SELECTIVE INSURANCE GROUP INC - 10-Q Quarterly Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

(MARK ONE)

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

For the quarterly period ended... June 30, 2002

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: 0-8641

SELECTIVE INSURANCE GROUP, INC.
(Exact name of registrant as specified in its charter)

New Jersey 22-2168890
- ----------------------------------------- ------------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)

40 Wantage Avenue
Branchville, New Jersey 07890
- ----------------------------------------- ------------------------------------------
(Address of principal executive offices) (Zip Code)

(973) 948-3000
-----------------------------------------
(Registrant's 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 report), and (2) has been subject to such filing
requirements for the past 90 days.

Yes [X] No [ ]

Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date:

Common stock, par value $2 per share, outstanding as of July 31,
2002: 26,370,077

1

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SELECTIVE INSURANCE GROUP, INC
Consolidated Balance Sheets

Unaudited
June 30, December 31,
(in thousands, except share amounts) 2002 2001
- ------------------------------------ ---------- ------------

ASSETS
INVESTMENTS:
Debt securities, held-to-maturity - at amortized cost
(fair value: $150,416-2002; $182,554-2001) $ 143,696 175,453
Debt securities, available-for-sale - at fair value
(amortized cost: $1,464,755-2002; $1,335,656-2001) 1,523,095 1,369,965
Equity securities, available-for-sale - at fair value
(cost of: $111,750-2002; $117,186-2001) 207,964 233,703
Short-term investments - (at cost which approximates fair value) 1,388 19,155
Other investments 15,715 15,033
---------- ---------
Total investments 1,891,858 1,813,309
Cash 8,963 7,295
Interest and dividends due or accrued 22,911 23,073
Premiums receivables 385,998 320,741
Other trade receivables 26,645 29,491
Reinsurance recoverable on paid losses and loss expenses 7,914 14,405
Reinsurance recoverable on unpaid losses and loss expenses 165,919 166,511
Prepaid reinsurance premiums 42,175 39,932
Current federal income tax 5,796 5,945
Deferred federal income tax 10,039 9,416
Real estate, furniture, equipment, and software development
net of accumulated depreciation and amortization 50,870 55,363
Deferred policy acquisition costs 151,555 131,651
Goodwill 42,808 46,495
Other assets 33,325 20,717
---------- ---------
Total assets $2,846,776 2,684,344
========== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Reserve for losses $1,188,549 1,133,673
Reserve for loss expenses 167,404 164,665
Unearned premiums 558,894 485,713
Convertible subordinated debentures 3,661 3,790
Notes payable 152,643 152,643
Other liabilities 163,371 152,700
---------- ---------
Total liabilities 2,234,522 2,093,184
---------- ---------
STOCKHOLDERS' EQUITY:
Preferred stock of $0 par value per share:
Authorized shares: 5,000,000; no shares issued or outstanding
Common stock of $2 par value per share:
Authorized shares: 180,000,000
Issued: 40,153,322-2002; 39,588,746-2001 80,307 79,177
Additional paid-in capital 88,709 77,126
Retained earnings 547,026 536,188
Accumulated other comprehensive income 100,460 98,037
Treasury stock - at cost (shares: 14,152,603-2002; 14,056,403-2001) (194,505) (192,284)
Deferred compensation expense and notes receivable from stock sales (9,743) (7,084)
---------- ---------
Total stockholders' equity 612,254 591,160
---------- ---------
Total liabilities and stockholders' equity $2,846,776 2,684,344
========== =========

See accompanying notes to unaudited interim consolidated financial statements.

2

SELECTIVE INSURANCE GROUP, INC.
Consolidated Statements of Income

Unaudited Unaudited
Quarter ended Six Months ended
June 30, June 30,
-------------------------- -------------------------
(in thousands, except per share amounts) 2002 2001 2002 2001
- ---------------------------------------- -------- ------- -------- -------

Revenues:
Net premiums written $268,287 235,697 $549,732 475,613
Net increase in unearned premiums and prepaid
reinsurance premiums (23,789) (19,431) (70,939) (46,330)
-------- ------- -------- -------
Net premiums earned 244,498 216,266 478,793 429,283
Net investment income earned 25,100 23,920 49,604 47,728
Net realized gains(losses) (411) 1,564 (302) 2,404
Diversified insurance services revenue 20,720 17,174 39,553 34,205
Other income 940 690 1,739 1,463
-------- ------- -------- -------
Total revenues 290,847 259,614 569,387 515,083
-------- ------- -------- -------
Expenses:
Losses incurred 153,289 135,770 299,794 273,394
Loss expenses incurred 25,811 22,845 50,183 42,179
Policy acquisition costs 74,734 66,408 145,428 131,774
Dividends to policyholders 1,406 2,045 3,327 3,800
Interest expense 3,499 3,646 7,005 7,293
Diversified insurance services expenses 19,121 15,951 36,560 31,352
Other expenses 2,907 2,994 5,333 5,812
-------- ------- -------- -------
Total expenses 280,767 249,659 547,630 495,604
-------- ------- -------- -------
Income from continuing operations, before
federal income tax 10,080 9,955 21,757 19,479
-------- ------- -------- -------
Federal income tax expense (benefit):
Current (328) 642 5,163 1,824
Deferred 2,037 427 (2,073) 415
-------- ------- -------- -------
Total federal income tax expense 1,709 1,069 3,090 2,239
-------- ------- -------- -------
Income (loss) from discontinued operations, net
of tax (712) 4 (708) (49)
Gain on disposition of discontinued operations,
net of tax 586 - 586 -
-------- ------- -------- -------
Total discontinued operations, net of tax (126) 4 (122) (49)
-------- ------- -------- -------
Net income $ 8,245 8,890 $ 18,545 17,191
======== ======= ======== =======
Earnings per share:
Basic net income from continuing operations $ 0.33 0.36 $ 0.75 0.70
Basic net income (loss) from discontinued
operations - - (0.01) -
-------- ------- -------- -------
Basic net income 0.33 0.36 0.74 0.70
Diluted net income from continuing operations $ 0.31 0.34 $ 0.70 0.66
Diluted net income (loss) from discontinued
operations - - - -
-------- ------- -------- -------
Diluted net income 0.31 0.34 0.70 0.66
Dividends to stockholders $ 0.15 0.15 $ 0.30 0.30

See accompanying notes to unaudited interim consolidated financial statements.

3

SELECTIVE INSURANCE GROUP, INC.
Consolidated Statements of Stockholders' Equity

Unaudited
June 30,
--------------------------------------------------------
(in thousands, except per share amounts) 2002 2001
- ---------------------------------------- ----------------------- ---------------------

Common stock:
Beginning of year $ 79,177 77,568
Dividend reinvestment plan
(shares: 23,052-2002;24,806-2001) 46 49
Convertible subordinated debentures
(shares: 18,219-2002; 1,835-2001) 37 4
Stock purchase and compensation plans
(shares: 523,305-2002; 512,749-2001) 1,047 1,025
--------- --------
End of period 80,307 78,646
--------- --------
Additional paid-in capital:
Beginning of year 77,126 63,074
Dividend reinvestment plan 525 524
Convertible subordinated debentures 92 9
Stock purchase and compensation plans 10,966 9,572
--------- --------
End of period 88,709 73,179
--------- --------
Retained earnings:
Beginning of year 536,188 525,669
Net income 18,545 18,545 17,191 17,191
Cash dividends to stockholders ($0.30 per share) (7,707) (7,577)
--------- --------
End of period 547,026 535,283
--------- --------
Accumulated other comprehensive income:
Beginning of year 98,037 99,325
Other comprehensive income (loss),
increase (decrease) in net unrealized gains
on available-for-sale securities,
net of deferred income tax effect 2,423 2,423 (828) (828)
--------- ------ --------- ------
End of period 100,460 98,497
--------- --------
Comprehensive income 20,968 16,363
====== ======
Treasury stock:
Beginning of year (192,284) (181,552)
Acquisition of treasury stock
(shares 96,200-2002; 346,125-2001) (2,221) (7,743)
--------- --------
End of period (194,505) (189,295)
--------- --------
Deferred compensation expense and notes receivable
from stock sales:
Beginning of year (7,084) (6,287)
Deferred compensation expense (5,085) (4,995)
Amortization of deferred compensation expense
and amounts received on notes 2,426 1,764
--------- --------
End of period (9,743) (9,518)
--------- --------
Total stockholders' equity $ 612,254 586,792
========= ========

See accompanying notes to unaudited interim consolidated financial statements.

4

SELECTIVE INSURANCE GROUP, INC.
Consolidated Statements of Cash Flows

Unaudited
Six Months ended June 30,
-------------------------
(in thousands) 2002 2001
- -------------- --------- --------

OPERATING ACTIVITIES
Net income $ 18,545 17,191
--------- --------
Adjustments to reconcile net income to net cash provided by operating
activities:
(Decrease) increase in reserves for losses and loss expenses, net of
reinsurance recoverable on unpaid losses and loss expenses 48,910 (1,145)
Net increase in unearned premiums and prepaid reinsurance premiums 70,938 46,330
Federal income tax (1,919) 1,740
Depreciation and amortization 6,642 7,575
Increase in premiums receivables (65,257) (42,821)
Increase in other trade receivables (1,006) (2,174)
Increase in deferred policy acquisition costs (19,904) (12,943)
(Increase) decrease in interest and dividends due or accrued 162 (270)
(Increase) decrease in reinsurance recoverable on paid losses and loss
expenses 6,491 (4,523)
Net realized (gains) losses on investments 302 (2,404)
Net realized (gain) on sale of subsidiary (901) -
Other - net 9,434 (1,585)
--------- --------
Net adjustments 53,892 (12,220)
--------- --------
Net cash provided by operating activities 72,437 4,971
--------- --------
INVESTING ACTIVITIES
Purchase of debt securities, available-for-sale (324,718) (161,001)
Purchase of equity securities, available-for-sale (2,678) (14,884)
Purchase of other investments (688) (562)
Purchase adjustments of subsidiaries acquired (net of cash equivalents
acquired of $1,127) (3,139) (97)
Sale of subsidiary (net of cash of $385) 15,421 -
Sale of debt securities, available-for-sale 148,837 17,507
Redemption and maturities of debt securities, held-to-maturity 31,883 26,436
Redemption and maturities of debt securities, available-for-sale 39,417 56,637
Sale of equity securities, available-for-sale 15,342 10,331
Proceeds from other investments 6 5
Increase in net payable for security transactions 832 8,358
Net additions to real estate, furniture, equipment and software
development (6,729) (2,979)
--------- --------
Net cash used in investing activities (86,214) (60,249)
--------- --------
FINANCING ACTIVITIES
Dividends to stockholders (7,707) (7,577)
Acquisition of treasury stock (2,221) (7,743)
Net proceeds from dividend reinvestment plan 571 573
Net proceeds from stock purchase and compensation plans 12,015 10,597
Increase in deferred compensation expense and amounts received on notes
receivable from stock sales (4,980) (4,959)
--------- --------
Net cash (used in) financing activities (2,322) (9,109)
--------- --------
Net decrease in short-term investments and cash (16,099) (64,387)
Short-term investments and cash at beginning of year 26,450 104,667
--------- --------
Short-term investments and cash at end of year $ 10,351 40,280
========= ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION
Cash paid during the period for:
Interest $ 6,836 7,118
Federal income tax 4,300 --
Supplemental schedule of non-cash financing activity:
Conversion of convertible subordinated debentures 127 13

See accompanying notes to unaudited interim consolidated financial statements.

5

NOTES TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS

1. BASIS OF PRESENTATION

The interim consolidated financial statements are unaudited, but reflect
all adjustments which, in the opinion of management, are necessary to
provide a fair statement of the results of the Selective Insurance Group,
Inc. (Selective) and its consolidated subsidiaries (Company) for the
interim periods presented. All such adjustments are of a normal recurring
nature. The results of operations for any interim period are not
necessarily indicative of results for a full year. These interim
consolidated financial statements should be read in conjunction with the
consolidated financial statements and notes thereto contained in our Annual
Report on Form 10-K for the year ended December 31, 2001.

2. RECLASSIFICATIONS

Certain amounts in the Company's prior year interim consolidated financial
statements have been reclassified to conform to the 2002 presentation. Such
reclassification had no effect on the Company's net income or stockholders'
equity.

3. ADOPTION OF ACCOUNTING PRONOUNCEMENTS

As of January 1, 2002 we adopted Financial Accounting Standards Board
(FASB) Statement of Financial Accounting Standards No. 142, "Goodwill and
Other Intangible Assets" (FAS 142). FAS 142 addresses the initial
recognition and measurement of goodwill and other intangible assets. FAS
142 changes the accounting for goodwill and intangible assets that have
indefinite useful lives from an amortization approach to an impairment-only
approach that requires those assets to be tested at least annually for
impairment. The statement is applied to all goodwill and other intangible
assets recognized in an entity's financial statements at that date.
Impairment losses that arise due to the initial application of FAS 142
(resulting from an impairment test) are to be reported as a change in
accounting principle. No such impairments were recorded during the six
months ended June 30, 2002 (Six Months 2002). Goodwill amortization
expense, which is included in other expenses on the Consolidated Statements
of Income and mainly in the Diversified Insurance Services segment, was
$0.8 million for the quarter ended June 30, 2001 (Second Quarter 2001) and
$1.6 million for the six months ended June 30, 2001 (Six Months 2001).

4. PENDING ACCOUNTING PRONOUNCEMENTS

In June 2001, the FASB issued Statement of Financial Accounting Standards
No.143, "Accounting for Asset Retirement Obligations" (FAS 143). FAS 143
addresses financial accounting and reporting for obligations associated
with the retirement of tangible long-lived assets and the associated asset
retirement costs. This Statement requires that the fair value of a
liability for an asset retirement obligation be recognized in the period in
which it is incurred if a reasonable estimate of fair value can be made.
The associated asset retirement costs are capitalized as part of the
carrying amount of the long-lived asset. The provisions of this Statement
are effective for financial statements issued for fiscal years beginning
after June 15, 2002, with early application encouraged. We do not
anticipate the adoption of this statement to have a material effect on the
Company's results of operations or financial condition.

In July 2002, the FASB issued Statement of Financial Accounting Standards
No 146, "Obligations Associated with Disposal Activities" (FAS 146). FAS
146 addresses financial accounting and reporting for costs associated with
a disposal activity. This statement requires a liability for a disposal
obligation be recognized and measured at its fair value when it is incurred
and that the guidance of FASB Statement No. 5, "Accounting for
Contingencies", and FASB Interpretation No. 14, "Reasonable Estimation of
the Amount of a Loss", do not apply to the recognition and measurement of
the liability. The provisions of this Statement are effective for disposal
activities initiated after December 31, 2002, with early application
encouraged. We do not anticipate the adoption of this statement to have a
material effect on the Company's results of operations or financial
condition.

5. DISCONTINUED OPERATIONS

In December 2001, the Company's management adopted a plan to divest itself
of its 100% ownership interest in PDA Software Services, Inc. (PDA). During
May 2002, the Company sold all of the issued and outstanding shares of
capital stock and certain software applications of PDA for proceeds of
$16.5 million at a net gain of $0.6 million. This gain is included in
income(loss) from discontinued operations, on the Consolidated Statements
of Income. The amount of tax expense (benefit) included in income (loss)
from discontinued operations is $(381,000) for the quarter ended June 30,
2002, (Second Quarter 2002) and $(371,000) for Six Months 2002. The
comparable amounts for the same periods in 2001 are $32,000 and $17,000
respectively. The amount of tax expense for the Second Quarter 2002 and Six
Months 2002 for the gain on disposition of discontinued operations is $0.4
million. We have reclassified our June 30, 2001 interim consolidated
financial statements to present the operating results of PDA as a
discontinued operation.

6

Operating results from discontinued operations are as follows:

UNAUDITED, UNAUDITED,
QUARTER ENDED SIX MONTHS
JUNE 30, ENDED JUNE 30,
------------------ ------------------
(in thousands) 2002 2001 2002 2001
- -------------- ------- ----- ------- -----

Net revenue $ 3,729 4,827 $ 8,186 9,519

Pre-tax income (loss) (1,092) 36 (1,085) (32)

Net income (loss) $ (712) 4 $ (708) (49)

6. SEGMENT INFORMATION

The Company is primarily engaged in writing property and casualty
insurance. The Company has classified its business into three segments:
Insurance Operations (commercial lines underwriting and personal lines
underwriting), Investments, and Diversified Insurance Services (managed
care, flood insurance and professional employer organization). Insurance
Operations is evaluated based on its underwriting results prepared in
accordance with accounting principles generally accepted in the United
States of America (GAAP); Investments are evaluated based on after-tax
investment returns; and the Diversified Insurance Services are evaluated
based on several measures including, but not limited to, results of
operations in accordance with GAAP. Our Diversified Insurance Services
segment consists of managed care, flood insurance and professional employer
organization (PEO) operations. The segment results are determined taking
into account the net revenues generated in each of the businesses, less the
costs of operations. Prior year software development and program
administration amounts have been reclassified as discontinued operations.
See Note 5 of this report on Form 10-Q for further discussion of
discontinued operations.

Selective and its subsidiaries provide services to each other in the normal
course of business. These transactions totaled $5 million for the Second
Quarter 2002 and $20 million for Six Months 2002, compared to $3 million
for Second Quarter 2001 and $7 million for Six Months 2001. These
transactions were eliminated in all consolidated statements.

In computing the results of each segment, no adjustment is made for
interest expense, net general corporate expenses or federal income taxes.
The Company does not maintain separate investment portfolios for the
segments and, therefore, does not allocate assets to the segments.

7

The following summaries present revenues from continuing operations (net
investment income and net realized gains or losses in the case of the
investments segment) and pre-tax income for the individual segments:

REVENUE FROM CONTINUING OPERATIONS BY SEGMENT

Unaudited, Unaudited,
Quarter ended Six Months ended
June 30, June 30,
--------------------------- ----------------------------
(in thousands) 2002 2001 2002 2001
-------- ------- --------- -------

INSURANCE OPERATIONS:

Commercial lines net premiums
earned $195,192 165,130 $380,230 327,801

Personal lines net premiums
earned 49,306 51,136 98,563 101,482
-------- ------- -------- -------
Total insurance operations
revenues 244,498 216,266 478,793 429,283

INVESTMENTS:

Net investment income 25,100 23,920 49,604 47,728

Net realized gain (loss) on
investments (411) 1,564 (302) 2,404
-------- ------- -------- -------
Total investment revenues 24,689 25,484 49,302 50,132

DIVERSIFIED INSURANCE SERVICES:

Managed Care 6,082 4,632 11,398 9,244

Flood Insurance 4,807 3,423 8,768 6,512

Professional Employer
Organization 9,372 8,737 18,476 17,676

Other 459 382 911 773
-------- ------- -------- -------
Total Diversified Insurance
Services revenues 20,720 17,174 39,553 34,205

Other income 940 690 1,739 1,463
-------- ------- -------- -------
TOTAL REVENUES FROM CONTINUING
OPERATIONS $290,847 259,614 569,387 515,083
======== ======= ======== =======

INCOME OR (LOSS) FROM CONTINUING OPERATIONS BEFORE FEDERAL INCOME TAX BY SEGMENT

Unaudited, Unaudited,
Quarter ended Six Months ended
June 30, June 30,
--------------------- ---------------------
(in thousands) 2002 2001 2002 2001
-------- ------ -------- -------

INSURANCE OPERATIONS:

Commercial lines underwriting $ (6,102) (8,759) $ (9,967) (17,047)

Personal lines underwriting (5,215) (2,713) (10,392) (6,696)
-------- ------- -------- -------
Underwriting loss, before federal
income tax (11,317) (11,472) (20,359) (23,743)

INVESTMENTS:

Net investment income 25,100 23,920 49,604 47,728

Net realized gain (loss) on (411) 1,564 (302) 2,404
investments
-------- ------- -------- -------
Total investment income, before
federal income tax 24,689 25,484 49,302 50,132

DIVERSIFIED INSURANCE SERVICES:

Managed Care 1,099 971 1,915 2,021

Flood Insurance 1,004 400 1,654 751

Professional Employer Organization (624) (244) (848) (125)

Other 120 96 272 206
-------- ------- -------- -------
Total Diversified Insurance
Services, income before federal
income tax 1,599 1,223 2,993 2,853
-------- ------- -------- -------

TOTAL ALL SEGMENTS 14,971 15,235 31,936 29,242

Interest expense (3,499) (3,646) (7,005) (7,293)

General corporate expenses (1,392) (1,634) (3,174) (2,470)
-------- ------- -------- -------
INCOME FROM CONTINUING OPERATIONS,
BEFORE FEDERAL INCOME TAX $ 10,080 9,955 $ 21,757 19,479
======== ======= ======== =======

8

7. REINSURANCE

The following is a table of assumed and ceded amounts by income statement
caption:

Unaudited, Unaudited,
Quarter ended June 30, Six Months ended June 30,
----------------------- -------------------------
(in thousands) 2002 2001 2002 2001
- -------------- -------- ------- -------- --------

Premiums written:
Assumed $ 3,760 2,355 $ 9,416 7,515
Ceded (32,537) (26,313) (63,381) (51,125)
Premiums earned:
Assumed 4,910 3,756 9,574 7,253
Ceded (31,190) (25,377) (61,138) (50,471)
Losses incurred:
Assumed 5,679 3,067 8,917 8,754
Ceded1 (8,759) (15,140) (21,724) (39,126)
Loss expenses incurred:
Assumed 314 214 619 394
Ceded (822) (743) (1,347) (1,087)

(1) Ceded losses decreased for Second Quarter 2002 and the Six Months
2002 compared to the corresponding periods in the prior year due to: i) a
decrease in casualty losses of $3 million for the Second Quarter 2002 and a
decrease in property losses of $14 million for the Six Months 2002; and ii)
a decrease in direct flood losses that we 100% cede to the National Flood
Insurance Program.

8. COMPREHENSIVE INCOME

The Company's comprehensive income for Second Quarter 2002, Six Months
2002, and the corresponding periods in the prior year are:

UNAUDITED, UNAUDITED,
QUARTER ENDED SIX MONTHS
JUNE 30, ENDED JUNE 30,
-------------------- ------------------
(in thousands) 2002 2001 2002 2001
- -------------- ------- ------ ------- ------

Net income $ 8,245 8,890 $18,545 17,191
Other comprehensive income (loss),
increase (decrease) in net unrealized
gains on available-for-sale
securities, net of deferred income
tax effect 8,443 1,540 2,423 (828)
------- ------ ------- ------
Comprehensive income $16,688 10,430 $20,968 16,363
======= ====== ======= ======

9. CONCENTRATION OF CREDIT RISK

Financial instruments that could potentially subject the Company to
concentration of credit risk include accounts receivable associated with
our PEO clients. A PEO contractually assumes substantial employer rights,
responsibilities and risks of its clients' employees, who are considered
co-employees. The PEO's accounts receivable, which are included in other
trade receivables on the consolidated balance sheets, consist of service
fees to be paid by its clients. Under the accrual method, earned but
unpaid wages at the end of each period related to the Company's worksite
employees are recognized as an accrued payroll liability as well as an
account receivable during the period in which wages are earned by the
worksite employee. Subsequent to the end of each period, such wages are
paid and the related PEO service fees are billed. Accrued PEO payroll was
$15.5 million as of June 30, 2002 and $13.7 million as of June 30, 2001.
Certain states limit a PEO's liability for earned payroll to minimum wage.
This would reduce the Company's potential liability for accrued PEO
payroll.

In the event that a client does not pay their related payroll and service
fees prior to the applicable payroll date, the Company has the right to
cancel the PEO contract or at its option, require letters of credit or
other collateral. The Company has generally not required such collateral.
As of June 30, 2002 the maximum exposure to any one account for earned
payroll is approximately $9.5 million. If the financial condition of a
client were to deteriorate rapidly, resulting in nonpayment, the Company's
accounts receivable balances could grow and the Company could be required
to provide for allowances, which would decrease net income in the period
that such determination was made.

9

10. SUBSEQUENT EVENT

Our property and casualty excess of loss treaties were renewed effective
July 1, 2002. Under our casualty treaty, the Company retains the first $2
million of any casualty loss as well as 25% of the next $3 million in
losses paid in excess of the $2 million retention. In 2001, the Company
retained only 15% of this layer. The casualty program provides coverage of
$48 million in excess of the Company's $2 million retention. The casualty
contract includes one annual aggregate limit by coverage layer for a
terrorism loss. Nuclear, biological and chemical losses are excluded, but
there is no exclusion for mold losses or cyber risks.

The property excess of loss structure remained unchanged with coverage of
up to $13 million per risk in excess of the Company's retention of $2
million. This treaty includes terrorism coverage for all risks that are
under $50 million in total insured value, with annual aggregate limits of
$9 million for the first layer, $15 million for the second layer and $10
million for the third layer. Nuclear, biological and chemical losses are
excluded, but there is no exclusion for mold losses or cyber risks.

The estimated reinsurance cost for the property and casualty excess of loss
treaties increased approximately $8 million over the fiscal year ending
June 2002.

FORWARD LOOKING STATEMENTS

Some of the statements in this report, including information included or
incorporated by reference, are not historical facts and therefore may be
considered "forward-looking statements" (as defined in the Private Securities
Litigation Reform Act of 1995). These statements use words such terms as
"believes" , "expects" , "may" , "will" , "should" , "anticipates" , "benefits",
the negatives thereof, and other similar words, and, among other things describe
our current strategies, opinions, expectations of future results and other
forward-looking information. We derive forward-looking information from
information we currently have and numerous assumptions which we make. We cannot
assure that results which we anticipate will be achieved, since results may
differ materially because of both known and unknown risks and uncertainties
which we face. Factors which could cause actual results to differ materially
from our expectations include but are not limited to: |X| Economic, market or
regulatory conditions;

- - Cost and availability of reinsurance;
- - Risks associated with Selective's entry into new markets;
- - Selective's geographic diversification;
- - Weather conditions, including severity and frequency of
storms, hurricanes, snowfalls, hail and winter conditions;
- - Occurrence of significant natural or man-made disasters;
- - Uncertainties related to rate increases and business retention;
- - Legislative and regulatory developments, including changes in New Jersey
automobile insurance laws and regulations;
- - The adequacy of loss reserves;
- - Fluctuations in interest rates and performance of the financial
markets; and
- - Other risks and uncertainties we identify in this report and other filings
with the Securities and Exchange Commission, although we do not promise to
update such forward-looking statements to reflect actual results or
changes in assumptions or other factors that could affect
these statements.

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

The following discussion relates to our results of operations, financial
condition and liquidity for the interim periods indicated.

RESULTS OF OPERATIONS

The following discussion is a comparison of the second quarter ended June 30,
2002 (Second Quarter 2002) and the six month period ended June 30, 2002 (Six
Months 2002) to the second quarter ended June 30, 2001 (Second Quarter 2001) and
the six month period ended June 30, 2001 (Six Months 2001).

Our net income was $8.2 million, or $0.31 per diluted share, for Second Quarter
2002 compared to $8.9 million, or $0.34 per diluted share, for Second Quarter
2001. Our net income was $18.5 million, or $0.70 per diluted share, for Six
Months 2002 compared to $17.2 million, or $0.66 per diluted share, for Six
Months 2001. Operating income was $8.6 million, or $0.32 per diluted share, for
Second Quarter 2002 compared to $7.9 million, or $0.30 per diluted share, for
Second Quarter 2001. Our operating income was $18.9 million, or $0.71 per
diluted share, for Six Months 2002 compared to $15.6 million, or $0.60 per
diluted share, for Six Months 2001. Operating income, which differs from net
income by the exclusion of realized gains or losses on investment sales, is used
as an important financial measure by management, analysts and investors but is
not intended as a substitute for net income prepared in accordance with
accounting principles generally accepted in the United States of America (GAAP).

10

OPERATING SEGMENTS

The Company is primarily engaged in writing property and casualty insurance. The
Company has classified its businesses into three segments: Insurance Operations
(commercial lines underwriting, personal lines underwriting), Investments, and
Diversified Insurance Services (managed care, flood insurance and professional
employer organization). Insurance Operations are evaluated by the Company based
on their GAAP underwriting results; Investments are evaluated based on after-tax
investment returns; and the Diversified Insurance Services are evaluated based
on several measures including, but not limited to, results of operations in
accordance with GAAP. For an additional description of accounting policies,
refer to Note 1 to our Consolidated Financial Statements on pages 35 through 37
of our 2001 Annual Report to Shareholders (incorporated herein by reference to
Exhibit 13 to our Annual Report on Form 10-K for the year ended December 31,
2001) and the section entitled "Critical Accounting Policies" on page 16 of this
report on Form 10-Q. See Note 6 to the June 30, 2002 unaudited interim
consolidated financial statements on pages 7 and 8 of this report on Form 10-Q
for revenues and related income before federal income tax for each individual
segment discussed below.

Insurance Operations Segment

ALL LINES Unaudited, Unaudited,
Quarter ended June 30, Six Months ended June 30,
------------------------- -------------------------
($ in thousands) 2002 2001 2002 2001
- ---------------- --------- ------- --------- -------

GAAP INSURANCE OPERATIONS RESULTS
Net premiums written $ 268,287 235,697 549,732 475,613
========= ======= ======= =======
Net premiums earned $ 244,498 216,266 478,793 429,283

Losses and loss expenses incurred 179,100 158,615 349,977 315,573

Net underwriting expenses 75,309 67,078 145,848 133,653
incurred

Dividends to policyholders 1,406 2,045 3,327 3,800
--------- ------- ------- -------
Underwriting loss $ (11,317) (11,472) (20,359) (23,743)
--------- ------- ------- -------
GAAP RATIOS:

Loss and loss expense ratio 73.2% 73.3 73.1% 73.5

Underwriting expense ratio 30.8% 31.1 30.5% 31.1

Dividends to policyholders ratio 0.6% 0.9 0.7% 0.9
--------- ------- ------- -------
Combined ratio 104.6% 105.3 104.3% 105.5
========= ======= ======= =======

Net premiums written increased by approximately $33 million, or 14%, to $268
million in Second Quarter 2002 and $74 million, or 16%, to $550 million in Six
Months 2002 when compared to the same periods last year. Net premiums written
for Second Quarter 2002 included $55 million in net new business written, an
increase of 22% compared to $45 million in Second Quarter 2001. Six Months 2002
included $127 million in net new business written, a 31% increase over $97
million for Six Months 2001.

Commercial lines net premiums written increased 18% for Second Quarter 2002 and
20% for Six Months 2002 when compared to the same periods last year. The
increase reflected an average commercial lines renewal premium increase of 19%
for both periods in 2002. Personal lines net premiums written declined 1% for
Second Quarter 2002 due to a decrease in the number of New Jersey private
passenger automobile policies written. Partially offsetting the decline were
rate increases in various lines of business and regions, including rate and tier
changes averaging 8% in our New Jersey private passenger automobile business.

The combined ratio decreased 0.7 points to 104.6% for Second Quarter 2002 and
1.2 points to 104.3% for Six Months 2002 when compared to the same periods last
year. The improvement is primarily due to the increased premium rates in our
commercial lines business, which comprises over 80% of our insurance operations,
partially offset by adverse loss development in the quarter of 2 points in
various lines combined with catastrophe losses of $5.6 million for Second
Quarter 2002 and $7.2 million for Six Months 2002 compared to $1.6 million and
$2.4 million for the same periods last year.

The underwriting expense ratio decreased 0.3 points to 30.8% for Second Quarter
2002 and decreased 0.6 points to 30.5% for Six Months 2002 compared to the same
periods last year. Certain costs that vary with premium volume declined, mainly
direct commission expense, due to lower commissions paid to independent
insurance agents. Because expenses are recognized in relation to earned premium,
these savings do not immediately impact our results, but will have an impact in
future periods. Overall productivity, as measured by fiscal year net premiums
written per Insurance Operations employee, was approximately $574,000 for the
twelve-month period ended June 30, 2002, up from $495,000 for the same period
last year. Our strategic initiatives which are designed to either reduce costs
and/or increase business include: i) streamlined processing for small commercial
lines accounts (One & Done); ii) a web-based commercial lines automated system,
and iii) a claims Service Center in Virginia. These initiatives are expected to
continue to reduce our expense ratio and increase our productivity measure.

11

Commercial Lines Underwriting

Unaudited, Unaudited,
Quarter Six Months
COMMERCIAL LINES ended June 30, ended June 30,
---------------------- ----------------------
($ in thousands) 2002 2001 2002 2001
- ---------------- -------- ------- -------- -------

GAAP INSURANCE OPERATIONS RESULTS
Net premiums written $214,847 182,005 $446,761 371,564
======== ======= ======== =======
Net premiums earned $195,192 165,130 $380,230 327,801
Losses and loss expenses incurred 138,205 117,586 269,902 235,380
Net underwriting expenses incurred 61,683 54,258 116,968 105,668
Dividends to policyholders 1,406 2,045 3,327 3,800
-------- ------- -------- -------
Underwriting loss $ (6,102) (8,759) $ (9,967) (17,047)
-------- ------- -------- -------
GAAP RATIOS:
Loss and loss expense ratio 70.8% 71.2 70.9% 71.8
Underwriting expense ratio 31.6% 32.9 30.8% 32.2
Dividends to policyholders ratio 0.7% 1.2 0.9% 1.2
-------- ------- -------- -------
Combined ratio 103.1% 105.3 102.6% 105.2
======== ======= ======== =======

Commercial Lines Underwriting accounted for approximately 81% of net premiums
written in Six Months 2002 compared to 78% in Six Months 2001.

Net premiums written increased $33 million, or 18%, to $215 million for Second
Quarter 2002 and $75 million, or 20%, to $447 million for Six Months 2002
compared to the same periods in 2001. Net premiums written included $48 million
in net new business written for Second Quarter 2002, a 26% increase when
compared to $38 million in net new business written for Second Quarter 2001, and
$115 million in net new business written in Six Months 2002, a 40% increase when
compared to $82 million in net new business written in Six Months 2001.

With commercial lines comprising over 80% of our overall net premiums written,
we are taking advantage of the positive pricing trends in the marketplace and
these price increases are expected to continue to have a favorable impact on our
overall results. In both the Second Quarter 2002 and Six Months 2002, we
increased average renewal premium year over year by approximately 19%.

For Second Quarter 2002, the Commercial Lines combined ratio decreased 2.2
points to 103.1% and decreased 2.6 points to 102.6% for Six Months 2002 when
compared to the same periods in 2001. The lower combined ratios for 2002 reflect
renewal premium price increases, partially offset by adverse loss development of
3 points in various lines combined with catastrophe losses of approximately $4.1
million in the Second Quarter 2002 and $5.2 million for the Six Months 2002.
Catastrophe losses were $1.2 million for Second Quarter 2001 and $1.8 million
for Six Months 2001. Earned premium increases are currently outpacing loss
trends by over 7 points. Also contributing to the improving combined ratio is
lower dividends paid to policyholders on dividend eligible workers' compensation
policies. As part of our efforts to reduce these dividend expenses, workers'
compensation policies eligible for loss experience based dividends have declined
to 995 policies through the Six Months 2002, compared to 1,609 policies in the
corresponding period in 2001.

Personal Lines Underwriting

Unaudited, Unaudited,
PERSONAL LINES Quarter ended June 30, Six Months ended June 30,
---------------------- -------------------------
($ in thousands) 2002 2001 2002 2001
- ---------------- ------- ------ -------- -------

GAAP INSURANCE OPERATIONS RESULTS

Net premiums written $53,440 53,692 $102,971 104,049
======= ====== ======== =======

Net premiums earned $49,306 51,136 $ 98,563 101,482

Losses and loss expenses incurred 40,895 41,029 80,075 80,193

Net underwriting expenses incurred 13,626 12,820 28,880 27,985
------- ------ -------- -------
Underwriting (loss) $(5,215) (2,713) $(10,392) (6,696)
------- ------ -------- -------
GAAP RATIOS:

Loss and loss expense ratio 82.9% 80.2 81.2% 79.0

Underwriting expense ratio 27.6% 25.1 29.3% 27.6
------- ------ -------- -------
Combined ratio 110.5% 105.3 110.5% 106.6
======= ====== ======== =======

Personal Lines Underwriting accounted for approximately 19% of net premiums
written for Six Months 2002 compared to 22% for Six Months 2001.

Personal Lines Underwriting net premiums written decreased $0.3 million, or
0.5%, to $53 million for Second Quarter 2002 and $1.1 million, or 1%, to $103
million for Six Months 2002 when compared to the same periods in 2001. Net
premiums written

12

included net new business written of $7 million in Second Quarter 2002,
consistent with Second Quarter 2001, and $12 million net new business written in
Six Months 2002, a 20% decrease when compared to $15 million written in Six
Months 2001.

Personal Lines Underwriting combined ratio was 110.5% for Second Quarter 2002,
up 5.2 points from the same period in 2001. The increase reflects: (i) a greater
number of weather-related catastrophes, mainly in our homeowners line of
business: $1.5 million in Second Quarter 2002 compared to$0.4 million in Second
Quarter 2001, and (ii) deteriorating automobile results in New York State where
our statutory combined ratio increased 34 points, to 151.9%, due to significant
rate inadequacy in the New York assigned risk plan. This deterioration reaffirms
our decision to cease writing new personal lines business there. As long as our
current business continues to renew, the assigned risk charges will continue to
adversely impact results.

Personal Lines Underwriting combined ratio was 110.5% for Six Months 2002, up
3.9 points from the same period in 2001. The increase is attributable to the
same reasons as described above, but was offset by the absence of significant
weather-related catastrophes in the first three months of the year.

We remain encouraged by signs of progress in the New Jersey personal automobile
marketplace. Our average premium per vehicle was up 8% for the quarter,
reflecting price initiatives over the last three quarters. Our commissions paid
during the quarter decreased $1.1 million, compared to the same period last
year, since we've brought our commission schedule more in line with competitors.
Also, the number of insured vehicles has declined 5% from the end of 2001, to
115,300 vehicles at the end of June. This brings our market share to
approximately 2.3%, down from 2.5% last year and a high of 4.1% in 1998.

Reinsurance

The Insurance Subsidiaries follow the customary practice of ceding a portion of
their risks and paying to reinsurers a portion of the premiums received under
the policies. This reinsurance program permits greater diversification of
business and the ability to offer increased coverage while limiting maximum net
losses. The Insurance Subsidiaries are parties to reinsurance contracts under
which certain types of policies are automatically reinsured without the need for
approval by the reinsurer of individual risks covered (treaty reinsurance),
reinsurance contracts handled on an individual policy or per-risk basis
requiring the agreement of the reinsurer as to each risk insured (facultative
reinsurance) and limits (automatic facultative reinsurance). Reinsurance does
not legally discharge an insurer from its liability for the full face amount of
its policies, but does make the reinsurer liable to the insurer to the extent of
the reinsurance ceded.

Our property and casualty excess of loss treaties were renewed effective July 1,
2002, with significant, although expected, increases in premium rates and
changes in the structure. The reinsurance market continues to be constrained
following the heavy losses sustained by the industry from the September 11th
attacks, as well as concerns about industry wide asbestos and environmental
claims. Although we have less exposure to these risks, they still impact us.
Under our casualty treaty, the Company retains the first $2 million of any
casualty loss as well as 25% of the next $3 million in losses paid in excess of
the $2 million retention. In 2001, the Company retained only 15% of this layer.
The casualty program provides coverage of $48 million in excess of the Company's
$2 million retention. Nuclear, biological and chemical losses are excluded, but
there is no exclusion for mold or cyber risk. The property excess of loss
structure remained unchanged with coverage of up to $13 million per risk in
excess of the Company's retention of $2 million. This treaty includes terrorism
coverage for all risks that are under $50 million in total insurable value, with
annual aggregate limits of $9 million for the first layer, $15 million for the
second layer and $10 million for the third layer. Nuclear, biological and
chemical losses are excluded. As with the casualty treaty there is no exclusion
for mold or cyber risks in this contract.

The estimated reinsurance cost for the property and casualty excess of loss
treaties, including change in the first layer participation on the casualty
treaty, increased approximately $8 million, over the fiscal year ending June
2002.

Investments Segment

Net investment income earned for Second Quarter 2002 was $25 million compared to
$24 million for Second Quarter 2001 and $50 million for Six Months 2002 compared
to $48 million for Six Months 2001. Net investment income earned after-tax for
Second Quarter 2002 was $19 million compared to $18 million for the same period
last year and $37 million for Six Months 2002 compared to $36 million for Six
Months 2001. We had a 4.0% annualized after-tax investment yield for Six Months
2002, down slightly from 4.2% in 2001, reflecting the lower yields currently
available for investment.
The Company realized after-tax investment losses of $0.3 million in Second
Quarter 2002 and $0.2 million in Six Months 2002, compared to realized after-tax
investment gains of $1.0 million and $1.6 million for the same periods in 2001.
Included in these amounts is the sale of bonds from Intermedia Communications,
Inc., a wholly-owned subsidiary of Worldcom, Inc., at a pre-tax loss of $4.2
million. Realized investment gains and losses fluctuate based on investment
decisions regarding individual securities as well as tax planning
considerations. The Company reviews its investment portfolio quarterly for other
than temporary declines in market value. When the decline in the fair market
value of an individual security is deemed to be other than temporary, the
difference between cost and fair market value is charged to income as a realized
investment loss. The Company recorded $6.5

13

million, before tax, for the Six Months 2002 of realized losses from investments
whose market value decline was deemed to be other than temporary. There were no
such losses recorded during the Second Quarter 2002.

The recent turmoil in the financial markets led to unrealized equity losses for
the month of July of $15.6 million, before tax.

DIVERSIFIED INSURANCE SERVICES SEGMENT

Unaudited, Unaudited,
Quarter ended June 30, Six months ended June 30,
------------------------- ---------------------------
($ IN THOUSANDS) 2002 2001 2002 2001
- ---------------- ------- ----- ------- ------

MANAGED CARE

Net revenue $ 6,082 4,632 $11,398 9,244

Pre-tax profit 1,099 971 1,915 2,021

FLOOD INSURANCE

Net revenue 4,807 3,423 8,768 6,512

Pre-tax profit 1,004 400 1,654 751

PROFESSIONAL EMPLOYER ORGANIZATION

Net revenue 9,372 8,737 18,476 17,676

Pre-tax (loss) (624) (244) (848) (125)

OTHER

Net revenue 459 382 911 773

Pre-tax profit 120 96 272 206

TOTAL

Net revenue 20,720 17,174 39,553 34,205

Pre-tax profit 1,599 1,223 2,993 2,853

Net income 1,068 766 2,010 1,823

Return on net revenue 5.2% 4.5 5.1% 5.3

The Diversified Insurance Services segment's continuing operations generated
$20.7 million of revenue and $1.1 million of net income for Second Quarter 2002
compared to $17.1 million of revenue and $0.8 million of net income for the
Second Quarter 2001. Continuing operations from these same businesses generated
$39.6 million of revenue and $2.0 million of net income for Six Months 2002
compared to $34.2 million of revenue and $1.8 million of net income for the same
period in 2001. The segment generated a return on net revenue of 5.2% for the
Second Quarter 2002 and 5.1% for the Six Months 2002, relatively flat compared
to the prior year.

During May 2002, the Company sold all of the issued and outstanding shares of
capital stock and certain software applications of PDA at a net gain of $0.6
million.

Managed Care

Network expansion is a major initiative for our managed care program. During the
Six Months 2002 our medical provider network expanded from approximately 59,600
providers to 80,400. This expansion was primarily the result of the acquisition
of Northeast Health Direct, LLC (NHD) in the first quarter of 2002. NHD is a
16,600 location network that operates in Connecticut and certain regions within
the states of Massachusetts, Vermont, and New Hampshire. NHD generated $0.6
million of revenues for Second Quarter 2002 and $0.8 million for Six Months
2002.

Network and client expansion resulted in increased managed care revenues of
31.3% to $6.1 million for Second Quarter 2002 compared to $4.6 million for
Second Quarter 2001 and increased managed care revenues of 23.3% to $11.4
million for Six Months 2002 compared to $9.2 million for Six Months 2001.
Pre-tax income also increased 13.2% to $1.1 million for Second Quarter 2002
compared to $1.0 million for Second Quarter 2001. More than offsetting the
revenue increases for the Six Months 2002 were higher labor costs and legal
fees, which resulted in decreased pre-tax income of 5.2% to $1.9 million for Six
Months 2002 compared to $2.0 million for Six Months 2001.

Flood Insurance

Flood experienced growth for Second Quarter 2002 and Six Months 2002 as compared
to the same periods a year ago due to the acquisition of two-flood books of
business, both in the second half of 2001. This translated into overall growth
in servicing fees for Second Quarter 2002 of $4.8 million, an increase of 40.4%,
compared to Second Quarter 2001 and $8.8 million for Six Months 2002, an
increase of 34.6%, compared to Six Months 2001. Included in these amounts is $
0.4 for Second Quarter 2002 and $ 0.8 for Six Months 2002 from the acquisitions
of the two-flood books of business.

14

Professional Employer Organization (PEO)

The PEO generated $9.4 million of revenue and $0.6 million of pre-tax loss for
Second Quarter 2002 compared to $8.7 million of revenue and $0.2 million of
pre-tax net loss for the Second Quarter 2001. The PEO also generated $18.5
million of revenue and $0.8 million of net loss for Six Months 2002 compared to
$17.7 million of revenue and $0.1 million of net loss for the same period in
2001. We continue to implement new pricing and cost reduction initiatives,
including the reduction of our workforce by 27% over prior year. In addition,
during the quarter we processed administrative fee increases averaging 10% and
workers' compensation increases of 12% over the same period last year. As of
June 30, 2002, the PEO has approximately 21,000 worksite lives, consistent with
the same period last year. A worksite life is a full time equivalent co-employee
of the PEO. The PEO contractually assumes substantial employer rights,
responsibilities and risks of its client's employees.

New opportunities exist in the PEO marketplace as smaller companies consolidate
or go out of business, and it becomes increasingly difficult for PEOs to secure
workers' compensation coverage for their clients. Selective's underwriting
experience should enable us to identify the better workers' compensation
accounts.

Federal Income Taxes

Total federal income tax expense increased by $0.7 million to $1.7 million for
the Second Quarter 2002 and by $0.9 million to $3.1 million for Six Months 2002.
The increases reflect higher income for the year primarily attributable to a
reduction in underwriting losses. Our effective tax rate differs from the
federal corporate rate of 35% primarily as a result of tax-advantaged investment
income. The effective tax rate for the Six Months 2002, was 14.2%, compared to
11.5% for the same period last year. The increase is attributable to improved
underwriting results and re-balancing our debt securities portfolio. This
re-balancing is increasing our allocation to taxable bonds in order to maximize
after-tax yield.

Financial Condition, Liquidity and Capital Resources

Selective Insurance Group, Inc. (Parent) is an insurance holding company whose
principal assets are investments in its insurance and Diversified Insurance
Services subsidiaries. The Parent's primary means of meeting its liquidity
requirements is through dividends from these subsidiaries. The payment of
dividends from the insurance subsidiaries is governed by state regulatory
requirements, and these dividends are generally payable only from earned surplus
as reported in our statutory Annual Statements as of the preceding December 31.
Dividends from Diversified Insurance Services subsidiaries are restricted only
by the operating needs of those subsidiaries.

The Parent's cash requirements include principal and interest payments on the
various senior notes and subordinated debentures, dividends to stockholders and
general operating expenses, as well as the cost of shares of common stock
repurchased under our common stock repurchase program, which commenced in 1996.
As of June 30, 2002, the Parent had repurchased under the stock repurchase
program a total of 7.3 million shares of its common stock at a total cost of
approximately $140 million. At the May 7, 2002 Board of Directors' Meeting the
expiration date of the program was extended to May 31, 2003. There are
approximately 700,000 shares remaining under the current 8 million shares
repurchase authorization. As indicated on page 27 in our Annual Report to
shareholders for the year ended December 31, 2001, the Company has contractual
obligations pursuant to notes payable of $24 million in 2003.

The Parent generates cash from the sale of its common stock under various stock
plans, the dividend reinvestment program, and from investment income. The Parent
also has available $50.0 million of unused credit lines. As discussed in Note 5
to the interim consolidated financial statements in this report on Form 10-Q,
the Parent sold its software development and program administration operation,
PDA, resulting in $15.4 million of cash flow. This amount was paid as a capital
contribution to the insurance subsidiaries.

Based upon the 2001 statutory financial statements, the insurance subsidiaries
are permitted to pay the Parent in 2002 ordinary dividends in the aggregate
amount of $52 million. Effective May 1, 2002, the South Carolina Department of
Insurance changed their calculation of ordinary dividends they permit companies
to pay. As a result, Selective Insurance Company of South Carolina's ordinary
dividend capacity for 2002 was reduced to $1.5 million from $4.6 million. This
change decreases the permitted aggregate amount of the ordinary dividend the
insurance subsidiaries can pay to Parent in 2002, to $49 million. There can be
no assurance that the insurance subsidiaries will be able to pay dividends to
the Parent in the future in an amount sufficient to enable the Parent to meet
its liquidity requirements. For additional information regarding regulatory
limitations on the payment of dividends by the insurance subsidiaries to the
Parent and amounts available for the payment of such dividends, refer to Note 7
to our Consolidated Financial Statements on page 41 of the Annual Report to
shareholders for the year ended December 31, 2001. Dividends to stockholders are
declared and paid at the discretion of the Board based upon the Company's
operating results, financial condition, capital requirements, contractual
restrictions and other relevant factors. The Parent has paid regular quarterly
cash dividends to its stockholders for 73 consecutive years and currently plans
to continue to pay quarterly cash dividends.

15

For Six Months 2002, cash provided by operating activities was $72.4 million
compared to $5.0 million for Six Months 2001. The improvement is a result of the
significant net premium written growth and improved underwriting results.

Total assets increased 6%, or $162 million, from December 31, 2001 to June 30,
2002. Increased premium volume drove increases in premium receivables of $65
million and deferred policy acquisition costs of $20 million. Invested assets
increased $79 million driven by net purchases of $74 million plus a $4 million
dollar increase in the net unrealized gains on the portfolio. Securities
receivable, classified within other assets, increased $18 million due to bonds
sold in late June that did not settle until July 2002.

Total liabilities increased 7%, or $141 million, from December 31, 2001 to June
30, 2002. Increased premium volume is primarily responsible for increases in
unearned premium reserves of $73 million. Loss and loss expense reserves
increased by $58 million due to growth in insured exposures as well as modest
increases in loss trends. Securities payable, classified within other
liabilities, increased $18 million due to bonds purchased in late June that did
not settle until July 2002.

Critical Accounting Policies

We have identified the policies below as critical to our business operations and
the understanding of our results of operations. For a detailed discussion of the
application of these and other accounting policies, see Note 1 to our
Consolidated Financial Statements on page 35 of the Annual Report to
shareholders for the year ended December 31, 2001. Note that our preparation of
the interim consolidated financial statements requires us to make estimates and
assumptions that affect the reported amount of assets and liabilities,
disclosure of contingent assets and liabilities at the date of our financial
statements, and the reported amounts of revenue and expenses during the
reporting period. There can be no assurance that actual results will not differ
from those estimates.

Reserves for Losses and Loss Expenses

In accordance with industry practice, we maintain reserves for losses and loss
expenses. These reserves are made up of both case reserves and reserves for
claims incurred but not yet reported (IBNR). Case reserves result from a claim
that has been reported to an insurance subsidiary and is estimated at the amount
of ultimate payment. IBNR reserves are established based on generally accepted
actuarial techniques. Such techniques assume that past experience, adjusted for
the effects of current developments and anticipated trends, are an appropriate
basis for predicting future events.

Reserves are reviewed for adequacy on a periodic basis. Based upon such reviews,
we believe that the estimated reserves for losses and loss expenses are adequate
to cover the ultimate cost of claims. The changes in these estimates, resulting
from the continuous review process and the differences between estimates and
ultimate payments, are reflected in the consolidated statements of income for
the period in which such estimates are changed. We do not discount to present
value that portion of our loss reserves expected to be paid in future periods.

Premium Revenue

Net premiums written equal direct premiums written, plus assumed premiums less
ceded premiums. All three components of net premiums written are recognized in
revenue over the period that coverage is provided. The vast majority of our net
premiums written have a coverage period of twelve months. This means we record
1/12 of the net premiums written as earned premium each month, until the full
amount is recognized. It should be noted that when premium rates increase, the
effect of those increases will not immediately affect earned premium. Rather,
those increases will be recognized ratably over the period of coverage. Unearned
premiums and prepaid reinsurance premiums, which are recorded on the balance
sheet, represent that portion of premiums written that are applicable to the
unexpired terms of policies in force.

Deferred Policy Acquisition Costs

Policy acquisition costs, which include commissions, premium taxes, fees, and
certain other costs of underwriting policies, are deferred and amortized over
the same period in which the related premiums are earned. Deferred policy
acquisition costs are limited to the estimated amounts recoverable after
providing for losses and loss expenses that are expected to be incurred, based
upon historical and current experience. Anticipated investment income is
considered in determining whether a premium deficiency exists. The methods of
making such estimates and establishing the deferred costs are continually
reviewed by the Company, and any adjustments therefrom are made in the
accounting period in which the adjustment arose.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes in the information about market risk set
forth in our Annual Report on Form 10-K for the year-ended December 31, 2001.

16

PART II OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS - NONE

ITEM 2. CHANGES IN SECURITIES - NONE

ITEM 3. DEFAULTS UPON SENIOR SECURITIES - NONE

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - NONE

ITEM 5. OTHER INFORMATION - NONE

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits:
The exhibits required by Item 601 of Regulation S-K are listed in
the Exhibit Index, which immediately precedes the exhibits filed
with this Form 10-Q.

(b) Reports on Form 8-K:
There were no reports on Form 8-K filed during the period covered
by this report.

17

SELECTIVE INSURANCE GROUP, INC.

INDEX TO EXHIBITS

Exhibit No.

10.1 Selective Insurance Company of America Deferred Compensation Plan,
effective July 1, 2002, (incorporated herein by reference to Exhibit
99.1 of the Company's Registration Statement on Form S-8, No.
333-97799).

*10.2 Fifth amendment, dated June 28, 2002, effective through June 27,
2003, to the $25,000,000 Line of Credit Agreement dated October 22,
1999, between Wachovia Bank, National Association (formerly known as
First Union National Bank) and Selective Insurance Group, Inc. and
Selective Insurance Company of America.

*11 Statement Re: Computation of Per Share Earnings.

*99.1 Chief Executive Officer and Chief Financial Officer certification of
Form 10-Q.

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* Filed herewith

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized.

SELECTIVE INSURANCE GROUP, INC.
REGISTRANT

By: /s/ Gregory E. Murphy August 13, 2002
- -----------------------------------------------
Gregory E. Murphy
Chairman, President and Chief Executive Officer

By: /s/ Dale A. Thatcher August 13, 2002
- -----------------------------------------------
Dale A. Thatcher
Senior Vice President of Finance, Chief Financial Officer and Treasurer

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