##### 



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 
 FORM 10-Q
 (Mark One)
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
 For the quarterly period ended June 30, 2006
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
 For the transition period from  to.
 000-50641
(Commission File Number)
 
 PROCENTURY CORPORATION
  
 Ohio
    
    31-1718622(State or other jurisdiction of
    
    (I.R.S. Employer Identification No.)incorporation or organization)465 Cleveland AvenueWesterville, Ohio
    
    43082(Address of principal executive offices)
    
    (Zip Code)
 (614) 895-2000
  R £
  £ R £
  £ R




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##### 



PROCENTURY CORPORATION
 QUARTERLY REPORT ON FORM 10-Q
For the Quarterly Period Ended June 30, 2006
 INDEX
 PagePART I: FINANCIAL INFORMATIONItem 1. Financial StatementsConsolidated Condensed Statements of Operations (unaudited)  For the three and six months ended June 30,
2006 and 2005
    
    
    3Consolidated Condensed Balance Sheets (unaudited)  June 30, 2006 and December 31, 2005
    
    
    4Consolidated Condensed Statements of Shareholders Equity and Comprehensive Income (unaudited)  For the six
months ended June 30, 2006 and 2005
    
    
    5Consolidated Condensed Statements of Cash Flows (unaudited)   For the six months ended June 30, 2006 and 2005
    
    
    6Notes to Consolidated Condensed Financial Statements (unaudited)  June 30, 2006
    
    
    7Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    21Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    33Item 4. Controls and Procedures
    
    
    33PART II: OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    34Item 1A. Risk Factors
    
    
    34Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    34Item 3. Defaults Upon Senior Securities
    
    
    34Item 4. Submission of Matters to a Vote of Security Holders
    
    
    34Item 5. Other Information
    
    
    34Item 6. Exhibits
    
    
    34SIGNATURES
    
    
    36
  2




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##### 



PART I: FINANCIAL INFORMATION
 
 Item 1. Financial Statements
 PROCENTURY CORPORATION AND SUBSIDIARIES
 
 
 Three Months
    
    
    Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005Premiums earned
    
    $
    52,565
    
    
    
    43,025
    
    
    
    101,567
    
    
    
    84,545Net investment income
    
    
    4,689
    
    
    
    3,495
    
    
    
    9,115
    
    
    
    6,654Net realized investment losses
    
    
    (62
    )
    
    
    (94
    )
    
    
    (41
    )
    
    
    (153
    )Total revenues
    
    
    57,192
    
    
    
    46,426
    
    
    
    110,641
    
    
    
    91,046Losses and loss expenses
    
    
    32,575
    
    
    
    26,587
    
    
    
    63,014
    
    
    
    52,314Amortization of deferred policy acquisition costs
    
    
    12,896
    
    
    
    10,335
    
    
    
    24,962
    
    
    
    20,555Other operating expenses
    
    
    4,075
    
    
    
    3,474
    
    
    
    7,998
    
    
    
    6,539Severance expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    793Interest expense
    
    
    567
    
    
    
    459
    
    
    
    1,110
    
    
    
    876Total expenses
    
    
    50,113
    
    
    
    40,855
    
    
    
    97,084
    
    
    
    81,077Income before income tax
    
    
    7,079
    
    
    
    5,571
    
    
    
    13,557
    
    
    
    9,969Income tax expense
    
    
    2,054
    
    
    
    1,572
    
    
    
    3,932
    
    
    
    2,891Net income
    
    $
    5,025
    
    
    
    3,999
    
    
    
    9,625
    
    
    
    7,078Basic net income per share
    
    $
    0.38
    
    
    
    0.31
    
    
    
    0.73
    
    
    
    0.54Diluted net income per share
    
    $
    0.38
    
    
    
    0.30
    
    
    
    0.73
    
    
    
    0.54Weighted average of shares outstanding  basic
    
    
    13,114,535
    
    
    
    13,052,650
    
    
    
    13,107,620
    
    
    
    13,049,570Weighted average of shares outstanding  diluted
    
    
    13,247,528
    
    
    
    13,121,314
    
    
    
    13,224,050
    
    
    
    13,127,469Cash dividend per share
    
    $
    0.035
    
    
    
    0.02
    
    
    
    0.065
    
    
    
    0.04
  3




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##### 



PROCENTURY CORPORATION AND SUBSIDIARIES
 
 
 June 30,
    
    
    December 31,2006
    
    
    2005AssetsInvestmentsFixed maturities:Available-for-sale, at fair value
(amortized cost 2006, $334,972; 2005, $306,237)
    
    $
    325,278
    
    
    $
    302,632Held-to-maturity, at amortized cost
(fair value 2006, $1,091; 2005, $1,118)
    
    
    1,121
    
    
    
    1,128Equities (available-for-sale):Equity securities, at fair value (cost 2006, $29,383; 2005, $27,521)
    
    
    28,447
    
    
    
    26,941Bond mutual funds, at fair value (cost 2006, $14,367; 2005, $18,516)
    
    
    13,797
    
    
    
    17,852Short-term investments, at amortized cost
    
    
    11,621
    
    
    
    12,229Total investments
    
    
    380,264
    
    
    
    360,782Cash and cash equivalents
    
    
    8,892
    
    
    
    5,628Premiums in course of collection, net
    
    
    15,359
    
    
    
    14,849Deferred policy acquisition costs
    
    
    22,906
    
    
    
    20,649Prepaid reinsurance premiums
    
    
    10,282
    
    
    
    10,989Reinsurance recoverable on paid losses, net
    
    
    8,001
    
    
    
    6,422Reinsurance recoverable on unpaid losses, net
    
    
    41,694
    
    
    
    37,448Deferred federal income tax asset
    
    
    12,290
    
    
    
    9,151Income tax recoverable
    
    
    321
    
    
    
    Other assets
    
    
    9,706
    
    
    
    8,227Total assets
    
    $
    509,715
    
    
    $
    474,145Liabilities and Shareholders EquityLoss and loss expense reserves
    
    $
    234,951
    
    
    $
    211,647Unearned premiums
    
    
    102,277
    
    
    
    95,631Long term debt
    
    
    25,000
    
    
    
    25,000Accrued expenses and other liabilities
    
    
    6,744
    
    
    
    6,893Reinsurance balances payable
    
    
    3,786
    
    
    
    2,572Collateral held
    
    
    10,453
    
    
    
    11,014Income taxes payable
    
    
    
    
    
    
    185Total liabilities
    
    
    383,211
    
    
    
    352,942Shareholders equity:Common stock, without par value:Common shares  Issued and outstanding 13,211,619 shares at
June 30, 2006 and 13,211,019 shares at December 31, 2005
    
    
    
    
    
    
    Additional paid-in capital
    
    
    100,171
    
    
    
    100,202Retained earnings
    
    
    33,611
    
    
    
    24,846Unearned compensation
    
    
    
    
    
    
    (695
    )Accumulated other comprehensive loss, net of taxes
    
    
    (7,278
    )
    
    
    (3,150
    )Total shareholders equity
    
    
    126,504
    
    
    
    121,203Total liabilities and shareholders equity
    
    $
    509,715
    
    
    $
    474,145
  4




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##### 



PROCENTURY CORPORATION AND SUBSIDIARIES
 
 
 Six Months Ended June 30,2006
    
    
    2005Shareholders EquityCapital stock:Beginning of period
    
    $
    
    
    
    
    Stock issued
    
    
    
    
    
    
    End of period
    
    
    
    
    
    
    Additional paid-in capital:Beginning of period
    
    
    100,202
    
    
    
    100,103Impact of adoption of SFAS 123R
    
    
    (695
    )
    
    
    Shares issued under share compensation plans
    
    
    613
    
    
    
    63Exercise of share options
    
    
    6
    
    
    
    Tax benefit on share compensation plans
    
    
    45
    
    
    
    End of period
    
    
    100,171
    
    
    
    100,166Retained earnings:Beginning of period
    
    
    24,846
    
    
    
    15,727Net income
    
    
    9,625
    
    
    
    7,078Dividends declared (2006, $0.065/share and 2005, $0.04/share)
    
    
    (860
    )
    
    
    (528
    )End of period
    
    
    33,611
    
    
    
    22,277Unearned share compensation:Beginning of period
    
    
    (695
    )
    
    
    (1,413
    )Impact of adoption of SFAS 123R
    
    
    695
    
    
    
    402End of period
    
    
    
    
    
    
    (1,011
    )Accumulated other comprehensive (loss) income, net of taxes:Beginning of period
    
    
    (3,150
    )
    
    
    820Unrealized holding (losses) gains arising during the period,
net of reclassification adjustment
    
    
    (4,128
    )
    
    
    173End of period
    
    
    (7,278
    )
    
    
    993Total shareholders equity
    
    $
    126,504
    
    
    
    122,425Comprehensive IncomeNet income
    
    $
    9,625
    
    
    
    7,078Other comprehensive (loss) income:Unrealized (losses) gains on securities:Unrealized holding (losses) gains arising during the period:Gross
    
    
    (11,238
    )
    
    
    118Related federal income tax benefit (expense)
    
    
    3,933
    
    
    
    (44
    )Net unrealized (losses) gains
    
    
    (7,305
    )
    
    
    74Reclassification adjustment for losses included in net incomeGross
    
    
    (41
    )
    
    
    (153
    )Related federal income tax benefit
    
    
    14
    
    
    
    54Net reclassification adjustment
    
    
    (27
    )
    
    
    (99
    )Other comprehensive (loss) income
    
    
    (7,278
    )
    
    
    173Total comprehensive income
    
    $
    2,347
    
    
    
    7,251
  5




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##### 



PROCENTURY CORPORATION AND SUBSIDIARIES
 
  
 Six Months Ended June 30,2006
    
    
    2005Cash flows provided by operating activities:Net income
    
    $
    9,625
    
    
    
    7,078Adjustments:Net realized investment losses
    
    
    41
    
    
    
    153Deferred federal income tax benefit
    
    
    (916
    )
    
    
    (1,188
    )Share-based compensation expense
    
    
    613
    
    
    
    465Changes in assets and liabilities:Premiums in course of collection, net
    
    
    (510
    )
    
    
    (5,305
    )Deferred policy acquisition costs
    
    
    (2,257
    )
    
    
    (1,508
    )Prepaid reinsurance premiums
    
    
    707
    
    
    
    (512
    )Reinsurance recoverable on paid and unpaid losses, net
    
    
    (5,825
    )
    
    
    (7,135
    )Income taxes payable/receivable
    
    
    (506
    )
    
    
    (2,912
    )Losses and loss expense reserves
    
    
    23,304
    
    
    
    30,076Unearned premiums
    
    
    6,646
    
    
    
    6,610Other, net
    
    
    (491
    )
    
    
    2,383Net cash provided by operating activities
    
    
    30,431
    
    
    
    28,205Cash flows used in investing activities:Purchases of equity securities
    
    
    (6,664
    )
    
    
    (46,712
    )Purchase of fixed maturity securities available-for-sale
    
    
    (47,435
    )
    
    
    (62,864
    )Proceeds from sales of equity securities
    
    
    8,697
    
    
    
    39,141Proceeds from sales and maturities of fixed maturities available-for-sale
    
    
    17,981
    
    
    
    48,154Acquisition, net of cash acquired
    
    
    
    
    
    
    (1,002
    )Change in short-term investments
    
    
    608
    
    
    
    533Net cash used in investing activities
    
    
    (26,813
    )
    
    
    (22,750
    )Cash flows used in financing activities:Dividend paid to shareholders
    
    
    (860
    )
    
    
    (528
    )Exercise of share options
    
    
    6
    
    
    
    Draw on line of credit
    
    
    500
    
    
    
    2,300Principal payment on line of credit
    
    
    
    
    
    
    (2,300
    )Net cash used in financing activities
    
    
    (354
    )
    
    
    (528
    )Increase in cash and cash equivalents
    
    
    3,264
    
    
    
    4,927Cash and equivalents at beginning of period
    
    
    5,628
    
    
    
    7,681Cash and equivalents at end of period
    
    $
    8,892
    
    
    
    12,608Supplemental disclosure of cash flow information:Interest paid
    
    $
    1,123
    
    
    
    872Federal income taxes paid
    
    $
    5,300
    
    
    
    6,991
  6




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##### 



PROCENTURY CORPORATION AND SUBSIDIARIES
 
    (1)
    
    Basis of PresentationThe accompanying interim unaudited consolidated condensed financial statements and notes include
the accounts of ProCentury Corporation (the Company or ProCentury), and its wholly owned
insurance subsidiary, Century Surety Company (Century). The interim unaudited consolidated
condensed financial statements have been prepared in accordance with U.S. generally accepted
accounting principles (GAAP), for interim financial information and with the instructions to
Article 10 of Regulation S-X. Accordingly, the interim unaudited consolidated condensed
financial statements do not include all of the information and notes required by GAAP for
complete financial statements. In the opinion of management, all adjustments considered
necessary for a fair presentation of results for the interim periods have been included. These
interim unaudited consolidated condensed financial statements and related notes should be read
in conjunction with the consolidated financial statements and related notes in the Companys
audited consolidated financial statements, included in the Companys annual report on Form 10-K
for the year ended December 31, 2005. The Companys results of operations for interim periods
are not necessarily indicative of the results to be expected for the entire year.In preparing the interim unaudited consolidated condensed financial statements, management was
required to make certain estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities as of the date of the
interim unaudited consolidated condensed financial statements, and the reported amounts of
revenue and expenses for the reporting period. Actual results could differ significantly from
those estimates.Material estimates that are particularly susceptible to significant change in the near-term
relate to the determination of loss and loss expense reserves, the recoverability of deferred
policy acquisition costs, the determination of federal income taxes, the net realizable value of
reinsurance recoverables and the determination of other-than-temporary declines in the fair
value of investments. Although considerable variability is inherent in these estimates,
management believes that the amounts provided are reasonable. These estimates are continually
reviewed and adjusted as necessary. Such adjustments are reflected in current operations.All significant intercompany balances and transactions have been eliminated.Share Option AccountingEffective January 1, 2006, the Company adopted Statement of Financial Accounting Standards
(SFAS) No. 123(R), Share-Based Payment(SFAS No. 123R), using the modified prospective
application transition method. SFAS No. 123R revises SFAS No. 123, Accounting for Stock-Based
Compensation(SFAS No. 123). The Company previously followed the provisions of Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees(APB 25), the
Financial Accounting Standards Board (FASB) Interpretation No. 44, Accounting for Certain
Transactions involving Stock Compensation (an interpretation of APB Opinion No. 25), and other
related accounting interpretations for the Companys share option and restricted common share
plans utilizing the intrinsic value method. The Company also followed the disclosure
provisions of SFAS No. 123, Accounting for Stock-Based Compensation,for the Companys share
option grants, as amended by SFAS No. 148, Accounting for Stock-Based Compensation  Transition
and Disclosure; an amendment of FASB Statement No. 123.Under the modified prospective method, all unvested employee share options and restricted stock
are being expensed over the remaining vesting period based on the fair value at the date the
options were granted. In addition, SFAS No. 123R requires us to estimate forfeitures in
calculating the expense relating to stock-based compensation as opposed to recognizing these
forfeitures and the corresponding reduction in expense as they occur. In addition, SFAS No. 123R
requires the Company to reflect the tax savings resulting from tax deductions in excess of
compensation expense reflected in its financial statements as a cash inflow from financing
activities in its statement of cash flows rather than as an operating cash flow as in prior
periods.
 7




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##### 



If the Company recorded compensation expense for its share option grants based on the fair
value method as previously required by SFAS No. 123, the Companys net income and earnings per
share for the three and six months ended June 30, 2005 would have been adjusted to the pro forma
amounts as indicated in the following table:
 Three
    
    
    SixMonths
    
    
    MonthsEnded June 30,
    
    
    Ended June 30,2005
    
    
    2005(In thousands,
    
    
    (In thousands,except per
    
    
    except pershare data)
    
    
    share data)Net income:As reported
    
    $
    3,999
    
    
    $
    7,078Add: Share-based employee compensation expense included in reported
net income, net of related tax effects
    
    
    84
    
    
    
    302Less: Additional share-based employee compensation expense determined
under fair value-based method for all awards, net of related tax effects
    
    
    (150
    )
    
    
    (502
    )Pro forma
    
    $
    3,933
    
    
    $
    6,878Basic income per common share:As reported
    
    $
    0.31
    
    
    $
    0.54Pro forma
    
    $
    0.30
    
    
    $
    0.53Diluted income per common share:As reported
    
    $
    0.30
    
    
    $
    0.54Pro forma
    
    $
    0.30
    
    
    $
    0.52
 The fair values of the share options are estimated on the dates of grant using the Black-Scholes
option pricing model with the following weighted average assumptions:
 Three and Six Months EndedJune 30, 2005Risk free interest rate
    
    
    3.97
    %Dividend yield
    
    
    0.76
    %Volatility factor
    
    
    23.14
    %Weighted average expected option life
    
    7 Years
 (2)
    
    Income per Common ShareBasic income per share (EPS) excludes dilution and is calculated by dividing income available
to common shareholders by the weighted-average number of common shares outstanding for the
period. Diluted EPS reflects the dilution that could occur if securities or other contracts to
issue common shares (common share equivalents) were exercised. When inclusion of common share
equivalents increases the EPS or reduces the loss per share, the effect on earnings is
antidilutive. Under these circumstances, diluted net income or net loss per share is computed
excluding the common share equivalents.Based on the above and pursuant to disclosure requirements contained in SFAS No. 128, Earnings
Per Share, the following information represents a reconciliation of the numerator and
denominator of the basic and diluted EPS computations contained in the Companys interim
unaudited consolidated condensed financial statements.
 8




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##### 



Three Months Ended June 30, 2006Income
    
    
    Shares
    
    
    Per Share(Numerator)
    
    
    (Denominator)
    
    
    Amount(In thousands, except per share data)Basic Net Income Per ShareNet income
    
    $
    5,025
    
    
    
    13,114,535
    
    
    
    0.38Effect of Dilutive SecuritiesRestricted common shares and share options
    
    
    
    
    
    
    132,993
    
    
    
    Diluted EPSNet income
    
    $
    5,025
    
    
    
    13,247,528
    
    
    
    0.38
 Three Months Ended June 30, 2005Income
    
    
    Shares
    
    
    Per Share(Numerator)
    
    
    (Denominator)
    
    
    Amount(In thousands, except per share data)Basic Net Income Per ShareNet income
    
    $
    3,999
    
    
    
    13,052,650
    
    
    
    0.31Effect of Dilutive SecuritiesRestricted common shares and share options
    
    
    
    
    
    
    68,664
    
    
    
    (0.01
    )Diluted EPSNet income
    
    $
    3,999
    
    
    
    13,121,314
    
    
    
    0.30
 Six Months Ended June 30, 2006Income
    
    
    Shares
    
    
    Per Share(Numerator)
    
    
    (Denominator)
    
    
    Amount(In thousands, except per share data)Basic Net Income Per ShareNet income
    
    $
    9,625
    
    
    
    13,107,620
    
    
    
    0.73Effect of Dilutive SecuritiesRestricted common shares and share options
    
    
    
    
    
    
    116,430
    
    
    
    Diluted EPSNet income
    
    $
    9,625
    
    
    
    13,224,050
    
    
    
    0.73
 Six Months Ended June 30, 2005Income
    
    
    Shares
    
    
    Per Share(Numerator)
    
    
    (Denominator)
    
    
    Amount(In thousands, except per share data)Basic Net Income Per ShareNet income
    
    $
    7,078
    
    
    
    13,049,570
    
    
    
    0.54Effect of Dilutive SecuritiesRestricted common shares and share options
    
    
    
    
    
    
    77,899
    
    
    
    Diluted EPSNet income
    
    $
    7,078
    
    
    
    13,127,469
    
    
    
    0.54
 (3)
    
    InvestmentsThe Company invests primarily in investment-grade fixed maturities. The amortized cost, gross
unrealized gains and losses and estimated fair value of fixed maturities classified as
held-to-maturity were as follows:
 9




---



##### 



June 30, 2006Gross
    
    
    Gross
    
    
    EstimatedAmortized
    
    
    unrealized
    
    
    unrealized
    
    
    faircost
    
    
    gains
    
    
    losses
    
    
    value(In thousands)U.S. Treasury securities
    
    $
    88
    
    
    
    7
    
    
    
    
    
    
    
    95Agencies not backed by the full faith and credit of
the U.S. Government
    
    
    1,033
    
    
    
    
    
    
    
    (37
    )
    
    
    996Total
    
    $
    1,121
    
    
    
    7
    
    
    
    (37
    )
    
    
    1,091
 December 31, 2005Gross
    
    
    Gross
    
    
    EstimatedAmortized
    
    
    unrealized
    
    
    unrealized
    
    
    faircost
    
    
    gains
    
    
    losses
    
    
    value(In thousands)U.S. Treasury securities
    
    $
    89
    
    
    
    13
    
    
    
    
    
    
    
    102Agencies not backed by the full faith and credit of
the U.S. Government
    
    
    1,039
    
    
    
    
    
    
    
    (23
    )
    
    
    1,016Total
    
    $
    1,128
    
    
    
    13
    
    
    
    (23
    )
    
    
    1,118
 The amortized cost, gross unrealized gains and losses, and estimated fair value of
fixed-maturity and equity securities classified as available-for-sale were as follows:
 10




---



##### 



June 30, 2006Gross
    
    
    Gross
    
    
    EstimatedAmortized
    
    
    Unrealized
    
    
    Unrealized
    
    
    FairCost
    
    
    Gains
    
    
    Losses
    
    
    Value(In thousands)Fixed maturities:U.S. Treasury securities
    
    $
    3,658
    
    
    
    
    
    
    
    (91
    )
    
    
    3,567Agencies not backed by the full faith and
credit of the U.S. Government
    
    
    14,538
    
    
    
    
    
    
    
    (612
    )
    
    
    13,926Obligations of states and political subdivisions
    
    
    153,058
    
    
    
    51
    
    
    
    (3,961
    )
    
    
    149,148Corporate securities
    
    
    35,440
    
    
    
    7
    
    
    
    (1,345
    )
    
    
    34,102Mortgage-backed securities
    
    
    38,177
    
    
    
    18
    
    
    
    (1,809
    )
    
    
    36,386Collateralized mortgage obligations
    
    
    39,546
    
    
    
    22
    
    
    
    (1,122
    )
    
    
    38,446Asset-backed securities
    
    
    50,555
    
    
    
    229
    
    
    
    (1,081
    )
    
    
    49,703Total fixed maturities
    
    
    334,972
    
    
    
    327
    
    
    
    (10,021
    )
    
    
    325,278Equities:Equity securities
    
    
    29,383
    
    
    
    143
    
    
    
    (1,079
    )
    
    
    28,447Bond mutual funds
    
    
    14,367
    
    
    
    29
    
    
    
    (599
    )
    
    
    13,797Total equities
    
    
    43,750
    
    
    
    172
    
    
    
    (1,678
    )
    
    
    42,244Total
    
    $
    378,722
    
    
    
    499
    
    
    
    (11,699
    )
    
    
    367,522
 December 31, 2005Gross
    
    
    Gross
    
    
    EstimatedAmortized
    
    
    Unrealized
    
    
    Unrealized
    
    
    FairCost
    
    
    Gains
    
    
    Losses
    
    
    Value(In thousands)Fixed maturities:U.S. Treasury securities
    
    $
    3,688
    
    
    
    1
    
    
    
    (53
    )
    
    
    3,636Agencies not backed by the full faith and
credit of the U.S. Government
    
    
    14,526
    
    
    
    
    
    
    
    (230
    )
    
    
    14,296Obligations of states and political subdivisions
    
    
    142,932
    
    
    
    387
    
    
    
    (1,037
    )
    
    
    142,282Corporate securities
    
    
    36,689
    
    
    
    40
    
    
    
    (876
    )
    
    
    35,853Mortgage-backed securities
    
    
    40,910
    
    
    
    31
    
    
    
    (880
    )
    
    
    40,061Collateralized mortgage obligations
    
    
    27,943
    
    
    
    15
    
    
    
    (606
    )
    
    
    27,352Asset-backed securities
    
    
    39,549
    
    
    
    238
    
    
    
    (635
    )
    
    
    39,152Total fixed maturities
    
    
    306,237
    
    
    
    712
    
    
    
    (4,317
    )
    
    
    302,632Equities:Equity securities
    
    
    27,521
    
    
    
    215
    
    
    
    (795
    )
    
    
    26,941Bond mutual funds
    
    
    18,516
    
    
    
    15
    
    
    
    (679
    )
    
    
    17,852Total equities
    
    
    46,037
    
    
    
    230
    
    
    
    (1,474
    )
    
    
    44,793Total
    
    $
    352,274
    
    
    
    942
    
    
    
    (5,791
    )
    
    
    347,425
 Other-than-temporary impairment losses result in a permanent reduction to the cost basis of
the underlying investment and are recorded as a realized loss in the interim unaudited
consolidated condensed statements of operations. No other-than-temporary declines were realized
during the three or six months ended June 30, 2006. No other-than-temporary declines were
realized during the three months ended June 30, 2005. Other-than-temporary losses of $35,000
were included in the net realized investment losses for the six months ended June 30, 2005.
 The fair values and gross unrealized losses for securities classified as held-to-maturity by the
Company and assessed as temporarily impaired by management, categorized by the length of time
that the individual securities have been in a continuous unrealized loss position, as of June
30, 2006 are as follows:
 11




---



##### 



June 30, 2006Less than 12 months
    
    
    12 months or longer
    
    
    TotalEstimated
    
    
    Gross
    
    
    Estimated
    
    
    Gross
    
    
    Estimated
    
    
    Grossfair
    
    
    unrealized
    
    
    fair
    
    
    unrealized
    
    
    fair
    
    
    unrealizedvalue
    
    
    loss
    
    
    value
    
    
    loss
    
    
    value
    
    
    loss(In thousands)Agencies not backed by the full faith
and credit of the U.S. Government
    
    $
    
    
    
    
    
    
    
    
    (996
    )
    
    
    (37
    )
    
    
    (996
    )
    
    
    (37
    )Total
    
    $
    
    
    
    
    
    
    
    
    (996
    )
    
    
    (37
    )
    
    
    (996
    )
    
    
    (37
    )
 The estimated fair value, related gross unrealized losses, and the length of time that the
securities have been impaired for available-for-sale securities that are considered temporarily
impaired are as follows:
 June 30, 2006Less Than 12 Months
    
    
    12 Months or Longer
    
    
    TotalEstimated
    
    
    Gross
    
    
    Estimated
    
    
    Gross
    
    
    Estimated
    
    
    GrossFair
    
    
    Unrealized
    
    
    Fair
    
    
    Unrealized
    
    
    Fair
    
    
    UnrealizedValue
    
    
    Loss
    
    
    Value
    
    
    Loss
    
    
    Value
    
    
    Loss(In thousands)Fixed maturity securities:U.S. Treasury securities
    
    $
    1,821
    
    
    
    (32
    )
    
    
    1,746
    
    
    
    (59
    )
    
    
    3,567
    
    
    
    (91
    )Agencies not backed by the full faith
and credit of the U.S. Government
    
    
    7,849
    
    
    
    (341
    )
    
    
    6,077
    
    
    
    (271
    )
    
    
    13,926
    
    
    
    (612
    )Obligations of states and political
subdivisions
    
    
    123,492
    
    
    
    (3,136
    )
    
    
    22,447
    
    
    
    (825
    )
    
    
    145,939
    
    
    
    (3,961
    )Corporate securities
    
    
    11,364
    
    
    
    (463
    )
    
    
    20,763
    
    
    
    (882
    )
    
    
    32,127
    
    
    
    (1,345
    )Mortgage-backed securities
    
    
    20,629
    
    
    
    (988
    )
    
    
    15,319
    
    
    
    (821
    )
    
    
    35,948
    
    
    
    (1,809
    )Collateralized mortgage obligations
    
    
    23,425
    
    
    
    (596
    )
    
    
    13,220
    
    
    
    (526
    )
    
    
    36,645
    
    
    
    (1,122
    )Asset-backed securities
    
    
    30,580
    
    
    
    (800
    )
    
    
    6,567
    
    
    
    (281
    )
    
    
    37,147
    
    
    
    (1,081
    )Total
    
    
    219,160
    
    
    
    (6,356
    )
    
    
    86,139
    
    
    
    (3,665
    )
    
    
    305,299
    
    
    
    (10,021
    )Equities:Equity securities
    
    
    21,140
    
    
    
    (813
    )
    
    
    3,774
    
    
    
    (266
    )
    
    
    24,914
    
    
    
    (1,079
    )Bond mutual funds
    
    
    8,158
    
    
    
    (321
    )
    
    
    5,174
    
    
    
    (278
    )
    
    
    13,332
    
    
    
    (599
    )Total
    
    
    29,298
    
    
    
    (1,134
    )
    
    
    8,948
    
    
    
    (544
    )
    
    
    38,246
    
    
    
    (1,678
    )Grand Total
    
    $
    248,458
    
    
    
    (7,490
    )
    
    
    95,087
    
    
    
    (4,209
    )
    
    
    343,545
    
    
    
    (11,699
    )
  12




---



##### 



(4)
    
    Loss and Loss Expense ReservesLiability for losses and loss expenses represents the Companys best estimate of the ultimate
amounts needed to pay both reported and unreported claims. These estimates are based on quarterly
internal actuarial studies and certified on an annual basis by an independent actuary. The
Company continually reviews these estimates and, based on new developments and information, the
Company includes adjustments of the probable ultimate liability in the operating results for the
periods in which the adjustments are made.Net loss and loss expenses incurred were $32.6 million for the quarter ended June 30, 2006,
compared to $26.6 million for the quarter ended June 30, 2005. In the second quarter of 2006, the
Company recorded $31.7 million of incurred losses and loss expenses attributable to the 2006
accident year and $886,000 attributable to events of prior years. In the second quarter of 2005,
the Company recorded $24.9 million of incurred losses and loss expenses attributable to the 2005
accident year and $1.7 million attributable to events of prior years.Net loss and loss expenses incurred were $63.0 million for the six months ended June 30, 2006,
compared to $52.3 million for the six months ended June 30, 2005. In the first six months of
2006, the Company recorded $61.4 million of incurred losses and loss expenses attributable to the
2006 accident year and $1.6 million attributable to events of prior years. In the first six
months of 2005, the Company recorded $48.7 million of incurred losses and loss expenses
attributable to the 2005 accident year and $3.6 million attributable to events of prior years.In the aggregate, the Company recorded $886,000 and $1.6 million of unfavorable reserve
development related to prior accident years for the three and six months ended June 30, 2006,
respectively. For the six months ended June 30, 2006, within the property line, the Company
experienced favorable non-catastrophe case reserve development producing a reduction in ultimate
loss and loss expenses for the 2004 and 2005 accident years by $4.0 million. The Company also
changed its estimates during such six month period on catastrophe losses by reducing its
estimates on Hurricane Wilma by $1.1 million due to actual incurred losses being lower than
original estimates. This favorable development was offset by an increase of $4.1 million in
casualty reserves during such six month period as a result of a refinement to the internal
actuarial reserving technique concerning the weighting of reserve indications and supplemental
information concerning claims severities. The Companys reserves moved to a higher point on the
range of loss and loss expense reserve estimate, despite the fact that overall, the Companys
casualty book of business performed within the range of expectations for the quarter and six
months ended June 30, 2006. The Company also incurred approximately
$1.2 million of adverse development during the six months ended June 30, 2006 due to an increase
in legal severities on construction defect claims. Additionally, the Company recorded
approximately $1.4 million of unfavorable development during the six months ended June 30, 2006
related to estimated costs associated with possible reinsurance collection issues on two separate
casualty claims.The prior year development increases for the quarter and six months ended June 30, 2005 resulted
principally from construction defect claims within the other liability line of the property and
casualty segment. During the first and second quarter of 2005, the Company established reserves
for several contribution action settlements. This development was slightly offset by favorable
claim count development, while claim severities continued to be within the Companys
expectations. Prior year development for construction defect claims was $1.7 million and $3.1
million for the three and six months ended June 30, 2005, respectively. The prior year increases
related to construction defect claims was partially offset by positive development in the
Companys property line and supplemented by additional development in the casualty line.Management believes the loss and loss expense reserves make a reasonable provision for expected
losses, however, ultimate settlement of these amounts could vary significantly from the amounts
recorded.
 13




---



##### 



(5)
    
    ReinsuranceIn the ordinary course of business, Century assumes and cedes reinsurance with other insurers
and reinsurers. These arrangements provide greater diversification of business and limit the
maximum net loss potential on large risks. There have been no significant changes in the
Companys reinsurance program except for the fact that the Company is now retaining 50% of the
$500,000 excess of $500,000 layer of the 2006 casualty treaty. This layer was ceded 100% to
reinsurers in 2005. The amounts of ceded loss and loss expense reserves and ceded unearned
premiums would represent a liability of the Company in the event that its reinsurers would be
unable to meet existing obligations under reinsurance agreements.
 14




---



##### 



The effects of assumed and ceded reinsurance on premiums written, premiums earned and loss and
loss expenses incurred were as follows:
 For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)Premiums written:Direct
    
    $
    64,488
    
    
    
    54,635
    
    
    
    121,763
    
    
    
    101,953Assumed
    
    
    1,192
    
    
    
    638
    
    
    
    1,946
    
    
    
    952Ceded
    
    
    (7,191
    )
    
    
    (6,916
    )
    
    
    (14,788
    )
    
    
    (12,262
    )Net premiums written
    
    $
    58,489
    
    
    
    48,357
    
    
    
    108,921
    
    
    
    90,643Premiums earned:Direct
    
    
    59,061
    
    
    
    48,919
    
    
    
    115,146
    
    
    
    95,882Assumed
    
    
    1,105
    
    
    
    198
    
    
    
    1,917
    
    
    
    413Ceded
    
    
    (7,601
    )
    
    
    (6,092
    )
    
    
    (15,496
    )
    
    
    (11,750
    )Net premiums earned
    
    $
    52,565
    
    
    
    43,025
    
    
    
    101,567
    
    
    
    84,545Losses and loss expenses incurred:Direct
    
    
    38,566
    
    
    
    31,777
    
    
    
    72,860
    
    
    
    63,671Assumed
    
    
    253
    
    
    
    (142
    )
    
    
    357
    
    
    
    (412
    )Ceded
    
    
    (6,244
    )
    
    
    (5,048
    )
    
    
    (10,203
    )
    
    
    (10,945
    )Net losses and loss expenses incurred
    
    $
    32,575
    
    
    
    26,587
    
    
    
    63,014
    
    
    
    52,314
 In 1998 and 1999, the Company had quota share and excess of loss reinsurance agreements with
three reinsurance companies for the workers compensation line of business. These agreements were
entered into through an intermediary, which was ordered into liquidation in 2000. Since that
time, the Company attempted to collect the losses directly from one of the reinsurers. On March
22, 2006, the Companys effort to vacate an adverse award received in arbitration related to this
reinsurer proved unsuccessful. As such, the Company is currently in the process of turning the
claims over to the liquidator of the intermediary. At June 30, 2006, the Company has a reserve
of $1.5 million in the event it is unable to fully collect the amounts due. As of June 30, 2006,
the Company had approximately $2.9 million of recoverables related to these reinsurance
agreements, of which $1.1 million related to the quota share agreements and $1.8 million related
to the excess of loss agreements.In addition, in the second quarter of 2006, the Company increased its reserves for uncollectible
reinsurance to $1.4 million from $250,000 related to disputes with three reinsurers on 1997 and
2000 accident year casualty claims. The total amount in dispute is approximately $4.0 million.
During the second quarter of 2006, the Company was unsuccessful on appeal on the 1997 accident
year claim for which it is anticipated that one of the reinsures may deny indemnification. In
addition, the Company has filed a notice of arbitration against one of its reinsurers related to
the 2000 accident year claim for which a $250,000 provision was established in the first quarter
of 2006. In the second quarter of 2006, the Company recorded an additional provision of $220,000
for the 2000 accident year claim as the Company may file for arbitration if current negotiations
are not successful.Management believes that the reserves for uncollectible reinsurance constitute a reasonable
provision for expected costs and recoveries related to the collection of the recoverables on
these claims, however, actual legal costs and settlement of these claims could vary significantly
from the current estimates recorded.(6)
    
    Deferred Policy Acquisition CostsThe following reflects the amounts of policy acquisition costs deferred and amortized:
 15




---



##### 



For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)Balance at beginning of period
    
    $
    21,418
    
    
    
    17,506
    
    
    
    20,649
    
    
    
    17,411Policy acquisition costs deferred
    
    
    14,384
    
    
    
    11,748
    
    
    
    27,219
    
    
    
    22,063Amortization of deferred policy acquisition costs
    
    
    (12,896
    )
    
    
    (10,335
    )
    
    
    (24,962
    )
    
    
    (20,555
    )Balance at end of period
    
    $
    22,906
    
    
    
    18,919
    
    
    
    22,906
    
    
    
    18,919
 (7)
    
    Federal Income TaxesThe income tax provision for the three and six months ended June 30, 2006 and 2005 has been
computed based on our estimated annual effective tax rate of 29.0%, which differs from the
federal income tax rate of 35% principally because of tax-exempt investment income.(8)
    
    Commitments and ContingenciesThe Company is party to lawsuits, arbitration and other proceedings that arise in the normal
course of our business. Many of such lawsuits, arbitrations and other proceedings involve claims
under policies that the Company underwrites as an insurer, the liabilities for which the Company
believes have been adequately included in its loss and loss adjustment expense (LAE) reserves.
Also, from time to time, the Company is party to lawsuits, arbitrations and other proceedings
that relate to disputes over contractual relationships with third parties, or that involve
alleged errors and omissions on the part of our insurance subsidiaries. The Company provides
accruals for these items to the extent it deems the losses probable and reasonably estimable.The outcome of litigation is subject to numerous uncertainties. Although the ultimate outcome of
pending matters cannot be determined at this time, based on present information, the Company
believes the resolution of these matters will not have a material adverse effect on its financial
position, results of operations or cash flows.(9)
    
    Employee BenefitsDuring 2004, the Company adopted and the shareholders approved a stock option plan (the plan)
that provided tax-favored incentive stock options (qualified options), non-qualified share
options to employees and qualified board members that do not qualify as tax-favored incentive
share options (non-qualified options), time-based restricted shares that vest solely on service
provided and restricted shares that vest based on achieved performance metrics. Compensation cost
is recorded in the same
financial statement caption as the salary expense of the employee (i.e. the compensation cost for
the Chief Investment Officer is recorded in net investment income).With respect to qualified options, an employee may be granted an option to purchase shares at the
grant date fair market value, payable as determined by the Companys board of directors. An
optionee must exercise an option within 10 years from the grant date. Full vesting of options
granted occurs at the end of four years.With respect to non-qualified options, an employee or a board member may be granted an option to
purchase shares at the grant date fair market value, payable as determined by the Companys board
of directors. An optionee must exercise an option within 10 years from the grant date. Full
vesting of options granted occurs at the end of three years.For both non-qualified and qualified options, the option exercise price equals the stocks fair
market value on the date of the grant. In accordance with SFAS No. 123R, compensation expense is
recorded over the service period based on the grant date fair market value of the options. The
fair market value is determined by the Company using the Black-Scholes option pricing model.
Prior to the adoption of SFAS 123R, in accordance with APB No. 25, no compensation expense was
recorded for the qualified and non-qualified share options as the market value on the grant dates
equaled the exercise price.The time-based restricted shares are granted to key executives and vest in equal installments
upon the lapse of a period of time, typically over four and five-year periods and include both
monthly and annual vesting periods. Compensation expense for time-
 16




---



##### 



based restricted shares is measured on the grant date at the current market value and then
recognized over the respective service period, which typically matches the vesting period.The performance-based restricted shares are granted to key executives and vest annually over a
four-year period based on achieved specified performance metrics. In accordance with SFAS 123R,
compensation cost is measured on the grant date at the grant date market value and recorded over
the service period. Prior to the adoption of SFAS 123R, compensation expense for
performance-based restricted share awards was recognized based on the fair value of the awards at
the end of the period.The Company may grant options for up to 1.2 million shares under the plan. Through December 31,
2005, the Company had granted 287,000 non-qualified options, 95,000 qualified options, 156,000
time-based restricted shares and 55,024 performance-based restricted shares under the share plan.
On January 3, 2006 and June 1, 2006, the Company granted an additional 112,500 qualified options
and an additional 12,000 non-qualified options.A summary of the status of the option plan for the six months ended June 30, 2006 and for the
year ended December 31, 2005 are presented in the following table:
 June 30, 2006
    
    
    December 31, 2005Weighted-
    
    
    
    
    
    
    Weighted-Number of
    
    
    Average
    
    
    Number of
    
    
    AverageShares
    
    
    Exercise Price
    
    
    Shares
    
    
    Exercise PriceOutstanding at beginning of period
    
    
    382,000
    
    
    $
    10.49
    
    
    
    364,000
    
    
    $
    10.50Granted
    
    
    124,500
    
    
    
    10.87
    
    
    
    18,000
    
    
    
    10.30Exercised
    
    
    (600
    )
    
    
    
    
    
    
    
    
    
    
    Forfeited
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Outstanding at end of period
    
    
    505,900
    
    
    $
    10.58
    
    
    
    382,000
    
    
    $
    10.49Exercisable at end of period
    
    
    290,259
    
    
    $
    10.53
    
    
    
    217,393
    
    
    $
    10.50Weighted-average fair value of
options granted during year
    
    
    
    
    
    $
    3.18
    
    
    
    
    
    
    $
    2.99
 17




---



##### 



Six MonthsEnded
    
    Year EndedJune 30,
    
    December 312006
    
    2005Risk free interest rate
    
    
    4.07
    %
    
    
    4.03
    %Dividend yield
    
    
    0.93
    %
    
    
    0.76
    %Volatility factor
    
    
    23.11
    %
    
    
    23.14
    %Weighted average expected option life
    
    7 Years
    
    7 Years
  Options Outstanding
    
    Options ExcercisableWeightedAverage
    
    Weighted
    
    
    
    
    
    WeightedRemaining
    
    Average
    
    Exercisable
    
    AverageOutstanding
    
    Contract
    
    Exercise
    
    as of
    
    ExercisePrice Range
    
    Options
    
    Life
    
    Price
    
    June 30, 2006
    
    Price$10.20
    
    
    12,000
    
    
    
    8.9
    
    
    $
    10.20
    
    
    
    4,332
    
    
    $
    10.20$10.50
    
    
    369,400
    
    
    
    7.8
    
    
    $
    10.50
    
    
    
    270,619
    
    
    $
    10.50$10.64
    
    
    112,500
    
    
    
    9.5
    
    
    $
    10.64
    
    
    
    15,572
    
    
    $
    10.64$13.04
    
    
    12,000
    
    
    
    9.9
    
    
    $
    13.04
    
    
    
    336
    
    
    $
    13.04
  2006
    
    
    2005Weighted
    
    
    
    
    
    
    WeightedNumber of
    
    
    Average
    
    
    Number of
    
    
    AverageShares
    
    
    Grant Price
    
    
    Shares
    
    
    Grant PriceBeginning of year
    
    
    68,033
    
    
    $
    10.22
    
    
    
    137,049
    
    
    $
    10.31Add (deduct):Granted
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Vested
    
    
    (7,472
    )
    
    
    10.58
    
    
    
    (31,593
    )
    
    
    10.28Cancelled
    
    
    
    
    
    
    
    
    
    
    (37,423
    )
    
    
    10.50End of year
    
    
    60,561
    
    
    $
    10.20
    
    
    
    68,033
    
    
    $
    10.22
   18




---



##### 



2006
    
    
    2005Weighted
    
    
    
    
    
    
    WeightedNumber of
    
    
    Average
    
    
    Number of
    
    
    AverageShares
    
    
    Grant Price
    
    
    Shares
    
    
    Grant PriceBeginning of year
    
    
    37,365
    
    
    $
    10.50
    
    
    
    
    
    
    $
    Add (deduct):Granted
    
    
    
    
    
    
    
    
    
    
    55,024
    
    
    
    10.50Vested
    
    
    (9,341
    )
    
    
    10.50
    
    
    
    
    
    
    
    Cancelled
    
    
    
    
    
    
    
    
    
    
    (17,659
    )
    
    
    10.50End of year
    
    
    28,024
    
    
    $
    10.50
    
    
    
    37,365
    
    
    $
    10.50
 Of the performance-based restricted share awards granted in March of 2005, an award for
17,659 shares was modified in accordance with the agreement entered into in connection with the
termination of an executive officers employment in September 2005. As such, the award was
treated as cancelled on September 30, 2005 due to a modification of the award to accelerate the
vesting of the shares, change the vesting from annual vesting to monthly vesting and remove the
performance based restrictions. As such, the award is treated as a variable award which is valued
at the fair market value on the monthly vesting date. During 2005, the Company recorded $46,058
compensation expense related to the restricted shares. During the six months ended June 30, 2006,
the Company recorded $74,234 compensation expense related to the restricted shares and 4,414
shares remain unvested at June 30, 2006.(10)
    
    Segment Reporting DisclosuresThe Company operates in the Property and Casualty Lines (P/C) (including general liability,
multi-peril, commercial property and garage liability).The Companys Other (including exited lines) include the surety business and the Companys exited
lines, such as workers compensation and commercial auto/trucking. A limited amount of surety
business is written in order to maintain Centurys U.S. Treasury listing.All investment activities are included in the Investing operating segment.The Company considers many factors, including economic similarity, the nature of the underwriting
units insurance products, production sources, distribution strategies and regulatory environment
in determining how to aggregate operating segments.Segment profit or loss for each of the Companys segments is measured by underwriting profit or
loss. The property and casualty insurance industry commonly defines underwriting profit or loss
as earned premium net of loss and loss expenses and underwriting, acquisition and insurance
expenses. Underwriting profit or loss does not replace operating income or net income computed in
accordance with GAAP as a measure of profitability. Segment profit for the Investing operating
segment is measured by net investment income and net realized gains or losses. The Company does
not allocate assets, including goodwill, to the P/C and Other operating segments for management
reporting purposes. The total investment portfolio and cash are allocated to the Investing
operating segment.Following is a summary of segment disclosures:
 19




---



##### 



For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)Segment revenue:P/C
    
    $
    51,618
    
    
    
    42,927
    
    
    
    99,961
    
    
    
    84,440Investing
    
    
    4,627
    
    
    
    3,401
    
    
    
    9,074
    
    
    
    6,501Other (including exited lines)
    
    
    947
    
    
    
    98
    
    
    
    1,606
    
    
    
    105Segment revenue
    
    $
    57,192
    
    
    
    46,426
    
    
    
    110,641
    
    
    
    91,046Segment profit:P/C
    
    
    2,844
    
    
    
    2,275
    
    
    
    5,132
    
    
    
    5,213Investing
    
    
    4,627
    
    
    
    3,401
    
    
    
    9,074
    
    
    
    6,501Other (including exited lines)
    
    
    341
    
    
    
    481
    
    
    
    718
    
    
    
    (80
    )Segment profit
    
    $
    7,812
    
    
    
    6,157
    
    
    
    14,924
    
    
    
    11,634Segment assets:Investing
    
    
    380,264
    
    
    
    328,727
    
    
    
    380,264
    
    
    
    328,727Assets not allocated
    
    
    129,451
    
    
    
    111,109
    
    
    
    129,451
    
    
    
    111,109Total consolidated assets
    
    $
    509,715
    
    
    
    439,836
    
    
    
    509,715
    
    
    
    439,836
  For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)Income before income taxes:Segment profit
    
    $
    7,812
    
    
    
    6,157
    
    
    
    14,924
    
    
    
    11,634Unallocated amounts:Corporate expenses
    
    
    (166
    )
    
    
    (127
    )
    
    
    (257
    )
    
    
    (789
    )Interest expense
    
    
    (567
    )
    
    
    (459
    )
    
    
    (1,110
    )
    
    
    (876
    )Income before income taxes
    
    $
    7,079
    
    
    
    5,571
    
    
    
    13,557
    
    
    
    9,969
 20




---



##### 



The following is a summary of segment earned premium by group of products:
 Property
    
    
    Casualty
    
    
    Other
    
    
    Consolidated(In thousands)Three Months Ended June 30, 2006P/C
    
    $
    15,039
    
    
    
    36,579
    
    
    
    
    
    
    
    51,618Other (including exited lines)
    
    
    
    
    
    
    
    
    
    
    947
    
    
    
    947Earned premiums
    
    $
    15,039
    
    
    
    36,579
    
    
    
    947
    
    
    
    52,565Three Months Ended June 30, 2005P/C
    
    $
    13,930
    
    
    
    28,997
    
    
    
    
    
    
    
    42,927Other (including exited lines)
    
    
    
    
    
    
    
    
    
    
    98
    
    
    
    98Earned premiums
    
    $
    13,930
    
    
    
    28,997
    
    
    
    98
    
    
    
    43,025Six Months Ended June 30, 2006P/C
    
    $
    29,472
    
    
    
    70,489
    
    
    
    
    
    
    
    99,961Other (including exited lines)
    
    
    
    
    
    
    
    
    
    
    1,606
    
    
    
    1,606Earned premiums
    
    $
    29,472
    
    
    
    70,489
    
    
    
    1,606
    
    
    
    101,567Six Months Ended June 30, 2005P/C
    
    $
    28,346
    
    
    
    56,094
    
    
    
    
    
    
    
    84,440Other (including exited lines)
    
    
    
    
    
    
    
    
    
    
    105
    
    
    
    105Earned premiums
    
    $
    28,346
    
    
    
    56,094
    
    
    
    105
    
    
    
    84,545
 The Company does not manage property and casualty products at this level of detail.(11)
    
    Dividends to Common ShareholdersOn March 13, 2006, the Board of Directors declared a dividend of $0.03 per common share that was
paid on April 17, 2006 to shareholders of record as of March 27, 2006. On May 15, 2006, the Board
of Directors declared a dividend of $0.035 per common share that was paid on June 7, 2006 to
shareholders of record as of May 24, 2006.(12)
    
    Line of CreditThe Company has a $5.0 million line of credit with a maturity date of September 8, 2006, and
interest only payments due quarterly based on LIBOR plus 2.5% of the outstanding balance. All of
the outstanding shares of Century are pledged as collateral. In June 2006, the Company made a
$500,000 draw on the line of credit for general corporate purposes. Interest expense on the line
of credit for the quarter ended June 30, 2006 was approximately $1,800. The outstanding balance
at June 30, 2006 of $500,000 is included in the caption accrued expenses and other liabilities in
the accompanying unaudited consolidated condensed balance sheets The Company also made an
additional draw of $500,000 on the line of credit in July 2006.There was no outstanding balance at June 30, 2005; however, in April 2005, the Company made a
$2.3 million draw on the line of credit for general corporate purposes. The $2.3 million draw
was paid off on May 17, 2005. Interest paid on the line of credit for the period which the draw
was outstanding was $5,000 for the quarter ended June 30, 2005.
 
 Item 2. Managements Discussion And Analysis Of Financial Condition And Results Of Operations
  21




---



##### 




    
    our actual incurred losses may be greater than our loss and loss expense reserves, which
could cause our future earnings, liquidity and financial rating to decline;
    
    a decline in our financial rating assigned by A.M. Best may result in a reduction of new
or renewal business;
    
    we are subject to extensive regulation and judicial decisions affecting insurance and
tort law, which may adversely affect our ability to achieve our business objectives. In
addition, if we fail to comply with certain regulations, we may be subject to penalties,
including fines and suspensions, which may adversely affect our financial condition and
results of operations;
    
    our general agents may exceed their authority and bind us to policies outside our
underwriting guidelines, and until we effect a cancellation, we may incur loss and loss
expenses related to those policies;
    
    if we lose key personnel or are unable to recruit qualified personnel, our ability to
implement our business strategies could be delayed or hindered;
    
    our investment results and, therefore, our financial condition may be impacted by
changes in the business, financial condition or operating results of the entities in which
we invest, as well as changes in government monetary policies, general economic conditions
and overall market conditions, all of which impact interest rates;
    
    we distribute our products through a select group of general agents, five of which
account for a significant part of our business, and such relationships could be
discontinued or cease to be profitable;
    
    our reinsurers may not pay claims made by us on losses in a timely fashion or may not
pay some or all of these claims, in each case causing our costs to increase and our
revenues to decline;
    
    if we are not able to renew our existing reinsurance or obtain new reinsurance, either
our net exposure would increase or we would have to reduce the level of our underwriting
commitment;
    
    our business is cyclical in nature, which will affect our financial performance and may
affect the price of our common shares;
    
    if we are unable to compete effectively with the large number of companies in the
insurance industry for underwriting revenues, we may incur increased costs and our
underwriting revenues and net income may decline;
    
    severe weather conditions and other catastrophes may result in an increase in the number
and amount of claims experienced by our insureds; and
    
    as a holding company, we are dependent on the results of operations of our insurance
subsidiary and the regulatory and contractual capacity of our subsidiary to pay dividends
to us. Some states limit the aggregate amount of dividends our subsidiary may pay to us in
any twelve-month period, thereby limiting our funds to pay expenses and dividends.
  Overview
  22




---



##### 



Gross Written Premiums.
 Net Written Premiums.
 Earned Premiums.
 Loss Ratio.
 Expense Ratio.
 Combined Ratio.
 Critical Accounting Policies
   Loss and Loss Expense Reserves.
 23




---



##### 



Reinsurance Recoverables.
 Impairment of Investments.
  Recognition of Interest Income
and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets,
  Deferred Policy Acquisition Costs.
 Federal Income Taxes.
  24




---



##### 



Results of Operations
  For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)
    
    
    (In thousands)Selected Financial Data:Gross written premiums
    
    $
    65,680
    
    
    
    55,273
    
    
    
    123,709
    
    
    
    102,905Premiums earned
    
    
    52,565
    
    
    
    43,025
    
    
    
    101,567
    
    
    
    84,545Net investment income
    
    
    4,689
    
    
    
    3,495
    
    
    
    9,115
    
    
    
    6,654Net realized investment losses
    
    
    (62
    )
    
    
    (94
    )
    
    
    (41
    )
    
    
    (153
    )Total revenues
    
    
    57,192
    
    
    
    46,426
    
    
    
    110,641
    
    
    
    91,046Total expenses
    
    
    50,113
    
    
    
    40,855
    
    
    
    97,084
    
    
    
    81,077Net income
    
    
    5,025
    
    
    
    3,999
    
    
    
    9,625
    
    
    
    7,078Key Financial Ratios:Loss and loss expense ratio
    
    
    62.0
    %
    
    
    61.8
    %
    
    
    62.0
    %
    
    
    61.9
    %Expense ratio
    
    
    32.3
    %
    
    
    32.1
    %
    
    
    32.5
    %
    
    
    33.0
    %Combined ratio
    
    
    94.3
    %
    
    
    93.9
    %
    
    
    94.5
    %
    
    
    94.9
    %
 25




---



##### 



Overview of Operating Results
    Revenues
 Premiums
     
    
    property/casualty; and
    
    other (including exited lines).
  26




---



##### 



For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)
    
    
    (In thousands)Gross written premiumsProperty/casualty
    
    $
    64,790
    
    
    
    54,564
    
    
    
    121,880
    
    
    
    102,139Other (including exited lines)
    
    
    890
    
    
    
    709
    
    
    
    1,829
    
    
    
    766Total gross written premiums
    
    $
    65,680
    
    
    
    55,273
    
    
    
    123,709
    
    
    
    102,905Ceded written premiums
    
    
    7,191
    
    
    
    6,916
    
    
    
    14,788
    
    
    
    12,262Net written premiums
    
    $
    58,489
    
    
    
    48,357
    
    
    
    108,921
    
    
    
    90,643Premiums earned
    
    $
    52,565
    
    
    
    43,025
    
    
    
    101,567
    
    
    
    84,545Net to gross written premiums
    
    
    89.1
    %
    
    
    87.5
    %
    
    
    88.0
    %
    
    
    88.1
    %Earned to net written premiums
    
    
    89.9
    %
    
    
    89.0
    %
    
    
    93.2
    %
    
    
    93.3
    %Net writings ratio (1)
    
    
    1.8
    
    
    
    1.6
    
    
    
    1.7
    
    
    
    1.5
 
 (1)
    
    The ratio of net written premiums to our insurance subsidiaries combined statutory surplus.
Management believes this measure is useful in gauging our exposure to pricing errors in the
current book of business. It may not be comparable to the definition of net writings ratio
used by other companies. Gross Written Premiums
  Net Written Premiums and Premiums Earned
   27




---



##### 



Net Investment Income
   Net Realized Investment Losses
   Expenses
 Losses and Loss Expenses
  
    
    the number of exposures covered in the current year;
    
    trends in claim frequency and claim severity;
    
    changes in the cost of adjusting claims;
    
    changes in the legal environment relating to coverage interpretation, theories of liability and jury determinations; and
    
    the re-estimation of prior years reserves in the current year.
   28




---



##### 



June 30,
    
    
    December 31,2006
    
    
    2005(In thousands)Property/casualty:Casualty
    
    $
    167,197
    
    
    
    142,451Property
    
    
    22,423
    
    
    
    27,972Other (including exited lines):Commercial auto
    
    
    588
    
    
    
    936Workers compensation
    
    
    2,635
    
    
    
    2,657Other
    
    
    414
    
    
    
    183Net reserves for losses and loss expenses
    
    
    193,257
    
    
    
    174,199Plus reinsurance recoverables on unpaid
losses at end of period
    
    
    41,694
    
    
    
    37,448Gross reserves for losses and loss expenses
    
    $
    234,951
    
    
    
    211,647
    29




---



##### 



Operating Expenses
  For the Three Months
    
    
    For the Six MonthsEnded June 30,
    
    
    Ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(In thousands)Amortization of deferred
policy acquisition costs
(ADAC)
    
    $
    12,896
    
    
    
    10,335
    
    
    
    24,962
    
    
    
    20,555Other operating expenses
    
    
    4,075
    
    
    
    3,474
    
    
    
    7,998
    
    
    
    6,539Severance expense
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    793ADAC and other operating expenses
    
    
    16,971
    
    
    
    13,809
    
    
    
    32,960
    
    
    
    27,887Interest expense
    
    
    567
    
    
    
    459
    
    
    
    1,110
    
    
    
    876Total operating expenses
    
    $
    17,538
    
    
    
    14,268
    
    
    
    34,070
    
    
    
    28,763Expense ratio:ADAC
    
    
    24.5
    %
    
    
    24.0
    %
    
    
    24.6
    %
    
    
    24.3
    %Other operating expenses
    
    
    7.8
    %
    
    
    8.1
    %
    
    
    7.9
    %
    
    
    7.7
    %Severance
    
    
    
    %
    
    
    
    %
    
    
    
    %
    
    
    1.0
    %Total expense ratio (1)
    
    
    32.3
    %
    
    
    32.1
    %
    
    
    32.5
    %
    
    
    33.0
    %
 
 (1)
    
    Interest expense is not included in the calculation of the expense ratio.   Income Taxes
  30




---



##### 



Liquidity and Capital Resources
           31




---



##### 



Investment Portfolio
   Accounting Standards
  
 32




---



##### 



Item 3. Quantitative And Qualitative Disclosures About Market Risk
   
 Item 4. Controls And Procedures
     33




---



##### 



PART II: OTHER INFORMATION
 
 Item 1. Legal Proceedings
   
 Item 1A. Risk Factors
  
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
  
 Item 3. Defaults Upon Senior Securities
  
 Item 4. Submission of Matters to a Vote of Security Holders
   For
    
    Against/WithheldRobert F. Fix
    
    12,266,104
    
    322,419Christopher J. Timm
    
    12,433,208
    
    155,315Robert J. Woodward, Jr.
    
    12,216,460
    
    372,063
 
 Item 5. Other Information
  
 Item 6. Exhibits
 3.1
    
    Amended and Restated Articles of Incorporation of ProCentury (Incorporated by reference
from the Companys Quarterly Report on Form 10-Q for the period ended March 31, 2004,
filed with the Securities and Exchange Commission SEC on September 4, 2004.)3.2
    
    Amended and Restated Code of Regulations of ProCentury (Incorporated by reference from the
Companys Quarterly Report on Form 10-Q for the period ended March 31, 2004, filed with
the SEC on September 4, 2004.)31.1
    
    Certification of Principal Executive Officer pursuant to Rule 13a-14(a) of the Exchange Act31.2
    
    Certification of Principal Financial Officer pursuant to Rule 13a-14(a) of the Exchange Act32.1
    
    Certification of Principal Executive Officer pursuant to Rule 13a-14(b) of the Exchange
Act and 18 U.S.C. Section 1350, as
 34




---



##### 



adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 (1)32.2
    
    Certification of Principal Financial Officer pursuant to Rule 13a-14(b) of the Exchange
Act and 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 (1)
 
 (1)
    
    These certifications are not deemed to be filed for purposes of Section 18 of the Exchange
Act, or otherwise subject to the liability of that section. These certifications will not be
deemed to be incorporated by reference into any filing under the Securities Act or the
Exchange Act, except to the extent that the registrant specifically incorporates them by
reference. 35




---



##### 



SIGNATURE
  PROCENTURY CORPORATIONDate August 7, 2006
    By:
    /s/ Erin E. WestErin E. WestChief Financial Officer and Treasurer
(Principal Financial and Accounting Officer) 36




---



##### 



EXHIBIT INDEX
 3.1
    
    Amended and Restated Articles of Incorporation of ProCentury (Incorporated by reference
from the Companys Quarterly Report on Form 10-Q for the period ended March 31, 2004,
filed with the Securities and Exchange Commission (SEC) on September 4, 2004.)3.2
    
    Amended and Restated Code of Regulations of ProCentury (Incorporated by reference from the
Companys Quarterly Report on Form 10-Q for the period ended March 31, 2004, filed with
the SEC on September 4, 2004.)31.1
    
    Certification of Principal Executive Officer pursuant to Rule 13a-14(a) of the Exchange Act31.2
    
    Certification of Principal Financial Officer pursuant to Rule 13a-14(a) of the Exchange Act32.1
    
    Certification of Principal Executive Officer pursuant to Rule 13a-14(b) of the Exchange
Act and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 (1)32.2
    
    Certification of Principal Financial Officer pursuant to Rule 13a-14(b) of the Exchange
Act and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 (1)
 
 (1)
    
    These certifications are not deemed to be filed for purposes of Section 18 of the Exchange
Act, or otherwise subject to the liability of that section. These certifications will not be
deemed to be incorporated by reference into any filing under the Securities Act or the
Exchange Act, except to the extent that the registrant specifically incorporates them by
reference. 37