##### Table of Contents



SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 Form 10-K/A
 Amendment No. 1
 þ
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 For the fiscal year ended December 31, 2004
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to.
 Commission File Number 1-9640
 MERCHANTS GROUP, INC.
 (Exact name of registrant as specified in its charter)
 Delaware
    
    16-1280763(State or other jurisdiction of incorporation or organization)
    
    (I.R.S. Employer Identification No.)250 Main Street, Buffalo, New York
    
    14202(Address of principal executive offices)
    
    (Zip Code)
 716-849-3333  (Registrants telephone number, including area code)
 Securities registered pursuant to Section 12(b) of the Act
 Title
of each class Common Stock, $.01 par value per share  Name
of each exchange on which registered American Stock Exchange, Inc.
 Securities registered pursuant to Section 12 (g) of the Ac NONE
 o þ
 o þ
 þ o
 þ
  Large Accelerated Filer o
    
    Accelerated Filer o
    
    Non-Accelerated Filer
þ
 o þ




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##### Table of Contents




    
    The table showing the Companys re-estimation of its loss and loss adjustment expense
reserves appearing on page 12 of Part I  Item 1. Business, has been revised to
show the Companys initial estimate and re-estimate as of
December 31, 2004 of gross
liabilities before reinsurance and the liability ceded to reinsurers.
    
    Part I  Item 7. Managements Discussion and Analysis of Financial Condition and
Results of Operations has been amended to provide additional disclosure with respect to
the causes of loss reserve development for certain products. In addition the Critical
Accounting Policies section was amended to include a description of the actuarial reserving
methodologies used by the Company and to show a reasonably likely range of reserves for
loss and loss adjustment expenses as of December 31, 2004. Further, the Company amended
this section to include disclosure of the amount of loss and loss adjustment expense
reserves for each of its products.
    
    The Companys consolidated financial statements included in Part I  Item 8.
Financial Statements and Supplementary Data were amended to disclose related party
transactions as required by Rule 4-08(k) of Regulation S-X. The Companys consolidated
financial statements were also amended to include a Note (no. 10) showing the underwriting
results of each of the Companys products as well as the total revenues derived from each
product.
   2




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##### Table of Contents



PART IITEM 1.
    
    BUSINESS.ITEM 2.
    
    PROPERTIES.ITEM 3.
    
    LEGAL PROCEEDINGS.ITEM 4.
    
    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.PART IIITEM 5.
    
    MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.ITEM 6.
    
    SELECTED FINANCIAL DATA.ITEM 7.
    
    MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.ITEM 7A.
    
    QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK.ITEM 8.
    
    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.ITEM 9.
    
    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.ITEM 9A.
    
    CONTROLS AND PROCEDURESPART IIIITEM 10.
    
    DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.ITEM 11.
    
    EXECUTIVE COMPENSATION.ITEM 12.
    
    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.ITEM 13.
    
    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.ITEM 14.
    
    PRINCIPAL ACCOUNTANT FEES AND SERVICESPART IVITEM 15.
    
    EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND
REPORTS ON FORM 8-K.EX-23 Consent of Independent Public Accounting FirmEX-31 Rule 13A014(A)/15D-14(A) CertificationsEX-32 906 Certifications
 3




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General
  Administration
      4




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Marketing
    5




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Insurance Underwriting
  6




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##### Table of Contents



As of December 31,2002
    
    2003(1)
    
    2004(1)New York
    
    
    67
    %
    
    
    60
    %
    
    
    63
    %New Jersey
    
    
    9
    
    
    
    17
    
    
    
    14New Hampshire
    
    
    10
    
    
    
    9
    
    
    
    8Pennsylvania
    
    
    5
    
    
    
    6
    
    
    
    7Rhode Island
    
    
    5
    
    
    
    3
    
    
    
    3Massachusetts
    
    
    2
    
    
    
    2
    
    
    
    3Other
    
    
    2
    
    
    
    3
    
    
    
    2Total
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
 
 (1)
    
    Shown on a group-wide basis for the Pooled Business. See the Administration
section of this Item for further discussion.  °
    
    Personal automobile  full coverage of standard performance automobiles, generally
requiring drivers with good driving records during the past three years at the time of
first issuance by Merchants.°
    
    Homeowners  properties generally with no losses in the last three years that are less than
30 years old and valued between $125,000 and $500,000.°
    
    Commercial automobile  primarily light and medium duty vehicles operating in a limited
radius, with complete background information required of all drivers.°
    
    Commercial multi-peril  properties with medium to high construction quality and low to
moderate fire exposure, and occupancies with low to moderate exposure to hazardous materials and
processes.°
    
    General liability  low hazard service, mercantile and light processing businesses,
generally with at least three years of business experience and with no losses in the last three
years.°
    
    Workers compensation  risks with low loss frequency and severity, low to moderate exposure
to hazardous materials and processes, and favorable experience modification factors. Generally,
workers compensation insurance is written in conjunction with other commercial insurance.
 7




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Year ended December 31,2002
    
    
    2003
    
    
    2004Premiums
    
    
    
    
    
    
    
    
    
    
    Premiums
    
    
    
    
    
    
    
    
    
    
    PremiumsWritten
    
    
    
    
    
    
    
    
    
    
    Written
    
    
    
    
    
    
    
    
    
    
    WrittenLALAE
    
    
    
    
    
    
    
    
    
    
    LALAE
    
    
    
    
    
    
    
    
    
    
    LALAEAmount
    
    
    %
    
    
    Ratio
    
    
    Amount
    
    
    %
    
    
    Ratio
    
    
    Amount
    
    
    %
    
    
    Ratio(dollars in thousands)PersonalAuto Liability
    
    $
    21,565
    
    
    
    30.6
    %
    
    
    139.6
    %
    
    $
    12,202
    
    
    
    19.0
    %
    
    
    87.4
    %
    
    $
    7,467
    
    
    
    14.1
    %
    
    
    59.5
    %Auto Physical Damage
    
    
    12,694
    
    
    
    18.0
    
    
    
    50.5
    
    
    
    7,230
    
    
    
    11.3
    
    
    
    49.2
    
    
    
    3,873
    
    
    
    7.3
    
    
    
    42.8Homeowners Multi-Peril
    
    
    9,620
    
    
    
    13.6
    
    
    
    54.5
    
    
    
    6,382
    
    
    
    9.9
    
    
    
    58.8
    
    
    
    5,080
    
    
    
    9.6
    
    
    
    59.4Total
    
    
    43,879
    
    
    
    62.2
    
    
    
    93.8
    
    
    
    25,814
    
    
    
    40.2
    
    
    
    69.7
    
    
    
    16,420
    
    
    
    31.0
    
    
    
    55.1CommercialAuto Liability
    
    
    6,227
    
    
    
    8.8
    
    
    
    39.1
    
    
    
    12,979
    
    
    
    20.3
    
    
    
    29.3
    
    
    
    12,542
    
    
    
    23.6
    
    
    
    51.2Auto Physical Damage
    
    
    1,225
    
    
    
    1.7
    
    
    
    36.2
    
    
    
    2,899
    
    
    
    4.5
    
    
    
    39.1
    
    
    
    2,734
    
    
    
    5.1
    
    
    
    38.1Commercial Multi-Peril
    
    
    14,885
    
    
    
    21.1
    
    
    
    58.8
    
    
    
    17,018
    
    
    
    26.5
    
    
    
    79.7
    
    
    
    15,701
    
    
    
    29.6
    
    
    
    76.6Workers Compensation
    
    
    3,778
    
    
    
    5.4
    
    
    
    29.3
    
    
    
    4,613
    
    
    
    7.2
    
    
    
    133.7
    
    
    
    4,536
    
    
    
    8.5
    
    
    
    72.8Other Lines
    
    
    534
    
    
    
    .8
    
    
    
    (12.7
    )
    
    
    856
    
    
    
    1.3
    
    
    
    281.4
    
    
    
    1,169
    
    
    
    2.2
    
    
    
    75.5Total
    
    
    26,649
    
    
    
    37.8
    
    
    
    47.5
    
    
    
    38,365
    
    
    
    59.8
    
    
    
    72.9
    
    
    
    36,682
    
    
    
    69.0
    
    
    
    64.6Total Personal &
Commercial
    
    $
    70,528
    
    
    
    100.0
    %
    
    
    71.7
    
    
    $
    64,179
    
    
    
    100.0
    %
    
    
    71.6
    
    
    $
    53,102
    
    
    
    100.0
    %
    
    
    61.2
 8




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For the Year Ended December 31,2000
    
    
    2001
    
    
    2002
    
    
    2003(1)
    
    
    2004(1)Commercial
    
    
    64
    %
    
    
    58
    %
    
    
    40
    %
    
    
    63
    %
    
    
    73
    %Personal
    
    
    36
    
    
    
    42
    
    
    
    60
    
    
    
    37
    
    
    
    27Total
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
 
 (1)
    
    Shown on a group-wide basis for the Pooled Business. See the Administration
section of this Item for further discussion. Commercial Lines
   Personal Lines
  9




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Involuntary Business
   Pooling Agreement
 Competition
 Claims
  10




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Loss and Loss Adjustment Expense Reserves
    11




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Year Ended December 31,2002
    
    
    2003
    
    
    2004(in thousands)Reserve for losses and LAE at beginning of year
    
    $
    151,355
    
    
    $
    147,136
    
    
    $
    146,474Less reinsurance recoverables
    
    
    19,242
    
    
    
    19,380
    
    
    
    22,715Net balance at beginning of year
    
    
    132,113
    
    
    
    127,756
    
    
    
    123,759Provision for losses and LAE for claims occurring in:Current year
    
    
    66,658
    
    
    
    49,702
    
    
    
    38,524Prior years
    
    
    (3,785
    )
    
    
    (90
    )
    
    
    (843
    )62,873
    
    
    
    49,612
    
    
    
    37,681Losses and LAE payments for claims occurring in:Current year
    
    
    26,387
    
    
    
    18,441
    
    
    
    13,647Prior years
    
    
    40,843
    
    
    
    35,168
    
    
    
    35,00867,230
    
    
    
    53,609
    
    
    
    48,655Reserve for losses and LAE at end of year, net
    
    
    127,756
    
    
    
    123,759
    
    
    
    112,785Plus reinsurance recoverables
    
    
    19,380
    
    
    
    22,715
    
    
    
    15,630Balance at end of year
    
    $
    147,136
    
    
    $
    146,474
    
    
    $
    128,415
  12




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##### Table of Contents



As of December 31,1994
    
    
    1995
    
    
    1996
    
    
    1997
    
    
    1998
    
    
    1999
    
    
    2000
    
    
    2001
    
    
    2002
    
    
    2003(in thousands)Net liability for losses and LAE:
    
    $
    97,614
    
    
    $
    113,718
    
    
    $
    126,260
    
    
    $
    130,781
    
    
    $
    126,820
    
    
    $
    127,458
    
    
    $
    131,178
    
    
    $
    132,113
    
    
    $
    127,756
    
    
    $
    123,759Liability re-estimated as of:One year later
    
    
    108,659
    
    
    
    120,550
    
    
    
    130,768
    
    
    
    128,636
    
    
    
    123,071
    
    
    
    128,886
    
    
    
    129,704
    
    
    
    128,328
    
    
    
    127,666
    
    
    
    122,916Two years later
    
    
    113,091
    
    
    
    128,192
    
    
    
    133,029
    
    
    
    130,498
    
    
    
    120,345
    
    
    
    123,299
    
    
    
    129,621
    
    
    
    132,674
    
    
    
    129,722Three years later
    
    
    121,051
    
    
    
    129,724
    
    
    
    132,948
    
    
    
    127,893
    
    
    
    113,661
    
    
    
    124,944
    
    
    
    133,769
    
    
    
    135,865Four years later
    
    
    121,791
    
    
    
    131,647
    
    
    
    129,210
    
    
    
    122,508
    
    
    
    114,068
    
    
    
    128,121
    
    
    
    138,538Five years later
    
    
    122,886
    
    
    
    127,183
    
    
    
    124,238
    
    
    
    122,347
    
    
    
    117,678
    
    
    
    131,977Six years later
    
    
    120,128
    
    
    
    123,521
    
    
    
    124,319
    
    
    
    125,741
    
    
    
    120,958Seven years later
    
    
    117,589
    
    
    
    123,679
    
    
    
    127,659
    
    
    
    128,998Eight years later
    
    
    117,626
    
    
    
    126,285
    
    
    
    130,280Nine years later
    
    
    120,118
    
    
    
    128,433Ten years later
    
    
    121,612Net cumulative redundancy (deficiency):$
    (23,998
    )
    
    
    (14,715
    )
    
    
    (4,020
    )
    
    
    1,783
    
    
    
    5,862
    
    
    
    (4,519
    )
    
    
    (7,360
    )
    
    
    (3,752
    )
    
    
    (1,966
    )
    
    
    843%  (24.6
    )
    
    
    (12.9
    )
    
    
    (3.2
    )
    
    
    1.4
    
    
    
    4.6
    
    
    
    (3.5
    )
    
    
    (5.6
    )
    
    
    (2.8
    )
    
    
    (1.5
    )
    
    
    .7Net paid (cumulative) as of:One year later
    
    
    36,916
    
    
    
    38,549
    
    
    
    40,954
    
    
    
    42,433
    
    
    
    37,125
    
    
    
    40,970
    
    
    
    45,461
    
    
    
    40,843
    
    
    
    35,168
    
    
    
    35,008Two years later
    
    
    60,074
    
    
    
    64,323
    
    
    
    69,035
    
    
    
    66,477
    
    
    
    63,325
    
    
    
    69,393
    
    
    
    70,075
    
    
    
    64,959
    
    
    
    61,031Three years later
    
    
    77,982
    
    
    
    84,638
    
    
    
    86,364
    
    
    
    86,313
    
    
    
    80,142
    
    
    
    86,670
    
    
    
    85,772
    
    
    
    83,552Four years later
    
    
    91,948
    
    
    
    96,491
    
    
    
    98,300
    
    
    
    97,770
    
    
    
    89,383
    
    
    
    96,222
    
    
    
    98,053Five years later
    
    
    99,171
    
    
    
    104,063
    
    
    
    105,787
    
    
    
    104,282
    
    
    
    94,809
    
    
    
    102,892Six years later
    
    
    103,829
    
    
    
    109,492
    
    
    
    109,639
    
    
    
    107,431
    
    
    
    99,131Seven years later
    
    
    107,367
    
    
    
    111,851
    
    
    
    111,822
    
    
    
    110,193Eight years later
    
    
    108,747
    
    
    
    113,593
    
    
    
    114,246Nine years later
    
    
    110,119
    
    
    
    114,959Ten years later
    
    
    110,827Initial gross liability for
losses and LAE:
    
    $
    104,199
    
    
    $
    120,114
    
    
    $
    134,532
    
    
    $
    141,157
    
    
    $
    136,632
    
    
    $
    133,485
    
    
    $
    145,006
    
    
    $
    151,354
    
    
    $
    147,135
    
    
    $
    146,475Initial ceded liability for
losses and LAE:
    
    
    6,585
    
    
    
    6,396
    
    
    
    8,272
    
    
    
    10,376
    
    
    
    9,812
    
    
    
    6,027
    
    
    
    13,828
    
    
    
    19,241
    
    
    
    19,379
    
    
    
    22,716Initial net liability
    
    $
    97,614
    
    
    $
    113,718
    
    
    $
    126,260
    
    
    $
    130,781
    
    
    $
    126,820
    
    
    $
    127,458
    
    
    $
    131,178
    
    
    $
    132,113
    
    
    $
    127,756
    
    
    $
    123,759Gross liability as
currently re-estimated
    
    
    129,225
    
    
    
    136,752
    
    
    
    140,646
    
    
    
    137,323
    
    
    
    129,292
    
    
    
    144,546
    
    
    
    166,878
    
    
    
    165,082
    
    
    
    157,882
    
    
    
    146,386Ceded liability as
currently re-estimated
    
    
    7,613
    
    
    
    8,319
    
    
    
    10,366
    
    
    
    8,325
    
    
    
    8,334
    
    
    
    12,569
    
    
    
    28,340
    
    
    
    29,217
    
    
    
    28,160
    
    
    
    23,470Net liability as
currently re-estimated
    
    $
    121,612
    
    
    $
    128,433
    
    
    $
    130,280
    
    
    $
    128,998
    
    
    $
    120,958
    
    
    $
    131,977
    
    
    $
    138,538
    
    
    $
    135,865
    
    
    $
    129,722
    
    
    $
    122,916Gross cumulative
redundancy
(deficiency):
    
    $
    (25,026
    )
    
    
    (16,638
    )
    
    
    (6,114
    )
    
    
    3,834
    
    
    
    7,340
    
    
    
    (11,061
    )
    
    
    (21,872
    )
    
    
    (13,728
    )
    
    
    (10,747
    )
    
    
    89%   (24.0
    )
    
    
    (13.9
    )
    
    
    (4.5
    )
    
    
    2.7
    
    
    
    5.4
    
    
    
    (8.3
    )
    
    
    (15.1
    )
    
    
    (9.1
    )
    
    
    (7.3
    )
    
    
    0.1
 13




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##### Table of Contents



As of December 31,2002
    
    
    2003
    
    
    2004(in thousands)Loss and LAE reserves on a SAP basis
    
    $
    127,756
    
    
    $
    123,759
    
    
    $
    112,785Adjustments:Ceded reinsurance balances recoverable
    
    
    19,380
    
    
    
    22,715
    
    
    
    15,630Loss and LAE reserves on a GAAP basis
    
    $
    147,136
    
    
    $
    146,474
    
    
    $
    128,415
 Reinsurance
     14




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##### Table of Contents



Administration
   Investments
  15




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##### Table of Contents



As of December 31,2002
    
    
    2003
    
    
    2004Amount
    
    
    %
    
    
    Amount
    
    
    %
    
    
    Amount
    
    
    %(dollars in thousands)Fixed Maturities (1):U.S. Government and Agencies
    
    $
    12,855
    
    
    
    6.1
    %
    
    $
    8,377
    
    
    
    4.1
    %
    
    $
    5,028
    
    
    
    2.5
    %Corporate Securities
    
    
    60,215
    
    
    
    28.8
    
    
    
    28,714
    
    
    
    14.2
    
    
    
    28,003
    
    
    
    14.2Mortgage and Asset Backed Securities
    
    
    91,813
    
    
    
    43.8
    
    
    
    113,313
    
    
    
    55.8
    
    
    
    110,082
    
    
    
    55.7Tax-Exempt Bonds
    
    
    28,685
    
    
    
    13.7
    
    
    
    43,401
    
    
    
    21.4
    
    
    
    40,979
    
    
    
    20.7Total Bonds
    
    
    193,568
    
    
    
    92.4
    
    
    
    193,805
    
    
    
    95.5
    
    
    
    184,092
    
    
    
    93.1Preferred Stocks (2)
    
    
    7,367
    
    
    
    3.5
    
    
    
    5,797
    
    
    
    2.9
    
    
    
    3,509
    
    
    
    1.8Short-Term Investments (3)
    
    
    6,420
    
    
    
    3.1
    
    
    
    1,118
    
    
    
    .6
    
    
    
    7,412
    
    
    
    3.7Other (4)
    
    
    2,042
    
    
    
    1.0
    
    
    
    2,167
    
    
    
    1.0
    
    
    
    2,696
    
    
    
    1.4Total Invested Assets
    
    $
    209,397
    
    
    
    100.0
    %
    
    $
    202,887
    
    
    
    100.0
    %
    
    $
    197,709
    
    
    
    100.0
    %
 
 (1)
    
    Fixed Maturities are shown at their carrying amounts in the respective balance sheet. Held to
Maturity fixed maturities are included at amortized cost. Available for Sale fixed maturities are
included at fair value.(2)
    
    Shown at fair value.(3)
    
    Shown at cost, which approximates fair value.(4)
    
    Shown at estimated fair value or unpaid principal balance, which approximates estimated fair
value. 16




---



##### Table of Contents



Year Ended December 31,2002
    
    2003
    
    2004(dollars in thousands)Average investments
    
    $
    206,435
    
    
    $
    200,996
    
    
    $
    196,148Net investment income
    
    
    10,403
    
    
    
    8,815
    
    
    
    7,881Net investment income as a percentage
of average investments (1)
    
    
    5.0
    %
    
    
    4.4
    %
    
    
    4.0
    %Net gains (losses) on investments
    
    $
    953
    
    
    $
    2,500
    
    
    $
    (221
    )
 
 (1)
    
    The taxable equivalent yield for the years ended December 31, 2002, 2003 and 2004 was 5.4%,
4.4% and 4.3%, respectively, assuming an effective tax rate of 34%.  As of December 31,2002
    
    
    2003
    
    
    2004Amount
    
    
    %
    
    
    Amount
    
    
    %
    
    
    Amount
    
    
    %(dollars in thousands)1 year or less
    
    $
    81,736
    
    
    
    42.2
    %
    
    $
    33,243
    
    
    
    17.2
    %
    
    $
    49,275
    
    
    
    26.8
    %1 year through 5 years
    
    
    106,696
    
    
    
    55.1
    
    
    
    137,234
    
    
    
    70.8
    
    
    
    112,476
    
    
    
    61.15 years through 10 years
    
    
    3,198
    
    
    
    1.7
    
    
    
    21,065
    
    
    
    10.9
    
    
    
    18,870
    
    
    
    10.2More than 10 years
    
    
    1,938
    
    
    
    1.0
    
    
    
    2,263
    
    
    
    1.1
    
    
    
    3,471
    
    
    
    1.9Total
    
    $
    193,568
    
    
    
    100.0
    %
    
    $
    193,805
    
    
    
    100.0
    %
    
    $
    184,092
    
    
    
    100.0
    %
 Competition
  17




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##### Table of Contents



Regulation
 General
    18




---



##### Table of Contents



Rates
  19




---



##### Table of Contents



Renewal of Policies
  Insurance Holding Companies
  Involuntary Business
  Employees
  20




---



##### Table of Contents



Name of Executive
    
    
    
    
    
    Principal OccupationOfficer and Position(s)
    
    Age
    
    During the Past Five YearsRobert M. Zak 
Senior Vice President and 
Chief Operating Officer
    
    
    47
    
    
    President and Chief Executive Officer of MNH
and Mutual since November 1, 1995; Sr. Vice
President of MNH and Mutual from 1992 to
1995; Chief Financial Officer of the Company,
MNH and Mutual from 1991 through 1996;
Vice President  Financial Services of MNH and
Mutual from 1989 through 1996; Secretary of
MNH and Mutual from 1990 through
November 1, 1995.Edward M. Murphy 
Vice President, 
Chief Investment Officer and 
Assistant Secretary
    
    
    54
    
    
    Vice President and Chief Investment Officer
of the Company, Mutual and MNH since
1991; Assistant Vice President of Mutual
and MNH from 1989 to 1991.Kenneth J. Wilson 
Vice President, 
Treasurer, Chief Financial
Officer and Secretary
    
    
    57
    
    
    Vice President, Treasurer and Chief
Financial Officer of the Company, Mutual
and MNH since 1996; President and Chief
Executive Officer of Carbadon Corp. and its
operating subsidiary, Empire of America Realty Credit Corp., from December 1995 to
December 1996 and Chief Financial Officer from November 1992 to December 1996.
 
    21




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22




---



##### Table of Contents



2004:
    
    High
    
    Low
    
    DividendFourth Quarter
    
    $
    24.67
    
    
    $
    22.65
    
    
    $
    .10Third Quarter
    
    
    26.00
    
    
    
    23.08
    
    
    
    .10Second Quarter
    
    
    26.38
    
    
    
    24.40
    
    
    
    .10First Quarter
    
    
    25.50
    
    
    
    23.70
    
    
    
    .10
 2003:
    
    High
    
    Low
    
    DividendFourth Quarter
    
    $
    25.05
    
    
    $
    21.10
    
    
    $
    .10Third Quarter
    
    
    22.30
    
    
    
    19.90
    
    
    
    .10Second Quarter
    
    
    21.80
    
    
    
    19.75
    
    
    
    .10First Quarter
    
    
    23.90
    
    
    
    21.80
    
    
    
    .10
     23




---



##### Table of Contents



Equity Compensation Plan Information
 Number of SecuritiesRemaining Available forNumber of Securities to
    
    Weighted-Average
    
    Future Issuance Underbe Issued Upon Exercise
    
    Exercise Price of
    
    Equity Compensation PlansOf Outstanding Options,
    
    Outstanding Options,
    
    (Excluding Securities)Plan Category
    
    Warrants and Rights
    
    Warrants and Rights
    
    Reflected in Column (a))(a)
    
    (b)
    
    (c)Equity Compensation Plans
Approved by Security
Holders
    
    
    0
    
    
    
    N/A
    
    
    
    0Equity Compensation Plans
Not Approved by
Security Holders
    
    
    0
    (1)
    
    $
    24.77
    
    
    
    0Total
    
    
    0
    
    
    
    
    
    
    
    0
 
 (1)
    
    Through an employment agreement with MNH, MNHs former Chief Operating Officer participated
in a non-cumulative bonus equal to the product of 80,000 and the difference between the
averages of the last reported sales prices of the Companys common stock for (i) the 20
business days immediately following the release of the Companys year-end results and (ii) for
the 20 business days immediately following the release of the Companys year-end results for
the prior year. 24




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##### Table of Contents



As of December 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004(in thousands, except per share amounts)Net premiums written
    
    $
    94,342
    
    
    $
    93,973
    
    
    $
    70,528
    
    
    $
    64,179
    
    
    $
    53,102Net premiums earned
    
    $
    94,259
    
    
    $
    93,885
    
    
    $
    83,120
    
    
    $
    65,097
    
    
    $
    57,123Net investment income
    
    
    13,903
    
    
    
    13,295
    
    
    
    10,403
    
    
    
    8,815
    
    
    
    7,881Net investment gains (losses)
    
    
    109
    
    
    
    (580
    )
    
    
    953
    
    
    
    2,500
    
    
    
    (221
    )Other revenues
    
    
    355
    
    
    
    696
    
    
    
    635
    
    
    
    560
    
    
    
    722Total revenues
    
    
    108,626
    
    
    
    107,296
    
    
    
    95,111
    
    
    
    76,972
    
    
    
    65,505Net losses and loss adjustment expenses
    
    
    71,374
    
    
    
    75,144
    
    
    
    62,873
    
    
    
    49,612
    
    
    
    37,681Amortization of deferred policy acquisition costs
    
    
    24,979
    
    
    
    24,880
    
    
    
    22,227
    
    
    
    16,925
    
    
    
    14,852Other underwriting expenses
    
    
    5,266
    
    
    
    6,017
    
    
    
    5,744
    
    
    
    5,031
    
    
    
    8,291Total expenses
    
    
    101,619
    
    
    
    106,041
    
    
    
    90,844
    
    
    
    71,568
    
    
    
    60,824Income before income taxes
    
    
    7,007
    
    
    
    1,255
    
    
    
    4,267
    
    
    
    5,404
    
    
    
    4,681Provision for income taxes
    
    
    2,668
    
    
    
    434
    
    
    
    1,729
    
    
    
    1,039
    
    
    
    919Net income
    
    $
    4,339
    
    
    $
    821
    
    
    $
    2,538
    
    
    $
    4,365
    
    
    $
    3,762Earnings per shareBasic
    
    $
    1.75
    
    
    $
    .35
    
    
    $
    1.19
    
    
    $
    2.07
    
    
    $
    1.78Diluted
    
    $
    1.74
    
    
    $
    .35
    
    
    $
    1.19
    
    
    $
    2.07
    
    
    $
    1.78Weighted average number of shares
outstanding:Basic
    
    
    2,485
    
    
    
    2,343
    
    
    
    2,125
    
    
    
    2,110
    
    
    
    2,114Diluted
    
    
    2,487
    
    
    
    2,343
    
    
    
    2,129
    
    
    
    2,111
    
    
    
    2,118Balance Sheet Data: (at year end)Total investments
    
    $
    215,654
    
    
    $
    213,132
    
    
    $
    209,397
    
    
    $
    202,887
    
    
    $
    197,709Total assets
    
    
    280,938
    
    
    
    285,078
    
    
    
    265,897
    
    
    $
    268,678
    
    
    $
    255,704Reserve for losses and loss
adjustment expenses
    
    
    145,075
    
    
    
    151,355
    
    
    
    147,136
    
    
    
    146,474
    
    
    
    128,415Unearned premiums
    
    
    50,857
    
    
    
    50,179
    
    
    
    35,119
    
    
    
    36,176
    
    
    
    33,685Stockholders equity
    
    
    70,122
    
    
    
    68,551
    
    
    
    67,924
    
    
    
    70,259
    
    
    
    71,974Dividend Data:Cash dividend per common share
    
    $
    .40
    
    
    $
    .40
    
    
    $
    .40
    
    
    $
    .40
    
    
    $
    .40
 25




---



##### Table of Contents



2004 Compared to 2003
    MNHPro FormaGroup-wide DWP
    
    
    
    
    
    
    ShareYear ended
    
    
    
    
    
    
    Year endedDecember 31,
    
    
    
    
    
    
    December 31,2004
    
    
    2003
    
    
    Variance
    
    
    2004
    
    
    2003
    
    
    Variance(000s omitted)
    
    
    
    
    
    
    (000s omitted)Voluntary Personal Lines
    
    $
    50,879
    
    
    $
    63,548
    
    
    
    (20
    %)
    
    $
    17,808
    
    
    $
    25,419
    
    
    
    (30
    %)Voluntary Commercial Lines
    
    
    119,113
    
    
    
    103,262
    
    
    
    15
    %
    
    
    41,690
    
    
    
    41,305
    
    
    
    1
    %Umbrella Program
    
    
    17,536
    
    
    
    3,136
    
    
    
    459
    %
    
    
    6,138
    
    
    
    1,254
    
    
    
    389
    %Involuntary
    
    
    3,610
    
    
    
    5,197
    
    
    
    (31
    %)
    
    
    1,264
    
    
    
    2,079
    
    
    
    (39
    %)Total Direct Written Premiums
    
    $
    191,138
    
    
    $
    175,143
    
    
    
    9
    %
    
    $
    66,900
    
    
    $
    70,057
    
    
    
    (5
    %)
  26




---



##### Table of Contents



27




---



##### Table of Contents



-
    
    A reduction in PPA liability net earned premium as a percentage of total Company net
earned premium to 16.7% in 2004 from 20.2% in 2003. PPA liability is the Companys highest
loss and LAE ratio line of business and accounted for 1.5 percentage points of the
decrease.-
    
    An improvement in the PPA liability loss and LAE ratio to 86.6% in 2004 from 111.6% in
2003 which accounted for 4.2 percentage points of the decrease. This improvement was due
to improved involuntary loss experience, primarily from the NYAIP.-
    
    An improvement in the commercial package loss and LAE ratio to 69.0% in 2004 from 81.8%
in 2003 which accounted for 3.5 percentage points of the decrease. This improvement was
the result of a reduction in loss frequency.
  Commercial
    
    
    WorkersAccident
    
    Home-
    
    
    PPA
    
    
    Auto
    
    
    Compen-
    
    
    Commercial
    
    
    General
    
    
    AllYear
    
    owners
    
    
    Liability
    
    
    Liability
    
    
    sation
    
    
    Package
    
    
    Liability
    
    
    Other
    
    
    TotalIncreases (decreases) (in thousands)Prior to2001
    
    $
    (109
    )
    
    $
    455
    
    
    $
    764
    
    
    $
    533
    
    
    $
    2,183
    
    
    $
    1,119
    
    
    $
    (176
    )
    
    $
    4,7692001
    
    
    152
    
    
    
    (17
    )
    
    
    121
    
    
    
    (1,221
    )
    
    
    (450
    )
    
    
    (123
    )
    
    
    (41
    )
    
    
    (1,579
    )2002
    
    
    60
    
    
    
    (269
    )
    
    
    (1,072
    )
    
    
    (921
    )
    
    
    915
    
    
    
    59
    
    
    
    94
    
    
    
    (1,134
    )2003
    
    
    (7
    )
    
    
    (1,529
    )
    
    
    268
    
    
    
    (433
    )
    
    
    (909
    )
    
    
    (299
    )
    
    
    10
    
    
    
    (2,899
    )Total
    
    $
    96
    
    
    $
    (1,360
    )
    
    $
    81
    
    
    $
    (2,042
    )
    
    $
    1,739
    
    
    $
    756
    
    
    $
    (113
    )
    
    $
    (843
    )
 28




---



##### Table of Contents



29




---



##### Table of Contents



2003 Compared to 2002
   30




---



##### Table of Contents



MNHPooled
    
    
    MNHGroup-wide DWP
    
    
    
    
    
    
    Share
    
    
    DWPYear ended
    
    
    
    
    
    
    Year endedDecember 31,
    
    
    
    
    
    
    December 31,2003
    
    
    2002
    
    
    Variance
    
    
    2003
    
    
    2002
    
    
    Variance(000s omitted)
    
    
    
    
    
    
    (000s omitted)Voluntary Personal Lines
    
    $
    63,548
    
    
    $
    68,649
    
    
    
    (7
    %)
    
    $
    25,419
    
    
    $
    39,981
    
    
    
    (36
    %)Voluntary Commercial Lines
    
    
    106,398
    
    
    
    97,032
    
    
    
    10
    %
    
    
    42,559
    
    
    
    26,825
    
    
    
    59
    %Involuntary
    
    
    5,197
    
    
    
    7,059
    
    
    
    (26
    %)
    
    
    2,079
    
    
    
    5,997
    
    
    
    (65
    %)Total Direct Written Premiums
    
    $
    175,143
    
    
    $
    172,740
    
    
    
    1
    %
    
    $
    70,057
    
    
    $
    72,803
    
    
    
    (4
    %)
      31




---



##### Table of Contents



Commercial
    
    
    WorkersHome-
    
    
    PPA
    
    
    Auto
    
    
    Compen-
    
    
    Commercial
    
    
    General
    
    
    AllAccident Year
    
    owners
    
    
    Liability
    
    
    Liability
    
    
    sation
    
    
    Package
    
    
    Liability
    
    
    Other
    
    
    TotalPrior to
    
    
    
    
    
    
    
    
    
    Increases (decreases) (in thousands)2000
    
    $
    (40
    )
    
    $
    78
    
    
    $
    (460
    )
    
    $
    4,496
    
    
    $
    (2,533
    )
    
    $
    1,612
    
    
    $
    21
    
    
    $
    3,1742000
    
    
    (148
    )
    
    
    307
    
    
    
    (993
    )
    
    
    924
    
    
    
    63
    
    
    
    809
    
    
    
    9
    
    
    
    9712001
    
    
    (85
    )
    
    
    (715
    )
    
    
    (563
    )
    
    
    (161
    )
    
    
    1,757
    
    
    
    70
    
    
    
    (101
    )
    
    
    2022002
    
    
    (277
    )
    
    
    (3,717
    )
    
    
    (938
    )
    
    
    (205
    )
    
    
    746
    
    
    
    (47
    )
    
    
    1
    
    
    
    (4,437
    )Total
    
    $
    (550
    )
    
    $
    (4,047
    )
    
    $
    (2,954
    )
    
    $
    5,054
    
    
    $
    33
    
    
    $
    2,444
    
    
    $
    (70
    )
    
    $
    (90
    )
  32




---



##### Table of Contents



33




---



##### Table of Contents



Critical Accounting Policies
 Reserve for Losses and LAE
    Paid Loss Development
  34




---



##### Table of Contents



Incurred Loss Development
  Bornhuetter-Ferguson with Premium and Paid Loss
  Bornhuetter-Ferguson with Premium and Incurred Loss
  Ultimate Claims and Average Loss
   35




---



##### Table of Contents



Paid ALAE Development
  Bornhuetter-Ferguson with Ultimate Loss and Paid ALAE
   
    
    How results of methods based on paid losses compare to methods based on
incurred losses.
    
    How results of paid and incurred development methods compare to results of paid
and incurred BF methods.
    
    Whether diagnostic tests cause management to favor the results of one or more
methods over the results of other methods. Such tests include:
 o
    
    closed claim to reported claim ratioso
    
    average case reserves per open claimo
    
    paid loss per closed claimo
    
    paid loss to incurred loss ratioso
    
    the reasonableness of ultimate loss & ALAE ratios and ultimate severitieso
    
    managements consideration of other factors such as premium and
loss trends, large loss experience, legislative and judicial changes and changes in
underwriting guidelines and practices.
   36




---



##### Table of Contents



Range
of Net Loss & LAE Reserves ($000s)Products
    
    Low
    
    Recorded
    
    HighPersonal Auto
    
    $
    16,379
    
    
    $
    19,269
    
    
    $
    21,967Homeowners
    
    $
    2,365
    
    
    $
    2,994
    
    
    $
    3,653Commercial Auto
    
    $
    11,762
    
    
    $
    15,683
    
    
    $
    20,388Workers Compensation
    
    $
    22,997
    
    
    $
    27,707
    
    
    $
    32,694Commercial General Liability
    
    $
    35,528
    
    
    $
    41,974
    
    
    $
    49,949Commercial Property
    
    $
    4,202
    
    
    $
    5,002
    
    
    $
    5,952Other
    
    $
    117
    
    
    $
    156
    
    
    $
    195All Products
    
    $
    99,633
    
    
    $
    112,785
    
    
    $
    121,650
    37




---



##### Table of Contents



December 31,2004
    
    
    2003Case reserves:PPA liability
    
    $
    10,099
    
    
    $
    15,987Homeowners
    
    
    2,097
    
    
    
    2,139Commercial auto liability
    
    
    7,677
    
    
    
    7,741Workers compensation
    
    
    15,698
    
    
    
    15,354Commercial package
    
    
    13,795
    
    
    
    15,163General liability
    
    
    750
    
    
    
    1,348Other
    
    
    243
    
    
    
    369Total case reserves
    
    
    50,359
    
    
    
    58,101IBNR:PPA liability
    
    
    6,197
    
    
    
    7,357Homeowners
    
    
    257
    
    
    
    235Commercial auto liability
    
    
    6,154
    
    
    
    6,121Workers compensation
    
    
    9,884
    
    
    
    12,133Commercial package
    
    
    14,467
    
    
    
    13,174General liability
    
    
    1,107
    
    
    
    1,543Other
    
    
    (223
    )
    
    
    (589
    )Total IBNR
    
    
    37,843
    
    
    
    39,974Reserve for LAE:PPA liability
    
    
    2,973
    
    
    
    3,395Homeowners
    
    
    640
    
    
    
    689Commercial auto liability
    
    
    1,852
    
    
    
    2,042Workers compensation
    
    
    2,125
    
    
    
    2,026Commercial package
    
    
    13,712
    
    
    
    15,377General liability
    
    
    3,145
    
    
    
    1,957Other
    
    
    136
    
    
    
    198Total reserve for LAE
    
    
    24,583
    
    
    
    25,684Subtotal
    
    
    112,785
    
    
    
    123,759Reinsurance recoverables
    
    
    15,630
    
    
    
    22,715Reserve for losses and LAE
    
    $
    128,415
    
    
    $
    146,474
  For the year ended December 31,2004
    
    2003(dollars in thousands)Number of claims pending, beginning of period
    
    
    44
    
    
    
    42Number of claims reported
    
    
    
    
    
    
    Number of claims settled or dismissed
    
    
    (2
    )
    
    
    (5
    )Number of claims pending, end of period
    
    
    42
    
    
    
    37Losses paid ($000s)
    
    $
    388
    
    
    $
    764Loss settlement expenses paid ($000s)
    
    $
    25
    
    
    $
    24
  38




---



##### Table of Contents



Deferred Policy Acquisition Costs
  Investments
   Liquidity and Capital Resources
   39




---



##### Table of Contents



40




---



##### Table of Contents



Off-Balance Sheet Arrangements
  Contractual Obligations
   Less than
    
    
    1 - 3
    
    
    3 - 5
    
    
    More thanTotal
    
    
    1 Year
    
    
    Years
    
    
    Years
    
    
    5 YearsReserve for losses and
loss adjustment expenses
    
    $
    128,415
    
    
    $
    35,314
    
    
    $
    44,817
    
    
    $
    20,803
    
    
    $
    27,481
  Recently Issued Accounting Standards
  o
    
    Statement of Financial Accounting Standards (SFAS) No. 151 Inventory Costs.o
    
    SFAS No. 152 Accounting for Real Estate Time Sharing Transactions.o
    
    SFAS No. 153 Exchanges of Non-monetary Assets.o
    
    SAFS No. 123 (revised 2004) Share Based Payment.
 41




---



##### Table of Contents



Federal Legislation
   Environmental Claims
  Inflation
  Relationship with Mutual
  42




---



##### Table of Contents



43




---



##### Table of Contents



Market Risk
    TOTALEsti-Amor-
    
    
    matedThere-
    
    
    tized
    
    
    MarketAvailable for Sale
    
    2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    2009
    
    
    after
    
    
    Cost
    
    
    ValueU.S. Treasury securities and
obligations of U.S.
Government corporations
and agencies
    
    $
    2,022
    
    
    $
    0
    
    
    $
    0
    
    
    $
    3,006
    
    
    $
    0
    
    
    $
    0
    
    
    $
    5,028
    
    
    $
    5,028Average interest rate
    
    
    4.4
    %
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    3.2
    %
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    
    
    
    
    Obligations of states and
political subdivisions
    
    
    7,217
    
    
    
    9,533
    
    
    
    3,876
    
    
    
    15,339
    
    
    
    4,848
    
    
    
    197
    
    
    
    41,010
    
    
    
    40,979Average interest rate
    
    
    3.1
    %
    
    
    3.4
    %
    
    
    4.3
    %
    
    
    3.9
    %
    
    
    4.2
    %
    
    
    3.8
    %
    
    
    
    
    
    
    Corporate securities
    
    
    16,581
    
    
    
    998
    
    
    
    0
    
    
    
    3,240
    
    
    
    5,975
    
    
    
    1,135
    
    
    
    27,929
    
    
    
    28,003Average interest rate
    
    
    4.0
    %
    
    
    3.2
    %
    
    
    0.0
    %
    
    
    3.7
    %
    
    
    4.6
    %
    
    
    6.6
    %
    
    
    
    
    
    
    Mortgage & asset
backed securities
    
    
    23,374
    
    
    
    22,904
    
    
    
    18,785
    
    
    
    13,115
    
    
    
    10,997
    
    
    
    21,029
    
    
    
    110,204
    
    
    
    110,082Average interest rate
    
    
    4.8
    %
    
    
    4.8
    %
    
    
    4.8
    %
    
    
    4.9
    %
    
    
    5.0
    %
    
    
    5.1
    %
    
    
    
    
    
    
    Total
    
    $
    49,194
    
    
    $
    33,435
    
    
    $
    22,661
    
    
    $
    34,700
    
    
    $
    21,820
    
    
    $
    22,361
    
    
    $
    184,171
    
    
    $
    184,092
  44




---



##### Table of Contents



Three months ended3/31
    
    
    6/30
    
    
    9/30
    
    
    12/31(in thousands, except per share amounts)2004Net premiums earned
    
    $
    14,069
    
    
    $
    14,364
    
    
    $
    14,161
    
    
    $
    14,529Net investment income
    
    
    2,054
    
    
    
    1,965
    
    
    
    1,935
    
    
    
    1,927Net investment gains (losses)
    
    
    377
    
    
    
    93
    
    
    
    
    
    
    
    (691
    )Other revenues
    
    
    166
    
    
    
    97
    
    
    
    185
    
    
    
    274Total revenues
    
    $
    16,666
    
    
    $
    16,519
    
    
    $
    16,281
    
    
    $
    16,039Income before income taxes
    
    $
    1,130
    
    
    $
    1,958
    
    
    $
    1,309
    
    
    $
    284Net income
    
    $
    811
    
    
    $
    1,550
    
    
    $
    1,163
    
    
    $
    238Net income per diluted share
    
    $
    .38
    
    
    $
    .73
    
    
    $
    .55
    
    
    $
    .112003Net premiums earned
    
    $
    16,141
    
    
    $
    16,215
    
    
    $
    16,341
    
    
    $
    16,400Net investment income
    
    
    2,331
    
    
    
    2,183
    
    
    
    2,201
    
    
    
    2,100Net investment gains
    
    
    116
    
    
    
    2,050
    
    
    
    44
    
    
    
    290Other revenues
    
    
    33
    
    
    
    124
    
    
    
    127
    
    
    
    276Total revenues
    
    $
    18,621
    
    
    $
    20,572
    
    
    $
    18,713
    
    
    $
    19,066Income before income taxes
    
    $
    321
    
    
    $
    2,809
    
    
    $
    1,101
    
    
    $
    1,173Net income
    
    $
    216
    
    
    $
    2,523
    
    
    $
    828
    
    
    $
    798Net income per diluted share
    
    $
    .10
    
    
    $
    1.20
    
    
    $
    .39
    
    
    $
    .38
 45




---



##### Table of Contents



46




---



##### Table of Contents



provided however
 
   47




---



##### Table of Contents



48




---



##### Table of Contents



(a) (1)
    
    The following financial statements of Merchants Group, Inc. are included on pages F-1 to
F-24:
 Report of Independent Registered Public Accounting FirmConsolidated Balance Sheet  December 31, 2003 and 2004.Consolidated Statement of Operations  Years ended December 31, 2002, 2003 and 2004.Consolidated Statement of Changes in Stockholders Equity  Years ended December 31, 2002,
2003 and 2004.Consolidated Statement of Cash Flows  Years ended December 31, 2002, 2003 and 2004.Notes to Consolidated Financial Statements.
 (a) (2)
    
    The following financial statement schedules of Merchants Group, Inc. are filed herewith
pursuant to Item 8:
 Schedule I -Summary of Investments  Other Than Investments in Related Parties.Schedule II -Amounts Receivable From/Payable to Related Parties, and Underwriters, Promoters and Employees Other Than Related Parties.Schedule III -Condensed Financial Information of Registrant.Schedule V -Supplemental Insurance Information (see Schedule X).Schedule VI  ReinsuranceSchedule X -Supplemental Insurance Information Concerning Property  Casualty Subsidiaries
 (a) (3)
    
    Exhibits required by Item 601 of Regulation S-K:
 (3)
    (a)
    
    Restated Certificate of Incorporation (incorporated by reference to Exhibit No. 3C
to Amendment No. 1 to the Companys Registration Statement (No. 33-9188) on Form S-1 filed on
November 7, 1986).(b
    )
    
    Restated By-laws (incorporated by reference to Exhibit No. 3D to Amendment No. 1 to the
Companys Registration Statement (No. 33-9188) on Form S-1 filed on November 7, 1986).
 49




---



##### Table of Contents



(10)
    (a)
    
    Management Agreement dated as of September 29, 1986 by and among Merchants Mutual
Insurance Company, Registrant and Merchants Insurance Company of New Hampshire, Inc. (incorporated
by reference to Exhibit No. 10A to the Companys Registration Statement (No. 33-9188) on Form S-1
filed on September 30, 1986).(b
    )
    
    Services Agreement Among Merchants Mutual Insurance Company, Merchants
Insurance Company of New Hampshire, Inc. and Merchants Group, Inc. dated January 1,
2003 (incorporated by reference to Exhibit No. 10b to the Companys 2003 Quarterly
Report on Form 10-Q filed on May 14, 2003).(c
    )
    
    Reinsurance Pooling Agreement between Merchants Insurance Company of New
Hampshire, Inc. and Merchants Mutual Insurance Company effective January 1, 2003
(incorporated by reference to Exhibit No. 10c to the Companys 2003 Quarterly Report
on Form 10-Q filed on May 14, 2003).(d
    )
    
    Endorsement to the Casualty Excess of Loss Reinsurance agreement between
Merchants Mutual Insurance Company, Merchants Insurance Company of New Hampshire,
Inc. and American Reinsurance Company dated February 23, 2004 (incorporated by
reference to Exhibit 10(e) to the Companys 2004 Quarterly Report on Form 10-Q filed
on November 10, 2004).(e
    )
    
    Property Per Risk Excess of Loss Reinsurance Agreement between Merchants
Mutual Insurance Company, Merchants Insurance Company of New Hampshire, Inc. and
American Reinsurance Company dated April 16, 2004 (incorporated by reference to
Exhibit 10(f) to the Companys 2004 Quarterly Report on Form 10-Q filed on November
10, 2004).(f
    )
    
    Property Catastrophe Excess of Loss Reinsurance Agreement between
Merchants Mutual Insurance Company, Merchants Insurance Company of New Hampshire,
Inc. and the various reinsurers as identified by the Interest and Liabilities
Agreements attaching to and forming part of this Agreement (incorporated by
reference to Exhibit 10(g) to the Companys Quarterly Report on Form 10-Q filed on
November 10, 2004).(g
    )
    
    Property Catastrophe Excess of Loss Reinsurance Agreement between
Merchants Mutual Insurance Company, Merchants Insurance Company of New Hampshire,
Inc. and the various reinsurers as identified by the Interest and Liabilities
Agreements attaching to and forming part of this Agreement (incorporated by
reference to Exhibit (h) to the Companys 2003 Quarterly Report on Form 10-Q filed
on November 13, 2003).(h
    )
    
    Quota Share Reinsurance Treaty Agreement between Merchants Insurance
Company of New Hampshire, Inc. and The Subscribing Underwriting Members of Lloyds,
London specifically identified on the schedules attached to this agreement dated
January 1, 2000 (incorporated by reference to Exhibit 10(h) to the Companys 2000
Annual Report on Form 10-K filed on March 28, 2001).*
    (i)
    
    Merchants Mutual Capital Accumulation Plan (incorporated by reference to Exhibit No. 10G
to the Companys Registration Statement (No. 33-9188) on Form S-1 filed on September 30, 1986).
 50




---



##### Table of Contents



*
    (j)
    
    Merchants Mutual Capital Accumulation Plan, fifth amendment, effective
January 1, 1999 (incorporated by reference to Exhibit 10j to the Companys 2000 Annual
Report on Form 10-K filed on March 28, 2001).*
    (k)
    
    Form of Amended Indemnification Agreement entered into by Registrant with each director
and executive office of Registrant (incorporated by reference to Exhibit No. 10N to Amendment No. 1
to the Companys Registration Statement on (No. 33-9188)
Form S-1 filed on November 7, 1986).*
    (l)
    
    Merchants Mutual Insurance Company Adjusted Return on Equity Incentive
Compensation Plan January 1, 2000 (incorporated by reference to Exhibit 10p to the
Companys 2000 Annual Report on Form 10-K filed on March 28, 2001).*
    (m)
    
    Merchants Mutual Insurance Company Adjusted Return on Equity Long Term
Incentive Compensation Plan January 1, 2000 (incorporated by reference to Exhibit 10q
to the Companys 2000 Annual Report on Form 10-K filed on March 28, 2001).*
    (n)
    
    Amendment No. 1 to Employee Retention Agreement between Robert M. Zak and
Merchants Mutual Insurance Company originally dated as of May 31, 1999, dated February
6, 2002 (incorporated by reference to Exhibit 10(s) to the Companys 2002 Annual Report
on Form 10-K filed on March 31, 2003).*
    (o)
    
    Amendment No. 1 to Employee Retention Agreement between Edward M. Murphy
and Merchants Mutual Insurance Company originally dated as of March 1, 1999 dated
February 6, 2002 (incorporated by reference to Exhibit 10(t) to the Companys 10-K
filed on March 31, 2003).*
    (p)
    
    Amendment No. 1 to Employee Retention Agreement between Kenneth J. Wilson
and Merchants Mutual Insurance Company originally dated as of March 1, 1999 dated
February 6, 2002 (incorporated by reference to Exhibit 10(u) to the Companys Annual
Report on Form 10-K filed on March 31, 2003).*
    (q)
    
    Employment Agreement between Stephen C. June and MNH dated as of April 1,
2002 (incorporated by reference to Exhibit 10V of the Companys 2001 Annual Report on
Form 10-K (File No. 9640) filed on March 27, 2002).(11)
    (a)
    
    Statement re computation of per share earnings (incorporated herein by reference to
Note 9 to the Consolidated Financial Statements included in Item 8).(14.1
    )
    
    Merchants Group, Inc. Code of Conduct and Ethics (filed herewith).(14.2
    )
    
    Merchants Insurance Group Code of Business Conduct, amended 12/2004 (incorporated by
reference to Exhibit 14.2 to the Companys 2004 Annual Report on Form 10-K filed on March
31, 2005).
 51




---



##### Table of Contents



(21
    )
    
    List of Subsidiaries of Registrant (incorporated by reference to Exhibit No. 22 to the
Companys Registration Statement (No. 33-9188) on Form S-1 filed on September 30, 1986).(23
    )
    
    Consent of Independent Accountants (filed herewith).(31
    )
    
    Rule 13a-14(a)/15d-14(a) Certifications (filed herewith)(32
    )
    
    Certification Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 (subsections
(a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code (filed herewith).
 
 *
    
    Indicates a management contract or compensation plan or arrangement.  Investor Relations
Merchants Group, Inc.
250 Main Street
Buffalo, New York 14202
 52




---



##### Table of Contents



Amount atwhich shownAmortized Cost/
    
    
    Market
    
    
    in the balanceType of Investment
    
    Cost
    
    
    Value
    
    
    sheetFixed maturities:United States Government and
government agencies and authorities
    
    $
    5,028
    
    
    $
    5,028
    
    
    $
    5,028Corporate bonds
    
    
    27,929
    
    
    
    28,003
    
    
    
    28,003Mortgage and asset backed securities
    
    
    110,204
    
    
    
    110,082
    
    
    
    110,082Tax exempt bonds
    
    
    41,010
    
    
    
    40,979
    
    
    
    40,979Total fixed maturities
    
    
    184,171
    
    
    
    184,092
    
    
    
    184,092Preferred stocks
    
    
    3,392
    
    
    
    3,509
    
    
    
    3,509Short-term investments
    
    
    7,412
    
    
    
    7,412
    
    
    
    7,412Other
    
    
    2,646
    
    
    
    2,696
    
    
    
    2,696$
    197,621
    
    
    $
    197,709
    
    
    $
    197,709
 53




---



##### Table of Contents



2002
    
    
    2003
    
    
    2004Receivable from (payable to)
related parties, primarily Merchants
Mutual Insurance Company (1):Balance at beginning of period
    
    $
    (852
    )
    
    $
    (3,237
    )
    
    $
    (2,090
    )Change during the period
    
    
    (2,385
    )
    
    
    1,147
    
    
    
    (3,481
    )Balance at end of period
    
    $
    (3,237
    )
    
    $
    (2,090
    )
    
    $
    (5,571
    )
 
 (1)
    
    Under a Services Agreement, Merchants Mutual Insurance Company (Mutual) provides employees,
services and facilities for Merchants Insurance Company of New Hampshire, Inc. (MNH) to carry on
its traditional insurance business on a fee basis. The balance in the intercompany receivable
(payable) account indicates the amount due from (to) Mutual for the excess (deficiency) of premiums
collected over (from) payments for losses, employees, services and facilities provided to MNH. 54




---



##### Table of Contents



BALANCE SHEET
 December 31,2003
    
    
    2004AssetsInvestment in subsidiary
    
    $
    69,710
    
    
    $
    71,433Other assets
    
    
    607
    
    
    
    601Total assets
    
    $
    70,317
    
    
    $
    72,034Liabilities and Stockholders EquityOther liabilities
    
    $
    58
    
    
    $
    60Total liabilities
    
    
    58
    
    
    
    60Stockholders equity:Preferred stock, $.01 par value, authorized and
unissued 3,000,000 shares
    
    
    
    
    
    
    Preferred stock, no par value, $424.30 stated value,
no shares issued or outstanding at December 31,
2003 or 2004
    
    
    
    
    
    
    Common stock, $.01 par value, authorized 10,000,000 shares;
2,110,152 shares issued and outstanding at December 31,
2003 and 2,114,152 shares issued and outstanding at
December 31, 2004
    
    
    32
    
    
    
    33Additional paid in capital
    
    
    35,795
    
    
    
    35,878Treasury stock, 1,139,700 shares at December 31, 2003
and 2004
    
    
    (22,766
    )
    
    
    (22,766
    )Accumulated other comprehensive income (loss)
    
    
    750
    
    
    
    (536
    )Accumulated earnings
    
    
    56,448
    
    
    
    59,365Total stockholders equity
    
    
    70,259
    
    
    
    71,974Total liabilities and stockholders equity
    
    $
    70,317
    
    
    $
    72,034
 55




---



##### Table of Contents



INCOME STATEMENT
 Year ended December 31,2002
    
    
    2003
    
    
    2004Revenues:Equity in net income of subsidiary
    
    $
    2,702
    
    
    $
    4,516
    
    
    $
    4,209Investment income (loss)
    
    
    (4
    )
    
    
    4
    
    
    
    8Total revenues
    
    
    2,698
    
    
    
    4,520
    
    
    
    4,217Expenses:General and administrative expenses
    
    
    177
    
    
    
    177
    
    
    
    685Operating income before income taxes
    
    
    2,521
    
    
    
    4,343
    
    
    
    3,532Income tax benefit
    
    
    (17
    )
    
    
    (22
    )
    
    
    (230
    )Net income
    
    $
    2,538
    
    
    $
    4,365
    
    
    $
    3,762
 56




---



##### Table of Contents



STATEMENT OF CASH FLOWS
  Year ended December 31,2002
    
    
    2003
    
    
    2004(in thousands)Cash flows from operating activities:
    
    $
    (111
    )
    
    $
    (161
    )
    
    $
    (655
    )Cash flows from investing activities:Receipt of subsidiary common stock dividend
    
    
    3,700
    
    
    
    1,200
    
    
    
    1,200Purchase of other investments, net
    
    
    (100
    )
    
    
    (188
    )
    
    
    210Cash flows from investing activities
    
    
    3,600
    
    
    
    1,012
    
    
    
    1,410Cash flows from financing activities:Purchase of treasury stock
    
    
    (2,434
    )
    
    
    
    
    
    
    Repayment of demand loan, net
    
    
    (200
    )
    
    
    
    
    
    
    Cash dividends
    
    
    (856
    )
    
    
    (843
    )
    
    
    (845
    )Exercise of common stock options
    
    
    
    
    
    
    
    
    
    
    84Cash flows from financing activities
    
    
    (3,490
    )
    
    
    (843
    )
    
    
    (761
    )Net increase (decrease) in cash and cash equivalents
    
    
    (1
    )
    
    
    8
    
    
    
    (6
    )Cash and cash equivalents, beginning of year
    
    
    5
    
    
    
    4
    
    
    
    12Cash and cash equivalents, end of year
    
    $
    4
    
    
    $
    12
    
    
    $
    6Reconciliation of net income to net
cash provided by operations:Net income
    
    $
    2,538
    
    
    $
    4,365
    
    
    $
    3,762Adjustments to reconcile net income
to net cash provided by operations:Equity in income of subsidiary
    
    
    (2,702
    )
    
    
    (4,516
    )
    
    
    (4,209
    )Increase (decrease) in other liabilities
    
    
    5
    
    
    
    (4
    )
    
    
    2(Increase) decrease in other
(non-investment) assets
    
    
    49
    
    
    
    (14
    )
    
    
    (204
    )Other, net
    
    
    (1
    )
    
    
    8
    
    
    
    (6
    )Net cash used in operating activities
    
    $
    (111
    )
    
    $
    (161
    )
    
    $
    (655
    )
 57




---



##### Table of Contents



NOTES TO CONDENSED FINANCIAL STATEMENTS
   58




---



##### Table of Contents



Assumed
    
    
    
    
    
    PercentageCeded
    
    Ceded
    
    Assumed
    
    from
    
    
    
    
    
    of amountGross
    
    to third
    
    to affiliates
    
    from third
    
    affiliates
    
    Net
    
    assumedamount
    
    parties
    
    (1)
    
    parties
    
    (1)
    
    amount
    
    to netYear ended December 31, 2002Property and Casualty Premiums
    
    $
    72,803
    
    
    $
    4,569
    
    
    
    
    
    
    $
    2,294
    
    
    
    
    
    
    $
    70,528
    
    
    
    3.3
    %Year ended December 31, 2003Property and Casualty Premiums
    
    $
    58,233
    
    
    $
    3,077
    
    
    $
    90,596
    
    
    $
    1,412
    
    
    $
    98,207
    
    
    $
    64,179
    
    
    
    155.2
    %Year Ended December 31, 2004Property and Casualty Premiums
    
    $
    53,900
    
    
    $
    2,967
    
    
    $
    52,452
    
    
    $
    1,519
    
    
    $
    53,102
    
    
    $
    53,102
    
    
    
    102.9
    %
 
 (1)
    
    Amounts are comprised of premiums assumed or ceded in accordance with the Reinsurance Pooling
Agreement with Mutual. 59




---



##### Table of Contents



Losses & lossDeferred
    
    Reserves
    
    Discount
    
    
    
    
    
    
    
    
    
    
    
    
    
    adjustment expenses
    
    Amortiza-policy
    
    for losses
    
    if any,
    
    
    
    
    
    
    
    
    
    
    
    
    
    incurred related to
    
    tion of
    
    Paid lossesacquis-
    
    and loss
    
    deducted
    
    
    
    
    
    Net
    
    Net
    
    (1)
    
    (2)
    
    deferred
    
    & loss ad-
    
    Directition
    
    adjustment
    
    from
    
    Unearned
    
    earned
    
    investment
    
    Current
    
    Prior
    
    acquisition
    
    justment
    
    premiumcosts
    
    expenses
    
    reserves
    
    premiums
    
    premiums
    
    income
    
    years
    
    years
    
    costs
    
    expenses
    
    writtenYear ended:December 31, 2002
    
    $
    8,817
    
    
    $
    147,136
    
    
    $
    5,746
    
    
    $
    35,119
    
    
    $
    83,120
    
    
    $
    10,403
    
    
    $
    66,658
    
    
    $
    (3,785
    )
    
    $
    22,227
    
    
    $
    67,230
    
    
    $
    72,803December 31, 2003
    
    $
    8,623
    
    
    $
    146,474
    
    
    $
    4,920
    
    
    $
    36,176
    
    
    $
    65,097
    
    
    $
    8,815
    
    
    $
    49,702
    
    
    $
    (90
    )
    
    $
    16,925
    
    
    $
    53,609
    
    
    $
    58,233December 31, 2004
    
    $
    7,570
    
    
    $
    128,415
    
    
    $
    4,531
    
    
    $
    33,685
    
    
    $
    57,123
    
    
    $
    7,881
    
    
    $
    38,524
    
    
    $
    (843
    )
    
    $
    14,852
    
    
    $
    48,655
    
    
    $
    53,900
 60




---



##### Table of Contents



Merchants Group, Inc.Date:
March 27, 2006
    
    BY:
    
    /s/Robert M. ZakRobert M. Zak, Senior Vice President and Chief Operating Officer
  SIGNATURE
    
    TITLE
    
    DATE/s/ Robert M. Zak
    
    Director, Sr. VP &
    
    March 27, 2006Robert M. Zak
    
    Chief Operating
Officer (principal
executive officer)/s/ Kenneth J. Wilson
    
    Vice President & CFO
    
    March 27, 2006Kenneth J. Wilson
    
    (principal financial
and accounting officer)/s/ Thomas E. Kahn
    
    Director, Chairman
    
    March 27, 2006Thomas E. Kahn
    
    of the Board/s/ Brent D. Baird
    
    Director
    
    March 27, 2006Brent D. Baird/s/ Andrew A. Alberti
    
    Director
    
    March 27, 2006Andrew A. Alberti/s/ Frank J. Colantuono
    
    Director
    
    March 27, 2006Frank J. Colantuono/s/ Henry P. Semmelhack
    
    Director
    
    March 27, 2006Henry P. Semmelhack
 61




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##### Table of Contents



Report of Independent Registered Public Accounting Firm
 
  
 F-1




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##### Table of Contents



CONSOLIDATED BALANCE SHEET
  December 31,2004
    
    
    2003AssetsInvestments:Fixed maturities available for sale at fair value
    
    $
    184,092
    
    
    $
    193,805Preferred stock at fair value
    
    
    3,509
    
    
    
    5,797Other long-term investments at fair value
    
    
    2,696
    
    
    
    2,167Short-term investments
    
    
    7,412
    
    
    
    1,118Total investments
    
    
    197,709
    
    
    
    202,887Cash
    
    
    145
    
    
    
    23Interest due and accrued
    
    
    1,079
    
    
    
    1,260Premiums receivable from affiliate, net of allowance for
doubtful accounts of $215 in 2004 and
$278 in 2003
    
    
    15,136
    
    
    
    16,677Deferred policy acquisition costs from affiliate
    
    
    7,570
    
    
    
    8,623Reinsurance recoverable on paid and unpaid losses
    
    
    15,630
    
    
    
    22,715Prepaid reinsurance premiums from affiliate
    
    
    4,595
    
    
    
    3,066Income taxes receivable
    
    
    
    
    
    
    881Retrospective commission receivable from affiliate
    
    
    
    
    
    
    305Deferred income taxes
    
    
    5,028
    
    
    
    4,497Other assets
    
    
    8,812
    
    
    
    7,744Total assets
    
    $
    255,704
    
    
    $
    268,678
  F-2




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##### Table of Contents



MERCHANTS GROUP, INC.
 CONSOLIDATED BALANCE SHEET
  December 31,2004
    
    
    2003Liabilities and Stockholders EquityLiabilities:Reserve for losses and loss adjustment expenses
(from affiliate $44,094 and $31,256)
    
    $
    128,415
    
    
    $
    146,474Unearned premiums from affiliate
    
    
    33,685
    
    
    
    36,176Payable for securities
    
    
    4,751
    
    
    
    Payable to affiliate
    
    
    5,571
    
    
    
    2,090Retrospective commission payable to affiliate
    
    
    1,141
    
    
    
    Other liabilities (affiliate $4,262 and $8,028)
    
    
    10,167
    
    
    
    13,679Total liabilities
    
    
    183,730
    
    
    
    198,419Stockholders equity:Common stock, $.01 par value, 10,000,000 shares authorized,
2,114,152 shares issued and outstanding at December 31, 2004
and 2,110,152 shares issued and outstanding at December 31, 2003
    
    
    33
    
    
    
    32Additional paid in capital
    
    
    35,878
    
    
    
    35,795Treasury stock, 1,139,700 shares at December 31, 2004
and 2003
    
    
    (22,766
    )
    
    
    (22,766
    )Accumulated other comprehensive income (loss)
    
    
    (536
    )
    
    
    750Accumulated earnings
    
    
    59,365
    
    
    
    56,448Total stockholders equity
    
    
    71,974
    
    
    
    70,259Commitments and contingencies
    
    
    
    
    
    
    Total liabilities and stockholders equity
    
    $
    255,704
    
    
    $
    268,678
  F-3




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##### Table of Contents



MERCHANTS GROUP, INC.
 
 CONSOLIDATED STATEMENT OF OPERATIONS
  Year ended December 31,2004
    
    
    2003
    
    
    2002Revenues:Net premiums earned from
affiliate in 2004 and 2003
    
    $
    57,123
    
    
    $
    65,097
    
    
    $
    83,120Net investment income
    
    
    7,881
    
    
    
    8,815
    
    
    
    10,403Net investment gains (losses)
    
    
    (221
    )
    
    
    2,500
    
    
    
    953Other revenues from affiliate in 2004 and 2003
    
    
    722
    
    
    
    560
    
    
    
    635Total revenues
    
    
    65,505
    
    
    
    76,972
    
    
    
    95,111Expenses:Net losses and loss adjustment expenses ($35,137
and $49,336 from affiliate in 2004 and 2003)
    
    
    37,681
    
    
    
    49,612
    
    
    
    62,873Amortization of deferred policy acquisition costs
from affiliate in 2004 and 2003
    
    
    14,852
    
    
    
    16,925
    
    
    
    22,227Other underwriting expenses (from affiliate
$6,433, $4,044 and $5,046)
    
    
    8,291
    
    
    
    5,031
    
    
    
    5,744Total expenses
    
    
    60,824
    
    
    
    71,568
    
    
    
    90,844Income before income taxes
    
    
    4,681
    
    
    
    5,404
    
    
    
    4,267Income tax provision
    
    
    919
    
    
    
    1,039
    
    
    
    1,729Net income
    
    $
    3,762
    
    
    $
    4,365
    
    
    $
    2,538Earnings per share:Basic
    
    $
    1.78
    
    
    $
    2.07
    
    
    $
    1.19Diluted
    
    $
    1.78
    
    
    $
    2.07
    
    
    $
    1.19Weighted average number of shares outstanding:Basic
    
    
    2,114
    
    
    
    2,110
    
    
    
    2,125Diluted
    
    
    2,118
    
    
    
    2,111
    
    
    
    2,129
  F-4




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##### Table of Contents



MERCHANTS GROUP, INC.
 CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
  Year ended December 31,2004
    
    
    2003
    
    
    2002Net income
    
    $
    3,762
    
    
    $
    4,365
    
    
    $
    2,538Other comprehensive income (loss) before tax:Unrealized gains (losses) on securities
    
    
    (1,926
    )
    
    
    688
    
    
    
    1,161Reclassification adjustment for gains
included in net income
    
    
    221
    
    
    
    (2,488
    )
    
    
    (952
    )Other comprehensive income (loss) before tax
    
    
    (1,705
    )
    
    
    (1,800
    )
    
    
    209Income tax provision (benefit) related to items
of other comprehensive income (loss)
    
    
    (419
    )
    
    
    (613
    )
    
    
    84Other comprehensive income (loss)
    
    
    (1,286
    )
    
    
    (1,187
    )
    
    
    125Comprehensive income
    
    $
    2,476
    
    
    $
    3,178
    
    
    $
    2,663
  F-5




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##### Table of Contents



MERCHANTS GROUP, INC.
 
 CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS EQUITY
  Year ended December 31,2004
    
    
    2003
    
    
    2002Common stock:Beginning of year
    
    $
    32
    
    
    $
    32
    
    
    $
    32Exercise of common stock options
    
    
    1
    
    
    
    
    
    
    
    End of year
    
    
    33
    
    
    
    32
    
    
    
    32Additional paid in capital:Beginning of year
    
    
    35,795
    
    
    
    35,795
    
    
    
    35,795Exercise of common stock options
    
    
    83
    
    
    
    
    
    
    
    End of year
    
    
    35,878
    
    
    
    35,795
    
    
    
    35,795Treasury stock:Beginning of year
    
    
    (22,766
    )
    
    
    (22,766
    )
    
    
    (20,332
    )Purchase of treasury shares
    
    
    
    
    
    
    
    
    
    
    (2,434
    )End of year
    
    
    (22,766
    )
    
    
    (22,766
    )
    
    
    (22,766
    )Accumulated other comprehensive income (loss):Beginning of year
    
    
    750
    
    
    
    1,937
    
    
    
    1,812Other comprehensive income (loss)
    
    
    (1,286
    )
    
    
    (1,187
    )
    
    
    125End of year
    
    
    (536
    )
    
    
    750
    
    
    
    1,937Accumulated earnings:Beginning of year
    
    
    56,448
    
    
    
    52,926
    
    
    
    51,244Net income
    
    
    3,762
    
    
    
    4,365
    
    
    
    2,538Cash dividends ($.40/share in 2002,
in 2003 and in 2004), (to affiliate,
$102, $102 and $102)
    
    
    (845
    )
    
    
    (843
    )
    
    
    (856
    )End of year
    
    
    59,365
    
    
    
    56,448
    
    
    
    52,926Total stockholders equity
    
    $
    71,974
    
    
    $
    70,259
    
    
    $
    67,924
  F-6




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##### Table of Contents



MERCHANTS GROUP, INC.
 
 CONSOLIDATED STATEMENT OF CASH FLOWS
  Year ended December 31,2004
    
    
    2003
    
    
    2002Cash flows from operations:Collection of premiums
(from affiliate in 2004 and 2003)
    
    $
    53,924
    
    
    $
    62,789
    
    
    $
    77,395Payment of losses and loss adjustment expenses
(affiliate $22,299 in 2004 and $18,081 in 2003)
    
    
    (50,276
    )
    
    
    (54,043
    )
    
    
    (67,230
    )Payment of underwriting expenses
(from affiliate $(21,946), (19,527)
and $(24,803))
    
    
    (23,550
    )
    
    
    (20,594
    )
    
    
    (26,789
    )Investment income received
    
    
    8,259
    
    
    
    9,170
    
    
    
    11,475Investment expenses paid
    
    
    (280
    )
    
    
    (289
    )
    
    
    (334
    )Income taxes paid
    
    
    (376
    )
    
    
    (1,152
    )
    
    
    (1,198
    )Other cash receipts from affiliate in 2004 and 2003
    
    
    722
    
    
    
    560
    
    
    
    702Net cash used in operations
    
    
    (11,577
    )
    
    
    (3,559
    )
    
    
    (5,979
    )Cash flows from investing activities:Proceeds from fixed maturities sold or matured
    
    
    46,124
    
    
    
    139,217
    
    
    
    135,364Purchase of fixed maturities
    
    
    (37,547
    )
    
    
    (140,467
    )
    
    
    (132,158
    )Net decrease in preferred stock
    
    
    2,000
    
    
    
    1,500
    
    
    
    1,634Net (increase) decrease in other long-term investments
    
    
    (948
    )
    
    
    1,926
    
    
    
    (451
    )Net (increase) decrease in short-term investments
    
    
    (6,294
    )
    
    
    5,302
    
    
    
    485Settlement of securities transactions, net
    
    
    5,644
    
    
    
    (1,915
    )
    
    
    1,022Net cash provided by investing activities
    
    
    8,979
    
    
    
    5,563
    
    
    
    5,896Cash flows from financing activities:Settlement of affiliate balances, net
    
    
    3,481
    
    
    
    (1,147
    )
    
    
    2,385Repayment of demand loan, net
    
    
    
    
    
    
    
    
    
    
    (200
    )Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    (2,434
    )Proceeds from exercise of common stock options
    
    
    84
    
    
    
    
    
    
    
    Cash dividends (to affiliates $102, $102
and $102)
    
    
    (845
    )
    
    
    (843
    )
    
    
    (856
    )Net cash provided by (used in) financing activities
    
    
    2,720
    
    
    
    (1,990
    )
    
    
    (1,105
    )Increase (decrease) in cash
    
    
    122
    
    
    
    14
    
    
    
    (1,188
    )Cash, beginning of year
    
    
    23
    
    
    
    9
    
    
    
    1,197Cash, end of year
    
    $
    145
    
    
    $
    23
    
    
    $
    9
  F-7




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##### Table of Contents



MERCHANTS GROUP, INC.
 CONSOLIDATED STATEMENT OF CASH FLOWS
 RECONCILIATION OF NET INCOME TO NET CASH PROVIDED BY OPERATIONS
  Year ended December 31,2004
    
    
    2003
    
    
    2002Net income
    
    $
    3,762
    
    
    $
    4,365
    
    
    $
    2,538Adjustments:Depreciation and amortization
    
    
    (83
    )
    
    
    (268
    )
    
    
    23Net investment gains (losses)
    
    
    221
    
    
    
    (2,500
    )
    
    
    (953
    )(Increase) decrease in assets:Interest due and accrued
    
    
    181
    
    
    
    334
    
    
    
    715Premiums receivable from affiliate in 2004 and 2003
    
    
    1,541
    
    
    
    (2,181
    )
    
    
    7,189Deferred policy acquisition costs (from
affiliate in 2004 and 2003)
    
    
    1,053
    
    
    
    194
    
    
    
    3,537Reinsurance recoverable on paid and unpaid losses
    
    
    7,085
    
    
    
    (3,629
    )
    
    
    (276
    )Prepaid reinsurance premiums from affiliate
in 2004 and 2003
    
    
    (1,529
    )
    
    
    (1,975
    )
    
    
    2,468Income taxes receivable
    
    
    881
    
    
    
    (424
    )
    
    
    (457
    )Deferred income taxes
    
    
    (113
    )
    
    
    311
    
    
    
    511Retrospective commission receivable from affiliate
    
    
    
    
    
    
    (305
    )
    
    
    Other assets
    
    
    (457
    )
    
    
    (96
    )
    
    
    (847
    )Increase (decrease) in liabilities:Reserve for losses and loss adjustment expenses
(affiliate $12,838 in 2004 and $31,256 in 2003)
    
    
    (18,059
    )
    
    
    (662
    )
    
    
    (4,219
    )Unearned premiums (from affiliate in 2004 and 2003)
    
    
    (2,491
    )
    
    
    1,057
    
    
    
    (15,060
    )Retrospective commission payable to affiliate
    
    
    1,141
    
    
    
    
    
    
    
    Other liabilities (from affiliate $(3,807), $3,068
and $140)
    
    
    (4,710
    )
    
    
    2,220
    
    
    
    (1,148
    )Net cash used in operations
    
    $
    (11,577
    )
    
    $
    (3,559
    )
    
    $
    (5,979
    )
  F-8




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##### Table of Contents



MERCHANTS GROUP, INC.
 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
   
    
    Where applicable, the amounts of related party transactions with the Companys
affiliate have been disclosed on the face of the financial statements.
    
    A new Note 11. entitled Underwriting Results by Product has been added. This
Note discloses the underwriting results for each of the Companys products, as well as
the total revenues derived from each product.
    
    Historically the Company included in its Consolidated Balance Sheet within Other
Liabilities, the net present value of the aggregate amount of its contingent
liability related to claims settled by the purchase of structured settlements. A
corresponding asset was included in Other Assets for the same amount. In such
transactions, the Company purchases annuities for claimants from life insurance
carriers. The Company believed that in all instances in which a structured settlement
was purchased, it remained contingently liable to its claimant if the life insurance
company were to default on payment of the structured settlement. Many of the Companys
structured settlements include Uniform Qualified Assignments. In 2006, the Company
received guidance from its legal counsel that such Uniform Qualified Assignments
relieve the Company of any contingent liability for which the Assignment is properly
executed. The Company included a liability in its Consolidated Balance Sheets as of
December 31, 2004 and 2003 for all instances where structured settlements were
purchased, including those where the Company received a Uniform Qualified Assignment.
Other Liabilities and Other Assets included structured settlements with Uniform
Qualified Assignments of $4,745,000 and $3,588,000 at December 31, 2004 and 2003,
respectively. The Companys Consolidated Balance Sheets at December 31, 2004 and 2003
have been adjusted to reflect this overstatement. This adjustment had no effect on
the Companys net income, stockholders equity or cash flows.
    
    The amount of assumed and ceded loss and loss adjustment expenses related to the
Pooling Agreement disclosed in Note 5. have been amended to include certain loss
adjustment expenses that previously had been excluded. This amended disclosure had no
effect on the Companys balance sheet, net income, stockholders equity or cash flows.
 F-9




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##### Table of Contents



Significant Accounting Policies
 Principles of consolidation and basis of presentation
    Investments
  F-10




---



##### Table of Contents



Net premiums earned
  Deferred policy acquisition costs
  Year Ended December 31,2004
    
    
    2003
    
    
    2002(in thousands)Beginning balance
    
    $
    8,623
    
    
    $
    8,817
    
    
    $
    12,354Acquisition cost deferred
    
    
    13,799
    
    
    
    16,731
    
    
    
    18,690Amortized to expense
    
    
    (14,852
    )
    
    
    (16,925
    )
    
    
    (22,227
    )Ending balance
    
    $
    7,570
    
    
    $
    8,623
    
    
    $
    8,817
 Reinsurance
  F-11




---



##### Table of Contents



Reserve for losses and loss adjustment expenses
    Income taxes
  Other financial instruments
  F-12




---



##### Table of Contents



Related Party Transactions
      F-13




---



##### Table of Contents



Investments
 Investments in fixed maturities, preferred stock and other long-term investments
  Gross
    
    
    GrossAmortized
    
    
    Unrealized
    
    
    Unrealized
    
    
    EstimatedCost/Cost
    
    
    Gains
    
    
    Losses
    
    
    Fair Value(in thousands)December 31, 2004Fixed maturities:Available for saleU.S. Treasury securities and
obligations of U.S.
government corporations
and agencies
    
    $
    5,028
    
    
    $
    29
    
    
    $
    29
    
    
    $
    5,028Obligations of states and
political subdivisions
    
    
    41,010
    
    
    
    100
    
    
    
    131
    
    
    
    40,979Corporate securities
    
    
    27,929
    
    
    
    136
    
    
    
    62
    
    
    
    28,003Mortgage and asset backed
securities
    
    
    110,204
    
    
    
    557
    
    
    
    679
    
    
    
    110,082Total
    
    $
    184,171
    
    
    $
    822
    
    
    $
    901
    
    
    $
    184,092Preferred stock
    
    $
    3,392
    
    
    $
    117
    
    
    $
    
    
    
    $
    3,509Other long-term investments
    
    $
    2,646
    
    
    $
    50
    
    
    $
    
    
    
    $
    2,696
 F-14




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##### Table of Contents



Gross
    
    
    GrossAmortized
    
    
    Unrealized
    
    
    Unrealized
    
    
    EstimatedCost/Cost
    
    
    Gains
    
    
    Losses
    
    
    Fair Value(in thousands)December 31, 2003Fixed maturities:Available for saleU.S. Treasury securities and
obligations of U.S.
government corporations
and agencies
    
    $
    8,171
    
    
    $
    206
    
    
    $
    
    
    
    $
    8,377Obligations of states and
political subdivisions
    
    
    43,189
    
    
    
    369
    
    
    
    157
    
    
    
    43,401Corporate securities
    
    
    27,767
    
    
    
    977
    
    
    
    30
    
    
    
    28,714Mortgage and asset backed
securities
    
    
    113,188
    
    
    
    1,033
    
    
    
    908
    
    
    
    113,313Total
    
    $
    192,315
    
    
    $
    2,585
    
    
    $
    1,095
    
    
    $
    193,805Preferred stock
    
    $
    5,985
    
    
    $
    112
    
    
    $
    300
    
    
    $
    5,797Other long-term investments
    
    $
    2,167
    
    
    $
    
    
    
    $
    
    
    
    $
    2,167
  F-15




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##### Table of Contents



Less than 12 months
    
    
    12 months or moreUnrealized
    
    
    
    
    
    
    UnrealizedFair Value
    
    
    Losses
    
    
    Fair Value
    
    
    Losses(in thousands)December 31, 2004Fixed maturities:U.S. Treasury securities and
obligations of U.S. government
corporations and agencies
    
    $
    2,977
    
    
    $
    29
    
    
    $
    
    
    
    $
    Obligations of states and
political subdivisions
    
    
    11,943
    
    
    
    65
    
    
    
    3,502
    
    
    
    66Corporate securities
    
    
    6,996
    
    
    
    40
    
    
    
    972
    
    
    
    22Mortgage and asset backed
securities
    
    
    55,173
    
    
    
    525
    
    
    
    5,011
    
    
    
    154Total
    
    $
    77,089
    
    
    $
    659
    
    
    $
    9,485
    
    
    $
    242Preferred stock
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Other long-term investments
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    
 Less than 12 months
    
    
    12 months or moreUnrealized
    
    
    
    
    
    
    UnrealizedFair Value
    
    
    Losses
    
    
    Fair Value
    
    
    Losses(in thousands)December 31, 2003Fixed maturities:U.S. Treasury securities and
obligations of U.S. government
corporations and agencies
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Obligations of states and
political subdivisions
    
    
    12,501
    
    
    
    157
    
    
    
    
    
    
    
    Corporate securities
    
    
    963
    
    
    
    30
    
    
    
    
    
    
    
    Mortgage and asset backed
securities
    
    
    56,796
    
    
    
    898
    
    
    
    1,334
    
    
    
    10Total
    
    $
    70,260
    
    
    $
    1,085
    
    
    $
    1,334
    
    
    $
    10Preferred stock
    
    $
    
    
    
    $
    
    
    
    $
    2,200
    
    
    $
    300Other long-term investments
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    
 F-16




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##### Table of Contents



EstimatedFairAmortized Cost
    
    
    Value(in thousands)Due in one year or less
    
    $
    49,194
    
    
    $
    49,275Due after one year through five years
    
    
    112,616
    
    
    
    112,476Due after five years through ten years
    
    
    18,887
    
    
    
    18,870Due after ten years
    
    
    3,474
    
    
    
    3,471Total
    
    $
    184,171
    
    
    $
    184,092
    Year ended December 31,2004
    
    
    2003
    
    
    2002(in thousands)Proceeds from sales
    
    $
    10,641
    
    
    $
    11,089
    
    
    $
    54,189Gross realized gains
    
    
    479
    
    
    
    2,500
    
    
    
    1,442Gross realized losses
    
    
    
    
    
    
    
    
    
    
    489
 F-17




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##### Table of Contents



Net investment income
  Year ended December 31,2004
    
    
    2003
    
    
    2002(in thousands)Fixed maturities
    
    $
    7,873
    
    
    $
    8,534
    
    
    $
    9,917Short-term investments
    
    
    64
    
    
    
    45
    
    
    
    181Other
    
    
    297
    
    
    
    525
    
    
    
    639Total investment income
    
    
    8,234
    
    
    
    9,104
    
    
    
    10,737Investment expenses
    
    
    353
    
    
    
    289
    
    
    
    334Net investment income
    
    $
    7,881
    
    
    $
    8,815
    
    
    $
    10,403
 Reinsurance
  F-18




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##### Table of Contents



2004
    
    
    2003
    
    
    2002Premiums
    
    
    Premiums
    
    
    Premiums
    
    
    Premiums
    
    
    Premiums
    
    
    PremiumsWritten
    
    
    Earned
    
    
    Written
    
    
    Earned
    
    
    Written
    
    
    Earned(in thousands)Direct
    
    $
    53,900
    
    
    $
    55,528
    
    
    $
    58,233
    
    
    $
    63,517
    
    
    $
    72,803
    
    
    $
    88,234AssumedWith third parties
    
    
    1,519
    
    
    
    1,814
    
    
    
    1,412
    
    
    
    1,694
    
    
    
    2,294
    
    
    
    1,923Pooling Agreement
    
    
    53,102
    
    
    
    57,123
    
    
    
    98,207
    
    
    
    65,098
    
    
    
    
    
    
    
    Subtotal
    
    
    54,621
    
    
    
    58,937
    
    
    
    99,619
    
    
    
    66,792
    
    
    
    2,294
    
    
    
    1,923CededWith third parties
    
    
    (2,967
    )
    
    
    (2,891
    )
    
    
    (3,077
    )
    
    
    (3,337
    )
    
    
    (4,569
    )
    
    
    (7,037
    )Pooling Agreement
    
    
    (52,452
    )
    
    
    (54,451
    )
    
    
    (90,596
    )
    
    
    (61,875
    )
    
    
    
    
    
    
    Subtotal
    
    
    (55,419
    )
    
    
    (57,342
    )
    
    
    (93,673
    )
    
    
    (65,212
    )
    
    
    (4,569
    )
    
    
    (7,037
    )Net Premiums
    
    $
    53,102
    
    
    $
    57,123
    
    
    $
    64,179
    
    
    $
    65,097
    
    
    $
    70,528
    
    
    $
    83,120
  2004
    
    
    2003
    
    
    2002(in thousands)Direct
    
    $
    38,392
    
    
    $
    59,326
    
    
    $
    65,064AssumedWith third parties
    
    
    1,453
    
    
    
    1,631
    
    
    
    1,465Pooling Agreement
    
    
    35,137
    
    
    
    49,336
    
    
    
    Subtotal
    
    
    36,590
    
    
    
    50,967
    
    
    
    1,465CededWith third parties
    
    
    (3,754
    )
    
    
    (8,779
    )
    
    
    (3,656
    )Pooling Agreement
    
    
    (33,547
    )
    
    
    (51,902
    )
    
    
    Subtotal
    
    
    (37,301
    )
    
    
    (60,681
    )
    
    
    (3,656
    )Net losses and LAE
    
    $
    37,681
    
    
    $
    49,612
    
    
    $
    62,873
  F-19




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##### Table of Contents



Reserve for Losses and Loss Adjustment Expenses
  2004
    
    
    2003(in thousands)Reserve for losses and LAE at beginning of year
    
    $
    146,474
    
    
    $
    147,136Less reinsurance recoverables
    
    
    22,715
    
    
    
    19,380Net balance at beginning of year
    
    
    123,759
    
    
    
    127,756Provision for losses and LAE for claims occurring in:Current year
    
    
    38,524
    
    
    
    49,702Prior years
    
    
    (843
    )
    
    
    (90
    )37,681
    
    
    
    49,612Loss and LAE payments for claims occurring in:Current year
    
    
    13,647
    
    
    
    18,441Prior years
    
    
    35,008
    
    
    
    35,16848,655
    
    
    
    53,609Reserve for losses and LAE at end of year, net
    
    
    112,785
    
    
    
    123,759Plus reinsurance recoverables
    
    
    15,630
    
    
    
    22,715Balance at end of year
    
    $
    128,415
    
    
    $
    146,474
 In 2004, the Company decreased reserves for prior years by $843,000 primarily due to favorable
loss development related to private passenger auto liability and workers compensation policies,
somewhat offset by unfavorable development on its commercial package policies. In 2003, the
Company decreased reserves for prior years by $90,000.7.
    
    Demand LoanThe Company has arranged for a $2,000,000 unsecured credit facility from a bank. Any borrowings
under this facility are payable on demand and carry an interest rate which can be fixed or
variable and is negotiated at the time of each advance. This facility is available for general
working capital purposes and for repurchases of the Companys common stock. No amount related
to this facility was outstanding at December 31, 2004.
 F-20




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##### Table of Contents



8.
    
    Income TaxesThe provision (benefit) for income taxes consists of:
 Year ended December 31,2004
    
    
    2003
    
    
    2002(in thousands)Current
    
    $
    1,032
    
    
    $
    728
    
    
    $
    1,248Deferred
    
    
    (113
    )
    
    
    311
    
    
    
    481Total income tax provision
    
    $
    919
    
    
    $
    1,039
    
    
    $
    1,729
 A reconciliation of the difference between the Companys total income tax provision and that calculated using statutory income tax
rates is as follows:
 Year ended December 31,2004
    
    
    2003
    
    

2002(in thousands)Computed provision at statutory rate
    
    $
    1,592
    
    
    $
    1,837
    
    
    $
    1,451Adjustments:State income taxes, net of federal effect
    
    
    
    
    
    
    (479
    )
    
    
    447Tax-exempt investment income
    
    
    (315
    )
    
    
    (217
    )
    
    
    (85
    )Dividend received deduction
    
    
    (47
    )
    
    
    (79
    )
    
    
    (94
    )Adjustments to prior years taxes
    
    
    (196
    )
    
    
    
    
    
    
    Reversal of excess tax reserves
related to uncertain tax positions
    
    
    (120
    )
    
    
    
    
    
    
    Other
    
    
    5
    
    
    
    (23
    )
    
    
    10Total income tax provision
    
    $
    919
    
    
    $
    1,039
    
    
    $
    1,729
 The provision for income taxes for 2003 includes the effect of a 2003 change in New York State
law with respect to the taxation of non-life insurance companies. This change eliminated state
income taxes for all non-life insurance companies and increased the premium tax rate from 1.3%
to 2.0%. As a result, the Company reduced its deferred tax liability with respect to New York
State income taxes to $0, and recorded a one-time benefit, net of federal income taxes, to its
income tax provision of $505,000 during 2003.
 F-21




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##### Table of Contents



Deferred tax (liabilities) assets are comprised of the following:
 December 31,2004
    
    
    2003(in thousands)Deferred policy acquisition costs
    
    $
    (2,574
    )
    
    $
    (2,932
    )Unrealized net investment gains
    
    
    
    
    
    
    (338
    )Bond discounts
    
    
    (39
    )
    
    
    (644
    )Other
    
    
    (143
    )
    
    
    (177
    )Total deferred tax liabilities
    
    
    (2,756
    )
    
    
    (4,091
    )Discounting of reserve for losses and
loss adjustment expenses
    
    
    5,354
    
    
    
    6,102Unearned premiums
    
    
    1,997
    
    
    
    2,280Unrealized net investment losses
    
    
    251
    
    
    
    Other
    
    
    182
    
    
    
    206Total deferred tax assets
    
    
    7,784
    
    
    
    8,588Net deferred income taxes
    
    $
    5,028
    
    
    $
    4,497
 Although realization is not assured, based upon the evidence available the Company believes that
it is more likely than not that the net deferred income tax asset will be realized. The amount
of the deferred tax asset considered realizable, however, could be reduced in the near term if
estimates of future taxable income are not achieved.9.
    
    Stockholders EquityDividendsThe Company depends on dividends from its subsidiary, MNH, to pay cash dividends to its
stockholders and to meet its expenses. MNH is subject to New Hampshire state insurance laws
which restrict its ability to pay dividends without the prior approval of state regulatory
authorities. These restrictions limit dividends to those that, when added to all other
dividends paid within the preceding twelve months, would not exceed 10% of an insurers
policyholders surplus as of the preceding December 31. The maximum amount of dividends that
MNH could pay during any twelve-month period ending in 2005 without the prior approval of the
New Hampshire Insurance Commissioner is $6,171,000.Stock option planThe Companys stock option plan (the Plan), which reserved 200,000 shares of common stock for
issuance to the Companys and MNHs officers and key employees of the Companys affiliate,
Mutual, expired in 1996. Under the Plan, qualified and non-qualified stock options were granted
at amounts not less than the fair market value of the Companys stock on the date of grant.
Options granted under the Plan have a 10 year life and vested in cumulative annual increments of
25% commencing one year from the date of grant.
 F-22




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##### Table of Contents



In accounting for the Plan, the Company remains under the expense recognition provisions of
Accounting Principles Board Opinion No. 25 Accounting for Stock Issued to Employees but
follows the disclosure provisions of Statement of Financial Accounting Standards (SFAS) No.
123 Accounting for Stock Based Compensation. No options were granted in 2002, 2003 or 2004
and, therefore, no compensation expense was recognized in those years.A summary of the status of the Companys outstanding options as of December 31, 2002, 2003 and
2004, and changes during the years ending on those dates is presented below:
 2004
    
    
    2003
    
    
    2002Weighted
    
    
    
    
    
    
    Weighted
    
    
    
    
    
    
    WeightedAverage
    
    
    
    
    
    
    Average
    
    
    
    
    
    
    AverageOptions
    
    
    Exercise
    
    
    Options
    
    
    Exercise
    
    
    Options
    
    
    ExerciseOutstanding
    
    
    Price
    
    
    Outstanding
    
    
    Price
    
    
    Outstanding
    
    
    Price BeginningBeginning
of year
    
    
    35,500
    
    
    $
    21.00
    
    
    
    35,500
    
    
    $
    21.00
    
    
    
    35,500
    
    
    
    21.00Granted
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Exercised
    
    
    (4,000
    )
    
    
    21.00
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Forfeited
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    End of year
    
    
    31,500
    
    
    
    21.00
    
    
    
    35,500
    
    
    
    21.00
    
    
    
    35,500
    
    
    
    21.00Options
exercisable
at year-end
    
    
    31,500
    
    
    
    21.00
    
    
    
    35,500
    
    
    
    21.00
    
    
    
    35,500
    
    
    
    21.00
 The following table summarizes information about the Companys outstanding stock options at December
31, 2004:
 Number
    
    Remaining
    
    
    Average
    
    
    NumberOutstanding
    
    Contractual
    
    
    Exercise
    
    
    Exercisableat 12/31/04
    
    Life in Years
    
    
    Price
    
    
    at 12/31/0431,500
    
    
    1.1
    
    
    $
    21.00
    
    
    
    31,500
 Common stock repurchasesDuring 2002, the Company repurchased 114,300 shares of its common stock. There were no common
stock repurchases in 2003 or 2004. The Company was holding 1,139,700 shares in treasury at
December 31, 2004.
 F-23




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##### Table of Contents



Preferred stockThe Companys Preferred stock, no par value, $424.30 stated value, consists of 10,000 shares
authorized; no shares were issued or outstanding at December 31, 2003 or December 31, 2004. The
Company also has 3,000,000 shares of $.01 par value preferred stock which is authorized and
unissued.10.
    
    Earnings Per ShareThe computations for basic and diluted earnings per share are as follows:
 Year Ended December 31,2004
    
    
    2003
    
    
    2002(in thousands except per share amounts)Basic:Net income
    
    $
    3,762
    
    
    $
    4,365
    
    
    $
    2,538Weighted average shares outstanding
    
    
    2,114
    
    
    
    2,110
    
    
    
    2,125Basic earnings per share
    
    $
    1.78
    
    
    $
    2.07
    
    
    $
    1.19Diluted:Net income
    
    $
    3,762
    
    
    $
    4,365
    
    
    $
    2,538Weighted average shares outstanding
    
    
    2,114
    
    
    
    2,110
    
    
    
    2,125Plus incremental shares from assumed
conversion of stock options
    
    
    4
    
    
    
    1
    
    
    
    4Weighted average shares
outstanding-adjusted
    
    
    2,118
    
    
    
    2,111
    
    
    $
    2,129Diluted earnings per share
    
    $
    1.78
    
    
    $
    2.07
    
    
    $
    1.19
 11.
    
    Underwriting Results by ProductThe following table shows for each of the years in the three year period ended December 31,
2004, the amount of the Companys net premiums earned for each of its major products and the
calendar year loss and allocated loss adjustment expense (ALAE) ratio for each product. The
loss and ALAE ratio is one measure of product profitability and shows the relationship of
incurred losses and allocated loss adjustment expenses to net premiums earned for a given
period.
 F-24




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##### Table of Contents



For The Year Ended December 31,(000s)2004
    
    
    2003
    
    
    2002Net
    
    
    Loss &
    
    
    Net
    
    
    Loss &
    
    
    Net
    
    
    Loss &Premiums
    
    
    ALAE
    
    
    Premiums
    
    
    ALAE
    
    
    Premiums
    
    
    ALAEEarned
    
    
    Ratio
    
    
    Earned
    
    
    Ratio
    
    
    Earned
    
    
    RatioPrivate passenger auto liability
    
    
    9,543
    
    
    
    59.0
    %
    
    
    13,131
    
    
    
    75.6
    %
    
    
    20,747
    
    
    
    139.4
    %Homeowners
    
    
    5,541
    
    
    
    63.6
    %
    
    
    6,352
    
    
    
    52.3
    %
    
    
    9,624
    
    
    
    54.5
    %Commercial auto liability
    
    
    12,532
    
    
    
    53.5
    %
    
    
    12,561
    
    
    
    23.9
    %
    
    
    9,636
    
    
    
    39.1
    %Workers compensation
    
    
    4,535
    
    
    
    31.4
    %
    
    
    4,619
    
    
    
    188.8
    %
    
    
    5,211
    
    
    
    29.3
    %Commercial package
    
    
    15,764
    
    
    
    76.7
    %
    
    
    16,449
    
    
    
    79.1
    %
    
    
    21,904
    
    
    
    58.7
    %General liability
    
    
    700
    
    
    
    165.5
    %
    
    
    638
    
    
    
    406.9
    %
    
    
    339
    
    
    
    -65.9
    %Other
    
    
    8,508
    
    
    
    43.5
    %
    
    
    11,347
    
    
    
    45.5
    %
    
    
    15,659
    
    
    
    47.9
    %TotalTotal
    
    $
    57,123
    
    
    
    59.9
    %
    
    $
    65,097
    
    
    
    70.3
    %
    
    $
    83,120
    
    
    
    71.7
    %Total
 12.
    
    Benefit ProgramsMutual maintains a capital accumulation plan which is a profit sharing plan under Section 401(a)
of the Internal Revenue Code that covers all employees who have completed six months of service.
Mutual matches at least 15% and up to 100% of employee contributions, based on the combined net
operating profits of Mutual and MNH. Additional contributions may be made at the discretion of
the Board of Directors of Mutual. Under the terms of the management agreement, the Companys
portion of the total contribution was $370,000 for the year ended December 31, 2002. The
portion of the 2003 and 2004 service fees charged to the Company by Mutual relating to Mutuals
contribution to its capital accumulation plan were $414,000 and $213,000, respectively.In 2002, Mutual established a supplemental executive compensation plan covering certain
employees. Under terms of the management agreement, the Companys portion of the total
contribution related to this plan was $50,000 for the year ended December 31, 2002. The portion
of the 2003 and 2004 service fees charged to the Company by Mutual relating to Mutuals
contribution to its supplemental executive compensation plan were $59,000 and $36,000,
respectively.13.
    
    Commitments and ContingenciesMNH, like many other property and casualty insurance companies, is subject to environmental
damage claims asserted by or against its insureds. Management is of the opinion that based on
various court decisions throughout the country, such claims should not be recoverable under the
terms of MNHs insurance policies because of either specific or general coverage exclusions
contained in the policies. However, there is no assurance that
 F-25




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##### Table of Contents



the courts will agree with MNHs position in every case, nor can there be assurance that
material claims will not be asserted under policies which a court will find do not explicitly or
implicitly exclude claims for environmental damages. Management, however, is not aware of any
pending claim or group of claims which would result in a liability that would have a material
adverse effect on the financial condition of MNH.
  F-26