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UNITED STATES

Form 10-Q

American Physicians Capital, Inc.

1301 North Hagadorn Road, East Lansing, Michigan 48823

Registrant’s telephone number, including area code: (517) 351-1150

Securities registered pursuant to Section 12(b) of the Act: None

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES  x       NO  o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act)

YES  x       NO  o

The number of shares outstanding of the registrant’s common stock, no par value per share, as of May 13, 2003 was 8,706,533.

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AMERICAN PHYSICIANS CAPITAL, INC. AND SUBSIDIARIES

ITEM 1. Financial Statements

The accompanying notes are an integral part of the condensed consolidated financial statements.

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AMERICAN PHYSICIANS CAPITAL, INC. AND SUBSIDIARIES

The accompanying notes are an integral part of the condensed consolidated financial statements.

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AMERICAN PHYSICIANS CAPITAL, INC. AND SUBSIDIARIES

The accompanying notes are an integral part of the condensed consolidated financial statements.

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AMERICAN PHYSICIANS CAPITAL, INC. AND SUBSIDIARIES

The accompanying notes are an integral part of the condensed consolidated financial statements.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1.     Basis of Presentation

      The accompanying condensed consolidated financial statements include the accounts of American Physicians Capital, Inc. (“APCapital”) and its wholly owned subsidiaries, together referred to in this report as the “Company.” All significant intercompany accounts and transactions are eliminated in consolidation.

      The Company is principally engaged in the business of providing medical professional liability and workers’ compensation insurance throughout the United States with a concentration of writings in the Midwest.

      The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”) and with the instructions for Form 10-Q and Rule 10-01 of Regulation S-X as they apply to interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements.

      In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. The operating results for the three-month period ended March 31, 2003 are not necessarily indicative of the results to be expected for the year ending December 31, 2003. The accompanying condensed consolidated financial statements should be read with the annual consolidated financial statements and notes contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

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

      The most significant estimates that are susceptible to significant change in the near-term relate to the determination of the losses and loss adjustment expense reserves, investments, taxes, reinsurance and the reserve for extended reporting period claims. Although considerable variability is inherent in these estimates, management believes that the current estimates are reasonable in all material respects. The estimates are reviewed regularly and adjusted as necessary. Such adjustments are reflected in current operations.

      Certain 2002 amounts have been reclassified to conform with the 2003 presentation.

Stock-based Compensation

      The Company uses the intrinsic value-based method to account for all stock-based employee compensation plans and has adopted the disclosure-only alternative of SFAS No. 123 “Accounting for Stock-Based Compensation”, as amended by SFAS No. 148, “Accounting for Stock-Based Compensation”. In accordance with SFAS No. 123, as amended by SFAS No. 148, the Company is required to disclose the pro forma effects on operating results as if the Company had elected the fair value approach to account for all of its stock-based employee compensation plans.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      If compensation had been determined on the fair value at the grant date for awards in the quarters ended March 31, 2003 and 2002, respectively, consistent with the provisions of SFAS No. 123, our net loss and net loss per share would have been follows:

      Such pro forma disclosures may not be representative of future compensation costs because options vest over several years and additional grants are made each year.

      The weighted-average fair value of options granted, measured on the grant date using the Black-Scholes model, was $7.93 per share for the three months ended March 31, 2002. There were no options granted during the three months ended March 31, 2003.

      The fair value of each option grant is estimated on the date of grant using the Black-Scholes valuation model with the following weighted average assumptions:

2.     Loss Per Share

      Net loss per common share is computed by dividing net loss by the weighted average number of shares of common stock and common stock equivalents (e.g., stock options and stock awards) outstanding, calculated on a daily basis. The weighted average shares outstanding were 8,594,572 and 10,029,243 for the three months ended March 31, 2003 and 2002, respectively.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      The following table sets forth the computation of basic and diluted loss per common share:

3.     Segment Information

      The Company is organized and operates principally in the property and casualty insurance industry and has five reportable segments — medical professional liability, workers’ compensation, health, personal and commercial, and corporate and other. The accounting policies of the segments are described in the notes to the financial statements included in the Company’s most recent Annual Report on Form 10-K.

      Expense allocations are based primarily on loss and loss adjustment expenses by line of business and certain other estimates for underwriting expenses. Investment income, investment expense, amortization expense and interest expense are allocated to the segments based on that segment’s “ownership” percentage of

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

the assets or liabilities underlying the income or expense. General and administrative expenses are all attributed to the holding company and are included in corporate and other.

4.     Goodwill

      Effective January 1, 2002, the Company adopted Statement of Financial Accounting Standard (“SFAS”) No. 142, “Goodwill and Other Intangible Assets.” At that date, the only goodwill or other intangible asset recorded by the Company was the $13.9 million associated with the purchase of Stratton-Cheeseman Management Company in 1999. Based on the results of the impairment testing, the recorded net goodwill of $13.9 million was written off as the fair value of the Company’s reporting units did not support the carrying value of previously recorded goodwill. For purposes of the impairment testing, fair value was estimated using various methods, including multiples of projected net income and market capitalization. The goodwill impairment was recorded as a cumulative effect of a change in accounting principle, net of a deferred income tax benefit of $4.9 million. In accordance with the transition guidance given in SFAS No. 142, the goodwill impairment charge, net of tax, that was determined in the fourth quarter of 2002 was recorded in the first quarter of 2002.

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      The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements and the notes thereto included elsewhere in this report and the Company’s Annual Report on Form 10-K for the year ended December 31, 2002. The following discussion of our financial condition and results of operations contains certain forward-looking statements related to our anticipated future financial condition and operating results and our current business plans. When we use words such as “believes,” “expects,” “anticipates,” “estimates” or similar expressions, we are making forward-looking statements. These forward-looking statements represent our outlook only as of the date of this report. While we believe that any forward-looking statements we have made are reasonable, actual results could differ materially since these statements are based on our current expectations and are subject to risks and uncertainties. These risks and uncertainties are detailed from time to time in reports filed by the Company with the Securities and Exchange Commission. See, for example, the disclosures in “Item 1 — Business — Uncertainties Relating to Forward-Looking Statements” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2002, and in other reports filed by the Company with the Securities and Exchange Commission. Other factors not currently anticipated by management may also materially and adversely affect the Company’s financial position and results of operations. The Company does not undertake, and expressly disclaims any obligation, to update or alter its forward-looking statements, whether as a result of new information, future events or otherwise, except as required by applicable law.

      The following analysis utilizes financial results and ratios that are determined in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The property/ casualty insurance industry utilizes some unique financial ratios that can be derived from GAAP amounts that help investors better understand our operations. A description of these ratios is contained in “Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations — Description of Ratios Analyzed” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

      In addition to our reported GAAP loss ratios, we also report accident year loss ratios, which exclude prior year loss reserve development. We believe this ratio is useful in evaluating our current underwriting performance, as it focuses on the relationships between current premiums earned and current losses. Our method of calculating these measures may differ from those used by other companies and, therefore, comparability may be limited.

      We operate primarily in three insurance product segments: medical professional liability, workers’ compensation, and health. Effective December 31, 2001, the Company exited the personal and commercial lines of business. The personal and commercial insurance operating segment will continue to generate income (loss) due to the development of unpaid loss and loss adjustment expenses associated with this segment. See Note 3 of the Notes to Condensed Consolidated Financial Statements, contained elsewhere in this report, for further information regarding the operating results of our business segments.

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      The following table sets forth, for the three-month periods ended March 31, 2003 and 2002, the amount of direct premiums written, net premiums written, and net premiums earned for each of our insurance operating segments.

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Results of Operations — Three Months Ended March 31, 2003, Compared to Three Months Ended March 31, 2002

     Medical Professional Liability Insurance Operations

      The following table sets forth summary premium, loss and expense information regarding the underwriting results of our medical professional liability insurance operations for the three-month periods ended March 31, 2003 and 2002.

      The increase in direct premiums written was primarily the result of premium rate increases. Although the Company has experienced significant policy growth in its Illinois market, it has been mostly offset by a decrease in the number of policies in-force in its Kentucky and Ohio markets, primarily due to significant rate increases and tighter underwriting standards in those markets. In addition, there has been a significant decrease in the number of policies in-force in our Florida market, as described below. The Company is continually seeking regulatory approval of additional rate increases.

      In the second quarter of 2002, the Company announced its intention to discontinue writing medical professional liability insurance in Florida. Medical professional liability direct premiums written in the state of Florida for the year ended December 31, 2002 were $23.6 million, and the Company reported net loss and loss adjustment expenses for that period of $35.2 million relating to its Florida business. The Florida Department of Insurance has approved the Company’s plan to exit this market and in October 2002, the Company began mailing non-renewal notices to medical professional liability policyholders whose renewals would have been effective in December 2002. Florida law requires the Company to offer extended reporting coverage for previously insured periods, commonly referred to as “tail policies,” at the time of non-renewal. Tail policies

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      In January 2003, the Company invested in a start up insurance company managed by the Company’s former third-party-administrator who underwrote its Florida medical professional liability business. This start up insurance company, Physicians Insurance Company, would seek to write as many of the tail policies as its capital and surplus levels would permit, thereby limiting APCapital’s direct exposure to future losses associated with underwriting Florida medical professional liability extended reporting period coverages.

      Net premiums earned increased 19.8%, compared to a 4.8% increase in direct premiums written. The increase in net premiums earned was greater than the increase in direct premiums written as premiums written in 2002 continue to be earned in the first quarter of 2003.

      The decrease in the loss ratio for the three months ended March 31, 2003, compared to the same period in 2002, was primarily the result of the premium rate increases described above.

      Prior accident year loss reserves have developed unfavorably in the first quarter of 2003 by approximately $1 million. This unfavorable development primarily relates to accident years 1999 through 2001 in the Company’s Ohio occurrence market. Claims on occurrence business tend to take longer to be reported than on claims-made medical professional liability policies. In 1999, Ohio was a relatively new market for the Company. The newness of the market, together with the extended reporting period on the Ohio occurrence business, made it difficult for the Company to estimate incurred but not reported claims. In 2002, the Company ceased writing occurrence business in Ohio. Without the unfavorable development on prior accident years, the loss ratio for the three months ended March 31, 2003 would have been 101.8%, which compares favorably with the accident year loss ratio of 106.1% for the entire 2002 accident year. The 4.3% decrease in the accident year loss ratio from accident year 2002 to 2003 was primarily the result of premium rate increases, the exit of our Florida market, as described above, and enhanced claims management.

      The increase in the underwriting expense ratio was primarily the result of a decrease in our ceded commission rate to 20% for the 2003 treaty year, from 25% for the 2002 treaty year. In addition, the Company paid $225,000, its deductible amount, to settle a bad faith claim in Florida during the three months ended March 31, 2003.

      The principal agency through which the Company writes medical professional liability insurance is SCW Agency Group, Inc. (“SCW”), which is principally owned by William Cheeseman, the Company’s president and chief executive officer. The Company’s relationship with SCW is more fully described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002. During the three months ended March 31, 2003, direct premiums written for the Company by SCW totaled $17.7 million and commissions incurred related to SCW totaled $1.4 million, compared to $19.6 million and $1.6 million, respectively, during the three months ended March 31, 2002.

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     Workers’ Compensation Insurance Operations

      The following table sets forth summary premium, loss and expense information regarding the underwriting results of our workers’ compensation insurance operations for the three-month periods ended March 31, 2003 and 2002.