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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
- --------------------------------------------------------------------------
FORM 10-Q

/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2003

OR

/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
-------------------------------------
Commission File Number 33-94670-01
-------------------------------------
FARMERS GROUP, INC.
(Exact name of registrant as specified in its charter)

NEVADA
(State or other jurisdiction of
incorporation or organization)

95-0725935
(IRS Employer Identification No.)

4680 WILSHIRE BOULEVARD, LOS ANGELES, CALIFORNIA 90010
(Address of principal executive offices)(Zip Code)

(323) 932-3200
(Registrants telephone number, including area code)

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

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

Registrant's Common Stock outstanding on June 30, 2003 was 1,000 shares.

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FARMERS GROUP, INC.
AND SUBSIDIARIES

TABLE OF CONTENTS FORM 10-Q

FOR THE PERIOD ENDED JUNE 30, 2003


PART I. FINANCIAL INFORMATION PAGE
----
ITEM 1. Financial Statements (Unaudited)

Consolidated Balance Sheets - Assets
June 30, 2003 (Unaudited) and December 31, 2002 (Audited) 4

Consolidated Balance Sheets - Liabilities
and Stockholders' Equity
June 30, 2003 (Unaudited) and December 31, 2002 (Audited) 5

Unaudited Consolidated Statements of Income
Six Month Periods ended June 30, 2003 and
June 30, 2002 6

Unaudited Consolidated Statements of Comprehensive Income
Six Month Periods ended June 30, 2003 and
June 30, 2002 7

Unaudited Consolidated Statements of Income
Three Month Periods ended June 30, 2003 and
June 30, 2002 8

Unaudited Consolidated Statements of Comprehensive Income
Three Month Periods ended June 30, 2003 and
June 30, 2002 9

Unaudited Consolidated Statement of Stockholders' Equity
Six Month Period ended June 30, 2003 10

Unaudited Consolidated Statements of Cash Flows
Six Month Periods ended June 30, 2003 and
June 30, 2002 11

Notes to Unaudited Interim Financial Statements 12

ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 22

ITEM 3. Quantitative and Qualitative Disclosures about Market Risks 37

ITEM 4. Controls and Procedures 37

PART II. OTHER INFORMATION 38

SIGNATURES 39

4

PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except for per share data)
ASSETS


(Unaudited)
June 30, December 31,
2003 2002
------------- ------------

Current assets, Farmers Management Services:
Cash and cash equivalents $ 324,661 $ 383,527
Marketable securities, at market value
(cost: $49,967 and $13,711) 50,581 13,832
Accrued interest 15,955 14,488
Accounts receivable, principally from the P&C Group Companies 28,699 76,109
Deferred taxes 49,406 49,865
Prepaid expenses and other 32,957 26,042
------------- ------------
502,259 563,863
------------- ------------
Investments, Farmers Management Services:
Fixed maturities available-for-sale, at market value
(cost: $567,072 and $144,282) 571,761 150,773
Common stocks available-for-sale, at market value
(cost: $100,284 and $144,773) 106,547 132,089
Certificates of contribution of the P&C Group Companies 546,830 546,830
Real estate, at cost (net of accumulated depreciation:
$47,645 and $45,374) 83,207 85,338
Notes receivable - affiliates 255,000 415,000
------------- ------------
1,563,345 1,330,030
------------- ------------
Other assets, Farmers Management Services:
Goodwill 1,621,183 1,621,183
Attorney-in-fact relationships 1,153,605 1,153,605
Other assets 205,727 244,706
------------- ------------
2,980,515 3,019,494
------------- ------------
Properties, plant and equipment, at cost: (net of accumulated
depreciation: $518,733 and $489,799) 427,451 412,406
------------- ------------
Investments of Insurance Subsidiaries:
Fixed maturities available-for-sale, at market value
(cost: $5,747,826 and $5,231,305) 6,116,930 5,524,070
Mortgage loans on real estate 5,561 8,219
Non-redeemable preferred stocks available-for-sale, at market
value (cost: $10,346 and $10,346) 12,423 10,203
Common stocks available-for-sale, at market value
(cost: $183,376 and $230,296) 195,685 213,664
Certificates of contribution and surplus note of the
P&C Group Companies 490,500 490,500
Policy loans 244,359 241,591
Real estate, at cost (net of accumulated depreciation:
$36,170 and $34,448) 77,001 78,240
Joint ventures, at equity 1,047 1,884
S&P 500 call options, at fair value (cost: $38,099 and $37,951) 1,342 1,845
Marketable securities, at market value
(cost: $30,415 and $2,712) 30,995 2,594
Other investments 22,435 22,435
------------- ------------
7,198,278 6,595,245
------------- ------------
Other assets of Insurance Subsidiaries:
Cash and cash equivalents 87,508 233,143
Life reinsurance receivable 121,664 99,128
Reinsurance premiums receivable from the P&C Group Companies 57,464 0
Funds held by or deposited with reinsured companies 0 18,971
Accrued investment income 77,054 74,956
Income taxes 3,377 13,575
Life deferred policy acquisition costs 575,459 580,195
Value of life business acquired 239,690 254,510
Securities lending collateral 239,243 219,213
Non-life deferred acquisition costs 33,133 33,859
Other assets 42,542 45,673
Assets held in Separate Accounts 120,267 86,632
------------- ------------
1,597,401 1,659,855
------------- ------------
Total assets $ 14,269,249 $ 13,580,893
============= ============

The accompanying notes are an integral part of these interim financial statements.



5
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except for per share data)
LIABILITIES AND STOCKHOLDERS' EQUITY


(Unaudited)
June 30, December 31,
2003 2002
------------ -------------

Current liabilities, Farmers Management Services:
Accounts Payable $ 32,640 $ 44,095
Profit sharing 36,717 70,485
Income taxes 160,219 142,027
Unsettled security purchases 51,674 0
Other 18,727 11,688
------------ -------------
299,977 268,295
------------ -------------
Other liabilities, Farmers Management Services:
Non-current deferred taxes 518,630 518,669
Other 81,537 77,995
------------ -------------
600,167 596,664
------------ -------------
Liabilities of Insurance Subsidiaries:
Policy liabilities:
Future policy benefits 4,356,346 4,191,202
Claims 53,364 40,656
Policyholders dividends 27 21
Other policyholders funds 342,454 329,858
Death benefits payable 73,896 70,301
Provision for non-life losses and loss adjustment expenses 110,202 18,971
Non-life unearned premiums 156,805 160,273
Deferred taxes 235,722 199,031
Unearned investment income 848 829
Reinsurance payable to the P&C Group Companies 28,423 0
Securities lending liability 239,243 219,213
Unsettled security purchases 66,700 45,314
Other liabilities 59,177 73,486
Liabilities related to Separate Accounts 120,267 86,632
------------ -------------
5,843,474 5,435,787
------------ -------------
Total liabilities 6,743,618 6,300,746
------------ -------------

Commitments and contingencies

Company obligated mandatorily redeemable preferred
securities of subsidiary trusts holding solely junior
subordinated debentures 500,000 500,000
------------ -------------
Stockholders' Equity:
Class A common stock, $1 par value per share; authorized, issued
and outstanding: as of June 30, 2003 and
December 31, 2002 - 450 shares 0.45 0.45
Class B common stock, $1 par value per share; authorized, issued
and outstanding: as of June 30, 2003 and
December 31, 2002 - 500 shares 0.50 0.50
Class C common stock, $1 par value per share; authorized, issued
and outstanding: as of June 30, 2003 and
December 31, 2002 - 50 shares 0.05 0.05
Additional capital 5,227,049 5,227,049
Accumulated other comprehensive income (net of deferred
taxes: $106,373 and $70,128) 197,550 130,237
Retained earnings 1,601,031 1,422,860
------------ -------------
Total stockholders' equity 7,025,631 6,780,147
------------ -------------
Total liabilities and stockholders' equity $ 14,269,249 $ 13,580,893
============ =============

The accompanying notes are an integral part of these interim financial statements.



6
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Amounts in thousands)
(Unaudited)


Six month period
ended June 30,
------------------------
2003 2002
----------- -----------

Consolidated operating revenues $ 1,632,817 $ 1,371,561
=========== ===========
Farmers Management Services:
Operating revenues $ 935,412 $ 885,222
----------- -----------
Salaries and employee benefits 223,337 219,473
Building and equipment expenses 55,937 58,280
General and administrative expenses 143,429 153,032
----------- -----------
Total operating expenses 422,703 430,785
----------- -----------
Operating income 512,709 454,437
Net investment income 41,111 33,114
Net realized gains 2,415 3,966
Impairment losses on investments (8,069) (20,895)
Dividends on preferred securities of subsidiary trusts (21,035) (21,035)
----------- ----------
Income before provision for taxes 527,131 449,587
Provision for income taxes 204,546 175,099
----------- ----------
Farmers Management Services net income 322,585 274,488
----------- ----------
Insurance Subsidiaries:
Life and annuity premiums 96,325 125,729
Non-life reinsurance premiums earned 310,105 100,000
Life policy charges 113,464 111,234
Net investment income 192,998 188,652
Net realized gains/(losses) 16,161 (10,271)
Impairment losses on investments (31,648) (29,005)
----------- -----------
Total revenues 697,405 486,339
----------- -----------
Non-life losses and loss adjustment expenses 193,648 67,427
Life policy benefits 88,175 84,319
Increase in liability for future life policy benefits 16,944 49,026
Interest credited to life policyholders 88,347 90,786
Amortization of life deferred policy acquisition costs
and value of life business acquired 58,680 46,705
Life commissions (8,937) (3,035)
Amortization of non-life deferred policy acquisition costs 44,132 0
Non-life reinsurance commissions 67,717 30,074
General and administrative expenses 30,885 30,410
----------- -----------
Total operating expenses 579,591 395,712
----------- -----------
Income before provision for taxes 117,814 90,627
Provision for income taxes 40,228 31,083
----------- -----------
Insurance Subsidiaries net income 77,586 59,544
----------- -----------

Consolidated net income $ 400,171 $ 334,032
=========== ===========

The accompanying notes are an integral part of these interim financial statements.


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FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF
COMPREHENSIVE INCOME
(Amounts in thousands)
(Unaudited)


Six month period
ended June 30,
------------------------
2003 2002
----------- -----------

Consolidated net income $ 400,171 $ 334,032
----------- -----------
Other comprehensive income, net of tax:

Net unrealized holding gains on securities,
net of tax of $43,746 and $3,261 81,243 6,056
Change in effect of unrealized losses on other
insurance accounts, net of tax of ($7,501) and
($234) (13,930) (435)
----------- -----------
Other comprehensive income 67,313 5,621
----------- -----------
Comprehensive income $ 467,484 $ 339,653
=========== ===========

The accompanying notes are an integral part of these interim financial statements.



8

FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Amounts in thousands)
(Unaudited)


Three month period
ended June 30,
------------------------
2003 2002
----------- -----------

Consolidated operating revenues $ 822,674 $ 678,200
=========== ===========
Farmers Management Services:
Operating revenues $ 467,299 $ 449,334
----------- -----------
Salaries and employee benefits 115,318 110,211
Building and equipment expenses 27,558 30,030
General and administrative expenses 76,720 80,925
----------- -----------
Total operating expenses 219,596 221,166
----------- -----------
Operating income 247,703 228,168
Net investment income 23,705 14,390
Net realized gains 2,444 565
Impairment losses on investments (992) (16,292)
Dividends on preferred securities of subsidiary trusts (10,517) (10,517)
----------- ----------
Income before provision for taxes 262,343 216,314
Provision for income taxes 101,960 84,308
----------- ----------
Farmers Management Services net income 160,383 132,006
----------- ----------
Insurance Subsidiaries:
Life and annuity premiums 48,689 62,366
Non-life reinsurance premiums earned 153,997 50,000
Life policy charges 57,614 55,883
Net investment income 97,959 95,623
Net realized gains/(losses) 404 (14,918)
Impairment losses on investments (3,288) (20,088)
----------- -----------
Total revenues 355,375 228,866
----------- -----------
Non-life losses and loss adjustment expenses 96,956 34,435
Life policy benefits 45,962 40,768
Increase in liability for future life policy benefits 8,936 25,231
Interest credited to life policyholders 44,305 44,435
Amortization of life deferred policy acquisition costs
and value of life business acquired 23,961 24,393
Life commissions (4,989) (1,839)
Amortization of non-life deferred policy acquisition costs 21,846 0
Non-life reinsurance commissions 30,400 14,316
General and administrative expenses 16,043 14,929
----------- -----------
Total operating expenses 283,420 196,668
----------- -----------
Income before provision for taxes 71,955 32,198
Provision for income taxes 24,748 10,861
----------- -----------
Insurance Subsidiaries net income 47,207 21,337
----------- -----------

Consolidated net income $ 207,590 $ 153,343
=========== ===========

The accompanying notes are an integral part of these interim financial statements.


9
FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF
COMPREHENSIVE INCOME
(Amounts in thousands)
(Unaudited)


Three month period
ended June 30,
------------------------
2003 2002
----------- -----------

Consolidated net income $ 207,590 $ 153,343
----------- -----------
Other comprehensive income, net of tax:

Net unrealized holding gains on securities,
net of tax of $47,873 and $29,126 88,908 54,091
Change in effect of unrealized losses on other
insurance accounts, net of tax of ($8,792) and
($6,411) (16,328) (11,908)
----------- -----------
Other comprehensive income 72,580 42,183
----------- -----------
Comprehensive income $ 280,170 $ 195,526
=========== ===========

The accompanying notes are an integral part of these interim financial statements.


10

FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
For the six month period ended June 30, 2003
(Amounts in thousands)
(Unaudited)


Accumulated Other Total
Common Additional Comprehensive Retained Stockholders'
Stock Capital Income Earnings Equity
-------- ----------- --------------- ----------- -------------

Balance, December 31, 2002 $ 1 $ 5,227,049 $ 130,237 $ 1,422,860 $ 6,780,147

Net income 400,171 400,171

Net unrealized holding gains
on securities, net of tax
of $43,746 81,243 81,243

Change in effect of unrealized
losses on other insurance
accounts, net of tax of ($7,501) (13,930) (13,930)

Cash dividends paid (222,000) (222,000)
-------- ------------ --------------- ----------- -------------
Balance, June 30, 2003 $ 1 $ 5,227,049 $ 197,550 $ 1,601,031 $ 7,025,631
======== ============ =============== =========== =============

The accompanying notes are an integral part of these interim financial statements.


11

FARMERS GROUP, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
(Unaudited)


Six month period
ended June 30,
-----------------------
2003 2002
---------- ----------

Cash Flows from Operating Activities:
Consolidated net income $ 400,171 $ 334,032
Non-cash and operating activities adjustments:
Depreciation and amortization 58,137 55,523
Amortization of life deferred policy acquisition costs and
value of life business acquired 58,680 46,705
Amortization of non-life deferred policy acquisition costs 44,132 0
Life policy acquisition costs deferred (60,555) (56,728)
Non-life policy acquisition costs deferred (43,406) 0
Life insurance policy liabilities 60,202 103,794
Provision for non-life losses and loss adjustment liability 91,232 4,165
Non-life unearned premiums (3,467) 0
Interest credited on universal life and annuity contracts 76,374 71,952
Equity in earnings of joint ventures (13) 383
(Gains)/losses on sales of assets (17,656) 6,234
Impairment losses on investments 39,717 49,900
Changes in assets and liabilities:
Current assets and liabilities 59,579 (47,894)
Non-current assets and liabilities (12,188) (76,026)
Other, net 18,985 34,110
---------- ----------
Net cash provided by operating activities 769,924 526,150
---------- ----------
Cash Flows from Investing Activities:
Purchases of investments available-for-sale (1,846,223) (1,073,130)
Purchases of properties and equipment (21,650) (29,585)
Purchases of note receivable - affiliate (100,000) 0
Proceeds from sales and maturities of investments
available-for-sale 895,611 749,349
Proceeds from sales of properties and equipment 6,073 20,729
Proceeds from redemption of notes receivable - affiliate 260,000 30,000
Mortgage loan collections 2,658 9,940
Increase in policy loans (2,768) (4,725)
Other, net 0 250
---------- ----------
Net cash used in investing activities (806,299) (297,172)
---------- ----------
Cash Flows from Financing Activities:
Dividends paid to stockholders (222,000) (233,500)
Deposits received from universal life and annuity contracts 295,540 254,105
Withdrawals from universal life and annuity contracts (241,664) (232,592)
Payment of long-term notes payable (2) (2)
---------- ----------
Net cash used in financing activities (168,126) (211,989)
---------- ----------

Increase/(decrease) in cash and cash equivalents (204,501) 16,989
Cash and cash equivalents - at beginning of year 616,670 397,402
---------- ----------
Cash and cash equivalents - at end of period $ 412,169 $ 414,391
========== ==========

The accompanying notes are an integral part of these interim financial statements.


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FARMERS GROUP, INC.
AND SUBSIDIARIES
NOTES TO INTERIM FINANCIAL STATEMENTS
(Unaudited)


1. Basis of presentation and summary of significant accounting policies

The accompanying consolidated balance sheet and statement of stockholders'
equity of Farmers Group, Inc. ("FGI") and its subsidiaries (together, the
"Company"; references to attorney-in-fact ("AIF"), as applicable in context,
are to FGI, dba Farmers Underwriters Association, attorney-in-fact of Farmers
Insurance Exchange; or Fire Underwriters Association, attorney-in-fact of Fire
Insurance Exchange; or Truck Underwriters Association, attorney-in-fact of
Truck Insurance Exchange) as of June 30, 2003, the related consolidated
statements of income and comprehensive income for the three and six month
periods ended June 30, 2003 and June 30, 2002 and consolidated statements of
cash flows for the six month periods ended June 30, 2003 and June 30, 2002,
have been prepared in accordance with accounting principles generally accepted
in the United States of America ("GAAP") for interim periods and are unaudited.
However, in management's opinion, the consolidated financial statements include
all adjustments (consisting of only normal recurring adjustments) necessary for
a fair presentation of results for such interim periods. These statements do
not include all of the information and footnotes required by GAAP for complete
financial statements and should be read in conjunction with the consolidated
balance sheets of the Company as of December 31, 2002 and 2001, and the
related consolidated statements of income, comprehensive income, stockholders'
equity and cash flows for each of the three years reported in the SEC Form 10-K
for the period ended December 31, 2002.

Interim results are not necessarily indicative of results for the full
year. All material inter-company transactions have been eliminated.
Certain amounts applicable to prior years have been reclassified to conform
to the 2003 presentation.

The preparation of the Company's financial statements in conformity with
GAAP requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements as well as the
reported amounts of revenues and expenses during the reporting periods. Actual
results could differ from those estimates.

In December 1988, B.A.T Industries p.l.c. ("B.A.T") acquired 100%
ownership of the Company for $5.2 billion through its wholly owned subsidiary
BATUS Financial Services. Immediately thereafter, BATUS Financial Services was
merged into FGI. The acquisition was accounted for as a purchase and,
accordingly, the acquired assets and liabilities were recorded in the Company's
consolidated balance sheets based on their estimated fair values at December
31, 1988.

In September 1998, the financial businesses of B.A.T, which included the
Company, were merged with Zurich Insurance Company ("ZIC"). The businesses of
ZIC and the financial services businesses of B.A.T were transferred to Zurich
Group Holding ("ZGH"), formerly known as Zurich Financial Services, a Swiss
holding company with headquarters in Zurich, Switzerland. This merger was
accounted for by ZGH as a pooling of interests under International Financial
Reporting Standards ("IFRS").

As a result of a unification of the holding structure of the Zurich
Financial Services Group in October 2000, Zurich Financial Services was renamed
Zurich Group Holding, as noted above, and a new group holding company, Zurich
Financial Services, was formed. As such, references to "Zurich" are to the
group holding company, Zurich Financial Services ("ZFS").

The Company has AIF relationships with three inter-insurance exchanges:
Farmers Insurance Exchange, Fire Insurance Exchange and Truck Insurance
Exchange (collectively the "Exchanges"), which operate in the property and
casualty insurance industry. Each policyholder of each Exchange appoints the
AIF to provide non-claims related management services to each Exchange. For
such services, the Company earns management fees based primarily on a

13

percentage of gross premiums earned by the Exchanges, their respective
subsidiaries, Farmers Texas County Mutual Insurance Company, Foremost County
Mutual Insurance Company and Foremost Lloyds of Texas (collectively the "P&C
Group Companies"). The P&C Group Companies are owned by the respective
policyholders of the Exchanges, Farmers Texas County Mutual Insurance Company
and Foremost County Mutual Insurance Company as well as the underwriters of
Foremost Lloyds of Texas. Accordingly, the Company has no ownership interest
in the P&C Group Companies.

Farmers New World Life Insurance Company ("Farmers Life"), a Washington
domiciled insurance company, is a wholly owned subsidiary of FGI. Farmers Life
markets a broad line of individual life insurance products, including universal
life, term life and whole life insurance and fixed annuity products,
predominately flexible premium deferred annuities, as well as variable
universal life insurance and variable annuity products. These products are
sold directly by the Farmers Agency Force. Farmers Life also marketed
structured settlement annuities sold by independent brokers. As of December
2002, Farmers Life exited the business of writing structured settlements. The
5,200 structured settlement cases in force as of June 30, 2003 will continue to
be serviced by Farmers Life. For the six months ended June 30, 2003 and June
30, 2002, the structured settlement business represented 1.2% and 2.6% of
Farmers Life's income before provision for taxes, respectively. For the three
months ended June 30, 2003 and June 30, 2002, the structured settlement
business represented 1.6% and 3.5% of Farmers Life's income before provision
for taxes, respectively.

Farmers Reinsurance Company ("Farmers Re"), a wholly owned subsidiary of
FGI which was formed and licensed to conduct business in December 1997,
provides reinsurance coverage to the P&C Group Companies. As of June 30, 2003,
Farmers Re participates in three reinsurance treaties: 1) an Auto Physical
Damage ("APD") reinsurance agreement, 2) a 10% All Lines Quota Share
reinsurance treaty and 3) a 20% Personal Lines Auto Quota Share reinsurance
treaty (see Note 5 to Consolidated Financial Statements, "Note 5").

References to the "Insurance Subsidiaries" within the consolidated
financial statements are to Farmers Life and Farmers Re. References to
"Farmers Management Services" are to the Company excluding the Insurance
Subsidiaries.

2. Recent accounting pronouncements

In November 2002, the Financial Accounting Standards Board ("FASB") issued
Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others". This Interpretation identifies characteristics of certain guarantee
contracts and requires that a liability be recognized at fair value at the
inception of such guarantees for the obligations undertaken by the guarantor.
Additional disclosures also are prescribed for certain guarantee contracts.
The initial recognition and initial measurement provisions of this
Interpretation are effective for these guarantees issued or modified after
December 31, 2002. The disclosure requirements of this Interpretation are
effective for the Company as of December 31, 2002. The adoption of this
Statement did not have a material impact on the Company's consolidated
financial statements.

In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable
Interest Entities". This Interpretation provides guidance on the
identification of entities for which control is achieved through means other
than through voting rights, variable interest entities, and how to determine
when and which business enterprises should consolidate variable interest
entities. This Interpretation applies immediately to variable interest
entities created after January 31, 2003. It applies in the first fiscal year
or interim period beginning after June 15, 2003, to variable interest entities
in which an enterprise holds a variable interest that it acquired before
February 1, 2003. Based on the current Interpretation, the Company does not
believe they have variable interest entities.

In April 2003, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities". This Statement amends and clarifies financial accounting
and reporting for derivative instruments, including certain derivative
instruments embedded in other contracts and for hedging activities under FASB
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities". This Statement is effective for contracts entered into or
modified after June 30,

14

2003. The Company does not expect the adoption of this Statement to have a
material impact on its consolidated financial statements.

In May 2003, the FASB issued SFAS No. 150, "Accounting of Certain
Financial Instruments with Characteristics of both Liabilities and Equity".
This Statement establishes standards for how an issuer classifies and measures
certain financial instruments with characteristics of both liabilities and
equity. Under this Statement, a financial instrument issued in the form of
shares that are mandatorily redeemable that embodies an unconditional
obligation requiring the issuer to redeem it by transferring its assets at a
specified or determinable date or upon an event that is certain to occur shall
be classified as a liability at the amount of cash that would be paid under the
conditions specified in the contract. The provisions of this Statement are
effective at the beginning of the first interim period beginning after June 15,
2003. The adoption of this Statement will have an impact on presentation of
the Company's consolidated balance sheet as the "Company obligated mandatorily
redeemable preferred securities of subsidiary trusts holding solely junior
subordinated debentures" line of the balance sheets will be reclassified to
the liability section.

3. Intangible assets

As of June 30, 2003, the Company held the following intangible
assets:



Net Book Value
-----------------------------
2003 2002
------------ ------------
(Amounts in thousands)

Amortized intangible assets:
Insurance Subsidiaries:
Value of life business acquired ("VOLBA")
Balance, January 1 $ 254,510 $ 274,531
Amortization related to operations (11,810) (9,029)
Interest accrued 4,332 4,621
Amortization related to net
unrealized gains 375 3,103
------------ ------------
Balance, March 31 247,407 273,226
Amortization related to operations (8,623) (9,134)
Interest accrued 4,263 4,548
Amortization related to net
unrealized loses (3,357) (3,236)
------------ ------------
Balance, June 30 $ 239,690 $ 265,404
============ ============





Gross Carrying Amounts
-----------------------------------------
As of As of
June 30, 2003 December 31, 2002
-------------- -----------------
(Amounts in thousands)

Unamortized intangible assets:
Farmers Management Services:
Goodwill $ 1,621,183 $ 1,621,183
AIF relationships 1,153,605 1,153,605



For the three and six months ended June 30, 2003, amortization expense,
net of accrued interest, related to the VOLBA asset totaled $4.3 million and
$11.8 million, respectively. Estimated amortization, net of accrued interest,
related to the VOLBA asset for each of the years in the five-year period ended
December 31, 2007 follows:

15



Annual
Amortization
Expense
------------
(Amounts in thousands)

2003 $ 21,000
2004 19,000
2005 18,000
2006 17,000
2007 16,000
------------
$ 91,000
============



4. Management fees

FGI and its subsidiaries, through their AIF relationships with the
Exchanges, provide non-claims related management services to the P&C Group
Companies and receive management fees for the services rendered. As a result,
the Company received management fees from the P&C Group Companies of $868.8
million and $827.5 million for the six month periods ended June 30, 2003 and
June 30, 2002, respectively. For the three month periods ended June 30, 2003
and June 30, 2002, the Company received management fees from the P&C Group
Companies of $434.0 million and $419.8 million, respectively.

Management fees earned for the six month period ended June 30 are as
follows:



2003 2002
---------- ----------
(Amounts in thousands)

AIF fees:
Auto $ 453,826 $ 445,345
Homeowners 170,882 162,461
Commercial 112,703 109,110
Specialty Lines 82,157 69,532
Other 5,524 4,337
---------- ----------
Total AIF fees 825,092 790,785
Other fees 43,659 36,746
---------- ----------
Total management fees $ 868,751 $ 827,531
========== ==========



Management fees earned for the three month period ended June 30 are as
follows:



2003 2002
---------- ----------
(Amounts in thousands)

AIF fees:
Auto $ 226,260 $ 225,667
Homeowners 83,609 83,111
Commercial 55,368 55,982
Specialty Lines 43,119 35,606
Other 2,915 2,403
---------- ----------
Total AIF fees 411,271 402,769
Other fees 22,654 17,046
---------- ----------
Total management fees $ 433,925 $ 419,815
========== ==========



16

5. Non-life reinsurance

Farmers Re, a wholly owned subsidiary of FGI, reinsures a percentage of
the business written by the P&C Group Companies through three quota share
reinsurance agreements. Under an APD Quota Share agreement, Farmers Re assumes
$200.0 million annually of the APD premiums written by the P&C Group Companies.
An additional $1.8 billion is assumed by the Zurich affiliates and outside
reinsurance companies identified in the agreement. As a result of this APD
agreement, on a monthly basis, Farmers Re assumes $16.7 million of premiums
written. Farmers Re assumes a quota share percentage of ultimate net losses
sustained by the P&C Group Companies in their APD lines of business. The
agreement, which can be terminated after 30 days notice by any of the parties,
also provides for the P&C Group Companies to receive a ceding commission of 18%
of premiums, with additional experience commissions that depend on loss
experience. This experience commission arrangement limits Farmers Re's
potential underwriting gain on the assumed business to 2.5% of premiums
assumed. As a result of this APD reinsurance agreement, Farmers Re assumes
an underwriting risk.

In December 2002, Farmers Re paid the P&C Group Companies a total of $45.2
million in full settlement of 2002 accident year related activities. This
amount consisted of $25.8 million of net balances due on 4th quarter 2002
transactions, $19.0 million of advance settlement of losses and loss adjustment
expense reserves, and $0.4 million of accrued interest. In May 2003, a final
commutation of the 2002 accident year loss and loss adjustment expense reserves
was made. Under this commutation, Farmers Re and the P&C Group Companies
ultimately commuted $19.0 million of loss and loss adjustment expense reserves
related to the 2002 accident year. Reinsurance recoverables relating to the
2003 accident year losses and loss adjustment expenses will be settled in
December 2003 per terms of the APD agreement.

Effective December 31, 2002, Farmers Re and a Zurich affiliate entered
into a 10% All Lines Quota Share reinsurance treaty under which they assume a
percentage of all lines of business written by the P&C Group of Companies,
prospectively. Under this treaty, Farmers Re assumes a 2% quota share of the
premiums written and the ultimate net losses sustained in all lines of
business written by the P&C Group Companies after the APD reinsurance agreement
is applied. Underwriting results assumed are subject to a maximum combined
ratio of 112.5% and a minimum combined ratio of 93.5%. In addition,
catastrophe losses subject to this reinsurance treaty are limited to a
pro-rata share of $800.0 million annually. The reinsurance agreement, which
can be terminated after 60 days notice by any of the parties beginning with the
quarter ending December 31, 2003, also provides for the P&C Group Companies to
receive a provisional ceding commission of 22% of premiums for acquisition
expenses and 14.1% of premiums for other expenses with additional experience
commissions that depend on loss experience. As a result of this new quota
share reinsurance treaty, Farmers Re assumes an underwriting risk.

In addition, effective December 31, 2002, Farmers Re and a Zurich
affiliate entered into a 20% Personal Lines Auto Quota Share reinsurance treaty
under which they assume a percentage of the personal lines auto business
written by the P&C Group of Companies, prospectively. Under this treaty,
Farmers Re assumes a 4% quota share of the premiums written and the ultimate
net losses sustained in the personal lines auto business written by the P&C
Group Companies after all other reinsurance treaties are applied. Underwriting
results assumed are subject to a maximum and minimum combined ratio of 112.5%
and 97.0%, respectively. In addition, catastrophe losses subject to this
reinsurance treaty are limited to a pro-rata share of $150.0 million. The
reinsurance agreement, which can be terminated after 60 days notice by any of
the parties beginning with the quarter ending December 31, 2003, also provides
for the P&C Group Companies to receive a provisional ceding commission of 20%
of premiums for acquisition expenses and 17.2% of premiums for other expenses
with additional experience commissions that depend on loss experience. As a
result of this new quota share reinsurance treaty, Farmers Re assumes an
underwriting risk.

6. Material contingencies

Due to its AIF relationships, the Company is a party to lawsuits in which
the Exchanges are the primary defendants. The Company is also party to
lawsuits arising from its other normal business activities. These actions are
in various stages of discovery and development, and some seek punitive as well
as compensatory damages. In the opinion of management, the Company has not
engaged in any conduct which should warrant the award of any

17

material punitive or compensatory damages. The Company intends to vigorously
defend its position in each case, and management believes that, while it is not
possible to predict the outcome of such matters with absolute certainty,
ultimate disposition of these proceedings should not have a material adverse
effect on the Company's consolidated results of operations or financial
position. In addition, the Company is, from time to time, involved as a party
in various governmental and administrative proceedings.

On August 5, 2002, the Texas Attorney General and Texas Department of
Insurance initiated a legal action against Farmers Insurance Exchange, Fire
Insurance Exchange and certain of their affiliates which alleged certain
improprieties in the pricing of a portion of their homeowners insurance
policies written in the state of Texas. FGI and certain of its subsidiaries
were also named as parties in that action. On December 18, 2002, the parties
executed a Settlement Agreement respecting this litigation, which, when
approved by the court, will provide for certain rate reductions and refunds to
Texas policyholders. No fines or penalties are included, and there is no
admission of wrongdoing. The settlement also allows Farmers Insurance Exchange
and Fire Insurance Exchange, which had previously sent notices terminating all
of their homeowner policies, to continue operating in the homeowners insurance
market in Texas. Although it was a defendant in the initial lawsuit, the
settlement imposes no direct financial burdens on FGI. There is a possible
indirect financial impact on FGI which will depend upon renewal rates
subsequent to the settlement. The timetable for final court approval of the
settlement is unclear. Certain additional parties have intervened in the
approval process, objecting to the settlement. Although the settlement did
receive preliminary approval from the trial court, the intervenors sought and
obtained an order from the Court of Appeals staying further actions in the
trial court until the appeal of the intervenors can be heard.

7. Related parties

As of June 30, 2003, the Company held a $160.0 million note receivable
from ZGA US Limited ("ZGAUS"), a subsidiary of Zurich, formerly known as
Orange Stone (Delaware) Holdings Limited. The Company loaned $250.0 million to
ZGAUS on December 15, 1999 and, in return, received a medium-term note with a
7.50% fixed interest rate that matures on December 15, 2004. Subsequently, on
April 9, 2002, $30.0 million of the note receivable was redeemed. Also on
March 17, 2003 and June 16, 2003, $25.0 million and $35.0 million of the
note receivable were redeemed, respectively. Interest on this note is paid
semi-annually. Interest income totaled $7.6 million and $8.9 million for each
of the six month periods ended June 30, 2003 and June 30, 2002, respectively.
For each of the three month periods ended June 30, 2003 and June 30, 2002,
interest income totaled $3.5 million and $4.2 million, respectively.

In addition, as of June 30, 2003, the Company held $95.0 million of notes
receivable from Zurich Financial Services (UKISA) Limited ("UKISA"), a
subsidiary of Zurich. On September 3, 2002, $25.0 million of notes receivable,
having a fixed coupon rate of 6.80% and $70.0 million of notes receivable
bearing interest at a coupon rate of 5.67% matured. These notes were renewed
for two short-term notes receivables of $12.5 million each, and $70.0 million,
each with a 2.75% fixed coupon rate and a September 2, 2003 maturity date.
Interest on the notes is paid semi-annually. Interest income totaled $1.3
million and $2.8 million for each of the six months periods ended June 30, 2003
and June 30, 2002, respectively. For each of the three months periods ended
June 30, 2003 and June 30, 2002, interest income totaled $0.6 million and $1.4
million, respectively.

On December 27, 2002, the Company loaned $100.0 million to ZIC and, in
return, received a short-term note with a 1.50% fixed interest rate that
matured on February 14, 2003. On February 14, 2003, $100.0 million of
principal and $0.2 million of interest were paid to the Company.

On March 24, 2003, the Company loaned $100.0 million to ZCM Matched
Funding Corp ("ZCM"), a subsidiary of Zurich and, in return, received a short-
term note with a 1.95% fixed interest rate that matured on May 30, 2003. On
May 30, 2003, $100.0 million of principal and $0.3 million of interest were
paid to the Company.

18

8. Certificates of contribution and surplus note of the P&C Group Companies

From time to time, the Company has purchased certificates of contribution
or surplus notes of the P&C Group Companies in order to supplement the
policyholders' surplus of the P&C Group Companies.

As of June 30, 2003 and December 31, 2002, the Company held the
following certificates of contribution and surplus note of the P&C Group
Companies:

- - An $87.5 million surplus note, issued in March 2000, bearing interest at
8.50% annually and maturing in February 2005.

- - $370.0 million of certificates of contribution, issued in March 2000,
bearing interest at 7.85% annually and maturing in March 2010.

- - $350.0 million of certificates of contribution, issued in November 2001,
bearing interest at 6.00% annually and maturing in September 2006.

- - $206.5 million of certificates of contribution, issued in December 2001,
bearing interest at 6.00% annually and maturing in September 2006.

- - Other certificates of contribution totaling $23.3 million which bear
interest at various rates.

Interest income related to the certificates of contribution and surplus
note of the P&C Group Companies totaled $35.5 million and $35.6 million for
each of the six month periods ended June 30, 2003 and June 30, 2002,
respectively. For each of the three months ended June 30, 2003 and June 30,
2002, interest income related to the certificates of contribution and surplus
note of the P&C Group Companies totaled $17.7 million and $17.8 million,
respectively.

Conditions governing payment of interest and repayment of principal are
outlined in the certificates of contribution and the surplus note. Generally,
repayment of principal may be made only when the issuer has an appropriate
amount of surplus and then only after approval is granted by the issuer's
governing Board and the appropriate state insurance regulatory department.
In addition, payment of interest may generally be made only when the issuer
has an appropriate amount of surplus and then only after approval is granted
by the appropriate state insurance regulatory department.

9. Supplemental cash flow information

For financial statement purposes, the Company considers all investments
with original maturities of 90 days or less as cash equivalents. Following is
a reconciliation of the balance sheet cash and cash equivalent totals to the
consolidated cash flow total:



Farmers
Management Insurance
Services Subsidiaries Consolidated
------------ ------------ ------------
(Amounts in thousands)

Cash and cash equivalents -- December 31, 2001 $ 225,008 $ 172,394 $ 397,402
Activity through
June 2002 16,989
------------
Cash and cash equivalents -- June 30, 2002 246,826 167,565 $ 414,391
============

Cash and cash equivalents -- December 31, 2002 $ 383,527 $ 233,143 $ 616,670
Activity through
June 2003 (204,501)
------------
Cash and cash equivalents -- June 30, 2003 324,661 87,508 $ 412,169
============


19

Cash payments for interest were $0.6 million and $1.8 million for the six
month periods ended June 30, 2003 and June 30, 2002, respectively, while the
cash payment for dividends to the holders of the Company's Quarterly Income
Preferred Securities ("QUIPS") was $21.0 million for each of the six month
periods ended June 30, 2003 and June 30, 2002. Cash dividends paid to
stockholders totaled $222.0 million and $233.5 million for the six month
periods ended June 30, 2003 and June 30, 2002, respectively. Cash payments
for income taxes were $245.5 million and $136.5 million for the six month
periods ended June 30, 2003 and June 30, 2002, respectively.

On February 14, 2003, the Company received $100.2 million from ZIC in
settlement of a $100.0 million note receivable and $0.2 million of accrued
interest (see Note 7). Also, on March 17, 2003 and June 16, 2003 the Company
received $25.0 million and $35.0 million, respectively, from ZGAUS in partial
settlement of a $220.0 million note receivable (see Note 7). In addition, on
March 24, 2003, the Company issued a $100.0 million promissory note receivable
with ZCM (see Note 7). Subsequently, on May 30, 2003, the Company received
$100.3 million from ZCM in settlement of the $100.0 million promissory note
receivable and $0.3 million of accrued interest (see Note 7).

10. Operating segments

The Company provides management services to the P&C Group Companies and
owns and operates the life and reinsurance subsidiaries. These activities are
managed separately as each offers a unique set of services. As a result, the
Company is comprised of the following three reportable operating segments as
defined in SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information": the management services segment, the life insurance
segment and the reinsurance segment.

Through its AIF relationships with the Exchanges, the Company's management
services segment (Farmers Management Services) is primarily responsible for
providing non-claims management services to the P&C Group Companies. The P&C
Group Companies collectively represent the Company's largest customer.
Management fees earned from the P&C Group Companies totaled $868.8 million and
$827.5 million for the six month periods ended June 30, 2003 and June 30,
2002, respectively, which represented 53.2% and 60.3% of the Company's
consolidated operating revenues for the same periods. For the three month
periods ended June 30, 2003 and June 30, 2002, the Company received management
fees from the P&C Group Companies of $434.0 million and $419.8 million,
respectively, which represented 52.8% and 61.9% of the Company's consolidated
operating revenue for the same periods. The Company has no ownership interest
in the P&C Group Companies and, therefore, excluding the impact of the three
quota share reinsurance treaties, is not directly affected by the underwriting
results of the P&C Group Companies. However, as management fees comprise a
significant part of the Company's revenues, the ongoing financial performance
of the Company depends on the volume of business written by and the operating
performance and financial strength of the P&C Group Companies. In addition, a
lack of appropriate surplus could impact the P&C Group Companies' ability to
make interest payments and repay the principal on the certificates of
contribution or the surplus note purchased by the Company. The life insurance
segment provides individual life insurance products, including universal life,
term life and whole life insurance and annuity products, as well as variable
universal life and annuity products. The reinsurance segment provides
reinsurance coverage to a percentage of the business written by the P&C Group
Companies.

The Company's management uses an IFRS basis of accounting for evaluating
segment performance and determining how resources should be allocated, as this
is the basis upon which ZFS, the Company's parent company, measures its
performance. This differs from the basis used in preparing the Company's
financial statements included in the SEC Form 10-K and 10-Q reports, which is
based on GAAP and therefore excludes the effects of all IFRS adjustments.

The Company accounts for intersegment transactions as if they were to
third parties and, as such, records the transactions at current market prices.
There were no intersegment revenues among the Company's three reportable
operating segments for the six month and three month periods ended June 30,
2003 and June 30, 2002.

The Company operates throughout the U.S. and does not earn revenues or
hold assets in any foreign countries.

20

Information regarding the Company's reportable operating segments follows:



Six month period ended June 30, 2003
----------------------------------------------------------------------------------------------
- -----------------------
IFRS basis Adjustments
Consolidated
------------------------------------------------------ --------------------------------------
- ----------
Management Life Management Life
GAAP
services insurance Reinsurance Total services insurance Reinsurance
Total basis
------------------------------------------------------ --------------------------------------
- ---------- -----------
(Amounts in thousands)


Revenues $ 935,412 $ 377,552 (a) $ 328,288 (a) $ 1,641,252 $ 0 $ (9,348) $ 913
$ (8,435) $1,632,817

Net investment
income 43,171 172,765 21,747 237,683 (2,060) (1,514) 0
(3,574) $ 234,109

Net realized
gains/
(losses) (c) (1,908) (5,002) (3,563) (10,473) (3,747) (7,834) 913
(10,668) $ (21,141)

Dividends
on preferred
securities of
subsidiary
trusts (21,035) 0 0 (21,035) 0 0 0
0 $ (21,035)

Depreciation and
amortization 73,837 53,328 44,132 171,297 (19,302)(b) 8,954 0
(10,348) $ 160,949

Income before
provision for
taxes 510,763 110,758 22,646 644,167 16,368 (b) (16,503) 913
778 $ 644,945

Provision for
income taxes 198,240 38,954 6,730 243,924 6,306 (5,776) 320
850 $ 244,774

Net income 312,523 71,804 15,916 400,243 10,062 (10,727) 593
(72) $ 400,171
- -----------------------


(a) Revenues for the insurance operating segments include net investment
income, net realized gains/(losses) and impairment losses on investments.

(b) Amount includes adjustment associated with the amortization of the AIF
relationships ($21.4 million).

(c) Amounts include impairment losses on investments.




Six month period ended June 30, 2002
----------------------------------------------------------------------------------------------
- -----------------------
IFRS basis Adjustments
Consolidated
------------------------------------------------------ --------------------------------------
- ----------
Management Life Management Life
GAAP
services insurance Reinsurance Total services insurance Reinsurance
Total basis
------------------------------------------------------ --------------------------------------
- ---------- -----------
(Amounts in thousands)


Revenues $ 885,222 $ 386,974 (a) $ 117,197 (a) $ 1,389,393 $ 0 $ (13,197) $ (4,635)
$(17,832) $1,371,561

Net investment
income 35,138 170,189 19,987 225,314 (2,025) (1,523) 0
(3,548) $ 221,766

Net realized
losses (c) (4,420) (20,177) (2,791) (27,388) (12,508) (11,674) (4,635)
(28,817) $ (56,205)

Dividends
on preferred
securities of
subsidiary
trusts (21,035) 0 0 (21,035) 0 0 0
0 $ (21,035)

Depreciation and
amortization 71,363 48,680 0 120,043 (19,338)(b) 1,523 0
(17,815) $ 102,228

Income before
provision for
taxes 442,458 88,650 19,593 550,701 7,130 (b) (12,982)
(4,635) (10,487) $ 540,214

Provision for
income taxes 172,026 31,229 6,021 209,276 3,072 (4,544)
(1,622) (3,094) $ 206,182

Net income 270,432 57,421 13,572 341,425 4,058 (8,438)
(3,013) (7,393) $ 334,032
- -----------------------


(a) Revenues for the insurance operating segments include net investment
income, net realized losses and impairment losses on investments.

(b) Amount includes adjustment associated with the amortization of the AIF
relationships ($21.4 million).

(c) Amounts include impairment losses on investments.

21



Three month period ended June 30, 2003
----------------------------------------------------------------------------------------------
- -----------------------
IFRS basis Adjustments
Consolidated
------------------------------------------------------ --------------------------------------
- ----------
Management Life Management Life
GAAP
services insurance Reinsurance Total services insurance Reinsurance
Total basis
------------------------------------------------------ --------------------------------------
- ---------- -----------
(Amounts in thousands)


Revenues $ 467,299 $ 182,255 (a) $ 162,758 (a) $ 812,312 $ 0 $ 8,254 $ 2,108
$ 10,362 $ 822,674

Net investment
income 24,735 87,947 10,756 123,438 (1,030) (744) 0
(1,774) $ 121,664

Net realized
gains/
(losses) (c) 124 (11,996) (1,993) (13,865) 1,327 8,998 2,108
12,433 $ (1,432)

Dividends
on preferred
securities of
subsidiary
trusts (10,517) 0 0 (10,517) 0 0 0
0 $ (10,517)

Depreciation and
amortization 37,894 23,052 21,846 82,792 (9,650)(b) 2,730 0
(6,920) $ 75,872

Income before
provision for
taxes 252,611 50,058 13,476 316,145 9,732 (b) 6,313 2,108
18,153 $ 334,298

Provision for
income taxes 98,266 17,687 4,113 120,066 3,694 2,210 738
6,642 $ 126,708

Net income 154,345 32,371 9,363 196,079 6,038 4,103 1,370
11,511 $ 207,590
- -----------------------


(a) Revenues for the insurance operating segments include net investment
income, net realized gains/(losses) and impairment losses on investments.

(b) Amount includes adjustment associated with the amortization of the AIF
relationships ($10.7 million).

(c) Amounts include impairment losses on investments.




Three month period ended June 30, 2002
----------------------------------------------------------------------------------------------
- -----------------------
IFRS basis Adjustments
Consolidated
------------------------------------------------------ --------------------------------------
- ----------
Management Life Management Life
GAAP
services insurance Reinsurance Total services insurance Reinsurance
Total basis
------------------------------------------------------ --------------------------------------
- ---------- -----------
(Amounts in thousands)


Revenues $ 449,334 $ 187,162 (a) $ 58,776 (a) $ 695,272 $ 0 $ (12,437) $ (4,635)
$(17,072) $ 678,200

Net investment
income 15,407 86,210 10,177 111,794 (1,018) (763) 0
(1,781) $ 110,013

Net realized
losses (c) (3,203) (17,296) (1,402) (21,901) (12,523) (11,674) (4,635)
(28,832) $ (50,733)

Dividends
on preferred
securities of
subsidiary
trusts (10,517) 0 0 (10,517) 0 0 0
0 $ (10,517)

Depreciation and
amortization 36,151 25,397 0 61,548 (9,663)(b) 763 0
(8,900) $ 52,648

Income before
provision for
taxes 218,962 39,192 9,972 268,126 (2,647) (b) (12,332)
(4,635) (19,614) $ 248,512

Provision for
income taxes 84,946 13,784 3,016 101,746 (639) (4,316)
(1,622) (6,577) $ 95,169

Net income 134,016 25,408 6,956 166,380 (2,008) (8,016)
(3,013) (13,037) $ 153,343
- -----------------------


(a) Revenues for the insurance operating segments include net investment
income, net realized losses and impairment losses on investments.

(b) Amount includes adjustment associated with the amortization of the AIF
relationships ($10.7 million).

(c) Amounts include impairment losses on investments.


11. Impairment losses on investments

The Company regularly reviews its investment portfolio to determine
whether declines in the value of investments are other than temporary as
defined by SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities". The Company's review for declines in value includes reviewing
historical and forecasted financial information as well as analyzing the market
performance of similar types of investments. As a result of the Company's
review, the Company determined that some of its investments had declines in
value that were other than temporary as of June 30, 2003 and June 30, 2002 due
to unfavorable market and economic conditions.

22

Impairment losses on investments for the six months ended June 30 are as
follows:



2003
-----------------------------------------------
Farmers
Management Farmers Farmers
Services Life Re Total
----------- --------- --------- ---------
(Amounts in thousands)

Bonds $ 0 $ 21,183 $ 0 $ 21,183
Common stocks 8,069 7,105 3,360 18,534
----------- --------- --------- ---------
Impairment losses on investments $ 8,069 28,288 $ 3,360 $ 39,717
=========== ========= ========= =========




2002
-----------------------------------------------
Farmers
Management Farmers Farmers
Services Life Re Total
----------- --------- --------- ---------
(Amounts in thousands)

Bonds $ 0 $ 0 $ 0 $ 0
Common stocks 20,895 20,139 8,866 49,900
----------- --------- --------- ---------
Impairment losses on investments $ 20,895 20,139 $ 8,866 $ 49,900
=========== ========= ========= =========


Impairment losses on investments for the three months ended June 30 are as
follows:



2003
-----------------------------------------------
Farmers
Management Farmers Farmers
Services Life Re Total
----------- --------- --------- ---------
(Amounts in thousands)

Bonds $ 0 $ 1,256 $ 0 $ 1,256
Common stocks 992 1,178 854 3,024
----------- --------- --------- ---------
Impairment losses on investments $ 992 2,434 $ 854 $ 4,280
=========== ========= ========= =========




2002
-----------------------------------------------
Farmers
Management Farmers Farmers
Services Life Re Total
----------- --------- --------- ---------
(Amounts in thousands)

Bonds $ 0 $ 0 $ 0 $ 0
Common stocks 16,292 13,963 6,125 36,380
----------- --------- --------- ---------
Impairment losses on investments $ 16,292 13,963 $ 6,125 $ 36,380
=========== ========= ========= =========


12. Merger of the AIF

On October 31, 2002, the Board of Directors approved the merger into FGI
of certain FGI subsidiaries (Fire Underwriters Association and Truck
Underwriters Association) that act as AIF to the Exchanges. However, for the
merger to become effective, it first needs to be approved by the California
Department of Insurance ("DOI") and then must be filed with the appropriate
Secretaries of State. The Company filed the AIF merger request with the DOI
on December 30, 2002 and is currently awaiting the DOI's approval.


ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations

General

The Company provides management services to the P&C Group Companies and
owns and operates the Insurance Subsidiaries. Revenues and expenses relating
to these principal business activities are reflected in the Company's
Consolidated Financial Statements prepared in accordance with GAAP, which
differs from statutory

23

accounting practices ("SAP"), which the Insurance Subsidiaries are required to
use for regulatory reporting purposes. Unless otherwise indicated, financial
information, operating statistics and ratios applicable to the P&C Group
Companies set forth in this document are also based on SAP. Under SAP, the
financial results of the P&C Group Companies are combined with the results of
Farmers Re. This is known as a "Statutory Combined Basis". Unless otherwise
specified, the financial information of the P&C Group Companies is on a
Statutory Combined Basis.

Farmers Life, a Washington domiciled insurance company, is a wholly owned
subsidiary of FGI. Farmers Life markets a broad line of individual life
insurance products, including universal life, term life and whole life
insurance and fixed annuity products, predominantly flexible premium deferred
annuities, as well as variable universal life and variable annuity products.
Revenues attributable to traditional life insurance products, such as whole
life or term life contracts, as well as structured settlements with life
contingencies are classified as premiums as they become due. Future benefits
are associated with such premiums (through increases in liabilities for future
policy benefits) and prior period capitalized costs are amortized (through
amortization of Deferred Policy Acquisition Costs ("DAC")) so that profits are
generally recognized over the same period as revenue income. Revenues
attributable to universal life, variable life and variable annuity products
consist of policy charges for the cost of insurance, policy administration
charges, surrender charges and investment income on assets allocated to
support policyholder account balances on deposit. Revenues for deferred
annuity products consist of surrender charges and investment income on assets
allocated to support policyholder account balances. Expenses on universal
life and annuity policies as well as on variable products include interest
credited to policyholder on policy balances as well as benefit claims incurred
in excess of policy account balances. Revenues attributable to structured
settlements without life contingencies consist of investment income on assets
allocated to support the policyholder benefits schedule and expenses consist
of interest credited to policyholders on policy balances.

As of December 2002, Farmers Life exited the business of writing
structured settlements. The 5,200 structured settlement cases in force as of
June 30, 2003 continue to be serviced by Farmers Life. For the three months
ended June 30, 2003 and June 30, 2002, the structured settlement business
represented 1.6% and 3.5% of Farmers Life's income before provision for taxes,
respectively. For the six months ended June 30, 2003 and June 30, 2002, the
structured settlement business represented 1.2% and 2.6% of Farmers Life's
income before provision for taxes, respectively.

Farmers Re, a wholly owned subsidiary of FGI which was formed and
licensed to conduct business in December 1997, provides reinsurance coverage
to the P&C Group Companies. As of June 30, 2003, Farmers Re participates in
three reinsurance treaties: 1) an APD reinsurance agreement, 2) a 10% All
Lines Quota Share reinsurance treaty and 3) a 20% Personal Lines Auto Quota
Share reinsurance treaty (see Note 5).

Major Customer and Related Matters

The P&C Group Companies collectively represent the Company's largest
customer. Management fees earned by the Company as AIF for the Exchanges
totaled $868.8 million and $827.5 million for the six months ended June 30,
2003 and June 30, 2002, respectively, which represented 53.2% and 60.3%,
respectively, of the Company's consolidated operating revenues for the same
periods. Management fees earned by the Company as AIF for the Exchanges
totaled $434.0 million and $419.8 million, respectively, for the three months
ended June 30, 2003 and June 30, 2002, which represented 52.8% and 61.9%,
respectively, of the Company's consolidated operating revenues for the same
periods. On a Statutory Combined Basis, as of June 30, 2003, the P&C Group
Companies had surplus of more than $3.5 billion, and for the six months ended
June 30, 2003, had gross premiums earned of $6.8 billion. The Company has no
ownership interest in the P&C Group Companies and, therefore, excluding the
impact of the three quota share reinsurance treaties, is not directly affected
by the underwriting results of the P&C Group Companies. However, as
management fees comprise a significant part of the Company's revenues, the
ongoing financial performance of the Company depends on the volume of business
written by and the operating performance and financial strength of the P&C
Group Companies.

In 2003, the P&C Group Companies have shown continued improvement in
their underwriting results. Their combined ratio, excluding the APD and new
quota share reinsurance agreements, decreased 7.0 percentage points

24

from 108.6% for the six months ended June 30, 2002 to 101.6% for the six months
ended June 30, 2003. The 101.6% combined ratio for the six months ended June
30, 2003 also compares favorably to the 105.6% combined ratio for the year
ended December 31, 2002.

On December 31, 2002, two new prospective quota share reinsurance
treaties were implemented. These treaties not only increased the Statutory
Combined Basis surplus as of December 31, 2002, but also provide additional
protection for the year 2003. The Statutory Combined Basis surplus increased
$71.1 million from December 31, 2002 and amounted to more than $3.5 billion as
of June 30, 2003. In addition, the Statutory Combined Basis surplus ratio
improved from 29.5% as of June 30, 2002 to 32.5% as of December 31, 2002 and
to 35.6% as of June 30, 2003 due to the reduced risk profile created by the
new reinsurance treaties.

Future operating losses suffered by the P&C Group Companies and any
corresponding reduction in surplus could impact their ability to grow written
premiums which, in turn, would impact the amount of management fees earned by
the Company. In addition, a lack of adequate surplus could impact the P&C
Group Companies' ability to make interest payments and repay principal on the
certificates of contribution or the surplus notes purchased by the Company.

On August 5, 2002, the Texas Attorney General and Texas Department of
Insurance initiated a legal action against Farmers Insurance Exchange, Fire
Insurance Exchange and certain of their affiliates which alleged certain
improprieties in the pricing of a portion of their homeowners insurance
policies written in the state of Texas. FGI and certain of its subsidiaries
were also named as parties in that action. On December 18, 2002, the parties
executed a Settlement Agreement respecting this litigation, which, when
approved by the court, will provide for certain rate reductions and refunds to
Texas policyholders. No fines or penalties are included, and there is no
admission of wrongdoing. The settlement also allows Farmers Insurance
Exchange and Fire Insurance Exchange, which had previously sent notices
terminating all of their homeowner policies, to continue operating in the
homeowners insurance market in Texas. Although it was a defendant in the
initial lawsuit, the settlement imposes no direct financial burdens on FGI.
There is a possible indirect financial impact on FGI which will depend upon
renewal rates subsequent to the settlement. The timetable for final court
approval of the settlement is unclear. Certain additional parties have
intervened in the approval process, objecting to the settlement. Although the
settlement did receive preliminary approval from the trial court, the
intervenors sought and obtained an order from the Court of Appeals staying
further actions in the trial court until the appeal of the intervenors can be
heard.

Critical Accounting Policies

The consolidated financial statements of the Company have been prepared
in accordance with GAAP. The preparation of these financial statements
requires the Company to make estimates and judgments that affect the reported
amounts of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements as well as the reported
amounts of revenues and expenses during the reporting periods. Actual results
could differ from those estimates.

The Company's critical accounting policies relate to revenue recognition,
valuation of intangible assets, loss and loss adjustment expense reserves,
impairment of investments, the fair value of financial instruments and
accounting for internally developed software.

Revenue Recognition. Through its AIF relationships with the Exchanges,
the Company provides non-claims related management services to the P&C Group
Companies' business and receives management fees for the services rendered.
The Company recognizes management fee revenue according to the revenue
recognition criteria established by Staff Accounting Bulletin No. 101,
"Revenue Recognition in Financial Statements".

The Company, through its AIF relationships with the Exchanges, is
contractually permitted to receive an AIF fee based on the gross premiums
earned by the P&C Group Companies. The range of fees has varied by line of
business over time. During the past five years, aggregate AIF fees have
averaged between 12% and 13% of gross premiums earned by the P&C Group
Companies. In order to enable the P&C Group Companies to maintain

25

appropriate capital and surplus while offering competitive insurance rates,
each AIF has historically charged a lower AIF fee than the contractually
permitted fee of 20% (25% in the case of the Fire Insurance Exchange).

As the P&C Group Companies earn gross premiums ratably over the life of
the underlying insurance policies, the Company receives and recognizes the
corresponding AIF fee ratably over the life of the underlying policies for
which it is providing services. The risk of uncollectable premiums is borne
by the P&C Group Companies and collectability of the premiums does not affect
the amount of revenues the Company recognizes in a given period.

Premiums for traditional life insurance policies, structured settlement
contracts involving life contingencies and other annuity contracts with life
contingencies are recognized as revenues when due from policyholders.
Accident and health insurance premiums are recognized as revenue pro rata over
the terms of the contract.

Revenues associated with universal life, variable universal life products
and other investment type contracts consist of policy charges for the cost of
insurance, policy administration fees, surrender charges, and investment
income on assets allocated to support policyholder account balances on
deposit. Revenues for deferred fixed and variable annuity products and
structured settlement contracts not involving life contingencies ("SSNILC")
consist of surrender charges, investment income on assets allocated to support
policyholder account balances on deposit, and administrative charges for
equity-indexed annuities. Consideration received for interest-sensitive
insurance, SSNILC, and annuity products are recorded as a liability when
received. Policy withdrawal and other charges are recognized as revenue when
assessed.

Farmers Re reinsures a percentage of the business written by the P&C
Group Companies. Under the APD reinsurance agreement, Farmers Re assumes
$200.0 million of annual premiums. Under the 10% All Lines Quota Share
reinsurance treaty, Farmers Re assumes a 2% quota share of premiums written in
all lines of business written by the P&C Group Companies after the APD
contract is applied. Under the 20% Personal Lines Quota Share reinsurance
treaty, Farmers Re assumes a 4% quota share of the personal lines auto
business written by the P&C Group Companies after all other reinsurance
treaties are applied. Premiums assumed by Farmers Re are earned ratably over
the life of the underlying insurance policy.

Intangible Assets. The Company's critical accounting policies related to
the valuation of intangible assets include the AIF relationships, Goodwill,
VOLBA and DAC.

AIF Relationships. Through its AIF relationships, the Company receives a
substantial portion of its revenues and profits through the management
services the Company provides to the P&C Group Companies. Therefore, the
Company's ongoing financial performance depends on the volume of business
written by and operating performance and financial strength of the P&C Group
Companies. As a result, a portion of the purchase price ($1.7 billion)
associated with B.A.T's acquisition of the Company in 1988 was assigned to
these AIF relationships.

Effective January 1, 2002, the Company adopted the provisions of SFAS No.
142, "Goodwill and Other Intangible Assets", and identified the AIF
relationships as intangible assets with indefinite useful lives. Under SFAS
No. 142, intangible assets with indefinite useful lives are no longer
amortized, and as such, the Company no longer records $42.8 million of pretax
annual amortization relating to the AIF relationships. In addition, SFAS No.
142 requires that intangible assets not subject to amortization be tested for
impairment annually, or more frequently if events or changes in circumstances
indicate that the asset might be impaired. The Company performed impairment
tests of the AIF relationships balance of $1.2 billion as of January 1, 2002,
as part of the implementation of SFAS No. 142, and then as of December 31,
2002, in accordance with the annual impairment test, using discounted future
cash flows. Such tests did not indicate any impairment of the recorded AIF
relationships.

Goodwill. Through December 31, 2001, the excess of the purchase price
over the fair value of the net assets ("Goodwill") of the Company at the date
of the Company's acquisition by B.A.T ($2.4 billion) was amortized on a
straight-line basis over forty years.

26

Effective January 1, 2002, the Company adopted the provisions of SFAS No.
142. Under SFAS No. 142, goodwill is no longer amortized, and as such, the
Company no longer records $60.0 million of annual amortization relating to
goodwill. In addition, SFAS No. 142 requires goodwill to be tested for
impairment on an annual basis and between annual tests in certain circumstances
(e.g., a significant adverse change in legal factors or the business climate of
the Company, an adverse action by a regulator, a loss of key personnel, etc.)
using a two-step process. The first step of the goodwill impairment test
identifies a potential impairment by comparing the fair value of a reporting
unit with its carrying value, including goodwill. The second step measures
the amount of the impairment by comparing the implied fair value of the
goodwill with the carrying amount of that goodwill. The Company performed
impairment tests of its Goodwill balance of $1.6 billion as of January 1,
2002, as part of the implementation of SFAS No. 142, and then as of December
31, 2002, in accordance with the annual impairment test, using discounted
future cash flows. Such tests did not indicate any impairment of recorded
goodwill.

VOLBA. At the date of B.A.T's acquisition of the Company, a portion of
the purchase price ($662.8 million) was assigned to the VOLBA asset, which
represented an actuarial determination of the expected profits from the life
business in force at that time. The amount so assigned is being amortized
over its actuarially determined useful life with the unamortized amount
included in the "Value of life business acquired" line in the accompanying
consolidated balance sheets, which amounted to $239.7 million and $254.5
million for the period ended June 30, 2003 and the year ended December 31,
2002, respectively.

Life DAC. Costs that vary with, and are related primarily to, the
production of new business have been deferred to the extent that they are
deemed recoverable. Such costs include commissions, certain costs of policy
and underwriting, and certain agency expenses. For universal life insurance
contracts and investment-type products, such costs are being amortized
generally in proportion to the present value of expected gross profits arising
principally from surrender charges and investment results, and mortality and
expense margins. Interest rates are based on rates in effect during the
period. The effects on the amortization of deferred policy acquisition costs
of revisions to estimated gross margins and profits are reflected in earnings
in the period such estimated gross margins and profits are revised.

Management periodically updates these estimates and evaluates the
recoverability of deferred policy acquisition costs. When appropriate,
management revises its assumptions of the estimated gross margins or profits
of these contracts, and the cumulative amortization is re-estimated and
adjusted by a cumulative charge or credit to current operations.

Deferred policy acquisition costs for non-participating traditional life
and annuity policies with life contingencies are amortized in proportion to
anticipated premiums. Assumptions as to anticipated premiums are made at the
date of policy issuance or acquisition and are consistently applied during the
lives of the contracts. Deviations from estimated experience are included in
operations when they occur. For these contracts, the amortization period is
typically the estimated life of the policy.

Deferred policy acquisition costs include amounts associated with the
unrealized gains and losses recorded as other comprehensive income, a
component of stockholder's equity. Accordingly, deferred policy acquisition
costs are increased or decreased for the impact of estimated future gross
profits as if net unrealized gains or losses on securities had been realized
at the balance sheet date. Net unrealized gains or losses on securities
within other comprehensive income also reflect this impact.

Non-life DAC. Acquisition costs, consisting primarily of commissions
incurred on business related to the two new prospective quota share
reinsurance treaties, are deferred and amortized over the period in which the
related premiums are earned. Anticipated losses and loss adjustment expenses
as well as any estimated remaining costs associated with the treaties are
considered in determining acquisition costs to be deferred. Anticipated
investment income is not considered in the deferral of acquisition costs.

Loss and Loss Adjustment Expense Reserves. Under the three reinsurance
treaties, Farmers Re assumes a percentage of the ultimate net losses sustained
by the P&C Group Companies. Loss and loss adjustment expense reserves for all
claims outstanding of the P&C Group Companies are established as of the
reporting date. Reserves

27

include a provision for claims incurred but not yet reported, as well as
development of known claims. The Company's actuaries review the reserves on a
regular basis and make any necessary changes to the estimates in the current
period.

Loss and loss adjustment expense reserve estimates are uncertain by their
very nature. Although reserves are established on the basis of a reasonable
estimate, it is probable that reserves will differ from their related
subsequent developments. Underlying causes for this uncertainty include, but
are not limited to, changes in judicial interpretation of coverage, statutory
and other changes in the regulation of insurance and unanticipated
inflationary trends. This uncertainty can result in both adverse as well as
favorable development of actual subsequent activity when compared to the
reserves established.

Impairment of Investments. The Company regularly reviews its investment
portfolio to determine whether declines in the value of investments are other
than temporary as defined by SFAS No. 115. The Company's review for declines
in value includes analyzing historical and forecasted financial information as
well as reviewing the market performance of similar types of investments. As
a result of the Company's review, the Company determined that some of its
investments had declines in value that were other than temporary as of June
30, 2003 and June 30, 2002 due to unfavorable market and economic conditions.
Accordingly, for the three month periods ended June 30, 2003 and June 30,
2002, the Company recorded $4.3 million and $36.4 million, respectively, of
impairment losses on investments in the equity and fixed income portfolios.
For the six month periods ended June 30, 2003 and June 30, 2002, the Company
recorded $39.7 million and $49.9 million, respectively, of impairment losses
on investments in the equity and fixed income portfolios.

Fair Value of Financial Instruments. The fair values of financial
instruments have been determined using available market information and
appropriate valuation methodologies. However, considerable judgment is
required to interpret market data to develop the estimates of fair value.
Accordingly, these estimates may not be indicative of the amounts the Company
could realize in a current market exchange. The use of different market
assumptions and/or estimation methodologies could have a significant effect
on the estimated fair value amounts.

Accounting for Internally Developed Software. The Company follows the
provisions of Statement of Position No. 98-1, "Accounting for the Cost of
Computer Software Developed or Obtained for Internal Use". The Company
expenses costs incurred in the preliminary project stage and, thereafter,
capitalizes costs incurred in developing or obtaining internal use software.
Certain costs, such as maintenance and training, are expensed as incurred.
Capitalized costs are amortized on a straight-line basis over the useful life
of the software once it is placed into service. The Company regularly reviews
its existing capitalized software assets in order to determine if any should
be considered impaired or abandoned.

Three Months Ended June 30, 2003 Compared to Three Months Ended June 30, 2002

Farmers Management Services

Operating Revenues. Operating revenues, which primarily consist of AIF
fees paid to Farmers Management Services as a percentage of gross premiums
earned by the P&C Group Companies and other fees, increased $18.0 million, or
4.0%, from $449.3 million for the three months ended June 30, 2002 to $467.3
million for the three months ended June 30, 2003. This growth in operating
revenues was primarily attributable to higher gross premiums earned by the P&C
Group Companies, which benefited from a rising premium rate environment.
Gross premiums earned increased $0.1 billion, or 3.0%, from $3.3 billion for
the three months ended June 30, 2002 to $3.4 billion for the three months
ended June 30, 2003.

Operating Expenses. Operating expenses decreased from $221.2 million
for the three months ended June 30, 2002 to $219.6 million for the three months
ended June 30, 2003, a decrease of $1.6 million, or 0.7%.

Salaries and Employee Benefits. Salaries and employee benefits
expenses increased $5.2 million, or 4.7%, from $110.2 million for the
three months ended June 30, 2002 to $115.4 million for the three months
ended June 30, 2003 due primarily to an increase in pension expenses
offset in part by a decrease in outside contractor expenses.

28

Buildings and Equipment Expenses. Buildings and equipment expenses
decreased from $30.1 million for the three months ended June 30, 2002 to
$27.5 million for the three months ended June 30, 2003, a decrease of
$2.6 million, or 8.6%, due primarily to a decrease in software and
hardware maintenance expenses.

General and Administrative Expenses. General and administrative
expenses decreased from $80.9 million for the three months ended June 30,
2002 to $76.7 million for the three months ended June 30, 2003, a decrease
of $4.2 million, or 5.2%, due primarily to a decrease in certain
general and administrative expenses resulting from a lower number of
policies in-force as well as a continued focus on cost controls and
efficiencies. Also contributing to the decrease between periods was a
decrease in costs related to the implementation of the financial
accounting and reporting system.

Net Investment Income. Net investment income increased from $14.4 million
for the three months ended June 30, 2002 to $23.7 million for the three months
ended June 30, 2003, an increase of $9.3 million, or 64.6%. This increase was
due to improved equity markets and to growth in higher return invested assets,
primarily mortgage-backed securities. These increases were offset in part by
lower interest income on the UKISA notes which were reissued in September 2002
at a lower interest rate as well as the lost income resulting from partial
redemption of the ZGAUS notes (see Note 7).

Net Realized Gains. Net realized gains increased from $0.6 million
for the three months ended June 30, 2002 to $2.4 million for the three months
ended June 30, 2003, an increase of $1.8 million, or 300.0%, due primarily to
favorable market conditions.

Impairment Losses on Investments. Impairment losses on investments
decreased from $16.3 million for the three months ended June 30, 2002 to
$1.0 million for the three months ended June 30, 2003, a decrease of $15.3
million, or 93.9%, due to a decrease in impairments related to common stock.

Dividends on Preferred Securities of Subsidiary Trusts. Dividend expense
related to the $500.0 million of QUIPS issued in 1995 was $10.5 million in each
of the three months ended June 30, 2003 and June 30, 2002.

Provision for Income Taxes. Provision for income taxes increased from
$84.3 million for the three months ended June 30, 2002 to $101.9 million for
the three months ended June 30, 2003, an increase of $17.6 million, or 20.9%,
due mainly to an increase in pretax income between periods.

Farmers Management Services Income. As a result of the foregoing, Farmers
Management Services income increased from $132.0 million for the three months
ended June 30, 2002 to $160.4 million for the three months ended June 30,
2003, an increase of $28.4 million, or 21.5%.

FGI Insurance Subsidiaries

Farmers Re

Total Revenues. Total revenues increased $110.7 million, or 204.6%,
from $54.1 million for the three months ended June 30, 2002 to $164.8 million
for the three months ended June 30, 2003.

Non-life Reinsurance Premiums. Non-life reinsurance premiums
increased $104.0 million, or 208.0%, from $50.0 million for the three
months ended June 30, 2002 to $154.0 million for the three months
ended June 30, 2003. Under the APD quota share reinsurance agreement,
Farmers Re assumed $50.0 million of premiums in each of the three-month
periods ended June 30, 2003 and June 30, 2002. Under the 10% All Lines
Quota Share treaty, which took effect December 31, 2002, Farmers Re
assumed $52.4 million of premiums for the three month period ended June
30, 2003. In addition, under the 20% Personal Lines Auto Quota Share
treaty which took effect December 31, 2002, Farmers Re assumed $51.6
million of premiums for the three month period ended June 30, 2003.

29

Net Investment Income. Net investment income increased $0.5
million, or 4.9%, from $10.2 million for the three months ended June 30,
2002 to $10.7 million for the three months ended June 30, 2003. The
increase was due primarily to higher average invested assets between
periods resulting substantially from the increase in unearned premiums
transferred from the P&C Group Companies to Farmers Re as a result of
the two new quota share reinsurance agreements.

Net Realized Gains. Net realized gains increased $0.9 million from
$0.1 million for the three months ended June 30, 2002 to $1.0 million for
the three months ended June 30, 2003 due mainly to an increase in gains
realized from fixed income sales between periods, offset in part by a
decrease in gains realized from common stock sales.

Impairment Losses on Investments. Impairment losses on investments
decreased $5.3 million, or 85.5%, from $6.2 million for the three months
ended June 30, 2002 to $0.9 million for the three months ended June
30, 2003. The decrease was due to lower impairment losses recognized in
the equity portfolio between periods.

Total Operating Expenses. Total operating expenses increased $100.4
million, or 205.7%, from $48.8 million for the three months ended June 30,
2002 to $149.2 million for the three months ended June 30, 2003.

Non-life Losses and Loss Adjustment Expenses. Non-life losses and
loss adjustment expenses increased $62.5 million, or 181.7%, from $34.4
million for the three months ended June 30, 2002 to $96.9 million for
the three months ended June 30, 2003 due primarily to the two new quota
share reinsurance treaties.

Non-life Reinsurance Commissions. Non-life reinsurance commissions
increased $16.0 million, or 111.1%, from $14.4 million for the three
months ended June 30, 2002 to $30.4 million for the three months ended
June 30, 2003 due primarily to the two new quota share reinsurance
treaties.

Amortization of Non-life DAC. Amortization of non-life DAC resulting
from the two quota share reinsurance treaties which became effective on
December 31, 2002 was $21.9 million for the three months ended June 30,
2003.

Provision for Income Taxes. Provision for income taxes increased $3.5
million from $1.4 million for the three months ended June 30, 2002 to $4.9
million for the three months ended June 30, 2003 due primarily to an increase
in pretax income between periods.

Farmers Re Income. As a result of the foregoing, Farmers Re's income
increased $6.8 million, or 174.4%, from $3.9 million for the three months ended
June 30, 2002 to $10.7 million for the three months ended June 30, 2003.
Farmers Re's underwriting gain increased $3.5 million from $1.2 million for
the three months ended June 30, 2002 to $4.7 million for the three months
ended June 30, 2003.

Farmers Life

Total Revenues. Total revenues increased from $174.7 million for the
three months ended June 30, 2002 to $190.5 million for the three months ended
June 30, 2003 an increase of $15.8 million, or 9.0%.

Life and Annuity Premiums. Life and annuity premiums decreased from
$62.3 million for the three months ended June 30, 2002 to $48.7 million
for the three months ended June 30, 2003, a decrease of $13.6 million,
or 21.8%. This decrease was primarily due to a $15.7 million, or 100%,
decrease in premiums for structured settlements involving life
contingencies compared to the three months ended June 30, 2002. Farmers
Life exited the business of writing structured settlements as of December
31, 2002 (see Note 1). Excluding structured settlements, life premiums
increased from $46.6 million for the three months ended June 30, 2002 to
$48.7 million for the three months ended June 30, 2003, an increase of
$2.1 million, or

30

4.5%. Direct premium increased 12.7% between the three month periods
ended June 30, 2002 and June 30, 2003, partially offset by an increase in
reinsured term premium between the same periods.

Life Policy Charges. Life policy charges increased from $55.8
million for the three months ended June 30, 2002 to $57.6 million for the
three months ended June 30, 2003, an increase of $1.8 million, or 3.2%,
reflecting growth in universal life-type insurance in-force.

Net Investment Income. Net investment income increased from $85.5
million for the three months ended June 30, 2002 to $87.3 million for the
three months ended June 30, 2003, an increase of $1.8 million, or 2.1%.
This increase was primarily due to growth in invested assets, principally
fixed income instruments, partially offset by a decline in fixed income
yields.

Net Realized Losses. Net realized losses decreased from $15.0
million for the three months ended June 30, 2002 to $0.6 million for
the three months ended June 30, 2003, a decrease of $14.4 million, or
96.0%. This decrease was primarily due to a decrease between periods
in net realized losses generated from the sale of corporate bonds.

Impairment Losses on Investments. Impairment losses on investments
decreased from $13.9 million for the three months ended June 30, 2002 to
$2.5 million for the three months ended June 30, 2003, a decrease of $11.4
million, or 82.0%. This decrease was primarily due to a $12.8 million
decrease between periods in the level of impaired equity instruments,
offset by an increase in fixed income impairments of $1.3 million related
to a major U.S. airline.

Total Operating Expenses. Total operating expenses decreased from $147.8
million for the three months ended June 30, 2002 to $134.1 million for the three
months ended June 30, 2003, a decrease of $13.7 million, or 9.3%.

Life Policyholders' Benefits and Charges. Life policyholders'
benefits expense and charges decreased from $110.4 million for the three
months ended June 30, 2002 to $99.2 million for the three months ended
June 30, 2003, a decrease of $11.2 million, or 10.1%.

Policy Benefits. Policy benefits, which consist primarily of
death and surrender benefits on life products, increased from $40.7
million for the three months ended June 30, 2002 to $46.0 million
for the three months ended June 30, 2003, an increase of $5.3
million, or 13.0%, as Farmers Life experienced unfavorable claim
volatility in the three months ended June 30, 2003.

Increase in Liability for Future Benefits. Increase in
liability for future benefits expense decreased from $25.2 million
for the three months ended June 30, 2002 to $8.9 million for the
three months ended June 30, 2003, a decrease of $16.3 million, or
64.7%. This decrease was primarily attributable to a $15.7 million,
or 100%, decrease in deposits for structured settlements involving
life contingencies compared to the three months ended June 30, 2002.
Farmers Life exited the business of writing structured settlements
as of December 31, 2002 (see Note 1). Excluding structured
settlements, the increase in liability for future benefits expense
decreased from $9.5 million for the three months ended June 30, 2002
to $8.2 million for the three months ended June 30, 2003, a decrease
of $1.3 million, or 13.7%. This decrease was attributed to changes
in product mix, as Farmers Life now writes more term business, which
carries lower overall reserves than whole life products.

Interest Credited to Policyholders. Interest credited to
policyholders, which represents the amount credited under universal
life-type contracts, deferred annuities and structured settlements
not involving life contingencies to policyholder funds on deposit,
decreased from $44.5 million for the three months ended June 30,
2002 to $44.3 million for the three months ended June 30, 2003, a
decrease of $0.2 million, or 0.4%. This decrease was due primarily
to reductions in crediting rates

31

related to the deferred annuity and universal life products. The
effect of the reductions was offset by growth in policyholder funds
that credit interest.

General Operating Expenses. General operating expenses decreased
from $37.4 million for the three months ended June 30, 2002 to $34.9
million for the three months ended June 30, 2003, a decrease of $2.5
million, or 6.7%.

Amortization of DAC and VOLBA. Amortization expense decreased
from $24.4 million for the three months ended June 30, 2002 to $24.0
million for three months ended June 30, 2002, a decrease of $0.4
million, or 1.6%, due to slightly decreased profit margins.

Life Commissions. Life commissions expense decreased from
($1.8) million for the three months ended June 30, 2002 to ($5.0)
million for the three months ended June 30, 2003, a change of $3.2
million, due primarily to a $2.5 million, or 36.4%, growth in the
reinsurance allowance between periods, as Farmers Life is selling
more reinsured term business. Commissions are reported net of
expense reimbursements related to reinsured business.

General and Administrative Expenses. General and administrative
expenses increased from $14.8 million for the three months ended
June 30, 2002 to $15.9 million for the three months ended June 30,
2003, an increase of $1.1 million, or 7.4%. This increase was due to
higher employee benefits expense and electronic data processing
costs.

Provision for Income Taxes. Provision for income taxes increased from
$9.5 million for the three months ended June 30, 2002 to $19.9 million for
the three months ended June 30, 2003, an increase of $10.4 million, or 109.5%,
as a result of an increase in pretax income between periods. The effective
tax rate remained flat between periods.

Farmers Life Income. As a result of the foregoing, Farmers Life income
increased from $17.4 million for the three months ended June 30, 2002 to $36.5
million for the three months ended June 30, 2003, an increase of $19.1 million,
or 109.8%.

Consolidated Net Income

Consolidated net income of the Company increased from $153.3 million for
the three months ended June 30, 2002 to $207.6 million for the three months
ended June 30, 2003, an increase of $54.3 million, or 35.4%.

Six Months Ended June 30, 2003 Compared to Six Months Ended June 30, 2002

Farmers Management Services

Operating Revenues. Operating revenues increased $50.2 million, or 5.7%,
from $885.2 million for the six months ended June 30, 2002 to $935.4 million
for the six months ended June 30, 2003. This growth in operating revenues was
primarily attributable to higher gross premiums earned by the P&C Group
Companies, which benefited from a rising premium rate environment. Gross
premiums earned increased $0.3 billion, or 4.6%, from $6.5 billion for the
six months ended June 30, 2002 to $6.8 billion for the six months ended June
30, 2003.

Operating Expenses. Operating expenses decreased from $430.8 million for
the six months ended June 30, 2002 to $422.7 million for the six months ended
June 30, 2003, a decrease of $8.1 million, or 1.9%.

Salaries and Employee Benefits. Salaries and employee benefits
expenses increased $3.9 million, or 1.8%, from $219.5 million for the
six months ended June 30, 2002 to $223.4 million for the six months
ended June 30, 2003 due primarily to an increase in pension and medical
insurance expenses, partially offset by a decrease in outside contractor
expenses.

32

Buildings and Equipment Expenses. Buildings and equipment expenses
decreased from $58.3 million for the six months ended June 30, 2002 to
$55.9 million for the six months ended June 30, 2003, a decrease of $2.4
million, or 4.1%, due primarily to a decrease in software and hardware
maintenance expenses. This decrease was offset in part by an increase
between periods in the amortization expense related to software and
equipment.

General and Administrative Expenses. General and administrative
expenses decreased from $153.0 million for the six months ended June 30,
2002 to $143.4 million for the six months ended June 30, 2003, a decrease
of $9.6 million, or 6.3%, due primarily to a decrease in costs related to
the implementation of the financial accounting and reporting system.
Also contributing to the decrease between periods was a decrease in
certain general and administrative expenses resulting from a lower
number of policies in-force as well as a continued focus on cost controls
and efficiencies.

Net Investment Income. Net investment income increased from $33.1 million
for the six months ended June 30, 2002 to $41.1 million for the six months
ended June 30, 2003, an increase of $8.0 million, or 24.2%. This increase was
due to improved equity markets and to growth in higher return invested assets,
primarily mortgage-backed securities. These increases were offset in part by
lower interest income on the UKISA notes which were reissued in September 2002
at a lower interest rate as well as the lost income resulting from partial
redemption of the ZGAUS notes (see Note 7).

Net Realized Gains. Net realized gains decreased from $4.0 million for
the six months ended June 30, 2002 to $2.4 million for the six months ended
June 30, 2003, a decrease of $1.6 million, or 40.0%, due mainly to gains on
the sale of real estate in 2002, offset in part by favorable market conditions
in the six month period ended June 30, 2003.

Impairment Losses on Investments. Impairment losses on investments
decreased from $20.9 million for the six months ended June 30, 2002 to $8.1
million for the six months ended June 30, 2003, a decrease of $12.8 million,
or 61.2%, due to a decrease in impairments related to common stock.

Dividends on Preferred Securities of Subsidiary Trusts. Dividend expense
was $21.0 million in each of the six month periods ended June 30, 2003 and June
30, 2002.

Provision for Income Taxes. Provision for income taxes increased from
$175.1 million for the six months ended June 30, 2002 to $204.5 million for
the six months ended June 30, 2003, an increase of $29.4 million, or 16.8%,
due mainly to an increase in pretax income between periods.

Farmers Management Services Income. As a result of the foregoing, Farmers
Management Services income increased from $274.5 million for the six months
ended June 30, 2002 to $322.6 million for the six months ended June 30, 2003,
an increase of $48.1 million, or 17.5%.

Insurance Subsidiaries

Farmers Re

Total Revenues. Total revenues increased $216.6 million, or 192.5%,
from $112.5 million for the six months ended June 30, 2002 to $329.1 million
for the six months ended June 30, 2003.

Non-life Reinsurance Premiums. Non-life reinsurance premiums
increased $210.1 million, or 210.1%, from $100.0 million for the six
months ended June 30, 2002 to $310.1 million for the six months ended
June 30, 2003. Under the APD quota share reinsurance agreement, Farmers
Re assumed $100.0 million of premiums in each of the six-month periods
ended June 30, 2003 and June 30, 2002. Under the 10% All Lines Quota
Share treaty which took effect December 31, 2002, Farmers Re assumed
$105.6 million of premiums for the six month period ended June 30,
2003. In addition, under the 20% Personal Lines Auto

33

Quota Share treaty which took effect December 31, 2002, Farmers Re
assumed $104.5 million of premiums for the six month period ended June
30, 2003.

Net Investment Income. Net investment income increased $1.7 million,
or 8.5%, from $20.0 million for the six months ended June 30, 2002 to
$21.7 million for the six months ended June 30, 2003. The increase was
due primarily to higher average invested assets between periods resulting
substantially from the increase in unearned premiums transferred from the
P&C Group Companies to Farmers Re as a result of the two new quota share
reinsurance agreements.

Net Realized Gains. Net realized gains decreased $0.7 million, or
50.0%, from $1.4 million for the six months ended June 30, 2002 to $0.7
million for the six months ended June 30, 2003 due mainly to a decrease
in gains realized from common stock sales between periods, offset in part
by an increase in gains from fixed income securities.

Impairment Losses on Investments. Impairment losses on investments
decreased $5.5 million, or 61.8%, from $8.9 million for the six months
ended June 30, 2002 to $3.4 million for the six months ended June 30,
2003. The decrease was due to lower impairment losses recognized in
the equity portfolio between periods.

Total Operating Expenses. Total operating expenses increased $207.9
million, or 213.0%, from $97.6 million for the six months ended June 30, 2002
to $305.5 million for the six months ended June 30, 2003.

Non-life Losses and Loss Adjustment Expenses. Non-life losses and
loss adjustment expenses increased $126.2 million, or 187.2%, from $67.4
million for the six months ended June 30, 2002 to $193.6 million for the
six months ended June 30, 2003 due primarily to the two new quota share
reinsurance treaties.

Non-life Reinsurance Commissions. Non-life reinsurance commissions
increased $37.6 million, or 124.9%, from $30.1 million for the six months
ended June 30, 2002 to $67.7 million for the six months ended June 30,
2003 due primarily to the two new quota share reinsurance treaties.

Amortization of Non-life DAC. Amortization of non-life DAC resulting
from the two quota share reinsurance treaties which became effective on
December 31, 2002 was $44.1 million for the six months ended June 30,
2003.

General and Administrative Expenses. General and administrative
expenses were $0.1 million for each of the six months ended June 30,
2002 and June 30, 2003.

Provision for Income Taxes. Provision for income taxes increased $2.7
million, or 61.4%, from $4.4 million for the six months ended June 30, 2002
to $7.1 million for the six months ended June 30, 2003 due primarily to an
increase in pretax income between periods.

Farmers Re Income. As a result of the foregoing, Farmers Re's income
increased $6.0 million, or 57.1%, from $10.5 million for the six months ended
June 30, 2002 to $16.5 million for the six months ended June 30, 2003.
Farmers Re's underwriting gain increased $2.1 million from $2.4 million for
the six months ended June 30, 2002 to $4.5 million for the six months ended
June 30, 2003.

Farmers Life

Total Revenues. Total revenues decreased from $373.8 million for the six
months ended June 30, 2002 to $368.2 million for the six months ended June 30,
2003, a decrease of $5.6 million, or 1.5%.

Life and Annuity Premiums. Life and annuity premiums decreased from
$125.7 million for the six months ended June 30, 2002 to $96.3 million for
the six months ended June 30, 2003, a decrease of $29.4 million, or 23.4%.
This decrease was primarily due to a $31.1 million, or 98.4%, decrease in
premiums for

34

structured settlements involving life contingencies compared to the six
months ended June 30, 2002 (see Note 1). Excluding structured
settlements, life premiums increased from $94.1 million for the six months
ended June 30, 2002 to $95.8 million for the six months ended June 30,
2003, and increase of $1.7 million, or 1.8%. Direct premium grew 10.0%
between periods, partially offset by growth in reinsured term premiums.
As such, Farmers Life's term business in-force grew $15.7 billion, or
37.1%, between periods.

Life Policy Charges. Life policy charges increased from $111.2
million for the six months ended June 30, 2002 to $113.5 million for
the six months ended June 30, 2003, an increase of $2.3 million, or
2.1%, reflecting a 2.1% growth in universal life-type insurance in-force.

Net Investment Income. Net investment income increased from $168.7
million for the six months ended June 30, 2002 to $171.3 million the six
months ended June 30, 2003, an increase of $2.6 million, or 1.5%. This
increase was primarily due to growth in invested assets, principally
fixed income instruments, partially offset by a decline in fixed income
yields.

Net Realized Gains/(Losses). Net realized gains/(losses) increased
from an $11.7 million loss for the six months ended June 30, 2002 to a
$15.4 million gain for the six months ended June 30, 2003, an increase
of $27.1 million, or 231.6%. This increase was due primarily to gains
generated from fixed income sales during the six months ended June 30,
2003. The most significant disposals were of collateralized mortgage
obligations vulnerable to accelerated prepayment risk, previously impaired
securities that have since appreciated in price and corporate bonds.

Impairment Losses on Investments. Impairment losses on investments
increased from $20.1 million for the six months ended June 30, 2002 to
$28.3 million for the six months ended June 30, 2003, an increase of $8.2
million, or 40.8%. This increase was primarily due to $21.2 million of
fixed income impairments taken during the six months ended June 30, 2003
on positions issued by major U.S. airlines. Equity impairments for the
six months ended June 30, 2003 totaled $7.1 million, a decrease of $13.0
million from the six months ended June 30, 2002.

Total Operating Expenses. Total operating expenses decreased from $298.1
million for the six months ended June 30, 2002 to $273.9 million for the six
months ended June 30, 2003, a decrease of $24.2 million, or 8.1%.

Life Policyholders' Benefits and Charges. Life policyholders'
benefits expense and charges decreased from $224.1 million for the six
months ended June 30, 2002 to $193.4 million for the six months ended
June 30, 2003, a decrease of $30.7 million, or 13.7%.

Policy Benefits. Policy benefits increased from $84.3 million
for the six months ended June 30, 2002 to $88.2 million for the six
months ended June 30, 2003, an increase of $3.9 million, or 4.6%,
as life insurance in force has grown 11.5% between periods, partially
offset by an increase in reinsured term product mortality.

Increase in Liability for Future Benefits. Increase in
liability for future benefits expense decreased from $49.0 million
for the six months ended June 30, 2002 to $16.9 million for the six
months ended June 30, 2003, a decrease of $32.1 million, or 65.5%.
This decrease was primarily attributable to a $31.1 million, or
98.4%, decrease in deposits for structured settlements involving life
contingencies compared to the six months ended June 30, 2002 (see
Note 1). Excluding structured settlements, the increase in liability
for future benefits expense decreased from $17.7 million for the six
months ended June 30, 2002 to $15.3 million for the six months ended
June 30, 2003, a decrease of $2.4 million, or 13.6%. This decrease
was due to changes in product mix, as Farmers Life is issued more
term business, which carries a lower overall reserve than whole life
products.

Interest Credited to Policyholders. Interest credited to
policyholders decreased from $90.8 million for the six months ended
June 30, 2002 to $88.3 million for the six months ended June 30,
2003, a

35

decrease of $2.5 million, or 2.8%. This decrease was due primarily
to reductions in crediting rates related to the deferred annuity and
universal life products. The effect of the reductions was offset by
an 8.2% growth in policyholder funds that credit interest.

General Operating Expenses. General operating expenses increased
from $74.0 million for the six months ended June 30, 2002 to $80.5 million
for the six months ended June 30, 2003, an increase of $6.5 million, or
8.8%.

Amortization of DAC and VOLBA. Amortization expense increased
from $46.7 million for the six months ended June 30, 2002 to $58.7
million for the six months ended June 30, 2003, an increase of $12.0
million, or 25.7%, due to a change made in the first quarter of 2003
to the 2002 rate at which DAC is amortized, effectively slowing down
amortization for that period. The DAC amortization rate is
determined using profit margin projections, which include current
period realized gains and losses.

Life Commissions. Life commissions decreased from ($3.0)
million for the six months ended June 30, 2002 to ($8.9) million
for the six months ended June 30, 2003, a change of $5.9 million,
or 196.7%, due primarily to a $4.8 million, or 36.6%, growth in
the reinsurance allowance between periods, as term sales have grown
$13.3 million, or 18.9% between periods.

General and Administrative Expenses. General and administrative
expenses increased from $30.3 million for the six months ended June
30, 2002 to $30.7 million for the six months ended June 30, 2003, an
increase of $0.4 million, or 1.3%. The increase was primarily
attributed to higher employee benefits expense.

Provision for Income Taxes. Provision for income taxes increased from
$26.7 million for the six months ended June 30, 2002 to $33.2 million for the
six months ended June 30, 2003, an increase of $6.5 million, or 24.3%, as a
result of an increase in pretax income between periods. The effective tax
rate remained flat between periods.

Farmers Life Income. As a result of the foregoing, Farmers Life income
increased from $49.0 million for the six months ended June 30, 2002 to $61.1
million for the six months ended June 30, 2003, an increase of $12.1 million,
or 24.7%.

Consolidated Net Income

Consolidated net income of the Company increased from $334.0 million for
the six months ended June 30, 2002 to $400.2 million for the six months ended
June 30, 2003, an increase of $66.2 million, or 19.8%.

Liquidity and Capital Resources

As of June 30, 2003 and June 30, 2002, the Company held cash and cash
equivalents of $412.2 million and $414.4 million, respectively. In addition,
as of June 30, 2003, the Company had an aggregate borrowing facility of $250.0
million. As such, the Company believes that, combined with cash generated from
operations, its total invested assets, including cash and short-term
investments, are more than sufficient to satisfy the liquidity needs of the
Company.

The principal uses of funds by Farmers Management Services are: (i)
operating expenses, (ii) dividends to the shareholders of the Company's QUIPS,
(iii) capital expenditures and (iv) dividends to its stockholders. The
principal uses of funds by Farmers Life are: (i) policy benefits and claims,
(ii) loans to policyholders, (iii) capital expenditures, (iv) life commissions,
(v) operating expenses and (vi) stockholder's dividends. The principal uses
of funds by Farmers Re are: (i) the payment of non-life losses and loss
adjustment expenses, (ii) the payment of reinsurance commissions and (iii)
operating expenses.

36

The principal sources of funds available to Farmers Management
Services are: (i) the management fees that it receives for providing
management services to the P&C Group Companies, (ii) investment income and
(iii) dividends from its subsidiaries. The principal sources of funds
available to Farmers Life are premiums and amounts earned from the investment
of premiums and deposits. The principal sources of funds available to Farmers
Re are premiums assumed from the P&C Group Companies and investment income.

In order to maintain the policyholders' surplus of the P&C Group Companies,
the Company has, from time to time, purchased surplus notes or certificates of
contributions of the P&C Group Companies, receiving certificates of
contribution or surplus notes which bear interest at various rates. As of
June 30, 2003, the Company held $949.8 million of certificates of contribution
and an $87.5 million surplus note of the P&C Group Companies. The Company is
under no obligation to purchase these certificates of contributions from the
P&C Group Companies. However, the Company believes that these purchases of
certificates of contribution and the surplus note have helped to support the
historical growth in premiums earned by the P&C Group Companies and the related
growth in management fees paid to the Company. The Company also believes that
it is receiving a fair rate of return on its certificates of contributions and
surplus note.

Net cash provided by operating activities increased from $526.2 million
for the six months ended June 30, 2002 to $769.9 million for the six months
ended June 30, 2003, an increase of $243.7 million, or 46.3%. The resulting
increase in cash was due in part to a $155.7 million decrease in accounts
receivable from the P&C Group Companies resulting from timing differences in
the settlement of the receivables. In addition, an $87.1 million increase
between periods in reserves for non-life losses and loss adjustment expenses
resulted from the new Farmers Re quota share reinsurance treaties that became
effective December 31, 2002. Also contributing to the increase in cash was a
$54.0 million decrease between periods in cash contributed to the Company's
pension plan ($70.0 million vs. $18.0 million for the six months ended June
30, 2002 and June 30, 2003, respectively). In addition, the Company received
$35.4 million in January 2003 from the P&C Group Companies related to a
reimbursement of pension costs. Furthermore, the increase in cash was driven
in part by a $23.7 million decrease between periods in cash used for software
development. Partially offsetting the aforementioned increases in net cash
provided by operating activities were: 1) a $51.3 million decrease in cash
resulting from higher premiums in collection, 2) a $43.6 million decrease in
cash between periods due to a decrease in the future policy benefits liability
and 3) a $39.9 million decrease in cash between periods due to a decrease in
the premium refund liability.

Net cash used in investing activities increased from $297.2 million of
cash used for the six months ended June 30, 2002 to $806.3 million of cash
used for the six months ended June 30, 2003, resulting in a decrease in cash
of $509.1 million, or 171.3%. This decrease in cash was the result of a
$773.1 million increase in purchases of investments available-for-sale in
the six month period ended June 30, 2003, compared to the same period in 2002
due in part to the increase in unearned premiums transferred from the P&C
Group Companies to Farmers Re as a result of the two new quota share
reinsurance agreements. Also contributing to the decrease in cash was
the purchase of a $100.0 million note receivable - affiliate for the six
months ended June 30, 2003. Partially offsetting the aforementioned increase
in net cash used in investing activities was a $230.0 million increase in
proceeds from the redemption of notes receivable - affiliates (see Note 7)
and a $146.3 million increase in cash provided by proceeds from sales and
maturities of investments available-for-sale between the six month periods
ended June 30, 2003 and June 30, 2002.

Net cash used in financing activities decreased from $212.0 million for
the six months ended June 30, 2002 to $168.1 million for the six months ended
June 30, 2003, resulting in an increase in cash of $43.9 million between
periods. This increase was due primarily to a reduction in the net cash
outflows associated with universal life and annuity contracts between periods.

Recent Accounting Pronouncements.

The following is a summary of recent FASB pronouncements. Please refer to
Note 2 for further information related to these pronouncements.

37

- - In November 2002, the FASB issued Interpretation ("FIN") No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others". This
Interpretation identifies characteristics of certain guarantee contracts
and requires that a liability be recognized at fair value at the
inception of such guarantees for the obligations undertaken by the
guarantor. The initial recognition and initial measurement provisions
of this Interpretation are effective for these guarantees issued or
modified after December 31, 2002. The disclosure requirements of this
Interpretation are effective for the Company as of December 31, 2002.
The adoption of this Interpretation did not have a material impact on
the Company's consolidated financial statements.

- - In January 2003, the FASB issued FIN No. 46, "Consolidation of Variable
Interest Entities". This Interpretation provides guidance on the
identification of entities for which control is achieved through means
other than through voting rights, variable interest entities, and how
to determine when and which business enterprises should consolidate
variable interest entities. This Interpretation applies immediately
to variable interest entities created after January 31, 2003. It
applies in the first fiscal year or interim period beginning after
June 15, 2003, to variable interest entities in which an enterprise
holds a variable interest that it acquired before February 1, 2003.
Based on the current Interpretation, the Company does not believe they
have variable interest entities.

- - In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities". This Statement amends
and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in
other contracts and for hedging activities under FASB Statement No.
133, "Accounting for Derivative Instruments and Hedging Activities".
This Statement is effective for contracts entered into or modified after
June 30, 2003. The Company does not expect the adoption of this
Statement to have a material impact on its consolidated financial
statements.

- - In May 2003, the FASB issued SFAS No. 150, "Accounting of Certain
Financial Instruments with Characteristics of both Liabilities and
Equity". This Statement establishes standards for how an issuer
classifies and measures certain financial instruments with characteristics
of both liabilities and equity. Under this Statement, a financial
instrument issued in the form of shares that are mandatorily redeemable
that embodies an unconditional obligation requiring the issuer to redeem
it by transferring its assets at a specified or determinable date or upon
an event that is certain to occur shall be classified as a liability at
the amount of cash that would be paid under the conditions specified in
the contract. The provisions of this Statement are effective at the
beginning of the first interim period beginning after June 15, 2003.
The adoption of this Statement will have an impact on presentation of
the Company's consolidated balance sheet as the "Company obligated
mandatorily redeemable preferred securities of subsidiary trusts holding
solely junior subordinated debentures" line on the balance sheets will
be reclassified to the liability section.

Item 3. Quantitative and Qualitative Disclosures about Market Risks

The market risks associated with the Company's investment portfolios have
not changed materially from those disclosed at year-end 2002.

ITEM 4. Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures. The Company's
Chief Executive Officer and Chief Financial Officer have evaluated the
effectiveness of the Company's disclosure controls and procedures (as such
term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange
Act of 1934, as amended (the "Exchange Act")) as of the end of the period
covered by this quarterly report (the "Evaluation Date"). Based on such
evaluation, such officers have concluded that, as of the Evaluation Date, the
Company's disclosure controls and procedures are effective in alerting them on
a timely basis to material information relating to the Company (including its
consolidated subsidiaries) required to be included in the Company's reports
filed or submitted under the Exchange Act.

38

(b) Changes in Internal Controls. Since the Evaluation Date, there have
not been any significant changes in the Company's internal controls that could
significantly affect such controls.


PART II. OTHER INFORMATION

Item 1. Legal Proceedings.

Due to its AIF relationships, the Company is a party to lawsuits
in which the Exchanges are the primary defendants. The Company is
also party to lawsuits arising from its other normal business
activities. These actions are in various stages of discovery and
development, and some seek punitive as well as compensatory damages.
In the opinion of management, the Company has not engaged in any
conduct which should warrant the award of any material punitive or
compensatory damages. The Company intends to vigorously defend its
position in each case, and management believes that, while it is not
possible to predict the outcome of such matters with absolute
certainty, ultimate disposition of these proceedings should not have
a material adverse effect on the Company's consolidated results of
operations or financial position. In addition, the Company is, from
time to time, involved as a party to various governmental and
administrative proceedings.

Item 2. Changes in Securities. None.

Item 3. Defaults upon Senior Securities. None.

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

The shareholders of the Company held their annual meeting on
May 9, 2003. Jerry J. Carnahan, Stephen J. Feely, Martin D.
Feinstein, Leonard H. Gelfand, Paul N. Hopkins, Jason L. Katz,
Kevin E. Kelso, C. Paul Patsis, James J. Schiro, Keitha T. Schofield,
Stanley R. Smith and Pierre Wauthier were re-elected to the Board of
Directors (the "Board") of the Company. The re-election of each
director was unanimous and uncontested. In addition, Robert F.
Woudstra was unanimously elected to the Board. No other matters
were voted upon at this meeting.

Item 5. Other Information. None.

Item 6. Exhibits and Reports on Form 8-K.

(a) Exhibits.

31.1 Certification of Chief Executive Officer Pursuant to Rule
13a-15(e) or Rule 15d-15(e), as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.

31.2 Certification of Chief Financial Officer Pursuant to Rule
13a-15(e) or Rule 15d-15(e), as adopted pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.

32.1 Certification of Chief Executive Officer Pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.

32.2 Certification of Chief Financial Officer Pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.

(b) Reports on Form 8-K. None.

39

FARMERS GROUP, INC.
AND SUBSIDIARIES

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.

Farmers Group, Inc.
(Registrant)

August 8, 2003 /s/ Martin D. Feinstein
---------------------------------------------
Date Martin D. Feinstein
Chairman of the Board,
President and Chief Executive Officer


August 8, 2003 /s/ Pierre Wauthier
---------------------------------------------
Date Pierre Wauthier
Executive Vice President,
Chief Financial Officer
and Director