**United
States**
 **SECURITIES
AND EXCHANGE COMMISSION**
 **Washington,
D.C. 20549**
 **FORM
10-K**
 (Mark
One)
 xAnnual Report Pursuant to
Section 13 or 15(d) of the Securities Exchange Act of 1934
 For
the fiscal year ended December 31, 2004 or
 oTransition Report Pursuant to
Section 13 or 15(d) of the Securities Exchange Act of 1934
 For
the transition period from ____________to ___________.
  Commission
file number 1-11983
 
  **FPIC
Insurance Group, Inc.**
 (Exact
Name of Registrant as Specified in its Charter)
  Florida
    
    59-3359111(State
      or Other Jurisdiction of
      Incorporation
      or Organization)
    
    (IRS
      Employer
      Identification
      No.)
 
 225
      Water Street, Suite 1400, Jacksonville, FL
    
    32202(Address
      of Principal Executive Offices)
    
    (Zip
      Code)
 
 (904)
      354-2482(Registrant’s
      Telephone Number, Including Area Code)
 
 www.fpic.com(Registrant’s
      Internet Address)
 
 Securities
registered pursuant to Section 12(b) of the Act: None
 Securities
registered pursuant to Section 12(g) of the Act: Common Stock, $.10 par
value
  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 if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. x
  Indicate
by check mark whether the Registrant is an accelerated filer (as defined in Rule
12b-2 of the Act). Yes x No
o
  The
aggregate market value of the Registrant’s voting and non-voting common equity
held by non-affiliates computed by reference to the price at which the common
equity was last sold, or the average bid and asked price of such common equity,
as of June 30, 2004 was $243,382,761.
  As
of March 3, 2005, there were 10,132,378 shares of the Registrant’s Common Stock,
$.10 Par Value, outstanding.
  **DOCUMENTS
INCORPORATED BY REFERENCE**
  Document
    
    Incorporated
      InProxy
      Statement for Registrant’s Annual Shareholders’ Meeting to be held on June
      1, 2005
    
    Part
      III
  
  
 
    **FPIC
Insurance Group, Inc.**
 **2004
Annual Report on Form 10-K**
 **Index**
   **Part
      I****Page**Item
      1.
    Business
    3Item
      2.
    Properties
    13Item
      3.
    Legal Proceedings
    14Item
      4.
    Submission of Matters to a Vote of Security
      Holders
    14**Part
      II**Item
      5.
    Market for Registrant’s Common Equity, Related Shareholder
      Matters and Issuer Purchases of Equity Securities
    14Item
      6.
    Selected Financial Data
    15Item
      7.
    Management’s Discussion and Analysis of Financial Condition
      and Results of Operations
    16Item
      7A.
    Quantitative and Qualitative Disclosures about Market
      Risk
    41Item
      8.
    Financial Statements and Supplementary
    Data
    43Item
      9.
    Changes in and Disagreements with Accountants on Accounting
      and Financial Disclosure
    43Item
      9A.
    Controls and Procedures
    43Item
      9B.
    Other Information
    44**Part
      III**Item
      10.
    Directors and Executive Officers of the
      Registrant
    44Item
      11.
    Executive Compensation
    44Item
      12.
    Security Ownership of Certain Beneficial Owners and
      Management and Related Shareholder Matters
    45Item
      13.
    Certain Relationships and Related
      Transactions
    45Item
      14.
    Principal Accountant Fees and Services
    45**Part
      IV**Item
      15.
    Exhibits and Financial Statement
    Schedules
    46Signatures
    51


**Part
I**




***Item 1.***
    ***Business***




Overview


FPIC Insurance
Group, Inc. (“FPIC”) was formed in 1996 in a reorganization of First
Professionals Insurance Company, Inc. (“First Professionals,” formerly named
Florida Physicians Insurance Company, Inc.) and McCreary Corporation
(“McCreary”). Under the reorganization plan, First Professionals’ shareholders
became the shareholders of FPIC. They received five shares of FPIC common stock
for each share of their First Professionals’ common stock. McCreary also became
a subsidiary of FPIC. Effective January 1, 2002, McCreary was merged into its
subsidiary, Employers Mutual, Inc. (“EMI”), with EMI continuing as the surviving
entity.





FPIC
is a provider of specialty property and casualty insurance and insurance
management services focused on medical professional liability (“MPL”) insurance.
Our primary products provide protection for physicians, dentists and other
healthcare providers as individual practitioners or as members of practice
groups. Our insurance protects policyholders against losses arising from
professional liability claims and the related defense costs for injuries in
which the patient alleges that medical error or malpractice has occurred.
Optional coverage is available for the professional corporations under which
physicians or dentists practice. We are the fifth largest provider of medical
professional liability insurance in the United States, with $498 million of
direct premiums written or under management for the year ended December 31,
2003, based on data published by A.M. Best Company (“A.M. Best”).





We
have chosen to focus on selected markets where we believe we have advantages in
terms of our market knowledge, well established reputation, significant market
presence and resources. Through our insurance subsidiaries, we are the largest
provider of MPL insurance in Florida, and an insurance company we manage is the
second largest provider of MPL insurance in New York. New York is the largest
market for MPL insurance in the United States based on premium volume, and
Florida is the third largest market.





We
c onduct
our business through three segments:


Our *insurance
segment* provides MPL insurance products and related risk management services for
physicians, dentists, and other healthcare providers in Florida and selected
other states through our insurance subsidiaries. These subsidiaries issue
policies, bear the associated risks and earn income on the related investment
assets. Through this segment, FPIC is the leading carrier for MPL insurance in
Florida. The following subsidiaries are included in the insurance segment:





·
    FPIC
      subsidiaries (The holding company is also grouped within the insurance
      segment):


·
    First
      Professionals, a wholly owned subsidiary of
FPIC


·
    The
      Tenere Group, Inc. (“Tenere”), a wholly owned subsidiary of First
      Professionals


·
    Intermed
      Insurance Company (“Intermed”), a wholly owned subsidiary of
      Tenere


·
    Interlex
      Insurance Company (“Interlex”), a wholly owned subsidiary of
      Intermed


·
    Insurance
      Services, Inc., a wholly owned subsidiary of
Intermed


·
    Trout
      Insurance Services, Inc., a wholly owned subsidiary of
      Intermed


·
    Anesthesiologists
      Professional Assurance Company (“APAC”), a wholly owned subsidiary of
      FPIC


·
    FPIC
      Insurance Agency, Inc. (“FPIC Agency”), a wholly owned subsidiary of
      FPIC





3


Our *insurance
management segment* provides comprehensive management services to two insurance carriers, the
largest being Physicians’ Reciprocal Insurers (“PRI”). We do not own PRI;
rather, it is owned by and operated for the benefit of its policyholders. PRI
provides MPL insurance in New York. PRI has no employees and has been under the
management of our insurance management segment since its formation. Pursuant to
our management agreement with PRI, we receive fees and expense reimbursements,
but we do not bear the associated insurance risks. Effective July 1, 2004, our
insurance management segment began serving as the administrator of Pennsylvania
Physicians Reciprocal Insurers (“PaPRI”) a newly formed insurance exchange that
cedes 100% of its business to PRI in the form of reinsurance. The following
subsidiaries are included in the insurance management segment:





·
    FPIC
      subsidiaries:


·
    Administrators
      For The Professions, Inc. (“AFP”), a wholly owned subsidiary of
      FPIC


·
    FPIC
      Intermediaries, Inc. (“FPIC Intermediaries”), a wholly owned subsidiary of
      AFP


·
    Group
      Data Corporation, a wholly owned subsidiary of
AFP


·
    Physicians
      Reciprocal Managers, a wholly owned subsidiary of
AFP


·
    Professional
      Medical Administrators, LLC (“PMA”) (80% owned by
FPIC)





Our *third
party administration (“TPA”) segment* provides administrative and claims management services to municipalities and
other employers primarily in Florida that maintain group accident and health,
workers’ compensation, liability and property self insurance plans. The
following subsidiaries are included in the TPA segment:





·
    FPIC
      subsidiaries:


·
    EMI,
      a wholly owned subsidiary of FPIC


·
    Professional
      Strategy Options, Inc., a wholly owned subsidiary of
EMI


·
    FPIC
      Services, Inc., a wholly owned subsidiary of
EMI





Through
our insurance and insurance management segments, we operate in the MPL insurance
line as both an insurance carrier, which bears underwriting risks, and as an
insurance management company, which earns fees for services. Operating under
these two separate and distinct business models allows us to selectively
participate in diverse opportunities in the complex MPL insurance line. We
believe that this approach is well suited to meet our financial objectives.




**Our
Business Strategy**


Our
business strategy is designed to provide long-term value for our shareholders,
while providing our clients with competitive products and responsive service.
Over the 10 years ended December 31, 2004, we, and our predecessor company,
achieved an average return on equity (excluding the cumulative effects of
changes in accounting principles) of 11%, with a high of 16% in 1995 and a low
of 0% in 2000. For the year ended December 31, 2004, our return on average
equity was 14%. Our primary objective is to maintain a financially strong,
stable and consistently profitable organization by adhering to the following
principles:





***Focus
on selected markets where we have extensive knowledge and
expertise.*** We target selected market areas within our insurance and insurance management
segments where we can establish a significant presence and leverage local market
knowledge and experience. MPL insurance markets vary substantially on a
state-by-state basis, with each state having its own unique regulatory,
legislative, judicial and competitive environment. We believe our understanding
of our target markets provides us with significant competitive advantages in
terms of underwriting, pricing, claims management and policyholder service. In
addition, our focus on selected markets has allowed us to achieve leading
positions in those markets, providing benefits in terms of brand recognition,
resources and efficiencies. We believe that the ability to effectively manage
our business and compete within the unique environment of each state is critical
to our success.





4


***Maintain
disciplined underwriting and pricing.*** In
our insurance segment, we maintain a disciplined focus on selecting appropriate
risks and pricing those risks in order to achieve our financial objectives. We
believe that our extensive market knowledge provides us with a competitive
advantage in establishing appropriate pricing and risk selection. We
individually underwrite all of our insureds. We underwrite and price risks based
on a wide range of factors, with a particular focus on the professional’s
training, medical specialty, claims history and county or other geographic
region of practice. Within our chosen markets, we do not manage our business to
achieve specified market share goals. Rather, we seek to maximize our
profitability by competing for quality business based on factors other than
price alone.





***Aggressively
manage loss costs through effective claims handling and risk management
programs.*** In
addition to prudent risk selection, we manage our loss costs through effective
claims handling. We seek to minimize our incidence of claims by offering our
insureds risk management programs that are designed to assist them in
successfully managing their individual risk factors. Once claims are made, we
seek to aggressively defend non-meritorious claims and expeditiously settle
meritorious claims in order to lower our overall loss costs. Over the
past four years, we have increased our emphasis on reducing the number of
claims settled with an indemnity payment in Florida. Accordingly, we initiated a
new claims handling philosophy, added management with significant Florida MPL
claims experience, increased the number of claims personnel and their training,
restructured the claims department and enhanced claims data and reporting. We
have also upgraded our network of defense attorneys. As a result of these
initiatives, we have tried more cases, while improving our ratio of trial wins
to losses. Our ratio of claims and incidents resulting in a loss payment to all
closed claims and incidents declined from 18% in 2001 to 14% in 2004.





***Recruit
and retain experienced management*** .
Over the past six years, we have assembled an experienced management team with
diverse expertise in insurance, accounting, finance and legal disciplines. Our
management includes nine executives with an average of more than 20 years
of experience in the insurance industry and professions serving the insurance
industry.





***Maintain
our financial strength*** .
We are committed to maintaining the strength and liquidity of our balance sheet
by prudently managing our financial and operating leverage, conservatively
investing our assets, stringently maintaining adequate reserves and capital and
opportunistically pursuing disciplined growth. For example, we have implemented
enhanced financial and actuarial systems and processes for the purpose of
accurately measuring and controlling our business, including quarterly
analytical procedures to test and monitor our loss reserves. In addition, in
2003 we fully retired our short term bank debt and replaced it with long term
debt that is not due until 2033, thereby improving our liquidity and giving us
greater operating flexibility.





***Pursue
disciplined growth.*** We
believe that pursuing disciplined growth and cautious expansion into new markets
will result in more sustainable profitability. We view the conditions and
opportunities within our core Florida market as highly favorable and believe
that we can grow by continuing to effectively compete for new and renewal
business. Accordingly, our near term focus in our insurance segment will be on
disciplined growth within our existing markets.





**Industry
Overview**


The
medical malpractice insurance market in the United States totaled $10.1 billion
in direct premiums written for the year ended December 31, 2003. This represents
an increase of 14% over the prior year according to the most recent data
published by A.M. Best.




5


The
financial performance of the property and casualty insurance industry, and of
the MPL insurance sector, has tended to fluctuate in cyclical patterns
characterized by periods of greater competition in underwriting terms and
conditions, pricing and commissions (a soft insurance market) followed by
periods of capacity shortage and lesser competition (a hard insurance market).




We
operated under soft market conditions during the latter part of the 1990s.
Beginning in 2000, the MPL insurance sector began reporting higher loss costs on
coverage written in prior years than had initially been established in loss
reserves. These increased loss costs, in certain cases, led to reduced capital
to support current and future business and downgrades in financial strength
ratings of a number of companies in the industry. As a result, the market has
seen significant withdrawal of capacity, including the departure of a number of
firms that were market leaders at the time of their withdrawal. Many of the
firms remaining in the market have responded by significantly raising premium
rates, reducing or eliminating discounts and tightening underwriting terms and
conditions.




Prices
for MPL insurance across the country have increased significantly since the
onset of the hardening market. Medical professionals have responded to the hard
market conditions, in some cases, by practicing without coverage, seeking to
join with other practitioners to form self-insured groups or purchasing lower
limits of coverage. For 2004, we believe rate increases have moderated in the
markets for our insurance products.




***Insurance
Ratings***


Insurance
specific ratings represent the opinion of rating agencies on the financial
strength of a company and its capacity to meet its insurance obligations. These
ratings are based on factors most relevant to policyholders, agents and
intermediaries and are not specifically directed toward the protection of
investors. They are not recommendations to buy, sell or hold a company’s
securities. The significance of individual agencies and their ratings vary among
different users. They can be significant to investors and lenders, among other
factors, as an indication of a company’s suitability for investment or
creditworthiness. A.M. Best is the primary rating organization for FPIC and is
the only insurance rating agency FPIC has engaged to provide a rating on an
interactive basis. Other organizations that rate FPIC develop their ratings
independently using publicly available data and without consulting with us.
These ratings are generally consumer oriented and involuntary on the part of the
company being rated.




An
insurance company’s rating, and particularly its A.M. Best rating, is a
potential source of competitive advantage or disadvantage in the marketplace. In
addition, some of the independent agents and brokers who place MPL insurance
have a minimum A.M. Best rating standard of A-. The significance of the A.M.
Best rating varies depending upon the products involved, the customers and
agents and the competition and market conditions.  Our insurance
subsidiaries have a group rating from A.M. Best of “B++” (Very Good) with a
stable outlook, which is within the secure range and the fifthhighest of 16 rating levels.




***Insurance
Regulation***


Our
insurance subsidiaries are regulated at the state level. The state insurance
departments of Florida and Missouri, where our insurance companies are
domiciled, are the primary regulators. Our insurance companies are also subject
to regulations in other states where they do business. State insurance laws also
regulate FPIC as an insurance holding company. FPIC and all its insurance
subsidiaries are required to register and furnish information about our
operations, management and financial condition to the Florida, Missouri and
other insurance departments. The insurance departments perform financial and
market conduct examinations of our insurance companies periodically and also
require disclosure or approval of material transactions, such as dividends from
our insurance subsidiaries to FPIC above certain levels. All transactions within
the holding company structure involving our insurance companies must also be
fair and reasonable.




6


Except
as described below, Florida insurance laws do not allow any person to acquire,
directly or indirectly, five percent or more of the voting securities of an
insurance company without the prior written approval of the Florida insurance
department. Any purchaser of five percent or more of FPIC common stock is
presumed to have acquired a similar level of control of our insurance
subsidiaries. Instead of obtaining prior approval, a purchaser of more than five
percent, but not more than ten percent, of an insurance company may file a
disclaimer of affiliation and control with the Florida insurance department.
Similar laws exist in Missouri, except that the approval threshold is ten
percent or more of a company’s voting securities.




The
primary purpose or mission of insurance regulation is the protection of
policyholders. State insurance laws generally delegate broad regulatory powers
to insurance departments, including granting and revoking licenses, approving
policy forms and premium rates, regulating trade practices, establishing minimum
capital and surplus levels for companies, prescribing or permitting required
statutory accounting and financial reporting rules, and prescribing the types
and amounts of investments permitted.




Insurance
companies are required to file detailed annual reports in each state in which
they do business. The financial statements contained in these reports are
prepared using regulatory accounting principles or statutory-basis financial
statements as they are referred to in the insurance industry. Statutory
accounting principles represent a comprehensive basis of accounting that is
different from accounting principles generally accepted in the United
States of America ("GAAP") and so the accounting practices used by the
insurance subsidiaries in their regulatory financial statements are different in
certain material respects from the accounting policies used in preparing the
consolidated financial statements included in this Form 10-K.




The
National Association of Insurance Commissioners (“NAIC”) has adopted the
Codification of Statutory Accounting Principles (the “NAIC Codification”). The
NAIC Codification became applicable to all statutory-basis financial statements
issued after January 1, 2001. While the NAIC Codification represents the
official guidance on the statutory basis of accounting, the individual states
and insurance departments continue to have the discretion to modify its guidance
or establish their own statutory accounting principles for insurance
companies.




Insurance
companies are also subject to assessments by state financial guaranty
associations. The primary purpose of these guaranty associations is to fund the
unpaid claims and policyholder benefits of insolvent insurers. Generally, these
associations assess member insurers on the basis of written premiums in their
states.




During
2003, the State of Florida enacted legislation specifically directed at MPL
insurance reforms. Among the more significant aspects of this legislation were
caps on non-economic damages and reforms to bad faith statutes with respect to
MPL insurance claims. The legislation also contained a requirement that insurers
freeze their rates as of July 1, 2003, and file new rates or re-file those rates
for formal approval. In addition, the legislation called for the State of
Florida to engage an outside actuarial consultant to estimate the benefits to be
derived from the legislative reforms and a presumed factor for such benefit to
be included in the rate filings to be made by the companies. That presumed
factor was a net reduction of approximately 7.8%, of which the consultant
attributed 5.3% to the cap on non-economic damages and 2.5% to bad faith
reforms.


In
November 2004, three constitutional amendments were passed in Florida relating
to tort reform.  Amendment Three limits the fees a plaintiff’s attorney can
charge a client.  Amendment Seven, referred to as the “patient’s right to
know” amendment, allows the discovery of medical peer review.  Amendment
Eight, known as the “three strikes” amendment, requires the revocation of the
license of any medical doctor found to have committed three or more incidents of
medical malpractice.  A temporary injunction has been issued against the
implementation of Amendment Eight until after the end of the Florida
Legislature’s 2005 Regular Session.  Each of the three amendments appears
to be subject to varying interpretations of how the amendments are to be
implemented.


7


**Business
Segments**





***Insurance
Segment***


Our
insurance segment includes four insurance subsidiaries, three of which actively
provide MPL insurance to physicians, dentists and other healthcare
professionals. At December 31, 2004, we insured 14,158 MPL policyholders
(including 111 professional liability policyholders under fronting programs,
whereby the direct insurance is written on our policy forms and reinsured to
unaffiliated carriers in exchange for fee income). Effective June 30, 2004, all
of our fronting programs were terminated and are now in run off. Our primary
focus is on individual professionals, whether or not they practice individually
or as a member of a group. Therefore, our insurance segment does not underwrite
hospitals, nursing homes or other large healthcare institutions.




Our
MPL insurance line comprised 95% of our direct and assumed premiums written for
the year ended December 31, 2004, and workers’ compensation, a non-core line
written on a fronted basis, represented the remaining 5%. Our Florida market
generated 74% of our direct and assumed premiums written for the year ended
December 31, 2004. The following table summarizes (in thousands) direct and
assumed premiums written subdivided by our top five states and all others for
the years ended December 31, 2004, 2003 and 2002:




**Direct
      and Assumed Premiums Written by State****2004**
    
    **%
      of Total**
    
    **2003**
    **%
      of Total**
    
    **2002**
    **%
      of Total**Florida
    $
    231,112
    
    73.9
    %
    
    210,155
    
    61.7
    %
    
    186,455
    
    54.1
    %Tennessee
    
    14,869
    
    4.8
    %
    
    25,791
    
    7.6
    %
    
    20,185
    
    5.9
    %Missouri
    
    13,179
    
    4.2
    %
    
    24,701
    
    7.2
    %
    
    32,814
    
    9.5
    %Georgia
    
    12,326
    
    3.9
    %
    
    13,049
    
    3.8
    %
    
    12,445
    
    3.6
    %Pennsylvania
    
    10,175
    
    3.3
    %
    
    17,886
    
    5.2
    %
    
    14,212
    
    4.1
    %All
      other
    
    31,067
    
    9.9
    %
    
    49,159
    
    14.4
    %
    
    78,616
    
    22.8
    %All
      states
    $
    312,728
    
    100.0
    %
    
    340,741
    
    100.0
    %
    
    344,727
    
    100.0
    %
 FPIC’s
insurance subsidiaries reinsure portions of their business. The following table
summarizes (in thousands) our ceded reinsurance premiums written by program for
the years ended December 31, 2004, 2003 and 2002.


**2004**
    
    **2003**
    **2002**Excess
      of loss reinsurance
    $
    (39,614
    )
    (56,490
    )
    (47,540
    )Net
      account quota share reinsurance
    
    (50,357
    )
    (84,255
    )
    (85,531
    )Fronting
      programs
    
    (30,225
    )
    (56,862
    )
    (71,408
    )Total
      ceded premiums written
    $
    (120,196
    )
    (197,607
    )
    (204,479
    )




8


Although
reinsurance does not legally discharge our insurance subsidiaries from their
obligations to policyholders as the primary insurer, it does make the reinsurer
liable to us to the extent of the risks ceded. The placement of reinsurance with
a number of individual companies and syndicates mitigates the concentration of
credit risks under our excess of loss reinsurance programs. We monitor the
financial condition and creditworthiness of our reinsurers periodically and use
reinsurance brokers and intermediaries to assist in the process of the placement
of our reinsurance. Most of FPIC’s reinsurers under our excess of loss and net
account quota share agreements are rated A- or better by A.M. Best. Reinsurers
that are not authorized or accredited are required to provide collateral in the
form of an irrevocable letter of credit or investment securities held in a trust
account to secure their respective balances due.




Net
premiums written, including premiums under fronting programs, are direct and
assumed premiums net of reinsurance ceded. The following table summarizes (in
thousands) net premiums written by our top five states and all others and
presents the insurance business and underwriting risks we retain for our own
account after all the reinsurance ceded to others for the years ended December
31, 2004, 2003 and 2002:




**Net
      Premiums Written by State****2004**
    
    **%
      of Total**
    
    **2003**
    **%
      of Total**
    
    **2002**
    **%
      of Total**Florida
    
    $
    150,184
    
    78.0
    %
    
    91,570
    
    64.0
    %
    
    72,319
    
    51.6
    %Missouri
    
    
    10,050
    
    5.2
    %
    
    17,014
    
    11.9
    %
    
    27,506
    
    19.6
    %New
      York
    
    
    9,187
    
    4.8
    %
    
    15,423
    
    10.8
    %
    
    17,472
    
    12.5
    %Georgia
    
    
    7,957
    
    4.1
    %
    
    5,585
    
    3.9
    %
    
    4,558
    
    3.2
    %Arkansas
    
    
    6,353
    
    3.3
    %
    
    2,786
    
    1.9
    %
    
    3,015
    
    2.1
    %All
      other
    
    
    8,801
    
    4.6
    %
    
    10,756
    
    7.5
    %
    
    15,378
    
    11.0
    %All
      states
    
    $
    192,532
    
    100.0
    %
    
    143,134
    
    100.0
    %
    
    140,248
    
    100.0
    %





Our
insurance segment’s net premiums written have grown significantly, particularly
since 2000, because of significant increases in our premium rates and withdrawn
market capacity. Beginning in 2001 and through the end of 2004, we increased our
effective rates for Florida physicians by a cumulative 127% at our largest
insurance subsidiary. Nevertheless, demand for our products in Florida reached
historically high levels during this period, and this high demand continued in
2004. We market our coverages primarily through an established network of
independent agents who have specialized knowledge in our markets.





Our
principal insurance subsidiary, First Professionals, was founded by Florida
physicians, and we have served the Florida market for more than 28 years. In
Florida, we are endorsed by the Florida Medical Association, the Florida
Osteopathic Medical Association, the Florida Dental Association, 13 county
medical societies, and 10 state specialty societies. These endorsements,
however, do not require us to accept applicants who do not meet our underwriting
criteria. Our years in the Florida market have enabled us to develop extensive
resources in the state and an extensive understanding of the market, regulatory
and judicial environments. We believe this market understanding provides us with
competitive advantages in terms of underwriting, pricing, claims management and
policyholder service.




In
addition, we believe our physician-oriented culture and reputation for
outstanding client service, among both agents and policyholders, has allowed us
to attract and retain many of the preferred risks that we seek in the
marketplace. We emphasize client service, physician advocacy, commitment to our
markets, established relationships with organized medicine and aggressive claims
defense, and we believe these emphases differentiate us from our competition.
For the year ended December 31, 2004, our policyholder retention rate in Florida
was 93%.




9




We
believe that careful risk selection is also integral to our success.
Accordingly, we focus on a wide range of underwriting factors, including the
individual professional’s practice environment, training, claims history and
professional reputation. We underwrite professionals individually, whether or
not they practice individually or as a member of a group. We require board
certification or board eligibility from an appropriate American specialty board
as a prerequisite for coverage.





All
of the policies we offer are on a claims-made basis, where only claims reported
to us prior to the expiration of the policy are covered. We believe our
claims-made approach allows us to more accurately estimate our loss exposures
and price our coverage than other insurers that use an occurrence-based
approach, where losses may be reported for a number of years after a policy’s
coverage period.





In
our largest market, Florida, many physicians and other medical professionals
have responded to increasing MPL insurance premiums by purchasing lower coverage
limits. As a result, our purchased policy limits in Florida are on average lower
than in many other markets, with 61% of our insured physicians in Florida having
policy limits of $250,000 per loss or less and 79% having policy limits of
$500,000 per loss or less, as of December 31, 2004. We believe these lower
policy limits, among other things, contribute to reduced volatility in our loss
severity relative to companies and markets where higher insured limits are
prevalent.





Since
2001, we have experienced significant growth in our premiums driven in part by
rate increases implemented during the current hard market environment. We have
sought to manage this growth by limiting the growth of insurance exposures to
core markets, exiting non-core markets and products, including fronting
programs, and prudently managing our capital structure to support our growth.





In
2002, we entered into a net account quota share reinsurance agreement under
which we ceded a significant portion of our premiums to reinsurers. For the
years ended December 31, 2002 and 2003, we ceded $85.5 million and $84.3
million, respectively, of our premiums written to reinsurers under this
reinsurance agreement, which represented 50% of the direct MPL insurance
premiums, net of other reinsurance, written in selected states by our largest
insurance subsidiary. We continued to cede 50%, or $50.4 million, of such
premiums written during the first six months of 2004. Effective July 1, 2004, we
eliminated further cessions under this agreement, thereby allowing us to retain
business for our own account that would otherwise have been ceded. We expect to
derive significant benefits from eliminating our utilization of this
reinsurance, including the organic growth that will result from retaining more
of the revenues and earnings generated by the insurance policies we underwrite.





***Insurance
Management Segment***


Our
insurance management segment was acquired in 1999 and provides comprehensive
management services to two insurance carriers. The segment’s largest client is
PRI, the second largest provider of MPL insurance in New York. Our subsidiary,
AFP, has served as attorney-in-fact and been the sole provider of such services
to PRI since PRI’s formation in 1982. PRI is owned by and operated for the
benefit of its policyholders, and it has no employees. AFP has been responsible
for establishing PRI as a leading competitor in the New York market with a
reputation for outstanding client service and provides all the functions of PRI,
which include marketing, underwriting, claims, financial administration, legal,
risk and investment management services. We have an experienced team of more
than 270 employees based in New York, including 21 internal defense
attorneys. This localized and specialized presence allows us to better control
underwriting and claims processes, respond to market conditions and effectively
serve PRI’s clients.





10


Our
fee-for-service business model requires a lower capital investment and is an
attractive means of participating in this large and unique market, where the
primary objectives of the New York State Insurance Department (“NYSID”) are the
affordability and accessibility of MPL insurance. Since our 1999 acquisition of
AFP, it has achieved consistently profitable operations, excluding the
cumulative effect of a change in accounting principle, and has been a
significant contributor to our cash flow.





Our
insurance management segment provides services to PRI under an exclusive
management agreement, the current term of which expires December 31, 2008. The
agreement provides for fees based on a percentage of direct premiums written,
and for the reimbursement of certain expenses incurred by us on behalf of PRI.
PRI’s direct premiums written totaled $293.3 million for the year ended December
31, 2004. This segment also provides reinsurance brokerage and administrative
services to PRI and to our insurance segment.





As
a result of rising MPL insurance rates in many markets, healthcare professionals
are increasingly considering forming self-insurance mechanisms that require
experienced insurance management services such as ours. Effective July 1, 2004,
our insurance management segment commenced operations as the administrator of
PaPRI, a newly formed insurance exchange that cedes 100% of its business to PRI
in the form of reinsurance.





*PRI
is a Major Client of Ours*


In
addition to their contribution to our results of operations, our agreements and
business arrangements with PRI as a major client of ours also means that our
revenues and results of operations are financially sensitive to its revenues and
financial condition. We do not own PRI, or have a controlling financial interest
in PRI, nor is PRI considered a variable interest entity under FIN 46R,
Consolidation of Variable Interest Entities (as Revised), and so PRI’s financial
statements are not consolidated or included in ours. Instead, PRI is similar to
a mutual insurer and the risks and rewards of ownership vest with the
policyholders of PRI.




PRI
and our subsidiary, AFP, are regulated by the NYSID. PRI files its annual and
quarterly statements with the NYSID containing its statutory-basis financial
statements and other data. AFP and PRI are required to file audited financial
statements annually with the NYSID obtained from the same qualified independent
accounting firm.




PRI,
as an MPL insurer, is subject to many of the same types of risks as those of our
insurance subsidiaries and MPL companies generally. These risks include, but are
not limited to, rate adequacy, adverse loss experience, and the effects of
changes in market interest rates that it can earn on invested assets. As allowed
under New York insurance laws, PRI has requested and received permission from
the NYSID to follow the permitted practice of discounting its loss and loss
adjustment expense ("LAE") reserves. Therefore the effects of these items
on PRI’s discount rate can also adversely impact PRI’s loss and LAE
reserve position and statutory surplus.




11


The
NYSID mandates the insurance rates PRI and other New York MPL insurance carriers
are allowed to charge their policyholders. These include the rates charged for
the policies in excess of $1.3 million and for covered extended reporting
endorsements for death, disability and retirement, which have been reinsured to
First Professionals. Under New York insurance statutes, the NYSID is also
permitted to implement a surcharge on the established rates if necessary to
satisfy a projected premium deficiency for one or more years. The amount of the
surcharge to be imposed and collected is subject to certain annual limitations.
PRI files information about its rates annually with the NYSID. PRI implemented
an 8.5% rate increase effective July 1, 2003 following several years of level
rates. Effective July 1, 2004, the NYSID granted an additional 7% base rate
increase plus a small additional increase for premiums applicable to higher
limit policies issued by PRI. The NYSID also granted effective July 1, 2004, a
20% rate increase on policies issued by the Medical Malpractice Insurance Pool
(“MMIP”), which has historically been unprofitable. PRI and other New York MPL
insurance carriers are required to participate in, and therefore share in the
results of, the MMIP in proportion to the amount of MPL premiums written by them
in the New York market.




Growth
at PRI is also subject to surplus constraints; however, as a New York reciprocal
insurance company, PRI is able to operate with lower surplus and at higher
leverage ratios than non-reciprocals such as our insurance subsidiaries. PRI’s
policyholders’ surplus, as reported in its 2004 annual regulatory filing,
exceeds the minimum amount required under New York insurance laws and
regulations. New York insurance laws and regulations do not impose risk-adjusted
capital requirements on PRI.




***TPA
Segment***


Our
TPA segment, operating under the EMI brand, provides administrative and client
claims management services to employers primarily in Florida that maintain group
accident and health, workers’ compensation, liability and property
self-insurance plans. The services of our TPA segment include claims
administration and related services, medical management and loss control
services. We also provide brokerage services for the placement of excess
insurance coverage on behalf of our clients with insurers and reinsurers. In
addition, we provide claims administration services for a large ambulance
service organization. We believe that EMI enjoys established name recognition
and a reputation for quality service within its markets.





As
of December 31, 2004, we provided employee benefit services to 21 clients with
approximately 58,701 covered lives and workers’ compensation administration
services to 25 employers with approximately 25,075 covered lives. In addition,
we provided property and casualty insurance brokerage services to employers with
over $3.4 billion in total insured value. Our TPA segment markets its services
directly and through agents and brokers primarily in Florida, and our operating
strategy includes superior service, flexibility and innovation, and competitive
pricing. We continue to take steps to sustain and improve this segment’s
results.





See
Note 20, Subsequent Event, to the consolidated financial statements for
disclosure of the definitive agreement to sell the TPA segment’s employee
benefits administration business.





**Employees**




At
December 31, 2004, FPIC employed 619 people. None of our employees are covered
by a collective bargaining agreement. We believe our relationships with our
employees are very important. We also believe that the significant number of
long-term employees we have is indicative of good employee
relations.




12


**Additional
Information with Respect to FPIC’s Business**




FPIC
will provide its annual report on Form 10-K, its quarterly reports on Form 10-Q
and current reports on Form 8-K, including exhibits and amendments to those
reports, filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange
Act, as soon as reasonably practicable, after electronically filing such
material with or furnishing them to, the Securities and Exchange Commission
(“SEC”). Such materials will be provided without charge by FPIC through its
Internet website at *www.fpic.com* .
FPIC will also furnish a copy of any exhibit, upon payment of a reasonable fee
to cover the cost of copying and mailing the requested materials. Requests for
such materials should be directed to the attention of Investor Relations, FPIC
Insurance Group, Inc., 225 Water Street, Suite 1400, Jacksonville, FL 32202 or
via e-mail at *ir@fpic.com* or by calling Investor Relations at (904) 354-2482, extension 3287.




Any
materials FPIC files with or furnishes to the SEC may also be reviewed and
copied by investors and the public generally at the SEC’s public reference room
at 450 Fifth Street, N.W., Washington, D.C. 20549. Additional information is
available regarding the SEC’s operation of the public reference room by calling
the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site, which
contains reports, proxy statements and other information regarding issuers,
including FPIC, that file electronically with the SEC. The SEC’s internet
website address for such materials is www.sec.gov .




***Item 2.***
    ***Properties***




The
physical properties used by FPIC and its subsidiaries are summarized
below:




**Business**
    **Location**
    **Type
      of**
      **Property**
    **Owned**
      **or
      Leased**
    **Approximate**
      **Square
      Footage**Corporate
      headquarters
    Jacksonville,
      FL
    Offices
    Leased
    8,900First
      Professionals
    Jacksonville,
      FL
    Offices
    Owned
    66,900First
      Professionals
    Plantation,
      FL
    Offices
    Leased
    4,700First
      Professionals
    Tampa,
      FL
    Offices
    Leased
    1,200First
      Professionals
    Sanford,
      FL
    Offices
    Leased
    600First
      Professionals
    Coral
      Gables, FL
    Offices
    Leased
    100First
      Professionals
    Maitland,
      FL
    Offices
    Leased
    300Tenere
    Springfield,
      MO
    Offices
    Leased
    13,300AFP
    Manhasset,
      NY
    Offices
    Leased
    55,500AFP
    Lake
      Success, NY
    Offices
    Leased
    15,000AFP
    Rochester,
      NY
    Offices
    Leased
    5,300AFP
    New
      City, NY
    Offices
    Leased
    3,900AFP
    West
      Chester, PA
    Offices
    Leased
    300EMI
    Stuart,
      FL
    Offices
    Leased
    13,300EMI
    Jacksonville,
      FL
    Offices
    Leased
    13,500





13




***Item 3.***
    ***Legal
      Proceedings***





FPIC’s
insurance subsidiaries from time to time become subject to claims for
extra-contractual obligations or risks in excess of policy limits in connection
with their insurance claims. These claims are sometimes referred to as “bad
faith” actions as it is alleged that the insurance company acted in bad faith in
the administration of a claim against an insured. Bad faith actions are
infrequent and generally occur in instances where a jury verdict exceeds the
insured’s policy limits. Under such circumstances, it is routinely alleged that
the insurance company failed to negotiate a settlement of a claim in good faith
within the insured’s policy limit. FPIC has evaluated such exposures as of
December 31, 2004, and believes its position and defenses are meritorious.
However, there can be no absolute assurance as to the outcome of such exposures.
FPIC currently maintains insurance for such occurrences, which serves to limit
exposure to such claims. During 2004, FPIC resolved one case arising in 1993 for
which no such coverage was available. No additional net charge or increase in
incurred losses or aggregate reserves for losses was required. In addition,
multiple claims for extra contractual obligations in a single year could result
in potential exposures materially in excess of insurance coverage or in
increased costs of insurance coverage.




Based
on analysis of our exposure to extra-contractual obligations and claims in
excess of policy limits (“ECO/XPL”), we elected not to renew the supplemental
awards made ECO/XPL reinsurance that we had carried in addition to the ECO/XPL
coverage already included as part of our primary excess of loss reinsurance
program. Therefore, this additional layer of excess reinsurance is no longer in
effect after April 27, 2004 and we now retain this excess risk.




FPIC
may also become involved in legal actions not involving claims under its
insurance policies from time to time. FPIC has evaluated such exposures as of
December 31, 2004, and in all cases, believes its position and defenses are
meritorious. However, there can be no absolute assurance as to the outcome of
such exposures.




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




There
were no matters submitted to a vote of security holders in the fourth quarter of
2004.




**Part
II**




***Item 5.***
    ***Market
      for Registrant's Common Equity, Related Shareholder Matters and Issuer
      Purchases of Equity
Securities***




Our
common equity has been publicly traded on the NASDAQ National Market System
since August 1, 1996 under the symbol, “FPIC”. Additional information about FPIC
can be found on our website *www.fpic.com* .
Information presented on our website is not incorporated by reference in this
Form 10-K.




The
following table sets forth, for the periods indicated, the high and low trades
as reported. Such trades are without retail markup, markdown or
commission.




**2004**
    
    **2003****High
      Trade**
    **Low
      Trade**
    
    **High
      Trade**
    **Low
      Trade**First
      quarter
    $
    26.43
    
    21.90
    
    8.35
    
    4.22Second
      quarter
    $
    28.09
    
    20.37
    
    14.94
    
    6.80Third
      quarter
    $
    27.14
    
    21.29
    
    17.00
    
    13.50Fourth
      quarter
    $
    35.56
    
    25.28
    
    25.97
    
    14.77




14


We
estimate that as of March 7, 2005 there were approximately 2,115 shareholders of
record of FPIC common stock.




We
have not paid any dividends since 1996 because we have elected to retain our
earnings to support our growth. Our Board of Directors will periodically review
our dividend policy in the future taking into consideration capital adequacy and
future assessments of capital needs. As a holding company with no direct
operations other than the management of our subsidiaries, we would rely on cash
dividends and other permitted payments from our subsidiaries to pay any future
dividends to our stockholders. State insurance laws limit the dividends or other
amounts that may be paid to us by our insurance subsidiaries.




***Item 6.***
    ***Selected
      Financial Data***


The
selected financial data presented below for the fiscal years ended December 31
should be read in conjunction with FPIC’s consolidated financial statements and
the notes thereto, which are included in Item 8. Financial Statements and
Supplementary Data, herein. For additional information with respect to FPIC’s
business see Item 7. Management’s Discussion and Analysis of Results of
Operations and Financial Condition.




**(in
      thousands)****2004**
    
    **2003**
    
    **2002**
    
    **2001**
    
    **2000***Statements
      of Financial Position Data:*Total
      cash and investments
    
    $
    683,968
    
    
    622,701
    
    
    538,720
    
    
    441,966
    
    
    423,955Total
      assets
    
    $
    1,271,306
    
    
    1,182,756
    
    
    1,026,431
    
    
    770,822
    
    
    663,682Liability
      for losses and LAE
    
    $
    635,118
    
    
    574,529
    
    
    440,166
    
    
    318,483
    
    
    281,295Long
      term debt
    
    $
    46,083
    
    
    46,083
    
    
    —
    
    
    —
    
    
    —Revolving
      credit facility
    
    $
    —
    
    
    —
    
    
    37,000
    
    
    37,000
    
    
    67,219Term
      loan
    
    $
    —
    
    
    —
    
    
    10,208
    
    
    16,042
    
    
    —Total
      liabilities
    
    $
    1,054,055
    
    
    996,019
    
    
    860,426
    
    
    596,100
    
    
    491,155Minority
      interest
    
    $
    131
    
    
    80
    
    
    92
    
    
    148
    
    
    —Total
      shareholders' equity
    
    $
    217,120
    
    
    186,657
    
    
    165,913
    (1)
    
    174,574
    
    
    172,527**(in
      thousands, except per share amounts)****2004**
    
    
    **2003**
    
    
    **2002**
    
    
    **2001**
    
    
    **2000***Statements
      of Income (Loss) Data:*Direct
      and assumed premiums written
    
    $
    312,728
    
    
    340,741
    
    
    344,727
    
    
    245,403
    
    
    197,280Net
      premiums written
    
    $
    192,532
    
    
    143,134
    
    
    140,248
    
    
    147,084
    
    
    161,931Net
      premiums earned
    
    $
    149,676
    
    
    131,665
    
    
    151,684
    
    
    131,058
    
    
    120,454Total
      revenues
    
    $
    236,807
    
    
    201,724
    
    
    221,940
    
    
    197,582
    
    
    182,089Minority
      interest
    
    $
    248
    
    
    94
    
    
    172
    
    
    150
    
    
    —Income
      from operations before cumulative effect of accounting
    change
    
    $
    28,181
    
    
    16,572
    
    
    14,876
    
    
    2,930
    
    
    614Cumulative
      effect of accounting change, net of an income tax benefit
    
    $
    —
    
    
    —
    
    
    (29,578
    )(1)
    
    —
    
    
    —Net
      income (loss)
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )
    
    2,930
    
    
    614Diluted
      earnings per common share before cumulative effect of accounting
      change
    
    $
    2.70
    
    
    1.71
    
    
    1.58
    
    
    0.31
    
    
    0.06Basic
      earnings (loss) per common share
    
    $
    2.83
    
    
    1.75
    
    
    (1.57
    )
    
    0.31
    
    
    0.06Diluted
      earnings (loss) per common share
    
    $
    2.70
    
    
    1.71
    
    
    (1.56
    )
    
    0.31
    
    
    0.06(1)Adoption
      of Statement of Financial Accounting Standard No. 142, Goodwill and Other
      Intangible Assets, resulted in a one-time, non cash charge of$29,578,
      net of an income tax benefit of $18,784.




15




***Item 7.***
    *****Management’s
      Discussion and Analysis (“MD&A”) of Results of Operations and
      Financial
Condition*****
  The following discussion and
analysis should be read in conjunction with the consolidated financial
statements and the notes to the consolidated financial statements appearing
elsewhere in this report. The consolidated financial statements include the
results of all of FPIC Insurance Group, Inc.’s (“FPIC”) wholly owned and
majority owned subsidiaries.




**Safe
Harbor Disclosure**




The
Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for
forward-looking statements. Any written or oral statements made by us or on our
behalf may include forward-looking statements, which reflect our current views
with respect to future events and financial performance. These forward-looking
statements can be identified by such words as, but are not limited to,
“believe,” “expect,” “intend,” “anticipate,” “estimate,” “project,” “plan,”
“foresee,” “hope,” “should,” “will,” “will likely result” or “will continue” and
other similar expressions. These forward-looking statements are subject to
certain risks, uncertainties and other factors that could cause actual results
to differ materially from such statements. These risks, uncertainties and other
factors that could adversely affect our operations or cause actual results to
differ materially from anticipated results include, but are not limited to, the
following:





i)
    Risks
      factors, including the effect on reserves and underwriting results,
      associated with changing market conditions that result from fluctuating
      cyclical patterns of the property and casualty insurance
      business;
 ii)
    The
      uncertainties of the loss reserving
process;
 iii)
    The
      occurrence of insured or reinsured events with a frequency or severity
      exceeding our estimates;
 iv)
    The
      impact of surplus constraints on
growth;
 v)
    The
      competitive environment in which we operate, including reliance on agents
      to place insurance, physicians electing to practice without insurance
      coverage, related trends and associated pricing pressures and
      developments;
 vi)
    The
      actual amount of new and renewal
business;
 vii)
    Business
      risks that result from our size and geographic
    concentration;
 viii)
    Developments
      in reinsurance markets that could affect our reinsurance
      programs;
 ix)
    The
      ability to collect reinsurance
recoverables;
 x)
    The
      dependence of our insurance management segment upon a major customer,
      Physicians’ Reciprocal Insurers (“PRI”), for its revenue, and
      consequently, the effects of premium rate adequacy, claims experience,
      policyholder retention, and PRI’s overall financial position on its
      ability to maintain or grow its premium
base;
 xi)
    Developments
      in financial and securities markets that could affect our investment
      portfolio and financing plans;
 xii)
    Risk
      factors associated with the impact of rising interest rates on the market
      value of our investments;
 xiii)
    Risk
      factors associated with the impact of rising interest rates on our
      interest costs associated with our long term
debt;
 xiv)
    Rates,
      including rates on excess policies, being subject to or mandated by legal
      requirements and regulatory approval, which could affect our business or
      reinsurance arrangements;
 xv)
    Uncertainties
      relating to government and regulatory policies (such as subjecting us to
      insurance regulation or taxation in additional jurisdictions or amending,
      revoking or enacting any laws, regulations or treaties affecting our
      current operations);
 xvi)
    Legal developments, including claims for extra-contractual
      obligations or in excess of policy limits in connection with the
      administration of insurance
claims;
 xvii)
    Business
      and financial risks associated with the unpredictability of court
      decisions;




16




xviii)
    The
      loss of the services of any of our executive
officers;
xix)
    Risks
      of impairment of assets, generally, including the risk of impairment or
      inability to continue to recognize deferred acquisition costs, deferred
      tax assets, goodwill and other deferred or intangible
    assets;
xx)
    General
      economic conditions, either nationally or in our market areas, that are
      worse than expected;
xxi)
    Changes
      in our financial ratings resulting from one or more of these uncertainties
      or other factors and the potential impact on our agents’ ability to place
      insurance business on our behalf; and
xxii)
    Other
      risk factors discussed elsewhere within this Form 10-K for the year ended
      December 31, 2004.





Readers
are cautioned not to place undue reliance on these forward-looking statements,
which speak only as of their dates. We undertake no obligation to publicly
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise, except as required by law.





**Critical
Accounting Policies and Estimates**





Our
discussion and analysis of financial condition, results of operations and
liquidity and capital resources is based upon the consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States of America (“GAAP”). The preparation of
these financial statements requires us to make estimates and judgments that
affect the reported amounts of assets, liabilities, revenues, expenses and
related disclosures of contingent assets and liabilities. We generally base our
estimates on historical experience or other appropriate assumptions that we
believe are reasonable and relevant under the circumstances and evaluate them on
an on-going basis. The results of these estimation processes form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.





We
believe the critical accounting policies discussed in the remainder of this
section of our MD&A affect our more significant judgments and estimates used
in preparation of the consolidated financial statements. These may be further
commented upon in applicable sections on Results of Operations, Financial
Position and Liquidity and Capital Resources that follow. Information about the
significant accounting policies we use in the preparation of our consolidated
financial statements is included in Note 2, Significant Accounting Policies, to
our consolidated financial statements included in Item 8. Financial Statements
and Supplementary Data of this Form 10-K.


******


***Liability
for Losses and Loss Adjustment Expenses (“LAE”)***


Our
liability for losses and LAE (also referred to as our loss and LAE reserves) is
the largest liability of FPIC and represents the financial statement item most
sensitive to estimation and judgment. Medical professional liability (“MPL”)
insurance, including business written directly and reinsurance assumed, is our
primary line of business and accounted for $610.6 million and $549.8 million, or
96%, of our total consolidated liability for losses and LAE as of December 31,
2004 and 2003, respectively.




Our
loss and LAE reserves represent management’s best estimate of the amounts we
expect to pay out in the future on account of all insured claims and incidents
as of the end of the period. The liability comprises estimated case reserves on
reported claims plus estimates of insured losses and LAE incurred but not yet
reported (“IBNR”). IBNR primarily comprises provisions for LAE, losses under
tail policies, and losses on covered extended reporting endorsements issued
following the death, disability or retirement of claims-made insureds. Also
implicit in loss and LAE reserves is a provision for case reserve development,
which represents an estimate of the aggregate difference between our
individually estimated case reserves and the amount for which they will
ultimately be settled. Because FPIC consistently settles its cases for amounts
that are less than their individually estimated case reserves, this provision
serves to offset the other loss and LAE reserve components.






17





Management
sets the loss and LAE reserves taking into account the results of multiple
actuarial techniques applied as well as other assumptions, some of which are not
strictly mathematical in nature. As of December 31, 2004, management utilized
and integrated, within our loss and LAE reserves estimation process,
calculations contained in an actuarial study performed by an independent
actuarial firm. Our aggregate loss and LAE reserves as of December 31, 2004 are
recorded at our best estimate, which is primarily based upon the independent
actuarial study supplemented by additional considerations and assumptions by
management. The independent actuarial firm’s reports on our reserves for the
years ended December 31, 2004 and 2003 have been filed with state insurance
regulators along with the statutory financial statements of our insurance
companies.





The
primary factors affecting our estimates of how much we will pay and therefore
our reserve for insurance claims, defense and other related costs
are:




·
    Frequency
      and severity trends (numbers of claims and how much we will pay for each
      claim on average);


·
    Frequency
      of claims closed with indemnity payments (the percentage of claims
      received that ultimately result in a loss payment versus those that are
      settled and closed without a loss payment);


·
    The
      timing or pattern of future payments;


·
    The
      amount of defense cost we will pay for each claim or group of claims;
      and


·
    Inflationary
      trends that are expected to bear on future loss and LAE
      payments.





These
factors, in turn, can be affected by the judicial environment and tort-related
trends over time. It is also important to note that one or more of the actuarial
methods used by us do not rely on specific assumptions for these factors;
rather, these assumptions are developed as a by-product of the application of
the methods, which may then be monitored and factored into the final judgmental
considerations of the selection of the point estimate and range of reasonable
values around the point estimate from among the methods. All of the
above-mentioned factors individually can and will generally vary from one period
to the next over time but are estimated to approximate their ultimate values in
setting reserve estimates.




In
addition, due to the relatively small number of claims ultimately resulting in
an indemnity payment and the average cost per claim, any change in the trends
assumed in the ultimate values for these factors may be expected to result in a
significant change in the reserve estimates. Because our aggregate loss and LAE
reserves are so large, this also means that virtually any change in the level of
our carried reserves will be material to results of operations and may be
material to our financial position. As an example, a 1% increase or decrease in
carried reserves, net of reinsurance, as of December 31, 2004, would result in
an after-tax addition or reduction in reported net income of approximately $1.9
million, or 7% of our consolidated net income for the year ended December 31,
2004. A typical range of reasonable values for MPL reserve estimates is
considered to be as wide as 15%; thus, in addition to the performance of the
business itself, our results of operations and financial position are very
sensitive to our reserve estimates and judgments.




For
additional information and data concerning our liability for losses and LAE see
Management’s Discussion and Analysis of Financial Condition: December 31, 2004
Compared to December 31, 2003.





18


***Reinsurance***


Reinsurance
does not relieve us from our primary obligations to policyholders. Therefore,
the failure of reinsurers to honor their obligations could result in losses to
us. The amounts recoverable from reinsurers on our unpaid losses and LAE are
calculated by applying the terms of the respective ceded reinsurance contracts
to our estimates of the underlying loss and LAE reserves that are subject to
reinsurance. Thus, to the extent our reinsured reserves change or are adjusted,
so will the related reinsurance recoverable amounts and our
exposure.




We
evaluate the financial condition of our reinsurers and monitor concentrations of
credit risk with respect to the individual reinsurers that participate in our
ceded programs to minimize our exposure to significant losses from reinsurer
insolvencies. We hold collateral in the form of letters of credit or trust
accounts for amounts recoverable from reinsurers that are not designated as
authorized reinsurers by the applicable departments of insurance of the states
that have jurisdiction over the underlying business.


******


***Income
Taxes***


Deferred
tax assets and liabilities are estimated and recognized for the future tax
consequences attributable to temporary differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases and operating loss and tax credit carry
forwards.




A
valuation allowance against deferred tax assets is estimated and recorded if it
is more likely than not that all or some portion of the benefits related to the
deferred tax assets will not be realized. Valuation allowances are based on
estimates of taxable income and the period over which deferred tax assets will
be recoverable. We believe it is more likely than not that our deferred tax
assets will be fully realized. In the event that actual results differ from our
estimates or those estimates are adjusted in future periods, we may need to
establish a valuation allowance, which would impact our financial position and
results of operations.


******


***Goodwill***


Effective
January 1, 2002, we adopted Statement of Financial Accounting Standard No.
(“FAS”) 142, Goodwill and Other Intangible Assets. Under FAS 142, goodwill and
indefinite-lived intangible assets are no longer amortized through charges to
income, but do continue to be subject to annual (or under certain circumstances
more frequent) impairment testing based on estimated fair values.




During
the first quarter of 2002, we performed transitional impairment testing required
under the new standard and took a charge in the form of a cumulative effect of
accounting change for $29.6 million, net of an income tax benefit, as of January
1, 2002.




We
have obtained independent appraisals annually since the adoption of FAS 142, the
most recent of which was performed as of December 31, 2004, which indicate that
our goodwill and other intangible assets are fully recoverable. Our remaining
goodwill of $18.9 million will continue to be subject to impairment testing
through independent appraisal or otherwise at least annually, and potentially
more often should a triggering event occur. A triggering event under FAS 142
might include such things as a significant adverse change in legal factors or
business climate, an adverse action or assessment by a regulator, unanticipated
competition, or a loss of key personnel.


******


***Investments***


Our
invested assets comprise our largest single asset class and consist mostly of
investment securities with fixed maturities, including bonds and notes. Our
fixed maturity investment securities are carried at their market values and
accounted for $548.5 million and $528.6 million or 99% and 98% of our total
investments, and 43% and 45% of our total assets, respectively as of December
31, 2004 and 2003. Unrealized gains or losses in their market values are
recorded directly in shareholders’ equity, net of tax effects, as a component of
accumulated other comprehensive income.




19


There
is an exception to the treatment noted above if and when an investment security
considered to be available for sale is deemed to be other-than-temporarily
impaired. An other-than-temporary impairment may occur when the market value of
a security falls below its cost by a material amount for an extended period of
time (generally one year but can be less under certain circumstances) or when
other creditworthiness issues arise with regard to an issuer. If and when a
security is deemed to be other-than-temporarily impaired it is written down to
its estimated market value with a corresponding realized investment loss
recognized in net income.


******


***Commitments
and Contingencies***


Liabilities
for loss contingencies arising from claims, assessments, litigation, fines and
penalties and other sources are recorded when it is determined to be probable
that a liability has been incurred and the amount of the assessment and/or
remediation can be reasonably estimated.




Our
insurance subsidiaries are also subject to assessment by the financial guaranty
associations in the states in which they conduct business for the provision of
funds necessary for the settlement of covered claims under certain policies of
insolvent insurers. Generally, these associations can assess member insurers on
the basis of written premiums in their particular states. In addition to
standard assessments, the Florida and Missouri legislatures may also levy
special assessments to settle claims caused by certain catastrophic losses. No
special assessments were made in 2002, 2003 or 2004. In addition, we could
become subject to additional assessments in the future as a result of damages
caused by catastrophic losses, such as hurricanes.


******


***Revenue
Recognition***


Premium
income, which is our main source of revenue, is generally recognized pro-rata
over the respective period of each policy. Premium receivables are recorded net
of an estimated allowance for uncollectible amounts. In the event it is
determined that the unearned premium reserve for a book of business will not be
sufficient to recover the future expected losses and LAE and acquisition and
maintenance costs, including consideration of related investment income,
recognition of a premium deficiency would be required through a write down of
deferred acquisition costs and corresponding charge to income. In the event
deferred acquisition costs are written off entirely, any remaining premium
deficiency would be accounted for as a liability with a corresponding charge to
income.





Claims
administration and management fee revenues include management fees of the
insurance management segment, which are determined by contract as a percentage
of PRI’s direct premiums written for the calendar year. Such management fees are
estimated, billed and earned monthly based upon the estimated or re-estimated
direct premiums written of PRI for the calendar year.





**Consolidated
Results of Operations -**


**Comparison
for the Years Ended December 31, 2004 and 2003**





NET
INCOME for the year ended December 31, 2004 was $28.2 million, or $2.70 per
diluted share, an increase of 70% and 58%, respectively, when compared with net
income of $16.6 million, or $1.71 per diluted share, for the year ended December
31, 2003. All of our segments reported higher net income for 2004 compared with
2003. Significantly improved underwriting results and lower interest costs on
our long term debt in 2004 mainly contributed to the growth in insurance segment
net income. Growth in premiums written by PRI for 2004 contributed to growth in
insurance management revenues and net income.




20


TOTAL
REVENUES for the year ended December 31, 2004 increased $35.1 million, or 17%,
to $236.8 million from $201.7 million for the year ended December 31, 2003. The
increase in total revenues for the year 2004 is primarily due to higher net
premiums earned as the result of rate increases and lower ceded reinsurance
premiums in our insurance segment and higher claims administration and
management fees in our insurance management segment associated with growth in
written premiums at PRI. Net investment income also increased for the year 2004
primarily resulting from growth in our fixed income securities arising from
growth in our insurance invested assets. Net realized investment gains also
increased for the year 2004.




TOTAL
EXPENSES for the year ended December 31, 2004 increased $15.7 million, or 9%, to
$191.4 million from $175.7 million for the year ended December 31, 2003. The
increase in total expenses for the year 2004 is primarily due to
higher other underwriting expenses at our insurance segment and claims
administration and management expenses at our insurance management segment. Our
GAAP underwriting (combined) ratio improved to 92% for 2004 from 98% for 2003.
Other underwriting expenses increased for the year primarily due to lower ceding
commissions associated with lower ceded premiums earned, resulting from the
terminations of a large reinsurance agreement and fronting programs. Claims
administration and management expenses were higher as a result of growth in
premiums written by PRI and the related growth in insurance management revenues
and operations. Offsetting these higher expenses were lower borrowing costs
(interest plus the costs of related hedging instruments) on our debt. We also
incurred charges of $2.5 million, in 2003, to unwind interest rate swap
agreements, which did not recur during 2004. Income tax expense was higher for
2004 when compared to 2003 primarily due to higher taxable income. Income tax
expense for 2004 also includes a small provision for income tax contingencies
identified in a current Internal Revenue Service (“IRS”)
examination.




**Comparison
for the Years Ended December 31, 2003 and 2002**





Net
income for the year ended December 31, 2003 was $16.6 million, or $1.71 per
diluted share, an increase of 11% and 8%, respectively, when compared with
income before accounting change of $14.9 million, or $1.58 per diluted share for
the year ended December 31, 2002. All three of our business segments were
profitable in 2003. The year 2003 was the third year in a row of significant
improvements in insurance pricing. In addition, our insurance management and
third party administration (“TPA”) segments reported improved
profits.





Total
revenues for the year ended December 31, 2003 decreased $20.2 million, or 9%, to
$201.7 million from $221.9 million for the year ended December 31, 2002. Total
expenses for the year ended December 31, 2003 decreased $22.4 million, or 11%,
to $175.7 million from $198.1 million for the year ended December 31, 2002. Most
of the decline in our revenues and expenses in 2003 when compared with 2002 was
the result of growth management initiatives we put in place in 2002, designed to
level the amount of growth in our policyholder counts and significant additional
ceded reinsurance coverage following an unprecedented period of growth at our
insurance subsidiaries in 2001 and 2002. Our MPL insurance markets hardened
significantly since 2000. Net investment income was also lower in 2003. While
the equity markets recovered in 2003, interest rates fell to record lows for the
third straight year, although rates did recover somewhat by the end of 2003 and
exceeded 2002 year end levels.




21


**Insurance
Segment Results and Selected Other Information**





Our
insurance segment is made up of FPIC’s four insurance subsidiaries. Holding
company operations are also included in the insurance segment due to the
segment’s size and prominence and the substantial attention devoted to the
segment.





During
2003, we completed the integration of Anesthesiologists Professional Assurance
Company (“APAC”) operations and transitioned the management of APAC and Intermed
Insurance Company (“Intermed”) into First Professionals Insurance Company, Inc.
(“First Professionals”).  During the fourth quarter 2003, we negotiated and
completed the commutation of our reinsurance with Gerling Global Reinsurance
Corporation of America (“Gerling”).  We also negotiated our primary excess
of loss reinsurance program renewal for 2004 at a reduced cost for the first
time in several years. Finally, we played an active part in tort reform on
behalf of our policyholders, as well as the healthcare economy and the citizens
of the State of Florida.





Due
to recent increases in profitability and the growing equity and statutory
surplus of our insurance businesses, we terminated future cessions under the
Hannover Re net account quota share reinsurance agreement, effective July 1,
2004. With this termination, business is no longer ceded under the agreement
beginning with business written and renewed in the third quarter of 2004. The
business already ceded through June 30, 2004, will continue to be subject to the
agreement as it runs off.





Financial
and selected other data of our insurance segment for the years ended December
31, 2004, 2003 and 2002 is summarized in the table below. Dollar amounts are in
thousands.





**2004**
    
    **Percentage
      Change**
    
    **2003**
    
    **Percentage
      Change**
    
    **2002**Direct
      and assumed premiums written
    
    $
    312,728
    
    
    -8
    %
    
    340,741
    
    
    -1
    %
    
    344,727Net
      premiums written
    
    $
    192,532
    
    
    35
    %
    
    143,134
    
    
    2
    %
    
    140,248Net
      premiums earned
    
    $
    149,676
    
    
    14
    %
    
    131,665
    
    
    -13
    %
    
    151,684Net
      investment income
    
    
    20,627
    
    
    13
    %
    
    18,285
    
    
    -12
    %
    
    20,793Commission
      income
    
    
    —
    
    
    0
    %
    
    —
    
    
    -100
    %
    
    8Net
      realized investment gains
    
    
    3,867
    
    
    88
    %
    
    2,052
    
    
    -56
    %
    
    4,688Finance
      charges and other income
    
    
    637
    
    
    -33
    %
    
    945
    
    
    -24
    %
    
    1,251Intersegment
      revenues
    
    
    286
    
    
    1
    %
    
    284
    
    
    21
    %
    
    235Total
      revenues
    
    
    175,093
    
    
    14
    %
    
    153,231
    
    
    -14
    %
    
    178,659Net
      losses and LAE
    
    
    125,172
    
    
    5
    %
    
    118,974
    
    
    -15
    %
    
    139,571Other
      underwriting expenses
    
    
    12,527
    
    
    33
    %
    
    9,443
    
    
    -44
    %
    
    16,867Interest
      expense on debt
    
    
    2,564
    
    
    -56
    %
    
    5,886
    
    
    24
    %
    
    4,762Other
      expenses
    
    
    7,432
    
    
    36
    %
    
    5,445
    
    
    241
    %
    
    1,596Intersegment
      expenses
    
    
    2,864
    
    
    -33
    %
    
    4,291
    
    
    26
    %
    
    3,414Total
      expenses
    
    
    150,559
    
    
    5
    %
    
    144,039
    
    
    -13
    %
    
    166,210Income
      from operations before income taxes
    
    
    24,534
    
    
    167
    %
    
    9,192
    
    
    -26
    %
    
    12,449Less:
      Income tax expense
    
    
    8,262
    
    
    246
    %
    
    2,389
    
    
    -43
    %
    
    4,162Net
      income
    
    $
    16,272
    
    
    139
    %
    
    6,803
    
    
    -18
    %
    
    8,287


22


**
    
    **2004**
    
    **Percentage
      Change**
    
    **2003**
    
    **Percentage
      Change**
    
    **2002***Selected
      Direct Professional Liability Claims
    Information:*Net
      paid losses and LAE on professional liability claims
    
    $
    119,305
    
    
    6
    %
    
    112,443
    
    
    22
    %
    
    92,497Average
      net paid loss per professional liability claim with indemnity
      payment
    
    $
    194
    
    
    -9
    %
    
    213
    
    
    16
    %
    
    184Total
      professional liability claims and incidents reported during the
      period
    
    
    2,189
    
    
    -29
    %
    
    3,063
    
    
    -4
    %
    
    3,191Total
      professional liability claims with indemnity payment
    
    
    350
    
    
    24
    %
    
    283
    
    
    -3
    %
    
    293Total
      professional liability claims and incidents closed without indemnity
      payment
    
    
    2,162
    
    
    10
    %
    
    1,965
    
    
    -7
    %
    
    2,104Total
      professional liability claims and incidents that remained
    open
    
    
    5,145
    
    
    -7
    %
    
    5,507
    
    
    18
    %
    
    4,676*Professional
      Liability Policyholders Information:*Medical
      professional liability policyholders (excludes fronting
      arrangements)
    
    
    14,047
    
    
    1
    %
    
    13,919
    
    
    -8
    %
    
    15,117Legal
      professional liability policyholders
    
    
    —
    
    
    0
    %
    
    —
    
    
    -100
    %
    
    1,798Total
      professional liability policyholders
    
    
    14,047
    
    
    1
    %
    
    13,919
    
    
    -18
    %
    
    16,915Professional
      liability policyholders under fronting arrangements
    
    
    111
    
    
    -95
    %
    
    2,136
    
    
    -53
    %
    
    4,544


INSURANCE
NET INCOME increased 139% to $16.3 million for the year ended December 31, 2004
from $6.8 million for the year ended December 31, 2003. The increase in net
income was primarily the result of increases in net premiums earned driven by
rate increases implemented during 2003 and declines in the proportion of our
premiums ceded to reinsurers as a result of the lower cost of our excess of loss
reinsurance program, and lower interest costs related to debt and intersegment
expenses. Partially offsetting these developments were a reduction in ceding
commissions and an increase in other underwriting expenses. The decrease in
ceding commissions resulted from the elimination of further cessions under the
Hannover Re net account quota share reinsurance agreement as of July 1, 2004.
The increase in other underwriting expenses was driven by the cancellation of
fronting programs and an increase in corporate expenses associated with
Sarbanes-Oxley compliance. Other expenses increased due to growth in finance
charges associated with the Hannover Re net account quota share reinsurance
agreement.




Insurance
net income decreased 18% to $6.8 million for the year ended December 31, 2003
from $8.3 million for the year ended December 31, 2002. The decrease in net
income was the result of lower net realized investment gains, lower net
investment income, higher debt-related costs, and higher net intersegment
expenses, comprised mainly of commissions payable to the insurance management
segment. The holding company, which is grouped with the insurance segment for
reporting purposes, incurred debt-related costs of $1.5 million after-tax ($2.5
million before-tax) during 2003 as a result of unwinding interest rate swap
agreements in the second and fourth quarters in connection with the repayment
and retirement of our term loan and revolving credit facility. Our improved
underwriting margin (defined as net premiums earned less net losses and LAE and
other underwriting expenses) of $4.9 million after-tax was mostly attributable
to pricing improvements. Approximately $1.3 million of the after-tax improvement
in 2003 was attributable to the Hannover Re net account quota share reinsurance
agreement.




23


DIRECT
and ASSUMED PREMIUMS WRITTEN decreased 8% to $312.7 million for the year ended
December 31, 2004 from $340.7 million for the year ended December 31, 2003. The
decrease in direct and assumed premiums written is primarily attributable to our
planned exits from fronting programs and non-core states. We began exiting our
fronting programs in 2002 to free up capacity for our core MPL business and all
of our previous programs are now in run-off. Also contributing to the decrease
was the non-renewal of the excess of loss reinsurance treaty under which First
Professionals assumed reinsurance from PRI. Direct premiums written for the year
ended December 31, 2004 excluding premiums under fronting programs increased 2%
to $273.3 million for the year ended December 31, 2004 from $268.5 million for
the year ended December 31, 2003. The increase in direct premiums written
excluding premiums under fronting programs reflects a combination of factors
including increased insurance rates offset by an overall shift in the mix of
policies written and renewed, primarily by First Professionals, towards lower
limits of coverage. The total number of MPL insurance policyholders increased 1%
to 14,047 at December 31, 2004 from 13,919 at December 31, 2003. The 1% net
increase in the number of policyholders was comprised of an increase in First
Professionals policyholders in Florida of 1,272, or 13%, offset by reductions in
policyholders at Intermed and in non-core states totaling 1,144 during
2004.




Direct
and assumed premiums written decreased 1% to $340.7 million for the year ended
December 31, 2003 from $344.7 million for the year ended December 31, 2002. The
small decrease primarily reflects the offsetting trends of price improvements at
all our insurance companies and growth in our core MPL book of business in
Florida, offset by lower premiums on fronted business and legal professional
liability business and lower MPL premiums in certain other
states.




NET
PREMIUMS WRITTEN increased 35% to $192.5 million for the year ended December 31,
2004 from $143.1 million for the year ended December 31, 2003. Approximately
$33.9 million, or 69%, of the $49.4 million increase in net premiums written for
2004 was the result of the termination of the Hannover Re net account quota
share reinsurance agreement, effective June 30, 2004. First Professionals had
been ceding 50% of its direct MPL insurance premiums under this reinsurance
agreement. In addition to the factors affecting direct premiums, lower
reinsurance costs in 2004 as compared with 2003 under the excess of loss
reinsurance program also contributed to higher net premiums
written.




Net
premiums written increased 2% to $143.1 million for the year ended December 31,
2003 from $140.2 million for the year ended December 31, 2002. The small
increase in net premiums written is attributable to the growth management
initiatives put into place during 2002, and is basically the result of planned
reductions in our overall numbers of policyholders in 2003, and continuing
pricing improvements, which have largely offset one another.




NET
PREMIUMS EARNED increased 14% to $149.7 million for the year ended December 31,
2004 from $131.7 million for the year ended December 31, 2003. The termination
of the Hannover Re net account quota share reinsurance agreement, accounted for
approximately $11.6 million, or 64%, of the $18.0 million increase in net
premiums earned for 2004. The remaining increase in net premiums earned is
primarily due to the effects of pricing improvements at First Professionals,
APAC and Intermed, which have all implemented significant rate increases in
recent years. Partially offsetting these increases in net premiums earned was a
reduction in assumed premiums earned due to the non-renewal of the excess of
loss reinsurance treaty between First Professionals and PRI.




24


Net
premiums earned decreased 13% to $131.7 million for the year ended December 31,
2003 from $151.7 million for the year ended December 31, 2002. The decline in
net premiums earned for 2003 is the result of ceded premiums earned under the
Hannover Re net account quota share reinsurance agreement. Excluding the effect
of ceded premiums earned under the Hannover Re net account quota share
reinsurance agreement, net premiums earned increased $19.1 million primarily due
to the effects of price increases. The positive effects of price increases were,
in turn, offset by an 18% reduction in the total number of professional
liability insurance policyholders from 16,915 at December 31, 2002 to 13,919 at
December 31, 2003. Of this decline, the sale of the renewal rights to the
Interlex legal professional liability book of business in 2002 accounted for
approximately 1,800 fewer policies. The remaining decline occurred in non-core
states and in Missouri as capacity was freed up with a view towards using it for
First Professionals’ core MPL business in Florida. The declines in Missouri were
expected as we implemented a very large rate increase in 2003.




Our
investment revenues, which are comprised of **** NET
INVESTMENT INCOME and NET REALIZED INVESTMENT GAINS AND LOSSES, increased 20% to
$24.5 million for the year ended December 31, 2004 from $20.3 million for the
year ended December 31, 2003. Net investment income increased primarily as a
result of recent growth in our fixed income investment portfolio corresponding
with increases in our insurance business.  Net realized investment gains
increased primarily as a result of lower other-than-temporary impairments in
2004 when compared with 2003.  During 2003 we recognized losses of $5.3
million for other-than-temporary impairments of two private equity holdings, of
which $4.5 million was related to our investment in American Professional
Assurance Ltd. (“APAL”).  In 2004 we recognized an additional
other-than-temporary impairment of $0.8 million related to our investment in
APAL.  With the recognition of this impairment, we have written our
investment in APAL down to $0.  Net realized investment gains in 2004 also
included a gain of $2.1 million related to the sale of an investment in a
limited partnership.




Our
investment revenues decreased 20% to $20.3 million for the year ended December
31, 2003 from $25.5 million for the year ended December 31, 2002. Net investment
income declined primarily as the result of the prolonged status of prevailing
interest rates at historically low levels. As a result, current funds were
primarily invested in fixed income securities with shorter maturities and
durations and we maintained significant short-term invested cash. While these
holdings reduce our exposure to losses should the interest environment change
and rates begin to rise, they also produce lower current income. Net realized
investment gains decreased due to charges of $5.3 million for
other-than-temporary impairments of two private equity holdings, including $4.5
million related to our investment in APAL.




NET
LOSSES AND LAE INCURRED increased 5% to $125.2 million for the year ended
December 31, 2004 from $119.0 million for the year ended December 31, 2003. The
increases in our net losses and LAE incurred relative to net premiums earned and
corresponding decrease in our loss ratio reflects pricing and other improvements
in our insurance business and the resulting improvement in our underwriting
results. Our loss and LAE ratios (defined as the ratio of net losses and LAE
incurred to net premiums earned) were 84% and 90% for the years ended December
31, 2004 and 2003, respectively.




25


Net
losses and LAE incurred decreased 15% to $119.0 million for the year ended
December 31, 2003 from $139.6 million for the year ended December 31, 2002. Net
losses and LAE incurred for 2003 decreased $31.9 million, or 23%, as a result of
ceded losses and LAE under the Hannover Re net account quota share reinsurance
agreement. Excluding the effect of ceded losses and LAE under the Hannover Re
net account quota share reinsurance agreement, net losses and LAE for 2003
increased $11.3 million, or 6%, which was primarily due to increased losses at
Intermed and APAC in 2003. Our loss and LAE ratios were 90% and 92% for the
years ended December 31, 2003 and 2002, respectively. The negative effects on
the loss and LAE ratios of our smaller companies were offset to a significant
extent by improvement in the losses and LAE incurred relative to net premiums
earned at First Professionals. In addition to being much larger than Intermed
and APAC, First Professionals began implementing significant pricing
improvements earlier and has done so over a longer period.





SELECTED
DIRECT PROFESSIONAL LIABILITY INSURANCE CLAIMS DATA


Net
paid losses and LAE on professional liability claims increased 6% to $119.3
million for the year ended December 31, 2004 from $112.4 million for the year
ended December 31, 2003 and increased 22% to $112.4 million for the year ended
December 31, 2003 from $92.5 million for the year ended December 31, 2002. These
increases were generally to be expected and consistent with recent growth in our
insurance business, considering the inherent time lag until the related claims
are settled and closed. The average net paid loss per professional liability
claim with indemnity payment for calendar year 2004 declined 9% to $0.19 million
from $0.21 million for calendar year 2003. The decrease is primarily the result
of increased reinsurance coverage on claims settled and paid during 2004,
including ceded losses under the Hannover Re net account quota share reinsurance
agreement.




Newly
reported claims and incidents were down significantly (29%) in 2004 when
compared with 2003. A portion of these declines relates to a speed up in claims
reporting experienced during 2003. This resulted in a higher than usual number
of claims reported in 2003, as plaintiffs’ attorneys accelerated case filings to
precede the effective date of tort reform legislation passed in Florida in the
fall of 2003 followed by lower than usual reported claims in subsequent periods.




The
number of claims with an indemnity payment (“CWIP”) during 2004 increased 24%
from the number of CWIP in 2003. The percentage of CWIP to all closed claims for
2004 was 14%, or 1 percentage point higher than the 2003 CWIP percentage of 13%.
While our 2004 and 2003 CWIP percentages are higher than 2002’s CWIP percentage
of 12%, the 2002 through 2004 percentages are significantly lower than the CWIP
percentages for 2000 and 2001, which were 20% and 18%, respectively. This
significant improvement is largely the result of a harder claims philosophy and
related management initiatives implemented beginning in 2001. We also believe
that the application of disciplined underwriting and risk selection criteria
have helped minimize claims.




OTHER
UNDERWRITING EXPENSES increased 33% to $12.5 million for the year ended December
31, 2004 from $9.4 million for the year ended December 31, 2003. The increase in
other underwriting expenses is primarily the result of recent growth in our
insurance business and a decrease in ceding commissions resulting from the
elimination of cessions under the Hannover Re net account quota share
reinsurance agreement during the third quarter of 2004. Also contributing to the
2004 increase were direct costs associated with compliance with the
Sarbanes-Oxley Act of 2002 of approximately $1.5 million and lower ceding
commissions under reinsurance agreements.




26


Other
underwriting expenses decreased 44% to $9.4 million for the year ended December
31, 2003 from $16.9 million for the year ended December 31, 2002. The decrease
in other underwriting expenses is primarily due to the ceding commissions under
the Hannover Re net account quota share reinsurance agreement, which is a credit
to other underwriting expenses. The ceding commission increased $9.9 million to
$23.1 million for the year ended December 31, 2003 from $13.2 million for the
year ended December 31, 2002.




INTEREST
EXPENSE ON DEBT decreased 56% to $2.6 million for the year ended December 31,
2004 from $5.9 million for the year ended December 31, 2003. The significant
decrease in interest expense on debt for 2004 is primarily due to the retirement
of our former bank debt during 2003, which carried higher total borrowing costs,
through refinancing in the form of private issuances of long term debt
securities and by repayment using internally generated funds. Included in
interest expense on debt for 2003 are charges of $2.5 million related to the
unwinding of swap agreements associated with our former bank debt.




Interest
expense on debt increased 24% to $5.9 million for the year ended December 31,
2003 from $4.8 million for the year ended December 31, 2002. The increase in
interest expense on debt is primarily due to charges of $2.5 million in 2003 to
unwind swap agreements associated with the pay down and retirement of our former
bank credit facility. This was offset by the lower total borrowing costs, as
compared with the former bank credit facility, of FPIC’s newly issued junior
subordinated debentures and unsecured senior notes and the recapture of the
amortization of unrealized losses of previous interest rate swap
agreements.




Finance
charges associated with funds withheld under the Hannover Re net account quota
share reinsurance agreement are included in OTHER EXPENSES and were $7.2
million, $4.5 million and $1.1 million for the years ended December 31, 2004,
2003 and 2002, respectively. Growth in these finance charges contributed to the
increase in other expenses and is due to the growth in the amount of funds
withheld for business ceded under this agreement through June 30, 2004. As
discussed elsewhere, we exercised our option to terminate future cessions under
the agreement effective July 1, 2004.




INCOME
TAXES increased 246% to $8.3 million for the year ended December 31, 2004 from
$2.4 million for the year ended December 31, 2003. Income tax expense was
relatively higher for 2004 compared to 2003 primarily due to higher taxable
income. Income tax expense for 2004 also includes a $0.8 million provision for
income tax contingencies identified in a current IRS examination. We also
incurred additional state income taxes in 2004 from the amendment of certain
prior year state income tax returns.




Income
taxes decreased 43% to $2.4 million for the year ended December 31, 2003 from
$4.2 million for the year ended December 31, 2002. The decrease in income tax
expense for 2003 is primarily due to the decrease in income before income taxes
and cumulative effect of accounting change when compared with the prior year and
additional tax expense recognized in 2002 associated with the examination of
FPIC’s 1998 and 1999 Federal income tax returns by the IRS.




27


HANNOVER
RE NET ACCOUNT QUOTA SHARE REINSURANCE AGREEMENT


The
results of our insurance segment include the effects of a significant net
account quota share reinsurance agreement with the Hannover Re companies.
Amounts ceded under the Hannover Re net account quota share reinsurance
agreement for the years ended December 31, 2004, 2003 and 2002 are summarized in
the table below. Dollar amounts are in thousands.




**2004**
    
    **Percentage
      Change**
    
    **2003**
    
    **Percentage
      Change**
    
    **2002**Ceded
      premiums written
    
    $
    (50,357
    )
    
    40
    %
    
    (84,255
    )
    
    1
    %
    
    (85,531
    )Ceded
      premiums earned
    
    $
    (75,675
    )
    
    13
    %
    
    (87,256
    )
    
    -81
    %
    
    (48,179
    )Ceded
      losses and LAE incurred
    
    $
    57,538
    
    
    -19
    %
    
    70,967
    
    
    82
    %
    
    39,025Ceded
      other underwriting expenses
    
    $
    22,710
    
    
    3
    %
    
    22,065
    
    
    73
    %
    
    12,767Net
      increase in underwriting margin
    
    $
    4,573
    
    
    -21
    %
    
    5,776
    
    
    60
    %
    
    3,613Other
      expenses
    
    $
    (7,152
    )
    
    -59
    %
    
    (4,492
    )
    
    -318
    %
    
    (1,075
    )Net
      (decrease) increase in income from operations before income
      taxes
    
    $
    (2,579
    )
    
    -301
    %
    
    1,284
    
    
    -49
    %
    
    2,538Net
      (decrease) increase in net income
    
    $
    (1,582
    )
    
    -301
    %
    
    789
    
    
    -49
    %
    
    1,559









28


**Insurance
Management Segment Results and Selected Other Information**




Our
insurance management segment is made up of FPIC’s New York subsidiaries.
Effective July 1, 2004, operations of Administrators For The Professions, Inc.’s
(“AFP”) wholly owned subsidiary, Physicians Reciprocal Managers, Inc. (“PRM”),
commenced as the administrator and attorney-in-fact of Pennsylvania Physicians’
Reciprocal Insurers (“PaPRI”). PaPRI is an insurance exchange domiciled in
Pennsylvania. It was formed to take the place of the unrelated fronting carrier
that previously had underwritten, and ceded as reinsurance to PRI, medical
professional liability insurance program business in Pennsylvania. PaPRI
commenced underwriting the Pennsylvania program business effective July 1, 2004.
PaPRI is not a subsidiary of PRM, AFP or FPIC. As an insurance exchange, the
organization of PaPRI is similar to that of a mutual insurance company. PaPRI is
also not a subsidiary of PRI, but received its initial capitalization in the
form of a subordinated surplus note from PRI.




Financial
and selected other data for the insurance management segment for the years ended
December 31, 2004, 2003 and 2002 is summarized in the table below. Dollar
amounts are in thousands.




**2004**
    
    **Percentage
      Change**
    
    **2003**
    
    **Percentage
      Change**
    
    **2002**Claims
      administration and management fees
    
    $
    39,100
    
    
    47
    %
    
    26,582
    
    
    9
    %
    
    24,341Net
      investment income
    
    
    126
    
    
    9
    %
    
    116
    
    
    -18
    %
    
    141Commission
      income
    
    
    6,193
    
    
    13
    %
    
    5,496
    
    
    47
    %
    
    3,732Other
      income
    
    
    197
    
    
    110
    %
    
    94
    
    
    13
    %
    
    83Intersegment
      revenues
    
    
    2,914
    
    
    -32
    %
    
    4,316
    
    
    28
    %
    
    3,381Total
      revenues
    
    
    48,530
    
    
    33
    %
    
    36,604
    
    
    16
    %
    
    31,678Claims
      administration and management expenses
    
    
    29,193
    
    
    37
    %
    
    21,241
    
    
    4
    %
    
    20,518Other
      expenses
    
    
    213
    
    
    0
    %
    
    213
    
    
    -14
    %
    
    248Total
      expenses
    
    
    29,406
    
    
    37
    %
    
    21,454
    
    
    3
    %
    
    20,766Income
      from operations before income taxes, minority interest and cumulative
      effect of accounting change
    
    
    19,124
    
    
    26
    %
    
    15,150
    
    
    39
    %
    
    10,912Less:
      Income tax expense
    
    
    8,006
    
    
    29
    %
    
    6,217
    
    
    39
    %
    
    4,463Income
      from operations before minority interest and cumulative effect of
      accounting change
    
    
    11,118
    
    
    24
    %
    
    8,933
    
    
    39
    %
    
    6,449Less:
      Minority interest
    
    
    248
    
    
    164
    %
    
    94
    
    
    -45
    %
    
    172Income
      from operations before cumulative effect of accounting
    change
    
    
    10,870
    
    
    23
    %
    
    8,839
    
    
    41
    %
    
    6,277Less:
      Cumulative effect of accounting change
    
    
    —
    
    
    0
    %
    
    —
    
    
    -100
    %
    
    24,363Net
      income (loss)
    
    $
    10,870
    
    
    23
    %
    
    8,839
    
    
    149
    %
    
    (18,086
    )**
    **
    **
    **
    **
    **
    **
    **
    **
    **
    **
    **
    **
    **
    **
    ***Selected
      Information Regarding Management of PRI and PaPRI:*Reciprocal
      premiums written under management
    
    $
    297,836
    
    
    45
    %
    
    205,557
    
    
    10
    %
    
    186,924Reciprocal
      statutory assets under management
    
    $
    973,141
    
    
    13
    %
    
    860,463
    
    
    5
    %
    
    821,396Professional
      liability policyholders under management
    
    
    12,006
    
    
    8
    %
    
    11,149
    
    
    6
    %
    
    10,547




29


INSURANCE
MANAGEMENT NET INCOME increased 23% to $10.9 million for the year ended December
31, 2004 from $8.8 million for the year ended December 31, 2003. The increase is
primarily due to higher management fees. The growth in management fees was the
result of growth in premiums written at PRI, a significant portion of which was
due to the acquisition of two new institutional clients, and higher insurance
premiums placed by Professional Medical Administrators (“PMA”) under a PRI
professional liability insurance program. The new institutional clients were
acquired in the first and third quarters of 2004. Partially offsetting the
positive effect of higher revenues on net income were higher claims
administration and management expenses.




Insurance
management net income increased 41% to $8.8 million for the year ended December
31, 2003 from income before cumulative effect of accounting change of $6.3
million for the year ended December 31, 2002. The increase in insurance
management net income for the year ended December 31, 2003 was primarily due to
higher management fees, commission income and intersegment revenues. The growth
in these revenues was the result of growth in premiums written at PRI and higher
ceded premiums at PRI and our insurance companies for which FPIC Intermediaries
receives commissions. Intersegment revenues primarily relate to commission
income from First Professionals for the placement of reinsurance and the
management of the Pennsylvania fronting program. These amounts are eliminated in
the consolidated financial statements.








CLAIMS
ADMINISTRATION AND MANAGEMENT FEES earned by the insurance management segment
are mainly comprised of management fees from PRI. In accordance with the
management agreement between AFP and PRI, AFP receives a management fee equal to
13% of PRI’s direct premiums written. As such, increases in the direct premiums
written by PRI result in a corresponding increase in management fees earned by
AFP.




Claims
administration and management fees increased 47% to $39.1 million for the year
ended December 31, 2004 from $26.6 million for the year ended December 31, 2003.
The increase in claims administration and management fees is due to a
corresponding increase in direct written premiums by PRI. Two new institutional
clients have added approximately $56 million to PRI’s 2004 annual written
premiums. The addition of these new accounts had the effect of increasing AFP’s
management fee revenue by $7.3 million for the year ended December 31, 2004.
Subsequent to entering into the agreement with PRI, certain physicians of one of
the institutional clients decided to self insure. The effect of these
cancellations is reflected in the fourth quarter. Also, PRM commenced operations
effective July 1, 2004 and had management fee revenues of $0.9 million for the
year ended December 31, 2004.




Claims
administration and management fees increased 9% to $26.6 million for the year
ended December 31, 2003 from $24.3 million for the year ended December 31, 2002.
The increase in claims administration and management fees is due to a
corresponding increase in direct written premiums by PRI.




COMMISSION
INCOME increased 13% to $6.2 million for the year ended December 31, 2004 from
$5.5 million for the year ended December 31, 2003. The increase in commission
income earned in 2004 is primarily the result of an increase in insurance
premiums placed by PMA under a PRI professional liability insurance
program.




30


Commission
income increased 47% to $5.5 million for the year ended December 31, 2003 from
$3.7 million for the year ended December 31, 2002. The increase in commission
income in 2003 is primarily due to increases in brokerage commissions earned by
FPIC Intermediaries from third party reinsurers for the placement of reinsurance
and by PMA based on growth in the insurance program it manages for PRI in
Pennsylvania. FPIC Intermediaries’ brokerage commissions are determined as a
percentage of reinsurance premiums ceded and have increased significantly as the
underlying ceded premiums have grown at both our insurance subsidiaries and PRI,
for which FPIC Intermediaries participates in the placement of reinsurance. In
addition, commission income of approximately $0.5 million was recognized in 2002
as a result of a brokerage fee earned from Hannover Re related to the placement
of our net account quota share reinsurance agreement.




CLAIMS
ADMINISTRATION AND MANAGEMENT EXPENSES increased 37% to $29.2 million for the
year ended December 31, 2004 from $21.2 million for the year ended December 31,
2003. The increase in claims administration and management expenses is due to
the increase in operating expenses at AFP and commission expenses at PMA. The
increase in operating expenses at AFP is primarily the result of the growth of
PRI’s business. The increase in commission expenses at PMA was associated with
an increase in premiums written and placed under a PRI professional liability
insurance program. Also contributing to the increase in claims administration and management
expenses for the year ended December 31, 2004 were direct costs associated with
compliance with the Sarbanes-Oxley Act of 2002 of approximately $1.0
million.




Claims
administration and management expenses increased 4% to $21.2 million for the
year ended December 31, 2003 from $20.5 million for the year ended December 31,
2002. The increase is due to the combination of an increase in operating
expenses at AFP to manage growth at PRI and an increase in operating and
commission expenses at PMA associated with an increase in premiums written and
placed on behalf of PRI.






31





**TPA
Segment Results and Selected Other Information**




Our
TPA segment represents the business of our subsidiary Employers Mutual, Inc.
Financial and selected other data for our TPA segment for the years ended
December 31, 2004, 2003 and 2002 is summarized in the table below. Dollar
amounts are in thousands.




**2004**
    
    **Percentage
      Change**
    
    **2003**
    
    **Percentage
      Change**
    
    **2002**Claims
      administration and management fees
    
    $
    14,146
    
    
    -1
    %
    
    14,313
    
    
    13
    %
    
    12,693Net
      investment income
    
    
    6
    
    
    -54
    %
    
    13
    
    
    -70
    %
    
    43Commission
      income
    
    
    2,232
    
    
    3
    %
    
    2,162
    
    
    -13
    %
    
    2,475Other
      income
    
    
    —
    
    
    -100
    %
    
    1
    
    
    -88
    %
    
    8Intersegment
      revenues
    
    
    —
    
    
    -100
    %
    
    25
    
    
    -70
    %
    
    83Total
      revenues
    
    
    16,384
    
    
    -1
    %
    
    16,514
    
    
    8
    %
    
    15,302Claims
      administration and management expenses
    
    
    14,336
    
    
    -1
    %
    
    14,539
    
    
    0
    %
    
    14,496Intersegment
      expenses
    
    
    336
    
    
    1
    %
    
    334
    
    
    17
    %
    
    285Total
      expenses
    
    
    14,672
    
    
    -1
    %
    
    14,873
    
    
    1
    %
    
    14,781Income
      from operations before income taxes and cumulative effect of accounting
      change
    
    
    1,712
    
    
    4
    %
    
    1,641
    
    
    215
    %
    
    521Less:
      Income tax expense
    
    
    673
    
    
    -5
    %
    
    711
    
    
    240
    %
    
    209Income
      from operations before cumulative effect of accounting
    change
    
    
    1,039
    
    
    12
    %
    
    930
    
    
    198
    %
    
    312Less:
      Cumulative effect of accounting change
    
    
    —
    
    
    
    
    
    —
    
    
    
    
    
    5,215Net
      income (loss)
    
    $
    1,039
    
    
    12
    %
    
    930
    
    
    119
    %
    
    (4,903
    )*Selected
      TPA Segment Customer Data:*Covered
      lives under employee benefit programs
    
    
    58,701
    
    
    -45
    %
    
    106,927
    
    
    -2
    %
    
    109,171Covered
      lives under workers compensation programs
    
    
    25,075
    
    
    -35
    %
    
    38,400
    
    
    1
    %
    
    38,100


TPA
NET INCOME increased 12% to $1.0 million for the year ended December 31, 2004
from $0.9 million for the year ended December 31, 2003. The increase is
primarily due to an increase in commission income and a decrease in claims
administration and management expenses. The increase in commission income is due
to an increase in brokerage income from the placement of excess insurance
arrangements on behalf of self-insured property and casualty clients. The TPA
segment has experienced a decrease in covered lives under the employee benefits
and worker compensation programs it administers, but the segment has
substantially offset the decrease with higher revenues per program and new
business.




TPA
net income increased 198% to $0.9 million for the year ended December 31, 2003
when compared with income before cumulative effect of accounting change of $0.3
million for the year ended December 31, 2002. The increase is primarily due to
higher claims administration fees and improved operating margins. Growth in the
number of covered members serviced by the ambulance service organization to
which we provide administrative services along with cost savings and
productivity initiatives helped improve our margins in 2003.












32


**Management’s
Discussion and Analysis of Financial Condition -**


**December
31, 2004 Compared to December 31, 2003**





INVESTMENTS
AND CASH AND CASH EQUIVALENTS increased $61.3 million to $684.0 million as of
December 31, 2004 from $622.7 million as of December 31, 2003. The net increase
is primarily the result of net cash flows from operating activities associated
with recent growth at our insurance and insurance management
segments.




PREMIUMS
RECEIVABLE decreased $7.0 million to $94.3 million as of December 31, 2004 from
$101.3 million as of December 31, 2003. The decrease in premiums receivable is
primarily the result of a decrease in premiums written under fronting programs.
We terminated the last of our fronting programs as of June 30, 2004.
The reduction in policyholders and resulting decrease in premiums written at
Intermed also contributed to the decrease in premiums receivable.




Our
reinsurance assets, REINSURANCE RECOVERABLE ON PAID LOSSES and DUE FROM
REINSURERS ON UNPAID LOSSES, increased in 2004 primarily as the result of the
continuing effects of growth in our insurance premiums. Approximately $34.9
million of the increase in due from reinsurers on unpaid losses is attributable
to the net account quota share reinsurance agreement with Hannover Re under
which loss and LAE reserves are ceded. CEDED UNEARNED PREMIUMS decreased in
2004. Approximately $25.3 million of the reduction is due to a decrease in ceded
unearned premiums under the Hannover Re net account quota share reinsurance
agreement. As discussed under Results of Operations, we terminated future
cessions under this agreement effective July 1, 2004.




In
keeping with our growth management strategy, we terminated all of our fronting
programs as of June 30, 2004. Therefore, we expect the insurance assets and
liabilities associated with former fronting programs to decline in the future as
the underlying business runs off.




OTHER
ASSETS increased $9.7 million as of December 31, 2004. The increase is primarily
the result of growth in management fees receivable corresponding with the growth
in business at PRI and deposits paid in the course of the implementation of a
new policy administration system. Other assets also increased as a result of
sale transactions involving investment securities, which were entered into prior
to December 31, 2004, but for which settlements occurred in January 2005.




The
LIABILITY FOR LOSSES AND LAE increased $60.6 million to $635.1 million as of
December 31, 2004 from $574.5 million as of December 31, 2003. The increase is
mostly attributable to recent growth in our core MPL insurance business.




A
loss and LAE reserve study as of December 31, 2004, was performed by an
independent actuarial firm.  The independent actuarial firm
calculated aggregate point estimates and estimated ranges of
reasonable values around the point estimates for FPIC's aggregate loss and LAE
reserves, gross and net of reinsurance. As discussed more fully below,
management has utilized the calculations made by the independent actuarial
firm along with other relevant considerations in forming its best
estimate of FPIC's reserves. The estimated range of values as determined by the
independent actuarial firm around our carried reserves, net of reinsurance, was
$259.9 million to $310.4 million. Our carried reserves, net of reinsurance, of
$301.7 million ($635.1 million gross, less related reinsurance recoverables of
$333.4 million), as of December 31, 2004, were approximately 6% higher than our
independent actuarial firm’s respective point estimate and within the upper end
of the range.




33


The
following table sets forth (in thousands) the development of our liability for
losses and LAE, net and gross of reinsurance, for the 10-year period preceding
the year ended December 31, 2004 (1) :




Year
      Ended December 31,
    
    1994
    
    1995
    
    1996
    
    1997
    
    1998
    
    1999
    
    2000
    
    2001
    
    2002
    
    2003
    
    2004Balance
      Sheet Liability
    
    $
    143,415
    
    
    155,318
    
    
    161,124
    
    
    173,971
    
    
    200,763
    
    
    214,692
    
    
    223,597
    
    
    238,073
    
    
    272,007
    
    
    298,763
    
    
    301,699*Re-estimated
      Liability As of:*One
      Year Later
    
    
    129,472
    
    
    140,322
    
    
    146,009
    
    
    159,639
    
    
    182,208
    
    
    221,212
    
    
    232,208
    
    
    240,489
    
    
    272,489
    
    
    299,236Two
      Years Later
    
    
    114,193
    
    
    116,151
    
    
    127,529
    
    
    142,369
    
    
    182,498
    
    
    222,281
    
    
    231,617
    
    
    250,079
    
    
    288,193Three
      Years Later
    
    
    90,666
    
    
    106,937
    
    
    112,770
    
    
    141,850
    
    
    183,389
    
    
    221,270
    
    
    238,823
    
    
    273,247Four
      Years Later
    
    
    86,154
    
    
    104,684
    
    
    106,557
    
    
    140,707
    
    
    183,491
    
    
    231,870
    
    
    255,608Five
      Years Later
    
    
    87,807
    
    
    103,402
    
    
    105,949
    
    
    141,437
    
    
    192,612
    
    
    231,814Six
      Years Later
    
    
    85,881
    
    
    103,454
    
    
    106,825
    
    
    144,379
    
    
    189,440Seven
      Years Later
    
    
    85,854
    
    
    104,326
    
    
    109,683
    
    
    143,288Eight
      Years Later
    
    
    86,710
    
    
    105,691
    
    
    110,122Nine
      Years Later
    
    
    85,378
    
    
    104,350Ten
      Years Later
    
    
    85,389*Cumulative
      Paid As of:*One
      Year Later
    
    
    28,701
    
    
    35,562
    
    
    33,103
    
    
    49,697
    
    
    76,291
    
    
    91,269
    
    
    95,890
    
    
    96,496
    
    
    89,044
    
    
    105,719Two
      Years Later
    
    
    52,832
    
    
    60,464
    
    
    62,612
    
    
    90,165
    
    
    121,199
    
    
    152,862
    
    
    163,850
    
    
    162,880
    
    
    177,369Three
      Years Later
    
    
    63,738
    
    
    78,291
    
    
    88,649
    
    
    115,336
    
    
    153,200
    
    
    185,126
    
    
    200,792
    
    
    214,771Four
      Years Later
    
    
    73,296
    
    
    94,882
    
    
    98,027
    
    
    127,774
    
    
    168,522
    
    
    206,430
    
    
    222,968Five
      Years Later
    
    
    82,840
    
    
    100,294
    
    
    102,355
    
    
    134,272
    
    
    179,504
    
    
    216,837Six
      Years Later
    
    
    85,047
    
    
    102,122
    
    
    105,689
    
    
    137,564
    
    
    184,232Seven
      Years Later
    
    
    85,221
    
    
    103,310
    
    
    106,251
    
    
    139,644Eight
      Years Later
    
    
    86,184
    
    
    103,053
    
    
    107,962Nine
      Years Later
    
    
    85,376
    
    
    103,941Ten
      Years Later
    
    
    85,357Redundancy
      / (Deficiency)
    
    $
    58,026
    
    
    50,968
    
    
    51,002
    
    
    30,683
    
    
    11,323
    
    
    (17,122
    )
    
    (32,011
    )
    
    (35,174
    )
    
    (16,186
    )
    
    (473
    )%
      Redundancy / (Deficiency)
    
    
    40.5
    %
    
    32.8
    %
    
    31.7
    %
    
    17.6
    %
    
    5.6
    %
    
    -8.0
    %
    
    -14.3
    %
    
    -14.8
    %
    
    -6.0
    %
    
    -0.2
    %Gross
      liability-end of year
    
    $
    152,268
    
    
    164,506
    
    
    172,738
    
    
    188,086
    
    
    242,377
    
    
    273,092
    
    
    281,295
    
    
    318,483
    
    
    440,166
    
    
    574,529
    
    
    635,118Reinsurance
      recoverables-end of year
    
    
    8,853
    
    
    9,188
    
    
    11,614
    
    
    14,115
    
    
    41,614
    
    
    58,400
    
    
    57,698
    
    
    80,410
    
    
    168,159
    
    
    275,766
    
    
    333,419Net
      liability-end of year
    
    $
    143,415
    
    
    155,318
    
    
    161,124
    
    
    173,971
    
    
    200,763
    
    
    214,692
    
    
    223,597
    
    
    238,073
    
    
    272,007
    
    
    298,763
    
    
    301,699Gross
      re-estimated liability-latest
    
    $
    95,917
    
    
    115,039
    
    
    119,168
    
    
    160,091
    
    
    218,426
    
    
    286,128
    
    
    336,578
    
    
    388,898
    
    
    503,720
    
    
    577,682Reinsurance
      recoverables-latest
    
    
    10,528
    
    
    10,689
    
    
    9,046
    
    
    16,803
    
    
    28,986
    
    
    54,314
    
    
    80,970
    
    
    115,651
    
    
    215,527
    
    
    278,445Net
      re-estimated liability-latest
    
    $
    85,389
    
    
    104,350
    
    
    110,122
    
    
    143,288
    
    
    189,440
    
    
    231,814
    
    
    255,608
    
    
    273,247
    
    
    288,193
    
    
    299,237
 (1) Data
presented in this table represents consolidated information of all our insurance
subsidiaries commencing from their respective dates of acquisition. Data
presented from 1994 to 1997 reflects only First Professionals’ liability for
losses and LAE. The 1998 year reflects losses and LAE data for First
Professionals and APAC. The data presented from 1999 to 2004 reflects all of
FPIC’s current insurance subsidiaries.


The
top portion of the preceding table ending with the subtotal “Redundancy /
(Deficiency)” demonstrates how our net loss and LAE reserves as of the end of
each of the last ten calendar years compares with net paid losses and
re-estimates of those net reserves after the end of each of these years. A net
redundancy means that the reserves carried as of the end of that particular
calendar year (including reserves on claims still open, if any) have developed
downward. When reserves develop downward, this means that we now believe we will
have to pay less for these claims than we had previously set aside in reserves.
A net deficiency means that the reserves have been increased since the end of
the calendar year. This means that we now believe we will have to pay more for
these claims than we previously set aside in reserves. For example, the table
indicates that the cumulative net reserves carried at the end of calendar years
1994 through 1998 have been higher than subsequent payments and re-estimates. In
contrast, the cumulative net reserves at the end of calendar years 1999 through
2003 have been increased from amounts initially carried as of the end of each of
these years.




34


In
2003, we increased our net reserves for the years 1999 through 2001 primarily in
recognition of higher severity than initially assumed, particularly in Missouri.
As of December 31, 2004, we increased our net allocated loss adjustment expense
(“ALAE”) reserves for calendar years 1999 through 2003, which resulted
in additional upward development in reserves for years 1999 through 2001.
The higher ALAE reserves are the result of our harder claims philosophy, under
which we began taking more cases to trial in 2001. We also experienced some
upward development in loss experience on corporate policy endorsements and on
business in non-core states and increased our 2000 and 2001 reserves.




Despite
higher ALAE and other upward development for years 1999, 2000 and 2001, our loss
experience and outlook overall has improved significantly in the most recent
years. Improvements in our loss experience resulting from claims and
underwriting initiatives we’ve implemented since 2001 have essentially met
or exceeded our estimates for years since 2002.  Accordingly, the upward
development in 1999 through 2001 net reserves has been substantially offset by
downward development in reserves for years 2002 and 2003 resulting in
relatively immaterial net development for all years prior to 2004
combined.




The
bottom portion of the preceding table presents the original cumulative gross
reserves, reinsurance recoverables and net reserves as of the end of each
calendar year together with summaries of the corresponding latest cumulative
re-estimated amounts as of December 31, 2004. The effects on our results of
operations of a cumulative redundancy or deficiency in our gross reserves as
depicted in the bottom portion of the table in excess of the development in our
reserves, net of reinsurance, for those years are entirely offset by
corresponding decreases or increases in reinsurance recoverables. The upward
development in our gross loss and LAE reserves recognized during 2004 for years
1999 through 2001 is largely consistent with the development in our net reserves
as described above. In addition, during 2003, we increased our gross reserves
and related reinsurance recoverable amounts for APAC for the years 2000, 2001
and 2002 to conform its gross reserves as a result of its integration under the
management of First Professionals. As with our net loss and LAE reserves, the
upward development pertaining to years 1999 through 2001 has been largely offset
by better than expected loss experience and downward development in our reserves
for years 2002 and 2003 since then.




35


The
following table rolls forward FPIC’s consolidated liability for losses and LAE
reserves, net of reinsurance, (in thousands) showing the changes for the period
beginning January 1, 2002 and ending December 31, 2004.




**2004**
    
    **2003**
    
    **2002**Net
      loss and LAE reserves, January 1
    
    $
    298,763
    
    
    272,007
    
    
    238,073*Incurred
      Related To:*Current
      year
    
    
    124,699
    
    
    118,492
    
    
    137,155Prior
      years
    
    
    473
    
    
    482
    
    
    2,416Total
      incurred
    
    
    125,172
    
    
    118,974
    
    
    139,571*Paid
      Related To:*Current
      year
    
    
    16,517
    
    
    13,455
    
    
    9,130Prior
      years
    
    
    105,719
    
    
    101,989
    
    
    96,507Total
      paid
    
    
    122,236
    
    
    115,444
    
    
    105,637Gerling
      commutation
    
    
    —
    
    
    23,226
    
    
    —Net
      loss and LAE reserves, December 31
    
    $
    301,699
    
    
    298,763
    
    
    272,007Gross
      loss and LAE reserves, December 31
    
    $
    635,118
    
    
    574,529
    
    
    440,166Reinsurance
      recoverables, December 31
    
    
    333,419
    
    
    275,766
    
    
    168,159Net
      loss and LAE reserves, December 31
    
    $
    301,699
    
    
    298,763
    
    
    272,007


*Incurred
Related to Current Year*


Our
best estimate of reserves for the 2004 year has been determined using historical
trends with adjustments added to provide for uncertainties inherent in the
claims environment in Florida, including those resulting from significant tort
reform initiatives passed by the legislature in 2003 and three constitutional
amendments passed by popular initiative in 2004. Because of the uncertainty
created by these changes, we believe that booking a more conservative provision
in the current year is prudent.




*Incurred
Related to Prior Years*


FPIC’s
aggregate loss and LAE reserve estimates reported for years 2003 and prior have
not increased significantly, as a group, in 2004. FPIC adopted a new harder
claims payment philosophy beginning in 2001. The new claims philosophy, which is
now approaching its fourth full year, has had the effect so far of reducing
FPIC’s overall loss costs relative to its former claims philosophy. It has also
had the effect of changing FPIC’s loss development patterns thereby introducing
an additional element of uncertainty into the provisions for the individual
prior years. We believe that it is best to treat this element of uncertainty
conservatively and thus, have not reduced our prior year reserves, in aggregate,
but have increased the provisions in some years and reduced them in
others. As shown in the 10 year table and further commented upon above, as
of December 31, 2004, we have increased our aggregate loss and LAE reserves, net
of reinsurance, for the years ended December 31, 2001 and prior as originally
reported by $35.2 million and have reduced our reserves for claims related
to the years ended December 31, 2002 and 2003 by $19.0 million and $15.7
million, respectively.




Given
the proximity and status of the years 2000 through 2002, in particular, relative
to the timing of the initiation of our harder claims payment philosophy and the
implementation of initiatives to control increasing ALAE expenditures attendant
to executing that philosophy, it is still reasonably possible that the remaining
reserves for these years, in particular, may experience upward or downward
development in the future.






36




As
a result of the commutation of our ceded reinsurance to Gerling Global
Reinsurance Corporation of America (“Gerling”) during 2003, we now retain the
corresponding insured risks and losses and LAE we formerly ceded. We received
$23.2 million in exchange for the release of Gerling from its reinsurance
obligations to us, which we added to our net reserves. No gain or loss was
recognized on the transaction.




For
additional information on our accounting policy for loss and LAE reserves, see
Note 2, Significant Accounting Policies, to the consolidated financial
statements.




REINSURANCE
PAYABLE decreased $3.1 million since year end 2003 primarily as a result of a
reduction in premiums due under FPIC’s excess of loss reinsurance program and
the exit from our fronting programs. These decreases were partially offset by
business ceded under the Hannover Re net account quota share reinsurance
agreement. Reinsurance premiums payable under the Hannover Re net account quota
share reinsurance agreement increased approximately $14.5 million for the year
ended December 31, 2004.




**Contractual
Obligations, Commitments and Off-Balance Sheet
Arrangements**





FPIC
has various contractual obligations that are recorded as liabilities in our
consolidated financial statements. FPIC also has items that represent
contractual obligations, commitments and contingent liabilities that are not
recorded on its balance sheet or that are considered to possess off-balance
sheet risks beyond their respective amounts otherwise reflected in the balance
sheet. These include: (1) derivative financial instruments, which are used to
hedge interest rate risk, (2) guarantees by us of trust preferred securities
issued by separately created, unconsolidated trusts, (3) a contingent liability
under an amendment made to AFP’s management agreement with PRI, effective
January 1, 2002, and (4) two irrevocable letters of credit issued in favor
of the lessor under operating leases.





FPIC
uses interest rate collars as a hedge to maintain the total borrowing costs of
its long term debt (interest expense on the debt instruments, plus or minus cash
flows under the interest rate collar instruments) to within specified ranges.
FPIC’s all in borrowing costs on long term debt combined with the corresponding
cash flows under the related interest rate collars can fluctuate between $2.3
million to $3.8 million annually, until such time as the interest rate collars
expire. The interest rate collars are set to expire on dates corresponding with
the first dates under the respective long-term debt agreements at which they can
be retired by us at our option, which is five years from the date of issue in
each case. See Note 10, Derivative Financial Instruments, to the consolidated
financial statements for additional disclosures about FPIC’s derivative
financial instruments.





FPIC
guarantees the floating rate interest and principal obligations under the trust
preferred securities issued by its separately created, unconsolidated trusts,
which have been established solely for the purpose of issuing the securities.
The total principal balance of these trust preferred securities was $35.0
million as of December 31, 2004. FPIC also carries corresponding junior
subordinated debentures on its balance sheet, which debentures were issued to
these trusts in exchange for the proceeds raised by the trusts upon their
respective issuances of the trust preferred securities. The junior subordinated
debentures of FPIC are comprised of the same maturities, floating interest rates
and other applicable terms and are the instruments by which FPIC funds the
related interest and principal obligations of the unconsolidated trusts. See
Note 9, Long Term Debt, to the consolidated financial statements for additional
disclosures about FPIC’s trusts and junior subordinated debentures.






37




AFP
has an exclusive 10 year management agreement with PRI with the current term
ending December 31, 2008. During 2002, the management agreement between AFP and
PRI was amended to remove the sharing by AFP of 10% of PRI’s statutory net
income or loss, effective January 1, 2002. Compensation under the agreement as
originally in effect was equal to 13% of PRI’s direct premiums written, with an
adjustment for expected return premiums, plus or minus 10% of PRI’s statutory
net income or loss. With regard to profit sharing amounts already earned and
collected, AFP has agreed pursuant
to the amendment, to consider the years 1999, 2000 and 2001 open for
re-determination and possible adjustment for a period of five years each
(expiring 2004, 2005 and 2006, respectively.) Such adjustments would be based
primarily on development of and related adjustments, if any, to loss and LAE
reserves for those years. There have been no adjustments to date. AFP had
previously earned and collected profit sharing amounts under the original
agreement totaling $3.6 million for the three years ended December 31, 2001. In
accordance with the amended agreement, AFP also agreed to pay 6% annual interest
on the 10% profit share amounts previously earned and collected under the
original agreement for 1999, 2000 and 2001, while those years remain open for
possible future re-determination and adjustment, if any. In addition, AFP is
reimbursed for 50% of the costs associated with the risk management department
it maintains for PRI insureds. The management agreement and amendment were
reviewed and approved by the New York State Insurance Department. See Note 18,
Related Party Transactions, to the consolidated financial statements for
additional information about the management agreement with PRI.




FPIC
has issued two irrevocable letters of credit in the amount of $500,000 each as
collateral under operating leases for the buildings occupied by AFP in Manhasset
and Lake Success, New York. FPIC also issues irrevocable letters of credit or
places assets in trust under its assumed reinsurance contracts with PRI. These
assets in trust or letters of credit serve as collateral to corresponding
insurance liabilities recorded on our balance sheet and are not considered to be
off-balance sheet obligations. Finally, FPIC is contractually committed to make
certain minimum lease payments for the use of property under operating lease
agreements.




The
following table summarizes our significant contractual obligations and
commitments as of December 31, 2004 and the future periods in which such
obligations are expected to be settled in cash. In addition, the table reflects
the timing of principal payments on outstanding borrowings. Additional
information regarding these obligations is provided in Note 9, Long Term Debt,
Note 13, Employee Benefit Plans, and Note 14, Commitments and Contingencies, to
the consolidated financial statements.


**Payment
      Due by Period****Total**
    
    ****
      **Less
      Than One Year**
    
    **One
      to Three Years**
    
    **Three
      to Five Years**
    
    **More
      Than Five Years***Contractual
      Obligations:*Liability
      for losses and LAE(1)
    
    $
    635,118
    
    
    222,780
    
    
    286,781
    
    
    91,129
    
    
    34,428Long
      term debt obligations
    
    
    46,083
    
    
    —
    
    
    —
    
    
    —
    
    
    46,083Capital
      lease obligations
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    —Operating
      lease obligations
    
    
    15,757
    
    
    3,271
    
    
    5,533
    
    
    4,050
    
    
    2,903Pension
      obligations(2)
    
    
    6,168
    
    
    3,277
    
    
    —
    
    
    —
    
    
    2,891Purchase
      obligations
    
    
    350
    
    
    350
    
    
    —
    
    
    —
    
    
    —Other
      long term liabilities
    
    
    2,271
    
    
    578
    
    
    855
    
    
    838
    
    
    —Total
    
    $
    705,747
    
    
    230,256
    
    
    293,169
    
    
    96,017
    
    
    86,305
  ****
 (1)The liability for losses and LAE represents our best estimate of the
unpaid cost of settling claims, including claims that have been incurred but not
yet reported. The
estimated costs of settling claims are generally based upon past experience
adjusted for current trends, and any other factors that would modify past
experience. While management believes the liabilities for losses and LAE are
adequate to cover the ultimate liability, the actual ultimate loss costs may
vary from the amounts presently estimated and such differences could be
material. The liability for losses and LAE are gross of anticipated amounts
recoverable from reinsurers. Reinsurance balances recoverable are reported
separately in the consolidated statements of financial position. As of December
31, 2004, our reinsurance balances recoverable related to the liability for
losses and LAE were $333.4 million in aggregate.
   (2) Pension
obligations are comprised of approved plan contributions and FPIC's obligation
should a plan terminate as of December 31, 2004.


38




**Stock
Repurchase Plans**




Under
our stock repurchase program, we may repurchase shares at such times, and in
such amounts, as management deems appropriate. We did not repurchase any shares
during 2004 and a total of 365,500 shares remain available to be repurchased
under the program. Under certain circumstances, limitations may be placed on
FPIC’s ability to purchase its capital stock by the terms of agreements relating
to its junior subordinated debentures. For information regarding these
limitations, refer to Note 9, Long Term Debt, to the consolidated financial
statements. For additional information, see also the discussion of Liquidity and
Capital Resources, below.




**Liquidity
and Capital Resources**




The
payment of losses and LAE, insurance operating expenses (including reinsurance
costs), claims administration and management expenses, non-insurance operating
expenses, interest expense and income taxes in the ordinary course of business
are the principal needs for our liquid funds. The principal sources of cash from
our operations to meet our on-going liquidity requirements are the premiums
collected for the insurance sold by our insurance subsidiaries, income on the
investment of those funds, and claims administration and management fees and
reinsurance brokerage and other commission income earned by our non-insurance
subsidiaries.


******


***Net
Cash Provided By Operating Activities***


As
reported in the consolidated statement of cash flows, net cash provided by
operating activities was $64.9 million for the year ended December 31, 2004
compared with net cash provided by operating activities of $89.9 million for the
year ended December 31, 2003. The majority of the decrease in cash provided by
operating activities for the year ended December 31, 2004 can be
attributed to the commutation of our ceded reinsurance to Gerling in 2003,
pursuant to which we received $23.2 million in exchange for the release of
Gerling from its reinsurance obligations to us.




As
of December 31, 2004, we had cash and invested assets of $684.0 million and held
fixed maturity debt securities with a fair value of approximately $12.0 million
with scheduled maturities during the next twelve months. We believe that our
cash and invested assets as of December 31, 2004, combined with expected cash
flows from operating activities and the scheduled maturities of investments,
will be sufficient to meet our cash needs for operating purposes for at least
the next twelve months.




A
number of factors could cause unexpected changes in liquidity and capital
resources available, including but not limited to, the following:




·
    Unexpected
      changes in premium revenue due to higher or lower than expected new
      business or retention of insurance policies in force;


·
    Unexpected
      changes in the amounts needed to defend and settle claims;


·
    Unexpected
      changes in operating costs, including new or increased taxes;


·
    Failure
      of one or more of our reinsurers leading to uncollectible reinsurance
      recoverables;


·
    Possible
      impairments of our investments; and


·
    Unexpected
      changes in liquidity provided by our insurance management and TPA
      segments.









39




Furthermore,
liquidity and capital risks can come about as the result of the broader business
and financial risks facing us, including the uncertainties and factors disclosed
in the Safe Harbor Disclosure. Many, if not most, of these types of
uncertainties could have a corresponding and materially negative effect on our
liquidity and capital resources, as well as our financial condition and results
of operations. In order to compensate for such risks, we:


·
    Maintain
      what management considers to be adequate capital and reinsurance;


·
    Monitor
      our reserves and periodically perform actuarial reviews of loss and LAE
      reserves; and


·
    Attempt
      to maintain adequate asset diversification and liquidity (by managing our
      cash flow from operations coupled with the maturities from our fixed
      income portfolio investments).





***Long
Term Debt***


During
2003, we completed the placement of $10.0 million in senior notes and created
three trusts that issued 30-year trust preferred securities for which the
proceeds from such issuances together with cash previously contributed to the
trusts were used to purchase junior subordinated debentures from FPIC totaling
$36.1 million. We used the proceeds along with other internally generated funds
to retire our bank term loan and revolving credit facility, make a capital
contribution to our insurance operations and unwind hedge agreements related to
the revolving credit facility and term loan.




We
established three wholly owned, but not consolidated, trusts for the sole
purpose of issuing the trust preferred securities: FPIC Capital Trust I, FPIC
Capital Statutory Trust II and FPIC Capital Statutory Trust III. The proceeds
received by the three trusts were used to purchase junior subordinated
debentures from FPIC of the same amounts, maturities and other applicable terms
and features. The debentures issued by FPIC, which are reported as long term
debt in the consolidated statements of financial position, to the three trusts
are subordinated to all senior indebtedness, including the senior notes, and are
equal in standing with one another.




The
securities are uncollateralized and bear floating interest rates equal to the
three-month LIBOR plus spreads ranging from 3.85% to 4.20% (the interest rates
ranged from 5.98% to 6.60% as of December 31, 2004). The floating interest rates
are adjustable quarterly with changes in the three-month LIBOR, and in the case
of two offerings, the maximum rate that may be charged under the securities
within the first five years is 12.50%. We have also purchased hedging
instruments, as described below, designed to maintain the ultimate floating rate
interest cost on all of these securities within a stated range for five years
from closing. We have the option to call the trust preferred securities at par
or its equivalent beginning five years from closing. The trust preferred
securities also contain features that allow us the option, under certain
conditions, to defer interest payments for up to 20 quarters and to redeem the
securities before the first optional call date in five years. In the case of the
potential earlier call date, the redemption or call price payable by us may be
different than par. The securities have stated maturities of thirty years and
are due in May and October 2033.




Indenture
agreements relating to FPIC’s junior subordinated debentures and trust preferred
securities contain limitations, under certain circumstances, as to (i) the
declaration or payment of dividends, or distributions thereon, or the
redemption, purchase, acquisition or liquidation with respect to any capital
stock of FPIC or its affiliates; (ii) the payment, in certain circumstances, of
principal, premium or interest on, or the repayment, repurchase or redemption
of, debt securities of FPIC or its affiliates that rank in equal standing with
or are junior in interest to the debentures; or (iii) the payment, in certain
circumstances, under any guarantees of FPIC or its affiliates that rank equal in
standing with, or junior in interest to, capital securities guarantees relating
to the issuance of the debentures. Circumstances that would result in such
limitations include a continuing event of default, as defined by the indenture
agreements, a default with respect to payment of any obligations under capital
securities guarantees, or a continuing interest deferral election by
FPIC.







40


***Holding
Company Sources of Liquidity***


The
sources of liquidity to FPIC, the holding company, for the payment of its
operating expenses, taxes and debt-related expenses are management fees from
First Professionals and APAC and overhead allocations to the non-insurance
subsidiaries for which FPIC receives reimbursement, and dividends.




FPIC
has management agreements with First Professionals and APAC, under which it
provides substantially all management and administrative services to these
subsidiaries. Under the terms of the agreements, FPIC receives management fees
equal to 115% of the costs incurred to manage the two subsidiaries. The
additional 15% provision in the First Professionals and APAC management fees is
intended to cover overhead, corporate expenses and profit and is eliminated in
the consolidated financial statements. In the case of the agreement with APAC,
the total annual management fees are also limited to an amount not to
exceed those that would have been paid under the terms of its former management
agreement.


**


Shareholder
dividends available from our insurance subsidiaries are subject to certain
limitations imposed by Florida and Missouri laws. As of December 31, 2004, the
insurance subsidiaries are permitted, within insurance regulatory guidelines, to
pay FPIC dividends of approximately $16.0 million during 2005 without prior
regulatory approval.




**Accounting
Pronouncements**




In
December 2004, the Financial Accounting Standards Board issued FAS 123(R),
“Share−Based Payment,” which establishes standards for transactions in which an
entity exchanges its equity instruments for goods or services. FAS 123(R)
requires stock options and other share−based payments made to employees to be
accounted for as compensation expense and recorded at fair value. Consistent
with the provisions of the new standard, we intend to adopt FAS 123(R) in the
third quarter of 2005.  Information about the fair value of stock
options under the Black−Scholes model and its pro forma impact on our net income
and earnings per share for the years ended December 31, 2004, 2003 and 2002 can
be found in Note 2, Significant Accounting Policies, to the consolidated
financial statements. However, a number of technical implementation issues are
yet to be resolved, including the selection and use of an appropriate valuation
model, and the ultimate impact of adopting FAS 123(R) is not yet
known.





During
2004, the Emerging Issues Task Force (“EITF”) of the Financial Accounting
Standards Board reached a consensus with respect to guidance to be used in
determining whether an investment within the scope of EITF Issue No. 03-1, “The
Meaning of Other-Than-Temporary Impairment and Its Application to Certain
Investments,” is other-than-temporarily impaired. The guidance was to be applied
in other-than-temporary impairment evaluations made in reporting periods
beginning after June 15, 2004, however, in October 2004 the implementation date
was deferred. Due to the uncertainty as to how all of the relevant outstanding
issues will be resolved, FPIC is unable to determine the impact of adopting
paragraphs 10-20 of EITF 03-1 until final implementation guidance is issued.




***Item 7A.***  ***Quantitative
and Qualitative Disclosures about Market Risk***




Market
risk is the risk of loss arising from adverse changes in market and economic
conditions, such as changes in interest rates, spreads among various asset
classes, foreign currency exchange rates, and other relevant market rate or
price changes. Market risk is directly influenced by the volatility and
liquidity in the markets in which the related underlying assets are traded. The
following is a discussion of our primary market risk exposures and how we
managed those exposures as of December 31, 2004. Our market risk sensitive
instruments are entered into for purposes other than trading.




41




The
fair value of all our investment securities as of December 31, 2004 was
approximately $555.7 million. Our investment portfolio was invested primarily in
fixed maturity securities, which comprised $548.5 million, or 99%, of the fair
value of all our investment securities. The fixed maturity portfolio currently
reflects an average Moody’s credit quality of Aa2. We invest in securities with
investment grade credit ratings, with the intent to minimize credit risks. The
allocation of the fixed maturity investment portfolio by Moody's credit quality
is approximately 56% in Aaa, 17% in Aa, 16% in A and 11% in Baa. We
purchase collateralized mortgage obligations in the context of our overall
investment and asset class allocation strategy and, specifically, to help
improve our yields and current income. Approximately 46% of our fixed income
portfolio is allocated to the municipal sector in the form of tax-exempt
securities. The balance is diversified through investments in treasury, agency,
and corporate and mortgage-backed securities.




Generally,
we do not invest in derivatives and do not currently use hedging strategies in
our investment portfolio. However, we do have investments in hedging instruments
designed to maintain the ultimate floating rate interest cost on our long term
debt within a stated range.




The
four market risks that can most directly affect the investment portfolio are
changes in U.S. interest rates, credit risks, prepayment risks, and legislative
changes, including changes in tax laws that might affect the taxation of our
investment securities.




From
time to time, discussion arises in the United States Congress relative to
changing or modifying the tax-exempt status of municipal securities. At present
there are no hedging or other strategies being used to minimize this risk. We
have increased our concentration in tax-exempt municipal securities during 2004
relative to tax-exempt holdings in 2003, as part of our overall investment
strategy.




We
manage risks associated with the changes in interest rates by attempting to
manage the duration of our investments in relation to the duration of our
anticipated liabilities (principally claim payments and related defense costs)
in such a way so as to minimize the likelihood of having to liquidate
investments at a loss before their maturity. Effective duration is a standard
measure of interest rate sensitivity that takes into account, among other
things, the effect that changing interest rates will have on prepayments and the
re-investment of these funds. The effective duration of our consolidated fixed
income investment portfolio as of December 31, 2004 was 4.8 years.




The
following table summarizes the effects on the estimated fair value of our fixed
income portfolio assuming a range of increases and decreases in market interest
rates. For purposes of this interest rate analysis, each market interest rate
change is assumed to be uniform across the portfolio. As shown in this table, if
prevailing market interest rates on investments in debt securities comparable to
those we held as of December 31, 2004 were to uniformly increase 100 or 200
basis points, the fair value of our fixed maturity securities would have
decreased approximately $27 million or $56 million, respectively. Dollar amounts
are shown in thousands.




**Hypothetical**
    
    **Hypothetical**
    
    
    
    **Hypothetical**
    
    **Hypothetical****Decrease**
    
    **Decrease**
    
    **Current**
    
    **Increase**
    
    **Increase****–
      (200 bps)**
    
    **–
      (100 bps)**
    
    **Market**
    
    **+
      100 bps**
    
    **+
      200 bps**Fair
      Value
    
    $
    604,758
    
    
    575,659
    
    
    548,543
    
    
    522,375
    
    
    497,174Fair
      Value/Reported Value
    
    
    110
    %
    
    105
    %
    
    100
    %
    
    95
    %
    
    91
    %









42


Computations
of prospective effects of hypothetical interest rate changes are based on
numerous assumptions, including the maintenance of the existing level and
composition of fixed income security assets, and should not be relied on as
indicative of future results.




The
following table presents the projected cash flows for our assets and liabilities
associated with financial instruments and operating leases. It does not reflect
operating cash flows, including investment income and interest expense earned or
accrued as expense under these instruments. Thus, the amounts reported as cash
flows in the table below for fixed maturities represent par values at maturity
date, and exclude investment income and expenses and other cash flows. The fair
values of fixed maturities are based upon quoted market prices or dealer quotes
for comparable securities. The fair value of the interest rate collars is
estimated using quotes from the financial institution that acted as the broker
in obtaining them and represents the cash requirement if the existing agreement
had been settled at year-end. The projected cash flows of long term debt and
operating leases are estimated to approximate their fair values as of December
31, 2004. Interest expense on debt is excluded from this table as is interest
income on investments. However, weighted average interest rates earned on our
fixed income securities and interest expense on our long term debt are presented
in the last section of the table. Weighted average variable rates are based on
implied forward rates.




**Projected
      Cash Flows (in thousands)****December
      31, 2004****2005**
    
    **2006**
    
    **2007**
    
    **2008**
    
    **2009**
    
    **Thereafter**
    
    **Total**
    
    **Fair
      Value***Assets:*Fixed
      maturity securities,Available
      for sale
    
    $
    11,800
    
    
    34,148
    
    
    34,810
    
    
    33,055
    
    
    35,859
    
    
    366,407
    
    
    516,079
    
    
    548,543Interest
      rate collars
    
    $
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    498*Liabilities:*Long
      term debt
    
    $
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (46,083
    )
    
    (46,083
    )
    
    (46,083
    )Operating
      leases
    
    $
    (3,271
    )
    
    (2,920
    )
    
    (2,613
    )
    
    (2,572
    )
    
    (1,478
    )
    
    (2,903
    )
    
    (15,757
    )
    
    —*Weighted
      Average Interest Rate:*Fixed
      maturity securities
    
    
    6.02
    %
    
    5.43
    %
    
    5.14
    %
    
    5.06
    %
    
    5.37
    %
    
    5.22
    %Long
      term debt
    
    
    7.25
    %
    
    8.09
    %
    
    8.36
    %
    
    8.53
    %
    
    8.71
    %
    
    8.86
    %Interest
      rate collars
    
    
    0.00
    %
    
    0.00
    %
    
    0.00
    %
    
    0.05
    %
    
    0.18
    %
    
    0.33
    %




***Item 8.***
    ********Financial
      Statements and Supplementary
      Data********









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




There
were no changes in or disagreements with accountants on accounting and financial
disclosure matters.


******


***Item 9A.***  ***Controls
and Procedures***




An
evaluation of FPIC’s disclosure controls and procedures (as defined by Rule
13a-15(e) of the Securities Exchange Act of 1934 (the “Act”)) was completed as
of December 31, 2004, by FPIC’s Chief Executive Officer and Chief Financial
Officer. Based on such evaluation, FPIC’s disclosure controls and procedures
were found to be effective in ensuring that material information, relating to
FPIC and its consolidated subsidiaries, as required to be disclosed by FPIC in
its periodic reports filed with the Securities and Exchange Commission, is
accumulated and made known to the Chief Executive Officer and Chief Financial
Officer, and other management, as appropriate, to allow for timely decisions
regarding required disclosure.


There
have been no changes in FPIC’s internal controls over financial reporting
identified in connection with such evaluation that occurred during the fourth
quarter of 2004 that have materially affected or are reasonably likely to
materially affect FPIC’s internal controls over financial
reporting.
  Information
required herein regarding Management’s Report on Internal Control Over Financial
Reporting will appear under Part IV, Item 15 Exhibits and Financial Statement
Schedules, Section 1. Financial Statements.




43




***Item 9B.***  ***Other
Information***




On
December 28, 2004, the Budget and Compensation Committee of the Board of
Directors (the “Committee”) of FPIC took the following actions regarding
executive compensation and material definitive agreements.
 
 *2005
Base Salary Increases*
 Effective
January 1, 2005, the Committee increased the base salaries of the
executive officers of FPIC who will be the “named executive officers” (as
defined by Item 402(a)(3) of Regulation S-K) for purposes of FPIC’s proxy
statement for the 2005 annual meeting of shareholders. The base salaries of
FPIC’s executive officers for 2005 are as follows:
  Name
    
    Base
      SalaryJohn
      R. Byers
    
    $
    550,000President
      and Chief Executive OfficerKim
      D. Thorpe
    
    $
    350,000Executive
      Vice President and Chief Financial Officer
*Extension
of Employment Agreements; Change in Bonus Target Percentage*The Committee
extended for one year the employment agreement between FPIC and John R. Byers,
President and Chief Executive Officer of FPIC. Mr. Byers’ employment agreement
currently continues through December 31, 2007. In addition, the Committee
increased Mr. Byers' bonus target under FPIC's Executive Incentive Compensation
Plan (the "Plan") from 45% to 50% of Mr. Byers' base salary.  The Committee
also extended for one year the employment agreement between FPIC and Kim D.
Thorpe, Executive Vice President and Chief Financial Officer of FPIC. Mr.
Thorpe’s employment agreement currently continues through December 31, 2006.

On
January 20, 2005, the Committee approved 2005 financial and strategic targets
under the Plan. Incentive compensation under the Plan is assessed through a
formal evaluation of overall FPIC performance. Performance under the Plan for
2005 will be evaluated based on (i) financial targets, including revenues and
earnings; (ii) strategic targets; and (iii) subjective evaluation of each
participant, based on individual performance objectives and core competencies. A
copy of the Plan is filed herewith as Exhibit 10(eeee).

On
February 25, 2005, the Committee approved annual cash incentive compensation
awards for 2004 under the Plan. Incentive compensation of FPIC’s executive
officers for 2004 is as follows:
Name
    
    Incentive
      CompensationJohn
      R. Byers
    
    $
    333,000President
      and Chief Executive OfficerKim
      D. Thorpe
    
    $
    185,231Executive
      Vice President and Chief Financial Officer
****
**Part
III**




***Item 10.***
    **************Directors
      and Executive Officers of the
      Registrant**************




FPIC’s
Code of Ethics (“Code”), which applies to its principal executive officer,
principal financial officer, principal accounting officer or controller, or
persons performing similar functions, was filed as Exhibit 14.1 to its Form 10-K
for the year ended December 31, 2003 as filed with the SEC on March 15, 2004,
and is posted on its Internet website at http:// www.fpic.com .
FPIC intends to post any amendments or waivers thereto on its website.  As
of December 31, 2004, no amendments or waivers had been made to its Code as
previously filed with the SEC.  FPIC will provide to any person, without
charge, a copy of such Code upon written request to Investor Relations, FPIC
Insurance Group, Inc., 225 Water Street, Suite 1400, Jacksonville FL 
32202, or through its website or via email at ir@fpic.com or by calling Investor Relations at (904) 354-2482 Extension 3287.




Further
information required hereunder with respect to directors and executive officers
will appear under the heading “Executive Compensation” in FPIC’s Proxy Statement
for the 2005 Annual Meeting of shareholders, which information is incorporated
herein by reference.




******Item 11.***
    **************Executive
      Compensation*****************




The
information required herein will appear under the heading “Executive
Compensation” in FPIC’s Proxy Statement for the 2005 Annual Meeting of
Shareholders, which information is incorporated herein by
reference.




44




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




Securities
authorized for issuance under equity compensation plans as of December 31, 2004
are provided below.




**Plan
      Category**
    **Number
      of Securities to be Issued Upon Exercise of Outstanding Options, Warrants
      and Rights**
    **Weighted-Average
      Exercise Price of Outstanding Options, Warrants and
      Rights**
    **Number
      of Securities Remaining Available for Future Issuance Under Equity
      Compensation Plans (Excluding Securities Reflected in Column
      (a))****(a)**
    **(b)**
    **(c)**Equity
      compensation plansapproved
      by security holders
    1,454,446
    $17.24
    1,060,492Equity
      compensation plansnot
      approved by security holders
    —
    —
    —Total
    1,454,446
    $17.24
    1,060,492





Other
information required herein will appear under the heading “Security Ownership of
Certain Beneficial Owners and Management and Related Shareholder Matters” in
FPIC’s Proxy Statement for the 2005 Annual Meeting of Shareholders, which
information is incorporated herein by reference. See Item 8, Financial
Statements and Supplementary Data, and Note 12, Stock Option and Employee
Stock Purchase Plans, to the consolidated financial statements for information
about FPIC’s equity compensation plans.




***Item 13.***
    **************Certain
      Relationships and Related
      Transactions**************





The
information required herein will appear under the heading “Certain Relationships
and Related Transactions” in FPIC’s Proxy Statement for the 2005 Annual Meeting
of Shareholders, which information is incorporated herein by
reference.




***Item 14.***
    **************Principal
      Accountant Fees and
      Services**************





The
information required herein will appear under the heading “Principal Accountant
Fees and Services” in FPIC’s Proxy Statement for the 2005 Annual Meeting of
Shareholders, which information is incorporated herein by
reference.






45




***Item 15.***
    ****************Exhibits
      and Financial Statement
      Schedules****************




1.
    *Financial
      Statements of FPIC Insurance Group, Inc.:*Report of Independent Registered Certified
      Public Accounting Firm
    F-1Management’s Report on Internal
      Control over Financial Reporting
    F-3Consolidated Statements of Financial
      Position as of December 31, 2004 and 2003
    F-4Consolidated Statements of Income (Loss)
      for the Years Ended December 31, 2004, 2003 and 2002
    F-5Consolidated Statements of Changes in
      Shareholders’ Equity and Comprehensive (Loss) Income for the Years Ended
      December 31, 2004, 2003 and 2002
    F-6Consolidated Statements of Cash Flows for
      the Years Ended December 31, 2004, 2003 and 2002
    F-7Notes to the Consolidated Financial
      Statements
    F-8
 
 2.
    *Financial
      Statement Schedules:*I
    Summary of Investments - Other than
      Investments in Related Parties
    S-1II
    Condensed Financial Information of
      Registrant - Parent Company Only Condensed Statements of Financial
      Position
    S-2II
    Condensed Financial Information of
      Registrant - Parent Company Only Condensed Statements of Earnings
      (Losses)
    S-3II
    Condensed Financial Information of Registrant -
      Parent Company Only Condensed Statements of Cash Flow
    S-4III
    Consolidated Supplementary Insurance
      Information
    S-5IV
    Reinsurance
    S-6V
    Valuation and Qualifying
      Accounts
    S-7
 
 (Schedules
other than those listed are omitted for the reason that they are not required or
are not applicable or the required information is shown in the financial
statements or notes thereto.)


3. *Exhibits:*


3.1
    Restated
      Articles of Incorporation of FPIC Insurance Group, Inc., incorporated by
      reference to FPIC’s Form 10-Q (Commission File No. 1-11983) filed on
      August 16, 1999.


3.2
    Amended and
      Restated Bylaws of FPIC Insurance Group, Inc. dated July 20, 2002,
      incorporated by reference to FPIC’s Form 10-Q (Commission File No.
      1-11983) filed on August 13,
2002.


10(c)*
    Form
      of Indemnity Agreement dated February 28, 1996 between the Registrant and
      Drs. Acosta-Rua, Gause, Shapiro, Selander, White, Bagby, Baratta, Murray,
      Bridges, Hagen, Van Eldik, Yonge; Messrs. Russell, Rosenbloom, Sabia,
      Carey, Driscoll and Ms. Whitter, incorporated by reference to FPIC’s
      Registration Statement on Form S-4 (Registration No. 333-02040) first
      filed on March 7, 1996.


10(d)*
    Omnibus
      Incentive Plan, as amended by shareholder approval on June 2, 2004,
      incorporated by reference to FPIC’s definitive proxy statement (Commission
      File No. 1-11983) filed on April 29,
2004.


10(e)*
    Director
      Stock Option Plan, as amended by shareholder approval on June 2, 2004,
      incorporated by reference to FPIC’s definitive proxy statement (Commission
      File No. 1-11983) filed on April 29,
2004.


10(f)*
    Supplemental
      Executive Retirement Plan, as amended, incorporated by reference to FPIC’s
      Form 10-Q (Commission File No. 1-11983) filed on May 17,
    1999.


10(g)*
    Excess
      Benefit Plan, incorporated by reference to FPIC’s Registration Statement
      on Form S-4 (Registration No. 333-02040) first filed on March 7,
      1996.


46
 10(l)*
    Form
      of Severance Agreement dated January 1, 1999 between the Registrant and
      John R. Byers incorporated by reference to FPIC’s Form 10-Q (Commission
      File No. 1-11983) filed on May 17,
1999.


10(l)(1)*
    Form
      of Amendment to Severance Agreement between the Registrant and John R.
      Byers dated December 14, 2001, incorporated by reference to FPIC’s Form
      10-K (Commission File No. 1-11983) filed on March 27,
2002.


10(m)*
    Form
      of Employment Agreement dated January 1, 1999 between the Registrant and
      John R. Byers incorporated by reference to FPIC’s Form 10-Q (Commission
      File No. 1-11983) filed on May 17, 1999.


10(m)(1)*
    Form
      of Amendment to Employment Agreement between the Registrant and John R.
      Byers dated December 14, 2001, incorporated by reference to FPIC’s Form
      10-K (Commission File No. 1-11983) filed on March 27,
2002.


10(n)*
    Form
      of Employment Agreement dated November 22, 1999 between the Registrant and
      Kim D. Thorpe incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 30,
2000.


10(n)(1)*
    Form
      of Amendment to Employment Agreement between the Registrant and Kim D.
      Thorpe dated December 14, 2001, incorporated by reference to FPIC’s Form
      10-K (Commission File No. 1-11983) filed on March 27,
  2002.


10(o)*
    Form
      of Severance Agreement dated November 22, 1999 between the Registrant and
      Kim D. Thorpe incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 30,
2000.


10(o)(1)*
    Form
      of Amendment to Severance Agreement between the Registrant and Kim D.
      Thorpe dated December 14, 2001, incorporated by reference to FPIC’s Form
      10-K (Commission File No. 1-11983) filed on March 27,
  2002.


10(p)*
    Form
      of Indemnity Agreements dated January 1, 1999 between the Registrant and
      Frank Moya, M.D. and John R. Byers incorporated by reference to FPIC’s
      Form 10-K (Commission File No. 1-11983) filed on March 30,
  2000.


10(q)*
    Form
      of Indemnity Agreements dated May 8, 1999 between the Registrant and Ms.
      Deyo, Parks and Ryan incorporated by reference to FPIC’s Form 10-K
      (Commission File No. 1-11983) filed on March 30,
2000.


10(r)*
    Form
      of Indemnity Agreement dated August 22, 1999 between the Registrant and
      Steven Coniglio incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 30,
2000.


10(s)*
    Form
      of Indemnity Agreements dated November 6, 1999 between the Registrant and
      Messrs. Cetin and Thorpe incorporated by reference to FPIC’s Form 10-K
      (Commission File No. 1-11983) filed on March 30,
2000.


10(t)
    Reinsurance
      agreement between Physicians’ Reciprocal Insurers and First Professionals
      Insurance Company, Inc. incorporated by reference to FPIC’s Form 10-Q
      (Commission File No. 1-11983) filed on May 15,
2000.


10(w)*
    Form
      of Employment Agreement dated May 1, 2000 between the Registrant and Gary
      M. Dallero, incorporated by reference to FPIC’s Form 10-K (Commission File
      No. 1-11983) filed on March 30,
2001.


10(w)(1)*
    Form
      of Amendment to Employment Agreement between the Registrant and Gary M.
      Dallero dated December 16, 2000, incorporated by reference to FPIC’s Form
      10-K (Commission File No. 1-11983) filed on March 27,
  2002.


10(x)*
    Form
      of Severance Agreement dated June 19, 2000 between the Registrant and
      Charles Divita, III, incorporated by reference to FPIC’s Form 10-K
      (Commission File No. 1-11983) filed on March 30,
2001.


10(y)*
    Form
      of Indemnity Agreement dated July 15, 2000 between the Registrant and
      Messrs. Dallero and Divita, incorporated by reference to FPIC’s Form 10-K
      (Commission File No. 1-11983) filed on March 30,
2001.


47
  10(z)*
    Form
      of Indemnity Agreement dated December 16, 2000 between the Registrant and
      Roberta G. Cown, incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 30,
2001.


10(aa)*
    Form
      of Severance Agreement dated December 16, 2000 between the Registrant and
      Roberta G. Cown, incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 30,
2001.


10(bb)*
    Form
      of Severance Agreement dated December 22, 2000 between the Registrant and
      Pamela D. Deyo, incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 30,
2001.


10(cc)
    Waiver
      and Modification Agreement dated as of March 30, 2001, by and among FPIC
      Insurance Group, Inc., and The Banks Listed Herein, and SunTrust Bank, as
      Issuing Bank, Administrative Agent and as Collateral Agent, incorporated
      by reference to FPIC’s Form 10-K (Commission File No. 1-11983) filed on
      March 30, 2001.


10(ff)*
    Form
      of Indemnity Agreement dated June 6, 2001 between the Registrant and John
      K. Anderson, Jr. , incorporated by reference to FPIC’s Form 10-K
      (Commission File No. 1-11983) filed on March 27,
2002.


10(gg)*
    Form
      of Indemnity Agreement dated June 6, 2001 between the Registrant and M.C.
      Harden, III, incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 27,
2002.


10(hh)*
    Form
      of Indemnity Agreement dated July 14, 2001 between the Registrant and Gene
      C. Witherspoon, incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 27,
2002.


10(jj)*
    Form
      of Employment Agreement dated December 14, 2001 between the Registrant and
      Roberta G. Cown, incorporated by reference to FPIC’s Form 10-K (Commission
      File No. 1-11983) filed on March 27,
2002.


10(ll)
    First
      Professionals Insurance Company, Inc. Net Account Quota Share Reinsurance
      Agreement dated July 1, 2002, incorporated by reference to FPIC’s Form 8-K
      filed on August 7, 2002.


10(mm)*
    Form
      of employment agreement dated January 1, 1999 between the Administrators
      for the Professions, Inc. and Anthony Bonomo, as amended, incorporated by
      reference to FPIC’s Form 10-Q (Commission File No. 1-11983) filed on
      August 13, 2002.


10(pp)
    Amendment
      of the Management Agreement between AFP and PRI dated January 1, 1999,
      incorporated by reference to FPIC’s Form 10-Q (Commission File No.
      1-11983) filed on November 13,
2002.


10(ss)
    Form
      of Assignment Agreement dated January 1, 2003 between Anthony Bonomo, FPIC
      Insurance Group, Inc. and Physicians’ Reciprocal Insurers, incorporated by
      reference to Form 10-K for the year ended December 31, 2002, filed on
      March 28, 2003.


10(tt)
    FPIC
      Insurance Group, Inc. Medical Malpractice Liability Excess of Loss
      Reinsurance Agreement effective January 1, 2003 to January 1, 2004,
      incorporated by reference to Form 10-K for the year ended December 31,
      2002, filed on March 28, 2003.


10(uu)
    Form
      of Second Amendment to the Management Agreement effective January 1, 2002
      among Anesthesiologists Professional Assurance Company, APA Management,
      Inc. and FPIC Insurance Group, Inc., incorporated by reference to Form
      10-K for the year ended December 31, 2002, filed on March 28,
      2003.


10(vv)
    FPIC
      Insurance Group, Inc. Casualty Awards Made Excess of Loss Reinsurance
      Agreement - 2003 Final Reinsurance Placement Slip, incorporated by
      reference to FPIC’s Form 10-Q (Commission File No. 1-11983) filed on May
      14, 2003.


10(ww)
    First
      Professionals Insurance Company, Inc. Net Account Quota Share Reinsurance
      Agreement Amendment No. 1 to the 2002 Final Placement Slip, incorporated
      by reference to FPIC’s Form 10-Q (Commission File No. 1-11983) filed on
      May 14, 2003.


48


10(xx)
    Placement
      Agreement dated April 25, 2003, among FPIC Insurance Group, Inc. and its
      financing subsidiary, FPIC Capital Statutory Trust II, together as
      offerors, and FTN Financial Capital Markets and Keefe, Bruyette &
      Woods, Inc., as placement agents, incorporated by reference to FPIC’s Form
      8-K (Commission File No. 1-11983) filed on May 16,
2003.


10(yy)
    Subscription
      Agreement dated May 15, 2003 among FPIC Insurance Group, Inc. and FPIC
      Capital Statutory Trust II, together as offerors, and I-Preferred Term
      Securities II, Ltd., as purchaser, incorporated by reference to FPIC’s
      Form 8-K (Commission File No. 001-11983) filed on May 16,
      2003.


10(zz)
    Amended
      and Restated Declaration of Trust of FPIC Capital Statutory Trust II dated
      May 15, 2003 by and among FPIC Insurance Group, Inc., as sponsor, U.S.
      Bank National Association, as institutional trustee, and Kim D. Thorpe,
      Roberta Goes Cown and Pamela D. Deyo, as administrators, incorporated by
      reference to FPIC’s Form 8-K (Commission File No. 1-11983) filed on May
      16, 2003.


10(aaa)
    Guarantee
      Agreement dated May 15, 2003 by and between FPIC Insurance Group, Inc., as
      guarantor, and U.S. Bank National Association, as guarantee trustee,
      incorporated by reference to FPIC’s Form 8-K (Commission File No. 1-11983)
      filed on May 16, 2003.


10(bbb)
    Indenture
      dated May 15, 2003 between FPIC Insurance Group, Inc. and U.S. Bank
      National Association, as debenture trustee, incorporated by reference to
      FPIC’s Form 8-K (Commission File No. 1-11983) filed on May 16,
      2003.


10(ccc)
    Amendment
      No. 3 to Revolving Credit and Term Loan Agreement dated April 10, 2003 by
      and among FPIC Insurance Group Inc., as the borrower, and several banks
      and other financial institutions from time to time party thereto, as
      lenders, and SunTrust Bank, as administrative agent and collateral agent
      for the lenders, and joined by certain subsidiaries of the borrower as
      subsidiary guarantors, incorporated by reference to FPIC’s Form 8-K
      (Commission File No. 1-11983) filed on May 16,
2003.


10(ddd)
    Placement
      Agreement dated May 13, 2003 among FPIC Insurance Group, Inc. and its
      financing subsidiary, FPIC Capital Trust I, together as offerors, and
      Sandler O’Neill & Partners, L.P., as placement agent, incorporated by
      reference to FPIC’s Form 8-K (Commission File No. 1-11983) filed on May
      29, 2003.


10(eee)
    Capital
      Securities Subscription Agreement dated May 13, 2003 among FPIC Insurance
      Group, Inc. and FPIC Capital Trust I, together as offerors, and InCapS
      Funding I, Ltd., as purchaser, incorporated by reference to FPIC’s Form
      8-K (Commission File No. 1-11983) filed on May 29,
2003.


10(fff)
    Amended
      and Restated Declaration of Trust of FPIC Capital Trust I dated May 22,
      2003 by and among FPIC Insurance Group, Inc., as sponsor, Wilmington Trust
      Company, as Delaware trustee, Wilmington Trust Company, as institutional
      trustee, and Kim D. Thorpe, Roberta Goes Cown and Pamela D. Deyo, as
      administrators, incorporated by reference to FPIC’s Form 8-K (Commission
      File No. 1-11983) filed on May 29,
2003.


10(ggg)
    Guarantee
      Agreement dated as of May 22, 2003 by and between FPIC Insurance Group,
      Inc., as guarantor, and Wilmington Trust Company, as guarantee trustee,
      incorporated by reference to FPIC’s Form 8-K (Commission File No. 1-11983)
      filed on May 29, 2003.


10(hhh)
    Indenture
      dated as of May 22, 2003 between FPIC Insurance Group, Inc., as issuer and
      Wilmington Trust Company, as trustee, incorporated by reference to FPIC’s
      Form 8-K (Commission File No. 1-11983) filed on May 29,
    2003.


10(iii)
    Placement
      Agreement dated May 13, 2003 between FPIC Insurance Group, Inc., as
      offeror, and Sandler O’Neill & Partners, L.P., as placement agent,
      incorporated by reference to FPIC’s Form 8-K (Commission File No. 1-11983)
      filed on May 29, 2003.


10(jjj)
    Senior
      Notes Subscription Agreement dated May 13, 2003 between FPIC Insurance
      Group, Inc. and InCapS Funding I, Ltd., as purchaser, incorporated by
      reference to FPIC’s Form 8-K (Commission File No. 1-11983) filed on May
      29, 2003.


49
  10(kkk)
    Indenture
      dated as of May 22, 2003 between FPIC Insurance Group, Inc., as issuer,
      and Wilmington Trust Company, as trustee, incorporated by reference to
      FPIC’s Form 8-K (Commission File No. 1-11983) filed on May 29,
      2003.


10(lll.1)
    Employee
      Stock Purchase Plan, as amended on June 2, 2004 by shareholder approval,
      incorporated herein by reference to FPIC Insurance Group, Inc.’s
      Definitive Proxy Materials (Commission File No. 1-11983) filed on April
      29, 2004.


10(lll.2)
    Placement
      Agreement dated October 16, 2003 among FPIC Insurance Group, Inc. and its
      financing subsidiary, FPIC Capital Statutory Trust III, together as
      offerors, and FTN Financial Capital Markets and Keefe, Bruyette &
      Woods, Inc., as placement agents, incorporated by reference to FPIC’s Form
      8-K (Commission File No. 1-11983) filed on November 3,
    2003.


10(mmm)
    Subscription
      Agreement dated October 29, 2003 among FPIC Insurance Group, Inc. and FPIC
      Capital Statutory Trust III, together as offerors, and I-Preferred Term
      Securities III, Ltd., as purchaser, incorporated by reference to FPIC’s
      Form 8-K (Commission File No. 1-11983) filed on November 3,
      2003.


10(nnn)
    Amended
      and Restated Declaration of Trust of FPIC Capital Statutory Trust III
      dated October 29, 2003 among FPIC Insurance Group, Inc., as sponsor, U.S.
      Bank National Association, as institutional trustee, and Kim D. Thorpe,
      Roberta Goes Cown and Pamela D. Deyo, as administrators, incorporated by
      reference to FPIC’s Form 8-K (Commission File No. 1-11983) filed on
      November 3, 2003.


10(ooo)
    Guarantee
      Agreement dated October 29, 2003 between FPIC Insurance Group, Inc., as
      guarantor, and U.S. Bank National Association, as guarantee trustee,
      incorporated by reference to FPIC’s Form 8-K (Commission File No. 1-11983)
      filed on November 3, 2003.


10(ppp)
    Indenture
      dated October 29, 2003 between FPIC Insurance Group, Inc. and U. S. Bank
      National Association, as debenture trustee, incorporated by reference to
      FPIC’s Form 8-K (Commission File No. 1-11983) filed on November 3,
      2003.


10(qqq)
    Amendment
      No. 4 to Revolving Credit and Term Loan Agreement dated October 10, 2003
      among FPIC Insurance Group, Inc., as borrower, and several banks and other
      financial institutions from time to time party thereto, as lenders, and
      SunTrust Bank, as administrative agent and collateral agent for the
      lenders, and joined by certain subsidiaries of the borrower as subsidiary
      guarantors, incorporated by reference to FPIC’s Form 8-K (Commission File
      No. 1-11983) filed on November 3,
2003.


10(rrr)
    Confidentiality
      Agreement dated October 27, 2003 between FPIC Insurance Group, Inc., on
      the one hand, and Stilwell Value Partners III., L.P., Stilwell Associates,
      L.P., Stilwell Value, LLC, Joseph Stilwell, and John G. Rich, on the
      other, incorporated by reference to FPIC’s Form 10-K for the year ended
      December 31, 2003 (Commission File No. 1-11983) filed on March 15,
      2004.


10(sss)
    Form
      of Indemnity Agreement dated June 5, 2002 between the Registrant and
      Kenneth M. Kirschner, incorporated by reference to FPIC’s Form 10-K for
      the year ended December 31, 2003 (Commission File No. 1-11983) filed on
      March 15, 2004.


10(ttt)
    Form
      of Indemnity Agreement dated June 5, 2002 between the Registrant and Joan
      D. Ruffier, incorporated by reference to FPIC’s Form 10-K for the year
      ended December 31, 2003 (Commission File No. 1-11983) filed on March 15,
      2004.


10(uuu)
    Form
      of Indemnity Agreement dated June 4, 2003 between the Registrant and
      Terence P. McCoy, M.D., incorporated by reference to FPIC’s Form 10-K for
      the year ended December 31, 2003 (Commission File No. 1-11983) filed on
      March 15, 2004.


10(vvv)
    Form
      of Indemnity Agreement dated November 10, 2003 between the Registrant and
      John G. Rich, incorporated by reference to FPIC’s Form 10-K for the year
      ended December 31, 2003 (Commission File No. 1-11983) filed on March 15,
      2004.


50


10(www)*
    Form
      of Letter Agreement regarding additional compensation dated February 5,
      2003 between Administrators for the Professions, Inc. and Anthony J.
      Bonomo, incorporated by reference to FPIC’s Form 10-K for the year ended
      December 31, 2003 (Commission File No. 1-11983) filed on March 15,
      2004.


10(xxx)
    Medical
      Professional Liability Excess of Loss Reinsurance Contract, effective
      January 1, 2004, issued to Member Companies of FPIC Insurance Group, Inc.
      including First Professionals Insurance Company, Inc., Anesthesiologists
      Professional Assurance Company and Intermed Insurance Company,
      incorporated by reference to FPIC’s Form 10-Q (Commission File No.
      1-11983) filed on August 6,
2004.


10(yyy)
    Medical
      Professional Liability Excess of Loss Reinsurance Contract, effective
      January 1, 2004, issued to Member Companies of FPIC Insurance Group, Inc.
      including First Professionals Insurance Company, Inc., Anesthesiologists
      Professional Assurance Company and Intermed Insurance Company,
      incorporated by reference to FPIC’s Form 10-Q (Commission File No.
      1-11983) filed on August 6, 2004.


10(zzz)*
    Form of Indemnity Agreement dated December 28,
      2004 between the Registrant and Becky
Thackery.


10(aaaa)*
    Form of Indemnity Agreement dated December 28,
      2004 between the Registrant and Pamela E.
Tripp.


10(bbbb)*
    Form of Omnibus Incentive Plan Stock Option
      Agreement, effective March 11,
2005.


10(cccc)*
    Form of Omnibus Incentive Plan Restricted Stock
      Agreement, effective March 11,
2005.


10(dddd.1)
    Attorney-In-Fact Agreement between Pennsylvania
      Physicians Reciprocal Insurers and Physicians Reciprocal Managers, Inc.,
      effective July 1, 2004.


10(dddd.2)
    Physicians Reciprocal Managers, Inc. Program
      Manager’s Agreement with Professional Medical Administrators, L.L.C.,
      effective January 1, 2004.


10(dddd.3)
    Claims Administration Agreement between
      Administrators for the Professions, Inc. and Physicians Reciprocal
      Managers, Inc., effective July 1,
2004.


10(eeee)*
    FPIC Insurance Group, Inc. Executive
      Incentive Compensation Plan, effective January 20,
2005.
21
    Subsidiaries of the
Registrant.


23
    Consent of PricewaterhouseCoopers
      LLP.


31.1
    Certification of John R. Byers, President and Chief
      Executive Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002.


31.2
    Certification of Kim D. Thorpe, Executive Vice
      President and Chief Financial Officer, pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.


32
    Certification of John R. Byers, President and Chief
      Executive Officer, and Kim D. Thorpe, Executive Vice President and Chief
      Financial Officer, pursuant to 18 U.S.C. Section 1350 as adopted pursuant
      to Section 906 of the Sarbanes-Oxley Act of
2002.


_______________




*
    Management
      contract or compensatory plan or
arrangement.









**SIGNATURES**


Pursuant
to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized, on this the 15th day of March,
2005.







**FPIC
      Insurance Group, Inc.**By:
    /s/ John
      R. ByersJohn R. Byers*President
      and Chief Executive Officer*








51


Pursuant
to the requirements of the Securities Exchange Act of 1934, the following
persons on behalf of the registrant and in the capacities and on the dates
indicated have signed this report below.




**Signature**
    **Title**
    **Date**/s/
      John R. Byers
      John
      R. Byers
    President,
      Chief Executive Officer and Director (Principal Executive
      Officer)
    March
      15, 2005/s/
      Kim D. Thorpe
      Kim
      D. Thorpe
    Executive
      Vice President and Chief Financial Officer (Principal Financial Officer
      and Principal Accounting Officer)
    March
      15, 2005/s/
      Robert O. Baratta, M.D.
      Robert
      O. Baratta, M.D.
    Chairman
      of the Board
    March
      15, 2005/s/
      David M. Shapiro, M.D.
      David
      M. Shapiro, M.D.
    Vice
      Chairman
    March
      15, 2005/s/
      John K. Anderson, Jr.
      John
      K. Anderson, Jr.
    Director
    March
      15, 2005/s/
      Richard J. Bagby, M.D.
      Richard
      J. Bagby, M.D.
    Director
    March
      15, 2005/s/
      Kenneth M. Kirschner
      Kenneth
      M. Kirschner
    Director
    March
      15, 2005/s/
      M.C. Harden, III
      M.
      C. Harden, III
    Director
    March
      15, 2005/s/
      Terence P. McCoy, M.D.
      Terence
      P. McCoy, M.D.
    Director
    March
      15, 2005/s/
      John G. Rich
      John
      G. Rich
    Director
    March
      15, 2005/s/
      Joan D. Ruffier
      Joan
      D. Ruffier
    Director
    March
      15, 2005/s/
      Guy T. Selander, M.D.
      Guy
      T. Selander, M.D.
    Director
    March
      15, 2005/s/
      James G. White, M.D.
      James
      G. White, M.D.
    Director
    March
      15, 2005







52


**Report of Independent Registered Certified Public
Accounting Firm**







To
the Board of Directors and Shareholders of


FPIC
Insurance Group, Inc.:





We
have completed an integrated audit of FPIC Insurance Group, Inc.’s 2004
consolidated financial statements and of its internal control over financial
reporting as of December 31, 2004 and audits of its 2003 and 2002 consolidated
financial statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Our opinions, based on our audits,
are presented below.





Consolidated
financial statements and financial statement schedules





In
our opinion, the consolidated financial statements listed in accompanying
index appearing in Item 15(1)  present
fairly, in all material respects, the financial position of FPIC Insurance
Group, Inc. and its subsidiaries **** at
December 31, 2004  and
2003, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 2004 in conformity with accounting
principles generally accepted in the United States of America. In addition, in
our opinion, the financial statement schedules listed in the index appearing in
Item 15(2) **** present
fairly, in all material respects, the information set forth therein when read in
conjunction with the related consolidated **** financial
statements. These financial statements and financial statement schedules are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these financial statements and financial statement schedules **** based on our audits. We conducted our audits of these statements in accordance with
the standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit of financial statements includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our
opinion.





As
discussed in Notes 2 and 5 to the consolidated financial statements, effective
January 1, 2002, the Company changed its method of accounting for goodwill
following adoption of Statement of Financial Accounting Standard No. 142,
“Goodwill and Other Intangible Assets.”





Internal
control over financial reporting





Also,
in our opinion, management’s assessment, included in “Management’s Report on
Internal Control Over Financial Reporting,” appearing under Item 15(1), that the
Company maintained effective internal control over financial reporting as of
December 31, 2004 based on criteria established in *Internal
Control -*  *Integrated
Framework* issued by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO), is fairly stated, in all material respects, based on those criteria.
Furthermore, in our opinion, the Company maintained, in all material respects,
effective internal control over financial reporting as of December 31, 2004,
based on criteria established in *Internal
Control - Integrated Framework* issued by the COSO. The Company’s management is responsible for maintaining
effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting. Our
responsibility is to express opinions on management’s assessment and on the
effectiveness of the Company’s internal control over financial reporting based
on our audit. We conducted our audit of internal control over financial
reporting in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. An audit of internal control over financial reporting includes
obtaining an understanding of internal control over financial reporting,
evaluating management’s assessment, testing and evaluating the design and
operating effectiveness of internal control, and performing such other
procedures as we consider necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinions.






F-1





A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (i) pertain
to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company;
(ii) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management
and directors of the company; and (iii) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a material effect on the
financial statements.





Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.








**PricewaterhouseCoopers
      LLP**Jacksonville,
      FloridaMarch
      15, 2005








F-2


**Management’s Report on Internal Control over
Financial Reporting**




FPIC
management is responsible for establishing and maintaining effective
internal control over financial reporting. Based on our assessment of internal
control over financial reporting as of December 31, 2004, we have determined
that FPIC maintained effective internal control over financial reporting
based on criteria established in *Internal
Control - Integrated Framework* issued by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO).





FPIC’s
internal control over financial reporting is a process designed to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. FPIC’s internal control over financial
reporting includes those policies and procedures that (1) pertain to the
maintenance of records that, in reasonable detail, accurately and fairly reflect
the transactions and dispositions of the assets of the company; (2) provide
reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial statements.





Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.





Our
management’s assessment of the effectiveness of FPIC’s internal control over
financial reporting as of December 31, 2004 has been audited by
PricewaterhouseCoopers LLP, an independent registered public accounting firm, as
stated in their report that appears herein.




March
      15, 2005**FPIC
      Insurance Group, Inc.**By:
    /s/
      John R. ByersJohn R. Byers*President
      and Chief Executive Officer*


By:
    /s/ Kim
      D. ThorpeKim
      D. Thorpe*Executive
      Vice President and Chief Financial
Officer*













F-3


**FPIC Insurance Group, Inc.**Consolidated
      Statements of Financial PositionAs
      of December 31, 2004 and 2003(in
      thousands, except common share data)**2004**
    
    **2003****Assets***Investments:*Fixed
      maturities available for sale, at fair value
    
    $
    548,543
    
    
    528,647Other
      invested assets (Includes related party amounts of $0 and $788 - Note
      18)
    
    
    7,175
    
    
    8,990Total
      investments
    
    
    555,718
    
    
    537,637Cash
      and cash equivalents
    
    
    128,250
    
    
    85,064Premiums
      receivable, net (Includes related party amounts of $5,374 and $8,608 -
      Note 18)
    
    
    94,282
    
    
    101,262Accrued
      investment income
    
    
    7,232
    
    
    6,153Reinsurance
      recoverable on paid losses (Includes related party amounts of $2,663 and
      $2,738 - Note 18)
    
    
    19,140
    
    
    15,950Due
      from reinsurers on unpaid losses and advance premiums (Includes related
      party amounts of $82,762 and $82,474 - Note 18)
    
    
    333,419
    
    
    275,766Ceded
      unearned premiums (Includes related party amounts of $2,550 and $16,486 -
      Note 18)
    
    
    28,147
    
    
    71,435Deferred
      policy acquisition costs (Includes related party amounts of $3,002 and
      $3,500 - Note 18)
    
    
    11,280
    
    
    6,209Deferred
      income taxes
    
    
    35,636
    
    
    34,819Goodwill
    
    
    18,870
    
    
    18,870Other
      assets (Includes related party amounts of $7,882 and $4,171 - Note
      18)
    
    
    39,332
    
    
    29,591Total
      assets
    
    $
    1,271,306
    
    
    1,182,756**Liabilities
      and Shareholders' Equity***Policy
      liabilities and accruals:*Losses
      and loss adjustment expenses (Includes related party amounts of $25,292
      and $20,555 - Note 18)
    
    $
    635,118
    
    
    574,529Unearned
      premiums (Includes related party amounts of $46,575 and $47,240 - Note
      18)
    
    
    177,003
    
    
    177,435Reinsurance
      payable (Includes related party amounts of $4,620 and $11,761 - Note
      18)
    
    
    134,639
    
    
    137,708Paid
      in advance and unprocessed premiums
    
    
    13,698
    
    
    11,766Total
      policy liabilities and accruals
    
    
    960,458
    
    
    901,438Long
      term debt
    
    
    46,083
    
    
    46,083Other
      liabilities (Includes related party amounts of $7,793 and $8,759 - Note
      18)
    
    
    47,514
    
    
    48,498Total
      liabilities
    
    
    1,054,055
    
    
    996,019Commitments
      and contingencies (Note 14)Minority
      interest
    
    
    131
    
    
    80Common
      stock, $0.10 par value, 50,000,000 shares authorized; 10,069,532 and
      9,770,843 shares issued and outstanding at December 31, 2004 and 2003,
      respectively
    
    
    1,007
    
    
    977Additional
      paid-in capital
    
    
    47,871
    
    
    43,705Retained
      earnings
    
    
    165,880
    
    
    137,699Accumulated
      other comprehensive income, net
    
    
    2,362
    
    
    4,276Total
      shareholders' equity
    
    
    217,120
    
    
    186,657Total
      liabilities and shareholders' equity
    
    $
    1,271,306
    
    
    1,182,756








The
accompanying notes are an integral part of the consolidated financial
statements.
 F-4




**FPIC Insurance Group, Inc.**Consolidated
      Statements of Income (Loss)For
      the Years Ended December 31, 2004, 2003 and 2002(in
      thousands, except per common share data)**2004**
    
    **2003**
    
    **2002****Revenues**Net
      premiums earned (Note 18)
    
    $
    149,676
    
    
    131,665
    
    
    151,684Claims
      administration and management fees (Note 18)
    
    
    53,246
    
    
    40,895
    
    
    37,034Net
      investment income
    
    
    20,759
    
    
    18,414
    
    
    20,977Commission
      income
    
    
    8,425
    
    
    7,658
    
    
    6,215Net
      realized investment gains (Note 3)
    
    
    3,867
    
    
    2,052
    
    
    4,688Finance
      charges and other income (Note 18)
    
    
    834
    
    
    1,040
    
    
    1,342Total
      revenues
    
    
    236,807
    
    
    201,724
    
    
    221,940**Expenses**Net
      losses and loss adjustment expenses (Note 18)
    
    
    125,172
    
    
    118,974
    
    
    139,571Other
      underwriting expenses (Note 18)
    
    
    12,527
    
    
    9,443
    
    
    16,867Claims
      administration and management expenses
    
    
    43,529
    
    
    35,780
    
    
    35,014Interest
      expense on debt
    
    
    2,564
    
    
    5,886
    
    
    4,762Other
      expenses (Note 18)
    
    
    7,645
    
    
    5,658
    
    
    1,844Total
      expenses
    
    
    191,437
    
    
    175,741
    
    
    198,058Income
      from operations before income taxes, minority interest and cumulative
      effect of accounting change
    
    
    45,370
    
    
    25,983
    
    
    23,882Less:
      Income tax expense
    
    
    16,941
    
    
    9,317
    
    
    8,834Income
      from operations before minority interest and cumulative effect of
      accounting change
    
    
    28,429
    
    
    16,666
    
    
    15,048Less:
      Minority interest
    
    
    248
    
    
    94
    
    
    172Income
      from operations before cumulative effect of accounting
    change
    
    
    28,181
    
    
    16,572
    
    
    14,876Less:
      Cumulative effect of accounting change (net of an $18,784 income tax
      benefit)
    
    
    —
    
    
    —
    
    
    29,578Net
      income (loss)
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )Basic
      earnings per common share before cumulative effect of accounting
      change
    
    $
    2.83
    
    
    1.75
    
    
    1.58Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    (3.15
    )Basic
      earnings (loss) per common share
    
    $
    2.83
    
    
    1.75
    
    
    (1.57
    )Diluted
      earnings per common share before cumulative effect of accounting
      change
    
    $
    2.70
    
    
    1.71
    
    
    1.58Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    (3.14
    )Diluted
      earnings (loss) per common share
    
    $
    2.70
    
    
    1.71
    
    
    (1.56
    )Basic
      weighted average common shares outstanding
    
    
    9,973
    
    
    9,483
    
    
    9,387Diluted
      weighted average common shares outstanding
    
    
    10,420
    
    
    9,665
    
    
    9,432




The
accompanying notes are an integral part of the consolidated financial
statements.
 F-5


**FPIC Insurance Group,
      Inc.**Consolidated
      Statements of Changes in Shareholders' Equity and Comprehensive (Loss)
      IncomeFor
      the Years Ended December 31, 2004, 2003 and 2002(in
      thousands, expect common share data)AccumulatedOtherComprehensiveShares
      of Common Stock
    
    Common
      Stock
    
    Additional
      Paid-in Capital
    
    Retained
      Earnings
    
    (Loss)
      Income, Net
    
    TotalBalances
      at December 31, 2001
    
    
    9,337,755
    
    $
    934
    
    
    37,837
    
    
    135,829
    
    
    (26
    )
    
    174,574Net
      loss
    
    
    —
    
    
    —
    
    
    —
    
    
    (14,702
    )
    
    —
    
    
    (14,702
    )Unrealized
      gain on fixed maturity investments and other invested assets,
      net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    5,565
    
    
    5,565Unrealized
      loss on derivative financial instruments, net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (270
    )
    
    (270
    )Amortization
      of unrealized loss on derivative financial instruments
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    256
    
    
    256Comprehensive
      loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (9,151
    )Issuance
      of shares
    
    
    53,040
    
    
    5
    
    
    433
    
    
    —
    
    
    —
    
    
    438Income
      tax reductions relating to exercise of stock options
    
    
    —
    
    
    —
    
    
    52
    
    
    —
    
    
    —
    
    
    52Balances
      at December 31, 2002
    
    
    9,390,795
    
    
    939
    
    
    38,322
    
    
    121,127
    
    
    5,525
    
    
    165,913Net
      income
    
    
    —
    
    
    —
    
    
    —
    
    
    16,572
    
    
    —
    
    
    16,572Minimum
      pension liability adjustment, net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (140
    )
    
    (140
    )Unrealized
      loss on fixed maturity investments and other invested assets,
      net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (2,835
    )
    
    (2,835
    )Unrealized
      gain on derivative financial instruments, net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    486
    
    
    486Settlement
      of derivative financial instrument, net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    1,532
    
    
    1,532Amortization
      of unrealized loss on derivative financial instruments
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (292
    )
    
    (292
    )Comprehensive
      income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    15,323Issuance
      of shares
    
    
    380,048
    
    
    38
    
    
    4,385
    
    
    —
    
    
    —
    
    
    4,423Income
      tax reductions relating to exercise of stock options
    
    
    —
    
    
    —
    
    
    998
    
    
    —
    
    
    —
    
    
    998Balances
      at December 31, 2003
    
    
    9,770,843
    
    
    977
    
    
    43,705
    
    
    137,699
    
    
    4,276
    
    
    186,657Net
      income
    
    
    —
    
    
    —
    
    
    —
    
    
    28,181
    
    
    —
    
    
    28,181Minimum
      pension liability adjustment, net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (252
    )
    
    (252
    )Unrealized
      loss on fixed maturity investments and other invested assets,
      net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (1,302
    )
    
    (1,302
    )Unrealized
      loss on derivative financial instruments, net
    
    
    —
    
    
    —
    
    
    —
    
    
    —
    
    
    (360
    )
    
    (360
    )Comprehensive
      income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    26,267Issuance
      of shares
    
    
    298,689
    
    
    30
    
    
    3,187
    
    
    —
    
    
    —
    
    
    3,217Income
      tax reductions relating to exercise of stock options
    
    
    —
    
    
    —
    
    
    979
    
    
    —
    
    
    —
    
    
    979Balances
      at December 31, 2004
    
    
    10,069,532
    
    $
    1,007
    
    
    47,871
    
    
    165,880
    
    
    2,362
    
    
    217,120


The
accompanying notes are an integral part of the consolidated financial
statements.
 F-6


**FPIC Insurance Group,
      Inc.**Consolidated
      Statements of Cash FlowsFor
      the Years Ended December 31, 2004, 2003 and 2002(in
      thousands)**2004**
    
    **2003**
    
    **2002****Cash
      Flows from Operating Activities:**Net
      income (loss)
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )*Adjustments
      to Reconcile Net Income (Loss) to Cash Provided by Operating
      Activities:*Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    29,578Depreciation,
      amortization and accretion
    
    
    4,536
    
    
    3,383
    
    
    7,960Net
      realized gains on investments
    
    
    (3,867
    )
    
    (2,052
    )
    
    (4,688
    )Realized
      loss on sale of property and equipment
    
    
    146
    
    
    135
    
    
    93Net
      loss (gain) from equity investments
    
    
    118
    
    
    (59
    )
    
    110Bad
      debt expense
    
    
    43
    
    
    95
    
    
    668Deferred
      policy acquisition costs, net of related amortization
    
    
    (13,488
    )
    
    (7,764
    )
    
    (5,403
    )Deferred
      income tax expense
    
    
    357
    
    
    385
    
    
    844Deferred
      ceding commission, net of related amortization
    
    
    9,828
    
    
    7,717
    
    
    10,691Minority
      interest in net income
    
    
    (248
    )
    
    (94
    )
    
    (172
    )*Other
      Changes in Assets and Liabilities:*Premiums
      receivable, net
    
    
    6,937
    
    
    7,136
    
    
    (35,800
    )Accrued
      investment income
    
    
    (1,079
    )
    
    (155
    )
    
    (1,393
    )Reinsurance
      recoverable on paid losses
    
    
    (3,190
    )
    
    (9,421
    )
    
    776Due
      from reinsurers on unpaid losses and advance premiums
    
    
    (57,653
    )
    
    (107,607
    )
    
    (87,749
    )Ceded
      unearned premiums
    
    
    43,288
    
    
    7,454
    
    
    (38,095
    )Other
      assets
    
    
    (5,631
    )
    
    (5,023
    )
    
    2,208Losses
      and loss adjustment expenses
    
    
    60,589
    
    
    134,363
    
    
    121,683Unearned
      premiums
    
    
    (432
    )
    
    4,014
    
    
    26,660Reinsurance
      payable
    
    
    (3,069
    )
    
    41,238
    
    
    69,781Paid
      in advance and unprocessed premiums
    
    
    1,932
    
    
    (2,294
    )
    
    4,118Other
      liabilities
    
    
    (2,382
    )
    
    1,907
    
    
    10,958Net
      cash provided by operating activities
    
    
    64,916
    
    
    89,930
    
    
    98,126**Cash
      Flows from Investing Activities:**Proceeds
      from sale of fixed maturities available for sale
    
    
    498,981
    
    
    607,201
    
    
    313,313Purchase
      of fixed maturities available for sale
    
    
    (524,068
    )
    
    (696,418
    )
    
    (395,070
    )Proceeds
      from sale of other invested assets
    
    
    3,095
    
    
    2,889
    
    
    2,682Purchase
      of other invested assets
    
    
    (163
    )
    
    (1,303
    )
    
    (433
    )Proceeds
      from sale of property and equipment
    
    
    —
    
    
    3
    
    
    22Purchase
      of property and equipment
    
    
    (2,792
    )
    
    (3,498
    )
    
    (1,876
    )Net
      cash used in investing activities
    
    
    (24,947
    )
    
    (91,126
    )
    
    (81,362
    )**Cash
      Flows from Financing Activities:**Proceeds
      from issuance of long term debt
    
    
    —
    
    
    46,083
    
    
    —Payment
      of revolving credit facility and term loan
    
    
    —
    
    
    (47,208
    )
    
    (5,833
    )Purchase
      of derivative financial instruments
    
    
    —
    
    
    (1,134
    )
    
    —Settlement
      of derivative financial instruments
    
    
    —
    
    
    (2,493
    )
    
    —Issuance
      of common stock
    
    
    3,217
    
    
    4,423
    
    
    438Net
      cash provided by (used in) financing activities
    
    
    3,217
    
    
    (329
    )
    
    (5,395
    )Net
      increase (decrease) in cash and cash equivalents
    
    
    43,186
    
    
    (1,525
    )
    
    11,369Cash
      and cash equivalents at beginning of period
    
    
    85,064
    
    
    86,589
    
    
    75,220Cash
      and cash equivalents at end of period
    
    $
    128,250
    
    
    85,064
    
    
    86,589**Supplemental
      Disclosure of Cash Flow Information:**Interest
      paid on debt
    
    $
    2,524
    
    
    3,363
    
    
    4,718Federal
      income taxes paid
    
    $
    12,950
    
    
    9,450
    
    
    6,293Federal
      income tax refunds received
    
    $
    —
    
    
    346
    
    
    4,958


The
accompanying notes are an integral part of the consolidated financial
statements.
 F-7


FPIC Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)
  **1.
Organization and Nature of Operations**




FPIC
Insurance Group, Inc. (“FPIC”) was formed in 1996 in a reorganization of First
Professionals Insurance Company, Inc. (“First Professionals,” formerly named
Florida Physicians Insurance Company, Inc.) and McCreary Corporation
(“McCreary”). Under the reorganization plan, First Professionals’ shareholders
became the shareholders of FPIC. They received five shares of FPIC common stock
for each share of their First Professionals’ common stock. McCreary also became
a subsidiary of FPIC. Effective January 1, 2002, McCreary was merged into its
subsidiary, Employers Mutual, Inc. (“EMI”), with EMI continuing as the surviving
entity.





FPIC
is a provider of specialty property and casualty insurance and insurance
management services focused on medical professional liability (“MPL”)insurance.
Our primary products provide protection for physicians, dentists and other
healthcare providers as individual practitioners or as members of practice
groups. Our insurance protects policyholders against losses arising from
professional liability claims and the related defense costs for injuries in
which the patient alleges that medical error or malpractice has occurred.
Optional coverage is available for the professional corporations under which
physicians or dentists practice.





We
have chosen to focus on selected markets where we believe we have advantages in
terms of our market knowledge, well established reputation, significant market
presence and resources. Our
insurance companies are licensed in 28 states and during 2004 have written
business in 17 of these states. We
are the largest provider of medical professional liability insurance in Florida,
and an insurance company we manage is the second largest provider of medical
professional liability insurance in New York. New York is the largest market for
MPL insurance in the United States based on premium volume, and Florida is the
third largest market.





We
c onduct
our business through three segments:


Our *insurance
segment* provides MPL insurance products and related risk management services for
physicians, dentists, and other healthcare providers in Florida and selected
other states through our insurance subsidiaries. These subsidiaries issue
policies, bear the associated risks and earn income on the related investment
assets. Through this segment, FPIC is the leading carrier for MPL insurance in
Florida. The following subsidiaries are included in the insurance segment:





·
    FPIC
      subsidiaries (The holding company is also grouped within the insurance
      segment):


·
    First
      Professionals, a wholly owned subsidiary of
FPIC


·
    The
      Tenere Group, Inc. (“Tenere”), a wholly owned subsidiary of First
      Professionals


·
    Intermed
      Insurance Company (“Intermed”), a wholly owned subsidiary of
      Tenere


·
    Interlex
      Insurance Company (“Interlex”), a wholly owned subsidiary of
      Intermed


·
    Insurance
      Services, Inc., a wholly owned subsidiary of
Intermed


·
    Trout
      Insurance Services, Inc., a wholly owned subsidiary of
      Intermed


·
    Anesthesiologists
      Professional Assurance Company (“APAC”), a wholly owned subsidiary of
      FPIC


·
    FPIC
      Insurance Agency, Inc. (“FPIC Agency”), a wholly owned subsidiary of
      FPIC





F-8
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


Our *insurance
management segment* provides comprehensive management services to two insurance carriers, the
largest being Physicians’ Reciprocal Insurers (“PRI”). We do not own PRI;
rather, it is owned by and operated for the benefit of its policyholders. PRI
provides medical professional liability insurance in New York. PRI has no
employees and has been under management of our insurance management subsidiary
since its formation. Pursuant to our management agreement with PRI, we receive
fees and expense reimbursements, but we do not bear the associated insurance
risks.




*New
Subsidiary*


Effective
July 1, 2004, operations of Administrators For The Professions, Inc.’s (“AFP”)
wholly owned subsidiary, Physicians Reciprocal Managers, Inc. (“PRM”), commenced
as the administrator and attorney-in-fact of Pennsylvania Physicians’ Reciprocal
Insurers (“PaPRI”). PaPRI is an insurance exchange domiciled in Pennsylvania. It
was formed to take the place of the unrelated fronting carrier that previously
had underwritten, and ceded as reinsurance to PRI, medical professional
liability insurance program business in Pennsylvania. PaPRI commenced
underwriting the Pennsylvania program business effective July 1, 2004. PaPRI is
not a subsidiary of PRM, AFP or FPIC. As an insurance exchange, the organization
of PaPRI is similar to that of a mutual insurance company. PaPRI is also not a
subsidiary of PRI, but received its initial capitalization in the form of a
subordinated surplus note from PRI. For additional information about PRM and
PaPRI, refer to Note 18, Related Party Transactions.




The
following subsidiaries are included in the insurance management segment:





·
    FPIC
      subsidiaries:


·
    AFP,
      a wholly owned subsidiary of FPIC


·
    FPIC
      Intermediaries, Inc. (“FPIC Intermediaries”), a wholly owned subsidiary of
      AFP


·
    Group
      Data Corporation, a wholly owned subsidiary of
AFP


·
    PRM,
      a wholly owned subsidiary of AFP


·
    Professional
      Medical Administrators, LLC (“PMA”) (80% owned by
FPIC)





Our *third
party administration (“TPA”) segment* provides administrative and claims management services to municipalities and
other employers primarily in Florida that maintain group accident and health,
workers’ compensation, liability and property self insurance plans. The
following subsidiaries are included in the TPA segment:




·
    FPIC
      subsidiaries:


·
    EMI,
      a wholly owned subsidiary of FPIC


·
    Professional
      Strategy Options, Inc., a wholly owned subsidiary of
EMI


·
    FPIC
      Services, Inc., a wholly owned subsidiary of
EMI





Through
our insurance and insurance management segments, we operate in the medical
professional liability insurance line as both an insurance carrier, which bears
underwriting risks, and as an insurance management company, which earns fees for
services.





F-9
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
main sources of revenue for FPIC are dividends, return of capital and management
fees from our subsidiaries. The main sources of revenue for the subsidiaries are
premiums earned and investment income (insurance segment) and claims
administration and management fees and commission income (insurance management
and TPA segments).





Risks
inherent in FPIC’s operations include legal/regulatory risk, credit risk,
underwriting risk and market risk. These risks are discussed below.





*Legal/Regulatory
Risk* is the risk that changes in the legal or regulatory environment in which FPIC
operates will change and reduce revenues or create additional costs or expenses
not anticipated in pricing our products. That is, regulatory initiatives
designed to reduce FPIC’s profits or new legal theories may reduce revenues or
create costs for FPIC as compared with those currently reflected in the
consolidated financial statements. This risk is concentrated in Florida,
Missouri and New York, where FPIC has written or assumed most of the insurance
and reinsurance business we have retained for our own account.





*Credit
Risk* is the risk that issuers of securities owned by FPIC will default, or other
parties, primarily our insureds and reinsurers that owe FPIC money, will not
pay. Financial instruments that potentially expose FPIC to concentrations of
credit risk consist of fixed maturity investments, premiums receivable, deposits
with reinsurers, and assets carried for reinsurance recoverable related to
unpaid losses and loss adjustment expenses (“LAE”) and unearned premiums.
Reinsurers that are neither authorized nor accredited by applicable state
insurance departments (“unauthorized reinsurers”) are required to provide
collateral in the form of an irrevocable letter of credit or investment
securities held in a trust account to collateralize their respective balances
due to FPIC.





*Underwriting
Risk* is the risk that actual ultimate losses are higher than the losses we have
estimated in our decisions regarding pricing and selecting of insured risks.
Such criteria are generally based upon the expected loss experience for
particular types, classes and geographic locations of the insured risks. Unlike
other businesses, we must price and sell our insurance policies before the
actual loss costs associated with those policies are known. Therefore, to the
extent the actual insurance-related results of an insurer, before consideration
of investment income, fail to correspond with the related pricing and/or
selection criteria, an underwriting gain or loss occurs.





*Market
Risk* is the risk that a change in interest rates will cause a decrease in the value
of FPIC’s investments or other assets whose recoverability may be sensitive to
changes in interest rates. To the extent that liabilities come due more quickly
than assets mature, we would have to sell assets prior to maturity and recognize
a gain or loss.







**2.
Significant Accounting Policies**




*Basis
of Presentation* .
Our consolidated financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America
(“GAAP”). These financial statements include the accounts of FPIC and all of our
wholly owned and majority owned subsidiaries. Intercompany transactions and
balances have been eliminated in consolidation.





*Use
of Estimates* .
In preparing our consolidated financial statements, we are required to make
estimates that affect the reported amounts of assets and liabilities, disclosure
of contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual amounts could differ from such estimates.







F-10


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as
noted)


**


**


*Cash
and Cash Equivalents* .
Cash and cash equivalents include all demand deposits, overnight investments and
other liquid instruments with an original maturity of three months or less when
acquired.





*Investments* .
All of our investments in fixed maturities, which are comprised of debt
securities, are classified as available-for-sale and reported at estimated fair
values on the consolidated statements of financial position, with the change in
fair values during the period excluded from earnings and recorded, net of tax,
as a component of other comprehensive income. Fair values for debt securities
are based on quoted market prices.





Other
invested assets include real estate investments, which consist of a building, a
condominium unit and developed land. These investments are carried at cost less
accumulated depreciation. Depreciation is computed over the estimated useful
lives of the property (exclusive of land, which is non-depreciable), using the
straight-line method. Estimated useful lives range from twenty-seven to
thirty-nine years. Rental income and expenses are included in net investment
income. Other invested assets also include certain investments in non-public
entities whose carrying values approximate their fair values.





Income
on investments includes the amortization of premium and accretion of discount
computed using the interest method relating to debt securities acquired at other
than par value. Realized investment gains and losses are determined on the basis
of specific identification. Declines in the fair value of investment securities
considered to be other than temporary, if any, are recorded as realized losses
in the consolidated statements of income.





We
consider whether our real estate investments have been impaired and assess
whether significant events or changes in business circumstances indicate that
the carrying value of the assets may not be recoverable. An impairment loss is
recognized when the carrying amount of an asset exceeds the anticipated future
undiscounted cash flows expected to result from the use of the asset and its
eventual disposition. The amount of the impairment loss to be recorded, if any,
is calculated by the excess of the assets carrying value over its fair
value.





*Reinsurance* .
Net premiums written, net premiums earned, losses and LAE and underwriting
expenses are reported in the consolidated statements of income net of the
amounts for reinsurance ceded to other companies. Amounts recoverable from
reinsurers including those related to the portions of the liability for losses
and LAE and unearned premiums ceded to them are reported as assets in the
consolidated statements of financial position. Reinsurance recoverables related
to unpaid losses and LAE are estimated in a manner consistent with the claim
liabilities associated with the reinsured policies. Reinsurance assumed from
other companies including assumed premiums written and earned, losses and LAE
and underwriting expenses (principally ceding commissions) is accounted for in
the same manner as direct insurance written.





*Deferred
Policy Acquisition Costs* .
Deferred policy acquisition costs consist primarily of commissions and premium
taxes, which are primarily related to the production of new and renewal
insurance business. Acquisition costs are deferred and amortized over the period
in which the related premium is earned. Deferred policy acquisition costs are
reviewed to determine if they are recoverable from future income, including
investment income. If such costs are estimated to be unrecoverable, they are
expensed. Commissions and brokerage fee expenses incurred by FPIC’s
non-insurance businesses are expensed as incurred.





F-11
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


*Income
Taxes* .
FPIC recognizes current and deferred income tax expense, which is comprised of
estimated provisions for Federal and state income taxes. Deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
temporary differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases and operating
loss and tax credit carry forwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment date. A
valuation allowance against deferred tax assets is recorded if it is more likely
than not that all or some portion of the benefits related to the deferred tax
assets will not be realized. We have not established a valuation allowance
because we believe it is more likely than not that our deferred tax assets will
be fully realized.





*Goodwill* .
FPIC has made acquisitions in the past that have included goodwill. Effective
January 1, 2002, we adopted Statement of Financial Accounting Standard No.
("FAS") 142, “Goodwill and Other Intangible Assets.” In accordance with FAS
142, goodwill and indefinite lived intangible assets are no longer amortized.
Instead, they are subject to an annual (or under certain circumstances more
frequent) impairment tests based on their estimated fair value. Other intangible
assets that meet certain criteria continue to be amortized over their useful
lives and are also subject to an impairment test based on estimated fair value.
During the first quarter 2002, we recorded a transitional impairment charge of
$29,578, net of an $18,784 income tax benefit, as the cumulative effect of
accounting change.





*Revenue
Recognition* .
Premiums are earned and recognized as revenues on a pro rata basis over the
terms of our insurance policies. Policy terms do not exceed one year. Unearned
premiums represent the portion of written premiums that remain to be earned in
future periods. Premiums received in advance of the policy year are recorded as
premiums collected in advance in the consolidated statements of financial
position.





Claims
administration and management fee income is comprised of revenues of the
insurance management and TPA segments. Management fees of the insurance
management segment are billed and recognized under the contract based on a
percentage of PRI’s direct written premiums for the calendar year. Such
management fees are estimated, billed and recognized for quarterly reporting
purposes based upon estimates of the direct written premiums of PRI for the
year. Claims administration and management fees of the TPA segment are subject
to contractual arrangements, some of which exceed one year. These revenues are
billed and recognized commensurate with the terms of these contracts, which
generally correspond with the provision of services to customers.





Commission
income for both non-insurance segments is associated with the placement of
insurance and reinsurance with outside carriers on behalf of PRI, various TPA
customers and in some cases, FPIC, where commissions or brokerage fees related
to a transaction are payable by the reinsurer. Commissions and brokerage fees
are recognized as revenues as of the later of the billing or the effective date
of the insurance or reinsurance placed.





*Losses
and Loss Adjustment Expenses* .
The liability for losses and LAE is based upon our best estimate of the unpaid
cost of settling the claims (including the effects of inflation and other
societal and economic factors). Amounts attributable to ceded reinsurance based
on the recorded liability for loss and LAE are classified as assets in the
consolidated statements of financial position. The estimated costs of settling
claims are generally based upon past experience adjusted for current trends, and
any other factors that would modify past experience. These liabilities are not
discounted.







F-12


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)








We
utilize actuarial techniques to estimate the liability for losses and LAE,
including provisions for estimated future development or changes in our
individual case reserves and losses and LAE that have been incurred but not
reported to us (“IBNR”), where applicable. These techniques consist of a
statistical analysis of historical experience by line of business, grouping
contracts with like characteristics and policy provisions. Decisions to use
particular actuarial methods and the results obtained from those methods are
evaluated by considering the inherent assumptions underlying the methods and the
appropriateness of the methods and assumptions to the circumstances. No single
projection method is inherently better than any other in all circumstances. We
apply multiple methods in determining our reserve estimates and consider these
along with additional considerations and assumptions in arriving at our best
estimate.





FPIC
also has direct and assumed liabilities associated with covered extended
reporting endorsements under claims-made MPL policy forms, which provide, at no
additional charge, continuing MPL coverage for claims-made insureds in the event
of death, disability or retirement (“DD&R reserves”). These DD&R
reserves, which possess elements of both loss reserves and pension-type
liabilities, are carried within unearned premiums and are estimated using
assumptions for mortality, morbidity, retirement, interest and
inflation.





The
liabilities for losses and LAE, DD&R reserves, and the related estimation
methods are periodically reviewed and revised to reflect current conditions and
trends. The resulting adjustments are reflected in current year net income.
While management believes the liabilities for losses and LAE are adequate to
cover the ultimate liability, the actual ultimate loss costs may vary from the
amounts presently estimated and such differences could be material.





*Per
Share Data* .
Basic earnings per share are calculated by dividing net income by the weighted
average number of common shares outstanding during the year. Diluted earnings
per common share are calculated using the weighted average combination of
dilutive common share equivalents and common shares outstanding during the
period.





*Commitments
and Contingencies* .
Liabilities for loss contingencies arising from claims, assessments, litigation,
fines and penalties and other sources are recorded when it is probable that a
liability has been incurred and the amount of the assessment and/or remediation
can be reasonably estimated.





*Interest
Rate Collars and Swaps* .
We account for our interest rate collars and swaps in accordance with FAS 133,
“Accounting for Derivative Instruments and Hedging Activities” as amended by FAS
138, “Accounting for Certain Derivative Instruments and Certain Hedging
Activities” and FAS 149, “Amendment of Statement 133 on Derivative Instruments
and Hedging Activities.” FPIC uses derivative financial instruments to manage
market risks related to the effects of changes in interest rates on its floating
rate long-term debt. The cost of these contracts is being amortized over their
respective maturities. In addition, the remaining balances are adjusted and
carried at their estimated fair values, with the changes therein reported as
unrealized gains or losses in other comprehensive income (loss). The
differential, if any, to be paid or received as interest rates change is accrued
and recognized as an adjustment to interest expense related to the debt. The
related amount payable to or receivable from the counterparties is included
as adjustments to accrued interest. See Note 10, Derivative Financial
Instruments, for additional information related to the interest rate collars and
swaps. FPIC does not currently hold and has not issued any other derivative
financial instruments.





F-13
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


*Variable
Interest Entities.*  ** PaPRI,
the Pennsylvania insurance exchange managed by our subsidiary, PRM, is a
variable interest entity as defined by Revised Financial Accounting Standards
Board (“FASB”) Interpretation No. FIN 46(R) (“FIN 46(R)”). PRI, the New York
reciprocal insurer managed by our insurance management subsidiary, AFP, has a
variable interest in and is the primary beneficiary of PaPRI. PRI is the primary
beneficiary of PaPRI due to its provision of subordinated financial support, its
role as assuming reinsurer of 100% of PaPRI’s insured risks (and related
residual income or losses), and its control of the PaPRI board of directors. PRI
is a related party of FPIC, which under FIN 46(R) results in the assumption that
PRI’s variable interest in PaPRI is also ascribed to us. However, we do not
consolidate PaPRI’s financial statements with ours because we are not the
primary beneficiary nor do we hold a controlling interest in it. Our
subsidiaries PMA and PRM provide insurance brokerage and management services to
PaPRI in exchange for commission and fee income. PRI is not a variable interest
entity and thus we do not consolidate its financial statements
either.





*Accounting
for Share-Based Compensation* .
In December 2002, the FASB issued FAS 148, “Accounting for Stock-Based
Compensation, Transition and Disclosure” to provide transition guidance for a
voluntary change to the fair value based method of accounting for stock-based
employee compensation and to amend the disclosure requirements of FAS 123
“Accounting for Stock-Based Compensation” for both annual and interim financial
statements. FAS 148 requires that disclosures of the pro forma effect of using
the fair value method of accounting for stock-based employee compensation be
displayed more prominently and in a tabular format. The transition and annual
disclosure requirements of FAS 148 were effective for fiscal years ended after
December 15, 2002. The interim disclosure requirements of FAS 148 are effective
for interim periods beginning after December 15, 2002. The adoption of the
provisions of FAS 148 did not have an impact on FPIC’s consolidated financial
statements; however, we have modified the disclosures as provided for in the new
standard.





FPIC
elected to adopt FAS 123 on a disclosure basis only and measure stock-based
compensation in accordance with Accounting Principles Board No. (“APB”) 25,
“Accounting for Stock Issued to Employees,” using intrinsic values with
appropriate disclosures under the fair value based method as required by FAS 123
and FAS 148. In accordance with APB 25 and related interpretations, compensation
expense for stock options is recognized in income based on the excess, if any,
of the quoted market price of the stock at the grant date of the award or other
measurement date over the amount an employee must pay to acquire the stock.
Generally, the exercise price for stock options granted to an employee equals
the fair market value of FPIC common stock at the date of grant, thereby
resulting in no recognition of compensation expense. For awards that generate
compensation expense as defined under APB 25, FPIC calculates the amount of
compensation expense and recognizes the expense over the vesting period of the
award.





F-14
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


Had
compensation cost for FPIC’s stock option plans been determined based on the
fair value method set forth in FAS 123, FPIC’s net income (loss) and basic and
diluted earnings (loss) per common share would have been impacted as follows for
the years ended December 31, 2004, 2003 and 2002:




**2004**
    
    **2003**
    
    **2002***Pro
      Forma Net Income (Loss):*Net
      income (loss), as reported
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )Stock-based
      compensation expense determined under fair value based method, net of
      income taxes
    
    
    (1,231
    )
    
    (1,060
    )
    
    (1,053
    )Pro
      forma net income (loss)
    
    $
    26,950
    
    
    15,512
    
    
    (15,755
    )*Basic
      Earnings (Loss) Per Common Share:*Net
      income (loss), as reported
    
    $
    2.83
    
    
    1.75
    
    
    (1.57
    )Stock-based
      compensation expense determined under fair value based method, net of
      income taxes
    
    
    (0.12
    )
    
    (0.11
    )
    
    (0.11
    )Pro
      forma basic earnings (loss) per common share
    
    $
    2.71
    
    
    1.64
    
    
    (1.68
    )**
    **
    **
    **
    **
    **
    **
    **
    **
    ***Diluted
      Earnings (Loss) Per Common Share:*Net
      income (loss), as reported
    
    $
    2.70
    
    
    1.71
    
    
    (1.56
    )Stock-based
      compensation expense determined under fair value based method, net of
      income taxes
    
    
    (0.12
    )
    
    (0.11
    )
    
    (0.11
    )Pro
      forma diluted earnings (loss) per common share
    
    $
    2.58
    
    
    1.60
    
    
    (1.67
    )


See
Note 12, Stock Options and Employee Stock Purchase Plans, for discussion about
the methods and assumptions used in estimating the fair value of stock options
used in preparation of the pro-forma information presented in the above tabular
presentation.





*New
Accounting Pronouncements.*


In
December 2004, the Financial Accounting Standards Board issued FAS 123(R),
“Share−Based Payment,” which establishes standards for transactions in which an
entity exchanges its equity instruments for goods or services. FAS 123(R)
requires stock options and other share−based payments made to employees to be
accounted for as compensation expense and recorded at fair value. Consistent
with the provisions of the new standard, we intend to adopt FAS 123(R) in the
third quarter of 2005, and to implement it on a modified prospective basis.
Information about the fair value of stock options under the Black−Scholes model
and its pro forma impact on our net income and earnings per share for the years
ended December 31, 2004, 2003 and 2002 is shown above in the section
*Accounting for Share-Based Compensation*. However, a number of technical
implementation issues are yet to be resolved, including the selection and use of
an appropriate valuation model, and the ultimate impact of adopting FAS 123(R)
is not yet known.





During
2004, the Emerging Issues Task Force (“EITF”) of the Financial Accounting
Standards Board reached a consensus with respect to guidance to be used in
determining whether an investment within the scope of EITF Issue No. 03-1, “The
Meaning of Other-Than-Temporary Impairment and Its Application to Certain
Investments”, is other-than-temporarily impaired. The guidance was to be
applied in other-than-temporary impairment evaluations made in reporting periods
beginning after June 15, 2004, however, in October 2004 the implementation date
was deferred. Due to the uncertainty as to how all of the relevant outstanding
issues will be resolved, FPIC is unable to determine the impact of adopting
paragraphs 10-20 of EITF 03-1 until final implementation guidance is issued.





*Reclassification* .
Certain amounts for 2003 and 2002 have been reclassified to conform with the
2004 presentation.







F-15


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)


****


**3.
Investments**




The
amortized cost and estimated fair value of investments in fixed maturities,
available for sale, as of December 31, 2004 and 2003 were as
follows:




**2004**
    
    **Amortized
      Cost**
    
    **Gross
      Unrealized Gains**
    
    **Gross
      Unrealized Losses**
    
    **Fair
      Value**Corporate
      securities
    
    $
    131,128
    
    
    1,755
    
    
    942
    
    
    131,941U.S.
      Government agencies and authorities
    
    
    80,512
    
    
    1,354
    
    
    610
    
    
    81,256States,
      municipalities and political subdivisions
    
    
    251,274
    
    
    4,052
    
    
    1,080
    
    
    254,246Mortgage-backed
      securities
    
    
    81,382
    
    
    201
    
    
    483
    
    
    81,100Total
      fixed maturities, available for sale
    
    $
    544,296
    
    
    7,362
    
    
    3,115
    
    
    548,543**2003**
    
    
    **Amortized
      Cost**
    
    
    **Gross
      Unrealized Gains**
    
    
    **Gross
      Unrealized Losses**
    
    
    **Fair
      Value**Corporate
      securities
    
    $
    154,533
    
    
    3,305
    
    
    1,159
    
    
    156,679U.S.
      Government agencies and authorities
    
    
    147,531
    
    
    2,291
    
    
    1,058
    
    
    148,764States,
      municipalities and political subdivisions
    
    
    108,719
    
    
    2,714
    
    
    284
    
    
    111,149Mortgage-backed
      securities
    
    
    111,369
    
    
    1,142
    
    
    456
    
    
    112,055Total
      fixed maturities, available for sale
    
    $
    522,152
    
    
    9,452
    
    
    2,957
    
    
    528,647


The
amortized cost and estimated fair value of fixed maturities, available for sale,
at December 31, 2004 by contractual maturity are shown below. Expected
maturities will differ from contractual maturities, because borrowers have the
right to call or prepay these obligations with or without call or prepayment
penalties.




**Amortized
      Cost**
    
    **Fair
      Value**Due
      in one year or less
    
    $
    11,819
    
    
    11,992Due
      after one year through five years
    
    
    132,774
    
    
    133,409Due
      after five years through ten years
    
    
    249,854
    
    
    252,196Due
      after ten years
    
    
    68,467
    
    
    69,846462,914
    
    
    467,443Mortgage-backed
      securities
    
    
    81,382
    
    
    81,100Total
      fixed maturities, available for sale
    
    $
    544,296
    
    
    548,543
  F-16


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)





As
of December 31, 2004, investments in securities and cash with an amortized cost
of $15,364 and a market value of $15,940 were on deposit with the insurance
departments in various states as required by law. Investment securities and cash
with an amortized cost of $108,941 and a market value of $110,415 were held in
trust accounts as collateral for reinsurance assumed as required by law in
certain states in which we assume insurance business.




Net
investment income for the years ended December 31, 2004, 2003 and 2002 was as
follows:




**2004**
    
    **2003**
    
    **2002**Fixed
      maturities, available for sale
    
    $
    21,099
    
    
    19,083
    
    
    20,714Other
      invested assets
    
    
    533
    
    
    669
    
    
    636Cash
      and cash equivalents
    
    
    849
    
    
    613
    
    
    1,22122,481
    
    
    20,365
    
    
    22,571Less:
      Investment expense
    
    
    (1,722
    )
    
    (1,951
    )
    
    (1,594
    )Net
      investment income
    
    $
    20,759
    
    
    18,414
    
    
    20,977


Realized
investment gains (losses) for the years ended December 31, 2004, 2003 and 2002
are summarized below:




**2004**
    
    **2003**
    
    **2002***Fixed
      Maturities, Available for Sale:*Gross
      realized gains
    
    $
    6,042
    
    
    11,211
    
    
    8,769Gross
      realized losses
    
    
    (3,522
    )
    
    (4,059
    )
    
    (4,092
    )*Other
      Invested Assets:*Gross
      realized gains
    
    
    2,134
    
    
    201
    
    
    37Gross
      realized losses
    
    
    —
    
    
    —
    
    
    (26
    )Other-than-temporary
      impairments
    
    
    (787
    )
    
    (5,301
    )
    
    —Net
      realized investment gains
    
    $
    3,867
    
    
    2,052
    
    
    4,688


Other
invested assets as of December 31, 2004 and 2003 are summarized
below:




**2004**
    
    **2003**Real
      estate, net of depreciation
    
    $
    4,035
    
    
    4,207Investments
      in limited partnerships
    
    
    2,057
    
    
    2,904Other
    
    
    1,083
    
    
    1,879Total
      other invested assets
    
    $
    7,175
    
    
    8,990





Total
depreciation expense on real estate investments was $298, $277 and $286 in 2004,
2003 and 2002, respectively.




F-17


FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


****


****


**4.
Deferred Policy Acquisition Costs**




Changes
in deferred policy acquisition costs for the years ended December 31, 2004, 2003
and 2002 were as follows:




**2004**
    
    **2003**
    
    **2002**Beginning
      balance
    
    $
    6,209
    
    
    4,452
    
    
    9,001Additions
    
    
    13,488
    
    
    7,765
    
    
    6,707Amortization
      expense
    
    
    (8,417
    )
    
    (6,008
    )
    
    (9,952
    )Other
    
    
    —
    
    
    —
    
    
    (1,304
    )Ending
      balance
    
    $
    11,280
    
    
    6,209
    
    
    4,452


During
2002, we recorded a charge related to our MPL business at Intermed, as it was
estimated that not all of its deferred policy acquisition costs were
recoverable. As a result, deferred policy acquisition costs were reduced by
$1,304 in 2002.




**5.
Goodwill**




The
changes in the carrying amount of goodwill for the years ended December 31,
2004, 2003 and 2002 are as follows:


**2004**
    
    **2003**
    
    **2002**Beginning
      balance
    
    $
    18,870
    
    
    18,870
    
    
    67,232Transitional
      impairment charge under FAS 142
    
    
    —
    
    
    —
    
    
    (48,362
    )Ending
      balance
    
    $
    18,870
    
    
    18,870
    
    
    18,870


FPIC
adopted FAS 142 effective January 1, 2002. In connection with the adoption in
the first quarter of 2002, FPIC discontinued the amortization of goodwill and
engaged independent valuation consultants to perform transitional impairment
tests at each of its operating segments: insurance, insurance management and
TPA. These operating segments meet the reporting unit requirements as defined by
FAS 142.




The
fair values for each of the reporting units were calculated using one or more of
the following approaches: (i) market multiple approach; (ii) discounted cash
flow (“DCF”) approach; and/or (iii) asset approach.




·
    Under
      the market multiple approach, the values of the reporting units were based
      on the market prices and performance fundamentals of similar public
      companies.




·
    Under
      the DCF approach, the values of the reporting units were based on the
      present value of the projected future cash flows to be
      generated.




·
    Under
      the asset approach, the value of a reporting unit is the difference in the
      fair value of total assets and the fair value of total liabilities. The
      fair value of each asset and liability may in turn be estimated using an
      income approach, market approach or cost
approach.






F-18





FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




Based
on the results of the impairment tests conducted in the first quarter of 2002,
goodwill was not deemed to be impaired at the insurance segment, since the fair
value of the reporting unit exceeded its carrying value. Therefore, the second
step of the goodwill impairment test was not performed. However, the carrying
values of the insurance management and TPA segments exceeded their respective
fair values, indicating an impairment of goodwill. Under step 2 of the test, the
implied fair values of the insurance management and TPA goodwill were compared
to their carrying values to measure the amount of impairment loss. As a result,
a non-cash transitional impairment charge of $48,362 ($29,578, after an income
tax benefit of $18,784) was recognized and recorded as a cumulative effect of
accounting change in the accompanying consolidated statements of income (loss)
for the year ended December 31, 2002. The results of the transitional impairment
tests and charges were as follows:




**Insurance**
    
    **Third
      Party****Insurance**
    
    **Management**
    
    **Administration**
    
    **Total**Balance
      as of December 31, 2001
    
    $
    10,833
    
    
    49,140
    
    
    7,259
    
    
    67,232Impairment
      charge
    
    
    —
    
    
    (41,103
    )
    
    (7,259
    )
    
    (48,362
    )Balance
      as of December 31, 2002
    
    $
    10,833
    
    
    8,037
    
    
    —
    
    
    18,870


The
transitional impairment charge at the insurance management segment primarily
reflects certain intangibles and synergies, which, in our opinion, are
opportunistic in nature and carry a relatively significant degree of
uncertainty; therefore, we treated these intangibles conservatively in the
valuation required by FAS 142. The transitional impairment charge at the TPA
segment primarily reflects changes in market conditions and an increase in
competition in recent years in the markets served by FPIC’s TPA
segment.





The
following table provides comparative disclosures of net income excluding the
cumulative effect of accounting change, net of taxes, for 2004, 2003 and
2002.




**2004**
    
    **2003**
    
    **2002***Net
      Income (Loss):*Net
      income (loss), as reported
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    29,578Net
      income, comparative
    
    $
    28,181
    
    
    16,572
    
    
    14,876**
    **
    **
    **
    **
    **
    **
    **
    **
    ***Basic
      Earnings (Loss) Per Common Share:*Net
      income (loss), as reported
    
    $
    2.83
    
    
    1.75
    
    
    (1.57
    )Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    3.15Basic
      earnings per common share, comparative
    
    $
    2.83
    
    
    1.75
    
    
    1.58*Diluted
      Earnings (Loss) Per Common Share:*Net
      income (loss), as reported
    
    $
    2.70
    
    
    1.71
    
    
    (1.56
    )Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    3.14Diluted
      earnings per common share, comparative
    
    $
    2.70
    
    
    1.71
    
    
    1.58
   F-19


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)





As
required by FAS 142, we completed annual impairment testing of our remaining
goodwill as of December 31, 2004 and 2003 during the first quarters of 2005 and
2004, respectively, including obtaining reports from independent valuation
consultants. Based on the results of such testing, we determined that the fair
value of the goodwill exceeded the carrying value and that no impairment
exists.




**6.
Income Taxes**




FPIC’s
provision for income taxes for the years ended December 31, 2004, 2003 and 2002
consisted of the following:




**2004**
    
    **2003**
    
    **2002***Current
      Expense:*Federal
    
    $
    13,178
    
    
    7,538
    
    
    6,605State
    
    
    3,406
    
    
    1,394
    
    
    1,385Total
    
    
    16,584
    
    
    8,932
    
    
    7,990*Deferred
      Expense:*Federal
    
    
    120
    
    
    (11
    )
    
    767State
    
    
    237
    
    
    396
    
    
    77Total
    
    
    357
    
    
    385
    
    
    844Net
      income tax expense
    
    $
    16,941
    
    
    9,317
    
    
    8,834


The
provision for income taxes differs from the statutory corporate tax rate of 35%
for the years ended December 31, 2004, 2003 and 2002 as follows:




**2004**
    
    **2003**
    
    **2002**Computed
      "expected" tax expense
    
    $
    15,793
    
    
    9,061
    
    
    8,298Municipal
      bond interest
    
    
    (2,206
    )
    
    (1,130
    )
    
    (1,309
    )State
      income taxes, net of Federal benefit
    
    
    2,368
    
    
    1,164
    
    
    950Prior
      year adjustments upon IRS examination
    
    
    750
    
    
    —
    
    
    544Other,
      net
    
    
    236
    
    
    222
    
    
    351Actual
      income tax expense
    
    $
    16,941
    
    
    9,317
    
    
    8,834




F-20
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


At
December 31, 2004 and 2003, the significant components of the net deferred tax
asset were as follows:




**2004**
    
    **2003***Deferred
      Tax Assets Arising From:*Loss
      reserve discounting
    
    $
    12,746
    
    
    12,252Goodwill
      and intangible assets
    
    
    12,163
    
    
    14,321Unearned
      premiums
    
    
    10,477
    
    
    7,558Realized
      loss on securities
    
    
    2,075
    
    
    1,751Net
      operating loss carry forward
    
    
    1,776
    
    
    2,149Benefit
      plans
    
    
    1,461
    
    
    1,096Deferred
      ceding commission
    
    
    481
    
    
    1,206Other
    
    
    1,610
    
    
    358Total
      deferred tax assets
    
    
    42,789
    
    
    40,691**
    **
    **
    **
    **
    **
    ***Deferred
      Tax Liabilities Arising From:*Deferred
      policy acquisition costs
    
    
    4,335
    
    
    2,464Unrealized
      gains on securities
    
    
    1,992
    
    
    2,470Other
    
    
    826
    
    
    938Total
      deferred tax liabilities
    
    
    7,153
    
    
    5,872Net
      deferred tax asset
    
    $
    35,636
    
    
    34,819


Net
deferred tax assets and Federal income tax expense in future years can be
significantly affected by changes in enacted tax rates or by unexpected adverse
events that would influence management’s conclusions as to the ultimate
realizability of deferred tax assets.




FPIC
has remaining net operating loss carry forwards of approximately $5,075 as of
December 31, 2004 that may be used to offset taxable income in future years
subject to an annual limitation imposed by the Internal Revenue Code. These net
operating loss carry forwards expire in the years 2018 and 2019.




FPIC
is currently undergoing an audit of its tax returns by the Internal Revenue
Service (“IRS”) for the years ended December 31, 2000 and 2001. Management
believes that its positions on issues raised in the examination thus far are
meritorious and that its current and deferred tax amounts are appropriate.
However, there can be no assurance that additional tax adjustments and related
penalties and interest will not be proposed and incurred as a result of an IRS
examination.




During
2002, FPIC concluded examinations by the IRS of its consolidated Federal income
tax returns for the years ended December 31, 1998 and 1999. As a result of these
examinations, a net additional provision for income taxes was recognized in the
amount of $554.






F-21





FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




**7.
Liability for Losses and LAE**




Activity
in the liability for losses and LAE for the years ended December 31, 2004, 2003
and 2002 was as follows:




**2004**
    
    **2003**
    
    **2002**Gross
      balance, January 1
    
    $
    574,529
    
    
    440,166
    
    
    318,483Less
      reinsurance recoverables
    
    
    275,766
    
    
    168,159
    
    
    80,410Net
      balance, January 1
    
    
    298,763
    
    
    272,007
    
    
    238,073*Incurred
      Related To:*Current
      year
    
    
    124,699
    
    
    118,492
    
    
    137,155Prior
      years
    
    
    473
    
    
    482
    
    
    2,416Total
      incurred
    
    
    125,172
    
    
    118,974
    
    
    139,571*Paid
      Related To:*Current
      year
    
    
    16,517
    
    
    13,455
    
    
    9,130Prior
      years
    
    
    105,719
    
    
    101,989
    
    
    96,507Total
      paid
    
    
    122,236
    
    
    115,444
    
    
    105,637Gerling
      commutation
    
    
    —
    
    
    23,226
    
    
    —Net
      balance, December 31
    
    
    301,699
    
    
    298,763
    
    
    272,007Plus
      reinsurance recoverables
    
    
    333,419
    
    
    275,766
    
    
    168,159Gross
      balance, December 31
    
    $
    635,118
    
    
    574,529
    
    
    440,166


*Incurred
Related to Current Year*


Our
best estimate of reserves for the 2004 year has been determined using historical
trends with adjustments added to provide for uncertainties inherent in the
claims environment in Florida, including those resulting from significant tort
reform initiatives passed by the legislature in 2003 and three constitutional
amendments passed by popular initiative in 2004. Because of the uncertainty
created by these changes, we believe that booking a more conservative provision
in the current year is prudent.




*Incurred
Related to Prior Years*


FPIC’s
aggregate loss and LAE reserve estimates reported for years 2003 and prior have
not increased significantly, as a group, in 2004. FPIC adopted a new harder
claims payment philosophy beginning in 2001. The new claims philosophy, which is
now approaching its fourth full year, has had the effect so far of reducing
FPIC’s overall loss costs relative to its former claims philosophy. It has also
had the effect of changing FPIC’s loss development patterns thereby introducing
an additional element of uncertainty into the provisions for the individual
prior years. We believe that it is best to treat this element of uncertainty
conservatively and thus, have not reduced our prior year reserves, in
aggregate, but have increased the provisions in some years and reduced them in
others. As further commented upon below, as of December 31, 2004, we have
increased our aggregate loss and LAE reserves, net of reinsurance, for the years
ended December 31, 2001 and prior as originally reported by $35,174 and
have reduced our reserves for claims related to the years ended December 31,
2002 and 2003 by $18,988 and $15,713, respectively.




F-22
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


In
2003, we increased our net reserves for the years 1999 through 2001 primarily in
recognition of higher severity than initially assumed, particularly in Missouri.
As of December 31, 2004, we increased our net allocated loss adjustment
expense (“ALAE”) reserves across all years since 1999, which resulted
in additional upward development in reserves for years 1999 through 2001.
The higher ALAE reserves are the result of our harder claims philosophy,
under which we began taking more cases to trial in 2001. We also experienced
some upward development in loss experience on corporate policy endorsements and
on business in non-core states and increased our 2000 and 2001 reserves.




Despite
higher ALAE and other upward development for years 1999, 2000 and 2001, our loss
experience and outlook overall has improved significantly in the most recent
years. Improvements in our loss experience resulting from claims and
underwriting initiatives we’ve implemented since 2001 have to date essentially
met or exceeded our estimates for years since 2002. Accordingly, the upward
development in 1999 through 2001 net reserves has been substantially offset by
downward development in reserves for years 2002 and 2003 resulting in
relatively immaterial net development, for all years prior to 2004
combined.




Given
the proximity and status of the years 2000 through 2002, in particular, relative
to the timing of the initiation of our harder claims payment philosophy and the
implementation of initiatives to control increasing ALAE expenditures attendant
to executing that philosophy, it is still reasonably possible that the remaining
reserves for these years, in particular, may experience upward or downward
development in the future.




As
a result of the commutation of our ceded reinsurance to Gerling Global
Reinsurance Corporation of America (“Gerling”) during 2003, we now retain the
corresponding insured risks and losses and LAE we formerly ceded. We received
$23,226 in exchange for the release of Gerling from its reinsurance
obligations to us, which we added to our net reserves. No gain or loss was
recognized on the transaction.




Refer
to Note 8, Reinsurance, for information regarding the Gerling
commutation.




F-23




FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)


****


**8.
Reinsurance**




FPIC
cedes business to other insurance and reinsurance carriers under various
reinsurance agreements and fronting programs. These ceded reinsurance agreements
do not relieve FPIC from its obligations as primary insurer to its
policyholders. To the extent that any reinsurer might be unable to meet its
obligations, FPIC nonetheless continues to be liable to its policyholders for
the insured losses and LAE.




The
effect of reinsurance on premiums written and earned and losses and LAE incurred
for the years ended December 31, 2004, 2003 and 2002, was as
follows:




**2004**
    
    **2003**
    
    **2002**Written
    
    Earned
    
    Written
    
    Earned
    
    Written
    
    EarnedDirect
      and assumed
    
    $
    312,728
    
    
    313,160
    
    
    340,741
    
    
    336,727
    
    
    344,727
    
    
    318,068Ceded
    
    
    (120,196
    )
    
    (163,484
    )
    
    (197,607
    )
    
    (205,062
    )
    
    (204,479
    )
    
    (166,384
    )Net
    
    $
    192,532
    
    
    149,676
    
    
    143,134
    
    
    131,665
    
    
    140,248
    
    
    151,684**2004**
    
    
    **2003**
    
    
    **2002**Losses
      and LAE incurred
    
    $
    261,413
    
    
    323,141
    
    
    253,015Reinsurance
      recoveries
    
    
    (136,241
    )
    
    (204,167
    )
    
    (113,444
    )Net
      losses and LAE incurred
    
    $
    125,172
    
    
    118,974
    
    
    139,571


In
2004, FPIC reinsured under its primary excess of loss program individual losses
incurred in excess of $500. In 2003 and 2002, FPIC reinsured individual
losses incurred under this program in excess of $500 (Retention on FPIC’s
anesthesiology programs was $375 per loss because 25% of that business was ceded
to American Professional Assurance, Ltd. (“APAL”), a Cayman Island
insurance company of which FPIC owns 9.8%. This program with APAL ended as of
December 31, 2003.) The 2002 program also included an annual aggregate
deductible, which was 0.58% of subject written premium or approximately $1.35
million.




Based
on analysis of our exposure to extra-contractual obligations and claims in
excess of policy limits (“ECO/XPL”), FPIC elected not to renew the
supplemental awards made ECO/XPL reinsurance that we had carried in addition to
the ECO/XPL coverage already included as part of our primary excess of loss
reinsurance program. Therefore, this additional layer of excess reinsurance is
no longer in effect after April 27, 2004 and we now retain this excess
risk.




F-24


FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




*Net
Account Quota Share Reinsurance*




Effective
July 1, 2002, our largest insurance subsidiary, First Professionals, entered
into a net account quota share reinsurance agreement with two insurance
companies of the Hannover Re group (“Hannover Re”). The agreement, which called
for First Professionals to cede quota share portions of its written premiums,
contains adjustable features, including sliding scale ceding commissions and a
cap on the amount of losses that may be ceded to the reinsurer. The original
agreement also contained a loss corridor on business ceded through March 31,
2003, which was removed along with other modifications made in connection with
the amendment and extension of the agreement effective April 1, 2003. The effect
of these features is to limit the reinsurers’ aggregate exposure to loss and
thereby reduce the ultimate cost to First Professionals as the ceding company.
These features also have the effect of reducing the amount of protection
relative to the quota share amount of premiums ceded by First Professionals.
While First Professionals does not receive pro-rata protection relative to the
amount of premiums ceded, the amount of such protection is significant, as
determined in accordance with guidance under both statutory accounting practices
and GAAP. In addition to ceding a significant portion of its risks to Hannover
Re, the agreement also allowed First Professionals to reduce its financial
leverage and to realize immediate reimbursement for related up-front acquisition
costs, thus adding to its financial capacity.




First
Professionals has the option to commute the agreement should the business
perform such that the underlying protection proves to be unnecessary, in which
case the reinsurance would cease, the underlying reinsurance assets and
liabilities would unwind, and any net funds under the agreement, less a 4.2%
risk charge to be paid to the reinsurers, would be retained by First
Professionals. At December 31, 2004 and 2003, this charge would have been $9,246
and $7,131, respectively. The decision of whether to commute the agreement and
the timing of any such commutation will depend on the performance of the
underlying business, the need for the agreement based on our capital position
and other relevant considerations.




On
May 6, 2003, we entered into an amendment to the Hannover Re net account quota
share reinsurance agreement that, effective April 1, 2003, extended its
expiration date to include policies written and renewed through December 31,
2004. The agreement was also amended to remove the loss corridor on business
written and ceded, beginning April 1, 2003, and to reduce the lower end of the
sliding scale ceding commission range from 27.5% to 20%. A provision was added
that allowed First Professionals to reduce the quota share amount of premiums to
be ceded under the agreement in 2004. Cancellation provisions were also added;
one that gave First Professionals the option to cancel the agreement on or after
January 1, 2004, with 30 days notice, and one that gave Hannover Re the option
to cancel the agreement as of the effective date of any decrease in First
Professionals’ base rate for its MPL insurance policies that exceeds
5%.




We
terminated future cessions under the Hannover Re net account quota share
reinsurance agreement, effective July 1, 2004. With this termination, business
is no longer ceded under it beginning with business written and renewed in the
third quarter of 2004. The business already ceded through June 30, 2004
continues to be subject to the agreement and is in run off.




*Reinsurance
Recoverable on Paid Losses, Due From Reinsurers on Unpaid Losses and LAE and
Ceded Unearned Premiums*




As
of December 31, 2004, we had reinsurance recoverable on paid losses, due from
reinsurers on unpaid losses and ceded unearned premiums in the amounts of
$19,140, $333,419 and $28,147, respectively, or $380,706, in
aggregate.




F-25




FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




The
portion of our total aggregate reinsurance recoverables under the excess of loss
programs was $135,188 as of December 31, 2004. Of this amount, $111,118 is due
from authorized reinsurers under applicable state insurance regulations, and
thus, we do not hold collateral for these recoverables. For the amounts due from
unauthorized reinsurers, we hold collateral in the form of securities in trust,
irrevocable letters of credit or other funds held. Most of the excess of loss
reinsurers are rated at least “A-” by the A. M. Best and, in management’s
opinion, these recoverables are fully collectible or realizable.




Reinsurance
recoverables under the net account quota share reinsurance agreement, totaled
$147,644, in aggregate, as of December 31, 2004. The two companies with which we
placed this reinsurance are part of the Hannover Ruckversicherungs Group, which
is rated “A” by A. M. Best, but these two subsidiaries are not authorized
reinsurers under applicable state insurance regulations. Under the terms of the
agreement, we have funds withheld in the amount of $132,877. In addition, we
hold irrevocable letters of credit totaling $25,565 as collateral for these
amounts. Hannover Re also participates in our excess of loss program. We do not
hold collateral on balances due from the parent company because it is an
authorized reinsurer.




As
of December 31, 2004, $84,672 of our aggregate reinsurance recoverables are
associated with program business under fronting agreements with related parties
and others. Of this amount, $40,216 is due from PRI, the New York insurance
reciprocal managed by our subsidiary, AFP, and for which we hold collateral of
$45,802 in the form of securities held in trust. Reinsurance recoverables of
$20,299 are due from segregated portfolios or cells of APAL (SPC) Ltd., a
subsidiary of APAL, and are collateralized by securities in trust, an
irrevocable letter of credit and other funds held totaling $18,761.




The
remaining portion of our reinsurance recoverables as of December 31, 2004,
$13,202, is due from APAL under a 25% quota share reinsurance agreement under
which we ceased cessions as of December 31, 2003, and is collateralized by
securities in trust, an irrevocable letter of credit and other funds held
totaling $13,155.




For
additional information on the above transactions that are with related parties,
refer to Note 18, Related Party Transactions, which is presented
below.




*Commutation
of Gerling Reinsurance*




On
November 25, 2003, FPIC received $23,500 in exchange for commuting its
reinsurance treaties with Gerling, one of its reinsurers. The amount collected
includes payments for commutation of Gerling’s quota share treaty for
facultative reinsurance coverage on non-standard risks, Gerling’s portion of the
excess of loss reinsurance program and payments for estimated future claims
under the Gerling treaties. Gerling participated in our excess of loss
reinsurance programs in 2000 at 15%, and in 2001 and 2002 at 20%. We replaced
Gerling’s participation in our reinsurance programs, effective with our renewal
as of January 1, 2003. No gain or loss was recognized on the commutation
transaction. As a result of the commutation, we have no reinsurance recoverable
from Gerling as of December 31, 2004 and 2003.






F-26


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)


****


**9.
Long Term Debt**




Our
outstanding long term debt, as of December 31, 2004 and 2003, consisted of the
following:


**2004**
    
    **2003**Junior
      subordinated debentures due May 15, 2033 (callable by FPIC beginning May
      15, 2008); uncollateralized and bearing floating rate interest at
      three-month LIBOR plus 4.1% (6.38% and 5.28% at December 31, 2004 and
      2003, respectively)
    
    $
    15,464
    
    
    15,464Junior
      subordinated debentures due May 23, 2033 (callable by FPIC beginning May
      23, 2008); uncollateralized and bearing floating rate interest at
      three-month LIBOR plus 4.2% (6.60% and 5.37% at December 31, 2004 and
      2003, respectively)
    
    
    5,155
    
    
    5,155Senior
      notes due May 23, 2033 (callable by FPIC beginning May 23, 2008);
      uncollateralized and bearing floating rate interest at three-month LIBOR
      plus 4.2% (6.60% and 5.37% at December 31, 2004 and 2003,
      respectively)
    
    
    10,000
    
    
    10,000Junior
      subordinated debentures due October 29, 2033 (callable by FPIC beginning
      October 29, 2008); uncollateralized and bearing floating rate interest at
      three-month LIBOR plus 3.85% (5.98% and 5.01% at December 31, 2004 and
      2003, respectively)
    
    
    15,464
    
    
    15,464Total
    
    $
    46,083
    
    
    46,083


During
2003, we completed the placement of $10,000 in senior notes and created three
trusts that issued 30-year trust preferred securities for which the proceeds
from such issuances together with cash previously contributed to the trusts were
used to purchase junior subordinated debentures from FPIC totaling $36,083.
Issuance costs for all three offerings in the aggregate amount of approximately
$1,404 were capitalized and are being amortized over their respective stated
maturity periods of thirty years.




We
established three wholly owned, but not consolidated, trusts, FPIC Capital Trust
I, FPIC Capital Statutory Trust II and FPIC Capital Statutory Trust III, for the
sole purpose of issuing the trust preferred securities. The proceeds received by
the three trusts were used to purchase junior subordinated debentures from FPIC
of the same amounts, maturities and other applicable terms and features. The
debentures issued by FPIC, which are reported as long term debt in the
consolidated statements of financial position, to the three trusts are
subordinated to all senior indebtedness, including the senior notes, and are
equal in standing to one another.




F-27
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
securities are uncollateralized and bear a floating interest rate equal to the
three-month LIBOR plus a spread ranging from 3.85% to 4.20% (the total interest
rates ranged from 5.98% to 6.60% as of December 31, 2004). The floating interest
rate will be adjustable quarterly with changes in the three-month LIBOR, and in
the case of the first two offerings, the maximum rate that may be charged under
the securities within the first five years is 12.5%. We have also purchased
hedging instruments designed to maintain the ultimate floating rate interest
cost on all of these securities within a stated range for five years from
closing. We have the option to call the trust preferred securities at par or its
equivalent beginning five years from closing. The trust preferred securities
also contain features that allow us the option, under certain conditions, to
defer interest payments for up to 20 quarters and to redeem the securities
before the first optional call date in five years. In the case of the potential
earlier call date, the redemption or call price payable by us may be different
than par. The securities have stated maturities of thirty years and are due in
May and October 2033.




Indenture
agreements, relating to FPIC’s junior subordinated debentures and trust
preferred securities contain limitations, under certain circumstances, as to (i)
the declaration or payment of dividends, or distributions thereon, or the
redemption, purchase, acquisition or liquidation with respect to any capital
stock of FPIC or its affiliates; (ii) the payment, in certain circumstances, of
principal of, premium or interest on, or the repayment, repurchase or redemption
of, debt securities of FPIC or its affiliates that rank in equal standing with
or are junior in interest to the debentures; or (iii) the payment, in certain
circumstances, under any guarantees of FPIC or its affiliates that rank equal in
standing with or junior in interest to capital securities guarantees relating to
the issuance of the debentures. Circumstances that would result in such
limitations include a continuing event of default, as defined by the indenture
agreements, a default with respect to payment of any obligations under capital
securities guarantees, or a continuing interest deferral election by
FPIC.




For
additional information on FPIC’s hedging instruments and interest costs,
see Note 10, Derivative Financial Instruments.




**10.
Derivative Financial Instruments**




As
of December 31, 2004, FPIC had four interest rate collars. The collars are
designed to maintain FPIC’s ultimate floating rate interest costs on its trust
preferred securities and unsecured senior notes within a specified interest
range for five years from the closing date of those liabilities. The initial
costs of the hedge instruments acquired for this purpose of $1,134, in
aggregate, have been capitalized and will be amortized over their respective
five year maturity periods.




The
interest rate collars and terms as of December 31, 2004 are presented below with
their corresponding effects on the floating rate interest costs associated with
the trust preferred securities and senior notes.





**Notional**
    **Maturity**
    **LIBOR**
    **LIBOR**
    **Floor**
    **Cap****Amount**
    **Date**
    **Floor****(1)**
    **Cap****(1)**
    **Rate**
    **Rate**$
      15,000
    5/15/2008
    1.20%
    4.40%
    5.30%
    8.50%$  
      5,000
    5/23/2008
    1.20%
    4.40%
    5.40%
    8.60%$
      10,000
    5/23/2008
    1.20%
    4.40%
    5.40%
    8.60%$
      15,000
    10/29/2008
    1.00%
    4.65%
    4.85%
    8.50%(1)Based on three-month LIBOR
   F-28





FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




The
following is a summary of FPIC’s debt interest risk management strategy and the
effect of this strategy on FPIC’s consolidated financial
statements:




The
interest rate collars were purchased to effectively place floors and caps on the
three-month LIBOR floating interest of approximately 1.00% to 1.20% and 4.40% to
4.65%, respectively, on notional principal corresponding with the principal
amounts of each offering, for 5 years. These instruments will effectively serve
to hedge our total floating interest rate borrowing costs under the securities
to within a range of 4.85% to 8.60% for five years and until such time that we
have the right to call the securities.




Under
the interest rate collars, when the three-month LIBOR interest rate exceeds the
specified cap rate or falls below the specified floor rate, we receive or pay,
respectively, the related cash flow equal to the difference in percentage times
the notional principal under the respective contracts. The two portions of each
contract working together, therefore, form a hedge against the effects of a
rising three-month LIBOR rate above the cap or a falling three-month LIBOR rate
below the floor. The notional amounts referenced in the interest rate collars
equal the related trust preferred securities or senior notes, as applicable. The
notional amounts of the contract are not exchanged. Therefore, working together
the excess of the interest expense on our securities over the cap rate, or the
shortfall in interest expense under the floor, are offset by related receipts of
excess interest under the caps, or the payment of the interest shortfall below
the floor, respectively. No other cash payments are made unless the contract is
terminated prior to maturity, in which case the amount paid or received in
settlement is established by agreement at the time of termination, and usually
represents the net present value, at current interest rates, of the remaining
obligations to exchange payments under the terms of the contract.




The
interest rate collar instruments are reflected at fair value in FPIC’s
consolidated statements of financial position and the effective portion of the
related gains or losses on the agreements are recognized in shareholders’ equity
(as a component of accumulated other comprehensive income, net). The net effect
of this accounting on FPIC’s operating results is that interest expense on the
floating interest rate debt being hedged is recorded based on fixed interest
rates.




FPIC
documents the relationships between the hedging instruments and the underlying
long term debt instruments. FPIC also assesses the effectiveness of the hedging
instruments on a quarterly basis. If it is determined that the hedging
instruments are no longer highly effective, the change in the fair value of the
ineffective portion of the swaps would be included in earnings rather than
comprehensive income. For the years ended December 31, 2004 and 2003, the net
gain or loss on the ineffective portion of the agreements was not
material.




**11.
Fair Value of Financial Instruments**




Fair
value estimates are made as of a specific point in time based on the
characteristics of the financial instruments and relevant market information.
Quoted market prices are used where available. In other cases, fair values are
based on estimates using valuation techniques, such as discounting estimated
future cash flows using a rate commensurate with the risks involved or other
acceptable methods. These techniques involve uncertainties and are significantly
affected by the assumptions used and the judgments made regarding risk
characteristics of various financial instruments, prepayments, discount rates,
estimates of future cash flows, future anticipated loss experience and other
factors. Changes in assumptions could significantly affect these estimates.
Independent market data may not be available to validate those fair value
estimates that are based on internal valuation techniques. Moreover, such fair
value estimates may not be indicative of the amounts that could be realized in
an immediate sale of the instrument. Also, because of differences in
methodologies and assumptions used to estimate fair values, the fair values of
FPIC’s financial instruments may not be comparable to those of other
companies.




F-29




FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




Fair
value estimates are based on existing financial instruments without attempting
to estimate the value of anticipated future business and the value of assets and
liabilities that are not considered financial instruments. Accordingly, the
aggregate fair value amounts presented do not represent the underlying value of
FPIC.




The
following methods and assumptions were used to estimate the fair value of each
class of financial instruments for which it is practicable to estimate that
value:




·
    Fixed
      maturities, available for sale - Fair value was estimated based on prices
      from a third party service organization providing administrative services
      for investments.


·
    Other
      invested assets - Carrying value approximates the fair
    value.


·
    Cash
      and cash equivalents - Carrying value approximates the fair value because
      of the short maturity of these instruments.


·
    Interest
      rate collars - Fair value was estimated using quotes from an institutional
      broker and represents the cash requirement if the existing agreement had
      been settled at year-end.


·
    Long
      term debt - Carrying value approximates the fair
value.





The
following table presents the carrying values and estimated fair values of FPIC’s
financial instruments as of December 31, 2004 and 2003.




**December
      31, 2004**
    
    **December
      31, 2003****Carrying
      Value**
    
    **Estimated
      Fair Value**
    
    **Carrying
      Value**
    
    **Estimated
      Fair Value***Financial
      Assets:*Fixed
      maturities, available for sale
    
    $
    548,543
    
    
    548,543
    
    
    528,647
    
    
    528,647Other
      invested assets
    
    
    7,175
    
    
    7,175
    
    
    8,990
    
    
    8,990Cash
      and cash equivalents
    
    
    128,250
    
    
    128,250
    
    
    85,064
    
    
    85,064Interest
      rate collars
    
    
    498
    
    
    450
    
    
    1,051
    
    
    1,035Total
      financial assets
    
    $
    684,466
    
    
    684,418
    
    
    623,752
    
    
    623,736*Financial
      Liabilities:*Long
      term debt
    
    $
    46,083
    
    
    46,083
    
    
    46,083
    
    
    46,083Total
      financial liabilities
    
    $
    46,083
    
    
    46,083
    
    
    46,083
    
    
    46,083


**12.
Stock Option and Employee Stock Purchase Plans**




FPIC
has a stock option plan for officers and key employees (the “employee plan”) and
a plan for non-employee directors (the “director plan”). Under the director
plan, only non-qualified stock options may be issued. Under the employee plan,
both incentive stock options and non-qualified stock options may be granted to
the same individual. The option price of an incentive stock option may not be
less than 100% of the fair market value of shares on the grant date. The option
price of a non-qualified option may not be less than 50% of the fair market
value of shares on the grant date. Under the terms of the director plan, 5,000
shares are granted to each director on the date that person becomes a director
and on an annual basis as approved by the Board. The plan also provides for
discretionary grants at future dates as approved by the Board. Stock option
grants made under the director plan are at a price not less than 100% of the
fair market value of the underlying stock on the grant date.






F-30


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)





During
2000, FPIC offered a stock purchase incentive program (the “incentive plan”) to
eligible employees, including executive officers. Under the incentive plan,
employees who purchased shares of FPIC’s common stock in the open market during
the term of the incentive plan were granted matching nonqualified stock options
on a one-for-one basis, up to the maximum of 5,000 options per employee. The
incentive plan began January 2000 and ended April 2000. Option grants under the
incentive plan were made as of May 1, 2000 at an exercise price equal to the
closing market price of FPIC’s common stock on that date. Options granted under
the incentive plan vest in three equal annual installments commencing on the
one-year anniversary of their grant. Options under this plan were granted under
the employee plan.




At
December 31, 2004 and 2003, 1,060,492 and 578,380 shares of FPIC’s common stock,
respectively were reserved for issuance in connection with the stock option
plans. A summary of the status of FPIC’s stock options is presented
below:




**Weighted-**
    
    
    
    **Weighted-****Average**
    
    
    
    **Average****Shares**
    
    **Exercise
      Price**
    
    **Exercisable**
    
    **Exercise
      Price**Balance,
      December 31, 2001
    
    
    1,845,860
    
    $
    17.81
    
    
    1,131,918
    
    $
    20.65Granted
    
    
    327,500
    
    
    8.49
    
    
    —
    
    
    —Exercised
    
    
    (23,833
    )
    
    8.63
    
    
    —
    
    
    —Forfeited
    
    
    (138,665
    )
    
    19.91
    
    
    —
    
    
    —Balance,
      December 31, 2002
    
    
    2,010,862
    
    $
    16.25
    
    
    1,355,515
    
    $
    18.93Granted
    
    
    291,500
    
    
    20.70
    
    
    —
    
    
    —Exercised
    
    
    (355,295
    )
    
    11.93
    
    
    —
    
    
    —Forfeited
    
    
    (294,379
    )
    
    24.11
    
    
    —
    
    
    —Balance,
      December 31, 2003
    
    
    1,652,688
    
    $
    16.57
    
    
    1,091,624
    
    $
    17.10Granted
    
    
    70,950
    
    
    27.54
    
    
    —
    
    
    —Exercised
    
    
    (214,270
    )
    
    12.70
    
    
    —
    
    
    —Forfeited
    
    
    (54,922
    )
    
    28.22
    
    
    —
    
    
    —Balance,
      December 31, 2004
    
    
    1,454,446
    
    $
    17.24
    
    
    1,105,012
    
    $
    16.72


The
following table summarizes information for options outstanding and exercisable
at December 31, 2004:




**Options
      Outstanding**
    
    **Options
      Exercisable****Range
      of Prices per Share**
    
    **Number 
      Outstanding**
    
    **Weighted-Average
      Remaining Contractual Life**
    
    **Weighted
      Average Exercise Price**
    
    **Number 
      Exercisable**
    
    **Weighted Average
      Exercise Price**$
      6.00-11.99
    
    
    423,830
    
    
    6.20
    
    $
    8.70
    
    
    349,665
    
    $
    9.10$12.00-15.99
    
    
    472,360
    
    
    5.90
    
    $
    14.17
    
    
    417,362
    
    $
    14.32$16.00-19.99
    
    
    19,400
    
    
    5.20
    
    $
    17.44
    
    
    16,067
    
    $
    17.67$20.00-35.99
    
    
    485,281
    
    
    6.50
    
    $
    24.50
    
    
    268,343
    
    $
    24.48$36.00-60.99
    
    
    53,575
    
    
    2.90
    
    $
    46.02
    
    
    53,575
    
    $
    46.021,454,446
    
    
    6.10
    
    $
    17.24
    
    
    1,105,012
    
    $
    16.72


F-31
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
fair value of options granted, which is amortized to expense over the option
vesting period in determining the pro-forma information presented in Note 2,
Significant Accounting Policies, to the consolidated financial statements about
stock-based compensation, is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions:




**2004**
    **2003**
    **2002**Expected
      life of options
    5
      years
    5
      years
    5
      yearsRisk
      free interest rate
    3.89%
    3.02%
    3.31%Expected
      volatility of stock
    61.65%
    53.02%
    50.41%


The
weighted average fair value of options granted during 2004, 2003 and 2002 are as
follows:




**2004**
    
    **2003**
    
    **2002**Fair
      value of options granted
    
    $
    15.29
    
    
    10.14
    
    
    4.03Total
      fair value of all options granted
    
    $
    1,085
    
    
    2,955
    
    
    1,319Expected
      dividends
    
    $
    —
    
    
    —
    
    
    —Total
      number of options granted
    
    
    70,950
    
    
    291,500
    
    
    327,500


In
accordance with FAS 123, the weighted average fair value of stock options
granted is required to be based on a theoretical statistical model using the
preceding Black-Scholes assumptions. In actuality, because FPIC’s incentive
stock options are not traded on any exchange, employees and directors can
receive no value nor derive any benefit from holding stock options under these
plans without an increase in the market price of FPIC’s stock. Such an increase
in stock price would also benefit other stockholders.




FPIC
also maintains an Employee Stock Purchase Plan that allows employees to purchase
FPIC’s common stock at 85% of the market value on the first or last day of the
offering period, whichever is lower. At December 31, 2004 and 2003, 102,478 and
26,860, respectively, shares of FPIC’s common Stock were reserved for issuance
in connection with this plan.




**13.
Employee Benefit Plans**




FPIC
currently sponsors nine post-retirement plans for its employees. The table below
lists those plans and the subsidiary of FPIC whose employees are covered by that
plan.




·
    FPICDefined
      contribution profit sharing plan


·
    FPICDefined
      benefit plan


·
    FPICExcess
      benefit plan


·
    FPICSupplemental
      executive retirement plan (“SERP”)


·
    TenereDefined
      contribution profit sharing plan and trust


·
    TenereMoney
      purchase pension plan


·
    AFPDefined
      contribution profit sharing plan


·
    AFPDefined
      benefit plan


·
    EMIDefined
      contribution profit sharing plan




F-32
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
FPIC defined contribution profit sharing plan is available to all employees of
FPIC after meeting certain eligibility requirements. The plan is comprised of
two parts. The first part of the plan is a defined contribution plan that allows
employees to contribute up to 12.5% of their annual compensation, subject to IRS
limits. FPIC contributes a matching amount equal to 2.5% of the employee’s
annual compensation. The second part of the plan is a profit sharing plan,
whereby FPIC may at its discretion make an additional contribution to the plan
up to a maximum of 10% of the employee’s annual compensation. FPIC’s policy is
to fully fund the liability for the matching portion at the end of each year. At
December 31, 2004 and 2003, the fair market value of defined contribution profit
sharing plan assets was $9,882 and $8,174, respectively. Employer contributions
to this plan were approximately $1,034, $960 and $735 in 2004, 2003 and 2002,
respectively.




The
FPIC defined benefit plan is available to all eligible employees of FPIC who
have six months of service and whose ages are twenty and one half years of age
or older. The amount of benefits is based on years of service and 0.75% of the
employee’s average monthly salary not over the Social Security base plus 1.4% of
the employee’s average monthly salary over the Social Security base. FPIC’s
policy is to contribute the maximum amount towards funding benefits under the
plan subject to IRS limits. At December 31, 2004 and 2003, the fair market value
of defined benefit plan assets was $3,464 and $3,281, respectively. FPIC had a
net periodic pension cost of $549, $463 and $277 for this plan in 2004, 2003 and
2002, respectively. Employer contributions to this plan were approximately
$1,459 and $143 in 2003 and 2002, respectively. We currently anticipate
contributing $70 to this plan during the next twelve months.




The
FPIC excess benefit plan provides a means of equalizing the benefits of those
employees participating in the FPIC defined benefit plan whose funded benefits
under the FPIC defined benefit plan are or will be limited by the application of
ERISA, the Internal Revenue Service Code, or any applicable law or regulation.
The plan is available to all participants under the FPIC defined benefit plan,
other than those individuals covered under the SERP, whenever their benefits
under the FPIC defined benefit plan exceed applicable limitations. The plan is
unfunded. FPIC had a net periodic pension cost of $271 for the year ended
December 31, 2004.




FPIC
also has a SERP that provides certain executives with income at retirement equal
to 60% of pre-retirement base compensation, less qualified pension plan benefits
paid by FPIC and all predecessor plans and Social Security benefits. The plan
has no vesting prior to age 55. The total liability included in the financial
statements for this plan amounted to approximately $2,295 and $1,961 as of
December 31, 2004 and 2003, respectively. FPIC had a net periodic pension cost
of $562, $192 and $258 under this plan in 2004, 2003 and 2002, respectively.




The
Tenere defined contribution profit sharing plan and trust is available to all
employees of Tenere upon meeting certain eligibility requirements. The plan is
comprised of two parts. The first part is a defined contribution plan that
allows employees to contribute a portion of their annual compensation, subject
to IRS limits. The second part is a profit sharing plan, whereby Tenere may at
its discretion contribute an employer contribution to the plan. At December 31,
2004 and 2003, the fair market value of plan assets was $1,103 and $881,
respectively. Employer contributions to this plan were approximately $62, $76
and $62 in 2004, 2003 and 2002, respectively.




F-33
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
Tenere money purchase plan is available to all employees of Tenere upon meeting
certain eligibility requirements. The plan is designed to provide benefits based
on length of service, whereby Tenere will make contributions to the plan on
behalf of the participants for each year of service until the employee retires.
At retirement, the employee will be eligible to receive the value of the
contributions made to the plan on the employee’s behalf. Tenere contributes on
behalf of each participant an amount equal to 6.0% of the employee’s annual
compensation plus 5.7% of the employee’s annual compensation in excess of the
Social Security Taxable Wage Base. At December 31, 2004 and 2003, the fair
market value of plan assets was $395 and $290, respectively. Employer
contributions to this plan were approximately $71, $93 and $89 in 2004, 2003 and
2002, respectively.




The
AFP defined contribution and profit sharing and defined benefit plans are
available to all eligible employees of AFP. The benefits under these plans are
based on years of service and employee compensation. AFP’s funding policy is to
contribute to the plans an amount sufficient to meet the minimum funding
requirements set forth in the Employee Retirement Income Security Act of 1974,
plus any additional amounts determined to be appropriate from time to time.
Contributions are intended to be sufficient to cover the costs of benefits
earned for service to date and an estimate of those costs for future service.
The invested assets of the plans consist of investments in various types and
categories of stocks and bonds. At December 31, 2004 and 2003, the fair market
value of plan assets was $12,128 and $8,852, respectively. Pension costs for the
years 2004, 2003 and 2002 amounted to $2,821, $1,905 and $1,255, respectively.
Employer contributions to this plan were approximately $2,900, $2,035 and $1,221
in 2004, 2003 and 2002, respectively. We currently anticipate contributing
$2,800 to the AFP defined benefit plan during the next twelve
months.




The
EMI defined contribution profit sharing plan is available for all employees of
EMI upon meeting certain eligibility requirements. Under the plan, employees can
contribute up to 16% of their annual salary, subject to IRS limits, of which EMI
may, at its discretion, contribute a matching amount of up to 100% of the
employee contributions. Historically, EMI has contributed a matching amount
equal to approximately 30% of the employee contribution. At December 31, 2004
and 2003, the fair market value of plan assets was $3,279 and $2,653. Employer
contributions to this plan were approximately $83, $79 and $83 in 2004, 2003 and
2002, respectively.




F-34
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
actuarially computed net periodic pension cost for our three defined benefit
plans and SERP combined for the years ending December 31, 2004, 2003 and 2002,
included the following:




**2004**
    
    **2003**
    
    **2002**Service
      cost of benefits earned during the period
    
    $
    2,266
    
    
    1,470
    
    
    1,081Interest
      cost on projected benefit obligation
    
    
    1,349
    
    
    1,035
    
    
    826Expected
      return on plan assets
    
    
    (919
    )
    
    (663
    )
    
    (548
    )Recognized
      net actuarial loss
    
    
    1,015
    
    
    608
    
    
    235Net
      amortization and deferral
    
    
    490
    
    
    114
    
    
    196Net
      periodic pension cost
    
    $
    4,201
    
    
    2,564
    
    
    1,790**2004**
    
    
    **2003**
    
    
    **2002***Actuarial
      Present Value of Benefit Obligation:*Accumulated
      benefit obligations
    
    $
    (16,564
    )
    
    (14,407
    )
    
    (10,392
    )Projected
      benefit obligations for service rendered to date
    
    $
    (26,981
    )
    
    (20,234
    )
    
    (15,293
    )Plan
      assets at fair value
    
    
    15,592
    
    
    12,133
    
    
    8,383Projected
      benefit obligations in excess of plan assets
    
    
    (11,389
    )
    
    (8,101
    )
    
    (6,910
    )Unrecognized
      net loss from past experience different from that assumed
    
    
    7,862
    
    
    6,525
    
    
    4,302Prior
      service cost not yet recognized in net periodic pension
    cost
    
    
    851
    
    
    (57
    )
    
    235Unrecognized
      net obligations at inception recognized over 15.29 years
    
    
    101
    
    
    131
    
    
    169Accrued
      pension cost
    
    $
    (2,575
    )
    
    (1,502
    )
    
    (2,204
    )


The
following tables set forth the status of our three defined benefit plans and
SERP combined for the years ending December 31, 2004 and 2003,
respectively.




**2004**
    
    **2003***Change
      in Benefit Obligation:*Benefit
      obligation, January 1
    
    $
    20,579
    
    
    15,293Service
      cost
    
    
    2,266
    
    
    1,470Interest
      cost
    
    
    1,349
    
    
    1,035Actuarial
      loss
    
    
    4,263
    
    
    2,815Benefits
      paid
    
    
    (1,476
    )
    
    (379
    )Benefit
      obligation, December 31
    
    $
    26,981
    
    
    20,234*Change
      in Plan Assets:*Fair
      value of plan assets, January 1
    
    $
    12,133
    
    
    8,383Actual
      return on plan assets
    
    
    2,035
    
    
    636Employer
      contributions
    
    
    2,900
    
    
    3,493Benefits
      paid
    
    
    (1,476
    )
    
    (379
    )Fair
      value of plan assets, December 31
    
    $
    15,592
    
    
    12,133


F-35
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


Assumptions
used in the accounting for the net periodic pension cost and plan status for our
three defined benefit plans and SERP combined for the years ended December 31,
2004, 2003 and 2002, were as follows:




**2004**
    **2003**
    **2002**Discount
      rates
    5.50%
    6.14%
    6.59%Rate
      of increase in compensation levels
    5.21%
    5.18%
    5.04%Return
      on assets
    7.14%
    7.10%
    6.76%


Assumptions
used in the accounting for the benefit obligation for our three defined benefit
plans and SERP combined for the years ended December 31, 2004, 2003 and 2002,
were as follows:




**2004**
    **2003**
    **2002**Discount
      rates
    5.50%
    5.83%
    6.47%Rate
      of increase in compensation levels
    5.29%
    5.17%
    5.18%Return
      on assets
    7.00%
    7.14%
    6.70%


Both
FPIC and AFP maintain a diversified investment strategy in managing its defined
benefit plans and consider investment risk and return on assets. This is
accomplished by maintaining portfolios of managed pooled separate accounts with
their administrator-investment providers, which include investments in equity
and debt securities, and to a limited extent real estate. The plans assets are
not invested in derivative securities.




As
of December 31, 2004, approximately 71%, 28% and 1% of the FPIC defined benefit
plan assets were held in debt securities, equity securities and real estate,
respectively. AFP’s defined benefit plan assets were comprised of 44% equity
securities, 38% debt securities and 18% convertible debt securities. We do
expect our allocation percentages to change significantly in the near future.
Debt securities in both FPIC and AFP include a combination of money market, bond
and mortgage backed investments. Equity securities are fairly evenly distributed
in a diversified portfolio of large, medium and small cap investments, with a
modest international component.




FPIC’s
and AFP’s portfolios are subject to review periodically and rebalanced
accordingly, if market conditions change or the portfolio needs to be rebalanced
to meet target allocations.




**14.
Commitments and Contingencies**




The
future minimum annual rentals under non-cancelable operating leases are as
follows:




2005
    
    $
    3,2712006
    
    
    2,9202007
    
    
    2,6132008
    
    
    2,5722009
    
    
    1,478Thereafter
    
    
    2,903Total
    
    $
    15,757


Total
rental expense was $2,257, $2,636 and $2,581 for 2004, 2003 and 2002,
respectively.






F-36




FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




FPIC’s
insurance subsidiaries from time to time become subject to claims for
extra-contractual obligations or risks in excess of policy limits in connection
with their insurance claims. These claims are sometimes referred to as “bad
faith” actions as it is alleged that the insurance company acted in bad faith in
the administration of a claim against an insured. Bad faith actions are
infrequent and generally occur in instances where a jury verdict exceeds the
insured’s policy limits. Under such circumstances, it is routinely alleged that
the insurance company failed to negotiate a settlement of a claim in good faith
within the insured’s policy limit. FPIC has evaluated such exposures as of
December 31, 2004, and believes its position and defenses are meritorious.
However, there can be no absolute assurance as to the outcome of such exposures.
FPIC currently maintains insurance for such occurrences, which serves to limit
exposure to such claims. In addition, multiple claims for extra contractual
obligations in a single year could result in potential exposures materially in
excess of insurance coverage or in increased costs of insurance coverage.




Based
on analysis of our exposure to extra-contractual obligations and claims in
excess of policy limits (“ECO/XPL”), we elected not to renew the supplemental
awards made ECO/XPL reinsurance that we had carried in addition to the ECO/XPL
coverage already included as part of our primary excess of loss reinsurance
program. Therefore, this additional layer of excess reinsurance is no longer in
effect after April 27, 2004 and we now retain this excess risk.




FPIC
may also become involved in legal actions not involving claims under its
insurance policies from time to time. FPIC has evaluated such exposures as of
December 31, 2004, and in all cases, believes its position and defenses are
meritorious. However, there can be no absolute assurance as to the outcome of
such exposures.




FPIC’s
insurance subsidiaries are subject to assessment by the financial guaranty
associations in the states in which they conduct business for the provision of
funds necessary for the settlement of covered claims under certain policies of
insolvent insurers. Generally, these associations can assess member insurers on
the basis of written premiums in their particular states.




In
addition to standard assessments, the Florida and Missouri Legislatures may also
levy special assessments to settle claims caused by certain catastrophic losses.
FPIC would be assessed on the basis of premiums written in the state. No special
assessments were made in 2004 and 2003. In addition, FPIC could be subject to
additional assessments in the future as a result of damages caused by
catastrophic losses, such as a hurricane.




While
management has evaluated the incidents and circumstances surrounding the
above-mentioned asserted or unasserted legal claims and assessments of which it
is aware and believes that these will not have materially adverse effects on
FPIC beyond amounts already recognized and accrued, there can be no absolute
assurance as to their ultimate outcomes.




*Management
agreement between AFP and PRI*




See
Note 18, Related Party Transactions, Management Agreement with PRI and
Reinsurance Services, to the consolidated financial statements for information
about the management agreement with PRI. FPIC has also issued two irrevocable
letters of credit in the amount of $500,000 as collateral under the operating
leases for the buildings occupied by AFP in Manhasset and Lake Success, New
York.




F-37




FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




**15.
Reconciliation of Basic and Diluted Earnings Per Share**




Data
with respect to FPIC’s basic and diluted earnings per common share are shown
below:




**2004**
    
    **2003**
    
    **2002***Net
      Income (Loss):*Income
      before cumulative effect of accounting change
    
    $
    28,181
    
    
    16,572
    
    
    14,876Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    (29,578
    )Net
      income (loss)
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )*Basic
      Earnings (Loss) Per Common Share:*Income
      before cumulative effect of accounting change
    
    $
    2.83
    
    
    1.75
    
    
    1.58Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    (3.15
    )Net
      income (loss)
    
    $
    2.83
    
    
    1.75
    
    
    (1.57
    )*Diluted
      Earnings (Loss) Per Common Share:*Income
      before cumulative effect of accounting change
    
    $
    2.70
    
    
    1.71
    
    
    1.58Cumulative
      effect of accounting change
    
    
    —
    
    
    —
    
    
    (3.14
    )Net
      income (loss)
    
    $
    2.70
    
    
    1.71
    
    
    (1.56
    )Basic
      weighted average shares outstanding
    
    
    9,973
    
    
    9,483
    
    
    9,387Common
      stock equivalents
    
    
    447
    
    
    182
    
    
    45Diluted
      weighted average shares outstanding
    
    
    10,420
    
    
    9,665
    
    
    9,432


****


F-38


****


FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)





**16.
Segment Information**




In
accordance with the provisions of FAS 131, “Disclosures about Segments of an
Enterprise and Related Information,” FPIC has determined that it has three
reportable operating segments: insurance, insurance management and TPA. Our
insurance segment specializes in professional liability insurance products and
services for physicians, dentists and other healthcare providers. The insurance
management segment contains our subsidiary AFP, which serves as the exclusive
manager and attorney-in-fact of PRI, an insurance reciprocal in New York. PRI is
a major client of ours and our revenues and results of operations are
financially sensitive to its revenues and financial condition. We do not own
PRI, or have a controlling financial interest in PRI, nor is PRI considered a
variable interest entity under FIN 46R and so PRI’s financial statements are not
consolidated or included in ours. Instead, PRI is similar to a mutual insurer
and the risks and rewards of ownership basically vest with the policyholders of
PRI. The insurance management segment also provides brokerage, administration
and intermediary services for insurance and reinsurance programs to PRI and
FPIC. Our TPA segment provides administrative and claims management services to
self-insured employer groups for group accident and health, workers’
compensation and general liability and property insurance plans.




The
accounting policies of the segments are the same as those described in the
summary of significant accounting policies found in Note 2, Significant
Accounting Policies. We evaluate a segment’s performance based on net income or
loss and account for intersegment sales and transfers, which are eliminated in
the consolidated financial statements, as if the sales or transfers were to a
third party. Holding company operations are included within the insurance
segment due to its size and prominence and the substantial attention devoted to
the segment. We believe that intersegment revenues associated with transactions
between the segments would be reasonably approximate with similar products or
services that may have been obtained from or provided to unrelated third
parties. All segments are managed separately because each respective business is
distinct in terms of markets served, products and services, technology and
required business resources and strategies.




The
following table provides a reconciliation of reportable segment assets to FPIC’s
consolidated assets:




**2004**
    
    **2003**
    
    **2002**Combined
      assets for reportable segments
    
    $
    1,556,217
    
    
    1,430,006
    
    
    1,262,407Investments
      in consolidated investees
    
    
    (280,582
    )
    
    (245,098
    )
    
    (233,069
    )Intercompany
      receivables
    
    
    (4,329
    )
    
    (2,152
    )
    
    (2,907
    )Total
      consolidated assets
    
    $
    1,271,306
    
    
    1,182,756
    
    
    1,026,431


F-39
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


Selected
financial information by segment follows:


**For
      the Year Ended December 31, 2004****Insurance**
    
    
    
    **Total**
    
    **Intersegment****Insurance**
    
    **Management**
    
    **TPA**
    
    **Segments**
    
    **Eliminations**
    
    **Consolidated**Net
      premium earned
    
    $
    149,676
    
    
    —
    
    
    —
    
    
    149,676
    
    
    —
    
    
    149,676Claims
      administration and management fees
    
    $
    —
    
    
    39,100
    
    
    14,146
    
    
    53,246
    
    
    —
    
    
    53,246Net
      investment income
    
    $
    20,627
    
    
    126
    
    
    6
    
    
    20,759
    
    
    —
    
    
    20,759Total
      revenue
    
    $
    175,093
    
    
    48,530
    
    
    16,384
    
    
    240,007
    
    
    (3,200
    )
    
    236,807Depreciation
      and amortization
    
    $
    2,707
    
    
    1,526
    
    
    303
    
    
    4,536
    
    
    —
    
    
    4,536Interest
      expense on debt
    
    $
    2,564
    
    
    —
    
    
    —
    
    
    2,564
    
    
    —
    
    
    2,564Income
      tax expense
    
    $
    8,262
    
    
    8,006
    
    
    673
    
    
    16,941
    
    
    —
    
    
    16,941Minority
      interest
    
    $
    —
    
    
    248
    
    
    —
    
    
    248
    
    
    —
    
    
    248Income
      before cumulative effect of accounting change
    
    $
    16,272
    
    
    10,870
    
    
    1,039
    
    
    28,181
    
    
    —
    
    
    28,181Net
      income
    
    $
    16,272
    
    
    10,870
    
    
    1,039
    
    
    28,181
    
    
    —
    
    
    28,181Identifiable
      assets
    
    $
    1,225,761
    
    
    44,520
    
    
    5,354
    
    
    1,275,635
    
    
    (4,329
    )
    
    1,271,306Goodwill
    
    $
    10,833
    
    
    8,037
    
    
    —
    
    
    18,870
    
    
    —
    
    
    18,870****
    
    **For
      the Year Ended December 31, 2003******
    
    
    
    
    
    **Insurance**
    
    
    
    
    
    **Total**
    
    
    **Intersegment******
    
    
    **Insurance**
    
    
    **Management**
    
    
    **TPA**
    
    
    **Segments**
    
    
    **Eliminations**
    
    
    **Consolidated**Net
      premium earned
    
    $
    131,665
    
    
    —
    
    
    —
    
    
    131,665
    
    
    —
    
    
    131,665Claims
      administration and management fees
    
    $
    —
    
    
    26,582
    
    
    14,313
    
    
    40,895
    
    
    —
    
    
    40,895Net
      investment income
    
    $
    18,285
    
    
    116
    
    
    13
    
    
    18,414
    
    
    —
    
    
    18,414Total
      revenue
    
    $
    153,231
    
    
    36,604
    
    
    16,514
    
    
    206,349
    
    
    (4,625
    )
    
    201,724Depreciation
      and amortization
    
    $
    1,796
    
    
    1,194
    
    
    393
    
    
    3,383
    
    
    —
    
    
    3,383Interest
      expense on debt
    
    $
    5,886
    
    
    —
    
    
    —
    
    
    5,886
    
    
    —
    
    
    5,886Income
      tax expense
    
    $
    2,389
    
    
    6,217
    
    
    711
    
    
    9,317
    
    
    —
    
    
    9,317Minority
      interest
    
    $
    —
    
    
    94
    
    
    —
    
    
    94
    
    
    —
    
    
    94Income
      before cumulative effect of accounting change
    
    $
    6,803
    
    
    8,839
    
    
    930
    
    
    16,572
    
    
    —
    
    
    16,572Net
      income
    
    $
    6,803
    
    
    8,839
    
    
    930
    
    
    16,572
    
    
    —
    
    
    16,572Identifiable
      assets
    
    $
    1,139,279
    
    
    39,634
    
    
    5,995
    
    
    1,184,908
    
    
    (2,152
    )
    
    1,182,756Goodwill
    
    $
    10,833
    
    
    8,037
    
    
    —
    
    
    18,870
    
    
    —
    
    
    18,870****
    
    **For
      the Year Ended December 31, 2002******
    
    
    
    
    
    **Insurance**
    
    
    
    
    
    **Total**
    
    
    **Intersegment******
    
    
    **Insurance**
    
    
    **Management**
    
    
    **TPA**
    
    
    **Segments**
    
    
    **Eliminations**
    
    
    **Consolidated**Net
      premium earned
    
    $
    151,684
    
    
    —
    
    
    —
    
    
    151,684
    
    
    —
    
    
    151,684Claims
      administration and management fees
    
    $
    —
    
    
    24,341
    
    
    12,693
    
    
    37,034
    
    
    —
    
    
    37,034Net
      investment income
    
    $
    20,793
    
    
    141
    
    
    43
    
    
    20,977
    
    
    —
    
    
    20,977Total
      revenue
    
    $
    178,659
    
    
    31,678
    
    
    15,302
    
    
    225,639
    
    
    (3,699
    )
    
    221,940Depreciation
      and amortization
    
    $
    6,572
    
    
    885
    
    
    503
    
    
    7,960
    
    
    —
    
    
    7,960Interest
      expense on debt
    
    $
    4,762
    
    
    —
    
    
    —
    
    
    4,762
    
    
    —
    
    
    4,762Income
      tax expense
    
    $
    4,162
    
    
    4,463
    
    
    209
    
    
    8,834
    
    
    —
    
    
    8,834Minority
      interest
    
    $
    —
    
    
    172
    
    
    —
    
    
    172
    
    
    —
    
    
    172Income
      before cumulative effect of accounting change
    
    $
    8,287
    
    
    6,277
    
    
    312
    
    
    14,876
    
    
    —
    
    
    14,876Cumulative
      effect of accounting change
    
    $
    —
    
    
    (24,363
    )
    
    (5,215
    )
    
    (29,578
    )
    
    —
    
    
    (29,578
    )Net
      income
    
    $
    8,287
    
    
    (18,086
    )
    
    (4,903
    )
    
    (14,702
    )
    
    —
    
    
    (14,702
    )Identifiable
      assets
    
    $
    984,470
    
    
    38,585
    
    
    6,283
    
    
    1,029,338
    
    
    (2,907
    )
    
    1,026,431Goodwill
    
    $
    10,833
    
    
    8,037
    
    
    —
    
    
    18,870
    
    
    —
    
    
    18,870


F-40


FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




17.
Statutory Accounting


First Professionals, APAC, Intermed and
Interlex are required to file statutory-basis financial statements with state
insurance regulatory authorities. The insurance subsidiaries are restricted
under the Florida and Missouri Insurance Codes as to the amount of dividends
they may pay without regulatory consent. In 2005, and based on the amounts of
capital and surplus of our insurance subsidiaries as of December 31, 2004,
dividends of $16,024 may be paid to FPIC, the holding company, without
regulatory consent.




FPIC’s
insurance subsidiaries: First Professionals, APAC, Intermed and Interlex prepare
financial statements for regulatory purposes on a statutory-basis in conformity
with the accounting practices prescribed or permitted by the states of Florida
and Missouri. On a consolidated basis and at the subsidiary level, FPIC’s
statutory capital and surplus exceeded applicable regulatory and risk-based
capital requirements.




The
restricted net assets for FPIC’s insurance subsidiaries at December 31, 2004,
2003 and 2002, are as follows:




**2004**
    
    **2003**
    
    **2002**First
      Professionals
    
    $
    130,862
    
    
    106,967
    
    
    99,772APAC
    
    $
    13,356
    
    
    13,508
    
    
    13,151Intermed
    
    $
    29,333
    
    
    25,265
    
    
    24,743Interlex
    
    $
    7,243
    
    
    6,117
    
    
    5,822


The
statutory capital and surplus for FPIC’s insurance subsidiaries at December 31,
2004, 2003 and 2002, is shown in the table below.




**2004**
    
    **2003**
    
    **2002**First
      Professionals
    
    $
    145,402
    
    
    118,873
    
    
    110,858APAC
    
    
    14,840
    
    
    15,009
    
    
    14,612Intermed
    
    
    30,951
    
    
    26,991
    
    
    24,743Interlex
    
    
    8,048
    
    
    6,797
    
    
    6,541Combined
      statutory surplus
    
    
    199,241
    
    
    167,670
    
    
    156,754Less:
      Intercompany eliminations
    
    
    (38,999
    )
    
    (33,788
    )
    
    (31,284
    )Consolidated
      statutory surplus
    
    $
    160,242
    
    
    133,882
    
    
    125,470


For
the years ended December 31, 2004, 2003 and 2002, the statutory net income
(loss) for FPIC’s insurance subsidiaries was as follows:




**2004**
    
    **2003**
    
    **2002**First
      Professionals
    
    $
    9,063
    
    
    2,524
    
    
    10,961APAC
    
    
    (45
    )
    
    1,032
    
    
    569Intermed
    
    
    (446
    )
    
    2,316
    
    
    1,295Interlex
    
    
    1,103
    
    
    287
    
    
    99Total
      statutory income
    
    $
    9,675
    
    
    6,159
    
    
    12,924
  F-41
  FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


**18.
Related Party Transactions**




Following
is a summary of the related party transactions of FPIC and its consolidated
subsidiaries included in the consolidated financial statements as of December
31, 2004 and 2003, and for the years ended December 31, 2004, 2003 and 2002.
Credit balances are presented parenthetically.




**As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Statements
      of Financial Position:*Other
      invested assets
    
    $
    —
    
    
    788Premiums
      receivable
    
    $
    5,374
    
    
    8,608Reinsurance
      recoverable on paid losses
    
    $
    2,663
    
    
    2,738Reinsurance
      recoverable on unpaid losses and advance premiums
    
    $
    10,538
    
    
    12,012Reinsurance
      recoverable on unpaid losses and advance premiums, fronting
      arrangements(1)
    
    $
    72,224
    
    
    70,462Ceded
      unearned premiums
    
    $
    —
    
    
    3,638Ceded
      unearned premiums, fronting arrangements(2)
    
    $
    2,550
    
    
    12,848Deferred
      policy acquisition costs
    
    $
    3,002
    
    
    4,035Deferred
      policy acquisition costs, fronting arrangements
    
    $
    —
    
    
    (535
    )Other
      assets
    
    $
    7,882
    
    
    4,171Liability
      for losses and LAE
    
    $
    (25,292
    )
    
    (20,555
    )Unearned
      premiums
    
    $
    (46,575
    )
    
    (47,240
    )Reinsurance
      payable
    
    $
    (248
    )
    
    (23
    )Reinsurance
      payable, fronting arrangements
    
    $
    (4,372
    )
    
    (11,738
    )Other
      liabilities
    
    $
    (7,793
    )
    
    (8,759
    )
 
 (1)  Corresponding
liability for losses and LAE under fronting arrangements was ($73,122) and
($71,620) as of December 31, 2004 and 2003, respectively.


(2)  Corresponding
unearned premiums under fronting arrangements was ($2,790) and ($12,848) as of
December 31, 2004 and 2003, respectively.




**2004**
    
    **2003**
    
    **2002***Statements
      of Income (Loss):*Net
      premiums earned
    
    $
    (6,059
    )
    
    (3,478
    )
    
    (6,921
    )Ceded
      premiums earned, fronting arrangements(1)
    
    $
    35,563
    
    
    45,729
    
    
    51,736Claims
      administration and management fees
    
    $
    (39,100
    )
    
    (26,582
    )
    
    (24,341
    )Finance
      charge and other income
    
    $
    —
    
    
    (64
    )
    
    (50
    )Net
      losses and LAE
    
    $
    2,885
    
    
    (2,289
    )
    
    (1,532
    )Ceded
      losses and LAE, fronting arrangements(2)
    
    $
    (22,390
    )
    
    (44,697
    )
    
    (27,000
    )Other
      underwriting expenses
    
    $
    692
    
    
    3,804
    
    
    2,774Other
      underwriting expenses, fronting arrangements
    
    $
    (4,971
    )
    
    (6,382
    )
    
    (4,417
    )Other
      expenses
    
    $
    213
    
    
    213
    
    
    248




(1)Corresponding
direct premiums earned under fronting arrangements were ($35,559), ($45,726) and
($52,079) for the years ended December 31, 2004, 2003 and 2002,
respectively.
 (2)  Corresponding
direct losses and LAE incurred under fronting arrangements were $22,338, $44,768
and $27,290 for the years ended December 31, 2004, 2003 and 2002,
respectively.




F-42


FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)





*Management
Agreements with APA Management, Inc. (“APAM”) and Consulting Group of APA, Inc.
(“CGA”)*




Effective
June 30, 1998, FPIC entered into a management services agreement with APAM and
CGA, to provide FPIC with all necessary insurance management and administrative
services for APAC, a wholly owned subsidiary of FPIC. FPIC has an indirect
financial interest in APAM through its 9.8% interest in APAL, which owns 100% of
APAM. Prior to January 1, 2002, the agreement provided that APAM would receive
an annual fee of 14.5% of direct premiums (net of refunds) consisting of an
annual 10.5% service fee and 4% claims management fee. Effective January 1,
2002, the agreement was amended to implement a sliding fee scale of 14.5% on the
first $8 million of written premiums, 11% on written premiums between $8 million
and $10 million, and 10% on all written premiums in excess of $10 million. In
addition, the CGA fee was $500 annually. The agreement as it concerns APAM also
provided that anesthesiologist business produced by First Professionals or its
respective agents would be transferred to APAC upon renewal, assuming the
insured agreed, and that APAM would receive an annual 1% service fee on such
business.




As
of December 31, 2003 the management agreement with APAM and the CGA consulting
agreement had expired.




The
following table summarizes the related party assets and liabilities as of
December 31, 2004 and 2003 and revenues and expenses for the years ended
December 31, 2004, 2003 and 2002 resulting from the management agreements with
APAM and CGA.




**2004**
    
    **2003**
    
    **2002***Amounts
      Included Within the Statements of Income:*Net
      Losses and LAE:Claims
      handling fees incurred
    
    $
    —
    
    
    1,115
    
    
    951Other
      Underwriting Expenses:Management
      fees and consulting fees incurred
    
    $
    —
    
    
    3,407
    
    
    2,732


FPIC
also had two management agreements to provide investment management and
information technology support services to APAM, which terminated on December
31, 2003. Total revenues earned by FPIC from these agreements totaled
approximately $64 and $50 for the years ended December 31, 2003 and 2002,
respectively.




*25%
Quota Share Reinsurance Agreement with APAL*




On
July 1, 1998, First Professionals and APAC also entered into quota share
reinsurance agreements with APAL whereby these two subsidiaries ceded a 25%
quota share portion of all business written by them related to anesthesiologists
and certain related specialties to APAL. The agreements were entered into in
connection with and at the time of FPIC’s acquisition of APAC.




F-43
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


Effective
December 31, 2003, FPIC did not renew or extend the quota share reinsurance
agreements whereby First Professionals and APAC ceded 25% of their
anesthesiologists’ MPL business to APAL. As a result, no further written
premiums were ceded to APAL, effective January 1, 2004 and business ceded under
these agreements through December 31, 2003, has been placed into run
off.




The
following table summarizes the related party assets and liabilities as of
December 31, 2004 and 2003 and revenues and expenses for the years ended
December 31, 2004, 2003 and 2002 resulting from the 25% quota share reinsurance
agreement with APAL.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Reinsurance
      recoverable on paid losses
    
    $
    2,663
    
    
    2,738Reinsurance
      recoverable on unpaid losses and advance premiums
    
    $
    10,538
    
    
    12,012Other
      assets
    
    $
    —
    
    
    111Ceded
      unearned premiums
    
    $
    —
    
    
    3,638Reinsurance
      payable
    
    $
    (248
    )
    
    (23
    )**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Net
      Premiums Earned:Ceded
      premiums earned
    
    $
    3,792
    
    
    8,210
    
    
    7,046Net
      Losses and LAE:Ceded
      losses and LAE incurred
    
    $
    (3,187
    )
    
    (8,001
    )
    
    (7,056
    )Other
      Underwriting Expenses:Ceding
      commissions earned
    
    $
    (758
    )
    
    (1,642
    )
    
    (1,412
    )


See
Note 8, Reinsurance, for additional information on the collateral held under
these programs.




*Fronting
Programs with APAL (SPC) Limited*




Effective
in 2001, APAL formed a new subsidiary, APAL (SPC) Limited, which was established
in accordance with Section 235(1) of the Company Law 2nd Revision of Caymanian
Law as a segregated portfolio corporation. FPIC’s subsidiary, APAC, had
developed alternative risk insurance programs whereby segregated portfolio
corporations were formed to assume workers’ compensation risks. APAC received a
fee for the use of its policy forms and does not retain the underwriting risks
or incur the administrative expenses under these programs. Like other
reinsurance agreements, APAC does remain liable to the insureds under these
programs as the primary insurer in the event APAL (SPC) Limited or other
reinsurers under these programs were not to perform. Therefore, APAC maintains
collateral in the form of assets in trust and irrevocable letters of credit
corresponding with applicable reinsurance recoverable balances.




All
of these programs have been terminated as of December 31, 2004 or prior, and
have been placed into run off.




F-44
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
following table summarizes the related party assets and liabilities as of
December 31, 2004 and 2003 and revenues and expenses for the years ended
December 31, 2004, 2003 and 2002 resulting from the fronting programs with APAL
(SPC) Limited. The corresponding direct business with non-related parties is
indicated in the footnotes to the table.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Reinsurance
      recoverable on unpaid losses and advance premiums(1)
    
    $
    17,748
    
    
    14,938Ceded
      unearned premiums, fronting arrangements(2)
    
    $
    2,550
    
    
    10,866Reinsurance
      payable
    
    $
    (4,372
    )
    
    (11,738
    )**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Net
      Premiums Earned:Ceded
      premiums earned(3)
    
    $
    23,479
    
    
    26,262
    
    
    17,998Net
      Losses and LAE:Ceded
      losses and LAE incurred(4)
    
    $
    (16,529
    )
    
    (20,014
    )
    
    (7,427
    )Other
      Underwriting Expenses:Fronting
      fee income earned
    
    $
    (1,709
    )
    
    (2,020
    )
    
    (803
    )


(1)  Corresponding
liability for losses and LAE were ($17,748) and ($14,938) as of December 31,
2004 and 2003, respectively.




(2)  Corresponding
unearned premiums were ($2,790) and ($10,866) as of December 31, 2004 and 2003,
respectively.


(3)  Corresponding
direct premiums earned were ($23,479), ($26,262) and ($17,998) for the years
ended December 31, 2004, 2003 and 2002, respectively.


(4)  Corresponding
direct losses and LAE incurred were $16,529, $20,014 and $7,427 for the years
ended December 31, 2004, 2003 and 2002, respectively.




See
Note 8, Reinsurance, for additional information on the collateral held under
these programs.




*Reinsurance
Agreements with PRI*




On
July 1, 1998, First Professionals began assuming reinsurance from PRI, a writer
of medical liability insurance in the state of New York. PRI is managed by an
attorney-in-fact, AFP, which is a wholly owned subsidiary of FPIC. Under one
contract, which reinsures PRI for policies with limits of $1.0 million in excess
of $1.0 million, First Professionals assumed losses only and paid PRI a ceding
commission on the premiums assumed. Effective April 1, 2002, the contract was
changed to reinsure PRI for policies with limits of $1.0 million in excess of
$1.3 million. First Professionals and PRI elected not to renew their excess of
loss reinsurance treaty effective July 1, 2004.




F-45


FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)





During
the first quarter of 2002, a former excess of loss reinsurance treaty with PRI
relating to losses of $0.25 million in excess of $0.5 million was commuted. As a
result of this commutation, during the first quarter of 2002, First
Professionals reported approximately $9.3 million of paid losses and LAE with a
corresponding reduction in reserves. There was no net income effect from this
commutation, due to the prior accrual of such charge.




Effective
January 1, 2000, First Professionals entered into a 100% quota share reinsurance
agreement with PRI to assume PRI’s DD&R risks under its claims-made
insurance policies in exchange for cash and investments in the amount of $47.0
million. During 2000, a GAAP valuation of the underlying liability was completed
and a deferred credit in the amount of $13.2 million was recognized. The
deferred credit, which is being amortized into income over 20 years, represents
the difference between the GAAP valuation of the liability and the initial
premium received. The liability was calculated using benefit assumptions and
elements of pension actuarial models (i.e., mortality, morbidity, retirement,
interest and inflation rate assumptions). In connection with the agreement,
First Professionals recognized a 5% ceding commission expense, which
was deferred and is being amortized as premiums are earned under the
agreement.




The
following table summarizes the related party assets and liabilities as of
December 31, 2004 and 2003 and revenues and expenses for the years ended
December 31, 2004, 2003 and 2002 resulting from the reinsurance agreements with
PRI.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Premiums
      receivable
    
    $
    5,374
    
    
    8,608Deferred
      policy acquisition costs
    
    $
    3,002
    
    
    4,035Liability
      for losses and LAE
    
    $
    (25,292
    )
    
    (20,555
    )Unearned
      premiums
    
    $
    (46,575
    )
    
    (47,240
    )Other
      liabilities (deferred credit)
    
    $
    (6,783
    )
    
    (7,729
    )**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Net
      Premiums Earned:Assumed
      premiums earned
    
    $
    (9,852
    )
    
    (11,689
    )
    
    (13,966
    )Net
      Losses and LAE:Assumed
      losses and LAE incurred
    
    $
    6,072
    
    
    4,598
    
    
    4,573Other
      Underwriting Expenses:Assuming
      commissions incurred
    
    $
    1,889
    
    
    2,584
    
    
    2,475Deferred
      credit amortization
    
    $
    (946
    )
    
    (1,020
    )
    
    (1,258
    )
  F-46





FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)


**


*Management
Agreement with PRI and Reinsurance Services*




AFP
has an exclusive ten-year management agreement with PRI with the current term
ending December 31, 2008. During 2002, the management agreement between AFP and
PRI was amended to remove the sharing by AFP of 10% of PRI’s statutory net
income or loss, effective January 1, 2002. Compensation under the agreement as
originally in effect was equal to 13% of PRI’s direct premiums written, with an
adjustment for expected return premiums, plus or minus 10% of PRI’s statutory
net income or loss. With regard to profit sharing amounts already earned and
collected, AFP has agreed pursuant to the amendment, to consider the years 1999,
2000 and 2001 re-open for re-determination and possible adjustment for a period
of five years each (expiring 2004, 2005 and 2006, respectively.) Such
adjustments would be based primarily on development of and related adjustments,
if any, to loss and LAE reserves for those years. There have been no adjustments
to date. AFP had previously earned and collected profit sharing amounts under
the original agreement totaling $3,548 million for the three years ended
December 31, 2001. In accordance with the amended agreement, AFP also agreed to
pay 6% annual interest on the 10% profit share amounts previously earned and
collected under the original agreement for 1999, 2000 and 2001, while those
years remain open for possible future re-determination and adjustment, if any.
In addition, AFP is reimbursed for 50% of the costs associated with the risk
management department it maintains for PRI insureds. The management agreement
and amendment were reviewed and approved by the New York State Insurance
Department.




FPIC’s
revenues and results of operations are financially sensitive to the revenues and
results of operations of PRI. We do not own or have a controlling financial
interest in PRI, nor is PRI considered a variable interest entity under FIN
46(R) and so PRI’s financial statements are not consolidated or included in
ours. Instead, PRI is similar to a mutual insurer and the risks and rewards of
ownership vest with the policyholders of PRI. PRI, as an MPL insurer, is subject
to many of the same types of risks as those of FPIC’s insurance subsidiaries. In
addition, PRI is regulated by the New York State Insurance Department and files
annual and quarterly statements with the department containing its financial
statements, prepared on the statutory-basis of accounting, and other
data.




F-47
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
following table summarizes the related party assets as of December 31, 2004 and
2003 and revenues and expenses for the years ended December 31, 2004, 2003 and
2002 resulting from the management agreement with PRI.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Other
      assets
    
    $
    7,227
    
    
    4,046Accrued
      expenses and other liabilities
    
    $
    (1,010
    )
    
    (1,030
    )**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Claims
      Administration and Management Fees:Management
      fees
    
    $
    (38,152
    )
    
    (26,582
    )
    
    (24,341
    )Other
      Expenses:Loss
      sharing
    
    $
    —
    
    
    —
    
    
    35Interest
      expense
    
    $
    213
    
    
    213
    
    
    213


In
addition to the management agreement with PRI, AFP through its subsidiary FPIC
Intermediaries provides brokerage, administration and intermediary services for
insurance and reinsurance programs to PRI with the brokerage commissions being
paid by the reinsuring company. As a result of its relationship with PRI, FPIC
Intermediaries earned brokerage commissions of $1,434, $1,718 and $1,744 for the
years ended December 31, 2004, 2003 and 2002 for the placement reinsurance on
behalf of PRI with other reinsurance carriers. FPIC Intermediaries also earned
brokerage commissions of $432, $1,008 and $952 from First Professionals for the
years ended December 31, 2004, 2003 and 2002 for the placement of reinsurance
with First Professionals from PRI. The brokerage commissions from First
Professionals are eliminated in the consolidated financial
statements.




For
a summary of all revenues and expenses associated with the PRI management
agreement and related brokerage and reinsurance intermediary services performed
for it, refer to the selected financial information presented for the insurance
management segment in Note 16, Segment Information, preceding.




F-48
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


*Management
Agreement with PaPRI*




Effective
July 1, 2004, PRM commenced operations as the administrator and attorney-in-fact
of PaPRI. PaPRI is an insurance exchange domiciled in Pennsylvania. It was
formed to take the place of the unrelated fronting carrier that has
underwritten, and ceded as reinsurance to PRI, medical professional liability
insurance program business in Pennsylvania. PaPRI commenced underwriting the
Pennsylvania program business effective July 1, 2004. PaPRI is not a subsidiary
of PRM, AFP or FPIC. As an insurance exchange, the organization of PaPRI is
similar to that of a mutual insurance company. PaPRI is also not a subsidiary of
PRI, but has received its initial capitalization in the form of a subordinated
surplus note from PRI.




PaPRI
cedes 100% of the Pennsylvania program business in the form of reinsurance to
PRI. PRM management fees were $0.7 million for the three months ended December
31, 2004. Direct premiums written by PaPRI during the three months ended
December 31, 2004 were $3,295.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Other
      assets
    
    $
    655
    
    
    —**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Claims
      Administration and Management Fees:Management
      fees
    
    $
    (948
    )
    
    —
    
    
    —




*Fronting
Program with PRI*




Effective
July 1, 2000, First Professionals entered into an agreement with PRI whereby
First Professionals, through PMA, served as the fronting carrier
for an MPL insurance program in Pennsylvania for PRI. Under this program,
whereby business was written on First Professionals’ policy forms and ceded to
PRI under a 100% quota share reinsurance agreement, FPIC received a fronting fee
of 7% and PMA received an administration fee of 20% of premiums written, in
return for its services to PRI, which include underwriting, claims management
and other administrative aspects of this program. PMA also pays all commissions
and brokerage to outside agents and brokers for the placement of business under
the program. Effective January 1, 2002, the terms of this agreement were amended
to cede 100% of the premiums written to PRI. The amendment has been filed with
the New York State Insurance Department.




Effective
August 1, 2003, PRI engaged an unrelated fronting carrier and no new or renewal
business was written on First Professionals’ policy forms
thereafter.




F-49
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)


The
following table summarizes the related party assets and liabilities as of
December 31, 2004 and 2003 and revenues and expenses for the years ended
December 31, 2004, 2003 and 2002 resulting from the fronting program with PRI.
The corresponding direct business with non-related parties is indicated in the
footnotes to the table.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Reinsurance
      recoverable on unpaid losses and advance premiums(1)
    
    $
    40,216
    
    
    37,296Ceded
      unearned premiums(2)
    
    $
    —
    
    
    1,982Deferred
      policy acquisition costs
    
    $
    —
    
    
    (535
    )**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Net
      Premiums Earned:Ceded
      premiums earned(3)
    
    $
    12,084
    
    
    16,145
    
    
    11,418Net
      Losses and LAE:Ceded
      losses and LAE incurred(4)
    
    $
    (9,830
    )
    
    (21,005
    )
    
    (10,221
    )Other
      Underwriting Expenses:Ceding
      commissions earned
    
    $
    (3,262
    )
    
    (4,358
    )
    
    (3,045
    )


(1)  Corresponding
liability for losses and LAE were ($40,807) and ($38,454) as of December 31,
2004 and 2003, respectively.


(2)  Corresponding
unearned premiums were ($1,982) as of December 31, 2003,
respectively.


(3)  Corresponding
direct premiums earned were ($12,080), ($16,143) and ($11,762) for the years
ended December 30, 2004, 2003 and 2002, respectively.


(4)  Corresponding
direct losses and LAE incurred were $9,779, $21,076 and $10,511 for the years
ended December 31, 2004, 2003 and 2002, respectively.




See
Note 8, Reinsurance, for additional information on the collateral held under
these programs.




*Fronting
Program with American Physicians Insurance Exchange (“APIE”)*




FPIC
had an insurance program with APIE, a Texas medical professional liability
insurance exchange, whereby, through December 31, 2002, business was written on
First Professionals’ policy forms and substantially all the underlying insurance
risks and premiums were ceded to APIE for a fronting fee. We owned 20% of the
outstanding common stock of APS, which serves as the exclusive management
company for APIE, until October 1, 2003, at which time we sold our 20%
investment to the majority (80%) owner for $2,050 in cash. A small gain was
recognized on this transaction. One of our senior officers also served on the
APS board of directors. This program was terminated effective December 31,
2002.




F-50




FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)




The
APIE fronting program expired December 31, 2002, at which time we ceased writing
business for APIE on our policy forms and placed the existing business in run
off.




The
following table summarizes the related party assets and liabilities as of
December 31, 2004 and 2003 and revenues and expenses for the years ended
December 31, 2004, 2003 and 2002 resulting from the fronting program with APIE.
The corresponding direct business with non-related parties is indicated in the
footnotes to the table.




**As
      of**
    
    **As
      of****Dec
      31, 2004**
    
    **Dec
      31, 2003***Amounts
      Included Within the Statements of Financial Position:*Reinsurance
      recoverable on unpaid losses and advance premiums(1)
    
    $
    14,260
    
    
    18,228**2004**
    
    
    **2003**
    
    
    **2002***Amounts
      Included Within the Statements of Income:*Net
      Premiums Earned:Ceded
      premiums earned(2)
    
    $
    —
    
    
    3,321
    
    
    22,319Net
      Losses and LAE:Ceded
      losses and LAE incurred(3)
    
    $
    3,969
    
    
    (3,678
    )
    
    (9,352
    )Other
      Underwriting Expenses:Fronting
      fee income
    
    $
    —
    
    
    (3
    )
    
    (569
    )


(1)  Corresponding
liability for losses and LAE were ($14,567) and ($18,228) as of December 31,
2004 and 2003, respectively.


(2)  Corresponding
direct premiums earned were ($3,321) and ($22,319) for the years ended December
31, 2003 and 2002, respectively.


(3)  Corresponding
direct losses and LAE incurred were ($3,969), $3,678 and $9,352 for the years
ended December 31, 2004, 2003 and 2002, respectively.




See
Note 8, Reinsurance, for additional information on the collateral held under
these programs.




*Other
Related Party Transactions*




The
principal owner of one of FPIC’s insurance agents and brokers serves as a
director of FPIC. This director’s firm also acts as FPIC’s agent in purchasing
its internal insurance. The commissions paid by FPIC to the director’s firm were
approximately $343, $338 and $227 during the years ended December 31, 2004, 2003
and 2002, respectively. In addition, FPIC obtains corporate legal services from
time to time from an outside law firm, a partner of which is also a director of
FPIC. Costs incurred during the years ended December 31, 2004, 2003 and 2002 by
FPIC with respect to these legal services were $165, $136 and $11,
respectively.




F-51
 FPIC
Insurance Group, Inc.
 Notes to
the Consolidated Financial Statements
 (Dollars
in thousands, except per share amounts and elsewhere as noted)






**19.
Unaudited Quarterly Results of Operations**




The
following is a summary of our unaudited quarterly consolidated results of
operations for the years ended December 31, 2004, 2003 and 2002:




**2004**
    
    **First**
    
    **Second**
    
    **Third**
    
    **Fourth**Direct
      and assumed premiums written
    
    $
    98,604
    
    
    77,102
    
    
    77,179
    
    
    59,843Net
      premium written
    
    $
    43,604
    
    
    33,327
    
    
    65,118
    
    
    50,483Net
      premiums earned
    
    $
    35,012
    
    
    31,668
    
    
    38,873
    
    
    44,123Net
      investment income
    
    $
    5,621
    
    
    4,564
    
    
    5,039
    
    
    5,535Total
      revenues
    
    $
    57,563
    
    
    52,065
    
    
    60,655
    
    
    66,524Net
      income
    
    $
    7,010
    
    
    6,457
    
    
    7,529
    
    
    7,185Basic
      earnings per share
    
    $
    0.71
    
    
    0.65
    
    
    0.75
    
    
    0.72Diluted
      earnings per share
    
    $
    0.68
    
    
    0.62
    
    
    0.72
    
    
    0.68**2003**
    
    
    **First**
    
    
    **Second**
    
    
    **Third**
    
    
    **Fourth**Direct
      and assumed premiums written
    
    $
    104,535
    
    
    84,395
    
    
    87,808
    
    
    64,003Net
      premium written
    
    $
    38,996
    
    
    35,871
    
    
    46,624
    
    
    21,643Net
      premiums earned
    
    $
    28,908
    
    
    31,870
    
    
    40,895
    
    
    29,992Net
      investment income
    
    $
    4,503
    
    
    4,719
    
    
    4,680
    
    
    4,512Total
      revenues
    
    $
    44,129
    
    
    49,141
    
    
    60,093
    
    
    48,361Net
      income
    
    $
    2,760
    
    
    3,498
    
    
    5,381
    
    
    4,933Basic
      earnings per share
    
    $
    0.29
    
    
    0.37
    
    
    0.56
    
    
    0.53Diluted
      earnings per share
    
    $
    0.29
    
    
    0.37
    
    
    0.56
    
    
    0.49**2002**
    
    
    **First**
    
    
    **Second**
    
    
    **Third**
    
    
    **Fourth**Direct
      and assumed premiums written
    
    $
    89,258
    
    
    90,426
    
    
    90,856
    
    
    74,187Net
      premium written
    
    $
    56,196
    
    
    57,164
    
    
    (6,448
    )
    
    33,336Net
      premiums earned
    
    $
    39,342
    
    
    47,560
    
    
    30,435
    
    
    34,347Net
      investment income
    
    $
    4,888
    
    
    5,813
    
    
    5,688
    
    
    4,588Total
      revenues
    
    $
    53,416
    
    
    62,775
    
    
    50,407
    
    
    55,342Income
      before cumulative effect of accounting change
    
    $
    2,865
    
    
    2,609
    
    
    4,415
    
    
    4,987Cumulative
      effect of accounting change, net of an income tax benefit
    
    $
    (29,578
    )
    
    —
    
    
    —
    
    
    —Net
      (loss) income
    
    $
    (26,713
    )
    
    2,609
    
    
    4,415
    
    
    4,987Basic
      (loss) earnings per share
    
    $
    (2.85
    )
    
    0.28
    
    
    0.47
    
    
    0.53Diluted
      (loss) earnings per share
    
    $
    (2.82
    )
    
    0.26
    
    
    0.47
    
    
    0.53





F-52




FPIC
Insurance Group, Inc.
Notes to
the Consolidated Financial Statements
(Dollars
in thousands, except per share amounts and elsewhere as noted)


****


**20.
Subsequent Event**




In
January 2005, FPIC signed a definitive agreement with WebTPA, Inc. (“WebTPA”) to
sell the TPA segment’s employee benefits administration business for
approximately $0.5 million. Due to continuing competitiveness issues in the
employee benefits administration marketplace, FPIC determined that its TPA
segment would continue to be significantly challenged in this line and that a
sale represented the most orderly transition of the business.  Closing and
final purchase price determination is subject to certain terms and conditions,
including obtaining required customer consents to assign related administrative
contracts.  In accordance with FAS 144, “Accounting for the Impairment and
Disposal of Long-Lived Assets”, the results of the employee benefits
administration business will be reported as a discontinued operation beginning
in the first quarter of 2005.  As of December 31, 2004, the assets and
liabilities related to this operation included in our consolidated statements of
financial position were $0.8 million and $0.5 million,
respectively.











F-53


**SCHEDULE I****FPIC
      Insurance Group, Inc.****Summary
      of Investments Other Than Investments in Related
      Parties****As
      of December 31, 2004****(in
      thousands)****Cost
      or Amortized Cost**
    
    **Fair
      Value**
    
    **Amount
      in Statement of Financial Position***Fixed
      Maturities, Available for Sale:*Corporate
      securities
    
    $
    131,128
    
    
    131,941
    
    
    131,941United
      States Government agencies and authorities
    
    
    80,512
    
    
    81,256
    
    
    81,256States,
      municipalities and political subdivisions
    
    
    251,274
    
    
    254,246
    
    
    254,246Mortgage-backed
      securities
    
    
    81,382
    
    
    81,100
    
    
    81,100Total
      Fixed Maturities, Available for Sale
    
    
    544,296
    
    
    548,543
    
    
    548,543Other
      invested assets
    
    
    7,175
    
    
    7,175
    
    
    7,175Total
      Investments
    
    $
    551,471
    
    
    555,718
    
    
    555,718


See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.





S-1


**SCHEDULE II****FPIC
      Insurance Group, Inc.****Condensed
      Financial Information of Registrant****FPIC
      Insurance Group, Inc. (Parent Only)****Condensed
      Statements of Financial Position****As
      of December 31, 2004 and 2003****(in
      thousands, except common share data)****2004**
    
    **2003****Assets**Investments
      in subsidiaries*
    
    $
    245,200
    
    
    214,298Other
      invested assets
    
    
    1,083
    
    
    1,871Total
      investments
    
    
    246,283
    
    
    216,169Cash
      and cash equivalents
    
    
    6,984
    
    
    10,248Property
      and equipment, net
    
    
    1,604
    
    
    1,536Due
      from subsidiaries, net*
    
    
    6,919
    
    
    1,630Deferred
      income taxes
    
    
    4,035
    
    
    2,825Other
      assets
    
    
    6,951
    
    
    6,669Total
      assets
    
    $
    272,776
    
    
    239,077**Liabilities
      and Shareholders' Equity**Long
      term debt
    
    $
    46,083
    
    
    46,083Accrued
      expenses and other liabilities
    
    
    9,573
    
    
    6,337Total
      liabilities
    
    
    55,656
    
    
    52,420Common
      stock, $.10 par value, 50,000,000 shares authorized 10,069,532 and
      9,770,843 shares issued and outstanding at December 31, 2004 and 2003,
      respectively
    
    
    1,007
    
    
    977Additional
      paid-in capital
    
    
    47,871
    
    
    43,705Retained
      earnings
    
    
    165,880
    
    
    137,699Accumulated
      other comprehensive income, net
    
    
    2,362
    
    
    4,276Total
      shareholders' equity
    
    
    217,120
    
    
    186,657Total
      liabilities and shareholders' equity
    
    $
    272,776
    
    
    239,077




*Eliminated
in consolidation




See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.


S-2





**SCHEDULE II****FPIC
      Insurance Group, Inc.****Condensed
      Financial Information of Registrant****FPIC
      Insurance Group, Inc. (Parent Only)****Condensed
      Statements of Earnings (Losses)****For
      the Years Ended December 31, 2004, 2003 and 2002****(in
      thousands)****2004**
    
    **2003**
    
    **2002****Revenues**Management
      fees from subsidiaries, net*
    
    $
    28,757
    
    
    25,288
    
    
    21,577Net
      investment loss
    
    
    (663
    )
    
    (404
    )
    
    (19
    )Net
      realized investment loss
    
    
    (787
    )
    
    (4,539
    )
    
    —Other
      income
    
    
    1
    
    
    92
    
    
    54Total
      revenues
    
    
    27,308
    
    
    20,437
    
    
    21,612**Expenses**Management
      fees due to subsidiaries*
    
    
    15
    
    
    30
    
    
    30Other
      underwriting expenses
    
    
    24,447
    
    
    20,199
    
    
    17,488Interest
      expense on debt
    
    
    2,564
    
    
    5,886
    
    
    4,762Other
      expenses
    
    
    —
    
    
    22
    
    
    174Total
      expenses
    
    
    27,026
    
    
    26,137
    
    
    22,454Income
      (loss) before income taxes
    
    
    282
    
    
    (5,700
    )
    
    (842
    )Less:
      Income tax expense (benefit)
    
    
    1,144
    
    
    (2,143
    )
    
    209Loss
      before equity in undistributed earnings of subsidiaries
    
    
    (862
    )
    
    (3,557
    )
    
    (1,051
    )Equity
      in undistributed earnings (loss) of subsidiaries*
    
    
    29,043
    
    
    20,129
    
    
    (13,651
    )Net
      income (loss)
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )


*Eliminated
in consolidation




See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.


S-3


**SCHEDULE II****FPIC
      Insurance Group, Inc.****Condensed
      Financial Information of Registrant****FPIC
      Insurance Group, Inc. (Parent Only)****Condensed
      Statements of Cash Flows****For
      the Years Ended December 31, 2004, 2003 and 2002****(in
      thousands)****2004**
    
    **2003**
    
    **2002****Cash
      Flows From Operating Activities:**Net
      income
    
    $
    28,181
    
    
    16,572
    
    
    (14,702
    )*Adjustments
      to R**econcile
      Net Income to Cash Provided by Operating Activities:*Equity
      in undistributed earnings of subsidiaries*
    
    
    (29,043
    )
    
    (20,560
    )
    
    13,326Common
      stock dividend from subsidiaries*
    
    
    2,224
    
    
    3,650
    
    
    6,590Return
      of capital from subsidiaries*
    
    
    10,881
    
    
    8,550
    
    
    8,260Capital
      contribution to subsidiaries*
    
    
    (16,000
    )
    
    (4,200
    )
    
    (10,860
    )Depreciation
      and amortization
    
    
    905
    
    
    509
    
    
    942Realized
      loss on investments
    
    
    787
    
    
    4,629
    
    
    —Realized
      loss on sale of property and equipment
    
    
    —
    
    
    —
    
    
    —Net
      gain from equity investments
    
    
    —
    
    
    (195
    )
    
    (222
    )Deferred
      income tax benefit
    
    
    (1,107
    )
    
    (1,253
    )
    
    (1,047
    )*Other
      Changes in Assets and Liabilities:*Due
      from subsidiaries*
    
    
    (5,516
    )
    
    138
    
    
    (2,217
    )Other
      assets
    
    
    (760
    )
    
    (3,804
    )
    
    8,870Other
      liabilities
    
    
    3,651
    
    
    1,389
    
    
    325Net
      cash (used in) provided by operating activities
    
    
    (5,797
    )
    
    5,425
    
    
    9,265**Cash
      Flows From Investing Activities:**Proceeds
      from sale of other invested assets
    
    
    —
    
    
    2,266
    
    
    —Purchase
      of other invested assets
    
    
    —
    
    
    (1,083
    )
    
    —Purchase
      of property and equipment
    
    
    (684
    )
    
    (753
    )
    
    (607
    )Net
      cash (used in) provided by investing activities
    
    
    (684
    )
    
    430
    
    
    (607
    )**Cash
      Flows From Financing Activities:**Receipt
      of long term debt
    
    
    —
    
    
    46,083
    
    
    —Payment
      of revolving credit facility
    
    
    —
    
    
    (47,208
    )
    
    (5,833
    )Purchase
      of derivative financial instrument
    
    
    —
    
    
    (1,134
    )
    
    —Settlement
      of derivative financial instrument
    
    
    —
    
    
    (2,493
    )
    
    —Issuance
      of common stock
    
    
    3,217
    
    
    4,423
    
    
    438Net
      cash provided by (used in) financing activities
    
    
    3,217
    
    
    (329
    )
    
    (5,395
    )Net
      (decrease) increase in cash and cash equivalents
    
    
    (3,264
    )
    
    5,526
    
    
    3,263Cash
      and cash equivalents at beginning of period
    
    
    10,248
    
    
    4,722
    
    
    1,459Cash
      and cash equivalents at end of period
    
    $
    6,984
    
    
    10,248
    
    
    4,722**Supplemental
      Disclosure of Cash Flow Information:**Interest
      paid on debt
    
    $
    2,524
    
    
    3,363
    
    
    4,718Federal
      income taxes paid
    
    $
    12,950
    
    
    9,450
    
    
    6,293Federal
      income tax refunds received
    
    $
    —
    
    
    346
    
    
    4,958*
      Eliminated in consolidation




See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.


S-4




**SCHEDULE III****FPIC
      Insurance Group, Inc.****Consolidated
      Supplementary Insurance Information****For
      the Years Ended December 31, 2004, 2003 and 2002****(in
      thousands)**DeferredPolicyAcquisition
    
    
    
    
    
    
    
    Net
    
    
    
    Amortization
    
    
    
    NetCosts
    
    Loss
    
    Unearned
    
    Premium
    
    Investment
    
    Loss
    
    of
    
    Other
    
    WrittenSegment
    
    (“DPAC”)
    
    Reserves
    
    Premiums
    
    Revenue
    
    Income
    
    Expenses
    
    DPAC
    
    Expenses
    
    Premiums2004Medical
      professional and other liability
    
    $
    11,280
    
    
    635,118
    
    
    177,003
    
    
    149,676
    
    
    20,627
    
    
    125,172
    
    
    8,417
    
    
    11,542
    
    
    192,5322003Medical
      professional and other liability
    
    $
    6,209
    
    
    574,529
    
    
    177,435
    
    
    131,665
    
    
    18,285
    
    
    118,974
    
    
    6,008
    
    
    8,880
    
    
    143,1342002Medical
      professional and other liability
    
    $
    4,452
    
    
    440,166
    
    
    173,421
    
    
    151,684
    
    
    20,793
    
    
    139,571
    
    
    9,952
    
    
    8,511
    
    
    140,248


See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.


S-5


**SCHEDULE IV****FPIC
      Insurance Group, Inc.****Reinsurance****For
      the Years Ended December 31, 2004, 2003 and 2002****(in
      thousands)**Ceded
    
    AssumedPremiums
    
    Premiums
    
    
    
    PercentageGross
    
    Earned
      to
    
    Earned
    
    Net
    
    ofPremiums
    
    Other
    
    From
      Other
    
    Premiums
    
    AssumedType
      of Insurance
    
    Amount
    
    Companies
    
    Companies
    
    Earned
    
    to
      Net2004Medical
      professional and other liability
    
    $
    303,308
    
    
    163,484
    
    
    9,852
    
    
    149,676
    
    
    7
    %2003Medical
      professional and other liability
    
    $
    325,039
    
    
    205,062
    
    
    11,688
    
    
    131,665
    
    
    9
    %2002Medical
      professional and other liability
    
    $
    302,845
    
    
    166,384
    
    
    15,223
    
    
    151,684
    
    
    10
    %





See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.


S-6


**SCHEDULE V****FPIC
      Insurance Group, Inc.****Valuation
      and Qualifying Accounts****For
      the Years Ended December 31, 2004, 2003 and 2002****(in
      thousands)**Balance
      at
    
    Charged
      to
    
    
    
    BalanceBeginning
    
    Costs
      and
    
    
    
    at
      EndDescription
    
    of
      Period
    
    Expenses
    
    Deductions
    
    of
      PeriodDecember
      31, 2004Allowance
      for doubtful accounts
    
    $
    400
    
    
    43
    
    
    43
    
    
    400December
      31, 2003Allowance
      for doubtful accounts
    
    $
    400
    
    
    95
    
    
    95
    
    
    400December
      31, 2002Allowance
      for doubtful accounts
    
    $
    734
    
    
    668
    
    
    1,002
    
    
    400





See
Accompanying Report of Independent Registered Certified Public Accounting
Firm.







S-7