STATE AUTO FINANCIAL CORP - 10-K Annual Report

Back to GetFilings.com

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
--------------------

FORM 10-K

[x] Annual Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the fiscal year ended December 31, 2002

or

[ ] Transition Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 (no fee required)

For the transition period from ___________ to _____________

Commission File Number 0-19289

STATE AUTO FINANCIAL CORPORATION
--------------------------------
(exact name of Registrant as specified in its charter)

Ohio 31-1324304
------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)

518 East Broad Street, Columbus, Ohio 43215-3976
------------------------------------- ----------
(Address of principal executive office) (Zip Code)

Registrant's telephone number, including area code: (614) 464-5000

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

Securities registered pursuant to Section 12(g) of the Act:

Common Shares, without par value
--------------------------------
(Title of class)

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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. _____

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

Yes X No
--- ----

On June 28, 2002, the aggregate market value (based on the closing sales
price on that date) of the voting stock held by non-affiliates of the Registrant
was $208,937,312.

On March 21, 2003, the Registrant had 39,162,572 Common Shares
outstanding.

Page 2

DOCUMENTS INCORPORATED BY REFERENCE

1. Portions of the Registrant's Proxy Statement relating to the annual
meeting of shareholders to be held May 23, 2003, which Proxy Statement
will be filed within 120 days of December 31, 2002, are incorporated by
reference in Part III, Items 10, 11, 12 and 13 of this report.

Page 3

IMPORTANT INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

All statements, other than statements of historical facts, included in
this Form 10-K of State Auto Financial or incorporated herein by reference,
including, without limitation, statements regarding State Auto Financial's
future financial position, business strategy, budgets, projected costs, goals
and plans and objectives of management for future operations, are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. Forward-looking statements generally can be
identified by the use of forward-looking terminology such as "may," "will,"
"expect," "intend," "estimate," "anticipate," "project," "believe" or "continue"
or the negative thereof or variations thereon or similar terminology.
Forward-looking statements speak only as the date the statements were made.
Although State Auto Financial believes that the expectations reflected in
forward-looking statements have a reasonable basis, it can give no assurance
that these expectations will prove to be correct. Forward-looking statements are
subject to risks and uncertainties that could cause actual events or results to
differ materially from those expressed in or implied by the statements. For a
discussion of the most significant risks and uncertainties that could cause
State Auto Financial's actual results to differ materially from those projected,
see Item 7 "Forward-Looking Statements; Certain Factors Affecting Future
Results." Except to the limited extent required by applicable law, State Auto
Financial undertakes no obligation to update or revise any forward-looking
statements, whether as a result of new information, future events, or otherwise.

PART I

ITEM 1. BUSINESS

(a) GENERAL DEVELOPMENT OF BUSINESS

State Auto Financial Corporation ("State Auto Financial" or "STFC") is an
insurance holding company formed in 1990 and headquartered in Columbus, Ohio.
STFC engages primarily in the property and casualty insurance business through
its wholly-owned subsidiaries, State Auto Property and Casualty Insurance
Company ("State Auto P&C"), Milbank Insurance Company ("Milbank"), Farmers
Casualty Insurance Company ("Farmers Casualty"), State Auto Insurance Company of
Ohio ("SA Ohio"), and State Auto National Insurance Company ("National").
Farmers Casualty owns 100% of the outstanding common shares of the
property-casualty insurer, Mid-Plains Insurance Company ("Mid-Plains").

Approximately 67% of State Auto Financial's outstanding common shares are
owned by State Automobile Mutual Insurance Company ("Mutual"), an Ohio mutual
property and casualty insurance company organized in 1921. Mutual owns 100% of
the outstanding common shares of property-casualty insurers, State Auto Florida
Insurance Company ("SA Florida") and State Auto Insurance Company of Wisconsin
("SA Wisconsin"), formerly named Midwest Security Insurance Company. Mutual is
also the sole owner of Meridian Insurance Group, Inc. ("MIGI"), an insurance
holding company with two wholly-owned property and casualty insurance
subsidiaries: Meridian Security Insurance Company ("Meridian Security") and
Meridian Citizens Security Insurance Company ("Meridian Citizens"). In 2001,
Mutual merged with Meridian Mutual Insurance Company ("Meridian Mutual"), with
Mutual continuing as the surviving corporation, and in a substantially
concurrent transaction Mutual acquired the outstanding shares of MIGI. Another
of MIGI's insurance subsidiaries, Insurance Company of Ohio ("ICO"), was
dissolved effective January 15, 2003. MIGI is also a party to an affiliation
agreement with the property-casualty insurer, Meridian Citizens Mutual Insurance
Company ("Meridian Citizens Mutual"). Meridian Security, Meridian Citizens, ICO
and Meridian Citizens Mutual are hereafter referred to collectively as the
"Meridian Insurers," and together with MIGI, they are hereafter referred to
collectively as the "Meridian Companies."

Another wholly-owned subsidiary of STFC is Stateco Financial
Services, Inc. ("Stateco"), which provides investment management services
to affiliated insurance companies. See "Investment Management Services" in
the "Narrative Description of Business." STFC also owns Strategic Insurance
Software, Inc. ("S.I.S."), a developer and seller of insurance-related
software. The limited liability company, 518 Property Management and
Leasing, LLC ("518 PML"), whose members are State Auto P&C and Stateco,
owns and leases real and personal property to affiliated companies. The
results of operations of S.I.S. and 518 PML are insignificant to the total
operations of STFC.

Page 4

State Auto Financial and its subsidiaries, State Auto P&C, Milbank,
Farmers Casualty, SA Ohio, National, Mid-Plains, Stateco, S.I.S., and 518 PML,
are collectively referred to as the "Company."

State Auto P&C has participated in a quota share reinsurance pooling
arrangement with Mutual since 1987 (the "Pooling Arrangement"). The participants
in the Pooling Arrangement currently are State Auto P&C, Mutual, Milbank, SA
Wisconsin, Farmers Casualty, SA Ohio, and SA Florida, collectively referred to
hereafter as the "Pooled Companies." State Auto P&C, Milbank, Farmers Casualty
and SA Ohio are collectively referred to hereafter as the "Pooled Subsidiaries."
Effective January 1, 2003, the pooling percentages were modified as follows:
Mutual (18.3%), State Auto P&C (59%), Milbank (17%), SA Wisconsin (1%), Farmers
Casualty (3%), SA Ohio (1%) and becoming party to the agreement on this same
date, SA Florida (0.7%). See "Pooling Arrangement" in the "Narrative Description
of Business." The Pooled Companies, National, Mid-Plains and the Meridian
Insurers are collectively referred to as the "State Auto Group."

The insurers in the State Auto Group write a broad line of property and
casualty insurance, including standard personal and commercial automobile;
nonstandard personal automobile; homeowners; commercial multi-peril; workers'
compensation; general liability and fire insurance through approximately 22,300
independent insurance agents associated with approximately 3,500 agencies in 26
states. The State Auto Group's insurance products are marketed primarily in the
central and eastern parts of the United States, excluding New York, New Jersey
and the New England States.

(b) FINANCIAL INFORMATION ABOUT SEGMENTS

The Company currently operates in four insurance segments. Prior to 2001,
it operated in two segments: the standard insurance segment, consisting of the
business operations of the Pooled Subsidiaries, and the nonstandard segment,
consisting of the business operations of National and Mid-Plains. With the
merger of Meridian Mutual into Mutual and the July 1, 2001, addition of the
former Meridian Mutual business to the Pooling Arrangement (see "Pooling
Arrangement" in "Narrative Description of Business"), the Company renamed the
two existing insurance segments as the "State Auto Standard Segment" and the
"State Auto Nonstandard Segment" and added two more insurance segments: the
"Meridian Standard Segment," for the standard insurance business of the former
Meridian Mutual, and the "Meridian Nonstandard Segment," for the nonstandard
insurance business of the former Meridian Mutual. Financial information about
all these segments is set forth in Note 15 to the Company's Consolidated
Financial Statements, included in Item 8 "Financial Statements and Supplementary
Data." Additional information regarding the Company's insurance and
non-insurance segments is provided in "Narrative Description of Business."

(c) NARRATIVE DESCRIPTION OF BUSINESS

PROPERTY AND CASUALTY INSURANCE

POOLING ARRANGEMENT

The Pooled Companies are parties to an intercompany Pooling Arrangement
under the Reinsurance Pooling Agreement Amended and Restated as of January 1,
2000, as amended by the First, Second, Third and Fourth Amendments (the "2000
Pooling Agreement"). The Pooling Arrangement covers all the property and
casualty insurance written by the parties, except voluntary assumed reinsurance
written by Mutual and catastrophe inter-company reinsurance written by State
Auto P&C. Under the terms of the Pooling Arrangement, each of the Pooled
Subsidiaries, SA Wisconsin and SA Florida cede premiums, losses and expenses on
all of their business to Mutual; in turn, Mutual cedes to each of the Pooled
Subsidiaries, SA Wisconsin and SA Florida a specified portion of premiums,
losses and expenses and Mutual retains the balance.

Page 5

The following table sets forth a chronology of the participant changes
that have occurred in the Pooling Arrangement since it became effective on
January 1, 1987:

- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
State Farmers SA
Year *** Mutual Auto P&C Milbank SA Wisconsin Casualty SA Ohio Florida
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------

1987-1991 80% 20% N/A N/A N/A N/A N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
1992-1994 70 30 N/A N/A N/A N/A N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
1995-1997 55 35 10* N/A N/A N/A N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
1998 52 37 10** 1 N/A N/A N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
1999 49 37 10 1 3 N/A N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
2000-9/30/2001 46 39 10 1 3 1 N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
10/1/2001-2002 19 59 17 1 3 1 N/A
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------
2003 18.3 59 17 1 3 1 0.7
- ------------------ -------- ----------- --------- --------------- ----------- -------- ----------

* At this time Milbank was a wholly owned subsidiary of Mutual

** In July, 1998 Milbank became a wholly owned subsidiary of STFC

*** Time period is for the year ended December 31, unless otherwise noted.

The following table sets forth a summary of the Pooling Arrangement
participant percentages of STFC and Mutual, aggregating their respective
wholly-owned subsidiaries:

- ---------------------------------------------------------------------------
Mutual (in the
Year*** Pooled Subsidiaries aggregate)
- ---------------------------------------------------------------------------

1987-1991 20% 80%
- ---------------------------------------------------------------------------
1992-1994 30 70
- ---------------------------------------------------------------------------
1995-1997 35 65
- ---------------------------------------------------------------------------
1/1/1998-6/30/1998 37 63
- ---------------------------------------------------------------------------
7/1/1998-12/31/1998 47 53
- ---------------------------------------------------------------------------
1999 50 50
- ---------------------------------------------------------------------------
2000 - 9/30/2001 53 47
- ---------------------------------------------------------------------------
10/1/2001-2003 80 20
- ---------------------------------------------------------------------------

*** Time period is for the year ended December 31, unless otherwise noted.

With the June 2001 merger of Meridian Mutual into Mutual, all insurance
business written by Meridian Mutual legally became the business of Mutual and
was included in the Pooling Arrangement effective July 1, 2001. Representing
approximately 20% of the Pooled Companies' business, the former Meridian Mutual
business is monitored as standard and nonstandard segments separate from the
State Auto standard and nonstandard business. Over time, it is anticipated that
the Meridian segments will decrease and eventually disappear as those segments
are fully integrated over to the State Auto systems platform. See "Standard
Insurance Segment" and "Nonstandard Insurance Segment" in "Narrative Description
of Business."

Prior to 2001, the pooling percentages were reviewed by management at
least annually, and more often if deemed appropriate by management or the Board
of Directors of each company, to determine whether any adjustments should be
made. As a result of the changes made to the pooling percentages in 2001, it is
not management's current intention to recommend an adjustment to the Pooled
Subsidiaries aggregate participation percentage in the foreseeable future. Under
revised procedures, management of each of the Pooled Companies would make
recommendations to an independent committee of the Board of each of Mutual and
STFC. These independent committees would review and evaluate such factors as
they deem relevant and recommend any appropriate pooling change to the Boards of
both Mutual and STFC. See "Management Agreement" in the "Narrative Description
of Business." The Pooling Arrangement is terminable by any party on 90 days'
notice or by mutual agreement of the parties. None of the Pooled Companies
currently intends to terminate the Pooling Arrangement.

The Pooling Arrangement is designed to produce more uniform and stable
underwriting results for each of the Pooled Companies than any one company would
experience individually by spreading the underwriting risk among each of the
participants. Under the terms of the Pooling Arrangement, all

Page 6

premiums, incurred losses, loss expenses and other underwriting expenses are
prorated among the companies on the basis of their participation in the pool.
One effect of the Pooling Arrangement is to provide each participant with an
identical mix of property and casualty insurance business on a net basis.

The 2000 Pooling Agreement contains a provision excluding catastrophic
loss claims and loss adjustment expenses incurred by the parties in the amount
of $100 million in excess of $120 million, as well as the premium for such
exposures. State Auto P&C reinsures each insurer in the State Auto Group for
this layer of reinsurance under a Catastrophe Assumption Agreement. See
"Reinsurance" in the "Narrative Description of Business."

The direct business of the Meridian Insurers is not included in the
Pooling Arrangement and to that extent is not included in the insurance
operations of the Company. If State Auto P&C were required to pay catastrophe
losses of the Meridian Insurers under the above referenced Catastrophe
Assumption Agreement, those losses would impact the Company's results.

MANAGEMENT AGREEMENT

State Auto P&C's employees provide all organizational, operational and
management functions for all insurance affiliates within the State Auto Group
through management and cost sharing agreements. For the performance of its
services under three of the management agreements, State Auto P&C is paid a
quarterly management and operations services fee based on formulas outlined in
the agreements, to the extent specified performance standards are achieved.
Under the 2000 Midwest Management Agreement among State Auto P&C, Mutual and SA
Wisconsin, SA Wisconsin pays 0.75% of direct written premium for management and
operation services performed by employees of State Auto P&C. Pursuant to the
2000 Farmers Casualty Management Agreement among Farmers Casualty, Mid-Plains,
State Auto P&C, and Mutual, Farmers Casualty and Mid-Plains pay 0.75% of direct
written premium for management and operation services performed by State Auto
P&C's employees. Under the Management Services Agreement among State Auto P&C,
MIGI and the Meridian Insurers (the "MIGI Management Agreement"), each of the
Meridian Companies (other than ICO) pays State Auto P&C 10% of all State Auto
P&C's employee-related costs in exchange for the services of those employees, in
addition to reimbursing State Auto P&C for the actual costs of such services.
Mutual provides facilities for all the insurance affiliates under management or
cost sharing agreements.

While there had been in place a fee under an agreement between State Auto
P&C and Mutual (the "2000 Management Agreement"), as a result of the resolution
of a disagreement with the Ohio Department of Insurance, the fee aspect of that
agreement was terminated, effective October 1, 2001, and that arrangement
continues as a pure cost sharing arrangement. As a result of the loss of the
service fee under the 2000 Management Agreement, substantially all of State Auto
P&C's insurance operations management fee was eliminated effective October 1,
2001. Consequently, beginning with the first quarter 2002, the management and
operations services segment is included in the "other" category for segment
reporting as the results of this segment no longer meet the quantitative
thresholds for separate presentation as a reportable segment.

Each of the affiliated management and cost sharing agreements, except the
MIGI Management Agreement, has a ten-year term and automatically renews for an
additional ten-year period unless sooner terminated in accordance with its
terms. If the 2000 Management Agreement is terminated for any reason, the
Company would have to locate facilities to continue its operations, although the
Company does not anticipate such termination.

Investment management services are provided by Stateco. See
"Investment Management Services" in the Narrative Description of Business."

STANDARD INSURANCE SEGMENTS

The Company's share of the business written by the Pooled Companies
constitutes the Company's State Auto and Meridian standard insurance segments as
well as the Meridian nonstandard segment. See "Nonstandard Insurance Segment" in
the "Narrative Description of Business." The standard segments include personal
and commercial property and casualty insurance lines, including

Page 7

automobile, homeowners, commercial multi-peril, workers' compensation,
liability, fire and other lines of business. Independent insurance agencies
constitute the Company's sales force for both the standard segments and the
nonstandard segments. Footnote 14 in the Company's Consolidated Financial
Statements included herewith sets forth the amount of the Company's net earned
premiums by line of insurance for both the State Auto and Meridian standard
segments and nonstandard segments.

The following tables set forth the statutory loss and loss adjustment
expense ("LAE") ratios by line of insurance and the combined ratio for the
standard insurance segments of the Company's business. These tables were
prepared in accordance with accounting practices prescribed or permitted by
state insurance authorities, for the periods indicated. The loss & LAE ratio is
the ratio of incurred losses and loss adjustment expenses, without consideration
of salvage and subrogation recoverable, to net earned premiums ("loss & LAE
ratio"). The combined ratio is a traditional measure of underwriting
profitability. The combined ratio is the sum of (a) the loss & LAE ratio; and
(b) the ratio of expenses incurred for commissions, premium taxes,
administrative and other underwriting expenses, to net written premium ("expense
ratio"). When the combined ratio is under 100%, underwriting results are
generally considered profitable. Conversely, when the combined ratio is over
100%, underwriting results are considered unprofitable. The combined ratio does
not reflect investment income or federal income taxes. The Company's operating
income depends on income from underwriting operations, investments and
management fees, although management fee income is substantially reduced after
October 1, 2001. See "Management Agreement" in the "Narrative Description of
Business."

The following table sets forth the aggregate statutory loss & LAE ratios
by line of insurance and the combined ratio for the Company's two standard
insurance segments, the State Auto standard insurance segment and beginning July
1, 2001, the Meridian standard insurance segment:

- ------------------------------------ --------------- ---------------------- --------------------
Standard Insurance Segments
Year Ended December 31(1)
- ------------------------------------ --------------- ---------------------- --------------------
2002 2001 2000
---- ---- ----
- ------------------------------------ --------------- ---------------------- --------------------

Loss & LAE ratios:
- ------------------------------------ --------------- ---------------------- --------------------
Automobile - Personal......... 68.8% 69.7% 63.9%
- ------------------------------------ --------------- ---------------------- --------------------
Automobile - Commercial....... 66.5% 90.1% 81.7%
- ------------------------------------ --------------- ---------------------- --------------------
Homeowners and Farmowners..... 85.1% 85.8% 78.8%
- ------------------------------------ --------------- ---------------------- --------------------
Commercial multi-peril........ 89.9% 100.4% 63.0%
- ------------------------------------ --------------- ---------------------- --------------------
Workers' compensation......... 83.7% 105.2% 65.2%
- ------------------------------------ --------------- ---------------------- --------------------
Fire and allied lines......... 58.9% 62.9% 58.8%
- ------------------------------------ --------------- ---------------------- --------------------
Other commercial liability.... 77.7% 58.2% 80.7%
- ------------------------------------ --------------- ---------------------- --------------------
Other personal lines.......... 37.4% 42.5% 34.6%
- ------------------------------------ --------------- ---------------------- --------------------
Other commercial lines........ 19.3% 27.1% 9.7%
----- ----- ----
- ------------------------------------ --------------- ---------------------- --------------------
Total loss & LAE ratio.............. 72.5% 76.2% 67.6%
- ------------------------------------ --------------- ---------------------- --------------------
Expense ratio....................... 30.2% 28.3% 27.1%
----- ----- -----
- ------------------------------------ --------------- ---------------------- --------------------
Combined ratio...................... 102.7% 104.5% 94.7%
====== ====== =====
- ------------------------------------ --------------- ---------------------- --------------------

(1) Reflects a combination of the loss experience of the Pooled Subsidiaries
after giving effect to reinsurance and the 2000 Pooling Agreement.

- -----------------------------------------

Page 8

The following tables provide the statutory loss and LAE ratios by line of
insurance and the combined ratio for the State Auto and Meridian standard
insurance segments, respectively.

- ------------------------------------ --------------------------------------------------------------
State Auto Standard Segment
Year Ended December 31(1)
- ------------------------------------ --------------------------------------------------------------
2002 2001 2000
---- ---- ----
- ------------------------------------ ------------------ ---------------------- --------------------

Loss & LAE ratios:
- ------------------------------------ ------------------ ---------------------- --------------------
Automobile - Personal ........ 67.5% 62.5% 63.9%
- ------------------------------------ ------------------ ---------------------- --------------------
Automobile - Commercial....... 63.5% 75.9% 81.7%
- ------------------------------------ ------------------ ---------------------- --------------------
Homeowners and Farmowners..... 81.1% 79.5% 78.8%
- ------------------------------------ ------------------ ---------------------- --------------------
Commercial multi-peril........ 80.8% 74.4% 63.0%
- ------------------------------------ ------------------ ---------------------- --------------------
Workers' compensation......... 84.4% 69.9% 65.2%
- ------------------------------------ ------------------ ---------------------- --------------------
Fire and allied lines......... 58.8% 62.8% 58.8%
- ------------------------------------ ------------------ ---------------------- --------------------
Other commercial liability.... 78.8% 54.5% 80.7%
- ------------------------------------ ------------------ ---------------------- --------------------
Other personal lines.......... 30.5% 44.1% 34.6%
- ------------------------------------ ------------------ ---------------------- --------------------
Other commercial lines........ 26.2% 27.8% 9.7%
----- ----- -----
- ------------------------------------ ------------------ ---------------------- --------------------
Total loss & LAE ratio............. 69.6% 66.3% 67.6%
- ------------------------------------ ------------------ ---------------------- --------------------
Expense ratio....................... 30.0% 28.4% 27.1%
----- ----- -----
- ------------------------------------ ------------------ ---------------------- --------------------
Combined ratio...................... 99.6% 94.7% 94.7%
===== ===== =====
- ------------------------------------ ------------------ ---------------------- --------------------

(1) Reflects a combination of the loss experience of the Pooled Subsidiaries
after giving effect to reinsurance and the 2000 Pooling Agreement.

- -----------------------------------------

- ----------------------------------------------- -----------------------------------------------------
Meridian Standard Segment Year Ended December 31(1)
- ----------------------------------------------- -------------------------- --------------------------
2002 2001
---- ----
- ----------------------------------------------- -------------------------- --------------------------

Loss & LAE ratios:
- ----------------------------------------------- -------------------------- --------------------------
Automobile - Personal ................... 75.1% 122.5%
- ----------------------------------------------- -------------------------- --------------------------
Automobile - Commercial.................. 76.5% 153.7%
- ----------------------------------------------- -------------------------- --------------------------
Homeowners and Farmowners................ 106.5% 136.3%
- ----------------------------------------------- -------------------------- --------------------------
Commercial multi-peril................... 107.5% 171.6%
- ----------------------------------------------- -------------------------- --------------------------
Workers' compensation.................... 82.7% 165.4%
- ----------------------------------------------- -------------------------- --------------------------
Fire and allied lines.................... 60.8% 66.9%
- ----------------------------------------------- -------------------------- --------------------------
Other commercial liability............... 50.0% 214.5%
- ----------------------------------------------- -------------------------- --------------------------
Other personal lines..................... 70.1% 27.1%
----- -----
- ----------------------------------------------- -------------------------- --------------------------
Total loss & LAE ratio......................... 85.5% 139.6%
- ----------------------------------------------- -------------------------- --------------------------
Expense ratio.................................. 31.3% 27.8%
----- -----
- ----------------------------------------------- -------------------------- --------------------------
Combined ratio................................. 116.8% 167.4%
====== ======
- ----------------------------------------------- -------------------------- --------------------------

(1) Reflects the loss experience of the Meridian standard segment assumed by the
Pooled Subsidiaries through the 2000 Pooling Agreement, beginning July 1, 2001.

- -----------------------------------------

NONSTANDARD INSURANCE SEGMENTS

The Company writes personal automobile insurance for nonstandard risks
through National and Mid-Plains. National is licensed in 24 states and active in
19 of those states. Mid-Plains operates in Kansas and Iowa.

Existing nonstandard auto risks in the Meridian nonstandard segment will
continue to be written by Mutual until such policies terminate. During the
fourth quarter of 2001, National's product and system platform began to be
introduced on a state by state basis to former Meridian agents, and by the end
of 2002 had been rolled out to all Meridian nonstandard states of operations. As
a result of the Company's integration efforts that occurred within the Meridian
nonstandard segment during 2001 and 2002, the Meridian nonstandard segment will
be included in the State Auto nonstandard segment beginning with the first
quarter of 2003.

Page 9

It is envisioned that National will eventually be the principal writer for
all nonstandard auto risks within the State Auto Group. Nonstandard automobile
products provide insurance for private passenger automobile risks that are
typically not acceptable to standard market companies for various reasons, such
as an insured's poor loss experience, poor driving record, or history of late
payments of premium. Nonstandard products are priced to account for the
additional risk and expenses normally associated with this market.

The following table provides the statutory loss & LAE ratios by line of
insurance for the Company's nonstandard insurance segments, which includes
National and Mid-Plains, and beginning July 1, 2001, the Meridian nonstandard
insurance segment:

- ------------------------------------------------ ----------------------------------------------------------
Nonstandard Insurance Segments
Year Ended December 31(1)
- ------------------------------------------------ -------------------- ------------------- -----------------
2002 2001 2000
---- ---- ----
- ------------------------------------------------ -------------------- ------------------- -----------------

Loss & LAE ratio:
- ------------------------------------------------ -------------------- ------------------- -----------------
Automobile................................. 79.0% 92.0% 81.4%
- ------------------------------------------------ -------------------- ------------------- -----------------
Expense ratio................................... 19.2% 21.7% 25.2%
----- ----- -----
- ------------------------------------------------ -------------------- ------------------- -----------------
Combined ratio.................................. 98.2% 113.7% 106.6%
===== ====== ======
- ------------------------------------------------ -------------------- ------------------- -----------------

(1) Reflects the combination of the loss experience of National and Mid-Plains
as well as the Meridian nonstandard segment assumed by the Pooled Subsidiaries
through the 2000 Pooling Agreement, beginning July 1, 2001.

- ----------------------------------------

The following tables set forth the statutory loss and LAE ratios and
combined ratios of National and Mid-Plains, which are engaged in the State Auto
nonstandard segment of the business, and beginning July 1, 2001, the Meridian
nonstandard segment, respectively:

- ------------------------------------------------ ----------------------------------------------------------
State Auto Nonstandard Segment
Year Ended December 31(1)
- ------------------------------------------------ ----------------------------------------------------------
2002 2001 2000
---- ---- ----
- ------------------------------------------------ -------------------- ------------------- -----------------

Loss & LAE ratio:
- ------------------------------------------------ -------------------- ------------------- -----------------
Automobile................................. 83.0% 77.9% 81.4%
- ------------------------------------------------ -------------------- ------------------- -----------------
Expense ratio................................... 18.3% 21.9% 25.2%
----- ----- -----
- ------------------------------------------------ -------------------- ------------------- -----------------
Combined ratio.................................. 101.3% 99.8% 106.6%
====== ===== ======
- ------------------------------------------------ -------------------- ------------------- -----------------

(1) Reflects the combination of the loss experience of National and
Mid-Plains.

- -----------------------------------------

- ------------------------------------------------- ----------------- ---------------------------
Meridian Nonstandard Segment
Year Ended December 31(1)
- ------------------------------------------------- ---------------------------------------------
2002 2001
---- ----
- ------------------------------------------------- ----------------- ---------------------------

Loss & LAE ratio:
- ------------------------------------------------- ----------------- ---------------------------
Automobile.................................. 48.7% 168.2%
- ------------------------------------------------- ----------------- ---------------------------
Expense ratio.................................... 31.9% 20.8%
----- -----
- ------------------------------------------------- ----------------- ---------------------------
Combined ratio................................... 80.6% 189.0%
===== ======
- ------------------------------------------------- ----------------- ---------------------------

(1) Reflects the loss experience of the Meridian nonstandard segment assumed by
the Pooled Subsidiaries through the 2000 Pooling Agreement, beginning July 1,
2001.

MARKETING

In its 26 states of operation, the State Auto Group markets its products
through approximately 22,300 insurance agents associated with approximately
3,500 independent insurance agencies. None of the companies in the State Auto
Group has any contracts with managing general agencies.

Page 10

National markets nonstandard products in 19 states exclusively through the
Company's network of independent agents. Mid-Plains writes nonstandard auto
insurance in Iowa and Kansas through the agency network of Farmers Casualty in
those states, and the Mid-Plains business is processed on National's system. The
former Meridian Mutual nonstandard products were also marketed through the
Meridian independent agency force, as well as agents specializing in nonstandard
coverage only. As noted, National's product has been introduced to these "former
Meridian agents." See "Nonstandard Automobile Insurance" in the "Narrative
Description of Business."

Because independent insurance agents significantly influence which
insurance company their customers select, management views the Company's
independent insurance agents as its primary customers. Management strongly
supports the independent agency system and believes that maintenance of a strong
agency system is essential for the Company's present and future success. As
such, the Company continually develops programs and procedures to enhance agency
relationships, including the following: regular travel by senior management and
branch office staff to meet with agents, in person, in their home states;
training opportunities; and an agent stock purchase plan.

The Company actively helps its agencies develop professional sales skills
within their staff. The training programs include both products and sales
training in concentrated programs in the Company's home office. Further, the
training programs include disciplined follow-up and coaching for an extended
time.

The Company takes a leadership role in the insurance industry with respect
to agency automation, promoting single entry multi-company interface using
industry standards, especially through software developed and marketed by S.I.S.
(SEMCI Partner(R)). The Company believes that, since agents and their customers
realize better service and efficiencies through automation, they value their
relationship with the Company. Automation can make it easier for the agent to do
business with the Company, which attracts prospective agents and enhances the
existing agencies' relationship with the Company.

The Company shares the cost of approved advertising with selected
agencies. The Company provides agents with certain travel and cash incentives if
they achieve certain sales and underwriting profit levels. Further, the Company
recognizes its very top agencies as Inner Circle Agencies. Inner Circle Agencies
are rewarded with additional trip and financial incentives, including additional
profit sharing bonus and additional contributions to their Inner Circle Agent
Stock Purchase Plan, a part of the Agent Stock Purchase Plan described below.

To strengthen agency commitment to producing profitable business and
further develop its agency relationships, the Company's Agent Stock Purchase
Plan offers its agents the opportunity to use commission income to purchase the
Company's stock. The Company's transfer agent administers the plan using
commission dollars assigned by the agents to purchase shares on the open market
through a broker.

The Company receives premiums on products marketed in Alabama, Arkansas,
District of Columbia, Florida, Georgia, Idaho, Illinois, Indiana, Iowa, Kansas,
Kentucky, Maryland, Michigan, Minnesota, Mississippi, Missouri, North Carolina,
North Dakota, Ohio, Oklahoma, Pennsylvania, South Carolina, South Dakota,
Tennessee, Utah, Virginia, Washington, West Virginia and Wisconsin. During 2002,
the seven states that contributed the greatest percentage of direct premiums
written by the State Auto Group were: Ohio (18.3%), Kentucky (12.0%), Indiana
(8.5%), Tennessee (6.8%), Minnesota (6.1%), Pennsylvania (5.3%), and South
Carolina (4.1%).

Page 11

CLAIMS

Insurance claims on policies written by the Company are usually
investigated and settled by staff claims adjusters. The Company's claims
division emphasizes timely investigation of claims, settlement of meritorious
claims for equitable amounts, maintenance of adequate reserves for claims, and
control of external claims adjustment expenses. Achievement of these goals
supports the Company's marketing efforts by providing agents and policyholders
with prompt and effective service.

Claim settlement authority levels are established for each adjuster,
supervisor and manager based on his or her level of expertise and experience.
The claims division is responsible for reviewing the claim, obtaining necessary
documentation and establishing loss and expense reserves of certain claims.
Generally, property or casualty claims estimated to reach $100,000 or above are
sent to the home office to be supervised by claims division specialists.
Branches with small volumes of large claims report claims to the home office at
a lower dollar threshold. In territories in which there is not sufficient volume
to justify having full-time adjusters, the Company uses independent appraisers
and adjusters to evaluate and settle claims under the supervision of claims
division personnel.

The Company attempts to minimize claims costs by settling as many claims
as possible through its internal claims staff and, if possible, by settling
disputes regarding automobile physical damage and property insurance claims
(first party claims) through arbitration. In addition, selected agents have
authority to settle small first party claims which improves claims service.

The third party, proprietary bodily injury evaluation software which
claims representatives use to help them value bodily injury claims, except for
the most severe injury cases, continues to be a valuable tool for the Company.
The Central Claims Department allows the Company to improve claims efficiency
and economy by concentrating the handling of smaller, less complex claims in a
centralized environment. The claims division also provides 24 hour, 7 days a
week claim service through associates in its Contact Center.

RESERVES

Loss reserves are management's best estimates at a given point in time of
what the Company expects to pay to claimants, based on facts, circumstances and
historical trends then known. During the loss settlement period, additional
facts regarding individual claims may become known, and consequently it often
becomes necessary to refine and adjust the estimates of liability. The Company's
results of operations and financial condition could be impacted, perhaps
significantly, in the future if the ultimate payments required to settle claims
vary from the liability currently recorded.

The Company maintains reserves for the eventual payment of losses and loss
expenses for both reported claims and incurred claims that have not yet been
reported. Loss expense reserves are intended to cover the ultimate costs of
settling all losses, including investigation, litigation and in house claims
processing costs from such losses.

Reserves for reported losses are initially established on either a
case-by-case or formula basis depending on the type and circumstances of the
loss. The case-by-case reserve amounts are determined based on the Company's
reserving practices, which take into account the type of risk, the circumstances
surrounding each claim and policy provisions relating to types of loss. The
formula reserves are based on historical paid loss data for similar claims with
provisions for trend changes caused by inflation. Loss and loss expense reserves
for incurred claims that have not yet been reported are estimated based on many
variables including historical and statistical information, inflation, legal
developments, storm loss estimates, and economic conditions. Case and formula
basis loss reserves are reviewed on a regular basis. As new data becomes
available, estimates are updated resulting in adjustments to loss reserves.
Generally, reported losses initially reserved on a formula basis which have not
settled after six months, are case reserved at that time. Although management
uses many resources to calculate reserves, there is no precise method for
determining the ultimate liability. The Company does not discount loss reserves
for financial statement purposes. Additional information regarding the Company's
reserves is included in

Page 12

Item 7 "Management's Discussion and Analysis" in the Losses and Loss Expenses
Payable section included therein.

Mutual has guaranteed the adequacy of State Auto P&C's loss and loss
expense reserves as of December 31, 1990. Pursuant to the guarantee, Mutual has
agreed to reimburse State Auto P&C for any losses and loss expenses in excess of
State Auto P&C's December 31, 1990 reserves ($65.5 million) that may develop
from claims that have occurred on or prior to that date. This guarantee ensures
that any deficiency in the reserves of State Auto P&C as of December 31, 1990,
under the Pooling Arrangement percentages effective on December 31, 1990 will be
reimbursed by Mutual. As of December 31, 2002, there has been no adverse
development of these reserves. In the event Mutual becomes financially impaired,
and subject to regulatory restrictions, it may be unable to make any such
reimbursement.

The following table presents one-year development information on changes
in the reserve for loss and loss expenses of the Company for the three years
ended December 31, 2002:

- --------------------------------------------------------------- -----------------------------------------------------
Year Ended December 31
- --------------------------------------------------------------- -----------------------------------------------------
2002 2001 2000
---- ---- ----
- --------------------------------------------------------------- -----------------------------------------------------
(in thousands)
- --------------------------------------------------------------- ----------------- ---------------- ------------------

Beginning of Year:
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Loss and loss expenses payable $523,860 $244,583 $232,489
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Less: Reinsurance recoverable on losses and loss
expenses payable(1) 13,919 7,930 10,807
------ ----- ------
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Net losses and loss expenses payable(2) $509,941 $236,653 $221,682
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Provision for losses and loss
- --------------------------------------------------------------- ----------------- ---------------- ------------------
expenses occurring:
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Current year 641,060 366,348 277,805
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Prior years(3) 12,414 60,726 (5,638)
------ ------ ------
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Total 653,474 427,074 272,167
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Loss and loss expense payments
- --------------------------------------------------------------- ----------------- ---------------- ------------------
for claims occurring during:
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Current year 349,733 240,508 164,620
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Prior years 221,549 144,862 104,871
------- ------- -------
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Total 572,282 385,370 269,491
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Impact of the addition of the former Meridian Mutual
- --------------------------------------------------------------- ----------------- ---------------- ------------------
business to the Pooling Arrangement, effective
- --------------------------------------------------------------- ----------------- ---------------- ------------------
7/1/01 - 75,575 -
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Impact of pooling change effective 10/1/01 and 1/1/00 (4) - 156,009 12,295
------- ------- ------
- --------------------------------------------------------------- ----------------- ---------------- ------------------
End of Year:
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Net losses and loss expenses payable(1) 592,133 509,941 236,653
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Add: Reinsurance recoverable on losses and loss
expenses payable(2) 8,825 13,919 7,930
----- ------ -----
- --------------------------------------------------------------- ----------------- ---------------- ------------------
Losses and loss expenses payable $600,958 $523,860 $244,583
======== ======== ========
- --------------------------------------------------------------- ----------------- ---------------- ------------------

(1) Includes amounts due from affiliates of $4,286, $8,867 and $2,111,
respectively.

(2) Includes net amounts assumed from affiliates of $303,959, $280,011 and
$10,126, respectively.

(3) This line item shows increases (decreases) in the current calendar year in
the provision for losses and loss expenses attributable to claims occurring in
prior years. The increase of $12,414 in 2002 for claims occurring in prior years
is well within normal expectations for reserve development and claim settlement
uncertainty. The increase of $60,726 in 2001 for claims occurring in prior years
is primarily the result of reserve strengthening on the former Meridian Mutual
business in order to bring these claim reserves in line with historic State Auto
adequacy levels as well as ongoing analysis of recent loss development trends.
The decrease in calendar year losses from prior years in 2000 of $5,638 is
within a normal expectation of reserve variation.

Page 13

(4) This line item represents the increase in loss and loss expense reserves due
to the Company's change in pooling participation percentages effective October
1, 2001 and January 1, 2000, respectively. See "Pooling Arrangement" in
"Narrative Description of Business."

- -----------------------------------------

The following table sets forth the development of reserves for losses and
loss expenses from 1992 through 2002 for the Company. "Net liability for losses
and loss expenses payable" sets forth the estimated liability for unpaid losses
and loss expenses recorded at the balance sheet date, net of reinsurance
recoverables, for each of the indicated years. This liability represents the
estimated amount of losses and loss expenses for claims arising in the current
and all prior years that are unpaid at the balance sheet date, including losses
incurred but not reported to the Company.

The lower portion of the table shows the re-estimated amounts of the
previously reported reserve based on experience as of the end of each succeeding
year. The estimate is increased or decreased as more information becomes known
about the claims incurred.

The upper section of the table shows the cumulative amounts paid with
respect to the previously reported reserve as of the end of each succeeding
year. For example, through December 31, 2002, the Company had paid 72.7% of the
currently estimated losses and loss expenses that had been incurred, but not
paid, as of December 31, 1992.

The amounts on the "cumulative redundancy (deficiency)" line represent the
aggregate change in the estimates over all prior years. For example, the 1992
reserve has developed a $17,765 million redundancy through December 31, 2002.
That amount has been included in operations over the ten years and did not have
a significant effect on income of any one year. The effects on income caused by
changes in estimates of the reserves for losses and loss expenses for the most
recent three years are shown in the foregoing three-year loss development table.

In evaluating the information in the table, it should be noted that each
amount includes the effects of all changes in amounts for prior periods. For
example, the amount of the redundancy related to losses settled in 1996, but
incurred in 1993, will be included in the cumulative redundancy amount for years
1993, 1994 and 1995. The table does not present accident or policy year
development data, which readers may be more accustomed to analyzing. Conditions
and trends that have affected the development of the liability in the past may
not necessarily occur in the future. Accordingly, it may not be appropriate to
extrapolate future redundancies or deficiencies based on this table.

In 1992, 1995, 1998, 1999, 2000 and 2001, the Pooling Arrangement was
amended to increase the Company's share of premiums, losses and expenses. An
amount of assets equal to the increase in net liabilities was transferred to the
Company from Mutual in 1992, 1995, 1998, 1999, 2000 and 2001 in conjunction with
each year's respective pooling change. The amount of the assets transferred from
Mutual in 1992, 1995, 1998, 1999, 2000 and 2001 has been netted against and has
reduced the cumulative amounts paid for years prior to 1992, 1995, 1998, 1999,
2000 and 2001, respectively.

[See table on following page.]

Page 14

State Auto Financial Corp.
Years Ended December 31
------------------------------------------------------------------------------
1992 1993 1994 1995 1996

(Dollars in Thousands)

Net liability for losses
and loss expenses payable $119,044 $123,337 $126,743 $206,327 $199,480

Paid (cumulative)
as of:
One year later 41.3% 42.2% 1.5% 38.2% 39.4%
Two years later 60.9% 41.3% 29.1% 55.4% 54.1%
Three years later 60.6% 55.6% 44.5% 63.3% 65.0%
Four years later 68.0% 64.5% 51.0% 67.7% 73.2%
Five years later 71.9% 67.2% 54.6% 71.9% 69.8%
Six years later 72.5% 69.0% 58.8% 67.1% 74.6%
Seven years later 73.7% 72.1% 52.3% 69.3%
Eight years later 75.2% 67.0% 54.4%
Nine years later 71.5% 68.4%
Ten years later 72.7%

Net liability re-estimate
as of:
One year later 92.7% 93.7% 87.4% 87.0% 91.3%
Two years later 90.5% 90.0% 77.1% 86.4% 87.3%
Three years later 87.6% 85.0% 77.0% 83.2% 86.7%
Four years later 85.6% 86.3% 72.9% 81.6% 87.0%
Five years later 87.3% 82.8% 70.9% 81.3% 92.6%
Six years later 84.5% 81.6% 70.0% 83.6% 92.9%
Seven years later 83.0% 80.8% 72.6% 83.7%
Eight years later 82.0% 83.6% 72.8%
Nine years later 84.7% 83.8%
Ten years later 85.1%

Cumulative redundancy (deficiency) $17,765 $19,933 $34,440 $33,689 $14,196

Cumulative redundancy (deficiency) 14.9% 16.2% 27.2% 16.3% 7.1%

Gross* liability - end of year $224,771 $245,929 $277,783 $412,553 $410,658
Reinsurance recoverable $105,727 $122,591 $151,040 $206,226 $211,178
Net liability - end of year $119,044 $123,337 $126,743 $206,327 $199,480

Gross liability re-estimated - latest 96.4% 100.8% 93.2% 84.9% 93.3%
Reinsurance recoverable re-estimated - latest 109.1% 117.9% 110.3% 86.2% 93.7%
Net liability re-estimated - latest 85.1% 83.8% 72.8% 83.7% 92.9%

* Gross liability includes: Direct & assumed losses & loss expenses payable.

As the Pooling Arrangement provides for the right of offset, the Company has reported losses and loss expenses payable ceded to
Mutual as assets only in situations when when net amounts ceded to Mutual exceed that assumed. The following table provides a
reconciliation of the reinsurance recoverable to the amount reported in the Company's consolidated financial statements at each
balance sheet date:

Reinsurance recoverable $105,727 $122,591 $151,040 $206,226 $211,178
Amount netted against assumed from Mutual $99,096 $115,945 $142,680 $193,367 $194,839
Net reinsurance recoverable $6,631 $6,646 $8,360 $12,859 $16,339

State Auto Financial Corp.
Years Ended December 31
--------------------------------------------------------------------------------
1997 1998 1999 2000 2001 2002

(Dollars in Thousands)

Net liability for losses
and loss expenses payable $194,155 $205,034 $221,682 $236,653 $509,941 $592,133

Paid (cumulative)
as of:
One year later 32.7% 35.4% 41.8% 5.9% 43.4% ---
Two years later 54.6% 61.6% 43.0% 52.7%
Three years later 70.1% 62.1% 71.9%
Four years later 69.2% 78.8%
Five years later 77.1%
Six years later
Seven years later
Eight years later
Nine years later
Ten years later

Net liability re-estimate
as of:
One year later 93.0% 96.6% 97.5% 125.7% 102.4% ---
Two years later 92.0% 96.7% 119.1% 129.1%
Three years later 91.9% 111.9% 120.3%
Four years later 102.0% 111.5%
Five years later 101.4%
Six years later
Seven years later
Eight years later
Nine years later
Ten years later

Cumulative redundancy (deficiency) -$2,784 -$23,629 -$44,947 -$68,903 -$12,414 ---

Cumulative redundancy (deficiency) -1.4% -11.5% -20.3% -29.1% -2.4% ---

Gross* liability - end of year $402,718 $414,268 $438,748 $457,202 $743,710 $862,428
Reinsurance recoverable $208,563 $209,234 $217,065 $220,544 $233,769 $270,295
Net liability - end of year $194,155 $205,034 $221,682 $236,657 $509,941 $592,133

Gross liability re-estimated - latest 98.3% 107.2% 109.9% 114.6% 101.2%
Reinsurance recoverable re-estimated - latest 95.3% 102.9% 99.3% 99.0% 98.5%
Net liability re-estimated - latest 101.4% 111.5% 120.3% 129.1% 102.4%

Reinsurance recoverable $208,563 $209,234 $217,065 $220,544 $233,770 $270,295
Amount netted against assumed from Mutual $187,506 $196,818 $206,258 $212,614 $219,851 $261,470
Net reinsurance recoverable $21,057 $12,416 $10,807 $7,930 $13,919 $8,825

Page 15

The following table is a reconciliation as of each December 31 of losses
and loss expenses payable, computed under generally accepted accounting
principles ("GAAP"), to losses and loss expenses payable, computed under
statutory accounting principles used by insurance companies for reporting to
state insurance regulators ("STAT"):

- --------------------------------------------------------------------- ----------------- ------------------- ---------------------
2002 2001 2000
---- ---- ----
- --------------------------------------------------------------------- ----------------- ------------------- ---------------------
(in thousands)
- --------------------------------------------------------------------- -----------------------------------------------------------

GAAP losses and loss
expenses payable $600,958 $523,860 $244,583
- --------------------------------------------------------------------- ----------------- ------------------- ---------------------
Less: ceded reinsurance recoverable
on losses and loss expenses payable 8,825 13,919 7,930
----- ------ -----
- --------------------------------------------------------------------- ----------------- ------------------- ---------------------
Net losses and loss expenses payable 592,133 509,941 236,653
- --------------------------------------------------------------------- ----------------- ------------------- ---------------------
Add: salvage and subrogation
recoverable 27,093 26,216 13,402
------ ------ ------
- --------------------------------------------------------------------- ----------------- ------------------- ---------------------
STAT losses and loss
Expenses $619,226 $536,157 $250,055
======== ======== ========
- --------------------------------------------------------------------- ----------------- ------------------- ---------------------

REINSURANCE

Members of the State Auto Group follow the customary industry practice of
reinsuring a portion of their exposures and paying to the reinsurers a portion
of the premiums received. Insurance is ceded principally to reduce net liability
on individual risks or for individual loss occurrences, including catastrophic
losses. Although reinsurance does not legally discharge the individual members
of the State Auto Group from primary liability for the full amount of limits
applicable under their policies, it does make the assuming reinsurer liable to
the extent of the reinsurance ceded.

Each member of the State Auto Group is party to working reinsurance
treaties for property, casualty and workers compensation lines with several
reinsurers arranged through a reinsurance broker. Under the property per risk
excess of loss treaty, each member is responsible for the first $2.0 million of
each defined loss, and the reinsurers are responsible for 100% of the excess
over $2.0 million up to $10 million of defined loss, depending upon the nature
of the injury or damage. The rates for this reinsurance are negotiated annually.

The terms of the casualty excess of loss program provide that each company
in the State Auto Group is responsible for the first $2.0 million of a covered
loss. The reinsurers are responsible for 100% of the excess over $2.0 million up
to $5.0 million of covered loss. Also, certain unusual claim situations
involving bodily injury liability, property damage, uninsured motorists and
personal injury protection are covered by an arrangement that provides for $10.0
million of coverage in excess of a $5.0 million retention for each loss
occurrence. This layer of reinsurance sits above the $3.0 million excess of $2.0
million arrangement. The rates for this reinsurance are negotiated annually.

The terms of the workers compensation excess of loss program provide that
each company in the State Auto Group is responsible for the first $2.0 million
of covered loss. The reinsurers are responsible for 100% of the excess over $2.0
million up to $5.0 million of covered loss, and 95% of the excess over $5.0
million up to $10 million of covered loss. Net retentions under this contract
may be submitted to the casualty excess of loss program, subject to a limit of
$2 million per loss occurrence.

In addition, the State Auto Group has secured other reinsurance to limit
the net cost of large loss events for certain types of coverage. Included are
umbrella liability losses which are reinsured up to a limit of $10.0 million
above a maximum $600,000 retention. The State Auto Group also makes use of
facultative reinsurance for unique risk situations and participates in
involuntary pools and associations in certain states.

The members of the State Auto Group combined retain the first $40 million
of each property catastrophe occurrence that affects more than two individual
risks. Eighty ($80) million dollars of traditional reinsurance is available
above the $40 million retention with a co-participation of 5%.

Page 16

In the event of a catastrophe loss in excess of $120.0 million for the
State Auto Group, STFC has implemented a structured contingent financing
agreement (the "Credit Agreement") with Bank One and other lenders (the
"Lenders") to provide up to $100.0 million. Under the Credit Agreement, in the
event of such a loss, STFC would issue and sell redeemable preferred shares to
SAF Funding Corporation, a special purpose company ("SPC"), which will borrow
the money necessary for such purchase from the Lenders. STFC will contribute to
State Auto P&C the proceeds from the sale of its preferred shares. State Auto
P&C has assumed catastrophe reinsurance from Mutual, Milbank, SA Wisconsin,
National, Farmers Casualty, Mid-Plains, SA Ohio, Meridian Citizens Mutual and
Meridian Security pursuant to a Catastrophe Assumption Agreement in the amount
of $100.0 million excess $120.0 million. State Auto P&C will use the contributed
capital to pay its direct catastrophe losses and losses assumed under the
Catastrophe Assumption Agreement. STFC is obligated to redeem the preferred
shares by making periodic payments to the SPC. The SPC would use these payments
to repay the Lenders over a five year period. This layer of $100.0 million
excess of $120.0 million is excluded from the Pooling Arrangement. In addition,
STFC's obligation to repay the SPC has been secured by a Put Agreement among
STFC, Mutual and the Lenders; under which, in the event of a default by STFC as
described in the Credit Agreement or in the Put Agreement, Mutual would be
obligated to either purchase the preferred shares from the SPC or repay the SPC
for the loan(s) outstanding.

National has a reinsurance agreement with Mutual pursuant to which Mutual
assumes up to $4,950,000 of each liability loss occurrence in excess of
National's $50,000 of retention; and up to $450,000 of each catastrophe loss
occurrence in excess of National's $50,000 of retention. Mutual further provides
National with an 8.5% quota share within the $50,000 retention on liability
coverages, and a 20% quota share on physical damage coverages. Mid-Plains also
has a reinsurance agreement with Mutual pursuant to which Mutual assumes up to
$450,000 of each liability loss occurrence in excess of Mid-Plains' $50,000 of
retention.

For the period October 1, 2001 through December 31, 2003, Mutual entered
into a Stop Loss Reinsurance Arrangement (the "Stop Loss") with certain of the
Pooled Companies. Under the Stop Loss, Mutual has agreed to participate in the
Pooling Arrangement's quarterly underwriting losses and gains, in the manner
described. If the Pooling Arrangement loss and LAE ratio(the "Pool loss and LAE
ratio") is between 70.75% and 80.00%, Mutual will reinsure certain of the Pooled
Companies 27% of the Pooling Arrangement's losses in excess of a Pool loss and
LAE ratio of 70.75% up to 80.00%. Certain of the Pooled Companies would be
responsible for its share of the Pooling Arrangement's losses over the 80.00%
threshold. Also, Mutual will have the right to participate in the profits of the
Pooling Arrangement; Mutual will assume 27% of the Pooling Arrangement's
underwriting profits attributable to a Pool loss and LAE ratio less than 69.25%,
but more than 59.99%. This Stop Loss Reinsurance Arrangement will cease at the
end of the fourth quarter, 2003.

See discussion regarding the federal Terrorism Risk Insurance Act of 2002
("Terrorism Act") at Regulation section and Item 7 "Management's Discussion and
Analysis" in the Other External Factors section included therein.

REGULATION

Most states, including all the domiciliary states of the State Auto Group,
have enacted legislation that regulates insurance holding company systems. Each
insurance company in the holding company system is required to register with the
insurance supervisory agency of its state of domicile and furnish information
concerning the operations of companies within the holding company system that
may materially affect the operations, management or financial condition of the
insurers within the system. Pursuant to these laws, the respective insurance
departments may examine any members of the State Auto Group, at any time,
require disclosure of material transactions involving insurer members of the
holding company system, and require prior notice and an opportunity to
disapprove of certain "extraordinary" transactions, including, but not limited
to, extraordinary dividends to shareholders. Pursuant to these laws, all
transactions within the holding company system affecting any members of the
State Auto Group must be fair and equitable. In addition, approval of the
applicable Insurance Commissioner is required prior to the consummation of
transactions affecting the control of an insurer. The insurance laws of all the
domiciliary states of the State Auto Group provide that no person may

Page 17

acquire direct or indirect control of a domestic insurer without obtaining the
prior written approval of the state insurance commissioner for such acquisition.

In addition to being regulated by the insurance department of its state of
domicile, each insurance company is subject to supervision and regulation in the
states in which it transacts business. Such supervision and regulation relate to
numerous aspects of an insurance company's business operations and financial
condition. The primary purpose of such supervision and regulation is to ensure
financial stability of insurance companies for the protection of policyholders.
The laws of the various states establish insurance departments with broad
regulatory powers relative to granting and revoking licenses to transact
business, regulating trade practices, licensing agents, approving policy forms,
setting reserve requirements, determining the form and content of required
statutory financial statements, prescribing the types and amount of investments
permitted and requiring minimum levels of statutory capital and surplus.
Although premium rate regulation varies among states and lines of insurance,
such regulations generally require approval of the regulatory authority prior to
any changes in rates. In addition, all of the states in which the State Auto
Group transacts business have enacted laws which restrict these companies'
underwriting discretion. Examples of these laws include restrictions on policy
terminations, restrictions on agency terminations and laws requiring companies
to accept any applicant for automobile insurance. These laws may adversely
affect the ability of the insurers in the State Auto Group to earn a profit on
their underwriting operations.

Insurance companies are required to file detailed annual reports with the
supervisory agencies in each of the states in which they do business, and their
business and accounts are subject to examination by such agencies at any time.

There can be no assurance that such regulatory requirements will not
become more stringent in the future and have an adverse effect on the operations
of the State Auto Group.

Dividends. STFC's insurance subsidiaries generally are restricted by the
insurance laws of their respective states of domicile as to the amount of
dividends they may pay to STFC without the prior approval of the respective
state regulatory authorities. Generally, the maximum dividend that may be paid
by an insurance subsidiary during any year without prior regulatory approval is
limited to the greater of a stated percentage of that subsidiary's statutory
surplus as of a certain date, or adjusted net income of the subsidiary, for the
preceding year. Pursuant to these rules, a total of $35.3 million is available
for payment to State Auto Financial as a dividend from State Auto P&C, Milbank,
Farmers Casualty, SA Ohio and National during 2003 without prior approval from
their domiciliary state insurance departments, under current law.

Rate and Related Regulation. In general, the Company is not aware of the
adoption of any adverse legislation or regulation by any state where the Company
did business during 2002 which would present material obstacles to the Company's
overall business. However, several states where the Company does business have
passed or are considering more strict regulation of the use of credit scoring in
rating and/or risk selection in personal lines of business. Regulations or laws
restricting the use of this information have an adverse impact on the Company
because these laws impede the ability of the Company to make optimum use of
credit scoring information. Such regulations would limit the ability of the
Company, as well as the ability of all other insurance carriers operating in
that jurisdiction, to take advantage of this tool.

In an attempt to make capital and surplus requirements more accurately
reflect the underwriting risk of different lines of insurance as well as
investment risks that attend insurers' operations, the NAIC has tested insurer's
risk-based capital requirements since 1994. As of December 31, 2002, each
insurer affiliated with the Company surpassed all standards tested by the
formula applying risk-based capital requirements.

The property and casualty insurance industry is also affected by court
decisions. Premium rates are actuarially determined to enable an insurance
company to generate an underwriting profit. These rates contemplate a certain
level of risk. The courts may modify, in a number of ways, the level of risk
which insurers had expected to assume including eliminating exclusions,
expanding the terms of the contract, multiplying limits of coverage, creating
rights for policyholders not intended to be included in the

Page 18

contract and interpreting applicable statutes expansively to create obligations
on insurers not originally considered when the statute was passed. Courts have
also undone legal reforms passed by legislatures, which reforms were intended to
reduce a litigant's rights of action or amounts recoverable and so reduce the
costs borne by the insurance mechanism. These court decisions can adversely
affect an insurer's profitability. They also create pressure on rates charged
for coverages adversely affected, and this can cause a legislative response
resulting in rate suppression that can adversely affect an insurer.

The newly enacted Terrorism Act requires the federal government and the
insurance industry to share in insured losses up to $100 billion per year
resulting from future terrorist attacks within the United States. Under the
Terrorism Act, commercial property and casualty insurers must offer their
commercial policyholders coverage against certified acts of terrorism, but the
policyholders may choose to reject this coverage. If the policyholder rejects
coverage for certified acts of terrorism, the Company intends, subject to the
approval of the state regulators, to cover only such acts of terrorism that are
not certified acts under the Terrorism Act and that do not arise out of nuclear,
biological or chemical agents.

Probably the most significant piece of legislation to affect the Company
was not a state insurance law, but rather the federal Sarbanes-Oxley Act of 2002
("Sarbanes Oxley"), which took effect in July 2002. While this law does not
affect the Company's insurance operations, it has and will continue to have an
effect on the Company. Sarbanes Oxley was the response of the Congress to the
corporate scandals of the last two years. Sarbanes Oxley imposes significant new
rules on the Company's corporate governance, its financial and reporting
processes and its relationship with its independent auditor. Sarbanes Oxley will
require the Company to increase the internal staff functions to ensure that it
can demonstrate it is complying with these new legal requirements, which can be
expected to have an adverse effect on the Company's expense ratio.

INVESTMENTS

The Company's investment portfolio is managed to provide growth of
statutory surplus in order to facilitate increased premium writings over the
long term while maintaining the ability to service current insurance operations.
The primary objectives are to generate income, preserve capital and maintain
liquidity. The Company's investment portfolio is managed separately from that of
Mutual and its affiliates, and investment results are not shared by each of the
Pooled Companies through the Pooling Arrangement. Stateco performs investment
management services for the Company and Mutual and its subsidiaries, although
investment policies implemented by Stateco continue to be set for each company
through the Investment Committee of its Board of Directors. See "Investment
Management Services" in the "Narrative Description of Business."

The Company's decision to make a specific investment is influenced
primarily by the following factors: (a) investment risks; (b) general market
conditions; (c) relative valuations of investment vehicles; (d) general market
interest rates; (e) the Company's liquidity requirements at any given time; and
(f) the Company's current federal income tax position and relative spread
between after tax yields on tax-exempt and taxable fixed income investments. The
Company has investment policy guidelines with respect to purchasing fixed income
investments which preclude investments in bonds that are rated below investment
grade by a recognized rating service. The maximum investment in any single note
or bond is limited to 5.0% of assets, other than obligations of the U.S.
government or government agencies, for which there is no limit. Investments in
equity securities are selected based on their potential for appreciation as well
as ability to continue paying dividends. See discussion regarding Market Risk
included in Part II - Item 7 "Management's Discussion and Analysis of Financial
Condition and Results of Operations."

Strategies as to specific investments can change depending on the
Company's current federal tax position, market interest rates and general market
conditions. Prior to year-end 2002, the fixed maturity investments were
classified as available for sale and carried at fair market value, or as
held-to-maturity and carried at amortized cost according to the Statement of
Financial Accounting Standards (SFAS) No. 115, "Accounting for Certain
Investments in Debt and Equity Securities." As of December 31, 2002, all fixed
maturity investments have been classified as available for sale. Fixed
maturities classified as available for sale totaled $1,216.7 million and
$1,051.4 million at December 31, 2002 and December

Page 19

31, 2001, respectively. Fixed maturities categorized as hold-to-maturity totaled
$-0- and $27.4 million at December 31, 2002 and December 31, 2001, respectively.

At December 31, 2002 and 2001, respectively, the Company's equity
portfolio totaled $53.7 million and $59.8 million.

The table below provides information about the quality and the scope of
the Company's fixed maturity portfolio as of December 31, 2002:

- -------------------------------- ------------------------ ------------- -------------------------- ---------------------------
Fair Market Value % of Quality* Amortized Cost Fair Market Value
Portfolio
- -------------------------------- ------------------------ ------------- -------------------------- ---------------------------

Investment Grade -
Corporates and Municipals 72.0% AA+ $824,856 $876,333
- -------------------------------- ------------------------ ------------- -------------------------- ---------------------------

U.S. Governments 2.8% AAA $31,207 $33,684
- -------------------------------- ------------------------ ------------- -------------------------- ---------------------------

U.S. Government Agencies 25.2% AAA $293,271 $306,681
- -------------------------------- ------------------------ ------------- -------------------------- ---------------------------
100.0% $1,149,334 $1,216,698
- -------------------------------- ------------------------ ------------- -------------------------- ---------------------------

*As rated by Moody's Investors Service

- -----------------------------------------

The following table sets forth the Company's investment results for the
periods indicated:

- ---------------------------------- --------------------------------------- ----------------------------- -------------------------
Year ended December 31
- ---------------------------------- -----------------------------------------------------------------------------------------------
2002 2001 2000
---- ---- ----
- ---------------------------------- --------------------------------------- ----------------------------- -------------------------

Average Invested Assets (1) $1,210,641 $870,864 $712,627
- ---------------------------------- --------------------------------------- ----------------------------- -------------------------

Net Investment Income (2) $59,691 $47,375 $38,915
- ---------------------------------- --------------------------------------- ----------------------------- -------------------------

Average Yield 4.9% 5.4% 5.5%
- ---------------------------------- --------------------------------------- ----------------------------- -------------------------

(1) Average of the aggregate invested assets at the beginning and end of each
period. Invested assets include fixed maturities at amortized cost, equity
securities at cost and cash equivalents.

(2) Net investment income is net of investment expenses and does not include
realized or unrealized investment gains or losses or provision for income taxes.

- -----------------------------------------

For additional discussion regarding the Company's investments, see Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations.

INVESTMENT MANAGEMENT SERVICES

Stateco has been providing investment management services since 1993.
These services are provided to all insurance companies affiliated with the
Company or Mutual. Stateco has entered into an Investment Management Agreement
with each of these entities, pursuant to which Stateco manages the investment
portfolios of these companies and receives an investment management fee based on
performance and the size of the portfolio managed for each affiliate. The
Investment Committee of each insurer's Board of Directors sets investment
policies to be followed by Stateco.

COMPETITION

The property and casualty insurance industry is highly competitive. The
Company competes with numerous insurance companies, many of which are
substantially larger and have considerably greater financial resources. In
addition, because the Company's products are marketed exclusively through

Page 20

independent insurance agencies, most of which represent more than one company,
the Company faces competition within each agency. See "Marketing" in the
"Narrative Description of Business." The Company competes through underwriting
criteria, appropriate pricing, quality service to the policyholder and the
agent, and a fully developed agency relations program.

Another underwriting and claims issue the Company is confronting is "toxic
mold." This source of loss has received significant publicity in recent months,
and indications are that mold claims will increase in the future. The Company
believes that, under its insurance policies, the Company is not obligated to
cover this kind of commonly occurring condition, particularly when remediation
costs are extreme. Hence, to protect its current rate structure, the Company has
filed mold limitations and exclusions on homeowner policies and certain
commercial policies in all states that will accept such filings.

EMPLOYEES

As of March 13, 2003, the Company had 2,097 employees. This includes 565
employees who had been employees of MIGI until January 1, 2002. Employees of the
Company are not covered by any collective bargaining agreement. Management of
the Company considers its relationship with its employees to be excellent.

AVAILABLE INFORMATION

STFC's internet website address is www.stfc.com. Through this internet
website (found under the "SEC Filings" link), STFC makes available, free of
charge, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current
Reports on Form 8-K, and all amendments to those reports filed or furnished
pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as
soon as reasonably practicable after STFC electronically files such material
with the Securities and Exchange Commission.

EXECUTIVE OFFICERS OF THE REGISTRANT

Name of Executive Officer Principal Occupation(s) An Executive Officer
and Position(s) with Company Age During the Past Five Years of the Company Since (1)
---------------------------- --- -------------------------- ------------------------

Robert H. Moone, 59 Chairman of the Board of STFC and Mutual, 1/1/01 to 1991
Chairman, President and present; Chief Executive Officer of STFC and Mutual, 5/99
Chief Executive Officer to present; President of STFC and Mutual, 5/96 to
present; Executive Vice President, 11/93 to 5/96 and
prior thereto Vice President of STFC and Mutual

Mark A. Blackburn, 51 Senior Vice President of STFC and Mutual, 3/01 to 1999
Senior Vice President present; Vice President of STFC and Mutual, 8/99 to 3/01;
Executive Vice President of Grange Mutual Casualty
Insurance Company 4/96 to 4/99; and for more than five
years prior thereto, Vice President of General
Reinsurance Corporation

Steven J. Johnston, 43 Senior Vice President of STFC and Mutual, 8/99 to 1994
Senior Vice President, present; Treasurer and Chief Financial Officer of STFC
Treasurer and Chief and Mutual, 4/97 to present; Vice President of STFC and
Financial Officer Mutual, 5/95 to 8/99

John R. Lowther, 52 Senior Vice President of STFC and Mutual, 3/01 to 1991
Senior Vice President, present; Secretary and General Counsel of STFC, 5/91 to
Secretary and present and of Mutual 8/89 to present; Vice President of
General Counsel STFC, 5/91 to 3/01 and of Mutual 8/89 to 3/01

James E. Duemey, 56 Vice President and Investment Officer of STFC and Mutual, 1991
Vice President 5/91 to present
and Investment Officer

Page 21

Name of Executive Officer Principal Occupation(s) An Executive Officer
and Position(s) with Company Age During the Past Five Years of the Company Since (1)
---------------------------- --- -------------------------- ------------------------

William D. Hansen, 37 Vice President of Mutual, 3/00 to present; Vice President 2000
Vice President of STFC, 5/00 to present; Assistant Vice President of
Mutual 5/95 to 3/00

Steven R. Hazelbaker 47 Vice President of Mutual 6/01 to present; Vice President 2001
Vice President of STFC 6/01 to present; CFO and Treasurer of MIGI and
Meridian Mutual 1994 to 6/01; Vice President of MIGI and
Meridian Mutual 1995 to 6/01

Noreen W. Johnson, 54 Vice President of STFC and Mutual, 3/98 to present; 1998
Vice President Assistant Vice President of Mutual, 3/97 to 3/98;
employee of Mutual since 9/92

Robert A. Lett, 63 Vice President of STFC, 3/98 to present; Vice President 1994
Vice President of Mutual, 2/88 to present

John B. Melvin, 53 Vice President of STFC, 3/98 to present; Vice President 1994
Vice President of Mutual, 11/93 to present; and prior thereto an officer
of Mutual

Cathy B. Miley, (2) 53 Vice President of STFC, 3/98 to present; Vice President 1995
Vice President of Mutual, 3/95 to present; Assistant Secretary of
Mutual, 8/92 to 3/95

Richard L. Miley, (2) 49 Vice President of STFC, 3/98 to present; Vice President 1995
Vice President of Mutual, 5/95 to present; Assistant Vice President of
Mutual, 8/87 to 5/95

John M. Petrucci, 44 Vice President of Mutual, 3/00 to present; Vice President 2000
Vice President of STFC, 5/00 to present; employee of Mutual since 9/96

Cynthia A. Powell, 42 Vice President of Mutual, 3/00 to present; Assistant Vice 2000
Vice President President, 8/96 to 3/00; Vice President of STFC 5/00 to
present; Assistant Vice President of STFC, 4/97 to 5/00;
employee of Mutual since 6/90

(1) Each of the foregoing officers has been designated by the Company's Board of
Directors as an executive officer for purposes of Section 16 of the Securities
Exchange Act of 1934.

(2) Richard L. Miley and Cathy B. Miley are husband and wife.

ITEM 2. PROPERTIES

Because the operations of the Company and Mutual are integrated with one
another pursuant to the terms of the 2000 Management Agreement, the Company and
Mutual share their operating facilities. See Item 1, "Management Agreement" in
the "Narrative Description of Business." The Company's and Mutual's corporate
headquarters are located in Columbus, Ohio in buildings owned by Mutual that
contain approximately 270,000 square feet of office space. The Company and
Mutual also have regional underwriting and claims office facilities that are
owned by Mutual, including a 6,600 square foot branch office in Cleveland, Ohio;
a 29,000 square foot branch office in Cincinnati, Ohio; and a 205,000 square
foot regional office in Indianapolis, Indiana. In addition, 518 PML owns and
leases to Mutual regional office facilities in Nashville, Tennessee; Greer,
South Carolina; and Des Moines, Iowa. Milbank owns an office facility in
Milbank, South Dakota, where Company employees provide services to Milbank
agents and policyholders. SA Wisconsin leases an office facility in Onalaska,
Wisconsin, where Company employees service SA Wisconsin's agents and
policyholders. Mutual also leases space in Columbus, Ohio for a regional office
and leases a number of small offices throughout its operating area for the
claims operations of Mutual and the Company.

Page 22

ITEM 3. LEGAL PROCEEDINGS

The Company is a party to a number of lawsuits arising in the ordinary
course of its insurance business. Management of the Company believes that the
ultimate resolution of these lawsuits will not, individually or in the
aggregate, have a material, adverse effect on the financial condition of the
Company.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not applicable.

PART II

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS

STOCK TRADING

Common shares are traded in the Nasdaq National Market System under the
symbol STFC. As of March 8, 2003, there were 937 shareholders of record of the
Company's common shares.

MARKET PRICE RANGE, COMMON STOCK(1)

Initial Public Offering -- June 28, 1991, $2.25(1). The high and low sale
prices for each quarterly period for the past two years as reported by Nasdaq
are:

------------------------------ ---------------------- ---------------------- -------------------
2001 HIGH LOW DIVIDEND
---- ---- --- --------

------------------------------ ---------------------- ---------------------- -------------------

First Quarter $17.688 $13.313 $0.0300
------------------------------ ---------------------- ---------------------- -------------------
Second Quarter $17.340 $12.833 $0.0300
------------------------------ ---------------------- ---------------------- -------------------
Third Quarter $17.800 $12.300 $0.0325
------------------------------ ---------------------- ---------------------- -------------------
Fourth Quarter $17.500 $13.100 $0.0325
------------------------------ ---------------------- ---------------------- -------------------

------------------------------ ---------------------- ---------------------- -------------------
2002
------------------------------ ---------------------- ---------------------- -------------------
First Quarter $17.250 $13.700 $0.0325
------------------------------ ---------------------- ---------------------- -------------------
Second Quarter $17.019 $14.330 $0.0325
------------------------------ ---------------------- ---------------------- -------------------
Third Quarter $16.820 $14.500 $0.0350
------------------------------ ---------------------- ---------------------- -------------------
Fourth Quarter $16.780 $12.670 $0.0350
------------------------------ ---------------------- ---------------------- -------------------

(1) Adjusted for stock splits.

Additionally, see Liquidity and Capital Resources section of "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included in Item 7 of this Form 10-K Annual Report for a discussion of
regulatory restrictions on the payment of dividends by the Company's insurance
subsidiaries.

ITEM 6. SELECTED FINANCIAL DATA

"Selected Consolidated Financial Data" is as follows:

Page 23

STATE AUTO FINANCIAL CORPORATION AND
SUBSIDIARIES (a majority-owned subsidiary of State
Automobile Mutual Insurance Company)

SELECTED CONSOLIDATED FINANCIAL DATA

YEAR ENDED DECEMBER 31
----------------------
2002 2001* 2000* 1999* 1998* 1997 1996 1995* 1994
---- ----- ----- ----- ----- ---- ---- ----- ----
STATEMENTS OF (Dollars in thousands, except per share data)
INCOME DATA:

Earned premiums $ 896,595 555,207 397,967 392,058 356,210 320,050 304,472 296,364 225,297
Net investment income $ 59,691 47,375 38,915 34,262 32,506 31,107 29,863 28,461 22,189
Management services
income $ 2,638 15,586 17,594 8,727 7,945 7,367 6,774 6,377 5,170
Net realized gains on
investments $ 5,909 1,962 5,255 2,555 2,925 3,043 2,788 1,758 1,595
Other income $ 2,646 3,142 3,043 3,269 2,473 1,409 1,200 525 147
---------------------------------------------------------------------------------------------------
Total revenues $ 967,479 623,272 462,774 440,871 402,059 362,976 345,097 333,485 254,398
---------------------------------------------------------------------------------------------------

Income before federal
income taxes $ 37,790 17,976 61,444 56,985 49,605 56,638 34,792 40,953 20,294
---------------------------------------------------------------------------------------------------
Net income $ 36,995 20,615 47,714 42,816 37,497 40,998 26,407 29,894 15,835
---------------------------------------------------------------------------------------------------
Earnings per common
share(1)(2):
Basic $ 0.95 0.53 1.24 1.05 0.89 0.99 0.64 0.73 0.39
---------------------------------------------------------------------------------------------------
Diluted $ 0.93 0.52 1.21 1.03 0.87 0.97 0.63 0.72 0.39
---------------------------------------------------------------------------------------------------
Cash dividends per
common share(1) $ 0.14 0.13 0.12 0.11 0.10 0.09 0.08 0.07 0.06
---------------------------------------------------------------------------------------------------

BALANCE SHEET DATA AT YEAR END:
Total investments $ 1,272,316 1,138,656 750,870 627,305 579,966 526,363 499,277 479,908 350,639
Total assets $ 1,592,995 1,367,496 898,106 759,945 717,520 664,384 605,385 579,194 487,282
Total notes payable $ 75,500 45,500 45,500 45,500 - - - - -
Total stockholders'
equity $ 463,769 400,193 386,059 317,687 340,824 297,258 247,619 225,763 175,852
Book value per
common share(1) $ 11.89 10.28 10.01 8.29 8.11 7.11 5.98 5.48 4.29

STATUTORY RATIOS:
Loss ratio 73.1 77.4 68.5 67.4 68.4 65.2 72.7 68.6 75.4
Expense ratio 29.2 27.8 27.0 29.5 29.4 28.9 27.3 31.0 28.2
Combined ratio 102.3 105.7 95.5 96.9 97.8 94.1 100.0 99.6 103.6
Industry combined ratio(3) 105.7 115.9 110.1 107.8 105.6 101.6 105.8 106.5 108.5
Ratio of net premiums
written to statutory
capital and surplus 2.62 1.81 1.32 1.47 1.63 1.71 1.91 2.12 1.77

(1) Adjusted for a July 1998 2-for-1 common stock split as well as a July 1996
3-for-2 common stock split effected in the form of a stock dividend.
(2) The earnings per share amounts prior to 1997 have been restated as required
to comply with SFAS No. 128.
(3) Preliminary industry information for 2002 from A.M. Best.

* Reflects change in Pooling Arrangement, effective October 1, 2001, January 1,
2000, 1999, 1998 and 1995.

Page 24

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

"Management's Discussion and Analysis of Financial Condition and Results
of Operations" is as follows:

OVERVIEW

State Auto Financial Corporation ("State Auto Financial"), through its
principal insurance subsidiaries, State Auto Property and Casualty Insurance
Company ("State Auto P&C"), Milbank Insurance Company ("Milbank"), Farmers
Casualty Insurance Company ("Farmers Casualty") and State Auto Insurance Company
of Ohio, formerly State Auto Insurance Company ("SA Ohio"), provides personal
and commercial insurance for the standard insurance market. State Auto National
Insurance Company ("National") and Mid-Plains Insurance Company ("Mid-Plains")
write personal automobile insurance for risks in the nonstandard insurance
market. These insurance products are marketed through the independent agency
system. State Auto Financial is a majority-owned subsidiary of State Automobile
Mutual Insurance Company ("Mutual"), an Ohio domiciled property and casualty
insurer. State Auto Financial and its subsidiaries are referred to collectively
herein as the "Company."

Mutual's wholly-owned subsidiaries are State Auto Insurance Company of
Wisconsin, formerly Midwest Security Insurance Company ("SA Wisconsin"), State
Auto Florida Insurance Company ("SA Florida") and Meridian Insurance Group, Inc.
("MIGI"). MIGI's subsidiaries are Meridian Security Insurance Company ("Meridian
Security"), Meridian Citizens Security Insurance Company ("Meridian Citizens")
and Insurance Company of Ohio ("ICO"). ICO ceased insurance operations on
October 1, 2002 and was dissolved on January 15, 2003. MIGI is also party to an
affiliation agreement with Meridian Citizens Mutual Insurance Company ("Meridian
Citizens Mutual"). Meridian Security, Meridian Citizens, ICO and Meridian
Citizens Mutual are collectively referred herein as the "MIGI Insurers."

State Auto P&C provides employees to all insurance affiliates, including
Mutual and each of its affiliates. This is contractually provided for under the
following management and/or cost sharing agreements: 1) the "2000 Management
Agreement", to which State Auto P&C, Mutual, National, Milbank, and SA Ohio are
parties. After October 1, 2001, the 2000 Management Agreement became a pure cost
sharing agreement, but prior thereto, this agreement provided for a management
fee based on surplus which was paid by each managed company to State Auto P&C;
2) the "Midwest Management Agreement", to which State Auto P&C, Mutual and SA
Wisconsin are parties. This agreement provides for a management fee based on a
percentage of direct written premiums collected by the Company for the services
State Auto P&C provides; 3) the MIGI Management Agreement, effective July 1,
2002, to which State Auto P&C, Meridian Security, Meridian Citizens, and
Meridian Citizens Mutual are parties. This agreement provides for a management
fee equal to a percentage of the allocable employee expenses attributable to the
operations of these companies paid to the Company for the services State Auto
P&C provides. Each of the foregoing management agreements also apportions the
actual costs of the services provided among the parties.

Effective January 1, 2002, all employees of MIGI became employees of
State Auto P&C. In conjunction with this transaction, approximately $3.6 million
in net plan benefit liabilities were transferred from MIGI to State Auto P&C.

State Auto P&C, Milbank, Farmers Casualty and SA Ohio (collectively the
"Pooled Subsidiaries"), the insurance subsidiaries comprising the standard
insurance segment, participate in a quota share reinsurance pooling arrangement
(the "Pooling Arrangement") with Mutual. The Pooling Arrangement provides that
the Pooled Subsidiaries cede to Mutual all of their insurance business and
assume from Mutual an amount equal to their respective participation percentages
as outlined in the Pooling Arrangement.

Page 25

The following table sets forth a chronology of the participant changes
that have occurred in the Pooling Arrangement since January 1, 1999:

- ---------------------------------------------------------------------------------------------
Pooled Subsidiaries
- ---------------------------------------------------------------------------------------------
State Farmers SA SA
----- ------- -- --
Year * Auto P&C Milbank Casualty SA Ohio Mutual Wisconsin Florida
- ---------------------------------------------------------------------------------------------

1999 37% 10% 3% N/A 49% 1% N/A
- ---------------------------------------------------------------------------------------------
2000-9/30/2001 39 10 3 1 46 1 N/A
- ---------------------------------------------------------------------------------------------
10/1/2001-2002 59 17 3 1 19 1 N/A
- ---------------------------------------------------------------------------------------------
Effective
1/1/2003 59 17 3 1 18.3 1 0.7
- ---------------------------------------------------------------------------------------------

* Time period is for the year ended December 31, unless otherwise noted.

On January 1, 2003, the Pooling Arrangement was amended to add SA
Florida as a participant. The Company's aggregate pooling participation
percentage remained at 80%. At December 31, 2002, SA Florida had not commenced
insurance operations; consequently, there was no impact on the Company's books
at January 1, 2003 relating to the Pooling Arrangement amendment.

In discussing Results of Operations, State Auto P&C, Milbank, Farmers
Casualty, SA Ohio, National, Mid-Plains, Mutual, SA Wisconsin, Meridian
Security, Meridian Citizens, ICO and Meridian Citizens Mutual are referred to
collectively as the "State Auto Insurance Companies." The Pooled Subsidiaries,
Mutual and SA Wisconsin are collectively referred to below as the "Pooled
Companies."

Non-insurance subsidiaries of the Company include Stateco Financial
Services, Inc. ("Stateco"), which provides investment management services to
affiliated companies and Strategic Insurance Software, Inc. ("S.I.S."), which
develops and sells software for the processing of insurance transactions,
database management systems for insurance agents and electronic interfacing of
information between insurance companies and agents. S.I.S. sells its services
and products to affiliated companies and their agents and markets similar
services and products to nonaffiliated insurers and their agencies. 518 Property
Management and Leasing, LLC ("518 PML") is engaged in the business of owning and
leasing real and personal property to affiliated companies. The members of 518
PML are State Auto P&C and Stateco. The results of operations of S.I.S. and 518
PML are not material to the total operations of the Company.

The following is a summary of several transactions that occurred in the
second half of 2001 that will assist in the discussion of the Company's current
period financial results:

Effective June 1, 2001, Mutual merged with Meridian Mutual Insurance
Company ("Meridian Mutual"), with Mutual continuing as the surviving
corporation, and acquired MIGI. Effective July 1, 2001, the insurance
business of the former Meridian Mutual became part of the Pooling
Arrangement and the Pooled Subsidiaries assumed 53% of the Meridian
Mutual business on this same date. Concurrent with this transaction, the
Pooled Subsidiaries received cash of $6.4 million and fixed maturities
totaling $109.7 million, which related to the additional net insurance
liabilities assumed by the Pooled Subsidiaries on July 1, 2001. The
business of the former Meridian Mutual provides both standard and
nonstandard personal lines and standard commercial lines to its
policyholders. The principal lines of business include standard personal
and commercial automobile, nonstandard personal automobile, homeowners,
commercial multi-peril, workers' compensation, general liability and
fire insurance. This former Meridian Mutual business assumed by the
Pooled Subsidiaries comprises the Company's "Meridian standard" and
"Meridian nonstandard" segments.

Effective October 1, 2001, the 2000 Management Agreement was amended to
eliminate the management and operations services fee charged by State
Auto P&C to participants to the agreement, including Mutual. As a result
of the loss of this income, substantially all of State Auto P&C's
services income was eliminated at that time. Consequently, beginning
with the first quarter

Page 26

2002, the management and operations services segment is included in the
"all other" category for segment reporting, as the results of this
segment no longer meet the quantitative thresholds for separate
presentation as a reportable segment. See "Reportable Segments" included
herein and footnote 15 regarding the Company's operating segments in the
consolidated financial statements of the Company.

The Pooling Arrangement was amended, effective October 1, 2001, such
that the Pooled Subsidiaries' aggregate participation was increased from
53% to 80%. In conjunction with this change in pool participation, the
Pooled Subsidiaries received cash of $2.2 million and fixed maturities
totaling $236.3 million from Mutual, which related to the additional net
insurance liabilities assumed by the Pooled Subsidiaries on October 1,
2001.

For the period October 1, 2001 through December 31, 2003, Mutual entered
into a stop loss reinsurance arrangement (the "Stop Loss") with the
Pooled Subsidiaries. Under the Stop Loss, Mutual has agreed to
participate in the Pooling Arrangement's quarterly underwriting losses
and gains in the manner described. If the Pooling Arrangement's
quarterly statutory loss and loss adjustment expense ratio (the "Pool
loss and LAE ratio") is between 70.75% and 80.00% (after the application
of all available reinsurance), Mutual will reinsure the Pooled
Subsidiaries 27% of the Pooling Arrangement's losses in excess of a Pool
loss and LAE ratio of 70.75% up to 80.00%. The Pooled Subsidiaries would
be responsible for their share of the Pooling Arrangement's losses over
the 80.00% threshold. Also, Mutual will have the right to participate in
the profits of the Pooling Arrangement. Mutual will assume 27% of the
Pooling Arrangement's underwriting profits attributable to Pool loss and
LAE ratios less than 69.25%, but more than 59.99%.

As the former Meridian Mutual standard and nonstandard business
continues to be written and processed through the Meridian underwriting and
claims system platform, management has monitored this business as separate
segments from the State Auto standard and nonstandard processed business.
Monitoring of these segments separately has been necessary in order to
facilitate the integration of the business as it migrates through new policies
and renewals to the State Auto systems platform in which State Auto policies,
pricing, underwriting, and claims philosophies are fully reflected. Over time,
it is anticipated that the Meridian operating segments will decrease and
eventually disappear as they become fully integrated on to the State Auto
systems platform. With the addition of the former Meridian Mutual business to
the Pooling Arrangement, the Company renamed the two insurance segments that
existed prior to 2001 to be the "State Auto standard segment" and the "State
Auto nonstandard segment" and that business consisting of the business known
formerly as the Meridian Mutual business to be the "Meridian standard segment"
and "Meridian nonstandard segment." Due to the integration efforts that occurred
within the Meridian nonstandard segment during 2001 and 2002, beginning with the
first quarter of 2003, the Meridian nonstandard business will be included in the
State Auto nonstandard segment.

CRITICAL ACCOUNTING POLICIES

The Company's significant accounting policies are more fully described
in note 1 to the Company's consolidated financial statements. In preparing the
consolidated financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities as of the
date of the balance sheet, revenues and expenses for the period then ended and
the financial entries in the accompanying notes to the financial statements.
Such estimates and assumptions could change in the future, as more information
becomes known which could impact the amounts reported and disclosed therein.

Losses and loss expenses payable are management's best estimates at a
given point in time of what the Company expects to pay claimants, based on known
facts, circumstances and historical trends. Reserves for reported losses are
established on either a case-by-case or formula basis depending on the type and
circumstances of the loss. The case-by-case reserve amounts are determined based
on the Company's reserving practices, which take into account the type of risk,
the circumstances surrounding each claim and policy provisions relating to types
of loss. The formula reserves are based on historical data for similar claims
with provision for trend changes caused by inflation. Loss and loss expense
reserves for incurred claims that have not yet been reported are estimated based
on many variables including historical and statistical information, inflation,
legal developments, storm loss estimates, and

Page 27

economic conditions. Case and formula basis loss reserves are reviewed on a
regular basis and as new data becomes available, estimates are updated resulting
in adjustments to loss reserves. Generally, reported losses that had initially
been reserved on a formula basis which have not settled after six months, are
case reserved at that time. Although management uses many resources to calculate
reserves, there is no precise method for determining the ultimate liability.

Acquisition costs, consisting of commissions, premium taxes, and certain
underwriting expenses relating to the production of property and casualty
business, are deferred and amortized ratably over the contract period. The
method followed computing the acquisition costs limit the amount of such
deferred costs to their estimated realizable value. In determining estimated
realizable value, the computation gives effect to the premium to be earned,
losses and loss expenses to be incurred, and certain other costs expected to be
incurred as premium is earned. These amounts are based on estimates, and
accordingly, the actual realizable value may vary from the estimated realizable
value.

At December 31, 2002, fixed maturity and equity security investments are
classified as available for sale and carried at fair value. At December 31,
2001, fixed maturities are classified either as held to maturity and carried at
amortized cost, or available for sale and carried at fair value. For investments
classified as available for sale, the net unrealized holding gains or losses,
net of applicable deferred taxes, are shown as a separate component of
stockholders' equity as "accumulated other comprehensive income," and as such
are not included in the determination of net income. Investment income is
recognized when earned, and capital gains and losses are recognized when
investments are sold.

The Company regularly monitors its investment portfolio for declines in
value that are other than temporary, an assessment which requires significant
management judgment. Among the factors management considers are market
conditions, the amount, timing and length of decline in fair value, and events
impacting the issuer. When a security in the Company's investment portfolio has
a decline in fair value which is other than temporary, the Company adjusts the
cost basis of the security to fair value. This results in a charge to earnings
as a realized loss, which is not changed for subsequent recoveries in fair
value. Future increases or decreases in fair value, if not other than temporary,
are included in other comprehensive income.

See a discussion of other factors that may have an impact on
management's best estimates at "Impact of Significant External Factors" included
herein.

RESULTS OF OPERATIONS

2002 COMPARED TO 2001

Net income for the Company increased by $16.4 million (79.5%) in 2002.
Contributing to this increase was a 4.6 point improvement in the Company's GAAP
combined ratio and, as more fully described above, changes made to the Company's
participation in the Pooling Arrangement in the second half of 2001.
Additionally, net investment income increased due to the Pooling Arrangement
changes in 2001, which was offset by a decrease in the Company's management and
operations service income.

Consolidated earned premiums increased by $341.4 million (61.5%) in
2002. This increase was the result of the addition of the former Meridian Mutual
business to the Pooling Arrangement, effective July 1, 2001, a change in the
Pooled Subsidiaries' aggregate pooling participation percentage from 53% to 80%,
effective October 1, 2001 and total net internal growth of 16.3%. The addition
of the former Meridian Mutual business and the pooling change increased
consolidated earned premiums 45.2%. The internal growth of the State Auto
standard segment's earned premiums increased consolidated earned premiums 15.1%.
This increase was driven by growth in commercial lines of business due to a
combination of rate changes as well as increased policy counts. Personal lines
of business continued to experience sales increases over prior year due to
changes in the marketplace that permitted rate increases, as well as the
expansion of the new personal lines sales specialist position that contributed
to increased policy counts. The internal growth of the State Auto nonstandard
segment earned premiums increased consolidated earned premiums 5.4% due to a
combination of rate changes and increased policy counts.

Page 28

The internal decline of the Meridian standard and nonstandard segments
decreased consolidated earned premiums 4.2%. This decrease was expected, given
the corrective actions taken by management in both these segments, which actions
included appropriate and necessary rate increases in almost every line of
business. Additionally, one of the more significant actions taken within the
Meridian standard segment was the discontinuance in late 2000 of the Group
Advantage(R) Program which had generated substantial underwriting losses for
Meridian Mutual. The last Group Advantage(R) policy on the books terminated
January 2003. Regarding the Meridian nonstandard segment, in addition to taking
significant corrective rate action, beginning in late 2001, the Company
implemented an integration plan to write all new nonstandard auto business
produced by the former Meridian Mutual agents through the State Auto nonstandard
segment, specifically through National on the National system platform utilizing
a more appropriate rating structure as well as credit scoring (as permitted by
local law) and "point-of-sale" underwriting tools. The order of integration had
been prioritized such that the states with the most need for profit improvement
migrated to National first. All Meridian nonstandard auto new business is now
being written through the State Auto nonstandard segment. The business that
remains within the Meridian nonstandard segment is expected to decrease given
this segment's historically low retention rate as well as the Company continuing
to take appropriate rate increases. Fourth quarter 2002 earned premiums for the
Meridian nonstandard segment comprised 0.5% of total consolidated earned
premiums versus 1.8% in the same 2001 period. Consequently, beginning with the
first quarter 2003, the Meridian nonstandard auto business will be included in
the State Auto nonstandard segment category.

Net investment income increased by $12.3 million (26.0%) in 2002.
Contributing to the increase over the previous year was an increase in invested
assets due to a transfer of $354.6 million in cash and fixed maturity securities
from Mutual to the Pooled Subsidiaries in the second half of 2001. This transfer
was made in conjunction with the changes made to the Pooled Subsidiaries
participation in the Pooling Arrangement, as more fully described above. Total
cost of invested assets at December 31, 2002 and 2001, was $1,303.0 million and
$1,150.3 million, respectively. Reflecting a decline in the interest rate
environment, the investment yields, based on cash equivalents, fixed and equity
securities at cost were 4.9% and 5.4% for the annual periods ending 2002 and
2001, respectively. See further discussion regarding investments at the
"Liquidity and Capital Resources", "Investments" and "Market Risk" sections,
included herein.

Management services income, including investment management fees,
decreased by $12.9 million (83.1%) in 2002. This decrease was attributable to
the termination of the fee element of the 2000 Management Agreement. The service
fee under the 2000 Management Agreement paid by Mutual in 2001 was $12.5
million. See "Liquidity and Capital Resources" included herein, for discussion
of the overall impact of the loss of the management and operations service fee
on the Company's cash flow and operations.

Consolidated losses and loss adjustment expenses, as a percentage of
earned premiums (the "GAAP loss and LAE ratio"), were 72.9% and 76.9% for the
years 2002 and 2001, respectively. Comparison of the overall results of 2002
with those of 2001 was affected by the addition of the former Meridian Mutual
business to the Pooling Arrangement. Since the former Meridian Mutual business
was added to the Pooling Arrangement effective July 1, 2001, it negatively
impacted the loss results of the Company only in the second half of 2001.
However, in 2002 the results of the former Meridian Mutual business were
included in and negatively impacted the results of the Pooling Arrangement for
the entire year. Comparison of the overall results of 2002 with those of 2001 is
also affected by the reserve strengthening that occurred during the second half
of 2001 with respect to the Meridian segments. While the Meridian standard
business continues to produce loss results poorer than the State Auto book of
business (see table of GAAP loss and LAE ratios operating segments below),
management believes there has been improvement in the performance of the
Meridian segments due to the continuing efforts to improve pricing and risk
selection applicable to these segments during 2002.

During the quarters ended September 30, 2002 and June 30, 2002, the
Pooled Companies produced a Pool loss and LAE ratio under the Stop Loss
(described above) that exceeded the 70.75% threshold, thereby recovering from
Mutual $2.4 million and $6.4 million in losses, respectively (total of $8.8
million for the year ended December 31, 2002). In the quarters ended December
31, 2002 and March 31, 2002, the Pooled Companies' Pool loss and LAE ratio was
less than 69.25%, but more than 59.99%,

Page 29

thereby ceding to Mutual, under the Stop Loss $1.0 million and $0.4 million in
earned premiums, respectively (total of $1.4 million for the year ended December
31, 2002). The cession activity through the Stop Loss had the effect of lowering
the GAAP loss and LAE ratio by 0.9 and 1.1 points in 2002 and 2001,
respectively.

The year 2002 was the worst catastrophe year in the history of the
Company on a dollar loss basis and third worst in terms of GAAP loss and LAE
ratio points. During the second quarter of 2002, a series of tornadoes and
hailstorms went through several of the Company's operating states, including an
F4 tornado in La Plata, Maryland. This storm was the largest single catastrophe
event for the Company in 2002, accounting for 3.1 GAAP loss and LAE ratio
points. Overall, catastrophe losses in 2002 were 1.2 GAAP loss and LAE ratio
points higher than in 2001.

For discussion purposes, the following table provides comparative GAAP
loss and LAE ratios for the Company's insurance operating segments for the 2002
and 2001 periods, respectively, except for the Meridian segments for 2001, which
is for the six month period ended December 31, 2001:

- -----------------------------------------------
GAAP Loss and LAE Ratio 2002 2001
---- ----
- -----------------------------------------------
State Auto standard segment 69.4 65.9
- -----------------------------------------------
State Auto nonstandard segment 81.2 77.3
- -----------------------------------------------
Meridian standard segment 85.9 139.3
- -----------------------------------------------
Meridian nonstandard segment 51.9 168.2
- -----------------------------------------------
Total GAAP Loss and LAE Ratio 72.9 76.9
==== ====
- -----------------------------------------------

The State Auto standard segment GAAP loss and LAE ratio increased in
2002 to 69.4 from 65.9 in 2001. Catastrophe losses represented 5.7 points of
this segment's loss results for 2002 compared to 4.4 points for 2001. With the
significant increase in new business policy count came an increase in claim
submissions. While general inflation has been relatively modest for the past
several years, price inflation on goods and services for which insurance pays,
such as medical care and repairs to automobiles and buildings, exceeded the rate
of overall inflation and adversely impacted the GAAP loss and LAE ratio. The
Company has reacted to this inflationary trend by filing more aggressive,
cost-based, rate increases. Also contributing to the current year deterioration
in the GAAP loss and LAE ratio was restrictions on the use of credit scoring in
some states where the Company does business. To the extent these limitations
result in higher loss ratios, the actuarial rate indications will increase
resulting in larger rate increases being sought. The Company is also reviewing
its credit scoring models to ensure that the premium rate derived from the model
continues to accurately reflect the loss experience associated with each
particular credit score range.

Representing approximately 42% of this segment's business, personal
automobile has over the last five years yielded loss results better than
industry average and in fact, has produced combined ratios of less than 100.0%.
While the current year results are expected again to better industry average,
this line of business did experience deterioration in its current year loss
ratio, specifically within the auto liability and no fault lines, which
management believes is due at least in part to increasing rates of inflation
applicable to the health care sector of the U.S. economy and an increased volume
of new business, as noted above. Adverse loss results on workers' compensation,
commercial multi peril and other liability lines of business, which collectively
represents approximately 18.2% of this segment's business, also contributed to
the current year loss result increase. The Company is taking substantial and
necessary rate increases in rate per exposure across these lines of business.
Workers' compensation continues to be one of the most volatile lines that the
Company provides and for this reason the Company has always maintained a
particularly conservative posture on pricing in this line.

The State Auto nonstandard segment GAAP loss and LAE ratio increased in
2002 to 81.2 from 77.3 in 2001. This segment experienced more volatility in
2002, especially in those states experiencing substantial premium growth due to
policy count increases. As described above, contributing to this growth has been
the addition of National's product to agents who wrote the former Meridian
Mutual's nonstandard auto business. While nonstandard automobile tends to be a
more volatile line of business than standard automobile, management continually
monitors this segment's premium rate adequacy. Management has been paying
particular attention to the adequacy of these rates in these growth states, as
well as risks

Page 30

written in certain agencies, and is reacting accordingly by increasing rates and
working with those agencies regarding risk selection.

The Meridian standard segment GAAP loss and LAE ratio for 2002 was 85.9
compared to 139.3 for the six month period ended December 31, 2001. Comparison
of the overall results of 2002 with those of 2001 is affected by the reserve
strengthening that occurred during the second half of 2001 within this segment.
Catastrophe losses represent approximately 7.0 points of this segment's loss
results for both the 2002 and 2001 periods. While the Meridian standard business
continues to produce loss results worse than the State Auto book of business,
management believes there has been improvement in this segment due to the
necessary and continued efforts that began in 2001, e.g. seeking adequate
cost-based rates, re-underwriting commercial renewals to be certain that risks
written are within the State Auto underwriting guidelines and discontinuing the
Group Advantage(R) Program.

The Meridian non-standard segment GAAP loss ratio for 2002 was 51.9
compared to 168.2 for the six month period ended December 31, 2001. This segment
was also significantly impacted by case reserve strengthening that occurred
during the second half of 2001. Similar to the Meridian standard segment,
largely contributing to the current year loss results has been the substantial
rate increases the Company implemented in 2001 and 2002.

Acquisition and operating expenses, as a percentage of earned premiums
(the "GAAP expense ratio"), were 29.5% and 30.1% for the years 2002 and 2001,
respectively. Management continually focuses its attention on improving its GAAP
expense ratio, which is especially critical during a period of substantial top
line growth.

Interest expense relates to the $45.5 million line of credit agreement
the Company entered into with Mutual in 1999 and the $15.0 million surplus note
agreement entered into with an affiliate on September 30, 2002. See additional
discussion in the "Liquidity and Capital Resources" section included herein.

The 2002 underwriting improvement, coupled with net investment income
being largely comprised of tax-exempt income, produced an effective tax expense
rate in 2002 of 2.1% versus an effective tax benefit of 15% in 2001. For
additional clarification, see the reconciliation between actual federal income
taxes and the amount computed at the statutory rate as detailed in footnote 8 in
the notes to the Company's consolidated financial statements.

2001 COMPARED TO 2000

Net income for the Company decreased $27.1 million (56.8%) in 2001.
Contributing to this decease was an increase in the Company's GAAP combined
ratio to 107.0% from 98.4% in 2000. Negatively impacting the Company's insurance
operations in 2001 were the loss results of the former Meridian Mutual business,
assumed by the Pooled Subsidiaries beginning in July 2001, and a decrease in the
Company's management and operations service fee income.

Consolidated earned premiums increased $157.2 million (39.5%). This
increase was principally the result of the addition of the former Meridian
Mutual business to the Pooling Arrangement, effective July 1, 2001, and a change
in the Pooled Subsidiaries' aggregate pooling participation percentage from 53%
to 80%, effective October 1, 2001. These actions increased consolidated earned
premiums 30.9%. The internal growth of the State Auto standard segment's earned
premiums increased consolidated earned premiums 6.8%. This increase has been
largely driven by growth in commercial lines of business over the last twelve
months; however, during the last half of the calendar year, personal lines of
business began to experience sales increases. Management believes the personal
lines sales increases are due to changes in the market place and to its
establishing the position of Personal Lines Sales Specialist. The internal
growth of the State Auto nonstandard segment earned premiums increased
consolidated earned premiums 2.0%. Production levels in this segment continued
to improve during 2001 as a result of improved processing routines for agents
and the easing of competitive pricing pressures it had felt from certain market
leaders in the first half of 2000. The internal growth of both the Meridian
standard and nonstandard segment on consolidated earned premium was flat. See
discussion below regarding management's action during 2001 on the Group
Advantage(R) Program as well as management's

Page 31

response to adequacy of premium rate levels within the standard segment and the
Company's plan on integration with regard to the Meridian nonstandard segment.

Net investment income increased $8.5 million (21.7%) in 2001.
Contributing to the increase over the previous year was an increase in
investable assets due to a transfer of cash and fixed maturity securities from
Mutual totaling $354.6 million to the Pooled Subsidiaries in conjunction with
the Pooled Subsidiaries assuming 53% of the former Meridian Mutual business on
July 1, 2001 and the change in the Pooled Subsidiaries pooling participation
percentages, effective October 1, 2001, from 53% to 80%. Total cost of
investable assets at December 31, 2001 and 2000, was $1,150.3 million and $741.1
million, respectively.

The investment yields, based on cash equivalents, fixed maturities and
equity securities at cost, were 5.4% and 5.5% for the annual periods ending 2001
and 2000, respectively. During 2001, the Company experienced an increase in the
number of calls over prior years on higher yielding fixed maturities. Monies
from these calls were reinvested at lower rates. See further discussion
regarding investments at the "Liquidity and Capital Resources," "Investments"
and "Market Risk" sections, included herein.

Management services income, including investment management fees,
decreased $2.0 million (11.4%) to $15.6 million for the year ended December 31,
2001. This decrease was attributable to the resolution of the disagreement
between the Company and Ohio Department of Insurance regarding the recognition
of the service fee paid by Mutual to State Auto P&C. The service fee under the
2000 Management Agreement paid by Mutual in 2001 was $12.5 million down from
$14.5 million in 2000. See "Liquidity and Capital Resources" included herein,
for discussion of the overall impact of the loss of the management and
operations service fee on the Company's cash flow and operations.

Losses and loss expenses increased $154.9 million (56.9%) and as a
percentage of earned premiums (the "GAAP loss and LAE ratio"), were 76.9%% and
68.4% for the years 2001 and 2000, respectively. During the fourth quarter of
2001, the Pooled Subsidiaries produced a loss ratio under the Stop Loss
(described above) that exceeded the 80% threshold, thereby recovering the full
layer of $6.2 million from Mutual. Adversely impacting the current year results
were the loss results of the former Meridian Mutual business assumed by the
Pooled Subsidiaries.

For discussion purposes, the following table provides comparative GAAP
loss and LAE ratios for the Company's insurance operating segments for the 2001
and 2000 periods, respectively, except for the Meridian segments for 2001, which
is for the six month period ended December 31, 2001:

- -----------------------------------------------
GAAP Loss and LAE Ratio 2001 2000
---- ----
- -----------------------------------------------
State Auto standard segment 65.9 67.4
- -----------------------------------------------
State Auto nonstandard segment 77.3 81.4
- -----------------------------------------------
Meridian standard segment 139.3 -
- -----------------------------------------------
Meridian nonstandard segment 168.2 -
----- ----
- -----------------------------------------------
Total GAAP Loss and LAE Ratio 76.9 68.4
==== ====
- -----------------------------------------------

The Company's State Auto standard segment reflected an improvement in
its GAAP loss and LAE ratio in 2001 to 65.9 from 67.4 in 2000. This segment's
largest line of business, automobile, reflected a 1.5 point improvement in 2001
from 2000. This segment's next largest line of business, homeowners, has
experienced some deterioration in its GAAP loss and LAE ratio over the last
several years. Management has been monitoring this line of business and has
taken some corrective action through rate increases and improved underwriting
techniques such as credit scoring.

The Company's State Auto nonstandard segment experienced an improvement
in its GAAP loss and LAE ratio in 2001 to 77.3 from 81.4 in 2000. In 2000, this
segment began experiencing some volatility in loss activity in those states
where National began operations in 1999. Consequently, management began
monitoring the premium rate adequacy in these new states and reacted accordingly
throughout 2000 and 2001 by increasing rates in these new states. Additionally,
this segment has implemented a number of underwriting tools, including
"point-of-sale" underwriting as well as the use of credit scoring. Management
believes these two tools have contributed to this segment's profit improvement.

Page 32

The former Meridian Mutual business has historically produced poorer
loss results than the State Auto book. Through the integration process, several
areas within the Meridian Mutual book are being strengthened that should produce
improved long term results. The most notable improvement was management's focus
on reviewing the Meridian segments' case reserves during the second half of 2001
to ensure that the claims were reserved in a manner consistent with State Auto
practices. During the review, it became apparent that case reserves on the
Meridian segments for claims occurring in prior accident periods were not
reserved consistently with historic State Auto adequacy levels. Nearly 14,000
open claims were reviewed, adding approximately $36 million to known case
reserves on claims occurring in prior periods. Irrespective of this reserve
strengthening, the Meridian segments' business continues to produce results that
are not acceptable to management.

Corrective action is taking place in both the standard and nonstandard
segments. Group Advantage(R) was a program within Meridian's standard segment
where Meridian made its personal lines products available to Sam's Club members
through insurance kiosks located in Sam's Club retail outlets. While this
program generated significant premium growth, it consistently failed to meet
profitability objectives. As a result, in late 2000, the former Meridian Mutual
stopped writing new Group Advantage(R) business and began to terminate existing
business as permitted by law. At the end of 2000, there were approximately
15,000 Group Advantage(R) policies in force. At year end 2001, there are
approximately 800 of such policies in force. These remaining policies are
expected to non-renew over the course of 2002.

During 2001, management also focused on strengthening the Meridian
standard segment's adherence to underwriting guidelines in a manner consistent
with State Auto practices, as well as analyzing the adequacy of prices relative
to risks written. Consequently, management is in the process of re-underwriting
100% of the commercial renewals to be certain they fall within the State Auto
guidelines. State Auto also has a practice of reviewing the rate level for each
line of business in each operating state each year. Concurrent with these
reviews, the Meridian standard segment's rate levels on its commercial book of
business are being adjusted to the State Auto rate level. Implementing the
Company's underwriting and pricing discipline within the Meridian standard
segment is anticipated to have an adverse effect on top line growth of the
Meridian standard segment. This may be partially offset by new business being
written within the State Auto standard segment by those agencies previously
representing the former Meridian Mutual but not State Auto.

The Meridian nonstandard segment produced significant underwriting
losses generating a loss ratio for the six months ended December 31, 2001 of
168.2%. An integration plan is currently in place to write all new nonstandard
auto business produced by former Meridian agents through National on the
National system platform. The National system provides several enhancements that
management anticipates will improve the nonstandard loss ratio for new risks
written. Most notably, the National system uses credit scoring and
"point-of-sale" underwriting tools. The order of integration has been
prioritized such that the states with the most need for profit improvement are
migrating to National first. New business for six of the 12 states that the
Meridian nonstandard segment operates in is currently being written through
National, with the remaining six states to follow throughout 2002.

Acquisition and operating expenses, as a percentage of earned premiums
(the "GAAP expense ratio"), were 30.1% and 30.0% for the years 2001 and 2000,
respectively. Impacting the current year expenses was approximately $1.3 million
(0.2%) related to the Company's estimate of its future guaranty fund assessments
related to the Reliance Insurance Company insolvency that was announced during
the fourth quarter of 2001.

Interest expense relates to the line of credit agreement the Company
entered into with Mutual during the second quarter of 1999 to assist in the
funding of its stock repurchase program. See additional discussion in the
"Liquidity and Capital Resources" section included herein.

Other expense as a percentage of earned premiums, were 1.6% and 1.7% for
the year 2001 and 2000, respectively. Other expense for 2000 included $530,000
in interest relating to the return of premiums to the policyholders in the state
of North Carolina as a result of settlement of rate litigation with the North
Carolina Department of Insurance. Absent this interest charge in 2000, other
expense, as a percentage of earned premiums, was comparable between the two time
periods.

Page 33

During 2001, the Company experienced an underwriting loss on its
insurance operations, largely due to the loss results of the former Meridian
Mutual business assumed by the Pooled Subsidiaries. This underwriting loss,
coupled with net investment income being largely comprised of tax-exempt income,
produced an effective tax benefit in 2001 of 15% versus an effective tax expense
of 22% in 2000. For additional clarification, see the reconciliation between
actual federal income taxes and the amount computed at the statutory rate as
detailed in footnote 8 in the notes to the Company's consolidated financial
statements.

REPORTABLE SEGMENTS

The Company's reportable segments are: State Auto standard insurance,
State Auto nonstandard insurance, Meridian standard insurance, Meridian
nonstandard insurance, and investment management services. The profits (losses)
of these segments are monitored by management on an unconsolidated basis, as
reflected in footnote 15, Reportable Segments, in the Company's consolidated
financial statements and therefore do not reflect adjustments for transactions
with other segments or realized gains or losses on sales of investments. The
following table reflects segment profit (loss) for the years ended 2002, 2001,
and 2000, except for the Meridian segments for 2001, which is for the six month
period ended December 31, 2001:

- ---------------------------------------------------------------------------------------
2002 2001 2000
---- ---- ----
- ---------------------------------------------------------------------------------------
(Dollars in thousands)
- ---------------------------------------------------------------------------------------

State Auto standard insurance $37,537 $45,664 $35,579
- ---------------------------------------------------------------------------------------
State Auto nonstandard insurance 1,538 1,378 (116)
- ---------------------------------------------------------------------------------------
Meridian standard insurance (15,376) (44,397) -
- ---------------------------------------------------------------------------------------
Meridian nonstandard insurance 2,537 (5,933) -
- ---------------------------------------------------------------------------------------
Investment management services 6,402 5,965 5,354
- ---------------------------------------------------------------------------------------
All other 1,916 16,326 18,457
----- ------ ------
- ---------------------------------------------------------------------------------------
Total segment profit $34,554 $19,003 $59,274
======= ======= =======
=======================================================================================

The decrease in the Company's 2002 profit within the State Auto standard
insurance segment is primarily due to an increase in this segment's current year
loss experience as discussed at "2002 Compared to 2001" in "Results of
Operations." Increased top line growth, as well as an increase in the State Auto
nonstandard segment's net investment income, despite deterioration in its loss
results, contributed positively to this segment's profit in 2002. Improvement in
the Company's 2001 segment profit within the State Auto standard and nonstandard
insurance segments was primarily due to an improvement in these segments' loss
experience and management's response to premium rate inadequacy as discussed at
"2001 Compared to 2000" in "Results of Operations." As discussed above,
management continually monitors these segments' premium rate adequacy and seeks
adequate cost-based rates.

Comparison of the segment profit (loss) results of 2002 with that of
2001 for the Meridian segments was affected by the reserve strengthening that
occurred during the second half of 2001. While management recognizes that the
Meridian standard business continues to produce loss results poorer than the
State Auto standard segment, it believes its integration efforts that began in
2001, as discussed at "2001 Compared to 2000," has improved this segment's
results.

The increase in segment profit of the investment management segment in
2002 and 2001 was the result of this segment providing its services to the
Meridian Insurers beginning June 1, 2001. This segment's revenue is based on the
average fair value of the portfolio of the companies managed, which is largely
comprised of fixed maturities. During 2002 and 2001, the investment management
segment profit increased as managed invested assets increased.

As discussed above, beginning with the first quarter of 2002, the
management and operations services segment is now included in the "all other"
category for segment reporting as the results of this segment no longer meet the
quantitative thresholds for separate presentation as a reportable segment. All
other segment profits, including management and operations services, decreased
in 2002 and 2001. The termination of the service fee under the 2000 Management
Agreement was due to the resolution of the disagreement between the Company and
Ohio Department of Insurance regarding the service fee

Page 34

paid by Mutual to the Company in 2001. See discussion at "2002 Compared to 2001"
and "2001 Compared to 2000" in "Results of Operations." For additional
information on the Company's reportable segments, see footnote 15 on "Reportable
Segments" in the Company's consolidated financial statements.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity refers to the ability of a company to generate adequate
amounts of cash to meet its needs for both long and short-term cash obligations
as they come due. The Company's significant sources of cash are premiums,
investment income and investments as they mature. The Company continually
monitors its investment and reinsurance programs to ensure they are
appropriately structured to enable the insurance subsidiaries to meet
anticipated short and long-term cash requirements without the need to sell
investments to meet fluctuations in claim payments.

Overall net cash provided by operating activities was $126.6 million in
2002, $63.5 million in 2001 and $87.7 million in 2000. The increase in 2002 is
largely attributable to the prior year changes to the Pooled Subsidiaries
participation in the Pooling Arrangement. In the second half of 2001, the Pooled
Subsidiaries received cash of $8.6 million and fixed maturities of $346 million
from Mutual as a result of adding the Meridian Mutual business to the Pooling
Arrangement and changing the pooling participation percentage of the Pooled
Subsidiaries from 53% to 80%. In 2000 there was a cash transfer of $18.6 million
to the Pooled Subsidiaries in connection with the 2000 amended Pooling
Arrangement, as well as a cash transfer of $28.1 million to State Auto P&C from
Mutual relating to the net pension and post-retirement plan liabilities assumed
by State Auto P&C relating to the transfer of employees of Mutual as of January
1, 2000. Prior to 2000, State Auto P&C provided only executive management
services to all insurance affiliates. Absent the impact of these transactions in
2001 and 2000, net cash provided by operating activities was $54.9 million and
$40.9 million, respectively. Over the last three years, operating cash flows
have been sufficient to meet the operating needs of the Company while providing
opportunities for increased investment and financing needs. The combination of
the elimination of the relatively consistent cash flow from the management and
operations services fee from Mutual in 2001 along with significantly larger
insurance segments is expected to result in more volatility going forward but
will also provide opportunity for increased earnings and cash flows from
operations.

Overall net cash used in investing activities was $85.6 million during
2002, $55.3 million in 2001 and $90.9 million during 2000. The respective year's
investing activity was reflective of the cash flow generated from operations
discussed above. During 2002 the Company experienced fluctuating activity within
its fixed maturity portfolio. Call activity in 2002 continued in response to the
declines in the interest rate environment. While the Company continued to focus
its attention on improving the loss results of the Meridian book of business,
which has put upward pressure on the Company's overall loss experience in recent
years, the Company increased its sale activity of its fixed maturities in an
effort to increase its taxable position in its investment portfolio. Monies
generated from the call and sale activity have been reinvested at lower yielding
rates.

Cash provided by financing activities consists of proceeds from issuance
of debt and common stock and cash used to acquire treasury shares and pay
dividends to shareholders. Overall net cash provided by financing activities was
$25.0 million in 2002, $0.5 million in 2001 and $10,000 in 2000. Net cash
provided by financing activities increased during 2002 primarily due to net
proceeds from issuance of debt (see discussion below), partly offset by payments
to re-purchase Company common shares. During 2001 net cash provided by financing
activities increased due to an increase in net proceeds from issuance of common
stock over 2000.

Mutual, whose ownership in State Auto Financial is approximately 67%,
has waived its right to receipt of the dividends declared by State Auto
Financial since 1994 in an effort to enhance the statutory surplus of the
insurance subsidiaries of State Auto Financial for use in support of
underwriting operations which in turn is expected to increase the statutory
surplus of Mutual. In years before 2002, prior to the declaration of each
dividend by State Auto Financial, Mutual's directors reviewed the facts and
circumstances then present in deciding whether to waive such dividend. Beginning
in 2002, the issue of the waiver of Mutual's dividend on its shares of State
Auto Financial was referred to the Independent Committee of the board of
directors of Mutual. It met and determined that it would review dividend waiver

Page 35

decisions on an annual basis. For the year 2002, this committee of Mutual's
board of directors decided to waive Mutual's dividends that might be declared by
the board of directors of State Auto Financial for 2002 in order to take better
advantage of the investment opportunity State Auto Financial represents for
Mutual. In 2003, once again this matter was referred to the Independent
Committee of the Mutual board which determined to waive Mutual's right to
receipt of dividends declared by State Auto Financial for the year 2003.

Impacting cash provided by financing activities during 2002, 2001 and
2000 was State Auto Financial's Board of Directors' approving plans to
repurchase shares of its common stock from the public. In March 2002, the Board
of Directors of State Auto Financial approved a plan to repurchase up to 1.0
million shares of its common stock from the public over a period extending to
December 31, 2003. During 2002, the Company repurchased 396,000 shares from the
public for a total of $6.3 million. Impacting cash used in financing activities
during 2001 and 2000 was a 2000 stock repurchase plan approved to purchase up to
1.0 million of State Auto Financial's common stock from the public ending
December 31, 2001 (the "2000 Repurchase Plan"). In 2001 and 2000, the Company
repurchased approximately 25,000 shares each year from the public for a total of
$0.4 million and $0.3 million, respectively.

In conjunction with a 1999 Repurchase Plan, State Auto Financial entered
into a line of credit agreement with Mutual for $45.5 million. The interest rate
is adjustable annually on each January 1 to reflect adjustments in the then
current prime lending rate as well as State Auto Financial's current financial
position. The interest rate was 4.75%, 5.0% and 6.0% for 2002, 2001 and 2000,
respectively. Beginning January 1, 2003, the interest rate on this credit
agreement will be 4.25%. Commencing in 2001, principal is due upon demand, with
final payment to be received on or prior to December 31, 2005

Effective September 30, 2002, Milbank entered into a $15.0 million
surplus contribution note with Meridian Security. Subject to the condition
described below and other terms of the note, the maturity date is September 30,
2012. The interest rate is equal to the U.S. Treasury ten-year note yield at
September 30, 2002 plus 100 basis points (4.59%) and is adjustable October 1,
2007, to the then current U.S. Treasury ten-year note yield plus 100 basis
points for the remaining term of the note. Interest is accrued, but all payments
of principal or interest may be made only with the prior written approval of the
South Dakota Director of Insurance, Milbank's domiciliary state. Interest is
scheduled to be paid semiannually in arrears beginning March 30, 2003.

The purpose of this surplus contribution note was to lower Milbank's net
written premium to statutory surplus ratio (the "leverage ratio"). The increase
in Milbank's leverage ratio resulted from an unusual rate of written premium
growth over the last eighteen months due to a combination of increased top line
growth and an increase in the Company's pooling participation percentage,
effective October 1, 2001 (Milbank's pooling percentage increased from 10% to
17%), as well as the addition of the former Meridian Mutual business to the
Pooling Arrangement, effective July 1, 2001. Also affecting its leverage ratio
had been the increased losses sustained by the Company during the period of
transition of the former Meridian Mutual book of business. At December 31, 2002,
Milbank's leverage ratio is 2.4 to 1.

Effective December 23, 2002, State Auto Financial entered into a 364 day
$15.0 million term loan note agreement with a bank. Interest adjusts quarterly
and accrues based on LIBOR plus 75 basis points (2.15% at December 31, 2002).
Interest on the note is 2.15% through March 23, 2003 and 2.027% for the period
March 24, 2003 through September 23, 2003. The purpose of this term loan note
was to contribute additional capital to State Auto P&C to improve this company's
leverage ratio. The reason for the increase in State Auto P&C's leverage ratio
is similar to that of Milbank's, which is described above. State Auto P&C's
pooling percentage increased from 39% to 59%, effective October 1, 2001. At
December 31, 2002, State Auto P&C's leverage ratio is 2.6 to 1.

At December 31, 2002, National's leverage ratio is 4.4 to 1 compared to
2.0 to 1 at December 31, 2001. The increase in the 2002 leverage ratio is the
result of this company's substantial current year net written premium growth.
Management believes the leverage ratios for Milbank, State Auto P&C and National
are higher than is optimal. Management is in the process of considering
alternatives and developing a plan to improve these ratios. It is likely there
will be a cost to the Company attendant to generating additional surplus within
these three insurance subsidiaries, but no details are known at this time.

Page 36

The National Association of Insurance Commissioners ("NAIC") maintains
risk-based capital requirements for property and casualty insurers. Risk-based
capital is a formula that attempts to evaluate the adequacy of statutory capital
and surplus in relation to investment and insurance risks such as asset quality,
loss reserve adequacy and other business factors. Applying the risk-based
capital requirements as of December 31, 2002, each of the State Auto Insurance
Companies surpassed all standards established by the formula.

The State Auto Insurance Companies are participants in a catastrophe
reinsurance program. The amount retained by the State Auto Insurance Companies
is $40.0 million for each occurrence. For up to $80.0 million in losses, excess
of $40.0 million, traditional reinsurance coverage is provided. State Auto P&C
assumes catastrophe reinsurance from Mutual, Milbank, SA Wisconsin, Farmers
Casualty, SA Ohio, National, Mid-Plains and the Meridian Insurers, in the amount
of $100 million excess of $120 million. This layer of $100 million in excess of
$120 million has been excluded from the Pooling Arrangement. There have been no
losses assumed under this agreement.

To provide funding if the State Auto Insurance Companies were to incur
catastrophe losses in excess of $120.0 million, State Auto Financial has
continued a structured contingent financing transaction with a financial
institution and a syndicate of other lenders (the "Lenders") to provide up to
$100.0 million for reinsurance purposes. In the event of such a loss, this
arrangement provides that State Auto Financial would sell redeemable preferred
shares to SAF Funding Corporation, a special purpose company ("SPC"), which
would borrow the money necessary for such purchase from the Lenders. State Auto
Financial would then contribute to State Auto P&C the funds received from the
sale of its preferred shares. State Auto P&C would use the contributed capital
to pay its direct catastrophe losses and losses assumed under the catastrophe
reinsurance agreement. State Auto Financial is obligated to repay SPC (which
would repay the Lenders) by redeeming the preferred shares over a five-year
period. In the event of a default by State Auto Financial, the obligation to
repay SPC has been secured by a Put Agreement among State Auto Financial, Mutual
and the Lenders, under which Mutual would be obligated to either purchase the
preferred shares from the SPC or repay the SPC for the loan(s) outstanding.

State Auto P&C's December 31, 1990 liability for losses and loss
expenses of $65.5 million has been guaranteed by Mutual. Pursuant to the
guaranty agreement, all ultimate adverse development of the December 31, 1990
liability, if any, is to be reimbursed by Mutual to State Auto P&C in
conformance with pooling percentages in place at that time. As of December 31,
2002, there has been no adverse development of the liability.

On March 7, 2003, the Board of Directors of State Auto Financial
declared a quarterly cash dividend of $0.035 per common share, payable on March
31, 2003, to shareholders of record on March 17, 2003. This is the 47th
consecutive cash dividend declared by State Auto Financial's Board since State
Auto Financial had its initial public offering of common stock on June 28, 1991.
State Auto Financial has increased cash dividends to shareholders for eleven
consecutive years.

The maximum amount of dividends that may be paid to State Auto Financial
during 2003 by its insurance subsidiaries without prior approval under current
law is limited to $35.3 million. The Company is required to notify the insurance
subsidiaries' respective State Insurance Commissioner within five business days
after declaration of all dividends and at least ten days prior to payment.
Additionally, the domiciliary Commissioner of each insurer subsidiary has the
authority to limit a dividend when the Commissioner determines, based on factors
set forth in the law, that an insurer's surplus is not reasonable in relation to
the insurer's outstanding liabilities and adequate to its financial needs. Such
restrictions are not expected to limit the capacity of State Auto Financial to
meet its cash obligations.

As discussed above, there was particular emphasis throughout 2002 and
2001 on improving the former Meridian Mutual book of business, which is expected
to continue in 2003. The Company believes its underwriting and pricing
discipline, as well as its commitment to delivering its products as effectively
and efficiently as possible, have been key factors in the Company's underwriting
results over the last several years. The Company remains active in the personal
and commercial markets, developing new products to enhance its product
portfolio; appointing new agents in its operating territories; and refining its
pricing levels for the markets and lines of business it believes offer the most
profit potential.

Page 37

OTHER DISCLOSURES

INVESTMENTS

Stateco performs investment management services (the investment
management services segment) on behalf of the Company and Mutual and its
subsidiaries. The Investment Committee of each insurer's Board of Directors sets
investment policies to be followed by Stateco.

The primary investment objectives of the Company are to generate income,
preserve capital and maintain adequate liquidity for the payment of claims.
Fixed maturities that may be sold due to changing investment strategies are
categorized as available for sale and are carried at fair value. At December 31,
2002, the Company had no fixed maturity investments rated below investment
grade, nor any mortgage loans. The following table provides information
regarding the quality distribution of the Company's fixed maturity portfolio at
December 31, 2002:

- --------------------------------------------------------
Percentage Quality(1)
- --------------------------------------------------------

Corporate and Municipal Bonds 72.0% AA+
- --------------------------------------------------------
U.S. Governments 2.8% AAA
- --------------------------------------------------------
U.S. Government Agencies 25.2% AAA
-----
- --------------------------------------------------------
Total 100.0%
======
- --------------------------------------------------------

(1) As rated by Moody's Investors Service

Despite the volatility in the equity market during 2002, the Company
continued its direction of moderately increasing its equity portfolio
investments to enhance growth of statutory surplus over the long term. Gains and
losses on the sale of equity securities are computed using the first-in,
first-out method. The Company's current investment strategy does not rely on the
use of derivative financial instruments.

At December 31, 2002 all investments in fixed maturity and equity
securities were held as available for sale and therefore are carried at fair
value. Other invested assets are comprised of limited liability partnership
investments that are carried at fair value, and as presented in the table below,
represent approximately 0.2% of the Company's overall investment portfolio. The
unrealized holding gains or losses, net of applicable deferred taxes, are shown
as a separate component of stockholders' equity as "accumulated other
comprehensive income" and as such are not included in the determination of net
income. Effective December 31, 2002, the Company transferred all of its
investments previously classified as held to maturity to the available for sale
category to align the investment portfolio with management's investment policy.
For fixed maturities classified as held to maturity, unrealized holding gains or
losses were not reflected in the accompanying consolidated financial statements;
rather they were carried at amortized cost. Upon transfer of the held to
maturity investments to available for sale at December 31, 2002, the held to
maturity investments' amortized cost, fair value and net unrealized gain were
$19.1 million, $20.4 million and $1.3 million, respectively, and therefore other
comprehensive income of $0.8 million, net of deferred taxes, was recognized.

The following table provides the composition of the Company's investment
portfolio at December 31, 2002 and 2001, respectively:

- --------------------------------------------------------------------------------------------------
(Dollars in thousands) 2002 2001
---- ----
- --------------------------------------------------------------------------------------------------
% %
- --------------------------------------------------------------------------------------------------
Fixed maturities:
- --------------------------------------------------------------------------------------------------

Held to maturity, at amortized cost $ - - $ 27,406 2.4%
- --------------------------------------------------------------------------------------------------
Available for sale, at fair value 1,216,698 95.6% 1,051,405 92.3%
- --------------------------------------------------------------------------------------------------
Equity securities, at fair value 53,710 4.2% 59,845 5.3%
- --------------------------------------------------------------------------------------------------
Other invested assets, at fair value 1,908 0.2% - -
----- ---- - -
- --------------------------------------------------------------------------------------------------
Total investments $1,272,316 100.0% $1,138,656 100.0%
========== ====== ========== ======
- --------------------------------------------------------------------------------------------------

Page 38

The Company regularly monitors its investment portfolio for declines in
value that are other than temporary, an assessment which requires significant
management judgment. Among the factors that management considers are market
conditions, the amount, timing and length of decline in fair value, and events
impacting the issuer. When a security in the Company's investment portfolio has
a decline in fair value which is other than temporary, the Company adjusts the
cost basis of the security to fair value. This results in a charge to earnings
as a realized loss, which is not changed for subsequent recoveries in fair
value. Future increases or decreases in fair value, if not other than temporary,
are included in other comprehensive income.

The Company reviewed its investments at December 31, 2002, and
determined no other than temporary impairment exists in the gross unrealized
holding losses, as provided in the table below, due to the evidence that exists
indicating temporary impairment which includes, market conditions, amount,
timing and length of decline, as well as events impacting the issuer, among
other factors. The evaluation of investments for other than temporary impairment
requires management to make judgments and estimates regarding the evidence
known. Such judgments and estimates could change in the future as more
information becomes known which could negatively impact the amounts reported
herein. At December 31, 2002, there were no investments reflected in the table
below with an unrealized holding loss that had a fair value significantly below
cost continually for more than one year. There are no individually material
securities with an unrealized holding loss at December 31, 2002.

The following table provides detailed information on the Company's
investment portfolio for its gross unrealized gains and losses, adjusted for
investments with other than temporary impairment at December 31, 2002:

- ------------------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
Gross Gain Gross
December 31, 2002 Cost or unrealized number of unrealized Loss number
Investment Category amortized cost holding gains positions holding losses of positions Fair value
- ------------------------------------------------------------------------------------------------------------------------------------
Fixed Maturities
- ------------------------------------------------------------------------------------------------------------------------------------

U.S. Treasury securities & obligations $214,809 $11,016 75 $132 4 $225,693
- ------------------------------------------------------------------------------------------------------------------------------------
States & political subdivisions 696,191 41,574 357 444 12 737,321
- ------------------------------------------------------------------------------------------------------------------------------------
Corporate securities 128,631 10,453 58 72 4 139,012
- ------------------------------------------------------------------------------------------------------------------------------------
Mortgage-backed securities of U.S.
Gov. Agencies 109,703 4,969 54 - - 114,672
------- ----- -- - - -------
- ------------------------------------------------------------------------------------------------------------------------------------
Total fixed maturities 1,149,334 68,012 544 648 20 1,216,698
- ------------------------------------------------------------------------------------------------------------------------------------
Equity Securities
- ------------------------------------------------------------------------------------------------------------------------------------
Technologies 4,135 368 6 1,136 5 3,367
- ------------------------------------------------------------------------------------------------------------------------------------
Pharmaceuticals 6,716 930 4 479 2 7,167
- ------------------------------------------------------------------------------------------------------------------------------------
Financial services 16,194 1,565 10 2,194 14 15,565
- ------------------------------------------------------------------------------------------------------------------------------------
Manufacturing & other 28,792 3,285 15 4,466 25 27,611
------ ----- -- ----- -- ------
- ------------------------------------------------------------------------------------------------------------------------------------
Total equity securities 55,837 6,148 35 8,275 46 53,710
------ ----- -- ----- -- ------
- ------------------------------------------------------------------------------------------------------------------------------------
Other invested assets 1,857 51 1 - - 1,908
----- -- - - - -----
- ------------------------------------------------------------------------------------------------------------------------------------
Total $1,207,028 $74,211 580 $8,923 66 $1,272,316
========== ======= === ====== == ==========
- ------------------------------------------------------------------------------------------------------------------------------------

The amortized cost and fair value of fixed maturities at December 31,
2002, by contractual maturity, are summarized as follows:

Page 39

- -----------------------------------------------------------------------------------------------
Amortized Fair
(Dollars in thousands) Cost Value
- -----------------------------------------------------------------------------------------------

Due after 1 year or less $ 5,363 $ 5,409
- -----------------------------------------------------------------------------------------------
Due after 1 year through 5 years 40,173 43,368
- -----------------------------------------------------------------------------------------------
Due after 5 years through 10 years 288,170 306,308
- -----------------------------------------------------------------------------------------------
Due after 10 years 705,960 746,942
------- -------
- -----------------------------------------------------------------------------------------------
Subtotal 1,039,666 1,102,027
- -----------------------------------------------------------------------------------------------
Mortgage-backed securities 109,668 114,671
------- -------
- -----------------------------------------------------------------------------------------------
Total $1,149,334 $1,216,698
========== ==========
- -----------------------------------------------------------------------------------------------

Expected maturities may differ from contractual maturities as the
issuers may have the right to call or prepay the obligations with or without
call or prepayment penalties.

For 2002, included in realized losses of equity securities below, was
$2,221,000 ($329,000 on equity securities sold and $1,892,000 on equity
securities held at year end) recognized related to other than temporary
impairment on 5 equity positions and none for 2001 and 2000. There were no
individually material equity securities for which the Company recognized other
than temporary impairments in 2002. There was no other than temporary impairment
of fixed maturities for 2002, 2001 and 2000. The individual circumstances
impacting the other than temporary impairments recognized in 2002 did not impact
other investments.

The securities sold during 2002, were sold to either recognize the gain
available, to dispose of the security because of the Company's opportunity to
invest in securities with greater potential return considering capital
preservation, and as discussed above, to reposition the taxable/tax-exempt fixed
maturity position of the Company. Realized gains and losses are summarized as
follows:

- ----------------------------------------------------------------------------------
(Dollars in thousands) Realized Fair Value at
-------- -------------
For the year ended December 31, 2002 Gains/Losses Sale
------------ ----
- ----------------------------------------------------------------------------------
Realized gains:
- ----------------------------------------------------------------------------------

Fixed maturities $12,661 $310,333
- ----------------------------------------------------------------------------------
Equity securities 2,047 8,059
----- -----
- ----------------------------------------------------------------------------------
Total realized gains 14,708 318,392
- ----------------------------------------------------------------------------------

- ----------------------------------------------------------------------------------
Realized losses:
- ----------------------------------------------------------------------------------
Fixed maturities 2,814 53,261
- ----------------------------------------------------------------------------------
Equity securities 5,985 4,657
----- -----
- ----------------------------------------------------------------------------------
Total realized losses 8,799 57,918
----- ------
- ----------------------------------------------------------------------------------
Net realized gains on investments $5,909 $376,310
====== ========
- ----------------------------------------------------------------------------------

MARKET RISK

Investable assets comprise approximately 85.9% of the Company's total
assets. Of the total investable assets, 88.9% are invested in fixed maturities,
3.9% in equity securities and the remaining in cash and cash equivalents.

The Company's decision to make a specific investment is influenced
primarily by the following factors: (a) investment risks; (b) general market
conditions; (c) relative valuations of investment vehicles; (d) general market
interest rates; (e) the Company's liquidity requirements at any given time; and
(f) the Company's current federal income tax position and relative spread
between after tax yields on tax-exempt and taxable fixed income investments.

The fixed maturity portfolio is managed in a laddered-maturity style and
considers business mix and liability payout patterns to ensure adequate cash
flow to meet claims as they are presented. At

Page 40

December 31, 2002, the Company's fixed maturity portfolio had an average
maturity of 15.2 years. For the insurance subsidiaries, the maximum investment
in any single note or bond is limited to 5.0% of statutory assets, other than
obligations of the U.S. government or government agencies, for which there is no
limit. As indicated in the table above, the fixed maturity portfolio is of high
quality with all holdings in either Government obligations, municipal, or
corporate obligations. The Company does not intend to change its investment
policy on the quality of its fixed maturity investments. Investments in equity
securities are selected based on their potential for appreciation as well as
ability to continue paying dividends. Additional information regarding the
composition of investments, along with maturity schedules regarding investments
in fixed maturities at December 31, 2002, is presented in tabular form above.

The Company's primary market risk exposures are to changes in market
prices for equity securities and changes in interest rates and credit ratings
for fixed maturity securities. The Company has no exposure to foreign currency
exchange rate risk nor does it rely on the use of derivative financial
instruments. To provide the Company greater flexibility in order to manage its
market risk exposures, the Company categorizes its fixed maturities as available
for sale. Also, the Company does not maintain a trading portfolio.

The Company's investment portfolio grew 17.1% during 2002 to $1,368.3
million at December 31, 2002 from $1.168.7 million at December 31, 2001. This
growth was generated primarily from cash flow provided by operations and an
increase in the unrealized gains of fixed maturities, partly offset by a decline
in the overall equity market.

The equity markets declined during 2002 and 2001, the first time since
the 1973 and 1974 bear markets in which the market also declined two years in a
row. During 2002, the Company's equity portfolio decreased $11.6 million to a
cumulative unrealized loss of $2.1 million at December 31, 2002 from a
cumulative unrealized gain position of $9.5 million at December 31, 2001.

During 2002 the fixed maturity fair values increased as the interest
rate environment decreased. The Company's fixed maturity portfolio cumulative
unrealized gains increased $58.5 million to $67.4 million at December 31, 2002
from $8.9 million in cumulative unrealized gains at December 31, 2001.

The following table provides information about the Company's fixed
maturity investments used for purposes other than trading that are sensitive to
changes in interest rates. The table presents principal cash flows from
maturities, anticipated calls and estimated prepayments, or pay downs from
holdings in asset backed securities. The table also presents the average
interest rate for each period presented.

PRINCIPAL AMOUNT MATURING IN:
(Dollars in thousands)

2003 2004 2005 2006 2007 Thereafter Total Fair Value
---- ---- ---- ---- ---- ---------- ----- ----------

Fixed interest
rate securities $14,544 5,783 8,302 21,605 8,653 1,079,266 1,138,153 $1,216,698

Average
Interest rate 5.56% 6.01% 6.17% 5.81% 5.89% 5.25% 5.31%

LOSSES AND LOSS EXPENSES PAYABLE

The Company's management conducts periodic reviews of loss development
reports and makes judgments in determining the reserves for ultimate losses and
loss expenses payable. Several factors are considered by management in
estimating ultimate liabilities including consistency in relative case reserve
adequacy, consistency in claims' settlement practices, recent legal
developments, historical data, actuarial projections, accounting projections,
exposure growth, current business conditions, catastrophe developments, late
reported claims, entry errors, and other reasonableness tests.

Page 41

Management's best estimate ("MBE") for National, Mid-Plains and the
Pooled Subsidiaries share of the Pooled Companies loss and allocated loss
adjustment expense reserve ("Loss and ALAE Reserve") at December 31, 2002, is
$618,673,000 compared with an actuarial point estimate of $618,302,000 that is
within a projected range of $593,156,000 to $644,692,000. The actuarial point
estimate and MBE are not materially different. These values presented are on a
direct basis, gross of salvage and subrogation recoverable, and before
reinsurance, except for the Pooled Subsidiaries participation in the
inter-company Pooling Arrangement. Therefore these values cannot be compared to
other loss and loss expenses payable tables included elsewhere within the
Company's Form 10-K. Ranges provide a quantification of the variability in the
reserve projections, while the point estimates establish a mean, or expected
value for the ultimate reserve. The MBE of loss reserves considers the Actuary's
point estimate, or expected value, to be a reasonable and appropriate position
within the range. The following table provides a reconciliation of MBE of the
Company's direct Loss and ALAE Reserve to the Company's net loss and loss
expenses payable at December 31, 2002. The Pooled Subsidiaries net additional
share of transactions assumed from Mutual through the Pooling Arrangement has
been reflected in the table below as Assumed by Pooled Subsidiaries:

- -------------------------------------------------------------------------
Direct Loss and ALAE Reserve (1): (in thousands)
- -------------------------------------------------------------------------

Pooled Subsidiaries, National and Mid-Plains $289,845
- -------------------------------------------------------------------------
Assumed by Pooled Subsidiaries 328,828
--------
- -------------------------------------------------------------------------
Total direct loss and ALAE reserve 618,673
--------
- -------------------------------------------------------------------------
Direct unallocated loss adjustment expense ("ULAE") (1):
- -------------------------------------------------------------------------
Pooled Subsidiaries, National and Mid-Plains 17,413
- -------------------------------------------------------------------------
Assumed by Pooled Subsidiaries 14,689
--------
- -------------------------------------------------------------------------
Total direct ULAE 32,102
--------
- -------------------------------------------------------------------------
Direct salvage and subrogation recoverable:
- -------------------------------------------------------------------------
Pooled Subsidiaries, National and Mid-Plains (13,538)
- -------------------------------------------------------------------------
Assumed by Pooled Subsidiaries (13,555)
--------
- -------------------------------------------------------------------------
Total direct salvage and subrogation recoverable (27,093)
--------
- -------------------------------------------------------------------------
Reinsurance recoverable (8,825)
- -------------------------------------------------------------------------
Assumed reinsurance 3,278
- -------------------------------------------------------------------------
Reinsurance Assumed by Pooled Subsidiaries (26,002)
--------
- -------------------------------------------------------------------------
Total losses and loss expenses payable, net of
reinsurance recoverable on losses and loss
expenses payable of $8,825 $592,133
========
- -------------------------------------------------------------------------

(1) ALAE are those costs that can be related to a specific claim, which
may include attorney fees, external claims adjusters, and investigation costs,
among others. ULAE are those costs incurred in settling claims, such as in-house
processing costs, for which no identification can be made to specific claims.
ALAE and ULAE comprise the loss expense portion of the total loss and loss
expenses payable.

The risks and uncertainties inherent in the estimates include, but are
not limited to, actual settlement experience different from historical data,
trends, changes in business and economic conditions, court decisions creating
unanticipated liabilities, ongoing interpretation of policy provisions by the
courts, inconsistent decisions in lawsuits regarding coverage and additional
information discovered before settlement of claims. The Company's results of
operations and financial condition could be impacted, perhaps significantly, in
the future if the ultimate payments required to settle claims vary from the
liability currently recorded.

The preceding paragraphs briefly describe certain factors management
considers in estimating the ultimate liability for losses and loss expenses.
With respect to the auto line of business, which represents almost half of the
Company's total reserves, the most significant external variable is legal
developments. As discussed in "Impact of Significant External Factors" below,
court decisions have a significant impact on the property and casualty insurance
industry. Some of these decisions have a more prospective effect as, for
example, when contract provisions relating to third party coverages are
construed in ways not anticipated by the Company. Other court decisions have
more of a retroactive effect, in particular in the auto insurance line. Auto
insurance tends to be a line of business more regulated by statutes;
consequently, the courts tend to have more of an opportunity to construe these
statutes and apply their interpretations to existing contracts. Uninsured
motorists and underinsured motorists (collectively "UM") are statutory coverages
in almost every state

Page 42

where the Company does business. When courts construe UM statutes in a manner
which is adverse to the Company and the industry, the effect of that decision is
typically retroactive, because, legally speaking when the court interprets a
statute it is as though the statute was always construed in that manner. This
retroactive effect is exacerbated in UM cases (and other first party coverage
cases) because the statute of limitations applicable to UM claims and other
first party coverages can be as long as 15 years. Claims that had been closed or
not even presented, going back as long as 15 years, can be re-born by an adverse
court decision. The Company considers the impact of adverse court decisions of
which it has become aware when it sets ultimate loss and LAE reserves for auto
insurance as well as other lines to the extent those lines may be retroactively
affected by such matters.

The effect of court decisions is also apparent in the commercial lines
of coverages such as commercial multi-peril and other liability and products
liability. Courts can expand coverage or void exclusions which can increase the
Company's exposure to claims. Some of these third party claims may still be
brought within the statute of limitations applicable to such third party claims
and expose the Company to some retroactive liabilities. These liabilities are
sought to be addressed by the ultimate loss and LAE reserve that is the
Company's estimate of loss and loss expenses payable.

It is not feasible to quantify the impact of judicial decisions by the
courts that may have retroactive effect because the Company cannot foresee,
among the range of issues that are litigated every day in courts in each state
in which the Company does business, which cases will be decided adversely and
how such decisions will actually apply to the Company.

The following table presents the loss and loss expenses payable by major
line of business at December 31, 2002 and 2001, respectively:

- ----------------------------------------------------------------------------------------
2002 2001 % Change
- ----------------------------------------------------------------------------------------
(Dollars in thousands)
- ----------------------------------------------------------------------------------------

Automobile - standard $254,579 $232,254 10%
- ----------------------------------------------------------------------------------------
Automobile - nonstandard 35,269 30,069 17%
- ----------------------------------------------------------------------------------------
Homeowners and farmowners 45,850 40,645 13%
- ----------------------------------------------------------------------------------------
Commercial multi-peril 77,018 58,161 32%
- ----------------------------------------------------------------------------------------
Workers compensation 77,801 72,726 7%
- ----------------------------------------------------------------------------------------
Fire and allied lines 14,416 11,370 27%
- ----------------------------------------------------------------------------------------
Other liability and products liability 80,539 60,154 34%
- ----------------------------------------------------------------------------------------
Other personal lines 1,033 779 33%
- ----------------------------------------------------------------------------------------
Other commercial lines 5,628 3,783 49%
----- -----
- ----------------------------------------------------------------------------------------
Total losses and loss expenses payable,
net of reinsurance recoverable on losses
and loss expenses payable of $8,825 and $592,133 $509,941 16%
$13,919, respectively ======== ========

- ----------------------------------------------------------------------------------------

Overall 2002 total net losses and loss expenses payable increased 16%
from 2001. This increase is primarily driven by an increase in claim
submissions, as the policy count base grew significantly during the year. As
shown in the table, the "other commercial lines" payable percentage increase is
greater than the average increase for all lines. We believe this is due to
higher than average growth in commercial lines, and several unusually large
claims incurred during 2002. Overall, management does not believe there is a
significant change in the total book of business at December 31, 2002 compared
to December 31, 2001.

Unlike 2001, where the Company's loss and loss expenses incurred
increased by $60.7 million for claims that occurred in prior years primarily as
the result of case reserve strengthening on Meridian claims, in 2002, loss and
losses expenses incurred increased $12.4 million (2.4% of December 31, 2001

Page 43

net loss and loss expense payable). The current year development of the prior
years' ultimate liability does not reflect any changes in the Company's
fundamental claims reserving practices.

A tabular presentation of the current year $12.4 million development
broken down by accident year is shown below derived from the Company's 2001 and
2002, 10 year loss development tables, as presented in the Reserves section of
the Company's Form 10-K, "Narrative Description of Business" section. The
development is measured in dollars and as a percentage of the total December 31,
2001 net loss and loss expense payable:

- --------------------------------------------------------
Current year Percentage of
development 12/31/2001
of ultimate total net loss
Accident liability and
Year redundancy loss expenses
(deficiency) payable
- --------------------------------------------------------
(Dollars in
thousands)
- --------------------------------------------------------

1992 and prior $(1,547) (0.30)%
- --------------------------------------------------------
1993 1,210 0.24
- --------------------------------------------------------
1994 (10) 0.00
- --------------------------------------------------------
1995 188 0.04
- --------------------------------------------------------
1996 (401) (0.08)
- --------------------------------------------------------
1997 1,700 0.33
- --------------------------------------------------------
1998 (434) (0.09)
- --------------------------------------------------------
1999 (3,373) (0.66)
- --------------------------------------------------------
2000 (5,509) (1.08)
- --------------------------------------------------------
2001 (4,238) (0.83%)
------- -------
- --------------------------------------------------------
Total ($12,414) (2.4%)
========= ======
- --------------------------------------------------------

In management's opinion, the 2.4% current year development, given the
breakdown by accident year, is well within normal expectations for reserve
development and claim settlement uncertainty.

NEW ACCOUNTING STANDARDS

In June 2001, the Financial Accounting Standards Board issued Statements
of Financial Accounting Standards No. 141, Business Combinations, and No. 142,
Goodwill and Other Intangible Assets, effective for fiscal years beginning after
December 15, 2001 (Statements). Under the new rules, goodwill will no longer be
amortized but will be subject to impairment tests in accordance with the
Statements. Other intangible assets will continue to be amortized over their
useful lives. Effective January 1, 2002, the Company implemented the new rules
in accordance with the Statements. As part of the implementation, the Company
performed the requisite transitional impairment tests for goodwill. The adoption
of the Statements did not materially impact the Company's financial position or
results of operations.

IMPACT OF SIGNIFICANT EXTERNAL FACTORS

Inflation can have a significant impact on property and casualty
insurers because premium rates are established before the amount of losses and
loss expenses are known. When establishing rates, the Company attempts to
anticipate increases from inflation subject to the limitations of modeling
economic variables. General inflation, as measured by the CPI, has been
relatively modest over the last several years, however price inflation on the
goods and services purchased by insurance companies in settling claims has been
steadily increasing. In particular, repair costs for homes, autos, and
commercial buildings, and medical care costs, have risen over the last few
years. We continue to adjust our pricing projections as loss cost trends change
to ensure premiums keep pace with inflation in all lines of business.

Page 44

The Company considers inflation when estimating liabilities for losses
and loss expenses, particularly for claims having a long period between
occurrence and settlement. The liabilities for losses and loss expenses are
management's best estimates of the ultimate net cost of underlying claims and
expenses and are not discounted for the time value of money. In times of high
inflation, the normally higher yields on investment income may partially offset
potentially higher claims and expenses.

The Company is also affected by court decisions. Premiums rates are
actuarially determined to enable an insurance company to generate an
underwriting profit. These rates contemplate a certain level of risk. The courts
may modify, in a number of ways, the level of risk which insurers had expected
to assume including eliminating exclusions, multiplying limits of coverage,
creating rights for policyholders not intended to be included in the contract
and interpreting applicable statutes expansively to create obligations on
insurers not originally considered when the statute was passed. Courts have also
undone legal reforms passed by legislatures, which reforms were intended to
reduce a litigant's rights of action or amounts recoverable and so reduce the
costs borne by the insurance mechanism. These court decisions can adversely
affect an insurer's profitability. They also create pressure on rates charged
for coverages adversely affected and this can cause a legislative response
resulting in rate suppression that can adversely affect an insurer. The Company
may also be adversely affected by regulatory actions on matters within the
jurisdiction of the various insurance departments where the Company does
business or has entities domiciled.

After credit scoring, the industry's use of which has been limited to
varying extents by certain state's laws, the next most predictive underwriting
report available to insurers is previous loss information. Third party vendors
obtain loss information from insurers based on the insured, the vehicle and/or
the property location. As insurers write new business the database is accessed
to analyze any loss experience of the insured, vehicle and/or property location.
Many times insurer's premium rates will be adjusted to reflect the loss
experience accessed from these databases. In some cases the overall
acceptability of the insured's application in the standard market may be
determined by these reports. During 2002, use of this loss information database
product by the insurance industry as a predictive underwriting tool has been
challenged by several west coast states and most recently in a few of the
Company's states of operation. While it is too soon to determine states'
reaction to the utilization of these database systems, any restrictive
regulation of the full use of these underwriting reports could have an adverse
impact on the Company as it has utilized these database systems for several
years as an underwriting tool. Since such regulation is applicable to all
companies writing business which utilize these reports the Company does not
expect to suffer a competitive disadvantage.

Probably the most significant piece of legislation to affect the Company
in 2002 was the Federal Sarbanes-Oxley Act of 2002,("Sarbanes Oxley") which took
effect in July 2002. While this law does not affect the Company's insurance
operations, it has and will continue to have an effect on the Company. Sarbarnes
Oxley was the response of the Congress to the corporate scandals of the last two
years. Sarbanes Oxley imposes significant new rules on the Company's corporate
governance, its financial and reporting processes and its relationship with its
independent auditor. Sarbanes Oxley will require the Company to incur additional
costs through an increase in its internal staff functions to ensure that it
adequately documents compliance with these new legal requirements.

The Terrorism Risk Insurance Act of 2002 (the "Terrorism Act")
established a temporary federal program that provides for a system of shared
public and private compensation for insured losses resulting from acts of
terrorism committed by or on behalf of a foreign interest. In order for a loss
to be covered under the Terrorism Act, it must be the result of an event that is
certified as an act of terrorism by the U.S. Secretary of Treasury ("subject
losses"). In the case of a war declared by Congress, only workers' compensation
losses are covered by the Terrorism Act. The Terrorism Insurance Program (the
"Program") generally requires that all commercial property casualty insurers
licensed in the U.S. participate in the Program. The amount of compensation paid
to participating insurers under the Program is 90% of subject losses, after an
insurer deductible, subject to an annual cap that limits the amount of subject
losses to $100 billion aggregate per program year. The Company's deductible
under this federal Program is approximately $28.0 million for 2003, subject to
final rules to be established by the U.S. Treasury. Under the Terrorism Act,
commercial property and casualty insurers must offer their commercial
policyholders coverage against certified acts of terrorism, but the
policyholders may choose to reject this coverage. If the policyholder rejects
coverage for certified acts of terrorism, the Company

Page 45

intends, subject to the approval of the state regulators, to cover only such
acts of terrorism that are not certified acts under the Terrorism Act and that
do not arise out of nuclear, biological or chemical agents.

FORWARD-LOOKING STATEMENTS; CERTAIN FACTORS AFFECTING FUTURE RESULTS

Statements contained in this Form 10-K or any other reports or documents
prepared by the Company or made by management may be "forward-looking" within
the meaning of the Private Securities Litigation Reform Act of 1995. Such
forward-looking statements are subject to certain risks and uncertainties that
could cause the Company's actual results to differ materially from those
projected. Forward-looking statements may be identified, preceded by, followed
by, or otherwise include, without limitation, words such as "plans," "believes,"
"expects," "anticipates," "intends," "estimates," or similar expressions. The
following factors, among others, in some cases have affected and in the future
could affect the Company's actual financial performance.

- In addition to the acquisition of the Meridian Insurers and
Mutual's merger with Meridian Mutual as discussed elsewhere in
this Form 10-K, during the past several years, Mutual and the
Company have acquired other insurance companies, such as
Milbank, Farmers Casualty, and SA Wisconsin, and it is
anticipated that Mutual and the Company will continue to pursue
acquisitions of other insurance companies in the future.
Acquisitions involve numerous risks and uncertainties, including
the following: obtaining necessary regulatory approvals of the
acquisition may prove to be more difficult than anticipated;
integrating the acquired business may prove to be more costly or
difficult than anticipated; integrating the acquired business
without material disruption to existing operations may prove to
be more difficult than anticipated; anticipated cost savings may
not be fully realized (or not realized within the anticipated
time frame) or additional or unexpected costs may be incurred;
loss results of the Company acquired may be worse than expected;
and retaining key employees of the acquired business may prove
to be more difficult than anticipated. In addition, other
companies in the insurance industry have similar acquisition
strategies. There can be no assurance that any future
acquisitions will be successfully integrated into the Company's
operations, that competition for acquisitions will not intensify
or that the Company will be able to complete such acquisitions
on acceptable terms and conditions. In addition, the costs of
unsuccessful acquisition efforts may adversely affect the
Company's financial performance.

- The Company's financial results are subject to the occurrence of
weather-related and other types of catastrophic events, none of
which are within the Company's control.

- The Company's operations are subject to changes occurring in the
legislative, regulatory and judicial environment. Risks and
uncertainties related to the legislative, regulatory, and
judicial environment include, but are not limited to,
legislative changes at both the state and federal level, state
and federal regulatory rulemaking promulgations and
adjudications that may affect the Company specifically, its
affiliates or the industry generally, class action and other
litigation involving the Company, its affiliates, or the
insurance industry generally and judicial decisions affecting
claims, policy coverages and the general costs of doing
business. Many of these changes are beyond the Company's
control.

- The laws of the various states establish insurance departments
with broad regulatory powers relative to approving intercompany
arrangements, such as management, pooling, and investment
management agreements, granting and revoking licenses to
transact business, regulating trade practices, licensing agents,
approving policy forms, setting reserve requirements,
determining the form and content of required statutory financial
statements, prescribing the types and amount of investments
permitted and requiring minimum levels of statutory capital and
surplus. In addition, although premium rate regulation varies
among states and lines of insurance, such regulations generally
require approval of the regulatory authority prior to any
changes in rates. Furthermore, all of the states in which the
State Auto Group transacts business have enacted laws which
restrict these companies' underwriting discretion. Examples of
these laws include restrictions on agency terminations and laws

Page 46

requiring companies to accept any applicant for automobile
insurance and laws regulating underwriting "tools." These laws
may adversely affect the ability of the insurers in the State
Auto Group to earn a profit on their underwriting operations.

- The property and casualty insurance industry is highly
competitive. While prices have generally increased in some
lines, price competition continues to be intense. The Company
competes with numerous insurance companies, many of which are
substantially larger and have considerably greater financial
resources. In addition, because the Company's products are
marketed exclusively through independent insurance agencies,
most of which represent more than one company, the Company faces
competition within each agency. The Company competes through
underwriting criteria, appropriate pricing, and quality service
to the policyholder and the agent and through a fully developed
agency relations program. See "Marketing" in the "Narrative
Description of Business" in Item 1 of the Company's Form 10-K.

- The Company is subject to numerous other factors which effects
its operations, including, without limitation, the development
of new insurance products, geographic spread of risk,
fluctuations of securities markets, economic conditions,
technological difficulties and advancements, availability of
labor and materials in storm hit areas, late reported claims,
previously undisclosed damage, utilities and financial
institution disruptions, and shortages of technical and
professional employees and unexpected challenges to the control
of the Company by Mutual.

ITEM 7(a). QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

"Qualitative and Quantitative Disclosures About Market Risk" is included
in Item 7 "Management's Discussion and Analysis of Financial Condition and
Results of Operations" under Market Risk.

Page 47

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The Consolidated Financial Statements, including the Notes to
Consolidated Financial Statements and the Report of Independent Auditors are as
follows:

Report of Independent Auditors

The Board of Directors and Stockholders
State Auto Financial Corporation

We have audited the accompanying consolidated balance sheets of State Auto
Financial Corporation and subsidiaries as of December 31, 2002 and 2001, and the
related consolidated statements of income, stockholders' equity and cash flows
for each of the three years in the period ended December 31, 2002. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of State Auto
Financial Corporation and subsidiaries at December 31, 2002 and 2001, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 2002, in conformity with accounting
principles generally accepted in the United States.

Columbus, Ohio /s/ Ernst & Young, LLP
February 21, 2003

Page 48

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

CONSOLIDATED BALANCE SHEETS

DECEMBER 31
-----------
2002 2001
---- ----
(dollars in thousands,
ASSETS except share data)

Fixed maturities:
Held to maturity, at amortized cost (fair value $0 and $28,672, respectively) ............... $ -- 27,406
Available for sale, at fair value (amortized cost $1,149,334 and $1,042,539,
respectively) ............................................................................. 1,216,698 1,051,405
Equity securities, available for sale, at fair value (cost $55,837 and $50,361, respectively) 53,710 59,845
Other invested assets, at fair value (cost $1,857 and $0, respectively) ....................... 1,908 --
------------------------------
Total investments ............................................................................. 1,272,316 1,138,656

Cash and cash equivalents ..................................................................... 96,048 30,016
Deferred policy acquisition costs ............................................................. 77,886 67,087
Accrued investment income and other assets .................................................... 50,788 40,920
Due from affiliate ............................................................................ 14,210 --
Net prepaid pension expense ................................................................... 46,690 43,344
Reinsurance recoverable on losses and loss expenses payable (affiliate $4,286
and $8,867, respectively) ................................................................... 8,825 13,919
Prepaid reinsurance premiums (affiliate $3,997 and $2,200, respectively) ...................... 7,695 4,955
Current federal income taxes .................................................................. -- 1,549
Deferred federal income taxes ................................................................. 5,796 13,800
Property and equipment, at cost, net of accumulated depreciation of $3,915
and $3,351, respectively .................................................................... 12,741 13,250
------------------------------
Total assets .................................................................................. $1,592,995 1,367,496
==============================

LIABILITIES AND STOCKHOLDERS' EQUITY
Losses and loss expenses payable (affiliate $303,960 and $280,011, respectively)............... $ 600,958 523,860
Unearned premiums (affiliate $133,130 and $138,588, respectively) ............................. 377,990 329,495
Notes payable (affiliates $60,500 and $45,500, respectively) .................................. 75,500 45,500
Postretirement benefit liabilities ............................................................ 66,763 57,237
Current federal income taxes .................................................................. 745 --
Other liabilities ............................................................................. 7,270 5,059
Due to affiliates ............................................................................. -- 6,152
------------------------------
Total liabilities ............................................................................. 1,129,226 967,303
------------------------------

Commitments and contingencies ................................................................. -- --
Stockholders' equity:
Class A Preferred stock (nonvoting), without par value. Authorized 2,500,000
shares; none issued ....................................................................... -- --
Class B Preferred stock, without par value. Authorized 2,500,000 shares;
none issued ............................................................................... -- --
Common stock, without par value. Authorized 100,000,000 shares; 43,525,774
and 43,045,320 shares issued, respectively, at stated value of $2.50 per share............. 108,815 107,613
Less 4,524,475 and 4,108,230 treasury shares, respectively, at cost ......................... (54,249) (47,613)
Additional paid-in capital .................................................................. 50,354 47,106
Accumulated other comprehensive income ...................................................... 42,512 12,030
Retained earnings ........................................................................... 316,337 281,057
------------------------------
Total stockholders' equity .................................................................... 463,769 400,193
------------------------------

Total liabilities and stockholders' equity .................................................... $1,592,995 1,367,496
==============================

See accompanying notes to consolidated financial statements.

Page 49

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

CONSOLIDATED STATEMENTS OF INCOME

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(dollars in thousands,
except per share amount)

Earned premiums (ceded to affiliate $506,777, $432,168 and $402,560,
respectively) ..................................................................... $ 896,595 555,207 397,967
Net investment income ............................................................... 59,691 47,375 38,915
Management services income from affiliates ......................................... 2,638 15,586 17,594
Net realized gains on investments ................................................... 5,909 1,962 5,255
Other income (affiliates $602, $1,450, and $1,546, respectively) .................... 2,646 3,142 3,043
------------------------------------------
Total revenues ...................................................................... 967,479 623,272 462,774
------------------------------------------

Losses and loss expenses (ceded to affiliate $368,819, $303,931 and
$279,657, respectively) ........................................................... 653,474 427,074 272,167
Acquisition and operating expenses .................................................. 264,348 167,207 119,569
Interest expense to affiliates ...................................................... 2,333 2,275 2,730
Other expenses ...................................................................... 9,534 8,740 6,864
------------------------------------------
Total expenses ...................................................................... 929,689 605,296 401,330
------------------------------------------

Income before federal income taxes .................................................. 37,790 17,976 61,444
------------------------------------------

Federal income tax expense (benefit):
Current ........................................................................... 8,155 7,699 14,408
Deferred .......................................................................... (7,360) (10,338) (678)
------------------------------------------
Total federal income taxes .......................................................... 795 (2,639) 13,730
------------------------------------------

Net income .......................................................................... $ 36,995 20,615 47,714
===========================================

Earnings per common share:
Basic ............................................................................. $ 0.95 0.53 1.24
===========================================
Diluted ........................................................................... $ 0.93 0.52 1.21
===========================================

Dividends paid per common share ..................................................... $ 0.14 0.13 0.12
===========================================

See accompanying notes to consolidated financial statements.

Page 50

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands)

ACCUMULATED
ADDITIONAL OTHER
COMMON COMMON TREASURY TREASURY PAID-IN COMPREHENSIVE RETAINED
SHARES STOCK SHARES STOCK CAPITAL INCOME EARNINGS TOTAL
------ ----- ------ ----- ------- ------ -------- -----

BALANCE-DECEMBER 31, 1999 42,355 $105,888 4,034 ($46,588) $42,562 $156 $215,669 $317,687
====== ======== ===== ======== ======= ======= ======== ========
Net income 47,714 47,714
Unrealized gains, net of
tax and reclassification
adjustment 20,161 20,161
--------
Comprehensive income 67,875
--------
Issuance of common stock 271 676 1,120 1,796
Tax benefit from stock
options exercised 189 189
Treasury shares acquired
on stock option exercises 12 (149) (149)
Treasury shares acquired
under repurchase program 25 (301) (301)
Stock options granted 524 524
Change in minority interest
of subsidiary (187) 22 (165)
Cash dividends paid (1,397) (1,397)
------ -------- ----- -------- ------- ------- -------- --------
BALANCE-DECEMBER 31, 2000 42,626 $106,564 4,071 ($47,038) $44,208 $20,317 $262,008 $386,059
====== ======== ===== ======== ======= ======= ======== ========
Net income 20,615 20,615
Unrealized losses, net of tax
and reclassification
adjustment (8,287) (8,287)
--------
Comprehensive income 12,328
--------
Issuance of common stock 419 1,049 1,604 2,653
Tax benefit from stock
options exercised 1,140 1,140
Treasury shares acquired on
stock option exercises 12 (187) (187)
Treasury shares acquired
under repurchase program 25 (388) (388)
Stock options granted 154 154
Cash dividends paid (1,566) (1,566)
------ -------- ----- -------- ------- ------- -------- --------
BALANCE-DECEMBER 31, 2001 43,045 $107,613 4,108 $(47,613) $47,106 $12,030 $281,057 $400,193
====== ======== ===== ======== ======= ======= ======== ========
Net income 36,995 36,995
Unrealized gains, net of tax
and reclassification
adjustment 30,482 30,482
--------
Comprehensive income 67,477
--------
Issuance of common stock 480 1,202 2,173 3,375
Tax benefit from stock
options exercised 910 910
Treasury shares acquired on
stock option exercises 20 (375) (375)
Treasury shares acquired
under repurchase program 396 (6,261) (6,261)
Stock options granted 165 165
Cash dividends paid (1,715) (1,715)
------ -------- ----- -------- ------- ------- -------- --------
BALANCE-DECEMBER 31, 2002 43,525 $108,815 4,524 ($54,249) $50,354 $42,512 $316,337 $463,769
====== ======== ===== ======== ======= ======= ======== ========

See accompanying notes to consolidated financial statements.

Page 51

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

CONSOLIDATED STATEMENTS OF CASH FLOWS

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Cash flows from operating activities:
Net income ....................................................................... $ 36,995 20,615 47,714
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization, net .............................................. 5,616 3,036 3,548
Net realized gains on investments ............................................... (5,909) (1,962) (5,255)
Changes in operating assets and liabilities:
Deferred policy acquisition costs .............................................. (10,798) (4,735) (1,756)
Accrued investment income and other assets ..................................... (10,054) (16,671) (2,480)
Net prepaid pension expense .................................................... (3,346) (5,606) (4,168)
Postretirement benefit liabilities ............................................. 9,526 1,396 3,746
Reinsurance recoverable on losses and loss
expenses payable and prepaid reinsurance premiums ............................. 2,353 (7,943) (763)
Other liabilities and due to/from affiliates, net .............................. (18,149) 11,273 (7,106)
Losses and loss expenses payable ............................................... 77,097 47,693 (440)
Unearned premiums .............................................................. 48,494 21,919 6,817
Federal income taxes ........................................................... (5,205) (14,139) 1,093

Cash provided from adding the former Meridian Mutual Insurance
Company business to the reinsurance pool, effective 7/1/01 ...................... -- 6,380 --
Cash provided from the change in the reinsurance pool
participation percentage 10/1/01 and 1/1/00, respectively ....................... -- 2,197 18,617
Cash provided from transfer of employees, effective 1/1/00 ....................... -- -- 28,098
----------------------------------------------

Net cash provided by operating activities ......................................... 126,620 63,453 87,665
----------------------------------------------

Cash flows from investing activities:
Purchase of fixed maturities - available for sale ................................ (507,626) (246,269) (187,724)
Purchase of equity securities .................................................... (22,130) (16,437) (15,783)
Purchase of other invested assets ................................................ (1,857) -- --
Maturities, calls and principal reductions of fixed maturities - held
to maturity ..................................................................... 8,238 11,612 4,600
Maturities, calls and principal reductions of fixed maturities - available
for sale ........................................................................ 61,509 38,552 22,355
Sale of fixed maturities - available for sale .................................... 363,594 149,043 71,530
Sale of equity securities ........................................................ 12,716 9,301 16,158
Net additions of property and equipment .......................................... (56) (1,056) (2,066)
----------------------------------------------

Net cash used in investing activities ............................................. (85,612) (55,254) (90,930)
----------------------------------------------

Cash flows from financing activities:
Net proceeds from issuance of debt ............................................... 30,000 -- --
Net proceeds from issuance of common stock ....................................... 3,000 2,466 1,708
Payments to acquire treasury shares .............................................. (6,261) (388) (301)
Payment of dividends ............................................................. (1,715) (1,566) (1,397)
----------------------------------------------

Net cash provided by financing activities ......................................... 25,024 512 10
----------------------------------------------

Net increase (decrease) in cash and cash equivalents .............................. 66,032 8,711 (3,255)
----------------------------------------------

Cash and cash equivalents at beginning of year .................................... 30,016 21,305 24,560
----------------------------------------------

Cash and cash equivalents at end of year .......................................... $ 96,048 30,016 21,305
==============================================

See accompanying notes to consolidated financial statements.

Page 52

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a) PRINCIPLES OF CONSOLIDATION

The consolidated financial statements of State Auto Financial Corporation
include State Auto Financial Corporation (State Auto Financial) and its
wholly-owned subsidiaries that consist of:

- State Auto Property and Casualty Insurance Company (State Auto P&C), a
South Carolina corporation
- Milbank Insurance Company (Milbank), a South Dakota corporation
- Farmers Casualty Insurance Company (Farmers Casualty), an Iowa corporation
- State Auto Insurance Company of Ohio (SA Ohio), an Ohio corporation
(formerly State Auto Insurance Company)
- State Auto National Insurance Company (National), an Ohio corporation
- Stateco Financial Services, Inc. (Stateco), an Ohio corporation
- Strategic Insurance Software, Inc. (S.I.S.), an Ohio
corporation.

Mid-Plains Insurance Company (Mid-Plains), an Iowa corporation, is a
wholly-owned subsidiary of Farmers Casualty. The financial statements also
include the operations and financial position of 518 Property Management and
Leasing, LLC (518 PML), whose members are State Auto P&C and Stateco.

State Auto Financial, an Ohio corporation, is a majority-owned subsidiary of
State Automobile Mutual Insurance Company (Mutual), an Ohio corporation. State
Auto Financial and subsidiaries are referred to herein as "the Companies" or
"the Company." All significant intercompany balances and transactions have been
eliminated in consolidation.

(b) DESCRIPTION OF BUSINESS

The Company, through State Auto P&C, Milbank, Farmers Casualty and SA Ohio,
provides standard personal and commercial insurance to its policyholders. Their
principal lines of business include personal and commercial automobile,
homeowners, commercial multi-peril, workers' compensation, general liability and
fire insurance. National and Mid-Plains provide nonstandard automobile
insurance. State Auto P&C, Milbank, Farmers Casualty, SA Ohio, National, and
Mid-Plains operate primarily in the central and eastern United States, excluding
New York, New Jersey, and the New England states, through the independent
insurance agency system. State Auto P&C, Milbank, Farmers Casualty, SA Ohio,
National and Mid-Plains are chartered and licensed as property and casualty
insurers in the states of South Carolina, South Dakota, Iowa, Ohio (SA Ohio and
National) and Iowa, respectively, and are licensed in various other states. As
such, they are subject to the regulations of the applicable Departments of
Insurance of their respective states of domicile (the Departments) and the
regulations of each state in which they operate. These property and casualty
insurance companies undergo periodic financial examination by the Departments
and insurance regulatory agencies of the states that choose to participate.

Through State Auto P&C, effective January 1, 2000, the Company provides
management and operation services under management agreements for all insurance
and non-insurance affiliates. Pursuant to these agreements, the Company received
approximately $28.1 million equal to the net pension and postretirement plan
benefit liabilities assumed relating to the transfer to the Company of all
employees from Mutual and other affiliated companies. Prior to January 1, 2000,
the Company, through State Auto P&C, provided executive insurance management
services to all insurance affiliates.

Through Stateco, the Company provides investment management services to
affiliated companies.

The Company, through S.I.S., develops and sells software for the processing
of insurance transactions, database management for insurance agents and
electronic interfacing of information between insurance companies and agencies.
S.I.S. sells services and products to affiliated companies and their agents and
markets similar services and products to nonaffiliated insurers and their
agencies.

518 PML, an Ohio limited liability company, was formed to engage in the
business of owning and leasing real and personal property to affiliated
companies.

Page 53

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(c) BASIS OF PRESENTATION

The consolidated financial statements have been prepared in conformity with
accounting principles generally accepted in the United States, which vary in
certain respects from statutory accounting practices followed by State Auto P&C,
Milbank, Farmers Casualty, SA Ohio, National and Mid-Plains that are prescribed
or permitted by the Departments.

In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the balance sheet, revenues and expenses for the
period then ended and the accompanying notes to the financial statements. Such
estimates and assumptions could change in the future as more information becomes
known which could impact the amounts reported and disclosed herein.

Material estimates that are particularly susceptible to significant change in
the near term relate to the determination of losses and loss expenses payable.
In connection with the determination of this estimate, management uses
historical data and current business conditions to formulate estimates including
assumptions related to the ultimate cost to settle claims. These estimates by
their nature are subject to uncertainties for various reasons. The Company's
results of operations and financial condition could be impacted in the future
should the ultimate payments required to settle claims vary from the amount of
the liability currently provided.

(d) DEFERRED POLICY ACQUISITION COSTS

Acquisition costs, consisting of commissions, premium taxes, and certain
underwriting expenses related to the production of property and casualty
business, are deferred and amortized ratably over the contract period. The
method followed in computing deferred policy acquisition costs limits the amount
of such deferred costs to their estimated realizable value. In determining
estimated realizable value, the computation gives effect to the premium to be
earned, losses and loss expenses to be incurred, and certain other costs
expected to be incurred as premium is earned, without credit for anticipated
investment income. These amounts are based on estimates and accordingly, the
actual realizable value may vary from the estimated realizable value. Net
deferred policy acquisition costs were:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(dollars in thousands)

Balance, beginning of
year .................. $ 67,087 32,458 28,936
Acquisition costs
deferred .............. 235,139 143,651 101,305
Amortized to expense
during the year ....... 224,340 109,022 97,783
----------------------------------------
Balance, end
of year ............... $ 77,886 67,087 32,458
========================================

(e) INVESTMENTS

At December 31, 2002 all investments in fixed maturity and equity securities
are held as available for sale and therefore are carried at fair value. Other
invested assets are comprised of limited liability partnership investments that
are carried at fair value. The unrealized holding gains or losses, net of
applicable deferred taxes, are shown as a separate component of stockholders'
equity as "accumulated other comprehensive income" and as such are not included
in the determination of net income. Effective December 31, 2002, the Company
transferred all of its investments previously classified as held to maturity to
the available for sale category to align the investment portfolio with
management's investment policy. For fixed maturities classified as held to
maturity, unrealized holding gains or losses were not reflected in the
accompanying consolidated financial statements, rather they were carried at
amortized cost. Upon transfer of the held to maturity investments to available
for sale at December 31, 2002, the held to maturity investments' amortized cost,
fair value and net unrealized gain were $19,095,000, $20,369,000 and $1,274,000,
respectively, and therefore other comprehensive income of $828,000, net of
deferred taxes of $446,000 was recognized. Gains and losses on the sale of
equity securities are computed using the first-in, first-out method. The Company
regularly monitors its investments that have fair value less than the carrying
amount for signs of other than temporary impairment. Among the factors
considered are market conditions, amount, timing and length of decline in fair
market value and events impacting the issuer. When other than temporary
impairment is recognized, the investment cost is written down to fair value and
a realized loss is recorded. The cost is not adjusted for any subsequent
recovery in fair value. For 2002, included in net realized gain on investments
was $2,221,000 of realized losses recognized due to other than temporary
impairments.

Page 54

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(f) GOODWILL

Goodwill included in other assets was $2,012,000, net of $1,864,000
amortization at December 31, 2002 and 2001 which represents the excess of cost
of acquisition over the fair value of the net assets acquired. See related
goodwill discussion at note 1(n). In June 2001, the Financial Accounting
Standards Board issued Statements of Financial Accounting Standards No. 141,
Business Combinations, and No. 142, Goodwill and Other Intangible Assets,
effective for fiscal years beginning after December 15, 2001 (Statements). Under
the new rules, goodwill will no longer be amortized but will be subject to
impairment tests in accordance with the Statements. The Company evaluated the
goodwill and determined that there was no impairment at December 31, 2002.

(g) LOSSES AND LOSS EXPENSES PAYABLE

Losses and loss expenses payable are based on formula and case-basis
estimates for reported claims, and on estimates, based on experience and
perceived trends, for unreported claims and loss expenses. The liability for
unpaid losses and loss expenses, net of estimated salvage and subrogation
recoverable of $27,093,000 and $26,216,000 at December 31, 2002 and 2001,
respectively, has been established to cover the estimated ultimate cost of
insured losses. The amounts are necessarily based on estimates of future rates
of inflation and other factors, and accordingly there can be no assurance that
the ultimate liability will not vary from such estimates. The estimates are
continually reviewed and adjusted as necessary; such adjustments are included in
current operations (see note 4). Salvage and subrogation recoverables are
estimated using historical experience. As such, losses and loss expenses payable
represent management's best estimate of the ultimate liability related to
reported and unreported claims.

(h) PREMIUM REVENUES

Premiums are recognized as earned using the monthly pro rata method over the
contract period.

(i) MANAGEMENT SERVICES INCOME

Management services income includes income for management and operations
services provided by State Auto P&C employees and income for investment
management services provided by Stateco. See note 6(d) regarding the Company's
resolution of its disagreement with the Ohio Department of Insurance (ODI)
regarding its recognition of management and operations service fee revenue paid
by Mutual in 2001. Management and operations services income, to the extent
certain operational ratios were achieved, was recognized quarterly based on a
percentage of the three year average of each managed company's adjusted surplus
or equity. State Auto Insurance Company of Wisconsin (SA Wisconsin), formerly
Midwest Security Insurance Company, a wholly-owned subsidiary of Mutual, is an
exception to this, calculating its fee based on a percentage of quarterly direct
premiums written. Effective July 1, 2002, the Meridian Insurers, defined below,
pay State Auto P&C a predetermined percentage of their allocated share of State
Auto P&C's employee-related costs in exchange for the services of those
employees, in addition to reimbursing State Auto P&C for the actual costs of
such services. Investment management income is recognized quarterly based on a
percentage of the average fair value of investable assets and the performance of
the equity portfolio of each company managed.

(j) SOFTWARE REVENUE RECOGNITION

S.I.S. recognizes revenue from software license fees on a straight-line basis
over the license agreement term specified in the contract. Cash payments
received at the signing of the license agreement are deferred and recognized as
revenue on a straight-line basis over the agreement term, typically three years.
Service fees are also recognized as revenue on a straight-line basis over the
license agreement term specified in the contract. Other fees are recognized as
revenue upon substantial performance by the Company and customer acceptance.
Costs of developing and testing new or enhanced software products are
capitalized and are amortized on a product-by-product basis utilizing the
straight-line method over a period not to exceed three years. Unamortized
software development costs of $225,000 and $186,000 are included in accrued
investment income and other assets at December 31, 2002 and 2001, respectively.
Software amortization, included in other expenses, was $186,000, $440,000 and
$622,000 in 2002, 2001 and 2000 respectively.

(k) FEDERAL INCOME TAXES

The Company files a consolidated federal income tax return and pursuant to an
agreement, each entity within the consolidated group pays its share of federal
income taxes based on separate return calculations. Income taxes are accounted
for using the liability method. Using this method, deferred tax assets and

Page 55

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

liabilities are determined based on differences between financial reporting and
tax bases of assets and liabilities and are measured using the enacted tax rates
and laws that will be in effect when the differences are expected to reverse.

(l) CASH EQUIVALENTS

The Company considers all highly liquid debt instruments with a maturity of
three months or less to be cash equivalents.

(m) OTHER COMPREHENSIVE INCOME

Comprehensive income is defined as all changes in an enterprise's equity
during a period other than those resulting from investments by owners and
distributions to owners. Comprehensive income includes net income and other
comprehensive income. Other comprehensive income includes all other non-owner
related changes to equity and represents net unrealized gains and losses on
available-for-sale fixed maturities, equity securities and other invested
assets.

Separate presentation of the accumulated balance of other comprehensive
income within the equity section of the statement of financial position is also
required. The Company has presented the required displays of total comprehensive
income and its components, within the "Consolidated Statements of Stockholders'
Equity." See additional disclosures at note 14.

(n) NEW ACCOUNTING STANDARDS

In June 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 141, Business Combinations, and No. 142,
Goodwill and Other Intangible Assets, effective for fiscal years beginning after
December 15, 2001 (Statements). Under the new rules, goodwill will no longer be
amortized but will be subject to impairment tests in accordance with the
Statements. Other intangible assets will continue to be amortized over their
useful lives. Effective January 1, 2002, the Company implemented the new rules
in accordance with the Statements. As part of the implementation, the Company
performed the requisite transitional impairment tests for goodwill. The adoption
of the Statements did not materially impact the Company's financial position or
results of operations.

(o) RECLASSIFICATIONS

Certain items in the 2001 and 2000 consolidated financial statements have
been reclassified to conform to the 2002 presentation.

(2) INVESTMENTS

Realized and unrealized gains and losses are summarized as follows:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Realized gains:
Fixed maturities available for sale ................................................. $ 12,661 3,072 791
Equity securities ................................................................... 2,047 2,258 5,959
--------------------------------------
Total realized gains .................................................................. 14,708 5,330 6,750
--------------------------------------

Realized losses:
Fixed maturities available for sale ................................................. 2,814 114 827
Equity securities ................................................................... 5,985 3,254 668
--------------------------------------
Total realized losses ................................................................. 8,799 3,368 1,495
--------------------------------------

Net realized gains on investments ..................................................... $ 5,909 1,962 5,255
======================================

Increase (decrease) in unrealized holding gains -- Equity securities .................. $ (11,611) (4,608) (2,123)

Increase (decrease) in unrealized holding gains -- Fixed
maturities available for sale at fair value ......................................... 58,491 (8,134) 33,195

Increase in unrealized holding gains - Other invested assets .......................... 51 -- --

Change in deferred unrealized gain .................................................... (35) (7) (55)

Deferred federal income taxes thereon ................................................. (16,414) 4,462 (10,856)
--------------------------------------

Increase (decrease) in net unrealized holding gains or losses ......................... $ 30,482 (8,287) 20,161
======================================

Page 56

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

See footnote 1(e) regarding investments. The Company's investments are
summarized as follows:

COST OR GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
AVAILABLE FOR SALE AT DECEMBER 31, 2002: COST HOLDING GAINS HOLDING LOSSES VALUE
---- ------------- -------------- -----
(in thousands)

U.S. Treasury securities and obligations of U.S.
government agencies and authorities ........................ $ 214,809 11,016 132 225,693
Obligations of states and political subdivisions ............. 696,191 41,574 444 737,321
Corporate securities ......................................... 128,631 10,453 72 139,012
Mortgage-backed securities: U.S. government agencies ......... 109,703 4,969 -- 114,672
--------------------------------------------------------------
Total fixed maturities ..................................... 1,149,334 68,012 648 1,216,698
Equity securities ............................................ 55,837 6,148 8,275 53,710
Other invested assets ........................................ 1,857 51 -- 1,908
--------------------------------------------------------------
Total ........................................................ $ 1,207,028 74,211 8,923 1,272,316
==============================================================

COST OR GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
HELD TO MATURITY AT DECEMBER 31, 2001: COST HOLDING GAINS HOLDING LOSSES VALUE
---- ------------- -------------- -----
(in thousands)

U.S. Treasury securities and obligations of U.S.
government agencies and authorities ........................ $ 2,015 73 -- 2,088
Obligations of states and political subdivisions ............. 7,011 403 -- 7,414
Mortgage-backed securities: U.S. government agencies ......... 18,380 790 -- 19,170
--------------------------------------------------------------
Total ........................................................ $ 27,406 1,266 -- 28,672
--------------------------------------------------------------

AVAILABLE FOR SALE AT DECEMBER 31, 2001:

U.S. Treasury securities and obligations of U.S.
government agencies and authorities ........................ $ 60,623 2,051 286 62,388
Obligations of states and political subdivisions ............. 831,865 12,799 9,014 835,650
Corporate securities ......................................... 110,549 3,050 789 112,810
Mortgage-backed securities: U.S. government agencies ......... 30,777 938 20 31,695
Mortgage-backed securities: Corporate. ....................... 8,725 139 2 8,862
--------------------------------------------------------------
Total fixed maturities ..................................... 1,042,539 18,977 10,111 1,051,405
Equity securities ............................................ 50,361 13,794 4,310 59,845
--------------------------------------------------------------
Total ........................................................ $ 1,092,900 32,771 14,421 1,111,250
==============================================================

Deferred federal income taxes on the net unrealized holding gain for available
for sale investments was $22,891,000 and $6,478,000 at December 31, 2002 and
2001, respectively.

Page 57

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

The amortized cost and fair value of fixed maturities at December 31, 2002, by
contractual maturity, are summarized as follows:

AVAILABLE FOR SALE
------------------
AMORTIZED FAIR
COST VALUE
---- -----
(in thousands)

Due after 1 year or less .................................... $ 5,363 5,409
Due after 1 year through 5 years ............................ 40,173 43,368
Due after 5 years through 10 years .......................... 288,170 306,308
Due after 10 years .......................................... 705,960 746,942
----------------------------
1,039,666 1,102,027

Mortgage-backed securities .................................. 109,668 114,671
----------------------------
$ 1,149,334 1,216,698
============================

Expected maturities may differ from contractual maturities because the issuers
may have the right to call or prepay the obligations with or without call or
prepayment penalties.

Fixed maturities with carrying values of approximately $45,256,000 and
$27,666,000 were on deposit with regulators as required by law or specific
escrow agreement at December 31, 2002 and 2001, respectively.

Components of net investment income are summarized as follows:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Fixed maturities ......................................................... $58,225 41,262 36,568
Equity securities ........................................................ 1,146 996 848
Cash and cash equivalents ................................................ 1,204 5,756 1,926
-------------------------------------------
Investment income ........................................................ 60,575 48,014 39,342
-------------------------------------------
Investment expenses ...................................................... 884 639 427
-------------------------------------------
Net investment income .................................................... $59,691 47,375 38,915
===========================================

The Company's current investment strategy does not rely on the use of derivative
financial instruments.

See note 3 for additional fair value disclosures.

(3) DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:

INVESTMENT SECURITIES: Fair values for investments in fixed maturities are
based on quoted market prices, where available. For fixed maturities not
actively traded, fair values are estimated using values obtained from
independent pricing services. The fair values for equity securities are based
on quoted market prices. The fair value of other invested assets is based on
Generally Accepted Accounting Principles equity.

CASH AND CASH EQUIVALENTS: The carrying amounts reported in the balance
sheets for these instruments approximate their fair value, because of their
short-term nature.

NOTES PAYABLE: The carrying amounts reported in the balance sheets for these
instruments approximate their fair value because their interest rates adjust
regularly.

Page 58

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(4) LOSSES AND LOSS EXPENSES PAYABLE

Activity in the liability for losses and loss expenses is summarized as follows:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Losses and loss expenses payable, at beginning of year .......................... $523,860 244,583 232,489
Less: reinsurance recoverable on losses and loss expenses payable ............... 13,919 7,930 10,807
-------------------------------------------
Net balance at beginning of year ................................................ 509,941 236,653 221,682
===========================================
Incurred related to:
Current year .................................................................. 641,060 366,348 277,805
Prior years ................................................................... 12,414 60,726 (5,638)
-------------------------------------------
Total incurred .................................................................. 653,474 427,074 272,167
-------------------------------------------

Paid related to:
Current year .................................................................. 349,733 240,508 164,620
Prior years ................................................................... 221,549 144,862 104,871
-------------------------------------------
Total paid ...................................................................... 571,282 385,370 269,491
-------------------------------------------

Impact of adding the former Meridian Mutual Insurance Company to the
Pooling Arrangement, effective July 1, 2001 (note 6) .......................... -- 75,575 --
-------------------------------------------

Impact of pooling change, October 1, 2001 and January 1, 2000,
respectively (note 6) ......................................................... -- 156,009 12,295
-------------------------------------------

Net balance at end of year ...................................................... 592,133 509,941 236,653
Plus reinsurance recoverable on losses and loss expenses payable ................ 8,825 13,919 7,930
-------------------------------------------

Losses and loss expenses payable, at end of year (affiliate
$303,959, $280,011 and $10,126, respectively) ................................. $600,958 523,860 244,583
===========================================

The increase of $12,414,000 in 2002 for claims occurring in prior years is
well within normal expectations for reserve development and claim settlement
uncertainty. The increase of $60,726,000 in 2001 for claims occurring in prior
years is primarily the result of reserve strengthening on the former Meridian
Mutual Insurance Company (Meridian Mutual) business in order to bring these
claim reserves in line with historic State Auto adequacy levels as well as
ongoing analysis of recent loss development trends. The decrease in calendar
year losses from prior years in 2000 of $5,638,000 is within normal expectation
of reserve variation.

(5) REINSURANCE

In the ordinary course of business, the Company assumes and cedes reinsurance
with other insurers and reinsurers and is a member in various pools and
associations. See Note 6(a) for discussion of reinsurance with affiliates. The
voluntary arrangements provide greater diversification of business and limit the
maximum net loss potential arising from large risks and catastrophes. Most of
the ceded reinsurance is effected under reinsurance contracts known as treaties;
some is by negotiation on individual risks. Although the ceding of reinsurance
does not discharge the original insurer from its primary liability to its
policyholder, the insurance company that assumes the coverage assumes the
related liability.

Page 59

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

Amounts recoverable from reinsurers are estimated in a manner consistent with
the claim liability associated with the reinsured business. The recoverability
of these assets depends on the reinsurers' ability to perform under the
reinsurance agreements. The Company evaluates and monitors the financial
condition and concentrations of credit risk associated with its reinsurers under
voluntary reinsurance arrangements to minimize its exposure to significant
losses from reinsurer insolvencies. The Company has reported ceded losses and
loss expenses payable and prepaid reinsurance premiums with other insurers and
reinsurers as assets. All reinsurance contracts provide indemnification against
loss or liability relating to insurance risk and have been accounted for as
reinsurance. Prior to the reinsurance transaction with Mutual under the Pooling
Arrangement, as discussed in note 6(a), the effect of the Company's reinsurance
on its balance sheets and income statements, is as follows:

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

Losses and loss expenses payable:
Direct ................................................................................................ $293,720 240,012
Assumed ............................................................................................... 3,278 3,837
Ceded ................................................................................................. (4,540) (5,048)
----------------------
Net losses and loss expenses payable ................................................................ $292,458 238,801
======================

Unearned premiums:
Direct ................................................................................................ $243,811 189,800
Assumed ............................................................................................... 1,049 1,107
Ceded ................................................................................................. (3,699) (2,755)
----------------------
Net unearned premiums ............................................................................... $241,161 188,152
======================

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Written premiums:
Direct ............................................................................ $ 631,342 501,250 439,623
Assumed ........................................................................... 3,876 4,196 4,678
Ceded ............................................................................. (12,203) (9,152) (7,340)
------------------------------------------
Net written premiums ............................................................ $ 623,015 496,294 436,961
==========================================

Earned premiums:
Direct ............................................................................ $ 577,803 472,766 432,318
Assumed ........................................................................... 3,934 4,304 5,166
Ceded ............................................................................. (11,260) (8,335) (7,360)
------------------------------------------
Net earned premiums ............................................................. $ 570,477 468,735 430,124
==========================================

Losses and loss expenses incurred:
Direct ............................................................................ $ 413,359 328,363 297,757
Assumed ........................................................................... 2,383 3,054 3,726
Ceded ............................................................................. (1,945) (1,550) 152
------------------------------------------
Net losses and loss expenses incurred ........................................... $ 412,382 329,867 301,635
==========================================

Page 60

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(6) TRANSACTIONS WITH AFFILIATES

(a) REINSURANCE

State Auto P&C, Milbank, Farmers Casualty, SA Ohio (the Pooled Subsidiaries)
and SA Wisconsin participate in a quota share reinsurance pooling arrangement
(the Pooling Arrangement) with Mutual whereby the Pooled Subsidiaries and SA
Wisconsin cede to Mutual all of their insurance business and assume from Mutual
an amount equal to their respective participation percentages in the Pooling
Arrangement. All premiums, losses and loss expenses and underwriting expenses
are allocated among the participants on the basis of each company's
participation percentage in the Pooling Arrangement. The Pooling Arrangement
provides indemnification against loss or liability relating to insurance risk
and has been accounted for as reinsurance.

Effective December 31, 1999 State Auto P&C, Milbank, SA Wisconsin and Farmers
participation in the Pooling Arrangement was 50%. Effective January 1, 2000, the
Pooling Arrangement was amended to make SA Ohio a participant in the Pooling
Arrangement and the Pooled Subsidiaries aggregate participation increased to
53%. In conjunction with this change in pool participation, the Pooled
Subsidiaries received cash from Mutual of $18.6 million, which related to the
additional net insurance liabilities assumed by the Pooled Subsidiaries on
January 1, 2000. In 2000, Mutual entered into an agreement with Meridian Mutual
Insurance Company (Meridian Mutual), an Indiana domiciled property and casualty
insurance company, pursuant to which Meridian Mutual would be merged with and
into Mutual, with Mutual continuing as the surviving corporation. The effective
date of the merger transaction was June 1, 2001. With the merging of Meridian
Mutual into Mutual, all insurance business that had been written by Meridian
Mutual became, legally, Mutual business. For the period June 1, 2001 through
June 30, 2001, the insurance business formerly known as the Meridian Mutual
business prior to the June 1 merger transaction was excluded from the Pooling
Arrangement. Effective July 1, 2001, the insurance business of the former
Meridian Mutual became part of the Pooling Arrangement, and the Pooled
Subsidiaries assumed 53% of the former Meridian Mutual business on this same
date. Concurrently, with this transaction, the Pooled Subsidiaries received cash
of $6.4 million and fixed maturities totaling $109.7 million from Mutual which
related to the additional net insurance liabilities assumed by the Pooled
Subsidiaries on July 1, 2001. As part of the resolution of the disagreement with
the ODI regarding the recognition of the service fee revenue paid by Mutual to
State Auto P&C (see note 6(d)), the Pooled Subsidiaries aggregate participation
in the Pooling Arrangement was increased to 80%, effective October 1, 2001. In
conjunction with this change in pool participation, the Pooled Subsidiaries
received cash of $2.2 million and fixed maturities totaling $236.3 million from
Mutual, which related to the additional net insurance liabilities assumed on
October 1, 2001. All parties that participate in the Pooling Arrangement have an
A. M. Best rating of A+ (Superior).

The Pooling Arrangement does not relieve each individual pooled subsidiary of
its primary liability as the originating insurer, consequently, there is a
concentration of credit risk arising from business ceded to Mutual. As the
Pooling Arrangement provides for the right of offset, the Company has reported
losses and loss expenses payable and prepaid reinsurance premiums to Mutual as
assets only in situations when net amounts ceded to Mutual exceed that assumed.
The following provides a summary of the reinsurance transactions on the
Company's balance sheets and income statements for the Pooling Arrangement
between the Pooled Subsidiaries and Mutual:

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

Losses and loss expenses payable:
Ceded .................................................................................... $ (261,470) (219,851)
Assumed .................................................................................. 565,430 499,862
-----------------------------
Net assumed ............................................................................ $ 303,960 280,011
=============================

Unearned premiums:
Ceded .................................................................................... $ (212,077) (172,265)
Assumed .................................................................................. 345,207 310,853
-----------------------------
Net assumed ............................................................................ $ 133,130 138,588
=============================

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Written premiums:
Ceded .................................................................... $ (534,377) (448,331) (405,397)
Assumed .................................................................. 864,830 529,253 370,576

Earned premiums:
Ceded .................................................................... $ (495,036) (426,880) (399,057)
Assumed .................................................................. 829,981 515,619 367,275

Losses and loss expenses incurred:
Ceded .................................................................... $ (353,602) (298,755) (277,340)
Assumed .................................................................. 609,910 406,138 250,189

Effective with the June 1, 2001 merger transaction of Meridian Mutual into
Mutual, Mutual also acquired all of the outstanding shares of Meridian Insurance
Group, Inc. (MIGI), an Indiana domiciled insurance holding company. MIGI's
wholly-owned insurance subsidiaries are Meridian Security Insurance Company,
(Meridian Security), an Indiana domiciled property and casualty insurer,
Meridian Citizens Security Insurance Company, an Indiana domiciled property and
casualty insurer, and Insurance Company of Ohio, an Ohio domiciled property and
casualty insurer. MIGI is also party to an affiliation agreement with Meridian
Citizens Mutual Insurance Company, an Indiana domiciled property and casualty
insurer. Collectively, the MIGI insurer subsidiaries and affiliate are hereafter
collectively referred to as the "Meridian Insurers".

Mutual, State Auto P&C, Milbank, SA Wisconsin, Farmers Casualty, SA Ohio,
National, Mid Plains, and, effective June 1, 2001, the Meridian Insurers, are
participants in a catastrophe reinsurance program. Collectively, these
participants in the catastrophe reinsurance program are referred to as the
"State Auto Insurance Companies." State Auto P&C assumed catastrophe reinsurance
from Mutual, Milbank, SA Wisconsin, Farmers Casualty, SA Ohio, National,
Mid-Plains and the Meridian Insurers in the amount of $115 million excess of
$120 million. Effective November 2002, the catastrophe reinsurance program was
renegotiated whereby State Auto P&C assumed $100 million excess of $120 million.
Under this agreement, the Company has assumed from Mutual and its affiliate
premiums written and earned of $2,914,000, $3,021,000 and $3,129,000 for 2002,
2001 and 2000, respectively. There have been no losses assumed under this
agreement. The catastrophe reinsurance program with State Auto P&C has been
excluded from the Pooling Arrangement.

To protect against a catastrophe loss event, in which the State Auto
Insurance Companies would incur catastrophe losses in excess of $120 million,
State Auto Financial entered into a structured contingent financing transaction
with a financial institution and a syndicate of other lenders (the Lender) to
provide (effective November 2002) up to $100 million for

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

reinsurance purposes. In the event of such a loss, this arrangement provides
that State Auto Financial would sell redeemable preferred shares to SAF Funding
Corporation, a special purpose company (SPC), which would borrow the money
necessary for such purchase from the Lenders. This arrangement with the Lenders,
SPC and State Auto Financial is a financing arrangement, whereby State Auto
Financial would receive cash funding in the event of a catastrophe event as
described above. State Auto Financial would then contribute to State Auto P&C
the funds received from the sale of its preferred shares. State Auto P&C would
use the contributed capital proceeds to pay its direct catastrophe losses and
losses assumed under the catastrophe reinsurance agreement. State Auto Financial
is obligated to repay SPC by redeeming the preferred shares over a five-year
period. In the event of a default by State Auto Financial, the obligation to
repay SPC has been secured by a Put Agreement among State Auto Financial, Mutual
and the Lenders, under which Mutual would be obligated to either purchase the
preferred shares from the SPC or repay the SPC for the loan(s) outstanding.

For the period October 1, 2001 through December 31, 2003, Mutual entered into
a stop loss reinsurance arrangement (Stop Loss) with the Pooled Subsidiaries.
Under the Stop Loss, Mutual has agreed to participate in the Pooling
Arrangement's quarterly underwriting losses and gains in the manner described.
If the Pooling Arrangement's statutory loss and loss adjustment expense ratio
(loss ratio) is between 70.75% and 80% (after the application of all available
reinsurance), Mutual will reinsure the Pooled Subsidiaries 27% of the Pooling
Arrangement's losses in excess of a loss ratio of 70.75% up to 80.00%. The
Pooled Subsidiaries would be responsible for their share of the Pooling
Arrangement's losses over the 80% threshold. Also, Mutual will have the right to
participate in the profits of the Pooling Arrangement. Mutual will assume 27% of
the Pooling Arrangement's underwriting profits attributable to loss ratios less
than 69.25%, but more than 59.99%. During 2002 and 2001, the Pooled Subsidiaries
ceded to Mutual, $8,769,000 and $6,177,000 in losses, respectively, and
$1,442,000 and $0, respectively, in premiums under the Stop Loss. At December
31, 2001, the $6,177,000 recovery under the stop loss has been reflected in
reinsurance recoverable on losses and loss expenses payable.

National and Mid-Plains each have ceding reinsurance agreements with Mutual,
that include excess of loss and quota share coverages. Through Mutual's
participation in the Pooling Arrangement, the effects of these agreements with
National and Mid-Plains are indirectly subject to the Pooling Arrangement
between Mutual and the pooled subsididaries.

The following provides a summary of the ceding reinsurance transactions on
the Company's balance sheets and income statement for the reinsurance agreements
between National and Mutual and Mid-Plains and Mutual:

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

Losses and loss
expenses payable $4,285 2,694
Unearned premiums $3,996 2,200

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Written premiums $ 12,097 6,295 3,565
Earned premiums $ 10,299 5,288 3,504
Losses and loss
expenses incurred $ 7,862 3,999 2,317

(b) INTERCOMPANY BALANCES

Pursuant to the Pooling Arrangement, Mutual is responsible for the collection
of premiums and payment of losses, loss expenses and underwriting expenses of
the Pooled Subsidiaries. Unpaid balances are reflected in due to or due from
affiliates in the accompanying consolidated balance sheets. Settlements of the
intercompany account are made quarterly. No interest is paid on this account.
All premium balance receivables and reinsurance recoverable on paid losses from
unaffiliated reinsurers are carried by Mutual. The Company had off-balance-sheet
credit risk of approximately $167 million and $123 million related to premium
balances due to Mutual from agents and insureds at December 31, 2002 and 2001,
respectively, which is collateralized by the unearned premium from the
respective policies.

(c) NOTES PAYABLE

In 1999, State Auto Financial entered into a line of credit agreement with
Mutual for $45.5 million in conjunction with its stock repurchase program. See
related footnote at note 10(a). Principal payment is due on demand after
December 31, 2000, with final payment to be received on or prior to December 31,

Page 63

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

2005. The interest rate is adjustable annually after the year 2000 to reflect
adjustments in the then current prime lending rate as well as State Auto
Financial's current financial position. Interest rate for the year 2002, 2001
and 2000 is 4.75%, 5.0% and 6.0%, respectively. Interest rate for the year 2003
will be 4.25%. Interest expense on the loan from Mutual was $2,161,000,
$2,275,000 and $2,730,000 in 2002, 2001 and 2000, respectively. Total interest
expense paid to affiliates during 2002, 2001 and 2000 was $2,333,000, $2,275,000
and $2,730,000, respectively.

Effective September 30, 2002, Milbank, entered into a $15.0 million surplus
contribution note agreement with Meridian Security. This note was funded with
cash during the fourth quarter of 2002. Subject to the condition described below
and the other terms of the note, the maturity date is September 30, 2012. The
interest rate is equal to the U.S. Treasury ten-year note yield at September 30,
2002 plus 100 basis points (total 4.59%) and is adjustable October 1, 2007 to
the then current U.S. Treasury ten-year note yield plus 100 basis points for the
remaining term of the note. Interest is accrued, but all payments of principal
or interest may be made only with the prior written approval of the South Dakota
Director of Insurance. Interest is scheduled to be paid semiannually in arrears
starting March 30, 2003. Interest expense on the loan was $172,000 in 2002.

(d) MANAGEMENT SERVICES

Effective January 1, 2000, State Auto P&C began providing management and
operation services to Mutual and its insurance affiliates. Revenue relating to
these services amount to $553,000, $12,621,000 and $14,654,000 in 2002, 2001 and
2000, respectively. Stateco provides Mutual and its affiliate investment
management services. Revenue related to these services amount to $2,085,000,
$2,965,000 and $2,940,000 in 2002, 2001, and 2000, respectively.

During early 2001, the ODI requested that Mutual file an analysis with the
ODI on a quarterly basis, starting with the quarter beginning January 1, 2001,
that justified the apportionment of the management and operation services fee
paid by Mutual to State Auto P&C under the accounting guidance outlined in
Statement of Statutory Accounting Principles No. 70 - Allocation of Expenses.
The Company believed its accounting for such service fee was consistent with all
statutory accounting principles. On October 24, 2001, the board of directors of
the Company and Mutual and special committees thereof approved a resolution of
the disagreement between the Company and the ODI regarding the service fee paid
by Mutual to State Auto P&C. The disagreement with ODI was resolved and ODI
expressly did not take issue with Mutual's payment of the service fee to State
Auto P&C for the nine-month period ending September 30, 2001 which amounted to
$12.5 million, pre-tax, nor with Mutual's accounting for the service fee for
this same time period. The ODI also approved regulatory filings, effective
October 1, 2001, implementing a revised management agreement, changing the
Pooled Subsidiaries pooling participation percentages and implementing a stop
loss reinsurance arrangement. See note 6(a) regarding the change in the Pooled
Subsidiaries pooling participation percentages and the implementation of a stop
loss reinsurance arrangement.

Effective October 1, 2001, the management agreement between State Auto P&C
and certain affiliate companies, including Mutual, was amended to eliminate the
management and operations service fee charged by State Auto P&C. The management
agreement continues to allocate costs and apportion those costs among the
parties to the agreement in accordance with terms outlined therein. As a result
of the loss of the management and operations services income under this
management agreement, substantially all of State Auto P&C's services income has
been eliminated, effective October 1, 2001. See note 15. The management
agreement between State Auto P&C and SA Wisconsin was not affected by the
disagreement or resolution with the ODI.

(e) OTHER TRANSACTIONS

S.I.S. provides insurance software products and services to Mutual and its
affiliate. Revenue relating to these services amount to $225,000, $692,000 and
$900,000 in 2002, 2001 and 2000, respectively, and is included in other income.
518 PML leases assets to Mutual and its affiliate. Revenue relating to these
services amount to $376,000, $758,000 and $646,000 in 2002, 2001 and 2000,
respectively and is included in other income.

State Auto P&C's December 31, 1990 liability for losses and loss expenses of
$65,464,000 has been guaranteed by Mutual. Pursuant to the guaranty agreement,
all ultimate adverse development of the December 31, 1990 liability, if any, is
to be reimbursed by Mutual to State Auto P&C in conformance with pooling
percentages in place at that time. As of December 31, 2002, there has been no
adverse development of the liability.

Page 64

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(7) NOTE PAYABLE TO BANK

Effective December 21, 2002 State Auto Financial entered into a $15,000,000
term loan note agreement with a bank that matures December 21, 2003. Interest
adjusts quarterly and accrues at LIBOR plus 75 basis points (2.15% at December
31, 2002) and is payable quarterly. This note agreement has various covenants
including financial ratio covenants.

(8) FEDERAL INCOME TAXES

A reconciliation between actual federal income taxes (benefit) and the amount
computed at the indicated statutory rate is as follows:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
AMOUNT % AMOUNT % AMOUNT %
------ -- ------ -- ------ --
(in thousands)

Amount at statutory rate ..................................... $ 13,227 35 6,291 35 21,505 35
Tax-free interest and dividends received deduction............ (11,888) (32) (8,925) (50) (7,918) (13)
Other, net.................................................... (544) (1) (5) -- 143 --
------------------------------------------------
Effective tax rate............................................ $ 795 2 (2,639) (15) 13,730 22
================================================

The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and deferred tax liabilities are presented
below:

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

Deferred tax assets:
Unearned premiums not deductible ...................$ 25,927 $22,847
Losses and loss expenses payable discounting ....... 21,626 19,767
Postretirement benefit liabilities ................. 16,438 13,746
Other .............................................. 5,658 1,982
Alternative minimum tax credit ..................... 3,439 1,410
--------------------------
Total deferred tax assets ........................ 73,088 59,752
==========================

Deferred tax liabilities:
Deferral of policy acquisition costs ............... 27,260 23,481
Net pension expense ................................ 15,583 13,993
Unrealized holding gain on investments ............. 22,891 6,478
Other .............................................. 1,558 2,000
--------------------------
Total deferred tax liabilities ................... 67,292 45,952
--------------------------
Net deferred tax assets ..........................$ 5,796 $13,800
==========================

The Company is required to establish a valuation allowance for any portion
of the deferred tax asset that management believes will not be realized. In the
opinion of management, it is more likely than not that the Company will realize
the benefit of the deferred tax assets and, therefore, no such valuation
allowance has been established.

Federal income taxes paid during 2002, 2001 and 2000 were $6,000,000
$11,500,000 and $12,638,000, respectively.

(9) (a) PENSION BENEFIT PLANS

Effective January 1, 2002, employees of MIGI, a subsidiary of the former
Meridian Mutual, became employees of State Auto P&C. In conjunction with this
transaction approximately $3.6 million in net plan benefit liabilities were
transferred from MIGI to the Company. Effective January 1, 2000, all employees
of Mutual, Stateco and S.I.S., became employees of State Auto P&C, under new
management agree-

Page 65

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

ments effective on that same date. See related discussion at Note (1)(b).
Pursuant to the new management agreements, the Company paid cash of
approximately $14.6 million to Mutual, equal to the net prepaid pension asset
received.

The assets of the defined benefit pension plan are represented primarily by
U.S. government and agency obligations, bonds, and common stocks. The Company's
policy is to fund pension costs in accordance with the requirements of the
Employee Retirement Income Security Act of 1974. Benefits are determined by
applying factors specified in the plan to a participant's defined average annual
compensation.

Prior to 2000, State Auto P&C, Stateco and S.I.S. pursuant to an
intercompany agreement, were participants, together with Mutual, in a defined
benefit pension plan and a defined contribution plan that covered substantially
all employees of Mutual and the Company.

Information regarding the funded status and net periodic pension benefit for
the Company's participation in the defined benefit pension plan is as follows:

DECEMBER 31
--------
2002 2001
---- ----
(in thousands)

CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year ................................................... $ 97,477 87,093
Transfer in benefit obligation at beginning of year due to employee transfer .............. 31,440 --
Service cost .............................................................................. 5,541 3,537
Interest cost ............................................................................. 9,399 6,750
Actuarial loss ............................................................................ 15,111 9,145
Benefits paid ............................................................................. (8,901) (9,048)
----------------------------------
Benefit obligation at end of year ......................................................... $150,067 97,477
----------------------------------
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year ............................................ $136,197 162,658
Transfer in plan assets at beginning of year due to employee transfer ..................... 31,320 --
Actual return on plan assets .............................................................. (8,057) (17,413)
Benefits paid ............................................................................. (8,901) (9,048)
----------------------------------
Fair value of plan assets at end of year .................................................. $150,559 136,197
----------------------------------
Funded status ............................................................................. 492 38,720
Unrecognized transition asset ............................................................. (5,511) (725)
Unrecognized prior service cost ........................................................... 2,963 2,263
Unrecognized net loss ..................................................................... 48,746 3,086
----------------------------------
Net prepaid pension expense ............................................................... 46,690 43,344
==================================

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
(in thousands)

COMPONENTS OF NET PERIODIC BENEFIT
Service cost ..................................... $ 5,541 3,537 3,339
Interest cost .................................... 9,399 6,750 6,728
Expected return on plan assets ................... (16,724) (14,633) (13,391)
Amortization of prior service cost ............... 280 207 207
Amortization of transition asset ................. (633) (121) (121)
Amortization of net gain ......................... -- (1,346) (930)
---------------------------------------------------------
Net periodic benefit ............................. $(2,137) (5,606) (4,168)
=========================================================

Page 66

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----

WEIGHTED-AVERAGE ASSUMPTIONS AS OF DECEMBER 31
Discount rate ........................................................... 6.75% 7.5% 8.0%
Expected long-term rate of return on assets ............................. 9.0 % 9.0% 9.0%
Rates of increase in compensation levels ................................ 5.0 % 5.0% 5.0%

Effective January 1, 2000, the net prepaid pension expense is carried on the
financial statements of the Company and the annual periodic pension benefit or
cost is allocated to affiliated companies based on allocations pursuant to
intercompany management agreements. The Company's share of the 2002, 2001 and
2000 net periodic benefit was $2.0 million, $4.0 million and $2.6 million,
respectively.

The Company maintains a defined contribution plan that covers substantially
all employees of the Company. Contributions to the plan are based on employee
contributions and the level of Company match. The Company's share of the expense
under the plan totaled $1,964,000, $1,120,000 and $890,000 for the years 2002,
2001 and 2000, respectively.

(b) POSTRETIREMENT BENEFITS

In addition to pension benefits, the Company provides certain health care
and life insurance benefits for its eligible retired employees. Substantially
all of the Company's employees may become eligible for these benefits if they
retire between age 55 and 65 with 15 years or more of service or if they retire
at age 65 or later with 5 years or more of service. Effective January 1, 2000,
all employees of Mutual, Stateco and S.I.S., became employees of State Auto P&C,
under new management agreements effective on that same date. See related
discussion at Note (1)(b). Pursuant to the new management agreements, the
Company received cash of approximately $49.6 million from Mutual, equal to the
funded status of the postretirement obligation assumed.

Plan assets are primarily composed of mutual funds and government
securities.

Information regarding the funded status and net periodic benefit cost for
the Company's participation in the postretirement benefit plan is as follows:

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year .................................................. $48,558 42,913
Transfer in benefit obligation at beginning of year due to employee transfer ............. 8,235 --
Service cost ............................................................................. 2,400 1,423
Interest cost ............................................................................ 4,179 3,356
Actuarial gain ........................................................................... 9,336 2,946
Employee contributions ................................................................... (1,509) (2,080)
---------------------------------

Benefit obligation at end of year ........................................................ $71,199 48,558
---------------------------------
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year ........................................... $ 1,768 1,568
Expected return on assets ................................................................ 150 133
Gain (loss) on assets .................................................................... (22) 67
---------------------------------

Fair value of plan assets at end of year ................................................. $ 1,896 1,768
---------------------------------

Page 67

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

Funded status at end of year ......................................... $(69,303) (46,790)
Unrecognized transition asset ........................................ (34) (38)
Unrecognized prior service cost ...................................... 5,073 --
Unrecognized loss (gain) ............................................. 110 (8,700)
---------------------------------
Accrued postretirement benefit obligation at end of year ............. $(64,154) (55,528)
==================================

YEAR ENDED DECEMBER 31
----------------------
2002 2001
---- ----
(in thousands)

COMPONENTS OF NET PERIODIC BENEFIT COST
Service cost ............................................................. $ 2,400 1,423
Interest cost ............................................................ 4,179 3,356
Expected return on assets ................................................ (150) (133)
Amortization of unrecognized amounts ..................................... 183 (523)
---------------------------------------
Net periodic benefit cost ................................................ $ 6,612 4,123
======================================

A 6.75%, 7.5% and 8.0% weighted average discount rate was used for 2002,
2001 and 2000, respectively to determine the accumulated postretirement benefit
obligation. A 9.0%, 8.5% and 8.5% weighted average rate was used for 2002, 2001
and 2000, respectively to determine the long-term rate of return on plan assets.

Effective January 1, 2000, the postretirement benefit liability is carried
on the financial statements of the Company and the net periodic benefit cost is
allocated to affiliated companies based on allocations pursuant to intercompany
management agreements. The Company's share of the 2002, 2001 and 2000 net
periodic cost was $5.6 million, $3.0 million and $2.6 million, respectively.

The assumed rate of future increases in per capita cost of health care
benefits was 10% for the first year and grading down 1% per year to an ultimate
rate of 5%. The health care cost trend rate assumption affects the amounts
reported. For example, increasing the assumed health care cost trend rate by one
percentage point would increase the accumulated postretirement benefit
obligation by approximately $10.7 million and would increase the medical service
and interest cost by approximately $1.5 million.

The Company also has a supplemental executive retirement plan for which the
accrued obligation at December 31, 2002 and 2001 was $2,609,000 and $ 1,709,000,
respectively.

(10) STOCKHOLDERS' EQUITY

(a) TREASURY SHARES

On March 1, 2002, the State Auto Financial's Board of Directors approved a
plan to repurchase up to 1.0 million shares of common stock from the public over
a period extending to and through December 31, 2003. Through December 31, 2002,
State Auto Financial repurchased 395,924 shares from the public. Repurchases
during 2002 were funded through dividends from subsidiaries.

In May 2000, State Auto Financial's Board of Directors approved a plan to
repurchase up to 1.0 million shares of its common stock from the public over a
period ending December 31, 2001. Through December 31, 2001, State Auto Financial
repurchased 50,522 shares from the public. Repurchases during 2000 and 2001 were
funded through dividends from subidiaries.

(b) DIVIDEND RESTRICTIONS AND STATUTORY FINANCIAL INFORMATION

State Auto P&C, Milbank, Farmers Casualty, SA Ohio and National are subject
to regulations and restrictions under which payment of dividends from statutory
earned surplus can be made to State Auto Financial during the year without prior
approval of regulatory authorities. Pursuant to these rules, approximately $35.3
million is available for payment to State Auto Financial in 2003 without prior
approval. Reconciliations of statutory capital and surplus and

Page 68

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

net income (loss), as determined using statutory accounting practices, to the
amounts included in the accompanying consolidated financial statements are as
follows:

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

Statutory capital and surplus of insurance subsidiaries ...................... $359,289 317,983
Net assets of noninsurance parent and affiliates ............................. (44,060) (21,033)
-----------------------------------
315,229 296,950
Increases (decreases):
Deferred policy acquisition costs .................................... 77,886 67,087
Losses and loss expenses payable ..................................... 27,093 26,216
Net prepaid pension expense .......................................... 46,690 43,344
Postretirement benefit liability ..................................... (21,968) (19,708)
Deferred federal income taxes ........................................ (36,964) (25,347)
Fixed maturities at fair value ....................................... 67,281 8,979
Surplus note ......................................................... (15,000) --
Other, net ........................................................... 3,522 2,672
-----------------------------------
Stockholders' equity per accompanying consolidated
financial statements ...............................................$ 463,769 400,193
===================================

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Statutory net income (loss) of insurance subsidiaries ............. $17,027 (39,773) 43,991
Net income of noninsurance parent and affiliates .................. 2,461 1,826 1,125
--------------------------------------------------------
19,488 (37,947) 45,116

Increases (decreases):
Deferred policy acquisition costs ............................... 10,776 34,629 3,522
Losses and loss expenses payable ................................ 907 12,813 (103)
Net prepaid pension expense ..................................... 506 1,131 640
Postretirement benefit expense .................................. (2,260) (1,230) (1,150)
Deferred federal income taxes ................................... 7,671 10,673 401
Other, net ...................................................... (93) 546 (712)
--------------------------------------------------------
Net income per accompanying consolidated
financial statements .......................................... $36,995 20,615 47,714
========================================================

In March 1998, the National Association of Insurance Commissioners revised
the Accounting Practices and Procedures Manual for insurance companies in a
process referred to as Codification. The revised manual became effective January
1, 2001. The revised manual changed, to some extent, prescribed statutory
insurance accounting practices and resulted in changes to the accounting
practices that the insurance subsidiaries of State Auto Financial use to prepare
its statutory-basis financial statements. The cumulative effect of changes in
accounting principles adopted to conform to the revised Accounting Practices and
Procedures Manual was reported as an adjustment to statutory surplus as of
January 1, 2001. The adoption of Codification, as of January 1, 2001, increased
statutory surplus of the insurance subsidiaries of State Auto Financial by
approximately $19.3 million.

Page 69

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

(11) PREFERRED STOCK

State Auto Financial has authorized two classes of preferred stock. For both
classes, upon issuance, the Board of Directors has authority to fix and
determine the significant features of the shares issued, including, among other
things, the dividend rate, redemption price, redemption rights, conversion
features and liquidation price payable in the event of any liquidation,
dissolution, or winding up of the affairs of State Auto Financial. See note 6
(a) regarding State Auto Financial's obligation to issue redeemable preferred
shares to SPC in connection with its catastrophic reinsurance arrangements with
a financial institution.

The Class A preferred stock is not entitled to voting rights until, for any
period, dividends are in arrears in the amount of six or more quarterly
dividends.

(12) STOCK INCENTIVE PLANS

The Company follows Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees" (APB 25) and related Interpretations in
accounting for its employee stock incentive plans. Compensation cost charged
against operations in 2002, 2001 and 2000 were $0, $14,000 and $31,000,
respectively, for those employee stock options granted where the exercise price
was less than the market price of the underlying stock on the date of grant. Had
compensation cost for the Company's plans been determined based on the fair
values at the grant dates consistent with the method of SFAS No. 123,
"Accounting for Stock-Based Compensation," (SFAS No. 123), the Company's pro
forma net earnings and net earnings per share information would have been as
follows:

2002 2001 2000
---- ---- ----
(in thousands, except
per share figures)

Pro forma net earnings ............................................ $35,568 18,865 45,784

Pro forma net earnings per common share
Basic .......................................................... $ 0.91 0.49 1.19
Diluted ........................................................ $ 0.89 0.48 1.17

The fair value of options granted in 2002, 2001 and 2000 were estimated at
the date of grant using the Black-Scholes option-pricing model. The weighted
average fair values and related assumptions for options granted were as follows:

2002 2001 2000
---- ---- ----

Fair value ................................. $6.09 6.79 4.66
Dividend yield ............................. .94% .90% .90%
Risk free interest rate .................... 4.20% 4.85% 6.51%
Expected volatility factor ................. .33 .36 .34
Expected life (years) ...................... 6.8 6.7 7.2

The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.

The Company has stock option plans for certain directors and key employees.
In May 2000, the Company's 1991 Stock Option Plan and 1991 Directors' Stock
Option Plan were replaced with the 2000 Stock Option Plan (Key Employee Plan)
and the 2000 Directors Stock Option Plan (Nonemployee Director Plan),
respectively, upon approval of shareholders at the 2000 annual meeting of
shareholders. The Nonemployee Directors' Plan provides each nonemployee director
an option to purchase (1,500 shares for 2002 and 4,200 shares for 2003) shares
of common stock following each annual meeting of

Page 70

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

the shareholders at an option price equal to the fair market value at the close
of business on the date of the annual meeting. The Company has reserved 300,000
shares of common stock under this plan. These options are exercisable at
issuance to 10 years from date of grant. The Key Employee's Plan provides that
qualified stock options may be granted at an option price not less than fair
market value at date of grant and that nonqualified stock options may be granted
at any price determined by the options committee of the Board of Directors. The
Company has reserved 5,000,000 shares of common stock under this plan. These
options are exercisable at such time or times as may be determined by a
committee of the Company's Board of Directors. Normally, these options are
exercisable from 1 to 10 years from date of grant.

The Company has an employee stock purchase plan with a dividend reinvestment
feature, under which employees of the Company may choose at two different
specified time intervals each year to have up to 6% of their annual base
earnings withheld to purchase the Company's common stock. The purchase price of
the stock is 85% of the lower of its beginning-of-interval or end-of-interval
market price. The Company has reserved 2,400,000 shares of common stock under
this plan. At December 31, 2002 and 2001, 1,919,000 and 1,803,000, respectively
shares have been purchased under this plan.

The Company has a stock option incentive plan for certain designated
independent insurance agencies that represent the Company and its affiliates.
The Company has reserved 400,000 shares of common stock under this plan. The
plan provides that the options become exercisable on the first day of the
calendar year following the agency's achievement of specific production and
profitability requirements over a period not greater than two calendar years
from date of grant or a portion thereof in the first calendar year in which an
agency commences participation under the plan. Options granted and vested under
this plan have a 10-year term. The Company has accounted for the plan in its
accompanying financial statements at fair value. The fair value of options
granted was estimated at the reporting date or vesting date using the
Black-Scholes option-pricing model. The weighted average fair value and related
assumptions for 2002, 2001 and 2000, respectively, were as follows: fair value
of $7.55, $8.04 and $10.91; dividend yield of .87%, .90% and .90%; expected
volatility factor of .36, .34 and .32; risk-free interest rate of 4.50%, 5.16%
and 5.19%; and expected life of the option of 8.1, 8.7 and 9.0 years. Expense of
$165,000, $140,000 and $493,000 associated with this plan was recognized in
2002, 2001 and 2000, respectively.

A summary of the Company's stock option activity and related information for
these plans for the years ended December 31, 2002, 2001 and 2000, follows:

2002 2001 2000
-----------------------------------------------------------------------------------------------
WEIGHTED - AVERAGE WEIGHTED - AVERAGE WEIGHTED - AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
------- -------------- ------- -------------- ------- --------------
(numbers in thousands, except per share figures)

Outstanding, beginning
of year 2,797 $9.58 2,852 $8.28 2,546 $7.76
Granted 356 16.00 299 16.53 492 10.29
Exercised 362 5.11 315 4.39 (129) 4.32
Canceled -- -- (39) 10.16 (57) 11.15
------- -------- --------
Outstanding, end of year 2,791 10.98 2,797 9.58 2,852 8.28
======= ======== ========

Page 71

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

A summary of information pertaining to options outstanding and exercisable as
of December 31, 2002 follows:

OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------------- -----------------------------------
WEIGHTED - AVERAGE
REMAINING WEIGHTED - AVERAGE WEIGHTED - AVERAGE
RANGE OF EXERCISE PRICES NUMBER CONTRACTUAL LIFE EXERCISE PRICE NUMBER EXERCISE PRICE
- ------------------------ ------ ---------------- -------------- ------ --------------
(numbers in thousands, except per share figures)

Less than $5.00 266 .4 $4.36 266 $4.36
$5.01 - $10.00 791 3.1 6.61 791 6.61
Greater than $10.01 1,734 7.4 13.99 1,140 13.27
------- -------
2,791 5.5 10.98 2,197 9.80
------- -------

(13) NET EARNINGS PER COMMON SHARE

The following table sets forth the compilation of basic and diluted net earnings
per common share:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands, except per share data)

Numerator:
Net earnings for basic and diluted earnings per common share $36,995 20,615 47,714
----------------------------------------------------
Denominator:
Weighted average shares for basic net earnings
per common share ................................................... 38,984 38,775 38,427
Effect of dilutive stock options ..................................... 759 906 693
----------------------------------------------------
Adjusted weighted average shares for
diluted net earnings per common share .............................. 39,743 39,681 39,120
----------------------------------------------------
Basic net earnings per common share .................................... $0.95 0.53 1.24
----------------------------------------------------
Diluted net earnings per common share .................................. $0.93 0.52 1.21
----------------------------------------------------

The following options to purchase shares of common stock were not included in
the computation of diluted earnings per share because the exercise price of the
options was greater than the average market price:

YEAR ENDED DECEMBER 31
----------------------

2002 2001 2000
---- ---- ----
(in thousands)
Number of options................................................................911 562 656
--------------------------------------

(14) OTHER COMPREHENSIVE INCOME

The related federal income tax effects of each component of other comprehensive
income (loss) are as follows:

YEAR ENDED DECEMBER 31, 2002
----------------------------
BEFORE-TAX TAX (EXPENSE) NET-OF-TAX
AMOUNT OR BENEFIT AMOUNT
------ ---------- ------
( in thousands)

Net unrealized holding gains on securities:
Unrealized holding gains arising during 2002 ........................... $52,805 (18,482) 34,323
Reclassification adjustments for gains realized in net income .......... 5,909 (2,068) 3,841
-----------------------------------------------------
Net unrealized holding gains ........................................... 46,896 (16,414) 30,482
-----------------------------------------------------
Other comprehensive income ............................................... $46,896 (16,414) 30,482
=====================================================

Page 72

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

YEAR ENDED DECEMBER 31, 2001
----------------------------
BEFORE-TAX TAX (EXPENSE) NET-OF-TAX
AMOUNT OR BENEFIT AMOUNT
------ ---------- ------
( in thousands)

Net unrealized holding losses on securities:
Unrealized holding losses arising during 2001 .......................... $(10,787) 3,775 (7,012)
Reclassification adjustments for gains realized in net income .......... (1,962) 687 (1,275)
-----------------------------------------------------
Net unrealized holding losses .......................................... (12,749) 4,462 (8,287)
-----------------------------------------------------
Other comprehensive loss ................................................. $(12,749) 4,462 (8,287)
=====================================================

YEAR ENDED DECEMBER 31, 2000
----------------------------
BEFORE-TAX TAX (EXPENSE) NET-OF-TAX
AMOUNT OR BENEFIT AMOUNT
------ ---------- ------
( in thousands)

Net unrealized holding gains on securities:
Unrealized holding gains arising during 2000 ............................. $36,272 (12,695) 23,577
Reclassification adjustments for gains realized in net income ............ (5,255) 1,839 (3,416)
---------------------------------------------------
Net unrealized holding gains ............................................. 31,017 (10,856) 20,161
---------------------------------------------------
Other comprehensive income ................................................. $31,017 (10,856) 20,161
===================================================

(15) REPORTABLE SEGMENTS

Prior to 2001 the Company had four reportable segments: standard insurance,
nonstandard insurance, investment management services and management and
operations services. The reportable segments are business units managed
separately because of the differences in products or service they offer and type
of customer they serve.

The standard insurance segment provides personal and commercial insurance to
its policyholders. Its principal lines of business include personal and
commercial automobile, homeowners, commercial multi-peril, workers'
compensation, general liability and fire insurance. The nonstandard insurance
segment provides personal automobile insurance to policyholders that are
typically rejected or canceled by standard insurance carriers because of poor
loss experience or a history of late payment of premiums. Both the standard and
nonstandard insurance segments operate primarily in the central and eastern
United States, excluding New York, New Jersey, and the New England states,
through the independent insurance agency system.

Effective July 1, 2001, with the Pooled Subsidiaries assumption of the
former Meridian Mutual business through the Pooling Arrangement, as more fully
described in note 6(a), the Company's standard and nonstandard insurance
segments have been segregated into four reportable segments. While these
segments offer similar products and services and operate in the same
geographical locations within the United States, they differ within their
operating measures, more specifically within their loss and profitability
results. Consequently, the Company has defined the two insurance segments that
existed prior to 2001 to be State Auto standard insurance and State Auto
nonstandard insurance and the former Meridian Mutual business assumed through
the Pooling Arrangement by the Pooled Subsidiaries to be Meridian standard
insurance and Meridian nonstandard insurance. Monitoring the performance of the
Meridian segments allows management to review the results of its integration
efforts of these segments while this business continues to be processed through
the Meridian systems platform. As this business begins to migrate through new
and renewal policy issuance on the State Auto systems platform where State Auto
policies, pricing and underwriting philosophies are fully integrated, it is
anticipated that the Meridian segments will decrease. With the transition,
during 2002, of the Meridian nonstandard segment to the State Auto systems
platform, begining with the first quarter 2003, this segment will be included in
the State Auto nonstandard segment.

Page 73

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

The investment management services segment manages the investment portfolios
of affiliated insurance companies. As a result of the loss of the management and
operations services income as described in note 6(d), the management and
operations service segment is now in the all other category for segment
reporting beginning with the first quarter of 2002 as the results for this
segment no longer meet the quantitative thresholds for separate presentation as
a reportable segment. The segment disclosures for the year ended December 31,
2001 and 2000 have been restated to reflect this change.

The Company evaluates performance of its reportable segments and allocates
resources thereon based on profit or loss from operations, excluding net
realized gains on investments on the Company's investment portfolio, before
federal income taxes. The Company monitors its assets for the insurance segments
on a legal entity basis, which for the Pooled Subsidiaries includes assets of
three of the four reportable insurance segments (State Auto standard insurance,
Meridian standard insurance and Meridian nonstandard insurance). The accounting
policies of the reportable segments are the same as those described in the
summary of significant accounting policies.

Revenue from segments in the other category is attributable to three other
operating segments of the Company; management and operations services segment,
an insurance software development and resale segment, and a property management
and leasing segment. The insurance software development and resale segment and
property management and leasing segment have never met the quantitative
thresholds for individual presentation as reportable segments.

The following provides financial information regarding the Company's
reportable segments. The 2001 financial information for the Meridian standard
and nonstandard segments reflects the business assumed by the pooled
subsidiaries, beginning July 1, 2001:

Page 74

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

REVENUES FROM EXTERNAL CUSTOMERS:
State Auto standard insurance .................................. $720,278 485,059 406,602
State Auto nonstandard insurance ............................... 67,575 37,536 29,595
Meridian standard insurance .................................... 159,060 72,825 --
Meridian nonstandard insurance ................................. 9,043 6,501 --
Investment management services ................................. 2,469 3,466 3,360
All other ...................................................... 3,120 15,773 17,881
------------------------------------------------------------
Total revenues from external customers ........................... 961,545 621,160 457,438

Intersegment revenues:
State Auto standard insurance .................................. 120 128 162
Investment management services ................................. 5,019 3,553 2,884
All other ...................................................... 2,141 5,506 6,047
------------------------------------------------------------
Total intersegment revenues ...................................... 7,280 9,187 9,093
------------------------------------------------------------
Total revenue .................................................... 968,825 630,347 466,531
------------------------------------------------------------
Reconciling items:
Intersegment revenues .......................................... (7,280) (9,187) (9,093)
Corporate revenues ............................................. 25 150 81
Net realized gains on investment ............................... 5,909 1,962 5,255
------------------------------------------------------------
Total consolidated revenues ...................................... $967,479 623,272 462,774
============================================================
SEGMENT PROFIT (LOSS):
State Auto standard insurance .................................. $37,537 45,664 35,579
State Auto nonstandard insurance ............................... 1,538 1,378 (116)
Meridian standard insurance .................................... (15,376) (44,397) --
Meridian nonstandard insurance ................................. 2,537 (5,933) --
Investment management services ................................. 6,402 5,965 5,354
All other ...................................................... 1,916 16,326 18,457
------------------------------------------------------------
Total segment profit ............................................. 34,554 19,003 59,274

Reconciling items:
Corporate expenses ............................................. (2,673) (2,989) (3,085)
Net realized gains on investments .............................. 5,909 1,962 5,255
------------------------------------------------------------
Total consolidated income before federal income taxes ............ $37,790 17,976 61,444
============================================================
NET INVESTMENT INCOME:
State Auto standard insurance .................................. $42,223 37,230 33,436
State Auto nonstandard insurance ............................... 2,228 1,997 1,899
Meridian standard insurance .................................... 9,322 3,595 --
Meridian nonstandard insurance ................................. 531 338 --
Investment management services ................................. 125 318 360
All other ...................................................... 180 193 244
------------------------------------------------------------
Total net investment income ...................................... 54,609 43,671 35,939

Reconciling items:
Corporate net investment income ................................ 25 150 81
Reclassification adjustments in consolidation .................. 5,057 3,554 2,895
------------------------------------------------------------
Total consolidated net investment income ......................... $59,691 47,375 38,915
============================================================

Page 75

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

DECEMBER 31
-----------
2002 2001
---- ----
(in thousands)

SEGMENT ASSETS:
Standard insurance ..................................... $1,468,482 1,261,689
Nonstandard insurance .................................. 98,886 67,043
Investment management services ......................... 4,744 8,698
All other .............................................. 12,539 15,685
------------------------------------
Total segment assets ..................................... 1,584,651 1,353,115

Reconciling items:
Corporate assets ....................................... 833 3,559
Reclassification adjustments in consolidation .......... 7,511 10,822
------------------------------------
Total consolidated assets ................................ $1,592,995 1,367,496
====================================

Revenues from external customers include the following products and services:

YEAR ENDED DECEMBER 31
----------------------
2002 2001 2000
---- ---- ----
(in thousands)

Earned premiums
State Auto standard insurance:
Automobile ...................................................... $356,137 237,401 203,967
Homeowners and farmowners ....................................... 112,350 77,105 67,247
Commercial multi-peril .......................................... 50,305 31,215 25,349
Workers' compensation ........................................... 23,236 15,365 10,628
Fire and allied ................................................. 57,310 36,031 27,848
Other liability and products liability .......................... 49,233 21,875 21,924
Other lines ..................................................... 24,604 25,304 13,603
-------------------------------------------------------
Total State Auto standard insurance earned premiums ............... 673,175 444,296 370,566
Total State Auto nonstandard insurance earned premiums ............ 65,022 35,256 27,401
-------------------------------------------------------
Meridian standard insurance:
Automobile ...................................................... 79,212 36,402 --
Homeowners and farmowners ....................................... 21,159 9,536 --
Commercial multi-peril .......................................... 25,942 11,381 --
Workers' compensation ........................................... 16,081 8,660 --
Fire and allied ................................................. 1,095 499 --
Other liability and products liability .......................... 1,834 519 --
Other lines ..................................................... 4,542 2,157 --
-------------------------------------------------------
Total Meridian standard insurance earned premiums ................. 149,865 69,154 --
Total Meridian nonstandard insurance earned premiums .............. 8,533 6,501 --
-------------------------------------------------------
Total earned permiums ............................................. 896,595 555,207 397,967
Investment management services .................................... 2,469 2,965 2,940
Net investment income ............................................. 59,666 47,225 38,834
Other income ...................................................... 2,815 15,763 17,697
-------------------------------------------------------
Total revenues from external customers ............................ $961,545 621,160 457,438
=======================================================

Page 76

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES
(a majority-owned subsidiary of State Automobile Mutual Insurance Company)

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED

The standard insurance segments and the Meridian nonstandard insurance
segment participate in a reinsurance pooling agreement with other standard and
nonstandard insurance affiliates. For discussion regarding this arrangement and
these segments' contribution to the pool and participation in the pool, see
note 6.

Revenues from external customers are derived entirely within the United
States. Also, all long-lived assets are located within the United States.

(16) QUARTERLY FINANCIAL DATA (UNAUDITED)

2002
----
FOR THREE MONTHS ENDED
----------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
--------- -------- ------------- ------------
(dollars in thousands, except per share amounts)

Total revenues ......................................... $229,959 236,223 246,962 254,335
Income (loss) before federal income taxes .............. 17,301 (6,751) 5,128 22,112
Net income (loss) ...................................... 13,165 (1,385) 5,885 19,330
Net earnings (loss) per common share (note 10a):
Basic ................................................ 0.34 (0.04) 0.15 0.50
Diluted .............................................. 0.33 (0.04) 0.15 0.49
--------------------------------------------------------------

2001
----
FOR THREE MONTHS ENDED
----------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
--------- -------- ------------- ------------
(dollars in thousands, except per share amounts)

Total revenues ............................................ $ 118,001 123,032 156,671 225,568
Income (loss) before federal income taxes ................. 19,199 12,028 8,029 (21,280)
Net income (loss) ......................................... 14,540 9,433 7,276 (10,634)
Net earnings (loss) per common share (note 10a):
Basic.................................................... 0.37 0.24 0.19 (0.27)
Diluted ................................................. 0.36 0.24 0.18 (0.27)
----------------------------------------------------------------

(17) CONTINGENCIES

The Company's insurance subsidiaries are involved in litigation and may
become involved in potential litigation arising in the ordinary course of
business. Additionally, the insurance subsidiaries may be impacted by adverse
regulatory actions and adverse court decisions where insurance coverages are
expanded beyond the scope originally contemplated in the policy(ies). In the
opinion of management, the effects, if any, of such litigation and published
court decicions are not expected to be material to the consolidated financial
statements.

Page 77

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

Not applicable.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Information required under this Item with respect to directors will be
contained in the Company's proxy statement to be filed within 120 days of
December 31, 2002, and is hereby incorporated herein by reference.

Information required under this Item with respect to executive officers
is contained under the heading "Executive Officers of the Registrant" in Item 1
of this Form 10-K report.

ITEM 11. EXECUTIVE COMPENSATION

Information required under this Item will be contained in the Company's
proxy statement to be filed within 120 days of December 31, 2002, and is hereby
incorporated herein by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS

Information required under this Item will be contained in the Company's
proxy statement to be filed within 120 days of December 31, 2002, and is hereby
incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information required under this Item will be contained in the Company's
proxy statement to be filed within 120 days of December 31, 2002, and is hereby
incorporated herein by reference.

ITEM 14. CONTROLS AND PROCEDURES

(a) Within the 90 days prior to the date of filing of this report,
the Company carried out an evaluation, under the supervision and with the
participation of the Company's management, including the Company's Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of the Company's disclosure controls and procedures
pursuant to Exchange Act Rule 13a-14. Based upon that evaluation, the Company's
Chief Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective in timely alerting them to
material information relating to the Company (including its consolidated
subsidiaries) required to be included in the Company's periodic filings with the
Securities and Exchange Commission.

(b) There have been no significant changes in the Company's internal
controls or in other factors that could significantly affect internal controls
subsequent to the date the evaluation described in (a), above, was carried out.

Page 78

PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)(1) LISTING OF FINANCIAL STATEMENTS

The following consolidated financial statements of the
Company, are filed as part of this Form 10-K Report and are included in
Item 8:

Report of Independent Auditors
Consolidated Balance Sheets as of
December 31, 2002 and 2001
Consolidated Statements of Income for
each of the three years in the
period ended December 31, 2002
Consolidated Statements of Stockholders' Equity for each of
the three years in the period ended December 31, 2002
Consolidated Statements of Cash Flows for each of the three
years in the period ended December 31, 2002
Notes to Consolidated Financial Statements

(a)(2) LISTING OF FINANCIAL STATEMENT SCHEDULES

The following financial statement schedules of the Company for
the years 2002, 2001, and 2000, are included in Item 14(d), following
the signatures, and should be read in conjunction with the consolidated
financial statements contained in this Form 10-K Annual Report.

Schedule Number Schedule
- --------------- --------

I. Summary of Investments - Other Than
Investments in Related Parties

II. Condensed Financial Information of Registrant

III. Supplementary Insurance Information

IV. Reinsurance

All other schedules are omitted because they are not applicable or the
required information is included in the consolidated financial statements or
notes thereto.

Page 79

(a)(3) LISTING OF EXHIBITS

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

3(A)(1) State Auto Financial Corporation's Amended and Restated 1933 Act Registration Statement No. 33-40643
Articles of Incorporation on Form S-1 (see Exhibit 3(a) therein)

3(A)(2) State Auto Financial Corporation's Amendment to the 1933 Act Registration Statement No. 33-89400
Amended and Restated Articles of Incorporation on Form S-8 (see Exhibit 4(b) therein)

3(A)(3) State Auto Financial Corporation Certificate of Form 10-K Annual Report for the year ended
Amendment to the Amended and Restated Articles of December 31, 1998 (see Exhibit 3(A)(3)
Incorporation as of June 2, 1998 therein)

3(B) State Auto Financial Corporation's Amended and Restated 1933 Act Registration Statement No. 33-40643
Code of Regulations on Form S-1 (see Exhibit 3(b) therein)

4 State Auto Financial Corporation's Amended and Restated Form 10-K Annual Report for the year ended
Articles of Incorporation, and Articles 1, 3, 5 and 9 of December 31, 1992 (see Exhibit 3(A) and 3(B)
the Company's Amended and Restated Code of Regulations therein)

10(A) Guaranty Agreement between State Automobile Mutual 1933 Act Registration Statement No. 33-40643
Insurance Company and State Auto Property and Casualty on Form S-1 (see Exhibit 10 (d) therein)
Insurance Company dated as of May 16, 1991

10(B) Form of Indemnification Agreement between State Auto 1933 Act Registration Statement No. 33-40643
Financial Corporation and each of its directors on Form S-1 (see Exhibit 10 (e) therein)

10(C)* State Auto 1991 Quality Performance Bonus Plan 1933 Act Registration Statement No. 33-40643
on Form S-1 (see Exhibit 10 (f) therein)

10(D)* 1991 Stock Option Plan 1933 Act Registration Statement No. 33-40643
on Form S-1 (see Exhibit 10 (h) therein)

10(E)* Amendment Number 1 to the 1991 Stock Option Plan 1933 Act Registration Statement No. 33-89400
on Form S-8 (see Exhibit 4 (a) therein)

10(F)* 1991 Directors' Stock Option Plan 1933 Act Registration Statement No. 33-40643
on Form S-1 (see Exhibit 10 (i) therein)

10(G) License Agreement between State Automobile Mutual 1933 Act Registration Statement No. 33-40643
Insurance Company and Policy Management Systems on Form S-1 (see Exhibit 10 (k) therein)
Corporation dated December 28, 1984

10(H) Investment Management Agreement between Stateco Form 10-K Annual Report for the year ended
Financial Services, Inc. and State Automobile Mutual December 31, 1992 (see Exhibit 10 (N)
Insurance Company, effective April 1, 1993 therein)

10(I)* State Auto Insurance Companies Directors' Deferred Form 10-K Annual Report for year ended
Compensation Plan December 31, 1995 (see Exhibit 10(S)
therein)
10(J)* State Auto Insurance Companies Amended and Restated Registration Statement on Form S-8, File No.
Non-Qualified Incentive Deferred Compensation Plan 333-56338 (see Exhibit 4(e) therein)

10(K)* Amendment Number 2 to the 1991 Stock Option Plan Form 10-K Annual Report for the year ended
December 31, 1996 (see Exhibit 10(DD)
therein)

10(L)* Amendment Number 1 to the 1991 Directors' Stock Option Form 10-K Annual Report for the year ended
Plan December 31, 1996 (see Exhibit 10(EE)
therein)

10(M) Amended and Restated SERP of State Auto Mutual Form 10-K Annual Report for the year ended
effective as of January 1, 1994 December 31, 1997 (see Exhibit 10(HH)
therein)

10(N) Credit Agreement dated as of June 1, 1999 between State Form 10-Q for the period ended June 30, 1999
Auto Financial Corporation and State Automobile Mutual (see Exhibit 10(LL) therein)
Insurance Company

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 80

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

10(O) Reinsurance Pooling Agreement amended and restated as Form 10-K Annual Report for the year ended
of January 1, 2000 by and among State Automobile Mutual December 31, 1999 (see Exhibit 10(W) therein)
Insurance Company, State Auto Property and Casualty
Insurance Company, Milbank Insurance Company, Midwest
Security Insurance Company (n/k/a State Auto Insurance
Company of Wisconsin), Farmers Casualty Insurance
Company and State Auto Insurance Company (n/k/a State
Auto Insurance Company of Ohio)

10(P) Management and Operations Agreement as of January 1, Form 10-K Annual Report for the year ended
2000 among State Automobile Mutual Insurance Company, December 31, 1999 (see Exhibit 10(X) therein)
State Auto Financial Corporation, State Auto Property
and Casualty Insurance Company, State Auto National
Insurance Company, Milbank Insurance Company, State
Auto Insurance Company (n/k/a State Auto Insurance
Company of Ohio), Stateco Financial Services, Inc.,
Strategic Insurance Software, Inc., 518 Property
Management and Leasing, LLC

10(Q) Property Catastrophe Overlying Excess of Loss Form 10-K Annual Report for the year ended
Reinsurance contract issued to State Automobile Mutual December 31, 1999 (see Exhibit 10(Y) therein)
Insurance Company, State Auto National Insurance
Company, Milbank Insurance Company, Midwest Security
Insurance Company (n/k/a State Auto Insurance Company
of Wisconsin), Farmers Casualty Insurance Company,
Mid-Plains Insurance Company by State Auto Property and
Casualty Insurance Company

10(R) First Amendment to the Management and Operations Form 10-K Annual Report for the year ended
Agreement effective January 1, 2000 among State December 31, 1999 (see Exhibit 10(Z) therein)
Automobile Mutual Insurance Company, State Auto
Financial Corporation, State Auto Property and Casualty
Insurance Company, State Auto National Insurance
Company, Milbank Insurance Company, State Auto
Insurance Company (n/k/a State Auto Insurance Company
of Ohio), Stateco Financial Services, Inc., Strategic
Insurance Software, Inc. and 518 Property Management
and Leasing, LLC

10(S) First Amendment to the June 1, 1999 Credit Agreement Form 10-K Annual Report for the year ended
dated November 1, 1999 between State Auto Financial December 31, 1999 (see Exhibit 10(AA)
Corporation and State Automobile Mutual Insurance therein)
Company

10(T) Second amendment to the June 1, 1999 Credit Agreement Form 10-Q for the period ended March 31,
dated December 1, 1999 between State Auto Financial 2000 (see Exhibit 10(BB) therein)
Corporation and State Automobile Mutual Insurance
Company

10(U)* Employment Agreement and Executive Agreement between Form 10-K Annual Report for the year ended
State Auto Financial Corporation and Robert H. Moone December 31, 2000 (see Exhibit 10(BB)
therein)

10(V)* Form of Executive Agreement between State Auto Form 10-K Annual Report for the year ended
Financial Corporation and certain executive officers December 31, 2000 (see Exhibit 10(CC)
therein)

10(W) First Amendment to the Reinsurance Pooling Agreement Form 10-K Annual Report for the year ended
Amended and Restated as of January 1, 2000 by and among December 31, 2000 (see Exhibit 10(DD)
State Auto Property and Casualty Insurance Company, therein)
State Automobile Mutual Insurance Company, Milbank
Insurance Company, Midwest Security Insurance Company
(n/k/a State Auto Insurance Company of Wisconsin),
Farmers Casualty Insurance Company and State Auto
Insurance Company (n/k/a State Auto Insurance Company
of Ohio)

10(X) Addendum No. 1 of the Property Catastrophe Overlying Form 10-K Annual Report for the year ended
Excess of Loss Reinsurance Contract by and among State December 31, 2000 (see Exhibit 10(EE)
Auto Property and Casualty Insurance Company, State therein)
Automobile Mutual Insurance Company, State Auto
National Insurance Company, Milbank Insurance Company,
Midwest Security Insurance Company (n/k/a State Auto
Insurance Company of Wisconsin), Farmers Casualty
Insurance Company, Mid-Plains Insurance Company and
State Auto Insurance Company (n/k/a State Auto
Insurance Company of Ohio) dated November 17, 2000

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 81

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

10(Y)* 2000 Stock Option Plan Definitive Proxy Statement on Form DEF 14A,
File No. 000-19289, for Annual Meeting of
Shareholders held on May 26, 2000 (see
Appendix A therein)

10(Z)* 2000 Directors Stock Option Plan Definitive Proxy Statement on Form DEF 14A,
File No. 000-19289, for Annual Meeting of
Shareholders held on May 26, 2000 (see
Appendix B therein)

10(AA)* First Amendment to 2000 Directors Stock Option Plan Form 10-Q for the period ended March 31,
2001 (see Exhibit 10(HH) therein)

10(BB)* Second Amendment to the Reinsurance Pooling Agreement Form 10-Q for the period ended June 30, 2001
Amended and Restated as of January 1, 2000, by the (see Exhibit 10(II) therein)
State Automobile Mutual Insurance Company, State Auto
Property and Casualty Insurance Company, Milbank
Insurance Company, Midwest Security Insurance Company
(n/k/a State Auto Insurance Company of Wisconsin),
Farmers Casualty Insurance Company and State Auto
Insurance Company (n/k/a State Auto Insurance Company
of Ohio)

10(CC)* Second Amendment to 1991 Directors Stock Option Plan Form 10-Q for the period ended September 30,
2001 (see Exhibit 10(JJ) therein)

10(DD)* Second Amendment to 2000 Directors Stock Option Plan Form 10-Q for the period ended September 30,
2001 (see Exhibit 10(KK) therein)

10(EE)* Third Amendment to 2000 Directors Stock Option Plan Form 10-K Annual Report for the year ended
December 31, 2001 (see Exhibit 10(EE)
therein)

10(FF) Third Amendment to State Auto Reinsurance Pooling Form 10-K Annual Report for the year ended
Agreement, Amended and Restated as of January 1, 2000 December 31, 2001 (see Exhibit 10(FF)
therein)

10(GG) Stop Loss Reinsurance Agreement dated October 1, 2001 Form 10-K Annual Report for the year ended
among inter alia Mutual and State Auto P&C December 31, 2001 (see Exhibit 10(GG)
therein)

10(HH) Amendment No. 2 to the Management and Operations Form 10-K Annual Report for the year ended
Agreement dated January 1, 2000 among, inter alia, December 31, 2001 (see Exhibit 10(HH)
Mutual and State Auto P&C therein)

10(II) $100,000,000 Amended and Restated Credit Agreement Form 10-K Annual Report for the year ended
among SAF Funding Corporation, as Borrower, the Lenders December 31, 2001 (see Exhibit 10(II)
and Bank One, NA as Agent dated as of November 16, 2001 therein)

10(JJ) Amended and Restated Put Agreement among State Form 10-K Annual Report for the year ended
Automobile Mutual Insurance Company, State Auto December 31, 2001 (see Exhibit 10(JJ)
Financial Corporation and Bank One, NA as Agent dated therein)
as of November 16, 2001

10(KK) Amended and Restated Standby Purchase Agreement between Form 10-K Annual Report for the year ended
State Auto Financial Corporation and SAF Funding December 31, 2001 (see Exhibit 10(KK)
Corporation dated as of November 16, 2001 therein)

10(LL) Amendment No. 3 to Management and Operations Agreement Form 10-Q for the period ended June 30, 2002
effective January 1, 2002, among State Automobile (see Exhibit 10(LL) therein)
Mutual Insurance Company, State Auto Financial
Corporation, State Auto Property and Casualty Insurance
Company, State Auto National Insurance Company, Milbank
Insurance Company, State Auto Insurance Company,
Stateco Financial Services, Inc., Strategic Insurance
Software, Inc., and 518 Property Management and
Leasing, LLC

10(MM) Surplus Contribution Note from Milbank Insurance Form 10-Q for the period ended September 30,
Company to Meridian Security Insurance Company dated as 2002 (see Exhibit 10(MM) therein)
of September 30, 2002

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 82

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

10(NN) Management Services Agreement as of July 1, 2002 by and Form 10-Q for the period ended September 30,
among State Auto Property and Casualty Insurance 2002 (see Exhibit 10(NN) therein)
Company, Meridian Insurance Group, Inc., Meridian
Security Insurance Company, Meridian Citizens Mutual
Insurance Company and Meridian Citizens Security
Insurance Company

10(OO) Cost Sharing Agreement among State Auto Property and Included herein
Casualty Insurance Company, State Automobile Mutual
Insurance Company, and State Auto Florida Insurance
Company effective January 1, 2003

10(PP) Amendment No. 1 to Put Agreement and Waiver among State Included herein
Automobile Mutual Insurance Company, State Auto
Financial Corporation and Bank One, NA dated as of
August 28, 2002

10(QQ) Amendment No. 1 to Amended and Restated Credit Included herein
Agreement among SAF Funding Corporation, the Lenders
and Bank One, NA dated as of November 14, 2002

10(RR) Amendment No. 2 to Amended and Restated Put Agreement Included herein
and Waiver among State Automobile Mutual Insurance
Company, State Auto Financial Corporation and Bank One,
NA dated as of November 14, 2002

10(SS) Amendment No. 1 to Amended and Restated Standby Included herein
Purchase Agreement between State Auto Financial
Corporation and SAF Funding Corporation

10(TT) Fourth Amendment to State Auto Reinsurance Pooling Included herein
Agreement, Amended and Restated as of January 1, 2000

10(UU)* Fourth Amendment to 2000 Directors Stock Option Plan Included herein

10(VV) Term Loan Note from State Auto Financial Corporation to Included herein
KeyBank National Association dated as of December 23,
2002

21 List of Subsidiaries of State Auto Financial Corporation Included herein

23 Consent of Independent Auditors Included herein

24(A) Powers of Attorney - William J. Lhota, Urlin G. Harris, Form 10-Q for the period ended June 30, 1997
Jr., Paul W. Huesman, George R. Manser, and David J. (see Exhibit 24(C) therein)
D'Antoni

24(B) Power of Attorney - John R. Lowther Form 10-Q for the period ended March 31,
1998 (see Exhibit 24(D) therein)

24(C) Power of Attorney - Robert H. Moone Form 10-K Annual Report for the year ended
December 31, 1998 (see Exhibit 24(E) therein)

24(D) Power of Attorney - Richard K. Smith Form 10-K Annual Report for the year ended
December 31, 2000 (See Exhibit 24(D) therein)

24(E) Power of Attorney - S. Elaine Roberts Included herein

99.1 CEO certification required by Section 906 of Included herein
Sarbanes-Oxley Act of 2002

99.2 CFO certification required by Section 906 of Included herein
Sarbanes-Oxley Act of 2002

- ---------------------------------

*Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit

(b) REPORTS ON FORM 8-K
-------------------

The Company did not file any Form 8-K current reports during the fourth
quarter of the Company's fiscal year ended December 31, 2002.

Page 83

(c) EXHIBITS

The exhibits have been submitted as a separate section of this report
following the financial statement schedules.

(d) FINANCIAL STATEMENT SCHEDULES

The financial statement schedules have been submitted as a separate
section of this report following the signatures and certifications.

Page 84

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.

STATE AUTO FINANCIAL CORPORATION

Dated: March 28, 2003 /s/Robert H. Moone
--------------------------------
Robert H. Moone
Chairman, President and Chief
Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons on behalf of the Registrant
and in the capacities and on the dates indicated.

Name Title Date
---- ----- ----

/s/Robert H. Moone Chairman, President and March 28, 2003
- -------------------------- Chief Executive Officer
Robert H. Moone (principal executive officer)

/s/Steven J. Johnston Chief Financial Officer, March 28, 2003
- -------------------------- Senior Vice President, and Treasurer
Steven J. Johnston (principal financial officer
and principal accounting officer)

John R. Lowther* Senior Vice President, General Counsel, March 28, 2003
- -------------------------- and Secretary and Director
John R. Lowther

David J. D'Antoni* Director March 28, 2003
- --------------------------
David J. D'Antoni

Urlin G. Harris, Jr.* Director March 28, 2003
- --------------------------
Urlin G. Harris, Jr.

Paul W. Huesman* Director March 28, 2003
- --------------------------
Paul W. Huesman

William J. Lhota* Director March 28, 2003
- --------------------------
William J. Lhota

George R. Manser* Director March 28, 2003
- --------------------------
George R. Manser

S. Elaine Roberts* Director March 28, 2003
- --------------------------
S. Elaine Roberts

Richard K. Smith* Director March 28, 2003
- --------------------------
Richard K. Smith

*Steven J. Johnston by signing his name hereto, does sign this document
on behalf of the person indicated above pursuant to a Power of Attorney duly
executed by such person.

/s/Steven J. Johnston March 28, 2003
Steven J. Johnston
Attorney in Fact

Page 85

CERTIFICATION

I, Robert H. Moone, certify that:

1. I have reviewed this annual report on Form 10-K of State Auto Financial
Corporation;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;

3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

(a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;

(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this annual report (the "Evaluation Date"); and

(c) Presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):

(a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal controls;
and

(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.

Date: March 28, 2003 /s/ Robert H. Moone
----------------------------
Robert H. Moone
Chief Executive Officer
(Principal Executive Officer)

Page 86

CERTIFICATION

I, Steven J. Johnston, certify that:

1. I have reviewed this annual report on Form 10-K of State Auto Financial
Corporation;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;

3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as
of, and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

(a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;

(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this annual report (the "Evaluation Date"); and

(c) Presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):

(a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal controls;
and

(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and

6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.

Date: March 28, 2003 /s/ Steven J. Johnston
---------------------------------
Steven J. Johnston
Treasurer and Chief Financial Officer
(Principal Financial Officer)

Page 87

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES

SCHEDULE I - SUMMARY OF INVESTMENTS - OTHER THAN
INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 2002

Column A Column B Column C Column D
-------- -------- -------- --------
Amount at
Available for Sale which shown
in the
Type of Investments Cost(1) Value balance sheet
------------------- ------- ----- -------------
(in thousands)

Fixed maturities:
Bonds:
United States Government and
government agencies and authorities $324,512 $340,365 $340,365
States, municipalities and
political subdivisions 696,191 737,321 737,321
Public utilities 6,631 7,601 7,601
All other corporate bonds 122,000 131,411 131,411
---------------------- ----------------------- ----------------------
Total fixed maturities 1,149,334 1,216,698 1,216,698
---------------------- ----------------------- ----------------------

Equity securities:
Common stocks:
Public utilities 1,300 1,299 1,299
Banks, trust and insurance companies 16,835 15,565 15,565
Industrial, miscellaneous and all
other 39,594 36,846 36,846
---------------------- ----------------------- ----------------------
Total equity securities 57,729 53,710 53,710
---------------------- ----------------------- ----------------------

Other long-term investments 1,857 xxxxxx 1,908
---------------------- ----------------------
Total investments $ 1,208,920 xxxxxx $ 1,272,316
====================== ======================

(1) Original cost of equity securities and, as to fixed maturities, original
cost reduced by repayments and adjusted for amortization of premiums or accrual
of discounts.

Page 88

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES

SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED BALANCE SHEETS

December 31
------------------------------------------
ASSETS 2002 2001
---- ----
(in thousands)

Investments in common stock of subsidiaries
(equity method) $519,893 $440,826
Cash 93 2,005
Real estate 389 408
Other assets 740 887
Federal income tax benefit 3,744 2,907
------------------ -------------------

Total assets $524,859 $447,033
================== ===================

LIABILITIES AND STOCKHOLDERS' EQUITY

Notes payable (affiliate $45,500 at December 31, 2002 and 2001) $60,500 $45,500
Due to affiliates 173 734
Accrued expenses 417 606
------------------ -------------------

Total liabilities 61,090 46,840

STOCKHOLDERS' EQUITY
Class A Preferred stock (nonvoting), without
par value. Authorized 2,500,000 shares;
none issued
Class B Preferred stock, without par value.
Authorized 2,500,000 shares; none issued - -
Common stock, without par value. Authorized
100,000,000 shares, respectively; issued - -
43,525,774 and 43,045,320 shares
issued and outstanding, respectively, at stated value of
$2.50 per share 108,814 107,613
Less 4,524,475 and 4,108,230 treasury shaes, respectively, at cost (54,249) (47,613)
Additional paid-in capital 50,354 47,106
Accumulated other comprehensive income 42,535 12,075
Retained earnings 316,315 281,012
------------------ -------------------

Total stockholders' equity 463,769 400,193
------------------ -------------------

Total liabilities and stockholders' equity $524,859 $447,033
================== ===================

Page 89

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES

SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED
CONDENSED STATEMENTS OF INCOME

Year ended December 31
--------------------------------------------------------------
2002 2001 2000
---- ---- ----
(in thousands)

Investment income $25 $150 $81
Rental income 37 38 37
Net realized gains on investments - - -

------------------- ------------------ ------------------
Total revenue 62 188 118
------------------- ------------------ ------------------

Interest expense to affiliate 2,161 2,275 2,730
Total operating expenses 1,653 1,889 1,859
------------------- ------------------ ------------------

Loss before federal income taxes (3,752) (3,976) (4,471)

Federal income tax benefit (1,313) (1,383) (1,573)

--------------------------------------------------------------
Net loss before equity in undistributed
net earnings of subsidiaries (2,439) (2,593) (2,898)

Equity in undistributed net earnings of subsidiaries 39,457 23,208 50,612

------------------- ------------------ ------------------
Net Income $37,018 $20,615 $47,714
=================== ================== ==================

Page 90

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES

SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED
CONDENSED STATEMENTS OF CASH FLOWS

Year Ended December 31
--------------------------------------------------------------
2002 2001 2000
---- ---- ----
(in thousands)

Cash flows from operating activities:

Net income $37,018 $20,615 $47,714
------------------ ------------------- -------------------
Adjustments to reconcile net income to net cash
used in operating activities:
Depreciation and amortization, net 183 157 484
Equity in undistributed earnings of subsidiaries (39,457) (23,208) (50,612)
Changes in operating assets and liabilities:
Change in accrued expenses and due to affiliates (751) 788 60
Change in other assets 148 (328) (19)
Change in federal income taxes 74 178 (721)
------------------ ------------------- -------------------

Net cash used in operating activities (2,785) (1,798) (3,094)
------------------ ------------------- -------------------

Cash flows from investing activities:
Capitalization of subsidiary (21,514) (9,001) -
Dividends received from subsidiaries 12,364 11,701 3,025

------------------ ------------------- -------------------
Net cash provided by (used in) investing activities (9,150) 2,700 3,025
------------------ ------------------- -------------------

Cash flows from financing activities:
Proceeds from issuance of debt to bank 15,000 - -
Net proceeds from sale of common stock 2,999 2,466 1,707
Payments to acquire treasury stock (6,261) (388) (300)
Payment of dividends (1,715) (1,566) (1,397)
------------------ ------------------- -------------------
Net cash provided by financing activities 10,023 512 10
------------------ ------------------- -------------------

Net increase (decrease) in cash and invested cash (1,912) 1,414 (59)
------------------ ------------------- -------------------
Cash and cash equivalents at beginning of year 2,005 591 650
------------------ ------------------- -------------------
Cash and cash equivalents at end of year $93 $2,005 $591
================== =================== ===================

Supplemental Disclosures:
Federal income taxes received $1,386 $1,561 $852
================== =================== ===================

Page 91
STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES

SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONTINUED

NOTE 1 - BASIS OF PRESENTATION

In the parent company-only financial statements, State Auto Financial
Corporation's investment in subsidiaries is stated at cost plus equity in
undistributed earnings of subsidiaries and net unrealized gains and losses on
investments. The parent company-only financial statements should be read in
conjunction with the Company's consolidated financial statements.

NOTE 2 - STOCK REPURCHASE PLAN

On March 1, 2002, the Board of Directors of State Auto Financial approved a plan
to repurchase up to 1.0 million shares of its common stock over a period
extending to and through December 31, 2003. Through December 31, 2002, State
Auto Financial repurchased 395,924 shares from the public. Repurchases during
2002 were funded through dividends from subsidiaries.

During 2000, State Auto Financial's Board of Directors approved a plan to
repurchase up to 1.0 million shares of its common stock from the public over a
period ending December 31, 2001. Through December 31, 2001 State Auto Financial
repurchased 50,522 shares. Repurchases during 2001 and 2000 were funded through
dividends from subsidiaries.

NOTE 3 - NOTES PAYABLE

In conjunction with the May 1999 stock repurchase plan, State Auto Financial
entered into a line of credit agreement with Mutual for $45.5 million, at an
interest rate of 6.0%. The interest rate adjusts each January 1 based on a
formula set forth in the note. During 2002 and 2001 the interest rate was 4.75%
and 5.0%, respectively, and adjusts to 4.25% in 2003. Principal payment is due
on demand from Mutual after December 31, 2000, with final payment to be received
on or prior to December 31, 2005.

Effective December 23, 2002, State Auto Financial entered into a 364 day $15.0
million term loan note agreement with a bank. Interest adjusts quarterly and
accrues based on LIBOR plus 75 basis points (2.15% at December 31, 2002).
Interest on the note is 2.15% through March 23, 2003 and 2.027% for the period
March 24, 2003 through September 23, 2003.

Page 92

STATE AUTO FINANCIAL CORPORATION AND SUBSIDIARIES

SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(in thousands)

Column A Column B Column C Column D Column E Column F
-------- -------- -------- -------- -------- --------

Future policy Other policy
benefits, losses, claims and
Deferred policy claims and Unearned benefits Premium
Segment acquisition cost loss expenses premiums payable revenue
------- ---------------- ------------- -------- ------- -------

Year ended December 31, 2002
State Auto standard insurance segment $65,374 $373,103 $299,115 - $673,175
State Auto nonstandard insurance segment 4,224 60,102 25,087 - 65,022
Meridian standard insurance segment 8,207 159,186 53,010 - 149,865
Meridian nonstandard insurance segment 81 8,567 778 - 8,533
-------------- ---------------- -------------- -------------- -------------
Total 77,886 600,958 377,990 - 896,595
============== ================ ============== ============== =============

Year ended December 31, 2001
State Auto standard insurance segment $54,129 $344,746 $244,421 - $444,296
State Auto nonstandard insurance segment 2,310 19,011 15,903 - 35,256
Meridian standard insurance segment 10,363 145,654 65,461 - 69,154
Meridian nonstandard insurance segment 285 14,449 3,710 - 6,501
-------------- ---------------- -------------- -------------- -------------
Total 67,087 523,860 329,495 - 555,207
============== ================ ============== ============== =============

Year ended December 31, 2000
Standard insurance segment $31,292 $228,516 $151,781 - $370,566
Nonstandard insurance segment 1,166 16,067 8,606 - 27,401
-------------- ---------------- -------------- -------------- -------------
Total 32,458 244,583 160,387 - 397,967
============== ================ ============== ============== =============

Column G Column H Column I Column J Column K
-------- -------- -------- -------- --------

Amortization
Benefits,claims, of deferred
losses and policy
Net investment settlement acquisition Other operating Premiums
income expenses costs expenses written
------ -------- ----- -------- -------

Year ended December 31, 2002
State Auto standard insurance segment $42,223 $467,263 $178,761 $28,187 $722,599
State Auto nonstandard insurance segment 2,228 53,986 10,358 742 76,422
Meridian standard insurance segment 9,322 128,072 34,978 9,991 137,944
Meridian nonstandard insurance segment 531 4,153 243 1,088 5,879
Investment management services 125 - - - -
All other 180 - - - -
Corporate 25 - - - -
Reclassification adjustments in consolidation 5,057 - - - -
-------------- ---------------- -------------- -------------- -------------
Total 59,691 653,474 224,340 40,008 942,844
============== ================ ============== ============== =============

Year ended December 31, 2001
State Auto standard insurance segment $37,230 $292,917 $96,127 $42,597 $462,931
State Auto nonstandard insurance segment 1,997 27,243 6,164 1,063 41,540
Meridian standard insurance segment 3,595 95,979 6,551 12,309 64,526
Meridian nonstandard insurance segment 338 10,935 180 2,216 4,944
Investment management services 318 - - - -
All other 193 - - - -
Corporate 150 - - - -
Reclassification adjustments in consolidation 3,554 - - - -
-------------- ---------------- -------------- -------------- -------------
Total 47,375 427,074 109,022 58,185 573,941
============== ================ ============== ============== =============

Year ended December 31, 2000
Standard insurance segment $33,436 $250,071 $92,955 $20,527 $373,867
Nonstandard insurance segment 1,899 22,096 4,828 1,259 27,837
Investment management services 360 - - - -
All other 244 - - - -
Corporate 81 - - - -
Reclassification adjustments in consolidation 2,895 - - - -
-------------- ---------------- -------------- -------------- -------------
Total 38,915 272,167 97,783 21,786 401,704
============== ================ ============== ============== =============

Page 93

STATE AUTO FINANCIAL CORPORATION

SCHEDULE IV - REINSURANCE
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
(in thousands, except percentages)

Column A Column B Column C Column D Column E Column F
-------- -------- -------- -------- -------- --------

Percentage
Ceded to Assumed from of amount
Outside Affiliated Outside Affiliated assumed
Gross Amount Companies Companies(1) Companies Companies(1) Net Amount to net(2)
------------ --------- ------------ --------- ------------ ---------- ---------

Year ended 12-31-02
property-casualty earned premiums $577,803 $11,260 $506,777 $3,934 $832,895 $896,595 0.4%

Year ended 12-31-01
property-casualty earned premiums $472,766 $8,335 $432,168 $4,304 $518,640 $555,207 0.8%

Year ended 12-31-00
property-casualty earned premiums $432,318 $7,360 $402,561 $5,166 $370,404 $397,967 1.3%

- --------------
(1) These columns include the effect of intercompany pooling.
(2) Calculated as earned premiums assumed from outside companies to net amount.

Page 94
ITEM 15(c)
EXHIBIT INDEX

(a)(3) LISTING OF EXHIBITS

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

3(A)(1) State Auto Financial Corporation's Amended and Restated 1933 Act Registration Statement No. 33-40643
Articles of Incorporation on Form S-1 (see Exhibit 3(a) therein)

3(A)(2) State Auto Financial Corporation's Amendment to the 1933 Act Registration Statement No. 33-89400
Amended and Restated Articles of Incorporation on Form S-8 (see Exhibit 4(b) therein)

3(A)(3) State Auto Financial Corporation Certificate of Form 10-K Annual Report for the year ended
Amendment to the Amended and Restated Articles of December 31, 1998 (see Exhibit 3(A)(3)
Incorporation as of June 2, 1998 therein)

3(B) State Auto Financial Corporation's Amended and Restated 1933 Act Registration Statement No. 33-40643
Code of Regulations on Form S-1 (see Exhibit 3(b) therein)

4 State Auto Financial Corporation's Amended and Restated Form 10-K Annual Report for the year ended
Articles of Incorporation, and Articles 1, 3, 5 and 9 of December 31, 1992 (see Exhibit 3(A) and 3(B)
the Company's Amended and Restated Code of Regulations therein)

10(A) Guaranty Agreement between State Automobile Mutual 1933 Act Registration Statement No. 33-40643
Insurance Company and State Auto Property and Casualty on Form S-1 (see Exhibit 10 (d) therein)
Insurance Company dated as of May 16, 1991

10(B) Form of Indemnification Agreement between State Auto 1933 Act Registration Statement No. 33-40643
Financial Corporation and each of its directors on Form S-1 (see Exhibit 10 (e) therein)

10(C)* State Auto 1991 Quality Performance Bonus Plan 1933 Act Registration Statement No. 33-40643
on Form S-1 (see Exhibit 10 (f) therein)

10(D)* 1991 Stock Option Plan 1933 Act Registration Statement No. 33-40643
on Form S-1 (see Exhibit 10 (h) therein)

10(E)* Amendment Number 1 to the 1991 Stock Option Plan 1933 Act Registration Statement No. 33-89400
on Form S-8 (see Exhibit 4 (a) therein)

10(F)* 1991 Directors' Stock Option Plan 1933 Act Registration Statement No. 33-40643
on Form S-1 (see Exhibit 10 (i) therein)

10(G) License Agreement between State Automobile Mutual 1933 Act Registration Statement No. 33-40643
Insurance Company and Policy Management Systems on Form S-1 (see Exhibit 10 (k) therein)
Corporation dated December 28, 1984

10(H) Investment Management Agreement between Stateco Form 10-K Annual Report for the year ended
Financial Services, Inc. and State Automobile Mutual December 31, 1992 (see Exhibit 10 (N)
Insurance Company, effective April 1, 1993 therein)

10(I)* State Auto Insurance Companies Directors' Deferred Form 10-K Annual Report for year ended
Compensation Plan December 31, 1995 (see Exhibit 10(S)
therein)
10(J)* State Auto Insurance Companies Amended and Restated Registration Statement on Form S-8, File No.
Non-Qualified Incentive Deferred Compensation Plan 333-56338 (see Exhibit 4(e) therein)

10(K)* Amendment Number 2 to the 1991 Stock Option Plan Form 10-K Annual Report for the year ended
December 31, 1996 (see Exhibit 10(DD)
therein)

10(L)* Amendment Number 1 to the 1991 Directors' Stock Option Form 10-K Annual Report for the year ended
Plan December 31, 1996 (see Exhibit 10(EE)
therein)

10(M) Amended and Restated SERP of State Auto Mutual Form 10-K Annual Report for the year ended
effective as of January 1, 1994 December 31, 1997 (see Exhibit 10(HH)
therein)

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 95

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

10(N) Credit Agreement dated as of June 1, 1999 between State Form 10-Q for the period ended June 30, 1999
Auto Financial Corporation and State Automobile Mutual (see Exhibit 10(LL) therein)
Insurance Company

10(O) Reinsurance Pooling Agreement amended and restated as Form 10-K Annual Report for the year ended
of January 1, 2000 by and among State Automobile Mutual December 31, 1999 (see Exhibit 10(W) therein)
Insurance Company, State Auto Property and Casualty
Insurance Company, Milbank Insurance Company, Midwest
Security Insurance Company (n/k/a State Auto Insurance
Company of Wisconsin), Farmers Casualty Insurance
Company and State Auto Insurance Company (n/k/a State
Auto Insurance Company of Ohio)

10(P) Management and Operations Agreement as of January 1, Form 10-K Annual Report for the year ended
2000 among State Automobile Mutual Insurance Company, December 31, 1999 (see Exhibit 10(X) therein)
State Auto Financial Corporation, State Auto Property
and Casualty Insurance Company, State Auto National
Insurance Company, Milbank Insurance Company, State
Auto Insurance Company (n/k/a State Auto Insurance
Company of Ohio), Stateco Financial Services, Inc.,
Strategic Insurance Software, Inc., 518 Property
Management and Leasing, LLC

10(Q) Property Catastrophe Overlying Excess of Loss Form 10-K Annual Report for the year
Reinsurance contract issued to State Automobile Mutual ended December 31, 1999 (see Exhibit
Insurance Company, State Auto National Insurance 10(Y) therein)
Company, Milbank Insurance Company, Midwest Security
Insurance Company (n/k/a State Auto Insurance Company
of Wisconsin), Farmers Casualty Insurance Company,
Mid-Plains Insurance Company by State Auto Property and
Casualty Insurance Company

10(R) First Amendment to the Management and Operations Form 10-K Annual Report for the year
Agreement effective January 1, 2000 among State ended December 31, 1999 (see Exhibit
Automobile Mutual Insurance Company, State Auto 10(Z) therein)
Financial Corporation, State Auto Property and Casualty
Insurance Company, State Auto National Insurance
Company, Milbank Insurance Company, State Auto
Insurance Company (n/k/a State Auto Insurance Company
of Ohio), Stateco Financial Services, Inc., Strategic
Insurance Software, Inc. and 518 Property Management
and Leasing, LLC

10(S) First Amendment to the June 1, 1999 Credit Agreement Form 10-K Annual Report for the year
dated November 1, 1999 between State Auto Financial ended December 31, 1999 (see Exhibit
Corporation and State Automobile Mutual Insurance 10(AA) therein)
Company

10(T) Second amendment to the June 1, 1999 Credit Agreement Form 10-Q for the period ended March 31,
dated December 1, 1999 between State Auto Financial 2000 (see Exhibit 10(BB) therein)
Corporation and State Automobile Mutual Insurance
Company

10(U)* Employment Agreement and Executive Agreement between Form 10-K Annual Report for the year
State Auto Financial Corporation and Robert H. Moone ended December 31, 2000 (see Exhibit
10(BB) therein)

10(V)* Form of Executive Agreement between State Auto Form 10-K Annual Report for the year
Financial Corporation and certain executive officers ended December 31, 2000 (see Exhibit
10(CC) therein)

10(W) First Amendment to the Reinsurance Pooling Agreement Form 10-K Annual Report for the year
Amended and Restated as of January 1, 2000 by and among ended December 31, 2000 (see Exhibit
State Auto Property and Casualty Insurance Company, 10(DD) therein)
State Automobile Mutual Insurance Company, Milbank
Insurance Company, Midwest Security Insurance Company
(n/k/a State Auto Insurance Company of Wisconsin),
Farmers Casualty Insurance Company and State Auto
Insurance Company (n/k/a State Auto Insurance Company
of Ohio)

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 96

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

10(X) Addendum No. 1 of the Property Catastrophe Overlying Form 10-K Annual Report for the year
Excess of Loss Reinsurance Contract by and among State ended December 31, 2000 (see Exhibit
Auto Property and Casualty Insurance Company, State 10(EE) therein)
Automobile Mutual Insurance Company, State Auto
National Insurance Company, Milbank Insurance Company,
Midwest Security Insurance Company (n/k/a State Auto
Insurance Company of Wisconsin), Farmers Casualty
Insurance Company, Mid-Plains Insurance Company and
State Auto Insurance Company (n/k/a State Auto
Insurance Company of Ohio) dated November 17, 2000

10(Y)* 2000 Stock Option Plan Definitive Proxy Statement on Form DEF
14A, File No. 000-19289, for Annual
Meeting of Shareholders held on May 26,
2000 (see Appendix A therein)

10(Z)* 2000 Directors Stock Option Plan Definitive Proxy Statement on Form DEF
14A, File No. 000-19289, for Annual
Meeting of Shareholders held on May 26,
2000 (see Appendix B therein)

10(AA)* First Amendment to 2000 Directors Stock Option Plan Form 10-Q for the period ended March 31,
2001 (see Exhibit 10(HH) therein)

10(BB)* Second Amendment to the Reinsurance Pooling Agreement Form 10-Q for the period ended June 30,
Amended and Restated as of January 1, 2000, by the 2001 (see Exhibit 10(II) therein)
State Automobile Mutual Insurance Company, State Auto
Property and Casualty Insurance Company, Milbank
Insurance Company, Midwest Security Insurance Company
(n/k/a State Auto Insurance Company of Wisconsin),
Farmers Casualty Insurance Company and State Auto
Insurance Company (n/k/a State Auto Insurance Company
of Ohio)

10(CC)* Second Amendment to 1991 Directors Stock Option Plan Form 10-Q for the period ended September
30, 2001 (see Exhibit 10(JJ) therein)

10(DD)* Second Amendment to 2000 Directors Stock Option Plan Form 10-Q for the period ended September
30, 2001 (see Exhibit 10(KK) therein)

10(EE)* Third Amendment to 2000 Directors Stock Option Plan Form 10-K Annual Report for the year
ended December 31, 2001 (see Exhibit
10(EE) therein)

10(FF) Third Amendment to State Auto Reinsurance Pooling Form 10-K Annual Report for the year
Agreement, Amended and Restated as of January 1, 2000 ended December 31, 2001 (see Exhibit
10(FF) therein)

10(GG) Stop Loss Reinsurance Agreement dated October 1, 2001 Form 10-K Annual Report for the year
among inter alia Mutual and State Auto P&C ended December 31, 2001 (see Exhibit
10(GG) therein)

10(HH) Amendment No. 2 to the Management and Operations Form 10-K Annual Report for the year
Agreement dated January 1, 2000 among, inter alia, ended December 31, 2001 (see Exhibit
Mutual and State Auto P&C 10(HH) therein)

10(II) $100,000,000 Amended and Restated Credit Agreement Form 10-K Annual Report for the year
among SAF Funding Corporation, as Borrower, the ended December 31, 2001 (see Exhibit
Lenders and Bank One, NA as Agent dated as of 10(II) therein)
November 16, 2001

10(JJ) Amended and Restated Put Agreement among State Form 10-K Annual Report for the year
Automobile Mutual Insurance Company, State Auto ended December 31, 2001 (see Exhibit
Financial Corporation and Bank One, NA as Agent dated 10(JJ) therein)
as of November 16, 2001

10(KK) Amended and Restated Standby Purchase Agreement Form 10-K Annual Report for the year
between State Auto Financial Corporation and SAF ended December 31, 2001 (see Exhibit
Funding Corporation dated as of November 16, 2001 10(KK) therein)

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 97

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

10(LL) Amendment No. 3 to Management and Operations Form 10-Q for the period ended June 30,
Agreement effective January 1, 2002, among State 2002 (see Exhibit 10(LL) therein)
Automobile Mutual Insurance Company, State Auto
Financial Corporation, State Auto Property and
Casualty Insurance Company, State Auto National
Insurance Company, Milbank Insurance Company, State
Auto Insurance Company, Stateco Financial Services,
Inc., Strategic Insurance Software, Inc., and 518
Property Management and Leasing, LLC

10(MM) Surplus Contribution Note from Milbank Insurance Form 10-Q for the period ended September
Company to Meridian Security Insurance Company dated 30, 2002 (see Exhibit 10(MM) therein)
as of September 30, 2002

10(NN) Management Services Agreement as of July 1, 2002 by Form 10-Q for the period ended September
and among State Auto Property and Casualty Insurance 30, 2002 (see Exhibit 10(NN) therein)
Company, Meridian Insurance Group, Inc., Meridian
Security Insurance Company, Meridian Citizens Mutual
Insurance Company and Meridian Citizens Security
Insurance Company

10(OO) Cost Sharing Agreement among State Auto Property and Included herein
Casualty Insurance Company, State Automobile Mutual
Insurance Company, and State Auto Florida Insurance
Company effective January 1, 2003

10(PP) Amendment No. 1 to Put Agreement and Waiver among Included herein
State Automobile Mutual Insurance Company, State Auto
Financial Corporation and Bank One, NA dated as of
August 28, 2002

10(QQ) Amendment No. 1 to Amended and Restated Credit Included herein
Agreement among SAF Funding Corporation, the Lenders
and Bank One, NA dated as of November 14, 2002

10(RR) Amendment No. 2 to Amended and Restated Put Agreement Included herein
and Waiver among State Automobile Mutual Insurance
Company, State Auto Financial Corporation and Bank
One, NA dated as of November 14, 2002

10(SS) Amendment No. 1 to Amended and Restated Standby Included herein
Purchase Agreement between State Auto Financial
Corporation and SAF Funding Corporation

10(TT) Fourth Amendment to State Auto Reinsurance Pooling Included herein
Agreement, Amended and Restated as of January 1, 2000

10(UU)* Fourth Amendment to 2000 Directors Stock Option Plan Included herein

10(VV) Term Loan Note from State Auto Financial Corporation Included herein
to KeyBank National Association dated as of December
23, 2002

21 List of Subsidiaries of State Auto Financial Included herein
Corporation

23 Consent of Independent Auditors Included herein

24(A) Powers of Attorney - William J. Lhota, Urlin G. Form 10-Q for the period ended June 30,
Harris, Jr., Paul W. Huesman, George R. Manser, and 1997 (see Exhibit 24(C) therein)
David J. D'Antoni
24(B) Power of Attorney - John R. Lowther Form 10-Q for the period ended March 31,
1998 (see Exhibit 24(D) therein)

24(C) Power of Attorney - Robert H. Moone Form 10-K Annual Report for the year
ended December 31, 1998 (see Exhibit
24(E) therein)

* Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit.

Page 98

If incorporated by reference document with
Exhibit No. Description of Exhibit which Exhibit was previously filed with SEC
- ----------- ---------------------- -------------------------------------------

24(D) Power of Attorney - Richard K. Smith Form 10-K Annual Report for the year
ended December 31, 2000 (See Exhibit
24(D) therein)

24(E) Power of Attorney - S. Elaine Roberts Included herein

99.1 CEO certification required by Section 906 of Included herein
Sarbanes-Oxley Act of 2002

99.2 CFO certification required by Section 906 of Included herein
Sarbanes-Oxley Act of 2002

- ---------------------------------

*Constitutes either a management contract or a compensatory plan or arrangement
required to be filed as an Exhibit