease
      in liability for taxes
              
              
              (26,832
              )
              
              
              (14,404
              )Net
      decrease (increase) in securities held for trading, net of realized gains
      and losses
              
              
              1,792
              
              
              
              (8,493
              )Share-based
      compensation
              
              
              327
              
              
              
              292Other,
      net
              
              
              (10,283
              )
              
              
              1,450Net
      cash provided by operating activities
              
              
              12,933
              
              
              
              115,377Cash
      flows from investing activities:Fixed
      maturities available for sale in nature:Purchases
              
              
              (412,022
              )
              
              
              (1,055,169
              )Sales
              
              
              329,915
              
              
              
              844,592Calls
      or maturities
              
              
              124,949
              
              
              
              176,510Equity
      securities available for sale in nature:Purchases
              
              
              (238,349
              )
              
              
              (229,900
              )Sales
              
              
              176,757
              
              
              
              233,212Increase
      in payable for securities, net
              
              
              14,335
              
              
              
              7,278Net
      decrease (increase) in short-term investments
              
              
              53,481
              
              
              
              (1,271
              )Purchase
      of fixed assets
              
              
              (29,757
              )
              
              
              (26,589
              )Sale
      of fixed assets
              
              
              776
              
              
              
              176Other,
      net
              
              
              6,913
              
              
              
              (3,469
              )Net
      cash provided by (used in) investing activities
              
              $
              26,998
              
              
              $
              (54,630
              )Cash
      flows from financing activities:Dividends
      paid to shareholders
              
              $
              (63,491
              )
              
              $
              (56,887
              )Proceeds
      from bank loan
              
              
              18,000
              
              
              
              -Proceeds
      from stock options exercised
              
              
              495
              
              
              
              1,834Mortgage
      loan pay-off
              
              
              -
              
              
              
              (11,250
              )Excess
      tax benefit from exercise of stock options
              
              
              59
              
              
              
              170Net
      cash used in financing activities
              
              
              (44,937
              )
              
              
              (66,133
              )Net
      decrease in cash
              
              
              (5,006
              )
              
              
              (5,386
              )Cash:Beginning
      of the period
              
              
              48,245
              
              
              
              47,606End
      of the period
              
              $
              43,239
              
              
              $
              42,220Supplemental
      disclosures of cash flow information:Interest
      paid during the period
              
              $
              2,769
              
              
              $
              4,534Income
      taxes paid during the period
              
              $
              37,061
              
              
              $
              56,062Net
      realized gains from sale of investments.
              
              $
              15,007
              
              
              $
              7,631
 
 See
accompanying notes to the consolidated financial statements.
 
  7
  MERCURY
GENERAL CORPORATION & SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 (unaudited)
 
 
 1.
              Basis
      of Presentation
 
 The preparation of financial statements
in conformity with U.S. generally accepted accounting principles (“GAAP”)
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. The most significant assumptions in the
preparation of these consolidated financial statements relate to losses and loss
adjustment expenses. Actual results could differ materially from those estimates
(See Note 1 “Significant Accounting Policies” of Notes to Consolidated Financial
Statements in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2007).
 
 The financial data of Mercury General
Corporation and its subsidiaries (collectively, the “Company”) included herein
have been prepared without audit. In the opinion of management, all material
adjustments of a normal recurring nature necessary to present fairly the
Company’s financial position at June 30, 2008 and the results of operations,
comprehensive income and cash flows for the periods presented have been made.
Operating results and cash flows for the six months ended June 30, 2008 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2008.
 
 Certain
reclassifications have been made to the prior-period balances to conform to the
current-period presentation.
 
 2.
              Recently
      Adopted Accounting Standards
 
 Effective January 1, 2008, the Company
adopted Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair
Value Measurements” (“SFAS No. 157”). SFAS No. 157 provides a single definition
of fair value, together with a framework for measuring it, and requires
additional disclosure about the use of fair value to measure assets and
liabilities. SFAS No. 157 emphasizes that fair value is a market-based
measurement, not an entity-specific measurement, and sets out a fair value
hierarchy with the highest priority being quoted prices in active markets. The
adoption of SFAS No. 157 did not have a material impact on the Company’s
consolidated financial statements.
 
 Effective January 1, 2008, the Company
adopted SFAS No. 159, “The Fair Value Option for Financial Assets and Financial
Liabilities - Including an Amendment of FASB Statement No. 115” (“SFAS No.
159”). SFAS No. 159 permits an entity to measure certain financial assets and
financial liabilities at fair value. Entities that elect the fair value option
will report unrealized gains and losses in earnings at each subsequent reporting
date. The Company elected to apply the fair value option of SFAS No. 159 to all
short-term investments and all available-for-sale fixed maturity and equity
securities existing at the time of adoption and similar securities acquired
subsequently unless otherwise noted at the time when the eligible item is first
recognized, including hybrid financial instruments with embedded derivatives
that would otherwise need to be bifurcated. The primary reasons for electing the
fair value option were simplification and cost-benefit considerations as well as
expansion of use of fair value measurement consistent with the long-term
measurement objectives of the Financial Accounting Standards Board (“FASB”) for
accounting for financial instruments.
 
 The transition adjustment to beginning
retained earnings related to the adoption of SFAS No. 159 was a gain of $80.5
million, net of deferred taxes of $43.3 million, all of which related to
applying the fair value option to fixed maturity and equity securities available
for sale. This adjustment was reflected as a reclassification of accumulated
other comprehensive income to retained earnings. Both the fair value and
carrying value of such securities were $3.3 billion on January 1, 2008,
immediately prior to the adoption of the fair value option.
 
 3.
              Fair
      Value of Financial Instruments
 
 The following table presents gains
(losses) due to changes in fair value for items measured at fair value pursuant
to election of the fair value option under SFAS No. 159:
 
 Three
      Months Ended
              
              Six
      Months EndedJune 30,
      2008
              
              June 30,
      2008(in
      thousands)Short-term
      investments
              $
              51
              
              $
              (313
              )Fixed
      maturity securities
              
              (13,554
              )
              
              (69,857
              )Equity
      securities
              
              36,077
              
              
              (543
              )Total
              $
              22,574
              
              $
              (70,713
              )
 
  8
  The gains and losses due to changes in
fair value for items measured at fair value pursuant to election of the fair
value option are included in net realized investment gains (losses) in the
Company’s consolidated statements of income, while the interest and dividend
income on the investment holdings are recognized on an accrual basis on each
measurement date and are included in net investment income in the Company’s
consolidated statements of income.
 
 In February 2006, the FASB issued SFAS
No. 155, “Accounting for Certain Hybrid Financial Instruments” (“SFAS No. 155”).
SFAS No. 155 permits hybrid financial instruments that contain an embedded
derivative that would otherwise require bifurcation to irrevocably be accounted
for at fair value, with changes in fair value recognized in the statement of
income. The Company adopted SFAS No. 155 on January 1, 2007. Since SFAS No. 159
incorporates accounting and disclosure requirements that are similar to those of
SFAS No. 155, effective January 1, 2008, SFAS No. 159 rather than SFAS No. 155
is applied to the Company’s fair value elections for hybrid financial
instruments.
 
 4.
              Fair
      Value Measurement
 
 SFAS No. 157 establishes a fair value
hierarchy that prioritizes the inputs to valuation techniques used to measure
fair value. The fair value of a financial instrument is the amount that would be
received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date (the exit
price). The hierarchy gives the highest priority to level 1 inputs and the
lowest priority to level 3 inputs. In general, fair values determined by level 1
inputs utilize quoted prices (unadjusted) in active markets for identical assets
or liabilities that the Company has the ability to access. Fair values
determined by level 2 inputs utilize inputs other than quoted prices included in
level 1 that are observable for the asset or liability, either directly or
indirectly, such as interest rates and yield curves that are observable at
commonly quoted intervals. Level 3 inputs are unobservable inputs for the asset
or liability, and include situations where there is little, if any, market
activity for the asset or liability. In certain cases, the inputs used to
measure fair value may fall into different levels of the fair value hierarchy.
In such cases, the level in the fair value hierarchy within which the fair value
measurement in its entirety falls has been determined based on the lowest level
input that is significant to the fair value measurement in its entirety. The
Company’s assessment of the significance of a particular input to the fair value
measurement in its entirety requires judgment, and considers factors specific to
the asset or liability.
 
 The Company’s financial instruments are
classified within level 1 or level 2 of the fair value hierarchy
because they are valued using quoted market prices, broker or dealer quotations,
or alternative pricing sources with reasonable levels of price transparency. The
types of instruments valued based on quoted market prices in active markets
include most U.S. government and agency securities, active listed equities
and most money market securities. Such instruments are generally classified
within level 1 of the fair value hierarchy. The types of instruments valued
based on quoted prices for similar assets or liabilities in active markets,
executable quotes for assets and liabilities in less active markets, or inputs
derived from observable market data include most corporate bonds, most mortgage
products, redeemable and non-redeemable preferred stocks, state, municipal and
provincial obligations, and notes payable. Such instruments are generally
classified within level 2 of the fair value hierarchy.
 
 The Company’s total financial
instruments at fair value are reflected in the consolidated statements of
financial condition on a trade-date basis. Related unrealized gains or losses
are recognized in net realized investment gains (losses) in the consolidated
statements of income. Fair value measurements are not adjusted for transaction
costs.
 
  9
  The following table presents
information about the Company’s assets and liabilities measured at fair value on
a recurring basis as of June 30, 2008, and indicates the fair value hierarchy of
the valuation techniques utilized by the Company to determine such fair
value:
 
 Quoted
      Prices in Active Markets
                for
                Identical
      Assets
              
              
              Significant
                Other
                Observable
                Inputs
              
              
              Significant
      Unobservable
                Inputs
              
              
              Balance
                as
      of
                June 30,(Level
      1)
              
              
              (Level
      2)
              
              
              (Level
      3)
              
              
              2008(in
      thousands)AssetsFixed
      maturity securities:U.S.
      government bonds and agencies
              
              $
              24,683
              
              
              $
              -
              
              
              $
              -
              
              
              $
              24,683Obligations
      of states and political subdivisions
              
              
              -
              
              
              
              2,410,287
              
              
              
              -
              
              
              
              2,410,287Mortgage-backed
      securities
              
              
              -
              
              
              
              224,817
              
              
              
              -
              
              
              
              224,817Corporate
      securities
              
              
              -
              
              
              
              111,335
              
              
              
              -
              
              
              
              111,335Redeemable
      preferred stock
              
              
              -
              
              
              
              906
              
              
              
              -
              
              
              
              906Equity
      securities:Common
      stock:Public
      utilities
              
              
              62,497
              
              
              
              -
              
              
              
              -
              
              
              
              62,497Banks,
      trusts and insurance companies
              
              
              18,175
              
              
              
              -
              
              
              
              -
              
              
              
              18,175Industrial
      and other
              
              
              389,327
              
              
              
              -
              
              
              
              -
              
              
              
              389,327Non-redeemable
      preferred stock
              
              
              -
              
              
              
              23,144
              
              
              
              -
              
              
              
              23,144Short-term
      investments
              
              
              218,884
              
              
              
              -
              
              
              
              -
              
              
              
              218,884Derivative
      contracts
              
              
              4,932
              
              
              
              7,242
              
              
              
              -
              
              
              
              12,174Total
      assets at fair value
              
              $
              718,498
              
              
              $
              2,777,731
              
              
              $
              -
              
              
              $
              3,496,229LiabilitiesNotes
      payable
              
              
              -
              
              
              
              131,837
              
              
              
              -
              
              
              
              131,837Derivative
      contracts
              
              
              6,337
              
              
              
              -
              
              
              
              -
              
              
              
              6,337Other
              
              
              9,289
              
              
              
              -
              
              
              
              -
              
              
              
              9,289Total
      liabilities at fair value
              
              $
              15,626
              
              
              $
              131,837
              
              
              $
              -
              
              
              $
              147,463
 
 5.
              Share-Based
      Compensation
 
 The
Company accounts for share-based compensation in accordance with SFAS No. 123
(revised 2004), “Share-Based Payment” (“SFAS No. 123R”), using the modified
prospective transition method. Under this transition method, share-based
compensation expense includes compensation expense for all share-based
compensation awards granted prior to, but not yet vested as of, January 1, 2006,
based on the grant-date fair value estimated in accordance with the original
provisions of SFAS No. 123, “Accounting for Stock-Based Compensation.”
Share-based compensation expense for all share-based payment awards granted or
modified on or after January 1, 2006 is based on the grant-date fair value
estimated in accordance with the provisions of SFAS No. 123R. The Company
recognizes these compensation costs on a straight-line basis over the requisite
service period of the award, which is the option vesting term of four or five
years, for only those shares expected to vest. The fair value of stock option
awards is estimated using the Black-Scholes option pricing model with the
grant-date assumptions and weighted-average fair values.
 
 6.
              Accounting
      for Uncertainty in Income Taxes
 
 The Company accounts for uncertainty in
income taxes in accordance with the FASB Interpretation No. 48,“Accounting for
Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109” (“FIN
No. 48”). FIN No. 48 provides guidance on financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return
related to uncertainties in income taxes. FIN No. 48 prescribes a
“more-likely-than-not” recognition threshold that must be met before a tax
benefit can be recognized in the financial statements. For a tax position that
meets the recognition threshold, the largest amount of tax benefit that is
greater than 50 percent likely of being realized upon ultimate settlement is
recognized in the financial statements.
 
  10
  The Company and its subsidiaries file
income tax returns in the U.S. federal jurisdiction and various states. Tax
years that remain subject to examination by major taxing jurisdictions are 2004
through 2006 for federal taxes and 2001 through 2006 for California state
taxes.
 
 There were no material changes to the
total amount of unrecognized tax benefits during the six months ended June 30,
2008. The Company does not expect any changes in unrecognized tax benefits
within the next 12 months to have any significant impact on its consolidated
financial statements. The Company recognizes interest and assessed penalties
related to unrecognized tax benefits as part of income taxes.
 
 The Company is under examination by the
state of California taxing authority for tax years 2001, 2002 and 2004. The
taxing authority has proposed significant adjustments to the Company’s
California tax liabilities. Management does not believe that the ultimate
outcome of this examination will have a material impact on the Company's
financial position. However, an unfavorable outcome may have a material
impact on the Company’s results of operations in the period of such
resolution.
 
 7.
              Recently
      Issued Accounting Standards
 
 In March 2008, the FASB issued SFAS No.
161, “Disclosures about Derivative Instruments and Hedging Activities-an
amendment of FASB Statement No. 133” (“SFAS No. 161”). SFAS No. 161 amends SFAS
No. 133 by requiring expanded disclosures about an entity’s derivative
instruments and hedging activities, but does not change the scope of accounting
of SFAS No. 133. SFAS No. 161 requires increased qualitative disclosures such as
how and why an entity is using a derivative instrument; how the entity is
accounting for its derivative instrument and hedged items under SFAS No. 133 and
its related interpretations; and how the instrument affects the entity’s
financial position, financial performance, and cash flows. Quantitative
disclosures should include information about the fair value of the derivative
instruments, including gains and losses, and should contain more detailed
information about the location of the derivative instrument in the entity’s
financial statements. Credit-risk disclosures should include information about
the existence and nature of credit-risk-related contingent features included in
derivative instruments. Credit-risk-related contingent features can be defined
as those that require entities, upon the occurrence of a credit event such as a
credit rating downgrade, to settle derivative instruments or post collateral.
SFAS No. 161 is effective on January 1, 2009 for the Company. The Company is
currently assessing the impact of adopting SFAS No. 161 on its consolidated
financial statement disclosures.
 
 In May 2008, the FASB issued SFAS No.
162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS No.
162”). SFAS No. 162 identifies the sources of accounting principles and the
framework for selecting the principles to be used in the preparation of
financial statements of nongovernmental entities that are presented in
conformity with GAAP (“GAAP hierarchy”). The current GAAP hierarchy, as set
forth in the American Institute of Certified Public Accountants (“AICPA”)
Statement on Auditing Standards No. 69, “The Meaning of Present Fairly in
Conformity With Generally Accepted Accounting Principles,” has been criticized
because (1) it is directed to the auditor rather than the entity, (2) it is
complex, and (3) it ranks FASB Statements of Financial Accounting Concepts,
which are subject to the same level of due process as FASB Statements of
Financial Accounting Standards, below industry practices that are widely
recognized as generally accepted but that are not subject to due process. SFAS
No. 162 shall be effective 60 days following the Securities and Exchange
Commission’s approval of the Public Company Accounting Oversight Board
amendments to U.S. Auditing Standards Section 411, “The Meaning of Present
Fairly in Conformity With Generally Accepted Accounting Principles.” SFAS No.
162 is not expected to have a material impact on the Company’s consolidated
financial statements.
  8.
                Subsequent
      Event
  On July 1,
2008, the California Superior Court ruled in favor of Mercury General
Corporation in a case filed against the California Franchise Tax Board (“FTB”)
for tax years 1993 through 1996 entitling the Company to a tax refund of
approximately $22 million plus interest. After accounting for federal taxes, the
Company expects to record a tax benefit of approximately $15 million in the
third quarter of 2008. However, the ruling may be appealed by the
FTB.
 
  11
  
 Item
      2.
              Management's
      Discussion and Analysis of Financial Condition and Results of
      Operations
 
 General
 
 The operating results of property and
casualty insurance companies are subject to significant quarter-to-quarter and
year-to-year fluctuations due to the effect of competition on pricing, the
frequency and severity of losses, natural disasters, general economic
conditions, the general regulatory environment in those states in which an
insurer operates, state regulation of premium rates, and other factors such as
changes in tax laws.  The property and casualty industry has been
highly cyclical, with periods of high premium rates and shortages of
underwriting capacity followed by periods of severe price competition and excess
capacity.  These cycles can have a large impact on the ability of the
Company to grow and retain business. Additionally, with the adoption of SFAS No.
159, changes in the fair value of the investment portfolio are reflected in
net income, which may result in volatility of earnings.
 
 The Company utilizes standard industry
measures to report operating results that may not be presented in accordance
with GAAP. Included within Management’s Discussion and Analysis of Financial
Condition and Results of Operations are non-GAAP financial measures, net
premiums written, which represents the premiums charged on policies issued
during a fiscal period less any reinsurance, and operating income, which
represents net income excluding realized investment gains and losses, net of
tax, and adjustments for other significant non-recurring, infrequent or unusual
items. These measures are not intended to replace, and should be read in
conjunction with, the Company’s GAAP financial results and are reconciled to the
most directly comparable GAAP measures, earned premiums and net income,
respectively, below in Results of Operations.
 
 The Company is headquartered in Los
Angeles, California and operates primarily as a personal automobile insurer,
selling policies through a network of independent producers.  The
Company also offers homeowners insurance, mechanical breakdown insurance,
commercial and dwelling fire insurance, umbrella insurance, commercial
automobile insurance and commercial property insurance. Private passenger
automobile lines of insurance accounted for approximately 84% of the Company’s
$1,413 million of net written premiums in the first six months of
2008.
 
 The Company operates primarily in
California, the only state in which it operated prior to 1990. The Company has
since expanded its operations into the following states: Georgia and Illinois
(1990), Oklahoma and Texas (1996), Florida (1998), Virginia and New York (2001),
New Jersey (2003), and Arizona, Pennsylvania, Michigan and Nevada (2004).
California accounted for approximately 79% and 77% of the Company’s net written
premiums during the six months ended June 30, 2008 and 2007,
respectively.
 
 In February 2008, the Company acquired
an 88,300 square foot office building in Folsom, California for approximately
$18.4 million. The building will be used to house the Company’s northern
California employees when the existing lease expires on the building that they
currently occupy. The Company financed the transaction through an $18 million
unsecured bank loan. The loan matures on March 1, 2013 with interest payable
quarterly at an annual floating rate of LIBOR plus 50 basis points. On March 3,
2008, the Company entered into an interest rate swap of its floating LIBOR rate
plus 50 basis points on the loan for a fixed rate of 4.25%. The swap agreement
terminates on March 1, 2013.
 
  12
  Regulatory
and Litigation Matters
 
 The Department of Insurance (“DOI”) in
each state in which the Company operates conducts periodic financial and market
conduct examinations of the Company’s insurance subsidiaries domiciled within
the respective state. The California DOI is conducting a financial examination
of the Company’s California insurance companies for the period January 1, 2004
through December 31, 2007. The California DOI is also conducting a rating and
underwriting examination of the business written in California in the 2004,
2005, and 2006 underwriting years. The Georgia DOI is conducting a financial
examination of the Company’s Georgia insurance subsidiaries for the period
January 1, 2004 through December 31, 2006. The Illinois DOI is conducting a
market conduct examination of the business written in Illinois in the 2007
underwriting year. No reports have yet been issued on these examinations. In
addition, the Oklahoma and Texas DOIs notified the Company of the upcoming
financial examination of its insurance subsidiaries in each state covering the
period January 1, 2005 through December 31, 2007. The Florida DOI is scheduled
to begin its market conduct examination of the Company’s business written in the
state on August 15, 2008 covering the period October 1, 2005 through December
31, 2006.
 
 On July 14, 2006, the California Office
of Administrative Law (“OAL”) approved proposed regulations by the California
DOI that effectively reduce the weight that insurers can place on a person’s
residence when establishing automobile insurance rates.  Insurance
companies in California are required to file rating plans with the California
DOI that comply with the new regulations. There is a two year phase-in period
for insurers to fully implement those plans. The Company made a rate filing in
August 2006 that reduced the territorial impact of its rates and requested a
small overall rate increase. The California DOI approved the August 2006 filing
in January 2008, which resulted in a small rate increase for two of the
California insurance subsidiaries and a small decrease for a third, for a total
net rate reduction of approximately 2.5%. The newly approved rates went into
effect in April 2008. In July 2008, the Company made an additional rate filing
to bring its rates into full compliance with the new regulations. However, the
Company cannot predict whether the California DOI will determine that the
Company’s rates are in full compliance with the new regulations as a result of
this filing. In general, the Company expects that the regulations will cause
rates for urban drivers to decrease and those for non-urban drivers to increase.
These rate changes are likely to increase consumer shopping for insurance which
could affect the volume and the retention rates of the Company’s business. It is
the Company’s intention to maintain its competitive position in the marketplace
while complying with the new regulations.
 
 In April 2007, regulations became
effective that generally tighten the existing Proposition 103 prior approval
ratemaking regime primarily by establishing a maximum allowable rate of return
of currently just below 11 percent (the average of short, intermediate and
long-term T-bill rates, plus 6 percent) and a minimum allowable rate of return
of negative 6 percent of surplus. However, the practical impact of these
limitations is unclear because the new regulations allow for the California DOI
to grant a number of variances based on loss prevention, business mix, service
to underserved communities, and other factors. In October 2007, the California
DOI invited comments from consumer groups and the insurance industry in an
effort to set appropriate standards for granting or denying specific variances
and to provide sufficient instruction regarding what information or data to
submit when an insurer is applying for a specific variance. The comment period
ended on November 16, 2007. The California DOI then published proposed
amendments to its regulations and held an informal workshop on them on April 7,
2008. On April 29, 2008, the Commissioner issued a new notice reflecting slight
modifications to the proposed regulations and superseding the prior version. The
proposed changes were approved as emergency regulations by the OAL on May 16,
2008 and became effective as of that date.
 
 In March 2006, the California DOI
issued an Amended Notice of Non-Compliance (“NNC”) to the NNC originally issued
in February 2004 alleging that the Company charged rates in violation of the
California Insurance Code, willfully permitted its agents to charge broker fees
in violation of California law, and willfully misrepresented the actual price
insurance consumers could expect to pay for insurance by the amount of a fee
charged by the consumer’s insurance broker. Through this action, the California
DOI seeks to impose a fine for each policy in which the Company allegedly
permitted an agent to charge a broker fee, which the California DOI contends is
the use of an unapproved rate, rating plan or rating system. Further, the
California DOI seeks to impose a penalty for each and every date on which the
Company allegedly used a misleading advertisement alleged in the
NNC.  Finally, based upon the conduct alleged, the California DOI also
contends that the Company acted fraudulently in violation of Section 704(a) of
the California Insurance Code, which permits the California Commissioner of
Insurance to suspend certificates of authority for a period of one year. The
Company filed a Notice of Defense in response to the NNC. The Company does not
believe that it has done anything to warrant a monetary penalty from the
California DOI. The San Francisco Superior Court, in Robert Krumme, On Behalf Of The
General Public v. Mercury Insurance Company, Mercury Casualty Company, and
California Automobile Insurance Company, denied plaintiff’s requests for
restitution or any other form of retrospective monetary relief based on the same
facts and legal theory. The matter is currently in discovery and a hearing
before the administrative law judge has been scheduled to be held October 6,
2008.
 
 The Company is not able to determine
the impact of any of the regulatory matters described above. It is possible that
the impact of some of the changes could adversely affect the Company and its
operating results, however, the ultimate outcome is not expected to be material
to the Company’s financial position.
 
  13
  In July 2007, the California DOI issued
Orders to Show Cause and Statements of Charges and Accusations (the “OSCs”)
alleging that the Company has engaged in and continues to engage in claims
handling acts and practices in violation of California Insurance Code sections
790 et seqand other
regulations. The California DOI has sought penalties for each violation.
The California DOI has also sought (a) a suspension of the California Companies’
Certificates of Authority for a period not to exceed one year for acts in
violation of Section 700(c) and 704 of the California Insurance Code, (b) a
finding that breaches of contract have occurred with a specification of the
amount of actual damages sustained as a result of the breaches and (c)
restitution on behalf of those allegedly harmed by the acts alleged in the OSCs.
The claims were settled in June 2008 with the Company agreeing to pay $250,000
in penalties and $50,000 for the California DOI’s legal fees. The Company may be
ordered to pay an additional penalty of up to $200,000 if consumer complaints
are not reduced to agreed-upon levels by December 31, 2008.
 
 On July 1, 2008, the California
Superior Court ruled in favor of Mercury General Corporation in a case filed
against the California Franchise Tax Board (“FTB”) for tax years 1993 through
1996 entitling the Company to a tax refund of approximately $22 million plus
interest. After accounting for federal taxes, the Company expects to record a
tax benefit of approximately $15 million in the third quarter of 2008. However,
the ruling may be appealed by the FTB.
 
 The FTB has audited the 1997 through
2002 and 2004 tax returns and accepted the 1997 through 2000 returns to be
correct as filed. The Company received a notice of examination for the 2003 tax
return from the FTB in January 2008. For the Company’s 2001, 2002, and 2004 tax
returns, the FTB has taken exception to the state apportionment factors used by
the Company.  Specifically, the FTB has asserted that payroll and
property factors from Mercury Insurance Services, LLC, a subsidiary of Mercury
Casualty Company, that are excluded from the Mercury General Corporation
California Franchise tax return, should be included in the California
apportionment factors. In addition, for the 2004 tax return, the FTB has
asserted that a portion of management fee expenses paid by Mercury Insurance
Services, LLC should be disallowed. Based on these assertions, the FTB has
issued notices of proposed tax assessments for the 2001, 2002 and 2004 tax years
totaling approximately $5 million. The Company strongly disagrees with the
position taken by the FTB and plans to formally appeal the assessments before
the California State Board of Equalization (“SBE”). An unfavorable ruling
against the Company may have a material impact on the Company’s results of
operations in the period of such ruling. Management believes that the issues
will ultimately be resolved in favor of the Company. However, there can be no
assurance that the Company will prevail on these matters.
 
 The Company is, from time to time,
named as a defendant in various lawsuits incidental to its insurance business.
In most of these actions, plaintiffs assert claims for punitive damages which
are not insurable under judicial decisions. The Company has established reserves
for lawsuits in which the Company is able to estimate its potential exposure and
the likelihood that the court will rule against the Company is probable. The
Company vigorously defends these actions, unless a reasonable settlement appears
appropriate. An unfavorable ruling against the Company in the actions currently
pending may, but is not likely to, have a material impact on the Company’s
quarterly results of operations; however, it is not expected to be material to
the Company’s financial position. For a further discussion of the Company’s
pending material litigation, see Item 1. Legal Proceedings in Part II – Other
Information of this Quarterly Report on Form 10-Q and the Company’s Annual
Report on Form 10-K for the year ended December 31, 2007.
 
 Critical
Accounting Policies and Estimates
 
 Reserves
 
 The
preparation of the Company’s consolidated financial statements requires judgment
and estimates.  The most significant is the estimate of loss reserves
as required by Statement of Financial Accounting Standards (“SFAS”) No. 60,
“Accounting and Reporting by Insurance Enterprises” (“SFAS No. 60”), and SFAS
No. 5, “Accounting for Contingencies” (“SFAS No. 5”).  Estimating loss
reserves is a difficult process as many factors can ultimately affect the final
settlement of a claim, and therefore, the reserve that is
required.  Changes in the regulatory and legal environment, results of
litigation, medical costs, the cost of repair materials and labor rates, among
other factors, can each impact ultimate claim costs. In addition, time can
be a critical part of reserving determinations since the longer the span between
the incidence of a loss and the payment or settlement of the claim, the more
variable the ultimate settlement amount can be.  Accordingly,
short-tail claims, such as property damage claims, tend to be more reasonably
predictable than long-tail liability claims, such as bodily injury
claims.  Inflation is reflected in the reserving process through
analysis of cost trends and reviews of historical reserving
results.
 
  14
  The Company engages independent
actuarial consultants to review the Company’s reserves and to provide the annual
actuarial opinions required under state statutory accounting requirements. The
Company does not rely on actuarial consultants for GAAP reporting or periodic
report disclosure purposes. The Company analyzes loss reserves internally on a
quarterly basis using primarily the incurred loss development, average severity
and claim count development methods described below. The Company also uses the
paid loss development method to analyze loss adjustment expense reserves and at
times uses industry claims data as part of its reserve analysis. When deciding
which methodologies to use in estimating its reserves, the Company evaluates the
credibility of each methodology based on the maturity of the data available and
the claims settlement practices for each particular line of business or coverage
within a line of business. When establishing the reserve, the Company will
generally analyze the results from all of the methods used rather than relying
on one method over the others. While these methodologies are designed to
determine the ultimate losses on claims under the Company’s policies, there is
inherent uncertainty in all actuarial models since they generally use historical
data to project outcomes. The Company believes that the techniques it uses
provide a reasonable basis in estimating loss reserves.
 
 The incurred loss development method
analyzes historical incurred case loss (case reserves plus paid losses)
development to estimate ultimate losses. The Company applies development factors
against current incurred case losses by accident period to calculate ultimate
expected losses. The Company believes that the incurred loss development method
provides a reasonable basis for evaluating ultimate losses, particularly in the
Company’s larger, more established lines of business which have a long operating
history. The average severity method analyzes historical loss payments and/or
incurred losses divided by closed claims and/or total claims to calculate an
estimated average cost per claim. From this, the expected ultimate average cost
per claim can be estimated. The claim count development method analyzes
historical claim count development to estimate future incurred claim count
development for current claims. The Company applies these development factors
against current claim counts by accident period to calculate ultimate expected
claim counts. The average severity method coupled with the claim count
development method provides meaningful information regarding inflation and
frequency trends that the Company believes is useful in establishing reserves.
The paid loss development method analyzes historical payment patterns to
estimate the amount of losses yet to be paid. The Company primarily uses this
method for loss adjustment expenses because specific case reserves are not
established for loss adjustment expenses.
 
 The Company uses varying methods and
assumptions in states with little operating history where there is insufficient
claims data to prepare a reserve analysis relying solely on the Company’s
historical data. In these cases, the Company may project ultimate losses using
industry average loss data or based on expected loss ratios. As the Company
develops an operating history in these states, the Company will rely
increasingly on the incurred loss development and average severity and claim
count development methods. The Company analyzes catastrophe losses separately
from non-catastrophe losses. For catastrophe losses, the Company determines
claim counts based on claims reported and development expectations from previous
catastrophes and applies an average expected loss per claim based on reserves
established by adjusters and average losses on previous
catastrophes.
 
 At June 30, 2008, the Company recorded
its point estimate of approximately $1,021 million in loss and loss adjustment
expense reserves which includes approximately $299 million of incurred but not
reported (“IBNR”) loss reserves. IBNR includes estimates, based upon past
experience, of ultimate developed costs which may differ from case estimates,
unreported claims which occurred on or prior to June 30, 2008 and estimated
future payments for reopened claims. Management believes that the liability
for losses and loss adjustment expenses is adequate to cover the ultimate net
cost of losses and loss adjustment expenses incurred to date; however, since the
provisions are necessarily based upon estimates, the ultimate liability may be
more or less than such provision.
 
 The Company reevaluates its reserves
quarterly. When management determines that the estimated ultimate claim cost
requires reduction for previously reported accident years, positive development
occurs and a reduction in losses and loss adjustment expenses is reported in the
current period. If the estimated ultimate claim cost requires an increase for
previously reported accident years, negative development occurs and an increase
in losses and loss adjustment expenses is reported in the current period. For
the six months ended June 30, 2008, the Company reported adverse development of
approximately $17 million on the 2007 and prior accident years’ loss and loss
adjustment expense reserves which at December 31, 2007 totaled approximately
$1.1 billion. The loss development included approximately $16 million of
negative development from the California operations and approximately $1 million
of negative development from the operations outside of California. The negative
development from California operations resulted primarily from increases in the
personal automobile loss severity estimates for the 2007 and 2006 accident
years.
 
 For a further discussion of the
Company’s reserving methods, see the Company’s Annual Report on Form 10-K for
the year ended December 31, 2007.
 
  15
  Premiums
 
 The Company complies with SFAS No. 60
in recognizing revenue on insurance policies written. The Company’s insurance
premiums are recognized as income ratably over the term of the policies, that
is, in proportion to the amount of insurance protection provided. Unearned
premiums are carried as a liability on the balance sheet and are computed on a
monthly pro-rata basis. The Company evaluates its unearned premiums periodically
for premium deficiencies by comparing the sum of expected claim costs,
unamortized acquisition costs and maintenance costs to related unearned
premiums, net of investment income. To the extent that any of the Company’s
lines of business become substantially unprofitable, a premium deficiency
reserve may be required. The Company does not expect this to occur on any of its
significant lines of business.
 
 Investments
 
 Beginning January 1, 2008, all of the
Company’s fixed maturity and equity investments are classified as “trading” and
carried at fair value as required by SFAS No. 115, “Accounting for Certain
Investments in Debt and Equity Securities” (“SFAS No. 115”), as amended, and
SFAS No. 159, “The Fair Value Option for Financial Assets and Financial
Liabilities” (“SFAS No. 159”). Prior to January 1, 2008, the Company’s
fixed maturity and equity investment portfolios were classified either as
“available for sale” or “trading” and carried at fair value under SFAS No. 115,
as amended. The Company adopted SFAS No. 157, “Fair Value Measurements” (“SFAS
No. 157”) and SFAS No. 159 as of the beginning of 2008. See Notes 2, 3 and 4 to
the consolidated financial statements in Part I, Item 1 of this Quarterly Report
on Form 10-Q. No valuations were made by the Company’s management. Equity
holdings, including non-sinking fund preferred stocks, are, with minor
exceptions, actively traded on national exchanges or trading markets, and were
valued at the last transaction price on the balance sheet date. Changes in fair
value of the investments are reflected in net realized investment gains or
losses in the consolidated statements of income as required under SFAS No. 115,
as amended, and SFAS No. 159.
 
 For equity securities, the net loss due
to changes in fair value during the first six months of 2008 represents
approximately 0.4% of the carrying value of those securities at June 30, 2008.
The primary cause of the losses in fair value of equity securities was the
overall decline in the stock markets, which saw a decline of approximately 13%
in the S&P 500 index during the six months ended June 30, 2008. For fixed
maturity securities, the net loss represents approximately 2.5% of the carrying
value of these securities. The Company believes that the primary causes of the
majority of the losses in fair value of fixed maturity securities are ongoing
downgrades of municipal bond insurers, widening credit spreads, and declines in
values of benchmark U.S. Treasury bonds. The Company intends to hold the
majority of its municipal bonds to collect the full principal amount at
maturity.
 
 Fair
Value of Financial Instruments
 
 Certain financial assets and financial
liabilities are recorded at fair value. The fair value of a financial instrument
is the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the
measurement date. The fair values of the Company’s financial instruments are
generally based on, or derived from, executable bid prices. In the case of
financial instruments transacted on recognized exchanges, the observable prices
represent quotations for completed transactions from the exchange on which the
financial instrument is principally traded.
 
 The Company’s financial instruments
include securities issued by the U.S. government and its agencies, securities
issued by states and municipalities, certain corporate and other debt
securities, corporate equity securities, and exchange traded funds. The fair
value of all the financial instruments that the Company holds at June 30, 2008
is based on observable market prices, observable market parameters, or is
derived from such prices or parameters. The availability of observable market
prices and pricing parameters can vary across different financial instruments.
Observable market prices and pricing parameters in a financial
instrument (or a related financial instrument) are used to derive a price
without requiring significant judgment.
 
 It is possible that certain financial
instruments that the Company holds or may acquire may lack observable market
prices or market parameters in future periods because they are less actively
traded. The fair value of such instruments is determined using techniques
appropriate for each particular financial instrument. These techniques could
involve some degree of judgment. The price transparency of the particular
financial instrument will determine the degree of judgment involved in
determining the fair value of the Company’s financial instruments. Price
transparency is affected by a wide variety of factors, including, for example,
the type of financial instrument, whether it is a new financial instrument and
not yet established in the marketplace, and the characteristics particular to
the transaction. Financial instruments for which actively quoted prices or
pricing parameters are available or for which fair value is derived from
actively quoted prices or pricing parameters will generally have a higher degree
of price transparency. By contrast, financial instruments that are thinly traded
or not quoted will generally have diminished price transparency. Even in
normally active markets, the price transparency for actively quoted instruments
may be reduced for periods of time during periods of market dislocation.
Alternatively, in thinly quoted markets, the participation of market-makers
willing to purchase and sell a financial instrument provides a source of
transparency for products that otherwise are not actively quoted.
 
  16
  Contingent
Liabilities
 
 The Company may have certain known and
unknown potential liabilities that are evaluated using the criteria established
by SFAS No. 5. These include claims, assessments or lawsuits relating to its
business. The Company continually evaluates these potential liabilities and
accrues for them and/or discloses them in the notes to the consolidated
financial statements if they meet the requirements stated in SFAS No. 5. While
it is not possible to know with certainty the ultimate outcome of contingent
liabilities, an unfavorable result may have a material impact on the Company’s
quarterly results of operations; however, it is not expected to be material to
the Company’s financial position.
 
 Forward-Looking
Statements
 
 Certain statements in this report on
Form 10-Q that are not historical facts constitute “forward-looking statements”
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These
forward-looking statements may address, among other things, the Company’s
strategy for growth, business development, regulatory approvals, market
position, expenditures, financial results and reserves. Forward-looking
statements are not guarantees of performance and are subject to important
factors and events that could cause the Company’s actual business, prospects and
results of operations to differ materially from the historical information
contained in this Form 10-Q and from those that may be expressed or implied by
the forward-looking statements. Factors that could cause or contribute to such
differences include, among others: the competition currently existing in the
California automobile insurance markets, the Company’s success in expanding its
business in states outside of California, the Company’s ability to successfully
complete its initiative to standardize its policies and procedures nationwide in
all of its functional areas, the impact of potential third party “bad-faith”
legislation, changes in laws or regulations, the ultimate outcome of tax
position challenges by the California Franchise Tax Board, and decisions of
courts, regulators and governmental bodies, particularly in California, the
Company’s ability to obtain and the timing of the approval of premium rate
changes for private passenger automobile policies issued in states where the
Company does business, the investment yields the Company is able to obtain with
its investments in comparison to recent yields and the market risk associated
with the Company’s investment portfolio, the cyclical and general competitive
nature of the property and casualty insurance industry and general uncertainties
regarding loss reserve or other estimates, the accuracy and adequacy of the
Company’s pricing methodologies, uncertainties related to assumptions and
projections generally, inflation and changes in economic conditions, changes in
driving patterns and loss trends, acts of war and terrorist activities, court
decisions and trends in litigation and health care and auto repair costs,
adverse weather conditions or natural disasters in the markets served by the
Company, the stability of the Company’s information technology systems and the
ability of the Company to execute on its information technology initiatives, and
other uncertainties, all of which are difficult to predict and many of which are
beyond the Company’s control. GAAP prescribes when a Company may reserve for
particular risks including litigation exposures. Accordingly, results for a
given reporting period could be significantly affected if and when a reserve is
established for a major contingency. Reported results may therefore appear
to be volatile in certain periods. The Company undertakes no obligation to
publicly update any forward-looking statements, whether as a result of new
information or future events or otherwise. Investors are cautioned not to
place undue reliance on any forward-looking statements, which speak only as of
the date of this Form 10-Q or, in the case of any document the Company
incorporates by reference, the date of that document. Investors also should
understand that it is not possible to predict or identify all factors and should
not consider the risks set forth above to be a complete statement of all
potential risks and uncertainties. If the expectations or assumptions underlying
the Company’s forward-looking statements prove inaccurate or if risks or
uncertainties arise, actual results could differ materially from those predicted
in any forward-looking statements. The factors identified above are
believed to be some, but not all, of the important factors that could cause
actual events and results to be significantly different from those that may be
expressed or implied in any forward-looking statements.  Any
forward-looking statements should also be considered in light of the information
provided in “Item 1A. Risk Factors” in the Company’s Annual Report on Form 10-K
for the year ended December 31, 2007 and in Item 1A. Risk Factors in Part II -
Other Information of this Quarterly Report on Form 10-Q.
 
 Results
of Operations
 
 Three
Months Ended June 30, 2008 compared to Three Months Ended June 30,
2007
 
 Premiums earned in the second quarter
of 2008 decreased approximately 5.7% from the corresponding period in 2007. Net
premiums written in the second quarter of 2008 decreased approximately 7.2% from
the corresponding period in 2007. Net premiums written by the Company’s
California operations were $535.3 million in the second quarter of 2008, a 5.7%
decrease over the corresponding period in 2007. Net premiums written by the
Company’s non-California operations were $148.9 million in the second quarter of
2008, a 12.2% decrease over the corresponding period in 2007. The decrease in
net premiums written is primarily due to a decrease in the number of policies
written reflecting the soft market conditions.
 
  17
  Net premiums written is a non-GAAP
financial measure which represents the premiums charged on policies issued
during a fiscal period less any applicable reinsurance. Net premiums
written is a statutory measure designed to determine production levels. Net
premiums earned, the most directly comparable GAAP measure, represents the
portion of net premiums written that is recognized as income in the financial
statements for the period presented. The following is a reconciliation of total
Company net premiums written to net premiums earned:
 
 Three
      Months Ended June 30,2008
              
              2007(in
      thousands)Net
      premiums written
              $
              684,177
              
              $
              737,394Decrease
      in unearned premiums
              
              27,027
              
              
              16,682Net
      premiums earned
              $
              711,204
              
              $
              754,076
 
 The loss ratio (GAAP basis) in the
second quarter (loss and loss adjustment expenses related to premiums earned)
was 68.8% in 2008 and 66.9% in 2007. There was negative development of
approximately $9 million and approximately $1 million on prior periods’ loss
reserves for the quarters ended June 30, 2008 and 2007, respectively. Excluding
the effect of prior periods’ loss development, the loss ratio in the second
quarter was 67.6% in 2008 and 66.8% in 2007. The increase in the loss ratio
excluding the effect of prior periods’ loss development is primarily due to
higher severity, which was partially offset by lower frequency, in the
California automobile lines of business.
 
 The expense ratio (GAAP basis) in the
second quarter (policy acquisition costs and other expenses related to premiums
earned) was 28.2% in 2008 and 27.1% in 2007. The increase in the expense ratio
is largely reflective of costs such as payroll and benefits that have not
declined in proportion to the declines in premium volumes. In addition, an
increase in technology-related expenses and advertising, as well as the
establishment of the product management function, contributed to the higher
expense ratio.
 
 The combined ratio of losses and
expenses (GAAP basis) is the key measure of underwriting performance
traditionally used in the property and casualty insurance industry. A combined
ratio under 100% generally reflects profitable underwriting results; a combined
ratio over 100% generally reflects unprofitable underwriting results. The
combined ratio of losses and expenses (GAAP basis) was 97.0% in the second
quarter of 2008 compared with 94.0% in the corresponding period of 2007, which
indicates that the Company’s underwriting performance contributed $21.0 million
and $45.4 million to the Company’s results of operations before income
taxes for the quarters ended June 30, 2008 and 2007,
respectively.
 
 Investment income in the second quarter
of 2008 was $39.0 million, compared with $40.8 million in the second quarter of
2007. The after-tax yield on average investments (fixed maturities and equities
valued at cost) was 4.0% in the second quarter of 2008 compared to 4.1% in the
corresponding period of 2007 on average invested assets of $3.5 billion and $3.4
billion, respectively. The slight decrease in after-tax yield is due to a
decrease in short-term interest rates.
  
  Income tax
expense in the second quarter of 2008 was $25.5 million, compared with income
tax expense of $25.6 million in the second quarter of 2007. The effective tax
rate was 27% in the second quarter of both 2008 and 2007.
 
 Net income for the second quarter of
2008 of $70.7 million, or $1.29 per share (diluted), compares with net income of
$69.5 million, or $1.27 per share (diluted), in the corresponding period of
2007. Basic earnings per share was $1.29 in the second quarter of 2008 and $1.27
in the second quarter of 2007.
  Operating income for the second quarter
of 2008 was $47.0 million, down 25% from the prior year quarter largely due to a
decrease in premiums earned reflecting the recent soft market conditions and
higher loss severity as a result of inflation, leading to a higher combined
ratio. In addition, a decrease in net investment income resulting from lower
investment yields contributed to the decrease in operating income.
 
  18
  Operating income is a non-GAAP measure
which represents net income excluding realized investment gains and losses, net
of tax, and adjustments for other significant non-recurring, infrequent or
unusual items. Net income is the GAAP measure that is most directly comparable
to operating income. Operating income is meant as supplemental information and
is not intended to replace net income. It should be read in conjunction with the
GAAP financial results. The following is a reconciliation of operating income to
the most directly comparable GAAP measure:
 
 Three
      Months Ended June 30,2008
              
              2007(in
      thousands)Operating
      income
              $
              47,004
              
              $
              63,016Net
      realized investment gains, net of tax
              
              23,722
              
              
              6,493Net
      income
              $
              70,726
              
              $
              69,509
 
 Six
Months Ended June 30, 2008 compared to Six Months Ended June 30,
2007
 
 Premiums earned in the six months ended
June 30, 2008 decreased approximately 5.1% from the corresponding period in
2007. Net premiums written in the six months ended June 30, 2008 decreased
approximately 7.2% from the corresponding period in 2007. Net premiums written
by the Company’s California operations were $1.1 billion in the first six months
of 2008, a 5.0% decrease over the corresponding period in 2007. Net premiums
written by the Company’s non-California operations were $302.6 million in the
first six months of 2008, a 14.6% decrease over the corresponding period in
2007. The decrease in net premiums written is primarily due to a decrease in the
number of policies written reflecting the soft market conditions.
 
 Net premiums written is a non-GAAP
financial measure which represents the premiums charged on policies issued
during a fiscal period less any applicable reinsurance. Net premiums written is
a statutory measure designed to determine production levels. Net premiums
earned, the most directly comparable GAAP measure, represents the portion of net
premiums written that is recognized as income in the financial statements for
the period presented and earned on a pro-rata basis over the term of the
policies. The following is a reconciliation of total Company net premiums
written to net premiums earned:
 
 Six
      Months Ended June 30,2008
              
              2007(in
      thousands)Net
      premiums written
              $
              1,413,443
              
              $
              1,523,277Decrease
      (increase) in unearned premiums
              
              18,677
              
              
              (13,449
              )Net
      premiums earned
              $
              1,432,120
              
              $
              1,509,828
 
 The loss ratio (GAAP basis) in the
first six months (loss and loss adjustment expenses related to premiums earned)
was 67.9% in 2008 and 67.2% in 2007. There was negative development of
approximately $17 million and approximately $13 million on prior accident years’
loss reserves for the six months ended June 30, 2008 and 2007, respectively.
Excluding the effect of prior accident years’ loss development, the loss ratio
in the first six months was 66.8% in 2008 and 66.3% in 2007. The slight increase
in the loss ratio excluding the effect of prior accident years' loss development
is primarily due to higher severity, which was partially offset by lower
frequency, in the California automobile lines of business.
 
 The expense ratio (GAAP basis) in the
first six months of 2008 (policy acquisition costs and other operating expenses
related to premiums earned) was 28.3% compared to 27.1% in the corresponding
period of 2007. The increase in the expense ratio is largely reflective of costs
such as payroll and benefits that have not declined in proportion to the
declines in premium volumes. In addition, an increase in technology-related
expenses and advertising, as well as the establishment of the product management
function, contributed to the higher expense ratio.
 
 The combined ratio of losses and
expenses (GAAP basis) is the key measure of underwriting performance
traditionally used in the property and casualty insurance industry. A combined
ratio under 100% generally reflects profitable underwriting results; a combined
ratio over 100% generally reflects unprofitable underwriting results. The
combined ratio of losses and expenses (GAAP basis) was 96.2% in the first six
months of 2008 compared with 94.3% in the corresponding period of 2007, which
indicates that the Company’s underwriting performance contributed $54.0 million
and $86.8 million to the Company’s results of operations before income
taxes for the six months ended June 30, 2008 and 2007,
respectively.
 
  19
  Investment income for the first six
months of 2008 was $78.3 million, compared with $82.9 million in the first six
months of 2007. The after-tax yield on average investments (fixed maturities and
equities valued at cost) was 4.0% in the first six months of 2008 compared to
4.1% in the corresponding period of 2007 on average invested assets of $3.5
billion and $3.4 billion, respectively. The slight decrease in after-tax yield
is due to a decrease in short-term interest rates.
  
  Income tax expense for the first six
months of 2008 was $10.4 million with an effective tax rate of 14%, compared
with income tax expense of $46.7 million with an effective tax rate of 26% in
the corresponding period of 2007. The lower
effective tax rate in 2008 compared to 2007 is primarily attributable to an
increased proportion of tax exempt investment income including tax sheltered
dividend income, in contrast to taxable investment income, underwriting income,
and realized investment gains and losses.
 Net income for the first six months of
2008 of $66.8 million, or $1.22 per share (diluted), compares with $130.0
million, or $2.37 per share (diluted), in the corresponding period of 2007.
Basic net income per share was $1.22 in the first six months of 2008 and $2.38
in the first six months of 2007.
  Operating income for the first six
months of 2008 was $102.9 million, down 17% from the corresponding prior year
period largely due to a decrease in premiums earned reflecting the recent soft
market conditions and higher loss severity as a result of inflation, leading to
a higher combined ratio. In addition, a decrease in net investment income
resulting from lower investment yields contributed to the decrease in operating
income.
 
 Operating income is a non-GAAP measure
which represents net income excluding realized investment gains and losses, net
of tax, and adjustments for other significant non-recurring, infrequent or
unusual items. Net income is the GAAP measure that is most directly comparable
to operating income. Operating income is meant as supplemental information and
is not intended to replace net income. It should be read in conjunction with the
GAAP financial results. The following is a reconciliation of operating income to
the most directly comparable GAAP measure:
 
 Six
      Months Ended June 30,2008
              
              2007(in
      thousands)Operating
      income
              $
              102,932
              
              $
              124,146Net
      realized investment (losses) gains, net of tax
              
              (36,167
              )
              
              5,816Net
      income
              $
              66,765
              
              $
              129,962
 
 Liquidity
and Capital Resources
 
 Net cash provided by operating
activities in the first six months of 2008 was $12.9 million, a decrease of
$102.4 million over the same period in 2007. This decrease was primarily due to
lower premiums collected during the first six months of 2008 coupled with higher
losses and loss adjustment expenses paid compared with the same period in 2007.
The Company has utilized the cash provided from operating activities primarily
for its investment in fixed maturity and equity securities, the purchase and
development of information technology, and the payment of dividends to its
shareholders. Funds derived from the sale, redemption or maturity of fixed
maturity investments of $454.9 million were reinvested, mostly in
highly-rated fixed maturity securities.
 
 The Company’s cash and short-term
investment portfolio totaled $262.1 million at June 30, 2008. Together with cash
flows from operations, the Company believes that such liquid assets are adequate
to satisfy its liquidity requirements without the forced sale of investments.
However, the Company operates in a rapidly evolving and often unpredictable
business environment that may change the timing or amount of expected future
cash receipts and expenditures. Accordingly, there can be no assurance that the
Company’s sources of funds will be sufficient to meet its liquidity needs or
that the Company will not be required to raise additional funds to meet those
needs, including future business expansion, through the sale of equity or debt
securities or from credit facilities with lending institutions.
 
  20
  The following table sets forth the
composition of the total investment portfolio of the Company as of June 30,
2008:
 
 Fair
      Value(in
      thousands)Fixed
      maturity securities:U.S.
      government bonds and agencies
              
              $
              24,683States,
      municipalities and political subdivisions
              
              
              2,410,287Mortgage-backed
      securities
              
              
              224,817Corporate
      securities
              
              
              111,335Redeemable
      preferred stock
              
              
              9062,772,028Equity
      securities:Common
      Stock:Public
      utilities
              
              
              62,497Banks,
      trusts and insurance companies
              
              
              18,175Industrial
      and other
              
              
              389,327Non-redeemable
      preferred stock
              
              
              23,144493,143Short-term
      cash investments
              
              
              218,884Total
      investments
              
              $
              3,484,055
 
 During the first six months of 2008,
the Company recognized approximately $55.6 million in net realized investment
losses which included a loss of approximately $72.2 million ($46.9 million
after taxes) related to the change in the fair value of total
investments.
 
 At June 30, 2008, the average rating of
the $2,771.1 million bond portfolio at fair value was AA, unchanged from
December 31, 2007. Bond holdings are broadly diversified geographically, within
the tax-exempt sector. Holdings in the taxable sector consist principally of
investment grade issues. At June 30, 2008, bond holdings rated below investment
grade totaled $39.0 million at fair value representing approximately 1.1% of
total investments. This compares to approximately $47.7 million at fair value
representing approximately 1.3% of total investments at December 31,
2007.
 
 During the second half of 2007 and the
first half of 2008, the investment market has experienced substantial volatility
due to uncertainty in the credit markets. As a result, some asset classes have
had liquidity strain and/or valuation issues, including mortgage-backed
securities (“CMO”), privately insured municipal bonds, and adjustable rate
short-term securities.
 
 The entire CMO portfolio consisted of
loans to prime borrowers except for approximately $21 million and $20 million,
at fair value, of Alt-A CMO’s at June 30, 2008 and December 31, 2007,
respectively. Alt-A mortgages are generally home loans made to individuals that
have credit scores as high as prime borrowers, but provide less documentation of
their finances on their credit applications. All of the Company’s Alt-A CMO’s
are currently rated AAA and the average rating of the entire CMO portfolio
is AAA. The valuation of these securities is based on level 2 inputs that can be
observed in the market.
 
 The Company had approximately $2.4
billion, at fair value, in municipal bonds at June 30, 2008. Approximately half
of the municipal bonds do not carry insurance from bond insurers and have an
average rating of A. The other half of the municipal bond positions are
insured by bond insurers. The following bond insurers each insured more than one
percent of the Company’s municipal bond portfolio at June 30, 2008: MBIA: 17.0%,
FSA: 9.9%, FGIC: 9.7%, AMBAC: 9.3%, and XLCA: 2.0%.
 
 For insured bonds that have underlying
ratings, the average underlying rating was A+. There was also approximately $170
million of insured bonds that carried no official underlying rating. The Company
considers bonds that carry no underlying rating as being investment grade since
it is an underwriting policy of the “AAA” mono-line insurers that the issuer
qualifies as an investment grade credit in order to get the bond insurer’s
rating. The Company considers the strength of the underlying credit as a buffer
against potential market value declines which may result from future rating
downgrades of the bond insurers. In addition, the Company has a long-term
time horizon for its municipal bond holdings, which allows it to recover the
full principal amounts upon maturity, preventing forced sales, prior to
maturity, of bonds that have declined in market value due to the bond insurers’
rating downgrades.
 
  21
  Equity holdings consist of perpetual
preferred stocks and dividend-bearing common stocks on which dividend income is
partially tax-sheltered by the 70% corporate dividend exclusion. At June 30,
2008, short-term cash investments consisted of highly rated short duration
securities redeemable on a daily or weekly basis. The Company does not have any
material direct equity investment in subprime lenders.
 
 Industry and regulatory guidelines
suggest that the ratio of a property and casualty insurer's annual net premiums
written to statutory policyholders' surplus should not exceed 3 to 1. Based
on the combined surplus of all of the licensed insurance subsidiaries of $1.8
billion at June 30, 2008 and net written premiums for the twelve months ended on
that date of $2.9 billion, the ratio of writings to surplus was approximately
1.6 to 1.
 
 The Company’s book value per share at
June 30, 2008 was $34.09 per share.
 
 Item
      3.
              Quantitative
      and Qualitative Disclosures About Market
Risk
 
 There have been no material changes in
the Company’s investment strategies, types of financial instruments held or the
risks associated with such instruments which would materially alter the market
risk disclosures made in the Company’s Annual Report on Form 10-K for the year
ended December 31, 2007.
 
 Item
      4.
              Controls
      and Procedures
 
 Evaluation
of Disclosure Controls and Procedures
 
 The Company maintains disclosure
controls and procedures designed to ensure that information required to be
disclosed in the Company’s reports filed under the Securities Exchange Act of
1934, as amended, is recorded, processed, summarized and reported within the
time periods specified in the Securities and Exchange Commission rules and
forms, and that such information is accumulated and communicated to the
Company’s management, including its Chief Executive Officer and Chief Financial
Officer, as appropriate, to allow for timely decisions regarding required
disclosure.  In designing and evaluating the disclosure controls and
procedures, management recognizes that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures.
 
 As required by Securities and Exchange
Commission Rule 13a-15(b), the Company carried out an evaluation, under the
supervision and with the participation of the Company’s management, including
the Company’s Chief Executive Officer and the Company’s Chief Financial Officer,
of the effectiveness of the design and operation of the Company’s disclosure
controls and procedures as of the end of the quarter covered by this
report. Based on the foregoing, the Company’s Chief Executive Officer and
Chief Financial Officer concluded that the Company’s disclosure controls and
procedures were effective at the reasonable assurance level.
 
 Changes
in Internal Control over Financial Reporting
 
 There has been no change in the
Company’s internal control over financial reporting during the Company’s most
recent fiscal quarter that has materially affected, or is reasonably likely to
materially affect the Company’s internal control over financial reporting. The
Company’s process for evaluating controls and procedures is continuous and
encompasses constant improvement of the design and effectiveness of established
controls and procedures and the remediation of any deficiencies which may be
identified during this process.
 
  22
  
 PART
II - OTHER INFORMATION
 
 Item
      1.
              Legal
      Proceedings
 
 The Company is, from time to time,
named as a defendant in various lawsuits incidental to its insurance business.
In most of these actions, plaintiffs assert claims for punitive damages which
are not insurable under judicial decisions. The Company has established reserves
for lawsuits in which the Company is able to estimate its potential exposure and
the likelihood that the court will rule against the Company is
probable.  The Company vigorously defends these actions, unless a
reasonable settlement appears appropriate. An unfavorable ruling against the
Company in the actions currently pending may have a material impact on the
Company’s quarterly results of operations; however, it is not expected to be
material to the Company’s financial position.  Also, see the Company’s
Annual Report on Form 10-K for the year ended December 31, 2007.
 
 In Marissa Goodman, on her own behalf
and on behalf of all others similarly situated v. Mercury Insurance
Company (Los Angeles Superior Court), filed June 16, 2002, the Plaintiff
is challenging the Company’s use of certain automated database vendors to assist
in valuing claims for medical payments alleging that they systematically
undervalue medical payment claims to the detriment of insureds. The Plaintiff is
seeking actual and punitive damages. Similar lawsuits have been filed against
other insurance carriers in the industry. The case has been coordinated with two
other similar cases, and also with ten other cases relating to total loss
claims. The Plaintiff sought class action certification of all of the Company’s
insureds from 1998 to the present who presented a medical payments claim, had
the claim reduced using the computer program and whose claim did not reach the
policy limits for medical payments. The Court certified the class on January 11,
2007. The Company appealed the class certification ruling, and the Court of
Appeal stayed the case pending their review. The Company and the Plaintiff have
subsequently agreed to settle the claims for an amount that is immaterial to the
Company’s operations and financial position. The settlement was approved by the
Court on April 24, 2008, subject to class members’ ability to object. A final
approval hearing is scheduled for September 16, 2008. The ultimate outcome of
this matter is not expected to be material to the Company’s financial
position.
 
 On March 28, 2006, the SBE upheld
Notices of Proposed Assessments issued against the Company for tax years 1993
through 1996 in which the FTB disallowed a portion of the Company’s expenses
related to management services provided to its insurance company subsidiaries.
As a result of this ruling, the Company recorded an income tax charge (including
penalties and interest) of approximately $15 million, after federal tax benefit,
in the first quarter of 2006. On April 24, 2007, the Company filed a complaint
in the Superior Court for the City and County of San Francisco challenging the
SBE decision and seeking recovery of the taxes, penalties and interest paid by
the Company as a result of the SBE decision. On July 1, 2008, the Court held in
favor of the Company in the case and concluded that the Company is entitled to a
refund of California franchise tax in the amount of $22,438,826 plus interest
thereon as provided by law. After accounting for federal taxes, the Company
expects to record a tax benefit of approximately $15 million in the third
quarter of 2008. However, the ruling may be appealed by the FTB.
 
 Item
      1A.
              Risk
      Factors
 
 There have been no material changes to
the risk factors as previously disclosed in the Company’s Annual Report on Form
10-K for the year ended December 31, 2007.
 
 Item
      2.
              Unregistered
      Sales of Equity Securities and Use of ProceedsNone
 
 Item
      3.
              Defaults
      Upon Senior SecuritiesNone
 
  23
  
 Item
      4.
              Submission
      of Matters to a Vote of Security
Holders
 
 The Company held its Annual Meeting of
Shareholders on May 14, 2008. The matters voted upon at the meeting included the
election of all nine directors and the approval of the senior executive
incentive bonus plan. The votes cast with respect to these matters were as
follows:
 
 Election of Directors:
 
 Nominee
              
              Number of Shares
              
              Number of SharesVoted
      For
              WithheldNathan
      Bessin
              
              40,774,495
              
              2,468,929Bruce
      A. Bunner
              
              42,283,836
              
              959,588Michael
      D. Curtius
              
              42,051,961
              
              1,227,463Richard
      E. Grayson
              
              41,891,302
              
              1,352,122George
      Joseph
              
              41,833,729
              
              1,409,696Charles
      E. McClung
              
              42,059,407
              
              1,184,017Donald.
      P. Newell
              
              41,858,507
              
              1,384,917Donald
      R. Spuehler
              
              41,841,206
              
              1,402,218Gabriel
      Tirador
              
              42,319,187
              
              924,237
 
 Approval of the Senior Executive
Incentive Bonus Plan:
 
 Number of Shares
              
              Number of Shares
              
              Number of SharesVoted
      For
              Voted
      Against
              Abstained41,086,366
              
              1,946,200
              
              210,857
 
 Item
      5.
              Other
      InformationNone
 
 Item
      6.
              Exhibits
 
 15.1
              Letter
      Regarding Unaudited Interim Financial
  Information
 
 15.2
              Awareness
      Letter of Independent Registered Public Accounting
  Firm
 
 31.1
              Certification
      of Registrant’s Chief Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002
 
 31.2
              Certification
      of Registrant’s Chief Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002
 
 32.1
              Certification
      of Registrant’s Chief Executive Officer pursuant to 18 U.S.C. Section
      1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002. This
      certification is being furnished solely to accompany this Quarterly Report
      on Form 10-Q and is not being filed for purposes of Section 18 of the
      Securities Exchange Act of 1934, as amended, and is not to be incorporated
      by reference into any filing of the
Company.
 
 32.2
              Certification
      of Registrant’s Chief Financial Officer pursuant to 18 U.S.C. Section
      1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002. This
      certification is being furnished solely to accompany this Quarterly Report
      on Form 10-Q and is not being filed for purposes of Section 18 of the
      Securities Exchange Act of 1934, as amended, and is not to be incorporated
      by reference into any filing of the
Company.
 
  24
  
 SIGNATURES
 
 Pursuant to the requirements of the
Securities Exchange Act of 1934, the Registrant has duly caused this report to
be signed on its behalf by the undersigned thereunto duly
authorized.
 
 
 MERCURY GENERAL
CORPORATION
 
 
 
 Date:
      August 6, 2008
              By:
              /s/
      Gabriel TiradorGabriel
      TiradorPresident
      and Chief Executive OfficerDate:
      August 6, 2008
              By:
              /s/
      Theodore StalickTheodore
      StalickVice
      President and Chief Financial Officer
 
  25