SUPERIOR NATIONAL INSURANCE GROUP INC, PRE 14A, 1998-07-21

SUPERIOR NATIONAL INSURANCE GROUP INC
PRE 14A, 1998-07-21
INSURANCE AGENTS, BROKERS & SERVICE

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<PAGE> 1
SCHEDULE 14A INFORMATION
PROXY STATEMENT PURSUANT TO SECTION 14(a)
OF THE SECURITIES EXCHANGE ACT OF 1934
(AMENDMENT NO. )

Filed by the Registrant [X]
Filed by a Party other than the Registrant [ ]

Check the appropriate box:
[X] Preliminary Proxy Statement
[ ] Confidential, for Use of the Commission Only (as permitted by Rule
14a-6(e)(2))
[ ] Definitive Proxy Statement
[ ] Definitive Additional Materials
[ ] Soliciting Material Pursuant to Section 240.14a-11(c) or Section
240.14a-12

SUPERIOR NATIONAL INSURANCE GROUP, INC.
- --------------------------------------------------------------------------------
(Name of Registrant as Specified In Its Charter)

- --------------------------------------------------------------------------------
(Name of Person(s) Filing Proxy Statement, if other than the Registrant)

Payment of Filing Fee (Check the appropriate box):
[X] No fee required.
[ ] Fee computed on table below per Exchange Act Rules 14a-6(i)(4) and O-11.

1) Title of each class of securities to which transaction applies:

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

2) Aggregate number of securities to which transaction applies:

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

3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule O-11:*

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

4) Proposed maximum aggregate value of transaction:

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

5) Total fee paid:

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

[ ] Fee paid previously with preliminary materials.

* Set forth the amount on which the filing fee is calculated and state how
it was determined.

[ ] Check box if any part of the fee is offset as provided by Exchange
Act Rule O-11(a)(2) and identify the filing for which the offsetting fee
was paid previously. Identify the previous filing by registration statement
number, or the Form or Schedule and the date of its filing.

1) Amount Previously Paid:

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

2) Form, Schedule or Registration Statement No.:

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

3) Filing Party:

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

4) Date Filed:

------------------------------------------------------------------------
<PAGE> 2

[LOGO]

, 1998

TO OUR STOCKHOLDERS:

SUPERIOR NATIONAL INSURANCE GROUP, INC. (the "Company" or "Superior
National") needs your vote either in person at our 1998 Annual Meeting of
Stockholders or by completion of the enclosed proxy card to, most importantly,
authorize the issuance and sale of common stock in order to raise a portion of
the funds needed to acquire Business Insurance Group, Inc. and its insurance
subsidiaries ("BIG"). THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT THE
STOCKHOLDERS VOTE IN FAVOR OF ALL PROPOSALS.

The addition of BIG into the Superior National group of insurance companies
would make Superior National, after the State Fund, the largest workers'
compensation insurer in California. Additionally, BIG has substantial operations
outside of California, allowing Superior National to seek new opportunities for
growth.

YOUR AFFIRMATIVE VOTE IS NEEDED to approve the equity issuances that will
provide more than two-thirds of the $285.0 million purchase price for BIG. The
equity issuances consist of a Rights Offering to stockholders and warrant
holders, combined with a similar offering to employees and consultants holding
options and restricted stock, and a $94.0 million private placement with
Insurance Partners, L.P. and affiliated funds ("IP") at $16.75 per share (the
"IP Stock Issuance").

In the Rights Offering, one Right would be distributed for each share or
warrant outstanding, exercisable at $16.75 per share, but the existing IP
stockholders and certain warrant holders would be excluded. As you may know, the
Company's warrant holders have preemptive rights on equity issuances by the
Company. They may exercise their preemptive rights and participate in the Rights
Offering or instead elect to buy under the terms of the IP Stock Issuance and be
excluded from the Rights Offering. Together with the Rights Offering, the
Company will issue one non-transferable Right to purchase a share at $16.75 for
each option or share of restricted stock held by the Company's employees and
consultants. In order to assure the Company of sufficient funds to complete the
acquisition of BIG, IP also has committed to buy, at $16.75 per share, up to an
additional $106.0 million in Common Stock in an amount necessary to bring the
total proceeds of these equity financings to $200.0 million (the "Standby
Commitment"). The diagram that follows this letter shows the overall structure
of the acquisition financing.

Attached is Superior National's Proxy Statement for its 1998 Annual Meeting
of Stockholders. The Proxy Statement covers four groups of proposals: two
proposals related to the equity financings discussed above, which must be
approved in order to complete the BIG acquisition; two proposals related to
customary stock-based compensation for employees; two proposals to amend the
Company's Certificate of Incorporation; and two proposals (the election of
directors and ratification of the choice of auditors) that are "routine"
business of the Annual Meeting.

Even if you plan on attending the Annual Meeting in person, PLEASE READ THE
PROXY STATEMENT AND FILL OUT YOUR PROXY CARD IN FULL AND RETURN IT TO THE
COMPANY IN THE ENVELOPE PROVIDED. You may revoke your proxy at any time, or you
may appear at the Annual Meeting and cast your vote, in which case your proxy
would be ignored.

Because it is critical to the success of this transaction that our
stockholders cast a vote, we have engaged a proxy solicitation firm to assist
the Board in obtaining the necessary vote. WE HOPE YOU WILL FORGIVE THE
INTRUSION OF A PHONE CALL, OR, EVEN BETTER, THAT YOU WILL AVOID A CALL BY
COMPLETING THE PROXY CARD AND RETURNING IT SIGNED AND DATED IN THE ENVELOPE
PROVIDED.

Before you review the body of the Proxy Statement and the accompanying
Annexes, please take a few moments to read the 19-page summary that begins on
page 1. The Proxy Statement also includes a glossary of defined terms that you
may wish to refer to while reading.
<PAGE> 3

Please do not hesitate to call the Senior Vice President, General Counsel
and Secretary of the Company, Robert Nagle, with any questions. Mr. Nagle may be
reached at (818) 880-1600, extension 406 generally between 9 a.m. and 5 p.m.
Pacific Time on weekdays.

Sincerely,

William L. Gentz
President & Chief Executive Officer of
Superior National Insurance Group,
Inc.

LOGO

The preceding is a brief summary of certain information contained elsewhere in
the Proxy Statement and does not contain a complete statement of all material
features of the proposals to be voted on and is qualified in its entirety by the
more detailed information appearing elsewhere in the Proxy Statement and in the
accompanying Annexes.

YOU ARE URGED TO VOTE UPON THE MATTERS PRESENTED AND TO SIGN, DATE AND PROMPTLY
RETURN THE ENCLOSED PROXY IN THE ENVELOPE PROVIDED. PROXIES ARE REVOCABLE AND
THE EXECUTION OF A PROXY WILL NOT AFFECT YOUR RIGHT TO VOTE IN PERSON AT THE
ANNUAL MEETING.
<PAGE> 4

SUPERIOR NATIONAL INSURANCE GROUP, INC.
26601 AGOURA ROAD
CALABASAS, CALIFORNIA 91302
------------------------

NOTICE OF ANNUAL MEETING OF STOCKHOLDERS
TO BE HELD ON , 1998

TO THE STOCKHOLDERS OF SUPERIOR NATIONAL INSURANCE GROUP, INC:

The 1998 Annual Meeting of Stockholders (the "Annual Meeting") of Superior
National Insurance Group, Inc., a Delaware corporation (the "Company"), will be
held at 10:00 a.m., Pacific Time, on , 1998 at the Company's
principal executive offices at 26601 Agoura Road, Calabasas, California 91302,
for the following purposes:

1. To consider and vote upon a proposal to approve the issuance and
sale of up to 6,548,664 shares of the Company's common stock (the "Common
Stock") in the "Stock Offering," in which the Company will issue
subscription rights (the "Rights") to purchase Common Stock to:

(a) holders of its outstanding Common Stock (other than IP Delaware
and IP Bermuda, defined below) and holders of its outstanding warrants
to purchase Common Stock (excluding certain warrant holders) (the
"Rights Offering"); and

(b) the Company's employees and consultants holding options to
purchase Common Stock and grants of restricted Common Stock (the
"Employee Participation").

The Company will issue one Right per share of Common Stock (or
share of Common Stock underlying a warrant or option) held. Each Right
will entitle the holder thereof to purchase one share of Common Stock at
a price of $16.75 per share during a 30-day exercise period. The Rights
issued in the Rights Offering will be transferable, while those issued
in the Employee Participation will be non-transferable. Shares issued
upon exercise of the Rights will be freely tradeable, except that those
shares issued upon exercise of the Employee Participation Rights will be
subject to restrictions imposed by the Company. If all Rights were
exercised, the proceeds of the Stock Offering would be approximately
$109.7 million.

2. To consider and vote upon a proposal to approve:

(a) the issuance and sale to a group of related investment funds
(herein collectively referred to as "IP") of 5,611,940 shares of Common
Stock (the "IP Stock Issuance") at a price of $16.75 per share, yielding
proceeds of $94.0 million, pursuant to that certain Stock Purchase
Agreement dated as of May 5, 1998 between the Company and IP, together
with the issuance and sale of up to 2,145,821 shares of Common Stock at
$16.75 per share to warrant holders who have preemptive rights activated
by the IP Stock Issuance, and who upon exercising those preemptive
rights will be excluded from the Stock Offering; and

(b) the issuance and sale to IP at $16.75 per share that number of
shares of Common Stock necessary to bring the total proceeds of the
Stock Offering, the IP Stock Issuance, and the exercise of preemptive
rights in connection with the IP Stock Issuance to $200.0 million (the
"Standby Commitment"). The term "IP" includes Insurance Partners, L.P.
("IP Delaware"), Insurance Partners Offshore (Bermuda), L.P. ("IP
Bermuda"), Insurance Partners II, L.P. and/or Insurance Partners II
Private Fund, L.P. (jointly, "IP II").

The Company will use the proceeds of the Stock Offering, the IP
Stock Issuance (with the related exercises of warrant holder preemptive
rights), and the Standby Commitment, together with the proceeds of the
Company's issuance and sale of approximately $110.0 million in aggregate
principal amount of its senior notes, to acquire Business Insurance
Group, Inc. and its insurance subsidiaries for approximately $285.0
million in cash (the "Acquisition"). In no event would more
<PAGE> 5

than 12,160,604 shares be issued, because warrant holders exercising
preemptive rights to purchase under the terms of the IP Stock Issuance
would not participate in the Stock Offering.

3. To consider and vote upon a proposal to approve an amendment to the
Company's 1995 Stock Incentive Plan (the "1995 Plan") to increase the
number of shares of Common Stock authorized for issuance under the 1995
Plan from 625,000 shares to 3.0 million shares;

4. To consider and vote upon a proposal to adopt the Company's
Employee Stock Purchase Plan, and reserve 500,000 shares of Common Stock
for issuance thereunder;

5. To consider and vote upon a proposal to approve an amendment to the
Company's Certificate of Incorporation to increase the number of authorized
shares of Common Stock from 25.0 million shares to 40.0 million shares;

6. To consider and vote upon a proposal to approve an amendment to the
Company's Certificate of Incorporation to remove the transfer restrictions
on the Common Stock that relate to the Company's net operating loss
carryforwards for federal income tax purposes;

7. To elect eleven directors of the Company, each to serve during the
ensuing year and until their successors are elected and qualified;

8. To ratify the appointment of KPMG Peat Marwick LLP as the Company's
independent auditors for the fiscal year ending December 31, 1998; and

9. To transact such other business as may properly come before the
Annual Meeting or any adjournment or postponement thereof.

The foregoing items of business are more fully described in the Proxy
Statement. Only the stockholders of record at the close of business on
, 1998 are entitled to receive notice of and to vote at the
Annual Meeting or any adjournment or postponement thereof.

A copy of the Company's Annual Report to Stockholders for the fiscal year
ended December 31, 1997 is available from the Company without charge to
stockholders upon request. It is not to be considered part of the proxy
soliciting material.

By Order of the Board of Directors

ROBERT E. NAGLE
Secretary

, 1998
Calabasas, California

YOU ARE URGED TO VOTE UPON THE MATTERS PRESENTED AND TO SIGN, DATE AND
PROMPTLY RETURN THE ENCLOSED PROXY IN THE ENVELOPE PROVIDED. IT IS IMPORTANT FOR
YOU TO BE REPRESENTED AT THE ANNUAL MEETING. PROXIES ARE REVOCABLE AT ANY TIME
AND THE EXECUTION OF YOUR PROXY WILL NOT AFFECT YOUR RIGHT TO VOTE IN PERSON IF
YOU ARE PRESENT AT THE MEETING.
------------------------

REQUESTS FOR ADDITIONAL COPIES OF PROXY MATERIALS OR THE COMPANY'S ANNUAL
REPORT TO STOCKHOLDERS SHOULD BE ADDRESSED TO ROBERT E. NAGLE, SENIOR VICE
PRESIDENT, GENERAL COUNSEL AND SECRETARY, AT THE PRINCIPAL EXECUTIVE OFFICES OF
THE COMPANY, 26601 AGOURA ROAD, CALABASAS, CALIFORNIA 91302.
<PAGE> 6

SUPERIOR NATIONAL INSURANCE GROUP, INC.
26601 AGOURA ROAD
CALABASAS, CALIFORNIA 91302
------------------------

PROXY STATEMENT
1998 ANNUAL MEETING OF STOCKHOLDERS
TO BE HELD ON , 1998
------------------------

GENERAL INFORMATION

This Proxy Statement is furnished in connection with the solicitation of
proxies by the Board of Directors (the "Board of Directors") of Superior
National Insurance Group, Inc., a Delaware corporation (the "Company" or
"Superior National"), for use at its 1998 Annual Meeting of Stockholders (the
"Annual Meeting") to be held on , 1998 at 10:00 a.m., Pacific
Time, at the Company's principal executive offices at 26601 Agoura Road,
Calabasas, California 91302, and any adjournment or postponement thereof. This
Proxy Statement, the form of proxy utilized at the Annual Meeting, and certain
related documents were mailed or delivered to the stockholders of the Company on
or about , 1998.

MATTERS TO BE CONSIDERED

The Annual Meeting has been called:

(b) the Company's employees and consultants holding options to
purchase Common Stock and grants of restricted Common Stock (the
"Employee Participation").

2. To consider and vote upon a proposal to approve:

i
<PAGE> 7

Partners Offshore (Bermuda), L.P. ("IP Bermuda"), Insurance Partners II,
L.P. and/or Insurance Partners II Private Fund, L.P. (jointly, "IP II").

The Company will use the proceeds of the Stock Offering, the IP
Stock Issuance (with the related exercises of warrant holder preemptive
rights), and the Standby Commitment, together with the proceeds of the
Company's issuance and sale of approximately $110.0 million in aggregate
principal amount of its senior notes, to acquire Business Insurance
Group, Inc. and its insurance subsidiaries ("BIG") for approximately
$285.0 million in cash (the "Acquisition"). In no event would more than
12,160,604 shares be issued, because warrant holders exercising
preemptive rights to purchase under the terms of the IP Stock Issuance
would not participate in the Stock Offering.

4. To consider and vote upon a proposal to adopt the Company's
Employee Stock Purchase Plan, and reserve 500,000 shares of Common Stock
for issuance thereunder;

7. To elect eleven directors of the Company, each to serve during the
ensuing year and until their successors are elected and qualified;

8. To ratify the appointment of KPMG Peat Marwick LLP as the Company's
independent auditors for the fiscal year ending December 31, 1998; and

9. To transact such other business as may properly come before the
Annual Meeting or any adjournment or postponement thereof.

RECORD DATE AND VOTING

The directors have fixed the close of business on , 1998 as
the record date (the "Record Date") for the determination of stockholders
entitled to vote at the Annual Meeting and any adjournment or postponement
thereof. Only holders of record of the Company's voting securities on the Record
Date are entitled to receive notice of and to vote at the Annual Meeting and any
adjournment or postponement thereof. As of the Record Date, there were
outstanding shares of Common Stock.

QUORUM AND VOTING REQUIREMENTS

The holders of record of a majority of the combined voting power of the
outstanding shares of Common Stock and the Company's 14.5% Senior Subordinated
Voting Notes due April 1, 2002 (the "Voting Notes") will constitute a quorum for
the transaction of business at the Annual Meeting. As to all matters, except the
election of directors, each stockholder is entitled to one vote for each share
of Common Stock held. Each holder of the Voting Notes is entitled to vote only
in director elections, director removals, changes to the authorized number of
directors, and votes on amendments to that right to vote. As of the Record Date,
the number of votes held by the holders of the Voting Notes was equivalent to
1,566,465 shares of Common Stock.

Upon the request of any person entitled to vote, each holder of voting
securities voting in the election of directors may cumulate such holder's votes
and give one candidate a number of votes equal to the number of directors to be
elected multiplied by the number of votes held by such holder, or distribute
such holder's votes on the same principle among as many candidates as the holder
may select, provided that, for purposes of the Annual Meeting, votes cannot be
cast for more than eleven candidates. However, no stockholder shall be

ii
<PAGE> 8

entitled to cumulate votes for any candidate unless, pursuant to the Bylaws of
the Company and in accordance with the time periods set forth therein, the
candidate's name has been placed in nomination prior to the voting.

All proxies that are properly completed, signed, and returned prior to the
Annual Meeting will be voted. If a stockholder specifies how the proxy is to be
voted with respect to any of the proposals for which a choice is provided, the
proxy will be voted in accordance with such specifications. If a stockholder
fails to so specify with respect to any such proposals, the proxy will be voted
in accordance with the recommendations of the Board of Directors. Any proxy
given by a stockholder may be revoked at any time before it is exercised by
filing with the Secretary of the Company an instrument revoking it, by a duly
executed proxy bearing a later date, or by the stockholder's attending the
Annual Meeting and expressing a desire to vote his or her shares in person.

ALL STOCKHOLDERS ARE URGED TO COMPLETE, SIGN, AND PROMPTLY RETURN THE
ENCLOSED PROXY FORM.

VOTE REQUIRED

Pursuant to voting agreements by and between Foundation Health Corporation,
the parent company of BIG, and stockholders of the Company holding approximately
47% of the outstanding Common Stock, such stockholders have agreed to cast their
votes affirmatively in favor of Proposals No. 1 and No. 2 at the Annual Meeting.
See "Acquisition of Business Insurance Group, Inc. -- Related Agreements."

BECAUSE THE IP STOCK ISSUANCE IS CONDITIONED ON COMPLETION OF THE STOCK
OFFERING, AND VICE VERSA, VOTES AGAINST EITHER PROPOSAL NO. 1 OR PROPOSAL NO. 2
ARE IN EFFECT VOTES AGAINST BOTH PROPOSALS.

Approval of "Proposal No. 3 -- Amendment to 1995 Stock Incentive Plan"
requires the affirmative vote of the holders of a majority of the shares of
Common Stock represented and voting at a meeting at which a quorum is present
(which shares voting affirmatively also constitute at least a majority of the
required quorum). The holders of the Voting Notes are not entitled to vote on
this proposal. Abstentions will have no effect.

Approval of "Proposal No. 4 -- Employee Stock Purchase Plan" requires the
affirmative vote of the holders of a majority of the shares of Common Stock
represented and voting at a meeting at which a quorum is present (which shares
voting affirmatively also constitute at least a majority of the required
quorum). The holders of the Voting Notes are not entitled to vote on this
proposal. Abstentions will have no effect.

Approval of "Proposal No. 5 -- Amendment to Certificate of Incorporation to
Increase Number of Authorized Shares" requires the affirmative vote of the
holders of a majority of the outstanding shares of Common Stock entitled to vote
thereon. The holders of the Voting Notes are not entitled to vote on this
proposal. Abstentions will have the effect of a negative vote.

Approval of "Proposal No. 6 -- Amendment to Certificate of Incorporation to
Remove Transfer Restrictions" requires the affirmative vote of the holders of a
majority of the outstanding shares of Common Stock entitled to vote thereon. The
holders of the Voting Notes are not entitled to vote on this proposal.
Abstentions will have the effect of a negative vote.

On all proposals before the stockholders other than the election of
directors, IP Delaware and IP Bermuda and certain related parties (as of the
record date holding approximately 36.2% of the outstanding Common Stock) have
agreed pursuant to Section 4.2(d) of the Stock Purchase Agreement dated as of
September 17, 1996, as amended and restated effective as of February 17, 1997
(the "1996 Stock Purchase Agreement"), among the Company, IP Delaware, IP
Bermuda, TJS Partners, L.P., and members of the Company's management, that if
the aggregate number of all shares that are voted in like manner by such
iii
<PAGE> 9

parties shall be greater than 35% of the total number of shares voted, then
those votes that exceed such 35% threshold shall be voted in the same proportion
as the other stockholders voted their shares with respect to such matter.

With respect to "Proposal No. 7 -- Election of Directors," the eleven
nominees who receive the greatest number of votes cast for the election of those
directorships shall become directors. Holders of shares of Common Stock are
entitled to cast ballots for directors, as are the holders of the Voting Notes
(casting votes as if they were holders of shares of Common Stock as provided in
the Certificate of Incorporation and Bylaws of the Company). Stockholders may
cumulate their votes for one or more candidates in the manner and upon the
satisfaction of conditions described in this Proxy Statement. Abstentions will
have no effect.

Approval of "Proposal No. 8 -- Ratification of the Appointment of KPMG Peat
Marwick LLP as Independent Auditors" requires the affirmative vote of the
holders of a majority of the shares of Common Stock represented and voting at a
meeting at which a quorum is present (which shares voting affirmatively also
constitute at least a majority of the required quorum). The holders of the
Voting Notes are not entitled to vote on this proposal. Abstentions will have no
effect.

EFFECT OF BROKER NON-VOTES

"Broker Non-Votes" occur when a broker holding shares of Common Stock in
street name withholds its vote on certain "non-routine" matters because the
broker has not received instructions from the beneficial owner of those shares
and does not have discretionary authority to vote on non-routine matters without
specific instructions. Brokers holding shares in street name must receive
specific instructions from the beneficial owners in order to have the authority
to vote, in person or by proxy, on non-routine matters. When a beneficial owner
does not give specific instructions to the broker, the broker, as the holder of
record, is entitled to vote only on "routine" matters and must withhold its
votes as to all "non-routine" matters. Where a proxy solicitation includes a
non-routine proposal and the broker does not receive specific instructions from
the beneficial owner, the resulting proxy is considered a "limited proxy."
Shares represented by limited proxies are considered present for quorum
purposes, but are not considered present for purposes of determining the total
number of shares with voting power present with regard to a non-routine
proposal. The resulting Broker Non-Vote of a limited proxy will be treated as an
abstention on each non-routine proposal.

Each of "Proposal No. 1 -- The Stock Offering," "Proposal No. 2 -- The IP
Stock Issuance," "Proposal No. 5 -- Amendment to Certificate of Incorporation to
Increase Number of Authorized Shares," and "Proposal No. 6 -- Amendment to
Certificate of Incorporation to Remove Transfer Restrictions" is a non-routine
proposal. Approval of each of Proposal No. 1 and Proposal No. 2 requires the
affirmative vote of the holders of a majority of the shares of Common Stock
represented and voting at the meeting. A limited proxy as to Proposals No. 1 and
No. 2 will have no effect. Approval of each of Proposal No. 5 and Proposal No. 6
requires the affirmative vote of the holders of a majority of the outstanding
shares of Common Stock entitled to vote thereon. The effect of a limited proxy
will be that Broker Non-Votes will be treated as votes against Proposal No. 5
and Proposal No. 6. "Proposal No. 3 -- Amendment to 1995 Stock Incentive Plan,"
"Proposal No. 4 -- Employee Stock Purchase Plan," "Proposal No. 7 -- Election of
Directors," and "Proposal No. 8 -- Ratification of the Appointment of KPMG Peat
Marwick LLP as Independent Auditors" are "routine" matters upon which brokers
holding shares in street name can cast votes with or without specific
instructions from the beneficial holders of those shares. Shares held by brokers
thus will be counted for purposes of determining whether Proposal No. 3,
Proposal No. 4, Proposal No. 7, and Proposal No. 8 have been approved.

OTHER INFORMATION

The Common Stock is listed for trading under the symbol "SNTL" on The
Nasdaq National Market ("Nasdaq"), which is operated by The Nasdaq Stock Market,
Inc. On , 1998 the closing price for a share of Common Stock on
Nasdaq was $ .

A member of KPMG Peat Marwick LLP, the Company's independent auditors, is
expected to be present at the Annual Meeting, will have an opportunity to make a
statement, and will be available to respond to appropriate questions.

iv
<PAGE> 10

The principal executive offices of the Company are located at 26601 Agoura
Road, Calabasas, California 91302, and its telephone number is (818) 880-1600.

Financial and other information set forth in this Proxy Statement
concerning BIG has been furnished by Foundation Health Corporation ("FHC")
pursuant to the Purchase Agreement, dated as of May 5, 1998, between the Company
and FHC (the "Acquisition Agreement") (attached hereto as Annex A), and the
Company's recourse in the event such information is materially inaccurate may be
limited by the terms of the Acquisition Agreement in certain respects. Textual
information regarding BIG was prepared by the Company based on information
obtained from FHC under the terms of the Acquisition Agreement.

THIS PROXY STATEMENT IS DATED 1998.

v
<PAGE> 11

SUPERIOR NATIONAL INSURANCE GROUP, INC.

PROXY STATEMENT

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
General Information......................................... i
Available Information....................................... vii
Summary..................................................... 1
Certain Considerations...................................... 20
Acquisition of Business Insurance Group, Inc. -- Background
to Proposals No. 1 and No. 2.............................. 31
Opinion of Merrill Lynch.................................... 43
Unaudited Pro Forma Financial Information................... 50
Proposal No. 1 -- The Stock Offering........................ 56
Proposal No. 2 -- The IP Stock Issuance..................... 63
Proposal No. 3 -- Amendment to 1995 Stock Incentive Plan.... 75
Proposal No. 4 -- Employee Stock Purchase Plan.............. 77
Proposal No. 5 -- Amendment to Certificate of Incorporation
to Increase Authorized Shares............................. 80
Proposal No. 6 -- Amendment to Certificate of Incorporation
to Remove Transfer Restrictions........................... 82
Proposal No. 7 -- Election of Directors..................... 84
Executive Officers........................................ 87
Executive Compensation.................................... 89
Certain Relationships and Related Transactions............ 96
Proposal No. 8 -- Ratification of the Appointment of KPMG
Peat Marwick LLP as Independent Auditors.................. 101
Security Ownership of Certain Beneficial Owners and
Management................................................ 102
Superior National -- Selected Consolidated Financial Data... 110
Superior National -- Management's Discussion and Analysis of
Financial Condition and Results of Operations............. 113
Superior National -- Business............................... 122
Business Insurance Group, Inc. -- Selected Combined
Financial Data............................................ 144
Business Insurance Group, Inc. -- Management's Discussion
and Analysis of Financial Condition and Results of
Operations................................................ 145
Business Insurance Group, Inc. -- Business.................. 150
Other Business.............................................. 162
Submission of Stockholder Proposals......................... 162
Annual Report to Stockholders............................... 162
Proxies and Solicitation.................................... 162
Glossary.................................................... 163
Index to Financial Statements............................... F-1
</TABLE>

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

ANNEXES

<TABLE>
<S> <C>
Annex A -- The Acquisition Agreement -- Purchase Agreement dated as of
May 5, 1998 between the Company and Foundation Health
Corporation.
Annex B -- Opinion of Merrill Lynch & Co.
Annex C -- The Stock Purchase Agreement -- Stock Purchase Agreement
dated as of May 5, 1998 among the Company, Insurance
Partners, L.P., Insurance Partners Offshore (Bermuda), L.P.,
and Capital Z Partners, Ltd.
Annex D -- The 1995 Plan -- 1995 Stock Incentive Plan (as proposed to
be amended in this Proxy Statement).
Annex E -- The Payroll Purchase Plan -- Employee Stock Purchase Plan.
Annex F -- Certificate of Incorporation (as proposed to be amended in
this Proxy Statement).
</TABLE>

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<PAGE> 12

AVAILABLE INFORMATION

The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith files reports, proxy statements, and other information with the
Securities and Exchange Commission (the "SEC"). Copies of such reports, proxy
statements, and other information filed by the Company can be inspected and
copied at the SEC's Public Reference Room, Judiciary Plaza, 450 Fifth Street,
N.W., Washington, D.C. 20549, and at the public reference facilities maintained
by the SEC at its regional offices located at 500 West Madison Street, Suite
1450, Chicago, Illinois 60661, and 7 World Trade Center, 13th Floor, New York,
New York 10048. Copies of such materials can be obtained from the SEC at
prescribed rates from the Public Reference Section of the SEC at 450 Fifth
Street, N.W., Washington, D.C. 20549. Such reports, proxy statements and other
information concerning the Company are also available for inspection at The
Nasdaq Stock Market, Inc., 1735 K Street, N.W., Washington, D.C. 20006. The SEC
maintains a web site at http://www.sec.gov that contains reports, proxy
statements, and other information concerning the Company that the Company files
electronically with the SEC.

BIG is not subject to the Exchange Act; however, it is an indirect
subsidiary of Foundation Health Systems, Inc. ("FHS") which does file such
reports, proxy statements, and other information with the SEC.

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<PAGE> 13

SUMMARY

See "Glossary" for the definitions of certain of the capitalized and
defined terms used herein.

The following is a brief summary of certain information contained elsewhere
in this Proxy Statement. This summary does not contain a complete statement of
all material features of the proposals to be voted on and is qualified in its
entirety by the more detailed information, including "Certain Considerations"
and the financial statements and notes thereto, appearing elsewhere in this
Proxy Statement and in the accompanying Annexes. Unless the context indicates
otherwise, (i) the "Company" or "Superior National" refers to Superior National
Insurance Group, Inc., a Delaware corporation, and its Subsidiaries, (ii) the
"Subsidiaries" refer to the direct and indirect subsidiaries of the Company,
including, after the Acquisition, BIG (each as defined below), and (iii)
"Superior Pacific" refers to Superior National Insurance Company ("SNIC") and
Superior Pacific Casualty Company ("SPCC"), the principal operating subsidiaries
of the Company. "BIG" refers to the insurance business of Business Insurance
Group, Inc., a Delaware corporation, and, where the context indicates, BIG and
its wholly owned insurance subsidiaries, Business Insurance Company ("BICO"),
California Compensation Insurance Company ("CalComp"), Combined Benefits
Insurance Company ("CBIC"), and Commercial Compensation Insurance Company
("CCIC," and, together with BICO, CalComp, and CBIC, the "BIG Insurance
Subsidiaries"). "FHS" refers to Foundation Health Systems, Inc., the holding
company that is the ultimate parent of BIG, and "FHC" refers to Foundation
Health Corporation, a subsidiary of FHS and the immediate parent of BIG.

Unless otherwise indicated, all financial information and operating
statistics applicable to the Company and BIG set forth in this Proxy Statement
are based on generally accepted accounting principles ("GAAP") and not statutory
accounting practices ("SAP"). In conformity with industry practice, data derived
from A.M. Best Company, Inc. ("A.M. Best") and the National Association of
Insurance Commissioners ("NAIC"), generally used herein for industry
comparisons, are based on SAP.

BACKGROUND -- THE ACQUISITION OF BIG AND RELATED TRANSACTIONS

The Company has entered into a definitive agreement (the "Acquisition
Agreement") to acquire BIG from FHC for aggregate consideration of approximately
$285.0 million in cash. BIG is a holding company that, through its subsidiaries,
writes workers' compensation and group health insurance, principally in
California, with branch operations throughout the continental United States.
Under the Acquisition Agreement, upon consummation of the Acquisition (the
"Closing"), BIG will become a wholly owned subsidiary of the Company. As a
result, CalComp, CCIC, and CBIC, which are currently wholly owned subsidiaries
of BIG, will become indirect operating subsidiaries of the Company. BICO will be
sold to Zurich Centre Group LLC, an affiliate of Zurich Centre Group Holdings,
Limited ("Zurich"), immediately after the Closing. Prior to the sale of BICO,
the Company will transfer the operating assets, liabilities, and infrastructure
of BICO into Superior Pacific. The Company will thereafter continue to do
business outside of California through CCIC and, utilizing an underwriting
arrangement with an affiliate of Zurich, through BICO. In connection with the
Acquisition, FHC is obligated prior to the Closing to cause all of BIG's
intercompany balances and real estate holdings related to FHC and its parent,
FHS, and their affiliates, to be settled in cash.

EQUITY FINANCINGS

In order to obtain the proceeds to complete the Acquisition, the Company
proposes to raise both equity and debt funding. The equity portion consists of
the issuance and sale of approximately $109.7 million of Common Stock (the
"Stock Offering"), which consists of the distribution of subscription rights to
purchase Common Stock (the "Rights") to existing stockholders (other than IP
Delaware and IP Bermuda) and warrant holders (excluding certain warrant holders)
(the "Rights Offering"), and the offering of Rights to holders of options and
grants of restricted stock (the "Employee Participation"). Additionally,
Insurance Partners, L.P. ("IP Delaware"), Insurance Partners Offshore (Bermuda),
L.P. ("IP Bermuda"), and Insurance Partners II, L.P. and/or Insurance Partners
II Private Fund, L.P. (collectively, "IP II," and, together with IP Delaware and
IP Bermuda, "IP") will purchase $94.0 million in Common Stock in a private
transaction (the "IP Stock Issuance"). Warrant holders may exercise preemptive
rights in connection with
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<PAGE> 14

the IP Stock Issuance to purchase up to 2,145,821 shares, and those who do so
will be excluded from the Stock Offering. IP has also agreed to provide a
standby commitment of up to $106.0 million to purchase an amount of shares of
Common Stock necessary to bring the total proceeds of the Stock Offering, the IP
Stock Issuance and the sales to warrant holders exercising preemptive rights to
purchase under the terms of the IP Stock Issuance to $200.0 million (the
"Standby Commitment"). The Stock Offering, the IP Stock Issuance (with the
related exercise of warrant holder preemptive rights), and the Standby
Commitment, together, are referred to as the "Equity Financings." The Stock
Offering, the IP Stock Issuance, the Standby Commitment, and the Senior Notes
Offering (defined below) are each conditioned on the completion of the other and
the completion of the Acquisition. Additionally, the Stock Offering, the IP
Stock Issuance, and the Standby Commitment are each conditioned on stockholder
approval.

SENIOR NOTES OFFERING

The Company also intends to complete an offering of its senior notes (the
"Senior Notes") in the aggregate principal amount of $110.0 million (the "Senior
Notes Offering"). The interest rate and due date of the Senior Notes will be
determined in negotiations between the Company and the underwriters of the
Senior Notes Offering. The amounts obtained from the Senior Notes Offering and
the Equity Financings in excess of $285.0 million will be used for transaction
costs in connection with the Acquisition and these related financing
transactions, for capital for the Company's insurance subsidiaries, and for
general corporate purposes.

RATIONALE FOR THE ACQUISITION AND THE EQUITY FINANCINGS

The Acquisition and the Equity Financings have been approved by the Board
of Directors and reflect the Company's belief that several substantial benefits
will arise from these transactions:

- The Company will be the largest private sector workers' compensation
carrier in California, based on available data on 1997 direct written
premium.

- While increasing its market share in California, the Company will also
diversify geographically by acquiring BIG's non-California book of
business, thereby lessening its dependence on the California market for
workers' compensation insurance.

- The Company will have the opportunity to improve BIG's financial
performance by implementing the Company's underwriting policies, applying
its expertise in information systems, and using reinsurance to mitigate
financial and integration risk during the transition period.

- The Company will benefit from economies of scale over a period of years,
potentially realizing cost savings as a result.

- The Company will reduce its financial leverage due to the additional
equity provided by the Equity Financings.

- The Company will strengthen its relationship with IP, providing
opportunities for additional acquisitions and continued growth.

LOSS RESERVES GUARANTEE

In connection with the Acquisition, FHC has agreed to obtain at its expense
guarantees on BIG's claim and claim adjustment expense reserves (the "Loss
Reserves Guarantee"). The Loss Reserves Guarantee covers $150.0 million in
reserves for losses incurred prior to December 31, 1997 and an additional $25.0
million for losses incurred through the Closing. Under the Acquisition
Agreement, FHC is permitted to cause BIG to purchase reinsurance to fulfill the
Loss Reserves Guarantee. The amount paid by BIG for reinsurance would then be
deducted from the price paid to FHC by the Company. Using the proceeds of the
Equity Financings and the Senior Notes Offering, the Company will contribute
capital to BIG following the Closing to offset any reductions in surplus arising
out of the purchase of reinsurance.

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<PAGE> 15

LARGE ACCOUNT QUOTA-SHARE ARRANGEMENT

Separately, effective May 1, 1998 the Company and BIG each entered into a
three-year quota-share arrangement with a reinsurer (the "Quota-Share
Arrangement") under which each will cede all risks with an estimated annual
premium at each risk's inception date of $25,000 or more. Continuation of the
Quota-Share Arrangement by BIG is contingent on the Closing. The Company
believes there is significantly more pricing and persistency risk associated
with policies with larger annual premium amounts. The use of the Quota-Share
Arrangement will allow the Company to re-underwrite this business over time to
the Company's underwriting standards while preserving BIG's relationships with
producers and insureds. Additionally, because the Quota-Share Arrangement will
reduce net written premium, the Company's and BIG's ratio of net written premium
to statutory surplus will decrease, a result that is generally viewed favorably
by regulators and rating agencies.

TERMS OF THE ACQUISITION AGREEMENT AND SERVICE AGREEMENTS

The Acquisition Agreement contains customary terms and conditions,
representations and warranties, covenants of the parties, conditions to closing,
and provisions requiring certain payments upon termination under certain
conditions, all as more fully described herein. The Company is obligated to
consummate the Acquisition notwithstanding any failure of the stockholders to
approve the Stock Offering or the IP Stock Issuance, issuance of shares to
warrant holders exercising preemptive rights, and the Standby Commitment, or
certain material adverse developments in the business of BIG.

The Acquisition requires the approval of the departments of insurance in
the States of California, Delaware and New York, and notice filings in other
states. The Company has already made the requisite filings in order to obtain
such approval, including an application to the New York Department of Insurance.
If approval in New York is not obtained, the Acquisition will proceed without
the inclusion of CCIC. While the Company is confident of obtaining approval in
New York, as of the date of this Proxy Statement, all necessary regulatory
approvals have not yet been obtained. The Acquisition is also subject to the
expiration of the waiting period under the Hart-Scott-Rodino Antitrust
Improvements Act of 1976, as amended (the "HSR Act"), and the waiting period has
expired. Additionally, the holders of trust preferred securities issued by a
Subsidiary of the Company (the "Trust Preferred Securities") have been requested
to consent to the issuance of the Senior Notes. The Company expects to obtain
all such approvals.

In connection with the Acquisition Agreement, the Company and BIG will
enter into long-term service agreements (the "Service Agreements") with various
subsidiaries of FHC that are not being sold to Superior National. These
agreements include medical bill review, PPO utilization, certain managed care
services, claim negotiation and review, recruitment of employees, placement of
temporary workers, and transitional corporate administrative services. The
Service Agreements will have minimum terms of five years.

DISPOSITION OF BICO

The Company has entered into a letter of intent to sell BICO to Zurich
Centre Group LLC, an affiliate of Zurich, immediately after the Closing. Under
the letter of intent, Superior Pacific will assume BICO's insurance business and
liabilities, receive assets with a fair market value equal to the liabilities
assumed, and receive additional consideration equal to BICO's statutory capital
and surplus, plus the value of BICO's charter and licenses, at the sale date.
After the sale of BICO, an affiliate of Zurich intends to recapitalize BICO and
enter into a five-year underwriting arrangement with Superior Pacific under
which Superior Pacific will be given the right to produce up to $50.0 million in
estimated annual premium on BICO's policy forms in exchange for an underwriting
fee equal to 2.5% of direct written premium plus a pass through of all related
expenses. The Company intends to retain BICO's business and employees within the
Superior National organization, and will use the underwriting arrangement,
together with other BIG Insurance Subsidiaries acquired in the Acquisition, to
continue, and attempt to expand, BIG's national workers' compensation insurance
operations.

3
<PAGE> 16

completion of the Acquisition, approval from state insurance regulators, the
execution of other related agreements, and other customary conditions.

CERTAIN CONSIDERATIONS

The success of the Acquisition depends in part on the ability of the
management of the Company to coordinate the operations of the business
enterprises of the Company and BIG. There can be no assurance that the
coordination necessary to realize the expected benefits of the Acquisition will
be achieved. In addition, the Company has identified longer-term economies of
scale it believes can be achieved through integration of functions over a period
of several years. There can be no assurance that the Company will be able to
realize the anticipated economies of scale, and the failure to realize them
could adversely affect the Company's cash flow and earnings before taxes.
Finally, the Company's competitive position is dependent in part on its rating
by A.M. Best and other rating agencies. Although A.M. Best has placed the
Company's "B+" rating under review with positive implications, there can be no
assurance that the rating agencies will view the Acquisition favorably. See
"Certain Considerations."

OPINION OF MERRILL LYNCH

The Company retained Merrill Lynch & Co. ("Merrill Lynch") to render its
opinion as to whether the $285.0 million the Company will pay to purchase all of
the outstanding capital stock of BIG, less the cost of the Loss Reserves
Guarantee (collectively, the "Purchase Price"), and the Equity Financings, taken
as a whole, are fair from a financial point of view to the Company. Merrill
Lynch has delivered to the Board of Directors its written opinion dated as of
July 17, 1998 to the effect that, based upon and subject to the assumption and
considerations set forth in such opinion, as of such date, the Purchase Price
and the Equity Financings, taken as a whole, are fair from a financial point of
view to the Company. The full text of Merrill Lynch's written opinion dated as
of July 17, 1998 is attached as Annex B to this Proxy Statement and is
incorporated herein by reference. The Company's stockholders are urged to read
the opinion in its entirety for a description of the procedures followed,
assumptions made, matters considered and qualifications and limitations on the
review undertaken by Merrill Lynch in connection therewith. See "Opinion of
Merrill Lynch."

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<PAGE> 17

GENERAL INFORMATION

THE COMPANY................... Superior National is a holding company that,
through its subsidiaries, underwrites and
markets workers' compensation insurance
principally in the State of California. The
Company's principal executive offices are
located at 26601 Agoura Road, Calabasas,
California 91302 and its telephone number is
(818) 880-1600.

ANNUAL MEETING OF STOCKHOLDERS OF THE COMPANY

TIME, DATE, PLACE, AND
PURPOSE....................... The 1998 Annual Meeting of Stockholders of the
Company (the "Annual Meeting") will be held on
, 1998 at 10:00 a.m., Pacific
Time, at the Company's principal executive
offices at 26601 Agoura Road, Calabasas,
California 91302.

At the Annual Meeting, the Company's
stockholders will be asked to consider and vote
upon the eight proposals described in the
attached "Notice of Annual Meeting of
Stockholders" and to transact such other
business as may properly come before the Annual
Meeting, or any adjournment or postponement
thereof.

RECORD DATE; QUORUM; VOTING
AGREEMENTS.................. The Record Date for determining the
stockholders of the Company entitled to vote
upon the matters set forth in this Proxy
Statement is the close of business on
, 1998.

The presence, either in person or by properly
designated proxy, at the Annual Meeting of the
holders of a majority of the combined voting
power of the outstanding shares of Common Stock
and the Company's 14.5% Senior Subordinated
Voting Notes due April 1, 2002 (the "Voting
Notes") is necessary to constitute a quorum. As
to all matters, except the election of
directors, each stockholder is entitled to one
vote for each share of Common Stock held. With
respect to the election of directors, a
stockholder may cumulate such holder's votes in
the manner described under "General
Information -- Quorum and Voting Requirements."
Each holder of the Voting Notes is entitled to
vote only in director elections, director
removals, changes in the number of authorized
directors, and votes on amendments to such
voting rights. With respect to amendments to
such voting rights, the Voting Notes vote as a
separate class.

C. Len Pecchenino, William L. Gentz, J. Chris
Seaman, and Gordon E. Noble, who are directors
and stockholders of the Company; and TJS
Partners, L.P., IP Delaware, and IP Bermuda,
who are stockholders of the Company (such
persons and entities holding approximately 47%
of the Company's outstanding Common Stock) have
entered into voting agreements (the "Voting
Agreements") with FHC, pursuant to which they
will vote their shares at the Annual Meeting in
favor of Proposals No. 1 and No. 2.

As of , 1998, directors and
executive officers of the Company beneficially
owned shares of Common Stock
(representing approximately % of the
outstanding shares of Common Stock) and two
directors of the Company had voting
5
<PAGE> 18

control over the Voting Notes. See " Security
Ownership of Certain Beneficial Owners and
Management." The Company believes that all of
the Company's directors and executive officers
who are stockholders intend to vote in favor of
each proposal presented herein. The Company
believes that all the Voting Notes will be
voted in favor of some or all of the eleven
nominees named in "Proposal No. 7 -- Election
of Directors."

DISSENTERS' OR APPRAISAL
RIGHTS........................ Delaware law provides that no dissenters' or
appraisal rights are available to stockholders
of the Company with respect to any of the
matters discussed in this Proxy Statement.

PROPOSALS

PROPOSAL NO. 1 -- THE STOCK OFFERING

THE STOCK OFFERING............ The Stock Offering will consist of the Rights
Offering and the Employee Participation, each
as described herein, and will involve the
issuance of up to 6,548,664 shares of Common
Stock at $16.75 per share. If the stockholders
approve the Stock Offering, it will commence
promptly after the Annual Meeting and will
expire not less than 30 days thereafter,
subject to extension by the Company (the
"Expiration Date").

RIGHTS OFFERING............... Pursuant to the Rights Offering, the Company
will distribute to each holder of the Common
Stock (excluding IP Delaware and IP Bermuda)
and to each of its warrant holders (excluding
those who exercised their preemptive rights to
purchase Common Stock under the terms of the IP
Stock Issuance) as of the record date for the
Rights Offering, one transferable Right for
each share of Common Stock held (or issuable
upon the exercise of a warrant). Each Right
will entitle the holder thereof to receive,
upon payment of the $16.75 per share
subscription price (the "Subscription Price"),
one share of Common Stock. Once a holder has
exercised the Rights, such exercise may not be
revoked. Based on the number of shares and
warrants outstanding on June 30, 1998, if no
warrant holders are excluded, up to 5,897,155
shares of Common Stock may be issued upon
exercise of the Rights distributed pursuant to
the Rights Offering portion of the Stock
Offering.

Once distributed in the Rights Offering, and
until the Expiration Date, the Rights are
intended to be freely transferable. It is
expected that the Rights will be registered
under the Securities Act of 1933, as amended
(the "Securities Act"), and will trade on The
Nasdaq National Market ("Nasdaq") under the
symbol " " until the close of
business on the last Nasdaq trading day prior
to the Expiration Date.

EMPLOYEE PARTICIPATION........ The Board of Directors of Superior National
(the "Board" or "Board of Directors") has
approved the opportunity to participate in the
Stock Offering for employees and consultants of
the Company holding vested and unvested stock
options and grants of restricted Common Stock
("Restricted Stock"), all previously issued
under the terms of equity incentive plans
approved by the Company's stockholders. The
opportunity to participate will be
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<PAGE> 19

effected through the issuance of the same form
of Right issued pursuant to the Rights
Offering, except that each employee or
consultant, in order to participate, will be
required to agree that his or her Rights are
non-transferable. In addition, the Board of
Directors has approved making certain financing
arrangements available to the participating
employees and consultants, collateralized by
securities in the Company owned or acquired by
the participant. Based on the number of options
and grants of Restricted Stock outstanding on
June 30, 1998, up to 651,089 shares of Common
Stock may be issued pursuant to the Employee
Participation portion of the Stock Offering.

CONSEQUENCES IF THE STOCK
OFFERING IS NOT APPROVED...... If the stockholders do not approve the Stock
Offering, then the Company would not have a
significant portion of the funds needed to
finance the Acquisition, and would almost
certainly be unable to find alternative sources
of equity financing quickly enough in order to
complete the Acquisition. IP is not obligated
to purchase shares in the IP Stock Issuance if
the Stock Offering does not occur, and IP would
receive the commitment fee for providing the
Standby Commitment described in Proposal No. 2
regardless of approval. The Company is
obligated to proceed with the Acquisition
regardless of whether the Stock Offering is
approved and may incur considerable liabilities
to FHC if it is unable to complete the
Acquisition due to the absence of financing.
The failure to complete the Acquisition under
such circumstances would almost certainly have
a material adverse effect on the Company. These
effects could include but are not limited to
payments of damages of $15.0 million and other
damages in material amounts.

ADVANTAGES AND DISADVANTAGES
OF THE STOCK OFFERING......... The principal advantages that the Board of
Directors believes will result from the Stock
Offering are that, by coupling the Stock
Offering with the Standby Commitment (described
in "Proposal No. 2 -- The IP Stock Issuance"),
the Company would be assured of raising the
equity proceeds necessary to complete the
Acquisition, without having to resort to a
general offering of Common Stock that could be
subject to a much greater market risk. In
addition, the Company believes the Acquisition
and the financing structure will be viewed
favorably by A.M. Best. The issuance of
additional shares through the Stock Offering
also will increase the liquidity of the trading
market for the Common Stock, by adding to the
"float," that is, the number of shares and
aggregate value of stock held by non-insiders.
The Company's increased market capitalization
could make coverage of the Common Stock by
analysts more likely, and such coverage
generally adds to liquidity by increasing
investor awareness of the Company and its
prospects. The Board also considered the
disadvantage of the Stock Offering, that
existing equity security holders who do not
choose to exercise their Rights would
experience dilution of their equity interests,
while noting that the Stock Offering presents
an opportunity for equity security holders to
mitigate those effects.

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<PAGE> 20

The Board also considered the fact that IP and
certain related parties -- including CentreLine
Reinsurance Limited ("CentreLine"), Centre
Reinsurance Limited ("Centre Re"),
International Insurance Investors, L.P.
("III"), and International Insurance Advisors,
Inc. ("IIA") -- may have the power to control
further or more significantly influence the
election of directors and all other matters
submitted to the Company's stockholders and
otherwise to direct the business and affairs of
the Company if it acquires a significant number
of shares of Common Stock pursuant to the
Standby Commitment. In the unlikely event that
no Rights are exercised in the Stock Offering
and the Standby Commitment is utilized in full,
stockholders other than IP and certain related
parties would own only approximately 21.0% of
the outstanding Common Stock.

The amount of Common Stock acquired by IP
pursuant to the IP Stock Issuance and the
Standby Commitment could also have a negative
influence on an attempt to acquire control of
the Company, because the Company's public
stockholders may not have sufficient voting
power to approve a potential future strategic
offer for the Company by a third party that
might be attractive to such stockholders. The
Company has attempted to limit the potential
adverse impact this may have on the Company and
its stockholders by negotiating the Stock
Purchase Agreement (as defined below), which
imposes certain restrictions on IP and certain
related parties. Those restrictions include
IP's covenant that on any matter before the
stockholders, other than the election of
directors, if the aggregate number of all
shares that are voted in like manner by IP and
such parties shall be greater than 35% of the
total number of shares voted, then those votes
that exceed the 35% threshold shall be voted in
the same proportion as the other stockholders
voted their shares with respect to that matter.
See "Proposal No. 1 -- Advantages and
Disadvantages of the Stock Offering" and
"-- Potential Effects of the Stock Offering on
Control of the Company."

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors has unanimously approved
the Stock Offering and recommends a vote FOR
Proposal No. 1. Because the IP Stock Issuance
is contingent on the completion of the Stock
Offering, a vote against Proposal No. 1 should
be considered to be effectively a vote against
Proposal No. 2 as well.

PROPOSAL NO. 2 -- THE IP STOCK ISSUANCE

GENERAL....................... Proposal No. 2 includes the IP Stock Issuance,
the issuance of shares to warrant holders
exercising preemptive rights in connection with
the IP Stock Issuance, and the Standby
Commitment.

INSURANCE PARTNERS............ IP Delaware and IP Bermuda are investment
partnerships formed in 1994 to make equity
investments in the insurance, healthcare, and
insurance services industries, and have total
committed capital of $540 million. Major
partners include Centre Re, Keystone, Inc.
(formerly the Robert M. Bass Group, Inc.), and
The Chase Manhattan Bank ("Chase"). Since their
formation, the partnerships have invested, or
have committed to invest, in excess of
8
<PAGE> 21

$500 million in insurance, healthcare, and
insurance services transactions. The
partnerships within IP II were formed to make
similar investments. They will be expected to
have committed capital in excess of $1.5
billion. Major partners will be Zurich
Insurance Group, Inc., Centre Re and Chase.
Capital Z Partners, Ltd. ("Capital Z"), the
general partner of the IP II partnerships,
executed the Stock Purchase Agreement and
subsequently assigned its rights and
obligations thereunder to IP II.

THE IP STOCK ISSUANCE......... Pursuant to the Stock Purchase Agreement dated
May 5, 1998, among the Company and IP (the
"Stock Purchase Agreement"), the Company will
issue and sell 5,611,940 shares of Common Stock
for $16.75 per share, or an aggregate of
approximately $94.0 million, in the IP Stock
Issuance, allocated among IP Delaware, IP
Bermuda and IP II as set forth in the Stock
Purchase Agreement. Additionally, IP has agreed
in the Stock Purchase Agreement to provide the
Standby Commitment, described below.

WARRANT HOLDER PREEMPTIVE
RIGHTS........................ The Company's warrant holders have preemptive
rights that allow them to purchase shares in
any issuance of the Company's equity
securities. Under these preemptive rights, the
warrant holders have the right to purchase a
maximum of 2,145,821 shares of Common Stock
either privately under the terms of the IP
Stock Issuance or by receiving and exercising
Rights under the terms of the Rights Offering.
Regardless of which of these two transactions
they participate in, warrant holders will have
the right to purchase, at $16.75 per share, one
share per share of Common Stock underlying
their warrants. Therefore, in order to comply
with the preemptive rights provisions of the
warrants, the Company must have available for
issuance to warrant holders 2,145,821 shares of
Common Stock in each of these two transactions.
This means that the total number of shares set
aside for warrant holders to purchase is at
least twice the number that the warrant holders
can actually purchase. (It may be more than
twice the number because some warrant holders
may decide not to purchase any shares.) Warrant
holders who decide to purchase Common Stock
directly under the terms of the IP Stock
Issuance will be excluded from the Rights
Offering. The size of the Rights Offering will
be reduced by the number of shares that warrant
holders have exercised their preemptive rights
to purchase under the terms of the IP Stock
Issuance, but the one for one distribution
ratio for the Rights will not be changed.

STANDBY COMMITMENT............ To assure the Company that a total of $200.0
million in proceeds will be provided by the
Stock Offering, the IP Stock Issuance, and the
exercise of warrant holder preemptive rights to
purchase stock under the terms of the IP Stock
Issuance, IP also has agreed to purchase up to
6,328,358 shares of Common Stock, with the
exact number being that number of shares
necessary to bring the total proceeds of the
Stock Offering, the IP Stock Issuance (together
with related exercises of warrant holder
preemptive rights), and the Standby Commitment
to $200.0 million. Any shares purchased
pursuant to the Standby Commitment will be
purchased privately at the Subscription Price
under the terms and conditions of the

9
<PAGE> 22

Stock Purchase Agreement. IP Delaware and IP
Bermuda are not participating in the Stock
Offering.

COMMITMENT FEE................ In consideration of its agreement to provide
the Standby Commitment, IP will receive a
commitment fee from the Company, regardless of
whether the Stock Offering and Standby
Commitment are consummated, consisting of
warrants (the "Commitment Fee Warrants") to
purchase 734,000 shares of Common Stock at
$16.75 per share. IP will transfer 205,520 of
these Commitment Fee Warrants to an affiliate
of Zurich in consideration of certain financing
commitments to IP II.

TRANSACTION FEE............... Separately from the Commitment Fee Warrants,
the Company will pay IP a transaction fee of
$3.9 million upon consummation of the IP Stock
Issuance.

ADVANTAGES AND DISADVANTAGES
OF THE IP STOCK ISSUANCE AND
STANDBY COMMITMENT.......... The Board of Directors approved the IP Stock
Issuance to ensure that the Company could raise
$94.0 million of the equity financing necessary
to complete the Acquisition, and approved the
Standby Commitment to ensure that a full $200.0
million in equity proceeds would be raised. The
Board of Directors considered that,
notwithstanding the fact that IP would hold as
a result of the IP Stock Issuance at least 43%
of the outstanding Common Stock, and would
presumably acquire more as a result of the
Standby Commitment, IP was willing to agree to
the limitations on its ability to exercise
control over the Company discussed below.
Additionally, the Board of Directors views the
relationship with IP as beneficial to the
Company's ability to continue its growth and
take advantage of opportunities to complete
acquisitions as they arise. The Board felt
these advantages outweighed the concerns raised
by IP's ability to control elections of
directors of the Company and the fact that IP's
ownership makes a change of control of the
Company without IP's consent highly unlikely.

EFFECT OF THE IP STOCK
ISSUANCE AND THE STANDBY
COMMITMENT.................. Based upon the Common Stock outstanding as of
the Record Date, and assuming that (i) no
outstanding warrants or stock options
convertible into shares of Common Stock are
exercised prior to the Closing, (ii) all Rights
are exercised in the Stock Offering, and (iii)
warrant holders purchase their full allotment
of shares under their preemptive rights,
approximately 18,036,972 shares of Common Stock
will be outstanding upon consummation of the
Equity Financings, of which the Company
believes approximately 9.6 million shares and
approximately 2.6 million warrants
(approximately 53% of the total number of
shares of Common Stock that will then be
outstanding) will be held in the aggregate by
IP, CentreLine, Centre Re, III, IIA, and other
related parties. In the unlikely event that no
shares are issued in the Stock Offering and no
warrant holder preemptive rights are exercised
in connection with the IP Stock Issuance, so
that IP consequently purchases 6,328,358 shares
under the Standby Commitment, IP and its
related parties would own instead 79.0% of the
Common Stock then outstanding and 85.5% on a
diluted basis. However, IP and its related
parties
10
<PAGE> 23

have agreed to certain limitations on their
voting power as stockholders and on their
rights to transfer equity securities of the
Company in certain circumstances. See "Proposal
No. 2 -- Terms of the IP Stock
Issuance -- Certain Covenants -- Covenants of
IP." The Board of Directors considered the fact
that IP could acquire a majority of the
outstanding Common Stock in determining to
proceed with the Equity Financings.

TERMS OF THE STOCK PURCHASE
AGREEMENT................... In addition to customary terms and provisions,
including customary representations and
warranties, covenants, and reciprocal
indemnification provisions, the Stock Purchase
Agreement contains certain covenants by IP that
shall remain effective so long as IP,
CentreLine, Centre Re, III, IIA and other
related parties beneficially own an aggregate
of 15% or more of the outstanding Common Stock
on a diluted basis. One such covenant, with
certain limited exceptions, prohibits IP or any
of such related parties from acquiring any
additional shares of Common Stock, entering
into a merger or business combination involving
the Company, participating in any solicitation
of proxies, or participating in any group with
respect to any of the foregoing, without a
two-thirds majority vote of (i) the directors
not affiliated with IP or such related parties,
or (ii) the stockholders (other than IP and
such related parties). Other covenants provide
that IP and such related parties will not elect
more than five directors (or the highest number
that is less than a majority of the Board of
Directors) and that IP will not transfer any of
its shares except in certain types of specified
transactions. Further, other than with respect
to the election of directors of the Company, IP
has agreed that, with respect to any vote of
the stockholders of the Company on a particular
matter, if the aggregate number of all shares
that are voted in like manner by IP and such
related parties shall be greater than 35% of
the total number of shares voted, then those
votes that exceed such 35% threshold shall be
voted in the same proportion as the other
stockholders voted their shares with respect to
such matter.

CONDITIONS TO THE IP STOCK
ISSUANCE; TERMINATION OF STOCK
PURCHASE AGREEMENT.......... Notwithstanding stockholder approval of the IP
Stock Issuance, the consummation of the IP
Stock Issuance is subject to several other
conditions, including, without limitation,
receipt of all governmental authorizations
required for performance of each party's
obligations under the Stock Purchase Agreement
and the simultaneous consummation of the
Acquisition, the Stock Offering and the Senior
Notes Offering.

CONSEQUENCES IF THE IP STOCK
ISSUANCE AND STANDBY
COMMITMENT ARE NOT
APPROVED.................... If the stockholders do not approve the IP Stock
Issuance and the Standby Commitment, then the
Company would not have a significant portion of
the funds needed to finance the Acquisition,
and would almost certainly be unable to find
alternative sources of equity financing quickly
enough in order to complete the Acquisition.
The Company is obligated to proceed with the
Acquisition

11
<PAGE> 24

regardless of whether the IP Stock Issuance and
the Standby Commitment are approved and may
incur considerable liabilities to FHC if it is
unable to complete the Acquisition due to the
absence of financing. The failure to complete
the Acquisition under such circumstances would
almost certainly have a material adverse effect
on the Company. These effects could include but
are not limited to payments of damages of $15.0
million and other damages in material amounts.
In addition, as described above in "Proposal
No. 1 -- The Stock Offering," the completion of
the Stock Offering is contingent upon the
completion of the IP Stock Issuance. Thus,
failure to approve the IP Stock Issuance will
bar the Stock Offering. The Commitment Fee
payable to IP in connection with the Standby
Commitment must be paid even if the Equity
Financings do not take place.

RESTRICTIONS ON TRANSFER OF
SHARES; REGISTRATION RIGHTS... The shares of Common Stock issued under the
terms of the IP Stock Issuance (and the Standby
Commitment) will not be registered under the
Securities Act and consequently will be subject
to standard restrictions on transferability
imposed by federal and state securities laws on
privately issued securities. However, the
Company will grant certain registration rights
to IP. See "Proposal No. 2 -- Terms of the IP
Stock Issuance -- Restrictions on Transfer of
Shares" and "-- Registration Rights."

GOVERNMENTAL AND REGULATORY
APPROVALS OF THE IP STOCK
ISSUANCE.................... The Company is not aware of any governmental or
regulatory approval that must be obtained in
order to consummate the IP Stock Issuance and
the Standby Commitment, other than approval by
the California Department of Insurance (the
"DOI"), the New York Department of Insurance
and the Delaware Department of Insurance, whose
approval must be sought by IP II, and the
expiration of the waiting period under the HSR
Act. IP has already made the filings required
in order to obtain these approvals. While the
Company is confident of obtaining approval, as
of the date of this Proxy Statement, all of the
required approvals have not been obtained.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors has unanimously approved
the IP Stock Issuance and the Standby
Commitment and recommends a vote FOR Proposal
No. 2. Because the Stock Offering's completion
is contingent on completion of the IP Stock
Issuance and Standby Commitment, a vote against
Proposal No. 2 should be considered to be
effectively a vote against Proposal No. 1 as
well.

PROPOSAL NO. 3 -- AMENDMENT TO 1995 STOCK INCENTIVE PLAN

AMENDMENT TO 1995 STOCK
INCENTIVE PLAN................ A proposed amendment to the Company's 1995
Stock Incentive Plan (the "1995 Plan")
increases the number of shares of Common Stock
authorized for issuance under the 1995 Plan
from 625,000 shares to 3.0 million shares. In
light of the pending Acquisition, the Company
believes that it is necessary to adopt this

12
<PAGE> 25

amendment to the 1995 Plan in order to provide
an adequate pool in future years for the grant
of stock-based incentive awards to its markedly
larger group of employees. This amendment will
only take effect upon the Closing.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors unanimously recommends a
vote FOR Proposal No. 3.

PROPOSAL NO. 4 -- EMPLOYEE STOCK PURCHASE PLAN

EMPLOYEE STOCK PURCHASE
PLAN.......................... The Board of Directors believes it is
appropriate to strengthen the Company's overall
compensation package by allowing employees to
make investments in Common Stock through
payroll deductions. The Board has voted to
reserve for issuance 500,000 shares of Common
Stock under the terms of a new Employee Stock
Purchase Plan. In order to induce
participation, employees would pay a price per
share equal to 85% of the market price at the
end of an investment period. The plan would
only take effect upon the Closing.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors unanimously recommends a
vote FOR Proposal No. 4.

PROPOSAL NO. 5 -- AMENDMENT TO CERTIFICATE OF INCORPORATION TO INCREASE NUMBER
OF AUTHORIZED SHARES

INCREASE IN NUMBER OF
AUTHORIZED SHARES............. A proposed amendment to the Company's
Certificate of Incorporation will increase the
number of authorized shares of Common Stock
from 25 million shares to 40 million shares.
Assuming the approval and consummation of the
Equity Financings, the increase in reserved
shares under the 1995 Plan, the adoption of the
Employee Stock Purchase Plan, and the issuance
of the Commitment Fee Warrants as consideration
for the Standby Commitment, the Company will
have only approximately 0.6 million shares of
Common Stock authorized but not issued or
reserved for issuance. The Board of Directors
believes it is desirable to authorize
additional shares of Common Stock so that there
will be sufficient shares available for
issuance in the future for purposes that the
Board may hereafter determine to be in the best
interests of the Company and its stockholders.
Such purposes could include the issuance of
shares for cash, in acquisitions, through
employee benefit programs, and for other
general corporate purposes. The increase in the
number of shares authorized would only take
effect upon the Closing.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors unanimously recommends a
vote FOR Proposal No. 5.

PROPOSAL NO. 6 -- AMENDMENT TO CERTIFICATE OF INCORPORATION TO REMOVE TRANSFER
RESTRICTIONS

REMOVAL OF TRANSFER
RESTRICTIONS.................. A proposed amendment to the Company's
Certificate of Incorporation will remove the
transfer restrictions on the Common Stock that
were put in place in order to preserve the
Company's net
13
<PAGE> 26

operating loss carryforwards ("NOLs") for
federal income tax purposes. The Equity
Financings almost certainly will limit and
defer the availability of the Company's NOLs
under the terms of Section 382 of the Internal
Revenue Code of 1986, as amended (the "Code").
The Board has determined that the Equity
Financings, despite this impact, are in the
Company's best interests. As the purpose of the
transfer restrictions was to forestall the
limitations and deferrals caused by the
application of Section 382, the Board of
Directors has determined that they are no
longer appropriate. Removal of the transfer
restrictions will eliminate current limitations
on a stockholder's ability to accumulate stock
of the Company. The Company believes that such
restrictions might have led to a decreased
valuation of the Common Stock of the Company
while they were in place. If the Acquisition
and Equity Financings were not to close, the
Company would continue to utilize the full
availability of its NOLs and therefore this
amendment would not take effect.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors unanimously recommends a
vote FOR Proposal No. 6.

PROPOSAL NO. 7 -- ELECTION OF DIRECTORS

ELECTION OF DIRECTORS......... Eleven directors are to be elected at the
Annual Meeting. The Board has nominated the
eleven current directors for such election.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors unanimously recommends
the election of the eleven persons nominated to
the Board of Directors.

PROPOSAL NO. 8 -- RATIFICATION OF THE APPOINTMENT OF KPMG PEAT MARWICK LLP AS
INDEPENDENT AUDITORS

RATIFICATION OF THE
APPOINTMENT OF KPMG PEAT
MARWICK LLP AS INDEPENDENT
AUDITORS.................... The Audit Committee of the Board of Directors
has selected KPMG Peat Marwick LLP as
accountants to audit the consolidated financial
statements of the Company and its Subsidiaries
for the year ending December 31, 1998.

RECOMMENDATION OF THE BOARD OF
DIRECTORS................... The Board of Directors unanimously recommends a
vote FOR Proposal No. 8.

STOCKHOLDERS ARE URGED TO CAREFULLY REVIEW THE MORE DETAILED INFORMATION
INCLUDED IN THIS PROXY STATEMENT AND THE ACCOMPANYING ANNEXES, INCLUDING THE
SECTION ENTITLED "CERTAIN CONSIDERATIONS" FOLLOWING THIS SUMMARY.

14
<PAGE> 27

SUMMARY HISTORICAL AND PRO FORMA FINANCIAL DATA

The following table sets forth summary consolidated financial information
with respect to Superior National and BIG for the periods indicated. The
historical financial information was prepared in accordance with GAAP. The
financial information for Superior National as of March 31, 1998 and 1997 is
unaudited; however, in management's opinion, it includes all adjustments,
including normally occurring accruals, that are necessary for a fair
presentation of results for such interim periods. The financial information for
BIG as of March 31, 1998 and 1997, and as of December 31, 1995, 1994, and 1993,
as well as for the years ended December 31, 1994 and 1993, is unaudited. Interim
results are not necessarily indicative of results for the full year. The pro
forma consolidated statement of operations data for the three months ended March
31, 1998 and the year ended December 31, 1997 is unaudited and presents results
for the Company as if the Acquisition had been consummated as of the beginning
of each period presented.

BIG is an indirect wholly owned subsidiary of FHS, and as a subsidiary is
not subject to the same financial reporting requirements, therefore audited
financial information is not available for all periods. Further, as a
subsidiary, earnings per share information is not meaningful.

The pro forma information is presented for illustrative purposes only and
is not necessarily indicative of the results of operations or financial position
that would have occurred had the Acquisition been consummated on the dates
assumed, nor is the pro forma information intended to be indicative of the
Company's future results of operations.

15
<PAGE> 28

SUPERIOR NATIONAL INSURANCE GROUP, INC.

SUMMARY FINANCIAL DATA

<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
----------------- --------------------------------------------------
1998 1997 1997(1) 1996 1995 1994 1993
------- ------- -------- ------- ------- -------- --------
(UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
REVENUES:
Net premiums earned.................... $30,587 $18,978 $140,920 $88,648 $89,735 $110,418 $153,585
Total Revenues................ 34,840 21,064 153,594 96,417 99,519 119,467 163,135
EXPENSES:
Claim and claim adjustment expenses,
net of reinsurance................... 18,288 10,271 90,447 55,638 53,970 78,761 113,817
Underwriting and general and
administrative expenses (e.g.,
commissions)......................... 9,991 7,004 37,695 34,138 29,447 21,660 28,778
Total Expenses................ 28,762 19,183 136,333 91,190 87,830 114,470 160,931

Income before income taxes, preferred
securities dividends and accretion,
discontinued operations,
extraordinary items, and cumulative
effect of change in accounting for
income taxes......................... 6,078 1,881 17,261 5,227 11,689 4,997 2,204
Preferred securities dividends and
accretion, net of income tax
benefit.............................. (1,872) (454) (3,069) (1,667) (1,488) (683) --
Net income from continuing
operations........................... $ 3,767 $ 1,210 $ 10,824 $ 3,630 $11,701 $ 3,599 $ 2,734
======= ======= ======== ======= ======= ======== ========

BASIC EPS:
Per common share:
Income from continuing operations...... $ 0.64 $ 0.35 $ 2.06 $ 1.06 $ 3.41 $ 1.05 $ 0.80
Weighted average shares outstanding.... 5,874 3,447 5,250 3,433 3,430 3,430 3,430

DILUTED EPS:
Per common share:
Income from continuing operations...... $ 0.48 $ 0.23 $ 1.54 $ 0.75 $ 2.97 $ 0.70 $ 0.58
Weighted average shares outstanding.... 7,782 5,247 7,016 4,826 3,942 5,122 4,753
</TABLE>

<TABLE>
<CAPTION>
AS OF MARCH 31, DECEMBER 31,
------------------- ----------------------------------------------------
1998 1997 1997(1) 1996 1995 1994 1993
-------- -------- -------- -------- -------- -------- --------
(UNAUDITED) (IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET
ASSETS:
Total cash and investments
- -- carrying value.................. $228,535 $140,912 $242,116 $149,440 $163,951 $176,878 $150,179
- -- market value.................... 228,535 140,912 242,116 149,440 166,103 172,706 156,744
Reinsurance receivables............ 55,598 25,974 53,082 25,274 39,613 68,129 71,003
Total Assets.............. $401,508 $297,984 $416,569 $306,569 $240,781 $286,776 $264,098
======== ======== ======== ======== ======== ======== ========

LIABILITIES AND STOCKHOLDERS'
EQUITY:
Claim and claim adjustment
expenses......................... $180,333 $106,758 $201,255 $115,529 $141,495 $171,258 $171,038
Total Liabilities......... 238,409 228,002 255,474 237,807 176,256 227,622 224,044
Total Stockholders'
Equity.................. $ 61,808 $ 45,724 $ 59,818 $ 45,191 $ 43,480 $ 40,364 $ 40,055
======== ======== ======== ======== ======== ======== ========
</TABLE>

- ------------------------------
(1) The information for the year ended December 31, 1997 includes the financial
data of SPCC from April 1, 1997.

16
<PAGE> 29

BUSINESS INSURANCE GROUP, INC.

SUMMARY FINANCIAL DATA

<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
------------------- ----------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
-------- -------- -------- -------- -------- -------- --------
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
REVENUES:
Net premiums earned................ $139,612 $121,388 $515,272 $480,828 $390,974 $340,097 $233,341
Total Revenues............ 149,631 131,815 563,508 517,860 416,894 356,278 249,591
EXPENSES:
Claim and claim adjustment
expenses, net of reinsurance..... 114,286 83,967 443,204 381,897 245,522 218,240 169,828
Underwriting and general and
administrative expenses (e.g.,
commissions)..................... 42,132 32,105 168,187 107,640 114,918 75,364 49,262
Total Expenses............ 159,206 118,268 621,772 489,526 366,190 304,926 244,698

Income (loss) before income
taxes............................ (9,575) 13,547 (58,264) 28,334 50,704 51,352 4,893
Net income (loss) from continuing
operations....................... $ (4,181) $ 10,801 $(29,417) 25,400 $ 37,752 $ 37,520 $ 6,354
======== ======== ======== ======== ======== ======== ========
</TABLE>

<TABLE>
<CAPTION>
AS OF MARCH 31, DECEMBER 31,
----------------------- -----------------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET
ASSETS:
Total cash and investments
-- carrying value.......... $ 791,826 $ 764,521 $ 763,171 $ 754,652 $529,515 $419,943 $362,133
-- market value............ 791,986 764,296 763,339 754,745 529,650 419,053 370,437
Reinsurance receivables...... 216,101 158,507 229,521 136,109 81,545 104,573 119,050
Total Assets........ $1,205,022 $1,119,383 $1,222,406 $1,093,773 $749,104 $627,855 $602,023

LIABILITIES AND STOCKHOLDER'S
EQUITY:
Claim and claim adjustment
expenses................... $ 713,473 $ 611,105 $ 728,421 $ 590,595 $443,600 $412,666 $386,194
Total Liabilities... 958,001 841,740 970,060 825,881 508,214 479,543 466,139
Total Stockholder's
Equity............ $ 247,021 $ 277,643 $ 252,346 $ 267,892 $240,890 $148,312 $135,884
========== ========== ========== ========== ======== ======== ========
</TABLE>

17
<PAGE> 30

The unaudited pro forma combined financial data has been derived from the
unaudited pro forma combined financial statements and notes thereto included
elsewhere in this document and should be read in conjunction with those
financial statements and notes. The summary unaudited pro forma financial
information is not necessarily indicative of future operations and should not be
construed as representative of future operations of the combined companies.

SUMMARY UNAUDITED PRO FORMA FINANCIAL STATEMENTS
ACQUISITION OF BUSINESS INSURANCE GROUP, INC.
BY SUPERIOR NATIONAL INSURANCE GROUP, INC.

PURCHASE ACCOUNTING METHOD

UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31, 1998
----------------------------------------------
PRO
FORMA
ADJUST-
MENTS PRO
SUPERIOR INC. FORMA
NATIONAL BIG (DECR.)(1) COMBINED
-------- --------- ---------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
REVENUES:
Net premiums earned....... $30,587 $ 139,612 $(102,894)(j) $67,305
Other income.............. 4,253 10,019 (519)(a) 13,753
------- --------- --------- -------
Total Revenues.... 34,840 149,631 (103,413) 81,058
EXPENSES:
Claim and claim adjustment
expenses, net of
reinsurance............. 18,288 114,286 (76,759)(j) 55,815
Underwriting and general
and administrative
expenses................ 9,991 42,132 (34,470)(j) 17,653
Other expense............. 483 2,788 (309)(c) 2,417
(524)(d)
(2,359)(e)
2,338(b)
------- --------- --------- -------
Total Expenses.... 28,762 159,206 (112,083) 75,885
------- --------- --------- -------
Income (loss) before
income taxes, preferred
securities dividends and
accretion, discontinued
operations,
extraordinary items, and
cumulative effect of
change in accounting for
income taxes............ 6,078 (9,575) 8,670 5,173
Income tax expense
(benefit)............... 2,311 (5,394) 4,767(i) 1,684
------- --------- --------- -------
Net income (loss) from
continuing operations... 3,767 (4,181) 3,903 3,489
======= ========= ========= =======
BASIC EPS:
Per common share:
Net income (loss) from
continuing operations... $ 0.64 $ 0.20
Weighted average shares
outstanding............. 5,874 17,814
DILUTED EPS:
Per common share:
Net income (loss) from
continuing operations... $ 0.48 $ 0.18
Weighted average shares
outstanding............. 7,782 19,722

<CAPTION>
YEAR ENDED DECEMBER 31, 1997
-----------------------------------------------------------
PRO
FORMA
ADJUST-
MENTS PRO
SUPERIOR PAC INC. FORMA
NATIONAL(3) RIM(2) BIG(3) (DECR.)(1) COMBINED
----------- -------- -------- ---------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C>
REVENUES:
Net premiums earned....... $140,920 $ 19,507 $515,272 (379,755)(j) $295,944
Other income.............. 12,674 1,449 48,236 (1,996)(a) 60,363
-------- -------- -------- --------- --------
Total Revenues.... 153,594 20,956 563,508 (381,751) 356,307
EXPENSES:
Claim and claim adjustment
expenses, net of
reinsurance............. 90,447 25,841 443,204 (12,000)(g) 264,194
(283,298)(j)
Underwriting and general
and administrative
expenses................ 37,695 10,769 168,187 (900)(f) 86,236
(127,218)(j)
(2,297)(h)
Other expense............. 8,191 1,595 10,381 (8,326)(e) 17,833
(2,096)(d)
9,350(b)
(1,262)(c)
-------- -------- -------- --------- --------
Total Expenses.... 136,333 38,205 621,772 (428,047) 368,263
-------- -------- -------- --------- --------
Income (loss) before
income taxes, preferred
securities dividends and
accretion, discontinued
operations,
extraordinary items, and
cumulative effect of
change in accounting for
income taxes............ 17,261 (17,249) (58,264) 46,296 (11,956)
Income tax expense
(benefit)............... 6,437 612 (28,847) 17,374(i) (4,424)
-------- -------- -------- --------- --------
Net income (loss) from
continuing operations... 10,824 (17,861) (29,417) 28,922 (7,532)
======== ======== ======== ========= ========
BASIC EPS:
Per common share:
Net income (loss) from
continuing operations... $ 2.06 $ (0.44)
Weighted average shares
outstanding............. 5,250 17,190
DILUTED EPS:
Per common share:
Net income (loss) from
continuing operations... $ 1.54 $ (0.40)
Weighted average shares
outstanding............. 7,016 18,956
</TABLE>

- ------------------------------
(1) See explanatory notes to "Unaudited Pro Forma Financial Information."

(2) Pac Rim information is presented for the three months ended March 31, 1997
(unaudited).

(3) Derived from audited financial statements.

18
<PAGE> 31

UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET

<TABLE>
<CAPTION>
AS OF MARCH 31, 1998
-------------------------------------------------------
PURCHASE
SUPERIOR ACCOUNTING PRO FORMA
NATIONAL BIG ADJUSTMENTS(1) COMBINED
-------- ---------- -------------- ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
ASSETS:
Investments................................................. $212,045 $ 710,507 $ (29,658)(a) $ 882,894
(10,000)(b)
Cash and invested cash...................................... 16,490 81,319 29,658(a) 163,071
10,194(b)
10,506(c)
107,000(e)
193,100(f)
(5,796)(g)
(285,000)(h)
5,600(i)
-------- ---------- --------- ----------
Total Investments................................... 228,535 791,826 25,604 1,045,965
Reinsurance receivables..................................... 55,598 216,101 271,699
Premiums receivable......................................... 34,446 98,061 132,507
Deferred policy acquisition costs........................... 5,987 24,681 30,668
Goodwill.................................................... 35,583 13,951 (13,951)(k) 35,583
Other assets................................................ 41,359 60,402 (194)(b) 73,268
(10,506)(c)
(17,793)(j)
-------- ---------- --------- ----------
Total Assets........................................ $401,508 $1,205,022 $ (16,840) $1,589,690
======== ========== ========= ==========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Claim and claim adjustment expenses......................... $180,333 $ 713,473 $ 893,806
Unearned premiums........................................... 14,610 49,469 64,079
Long-term debt.............................................. 30 121,750 $(121,750)(d) 107,030
107,000(e)
Deferred credit -- negative goodwill........................ 83,771(h) 57,627
5,600(i)
(17,793)(j)
(13,951)(k)
Accounts payable and other liabilities...................... 43,436 73,309 (5,796)(g) 110,949
-------- ---------- --------- ----------
Total Liabilities................................... 238,409 958,001 37,081 1,233,491
Trust preferred securities.................................. 101,291 -- 101,291
Total Stockholders' Equity.......................... 61,808 247,021 193,100(f) 254,908
121,750(d)
(368,771)(h)
-------- ---------- --------- ----------
Total Liabilities and Stockholders' Equity.......... $401,508 $1,205,022 $ (16,840) $1,589,690
======== ========== ========= ==========
</TABLE>

- ------------------------------
(1) See explanatory notes to "Unaudited Pro Forma Financial Information."

19
<PAGE> 32

CERTAIN CONSIDERATIONS

Stockholders should consider carefully the following factors, in addition
to the other information included in this Proxy Statement and the accompanying
Annexes, in evaluating the proposals set forth herein. Certain statements in
this Proxy Statement are forward-looking and are identified by the use of
forward-looking words or phrases such as "intended," "will be positioned,"
"expects," is or are "expected," "anticipates," and "anticipated." These
forward-looking statements are based on the Company's current expectations. To
the extent any of the information contained in this Proxy Statement constitutes
a "forward-looking statement" as defined in Section 27A(i)(1) of the Securities
Act, the considerations set forth below are cautionary statements identifying
important factors that could cause results to differ materially from those in
the forward-looking statement.

INHERENT UNCERTAINTIES RELATING TO CERTAIN EFFECTS OF THE ACQUISITION

Recent Losses at BIG. On a consolidated basis, BIG incurred a net loss of
$29.4 million in the fiscal year ended December 31, 1997 and $4.2 million in the
three months ended March 31, 1998, with a very high combined ratio of 118.8% and
112.2%, respectively. A substantial portion of the 1997 losses were attributable
to a reserve strengthening of $75.2 million, booked in the fourth quarter of
1997, and related principally to accident years 1996 and prior and revised
estimates of claim severity from those years. The first quarter 1998 losses were
attributable to increased claim and claim adjustment expenses due to the
non-renewal of an aggregate excess of loss reinsurance treaty, and increasing
claim severity. As BIG's operations will now represent a substantial portion of
the Company's business, these losses should be viewed as applicable to the
Company's business going forward. There can be no assurance that such losses at
BIG will not be repeated in the future, and the Company's overall results would
reflect these losses. See "-- Uncertainty Associated with Estimating Reserves
for Unpaid Claim and Claim Adjustment Expenses." Although the Company believes
it can improve BIG's financial performance, there are no assurances the Company
will be successful in this regard.

Decline in Premium at BIG. In the first quarter of 1998, BIG's direct
written premium in California decreased by $15.0 million, as compared to the
three-month period ended March 31, 1997, precipitated by a change in BIG's
underwriting and pricing criteria implemented for policies with inception dates
after January 1, 1998. Additional factors responsible for the decline were
uncertainties created by the pendency of the Acquisition and the recent
downgrade of BIG's rating by A.M. Best from "A-" to "B++." See "Business
Insurance Group, Inc. -- Business -- Underwriting." Further reductions in direct
written premium are likely to result as the Company re-underwrites BIG's book of
business over a period of three years or more, reflecting the Company's ongoing
strategy of preserving operating margins rather than competing for accounts
solely on the basis of price. If the Company were to experience declines in
premium volume substantially greater than expected, the Company's leadership
position in the California workers' compensation insurance market could be
threatened. Further, if the Company is unable to spread sufficient premium over
its fixed costs, that could have a material adverse impact on the Company's
earnings. See "Superior National -- Business -- Strategy."

Coordination of Operations. The success of the Acquisition in enhancing
long-term stockholder value depends in part on the ability of the Company to
coordinate and integrate the operations and the business enterprises of the
Company and BIG. As in every business combination, such coordination will
require the dedication of management resources, which may temporarily divert
attention from the day-to-day business of the Company. In addition, integration
of BIG into the Company's information systems, which the Company believes would
enhance its competitive position, is a difficult and complex task given the
relative size of BIG's operations. There can be no assurance that the
coordination necessary to realize the expected benefits of the Acquisition will
be achieved. See "Superior National -- Business -- Information Services" and
"Business Insurance Group, Inc. -- Business -- Information Services."

Negative Cash Flows. The Company expects that following the Acquisition it
will experience large negative cash flows. Negative cash flows have been
characteristic of the Company's business since the advent of open rating in
California at the beginning of 1995. Since then, claims arising under policies
written on the higher premium volumes that existed prior to 1995 have been
run-off while premium has decreased. The same

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<PAGE> 33

conditions could exist at BIG. The Company believes BIG sought to enhance its
competitiveness under open rating by aggressively pricing its products, and
that, as BIG's pricing structure is integrated into the Company's, premium
volume could decline while BIG's prior year claims are run-off. Moreover, a
recently-implemented three-year quota-share reinsurance treaty (the "Quota-Share
Arrangement") will result in additional negative cash flows. This negative cash
flow will result in reduced investment income. See "Superior
National -- Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."

Change in Operating Strategy. The Company has, since reorganizing its
business in late 1993, operated as a workers' compensation insurer, with its
business focused almost entirely on California and Arizona. In 1997, 94% of the
Company's premium was written in California. Additionally, the Company has
concentrated its marketing on group programs and smaller accounts generating
less than $50,000 in annual premium, believing such accounts represent higher
margin business. The Acquisition marks a significant departure from these
strategies in that BIG is a multi-state carrier in workers' compensation
insurance. Further, BIG has traditionally marketed to larger accounts where
pricing has been more competitive. The Company's strategy will now also
encompass a focus on larger accounts, the use of reinsurance to mitigate the
pricing and persistency risk associated with these large accounts, and the
broadening of the geographic scope of its business. See "Superior
National -- Business -- Strategy." There can be no assurance that the Company
will successfully implement these strategies, or that the new strategies will
generate the expected financial benefits. If these financial benefits are not
realized, the expected advantages to the Company provided by the Acquisition may
be materially and adversely affected, with a resulting adverse impact on the
Company's financial performance.

Realization of Economies of Scale. The Company has identified economies of
scale through the combination of the BIG and Superior Pacific businesses that it
believes can be achieved over a period of years. There can be no assurance that
the Company will be able to realize the expected economies of scale within any
particular time frame or at all, or to generate additional revenue to offset any
unanticipated inability to benefit from economies of scale. See "Superior
National -- Business -- Strategy."

Dependence on Reinsurance. The Company's operating strategy after the
Acquisition includes the use of reinsurance through the Quota-Share Arrangement
to reduce the pricing and persistency risk the Company believes is associated
with the Company's plan to re-underwrite the large account book of business at
BIG. Additionally, the Loss Reserves Guarantee (as defined herein) will be
accomplished through BIG's purchase of reinsurance prior to Closing. As a result
of these transactions, the expected benefits of the Acquisition could be
materially and adversely affected if the reinsurers fail to perform their
obligations. See " -- Importance of Reinsurance" and "Acquisition of Business
Insurance Group, Inc. -- Loss Reserves Guarantee."

UNCERTAINTY ASSOCIATED WITH ESTIMATING RESERVES FOR UNPAID CLAIM AND CLAIM
ADJUSTMENT EXPENSES

The reserves for unpaid claim and claim adjustment expenses established by
the Company and by BIG are estimates of amounts needed to pay reported and
unreported claim and related claim adjustment expenses based on facts and
circumstances then known. These reserves are based on estimates of trends in
claim frequency and severity, judicial theories of liability, market conditions,
and other factors. The establishment of adequate reserves is an inherently
uncertain process, and there can be no assurance that the ultimate liability
will not materially exceed the Company's reserves for claim and claim adjustment
expenses of Superior Pacific and BIG and have a material adverse effect on the
Company's results of operations and financial condition following the
Acquisition. Due to the inherent uncertainty of estimating reserve amounts, the
Company and BIG have found it necessary, and may over time continue to find it
necessary, to revise estimates of reserves for claim and claim adjustment
expenses in response to trends in claim frequency and severity, judicial
theories of liability, market conditions, and other factors. The historic
development of reserves for claim and claim adjustment expenses may not
necessarily reflect future trends in the development of these amounts.
Accordingly, it may not be appropriate to extrapolate redundancies or
deficiencies based on historical information. See "Superior
National -- Business -- Claim and Claim Adjustment Expense Reserves."

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<PAGE> 34

The Company believes there is an industry-wide increase in claim severity
in California workers' compensation insurance. Although claim frequency has
declined as expected in light of benefit and claim reform after the advent of
open rating in 1995, if the Company is correct in viewing the increase in claim
severity for 1995 and subsequent accident years as a true trend and not an
aberration, then the assumptions underlying claim and claim adjustment expense
reserves established for the 1995 and subsequent accident years were flawed, and
the Company's reserves could therefore be materially understated. Thus, although
the Company has recently experienced reduced claim frequency, the impact of that
reduction has been outweighed, perhaps substantially, by an increase in claim
severity for injuries sustained in 1995 and thereafter. In response, the Company
has undertaken the Claim Severity Management Program. See "Superior
National -- Business -- Claim Severity Management Program." There can be no
assurance that the Company's severity management efforts will have the effect
the Company anticipates and, if they do not, the Company could be required to
book additional reserves for Superior Pacific for accident years 1995 and
subsequent. The Company sought the Loss Reserves Guarantee in the Acquisition
Agreement in part due to its concern that the increase in claim severity is an
industry-wide trend that is also being experienced at BIG. See "Acquisition of
Business Insurance Group, Inc. -- Loss Reserves Guarantee" and "Business
Insurance Group, Inc. -- Business -- Claim and Claim Adjustment Expenses."
However, as with Superior Pacific, the Company cannot be assured that the Loss
Reserves Guarantee is adequate, particularly if the negative trends in claim
severity turn out to be more severe at BIG than at Superior Pacific. If the Loss
Reserves Guarantee is not adequate, then the Company could be required to book
additional loss reserves with respect to losses incurred prior to the Closing.
It is in part due to the Company's view that the trends in claim severity are
more uncertain in larger-premium accounts that it has entered into (and has
required BIG to enter into) the Quota-Share Arrangement. See "Acquisition of
Business Insurance Group, Inc. -- Large Account Quota-Share Arrangement."
Although the Quota-Share Arrangement may mitigate to some degree ongoing pricing
and persistency risk of large premium accounts, the Company is relying solely on
the Claim Severity Management Program and the Loss Reserves Guarantee with
respect to historic risks, and it faces continuing uncertainty in estimating
reserves with respect to retained and new premiums.

UNCERTAIN PRICING AND PROFITABILITY

One of the distinguishing features of the insurance industry, including the
workers' compensation insurance industry, is that its products generally are
priced before its costs are known because premium rates are determined before
losses are reported. Premium rate levels are related in part to the availability
of insurance coverage, which varies according to the level of surplus in the
industry. Increases in surplus have generally been followed by increased price
competition among workers' compensation insurers. For these reasons, together
with the commencement of open rating in January 1995, the California workers'
compensation insurance business in recent years has experienced very competitive
pricing conditions and there can be no assurance as to the Company's ability to
achieve adequate pricing for its policies. Further, changes in case law, the
passage of new statutes, or the adoption of new regulations relating to the
interpretation of insurance contracts can retroactively and dramatically affect
the liabilities associated with known risks after an insurance contract is in
place. Product enhancements also present special issues in establishing
appropriate premium levels in the absence of sufficient experience with such
products' performance. See "Superior National -- Business -- California Workers'
Compensation Market" and " -- Underwriting."

The number of competitors and the similarity of products offered, as well
as regulatory constraints, limit the ability of workers' compensation insurers
to increase prices in response to declines in profitability or market demand. In
addition, the reported profits and losses of a workers' compensation insurance
company are also determined, in part, by the establishment of, and adjustments
to, reserves reflecting estimates made by management as to the amount of claim
and claim adjustment expenses that will ultimately be incurred in the settlement
of claims. The ultimate liability of the insurer for all claim and claim
adjustment expenses reserved at any given time will likely be more or less than
these estimates, and differences in the estimates may have a material adverse
effect on the insurer's financial position, results of operations, or cash flows
in the future periods. See "Superior National -- Business -- Claim and Claim
Adjustment Expense Reserves."

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<PAGE> 35

IMPORTANCE OF RATINGS

A.M. Best, an independent insurance rating agency, assigned the Company a
"B+" (Very Good) rating in 1995, which the Company has continued to maintain. A
"B+" rating is assigned to companies having, on balance, in A.M. Best's opinion,
very good financial strength, operating performance, and market profile when
compared to the standards established by A.M. Best, and having a good ability to
meet their ongoing obligations to policyholders. "B+" is A.M. Best's sixth
highest rating classification out of 15 ratings. The Company's A.M. Best rating
is lower than that of many of its competitors. A.M. Best bases its ratings on
factors that concern policyholders and not necessarily upon factors concerning
investors. They are not recommendations to buy, sell, or hold securities and are
subject to change at any time. There can be no assurance that the Company's
rating or future changes therein will not affect the Company's competitive
position. See "Superior National -- Business -- Ratings." As of the date hereof,
BIG is maintaining a "B++" A.M. Best rating, having been lowered from "A-"
because of BIG's recent financial performance and other factors. There can be no
assurance that the Company's rating post-closing will be changed to reflect
BIG's rating, and, should BIG be assigned a "B+" rating following the
Acquisition, the further downgrade may have a material adverse effect on the
Company's financial condition and results of operations. See "Business Insurance
Group, Inc. -- Business -- Ratings."

IMPORTANCE OF REINSURANCE

In order to reduce its underwriting risk, the Company follows the industry
practice of reinsuring a portion of its risks. In addition, reinsurance is an
important component of the Company's strategy to mitigate pricing and
persistency risks related to large premium accounts, and is the expected
mechanism for FHC to implement the Loss Reserves Guarantee. Reinsurance does not
relieve the Company of liability to its insureds for the risks ceded to
reinsurers. As such, the Company is subject to credit risk with respect to
amounts not recoverable from reinsurers. Although the Company places its
workers' compensation reinsurance with reinsurers that are "A" rated or higher
by A.M. Best and that the Company generally believes to be financially stable, a
significant reinsurer's insolvency or inability to make payments under the terms
of a reinsurance treaty could have a material adverse effect on the Company's
financial condition or results of operations.

The amount and cost of reinsurance available to companies specializing in
workers' compensation insurance are subject, in large part, to prevailing market
conditions beyond the control of such companies. The Company's ability to
provide insurance at competitive premium rates and coverage limits on a
continuing basis depends upon its ability to obtain adequate reinsurance in
amounts and at rates that will not adversely affect its competitive position.

Due to continuing market uncertainties regarding reinsurance capacity, no
assurances can be given as to the Company's ability to maintain its current
reinsurance facilities, which generally are subject to annual renewal. However,
the Quota-Share Arrangement adopted by the Company in connection with the
Acquisition has a three-year term with two one-year extension options. If the
Company is unable to renew its reinsurance facilities upon their expiration and
the pricing environment does not improve, the Company may need to reduce the
levels of its underwriting commitments. See "Superior
National -- Business -- Reinsurance and "Business Insurance Group,
Inc. -- Business -- Reinsurance."

CONCENTRATION OF OWNERSHIP

Based upon the Common Stock outstanding as of the date of this Proxy
Statement, assuming all Rights are exercised in the Stock Offering or warrant
holders exercise their preemptive rights in full, and no outstanding warrants or
stock options are exercised prior to consummation of the Equity Financings,
18,036,972 shares of Common Stock will be outstanding upon consummation of the
Equity Financings, of which the Company believes approximately 9.6 million
shares and appromxiately 2.6 million warrants (approximately 53% of the total
number of shares of Common Stock outstanding) will be held in the aggregate by
IP and certain related parties. In the unlikely event that none of the Rights
are exercised in the Stock Offering and 6,328,358 shares issuable thereunder are
instead purchased by IP under the Standby Commitment, then approximately 14.0
million shares (approximately 79% of the Common Stock outstand-

23
<PAGE> 36

ing) will be held in the aggregate by IP and certain related parties. In
addition, in that event Common Stock and warrants to purchase Common Stock held
by IP and related parties will represent approximately 85.5% of the Company's
equity securities on a diluted basis. As a result, absent agreements to the
contrary, these stockholders, acting together, will have the potential to
exercise control over the Company and the Board of Directors. Further, such a
concentration of ownership may have the effect of delaying or preventing a
change in control of the Company. However, IP and certain related parties have
agreed under the terms of the Stock Purchase Agreement to certain limitations on
their ability to acquire additional equity securities of the Company and their
voting power as stockholders. Other than with respect to the election of
directors of the Company, IP and such parties have agreed that if the aggregate
number of all shares that are voted in like manner by IP and such parties shall
be greater than 35% of the total number of shares voted, then those votes that
exceed such 35% threshold shall be voted in the same proportion as the other
stockholders voted their shares with respect to the same matter. However, the
Board of Directors could deem it to be in the best interests of the Company to
waive, limit, or revoke these limitations on IP, and that determination would
result in IP's having control over the Company. See "Proposal No. 2 -- Stock
Purchase Agreement -- Certain Covenants" and "Proposal No. 7 -- Certain
Relationships and Related Transactions."

SIGNIFICANT OWNERSHIP BY AFFILIATES OF ZURICH AND RELATED PARTIES

Certain affiliates of Zurich are limited partners of IP Delaware and IP
Bermuda and hold approximately 23% of the limited partnership interests in those
funds on an aggregate basis. They also hold a significant percentage of the
limited partnership interests in IP II. In addition, certain affiliates of
Zurich collectively own approximately 21% of the Common Stock, on a diluted
basis, and less than one percent of the issued and outstanding Common Stock on a
non-diluted basis. Further, International Insurance Investors, L.P. ("III"),
owns all of the outstanding Voting Notes (as defined herein) issued by the
Company. Certain affiliates of Zurich are limited partners of III and hold
approximately 32% of III's limited partnership interests. See "Security
Ownership of Certain Beneficial Owners and Management" and "Proposal No.
7 -- Certain Relationships and Related Transactions -- 1996-1997 Transactions
with IP and Limitations on Related Party Control." Five of the Company's eleven
directors either have relationships with, or became directors pursuant to rights
to nominate directors held by, such parties. Consequently, such parties have
significant influence over the management of the Company and have a significant
portion of the votes needed to approve any action requiring stockholder
approval, including adopting amendments to the Company's Certificate of
Incorporation and approving certain actions, such as mergers or sales of all or
substantially all of the Company's assets, which could materially affect the
Company's financial condition.

DILUTION OF OWNERSHIP

The Company's current stockholders could experience dilution of their
ownership interest in the Company for several reasons. First, the issuance of
securities in the IP Stock Issuance will reduce the proportionate ownership of
other stockholders in the Company. In addition, a transfer of his or her Rights
may not compensate a stockholder for all or any part of any reduction in the
market value of such stockholder's Common Stock resulting from the Stock
Offering. Stockholders who do not exercise or sell their Rights will relinquish
any value inherent in the Rights. Further, stockholders who do not exercise
their Rights (resulting in Common Stock being purchased under the Standby
Commitment) will experience a significant decrease in their proportionate
interest in the equity ownership and voting power of the Company.

Additionally, the IP Stock Issuance and the Standby Commitment may be
regarded as dilutive to the Company's market value if at the time of these
issuances the market price exceeds the $16.75 per share price to be paid by IP.
However, because IP is required to perform its obligations at the $16.75 price
in any event, the IP Stock Issuance and the Standby Commitment may be accretive
if at the time of these issuances the $16.75 price exceeds the market price of
the Common Stock on Nasdaq. See "Proposal No. 2 -- The Standby Commitment."

Further, notwithstanding completion of the Acquisition, purchasers of
Common Stock exercising Rights in the Stock Offering will experience immediate
and substantial dilution in the net tangible book value per share attributable
to the shares of Common Stock they purchase.
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<PAGE> 37

The $16.75 Subscription Price and the identical price to be paid by IP in
the IP Stock Issuance were determined after negotiations between IP and
directors of the Company not affiliated with IP or Zurich, with the Company
having the opportunity to consult its financial advisors. The Subscription Price
does not necessarily bear any relationship to the book value of the Company's
assets, past operations, cash flow, earnings, financial condition, or any other
established criteria for value and should not be considered an indication of the
underlying value of the Company. The issuance of stock in the Equity Financings
nevertheless could be viewed as dilutive because the market price on the date
prior to the announcement of the Acquisition exceeded the Subscription Price by
$3.75 per share, and the price of the Common Stock on , 1998 of
$ , which presumably included some amount attributable to the value of
the Rights, exceeded the Subscription Price by $ per share. See
"Proposal No. 1 -- The Stock Offering -- Determination of Subscription Price."

After giving effect to the Equity Financings (and assuming no other
issuance of Common Stock, that warrant holders exercise preemptive rights in
full, and that all Rights are exercised), the Company will have 18,036,972
shares of Common Stock issued and outstanding, as compared with 5,876,368 shares
of Common Stock issued and outstanding as of June 30, 1998.

INCREASED DEBT

The Company intends, as part of the financing of the Acquisition, to
undertake the Senior Notes Offering pursuant to which the Company will incur
approximately $110.0 million in senior debt. As a result of that increased debt
and the expected terms of the Senior Notes, the Company's principal and interest
payment obligations will be increased substantially. As of March 31, 1998, the
Company had $113.0 million of long term debt outstanding, comprised of $105.0
million related to Trust Preferred Securities issued by a Subsidiary and $8.0
million in the form of a capital lease. At March 31, 1998, the Company's ratio
of earnings to fixed charges and distributions on the Trust Preferred Securities
was 1.84 to 1. See "Acquisition of Business Insurance Group, Inc. -- Financing
of the Acquisition."

On a pro forma basis for the Acquisition, the Equity Financings, and the
issuance of Senior Notes, the Company will breach certain covenants in the
indenture pursuant to which the Senior Subordinated Notes underlying the Trust
Preferred Securities were issued. As a result, the Company is required, and will
therefore seek to, obtain the consent of the holders of the Trust Preferred
Securities to the issuance of the Senior Notes. No assurance can be given that
such consent will be obtained. See "Acquisition of Business Insurance Group,
Inc. -- Governmental and Regulatory and Other Approvals."

The indenture pursuant to which the Senior Notes were issued (the "Senior
Notes Indenture") and the Senior Subordinated Notes indenture will not permit
the Company to incur substantially any additional indebtedness above and beyond
the Senior Notes, although it may be possible to raise additional funds to
pursue acquisitions of other workers' compensation insurance companies. The
Company believes that cash flow from operations and existing funds available for
payments of principal and interest will be adequate to permit the Company to
make its required payments of principal and interest on its indebtedness,
although there can be no assurance that this will be the case. To the extent
that cash flow from operations is insufficient to satisfy the Company's cash
requirements, the Company may seek to raise funds from additional borrowings or
equity financings, by restructuring, or by acquiring other businesses that would
provide cash flow (in all such cases to the extent permitted by the Senior Notes
Indenture). See "Superior National -- Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources." There can be no assurance that such actions could be effected on
satisfactory terms, in a timely manner, or at all, that would enable the Company
to make any payments due on the Senior Notes or the Senior Subordinated Notes or
that any such actions would be permitted under the related terms of the Senior
Notes or the Senior Notes Indenture.

The degree to which the Company is leveraged could have adverse
consequences, including the following: (i) a substantial portion of the
Company's cash flow from operations in the form of dividends from its
Subsidiaries must be dedicated to the payment of principal and interest on its
indebtedness, thereby reducing the funds available to the Company for other
purposes, (ii) the Company's ability to obtain

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<PAGE> 38

additional financing in the future for working capital, acquisitions or other
purposes may be impaired, (iii) certain of the Company's borrowings may be at
variable rates of interest, which would expose the Company to the risk of higher
interest rates, (iv) the Company's flexibility in planning for or reacting to
changes in market conditions may be limited, (v) the Company may be
substantially more leveraged than certain of its competitors, which may place
the Company at a competitive disadvantage, and (vi) the Company may be more
vulnerable in the event of a downturn in its business. The Company's ability to
satisfy its obligations will be dependent upon its future performance, which
will be subject to prevailing economic conditions and to financial, business,
and other factors, including factors beyond the control of the Company.

VARIABILITY OF WORKERS' COMPENSATION INSURANCE BUSINESS

The workers' compensation insurance business is affected by many factors
that can cause fluctuations in the results of operations of companies
participating in this business. Many of these factors are not subject to control
by the Company. For example, an economic downturn could result in an increase in
the number of claims and less demand for workers' compensation insurance. These
factors, together with competitive pricing and other considerations, could
result in fluctuations in the Company's underwriting results and net income. See
"Superior National -- Business -- Regulation" and "-- Ratings."

HIGHLY COMPETITIVE BUSINESSES

The Company writes primarily workers' compensation insurance, which is a
highly competitive business. Some of the Company's competitors have
substantially greater financial and other resources than the Company, and there
can be no assurance the Company will be able to compete effectively against such
competitors in the future. Some of the Company's competitors are units of
financial services organizations having billions of dollars of assets. In the
event of a major reversal in the marketplace, such as a large, unanticipated
increase in industry-wide claim severity experience, the Company's competitors
that have access to substantial additional resources may be better able to
withstand the losses resulting from that reversal until conditions improve.

The Company's competitors include other companies that, like the Company,
serve the independent producer market, as well as companies that sell insurance
directly to insureds. Direct writers may have certain competitive advantages
over writers using producers, including increased name recognition, loyalty of
the customer base to the insurer rather than to an independent producer, and,
potentially, reduced acquisition costs.

Historically, the Company has concentrated on marketing to group programs
and smaller accounts, but, in part due to the SPCC acquisition, 57.9% of its
premium in force at March 31, 1998 was attributable to 925 non-group policies
and 291 group programs that provide estimated annual premium at inception of
$25,000 or more. BIG, by comparison, actively pursues larger accounts and at
March 31, 1998, 73.7% of BIG's overall premium in force was accounted for by
policies with estimated annual premium at inception of $25,000 or more.
Following the Closing, therefore, the Company will have to refocus its operating
strategy to more actively pursue accounts with very large annual premiums. The
market for large accounts is highly competitive, and the Company believes price
is the single most important factor such customers weigh in determining which
carrier will provide their workers' compensation insurance. In order to maintain
market leadership after the Acquisition, the Company may have to aggressively
price its offerings to large premium volume customers. If the premium collected
does not provide the Company with acceptable operating margins on the accounts,
this competitive environment could have a materially adverse effect on the
Company's results of operations. For at least three years, while re-underwriting
BIG's book of business, the Company intends to mitigate the pricing and
persistency risk associated with large accounts by maintaining the Quota-Share
Arrangement. During the period the Quota-Share Arrangement is in force, the
Company is subject to risks associated with reinsurance and its overall
financial performance will be dependent on the profitability of smaller
accounts. See "Superior National -- Business -- Competition" and
"-- Reinsurance."

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<PAGE> 39

GEOGRAPHIC CONCENTRATION

After the Acquisition, on a pro forma basis, 73.6% of the Company's premium
will be written in the State of California. Consequently, the Company will
continue to be significantly affected by changes in the regulatory and business
climate in California. See "Superior National -- Business -- Regulation."

LIMITATION OF USE OF NET OPERATING LOSS CARRYFORWARDS

As of March 31, 1998, the Company had available approximately $126.4
million in NOLs to offset taxable income recognized by it for periods after
December 31, 1997. For federal income tax purposes, these NOLs will expire in
material amounts beginning in the year 2006. In approving the Acquisition, the
Board contemplated the fact that the availability of a substantial portion of
the NOLs could be limited and deferred upon consummation of the Equity
Financings, because of an "ownership change" under Section 382 of the Code. If
an "ownership change" is deemed to have occurred, then the Company will be able
to use a maximum of approximately $8.0 million per year of its NOLs, together
with additional amounts to offset "built-in gains." Built-in gains are
unrealized gains related to appreciated property, including investments, owned
by the Company. These limitations may cause the availability of the NOLs to be
deferred, causing the Company to incur tax obligations when it otherwise would
not, or may allow some portions of the NOLs to expire before they can be used to
reduce the Company's tax obligations. The Company's tax obligation affects its
cash position and therefore will affect its ability to make payments on the
Senior Notes and Senior Subordinated Notes as they become due. See "Superior
National -- Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Taxes."

The Board of Directors has approved an amendment to the Company's
Certificate of Incorporation that would remove the transfer restrictions
currently prohibiting a change in ownership under Section 382 of the Code and
has submitted a proposal to the Company's stockholders to approve the same
amendment. See "Proposal No. 6 -- Amendment to Certificate of Incorporation to
Remove Transfer Restrictions." Thus, even if the Equity Financings do not result
in a change of ownership, it is likely that subsequent events will result in the
limitation and deferral of the availability of NOLs described above.

FUTURE GROWTH AND CONTINUED OPERATIONS DEPENDENT ON ACCESS TO CAPITAL

The underwriting of workers' compensation insurance is a capital intensive
business. The Company must maintain minimum levels of surplus in Superior
Pacific to continue to write policies and meet the other related standards
established by insurance regulatory authorities and insurance rating bureaus.
See "Superior National -- Business -- Regulation."

The Company achieved premium growth in 1997 as a result of its acquisition
of SPCC. In addition to acquiring BIG, it intends to continue to pursue
acquisition and internal growth opportunities. Among the factors that may
restrict the Company's future growth is the availability of capital. Such new
capital will likely have to be obtained through debt or equity financing or
retained earnings. There can be no assurance that the Company will have access
to sufficient capital to support future growth and also satisfy the capital
requirements of rating agencies and regulators. In addition, the Company may
require additional capital to finance future acquisitions. See "Superior
National -- Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."

RISKS ASSOCIATED WITH INVESTMENTS

The Company's results of operations depend in part on the performance of
its invested assets. As of March 31, 1998, virtually all of the Company's and
BIG's investment portfolio was invested in investment-grade, fixed-income
securities. Certain risks are inherent in connection with fixed-income
securities, including loss upon default, price volatility in reaction to changes
in interest rates, and general market factors, and, in the case of certain
asset-backed securities, prepayment and reinvestment risk. See "Superior
National -- Business -- Investments."

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COMPREHENSIVE STATE REGULATION

The Company and BIG are subject to comprehensive regulation by state
government agencies wherever they are licensed. The nature and extent of that
regulation typically involve prior approval of the acquisition of control of an
insurance company or of any company controlling an insurance company, regulation
of certain transactions entered into by an insurance company with any of its
affiliates, limitations on dividends, filing of premium rates and policy forms,
solvency standards, minimum amounts of capital and surplus that must be
maintained, limitations on types and amounts of investments, restrictions on the
size of risks that may be insured by a single company, limitation of the right
to cancel or nonrenew policies in some lines, regulation of the right to
withdraw from markets, requirements to participate in residual markets,
licensing of insurers and agents, deposits of securities for the benefit of
policyholders, reporting and satisfying certain regulatory standards with
respect to financial condition, and other matters. In addition, state insurance
department examiners perform periodic financial and market conduct examinations
of insurance companies and dictate the accounting practices to be used by
insurance companies when reporting to regulatory authorities. Such regulation is
generally intended for the protection of policyholders rather than stockholders
or other security holders. No assurance can be given that future legislative or
regulatory changes will not adversely affect the Company. See "Superior
National -- Business -- Regulation."

HOLDING COMPANY STRUCTURE; DIVIDEND AND OTHER RESTRICTIONS

Superior National is a holding company whose principal asset is the capital
stock of its Subsidiaries and BIG will similarly be established as a Subsidiary.
The Company relies primarily on dividends and other payments from SNIC and SPCC,
and will rely on dividends from the BIG Insurance Subsidiaries, to meet its
obligations to creditors and to pay corporate expenses, including the principal
and interest on the Senior Notes and dividends on the Trust Preferred
Securities. SNIC, SPCC, CBIC, and CalComp are domiciled in the State of
California, which limits the payment of dividends and other distributions by
insurance companies. An insurance subsidiary may pay a dividend to the extent it
exceeds the greater of (a) net income from operations for the preceding year or
(b) 10% of statutory policyholders' surplus as of the preceding December 31.
CCIC is domiciled in the State of New York, which has similar restrictions.
Additionally, in ordinary circumstances, a two-year moratorium is placed on
dividend payments by a subsidiary that has undergone a change in control. The
Company has requested of the California Department of Insurance ("DOI"), and
expects to receive, a waiver from this moratorium in connection with its
acquisition of CalComp and the other BIG Insurance Subsidiaries. Further, state
insurance laws and regulations require that the statutory surplus of an
insurance company, following any dividends or distribution by such company, be
reasonable in relation to its outstanding liabilities and adequate for its
financial needs. See "Superior National -- Business -- Regulation" and
"-- Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."

DEPENDENCE UPON PRODUCERS

The Company and BIG depend on outside producers to provide it with
insurance business. The renewal rights of all of such business written are owned
by the producers, not by the insurer. While the Company believes that its
relationships with its producers are generally excellent, and believes that
relations between BIG and its producers are strong, there can be no assurance
that producers will not move business currently written by either the Company or
BIG to another carrier. If renewal rates were to drop significantly as a result
of producers moving business to other carriers, or if producers were to deliver
less business of the type the Company prefers to underwrite, then the earnings
of the Company could be adversely affected.

Approximately $39.3 million (26.8%), $47.0 million (25.0%), and $44.0
million (26.0%) of Superior Pacific's direct written premium for the years ended
December 31, 1997, 1996, and 1995, respectively, was derived from its ten
leading producers. BIG's top ten producers accounted for 18.5% of direct written
premium in fiscal 1997. The loss of any of these producers could have a material
adverse effect on the Company. Eight of the Company's top 50 producers in
California and Arizona are also among the top 50 producers for BIG. See
"Superior National -- Business -- Marketing" and "Business Insurance Group,
Inc. -- Business -- Marketing."

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COMBINED CARE BENEFITS

BIG has, through CBIC in California and BICO in Utah, marketed a program of
"24-hour care," providing its insured's employees with workers' compensation
insurance and group health benefits. The combined care benefits business
constituted 1.2% of BIG's direct written premium in 1997. This business can be
adversely affected by several factors that are not necessarily subject to
control by the Company. For example, market acceptance of the concept of 24-hour
care, the combination into a single program of group health insurance with
workers' compensation insurance, has been weaker than expected to date. Since
first offering this product in December of 1995, BIG has not been able to
achieve sufficient market penetration to achieve pricing that would generate
acceptable operating margins. The Company is inexperienced in the group health
benefits business and may therefore be poorly positioned to operate that
business profitably after the Acquisition. If the Company cannot achieve
adequate operating margins, it may incur costs in restructuring or selling the
group health benefits business. These factors, together with competitive pricing
and other considerations, could result in fluctuations in the Company's
underwriting results and net income. See "Business Insurance Group,
Inc. -- Business -- Combined Care Benefits."

PARTICIPATING POLICIES

BIG uses participating policies that pay policyholder dividends as a
marketing tool to sell workers' compensation insurance outside of California.
The Company anticipates continuing this practice following the Acquisition.
Participating policies may result in payment of dividends to the policyholder at
the conclusion of the policy term. Policyholder dividends may be based on a flat
percentage of premium, or more commonly, several factors relating to loss
experience.

BIG has a limited history of issuing participating workers' compensation
insurance policies in states outside of California. As policies that have been
as issued as participating expire and come up for dividend consideration, BIG
would perform a calculation based on its dividend plan, and its board of
directors would declare policyholder dividends based on current loss experience.
Any adverse loss development occurring on policies for which a policyholder
dividend has been declared and paid could have a negative adverse impact on
BIG's financial condition and results of operations. To the extent that
producers and policyholders expect BIG to declare and pay policyholder dividends
according to the policyholder dividend proposals at the inception of the
policies, if the loss experience of accounts written on a participating basis do
not support a policyholder dividend declarations, this could have a negative
adverse impact on BIG's producer support and marketing efforts and could result
in a negative impact on BIG's financial condition and results of operations. See
"Business Insurance Group, Inc. -- Business -- Underwriting."

DEPENDENCE ON KEY PERSONNEL IN CONNECTION WITH FUTURE SUCCESS

The future success of the Company depends significantly upon the efforts of
certain key management personnel, including William L. Gentz, a director and the
President and Chief Executive Officer; J. Chris Seaman, a director, an Executive
Vice President, and the Chief Financial Officer; and Arnold J. Senter, an
Executive Vice President and the Chief Operating Officer. A loss of any of these
officers or other key employees could materially and adversely affect the
Company's business. See "Proposal No. 7 -- Executive Officers."

YEAR 2000 COMPLIANCE

A significant percentage of the software that runs most of the computers in
the United States relies on two digit date codes to perform a number of
computation and decision making functions. These computer programs may fail from
an inability to interpret date codes properly, misreading "00" for the year 1900
instead of the year 2000. Insurance policies with a January 1, 2000 or later
expiration date could be effected by a Year 2000 malfunction. The Company
believes that its Year 2000 program, anticipated to be completed no later than
December 31, 1998, will result in its proprietary operating systems and
application software programs being Year 2000 compliant in all material
respects, though there can be no assurance in that regard. See "Superior
National -- Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Year 2000 Strategy." The Company has received certain
representations from FHC as to BIG's Year 2000 compliance program. While the
Company believes that BIG's Year 2000 Compliance program will result in the
operating systems and application software used by BIG being Year 2000 compliant
in all material

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<PAGE> 42

respects, there can be no assurance in that regard. See "Business Insurance
Group, Inc. -- Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Year 2000 Strategy."

Although the Company has not received any claims made under policies
written in its P&C insurance business (discontinued in 1993) related to business
losses caused by Year 2000 malfunctions or costs incurred in connection with
prevention or correction of Year 2000 problems, it is conceivable that such
claims could be made. Published estimates of Year 2000 business losses and costs
are in the many billions of dollars. If P&C insurers were required by court
decision to pay claims on policies issued between 1985 and 1993 related to Year
2000 losses the Company may have to pay such claims. In such event, the Company
would likely have inadequate reserves in its discontinued operations and the
booking of additional reserves would have a material adverse effect on the
Company's results of operations.

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ACQUISITION OF BUSINESS INSURANCE GROUP, INC. -- BACKGROUND
TO PROPOSALS NO. 1 AND NO. 2

THE ACQUISITION

The Company has entered into the Acquisition Agreement to acquire BIG from
FHC for aggregate consideration of approximately $285.0 million in cash. BIG is
a holding company that, through its subsidiaries, writes workers' compensation
and group health insurance, principally in California, with regional and branch
operations throughout the continental United States. Subject to obtaining the
required approval by the Company's stockholders, it is contemplated that the
Acquisition will be financed by the Equity Financings and the Senior Notes
Offering. Under the Acquisition Agreement, at the Closing, BIG will become a
wholly owned subsidiary of the Company. As a result, the BIG Insurance
Subsidiaries will become indirect operating subsidiaries of the Company. BICO,
currently a wholly owned subsidiary of BIG, will be sold to Zurich Centre Group
LLC immediately after the Closing. Prior to such sale the Company will transfer
the operating assets, liabilities, and infrastructure of BICO into Superior
Pacific. The Company will thereafter continue to issue policies outside of
California through CCIC, and, via an underwriting arrangement with an affiliate
of Zurich, through BICO. In connection with the Acquisition, FHC is obligated
prior to Closing to cause all of BIG's intercompany balances and real estate
holdings related to FHC and its parent, FHS, and their affiliates to be settled
in cash. The Acquisition and related financing transactions are expected to
close two to three weeks after the Expiration Date of the Stock Offering.

BUSINESS INSURANCE GROUP, INC.

For the year ended December 31, 1997, and the three months ended March 31,
1998, BIG had net premiums earned of $515.3 million and $139.6 million,
respectively, and had losses, excluding realized gains and interest charges, of
approximately $28.3 million and $2.0 million, respectively. Prior to 1995, BIG
was exclusively a California insurer and BIG's business continues to be
concentrated in California, accounting for approximately 68.2% of in force
estimated annual premium as of March 31, 1998. However, in anticipation of
regulatory reforms and the elimination of minimum rate laws in 1995, BIG began
to pursue national growth opportunities and currently writes business in 42
states through a network of 37 regional and branch offices. BIG is licensed in
49 states and the District of Columbia. Through March 31, 1998 approximately
31.8% of BIG's estimated annual premium was written outside of the State of
California. BIG has historically written policies with average annual premium
greater than those of the Company's, as demonstrated by an average annual
premium per policy of approximately $16,200 as opposed to approximately $8,300
for Superior National in the year ended December 31, 1997. The foregoing
description of BIG is qualified in its entirety by reference to the more
complete information set forth herein under "Business Insurance Group, Inc. --
Business".

RATIONALE FOR THE ACQUISITION

The Acquisition, the Equity Financings, and the Senior Notes Offering
reflect the Board of Directors' belief that several substantial benefits will
arise from these transactions:

- The Company will be the largest private sector workers' compensation
carrier in California, based on available data on 1997 direct written
premium.

- While increasing its presence in California, the Company will also
diversify geographically by acquiring BIG's non-California book of
business, thereby lessening its dependence on the California market for
workers' compensation insurance.

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<PAGE> 44

- The Company will benefit from economies of scale over a period of years,
potentially realizing cost savings as a result.

- The Company will reduce its financial leverage due to the additional
equity provided by the Equity Financings.

- The Company will strengthen its relationship with IP, providing
opportunities for additional acquisitions and continued growth.

The foregoing statements contain forward-looking statements regarding
benefits that management believes may be achieved through the Acquisition.
Realization of management's beliefs and projections will depend on a number of
factors, including management's successful execution of its business plan for
integrating the operations of the two companies, the insurance market's
reception to the combination of the two companies, and other factors beyond the
Company's control. See "Certain Considerations."

FINANCING OF THE ACQUISITION

The Acquisition will be financed by the Company with a combination of
equity and debt. The Company will, upon stockholder approval, commence the Stock
Offering described in Proposal No. 1, with expected proceeds of $106.0 million.
Additionally, IP will purchase, upon stockholder approval, $94.0 million of
Common Stock in the IP Stock Issuance, described in Proposal No. 2. As a result
of the IP Stock Issuance, warrant holders of the Company will have the
opportunity to exercise preemptive rights and purchase shares of Common Stock
under the terms of that transaction, and, if they do so, they will not
participate in the Stock Offering. IP has also agreed to provide the Standby
Commitment and purchase up to 6,328,358 shares of Common Stock, with the exact
number being that number of shares necessary to bring the total proceeds of the
Stock Offering, the IP Stock Issuance (with the related exercises of warrant
holder preemptive rights), and the Standby Commitment to $200.0 million.

The Company also intends to complete the Senior Notes Offering in the
aggregate principal amount of $110.0 million. The interest rate and due date of
the Senior Notes will be determined in negotiations between the Company and the
underwriters of the Senior Notes Offering. The amounts obtained from the Senior
Notes Offering and Equity Financings in excess of $285.0 million will be used
for transaction costs in connection with the Acquisition and these financing
transactions, for capital for the Company's insurance subsidiaries, and for
general corporate purposes.

BACKGROUND OF THE TRANSACTIONS

In early 1998, representatives of the Company had preliminary discussions
with representatives of FHC to explore the possibility of acquiring BIG. In
early March 1998, FHS publicly announced it had classified its workers'
compensation insurance business as a discontinued operation, that it was seeking
to sell BIG, and that it intended to enter into a transaction by April 30, 1998.
Immediately thereafter, at a regular meeting of the Board of Directors, the
Company's management was authorized to explore acquisition opportunities,
including the possible acquisition of BIG.

To assist in the Company's evaluation of a possible acquisition of BIG and
related financing transactions, in March 1998, the Company engaged Donaldson,
Lufkin & Jenrette Securities Corporation ("DLJ") to act as its financial
advisor.

In March and early April 1998, representatives of the Company initiated the
Company's due diligence investigation of BIG, and various meetings between the
principal executive officers of each of the Company, FHC, and BIG were convened.
To allow for the free flow of information relating to the parties, and to give
the Company the opportunity to conclude a definitive purchase agreement, the
Company and FHC entered into an exclusivity agreement on April 10, 1998.

Simultaneously, representatives of the Company, IP and each of their
respective legal advisors, and DLJ spoke at various times to discuss a possible
equity investment in the Company by IP, the net proceeds of which would be used
by the Company to pay a portion of the purchase price for BIG. In determining to
obtain

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equity financing from IP, the disinterested and non-employee directors of the
Company considered it to be in the best interests of the Company to waive the
provisions contained in the 1996 Stock Purchase Agreement that restricted future
acquisitions of the Company's equity securities by IP. At that time, discussion
commenced regarding the use of a rights offering and various methods of debt
financing to raise a portion of the funds necessary to complete the Acquisition.
The Company determined in discussions with DLJ that important benefits could be
obtained if a significant part of the overall financing consisted of equity
rather than debt. The directors determined that these benefits would outweigh
any limitation on the availability of the Company's NOLs as a result of the
likely "ownership change" (as defined in Section 382 of the Code) that would
occur upon the consummation of such equity financing. See "Proposal No.
6 -- Amendment to Certificate of Incorporation to Remove Transfer Restrictions."

From April 11 to April 30, 1998, the Company's management, DLJ, and the
Company's legal advisors spoke with representatives of BIG's board of directors
and senior management and its financial and legal advisors to negotiate the
terms and conditions of a definitive acquisition agreement. During this same
period, the Company's management and its financial and legal advisors conducted
telephonic conferences with representatives of IP and its legal advisors to
negotiate the terms and conditions of the definitive Stock Purchase Agreement
pursuant to which the Company would issue and sell to IP in a private
transaction $94.0 million of Common Stock and, separately, an additional $106.0
million of Common Stock, if necessary, pursuant to the Standby Commitment.

At special meetings of the Board of Directors held on April 30, 1998, May
1, 1998 and May 3, 1998, the potential acquisition of BIG was presented to the
Board of Directors by senior management of the Company. At these meetings, the
Board of Directors reviewed certain financial and valuation information relating
to BIG that it deemed relevant, and it authorized management to continue to
investigate the possible acquisition of BIG and to analyze various financial
alternatives to finance any such acquisition, including the incurrence of debt
and the issuance and sale of the Common Stock pursuant to a rights offering and
a private placement. At these meetings the Board consulted DLJ regarding these
matters.

On May 3, 1998, the board of directors of FHC approved in principle the
Acquisition Agreement and the transactions contemplated thereby.

On May 4, 1998, a special telephonic meeting of the Board of Directors was
held to update the Board of Directors with respect to remaining open issues
relating to the Acquisition. The Board approved the terms and conditions of the
Acquisition Agreement and authorized the transactions contemplated thereby,
pending resolution by the Company's management of all remaining open business
and legal issues.

On May 4 and 5, 1998, executives of the Company, FHC and BIG and
representatives of BIG's board of directors and each of their respective legal
advisors conducted telephonic conferences to resolve all open business and legal
issues and to conclude the negotiation of the Acquisition Agreement. During this
same time period, executives of the Company and IP and each of their respective
legal and financial advisors conducted telephonic conferences to resolve all
open business and legal issues and to conclude the negotiation of the Stock
Purchase Agreement.

In June 1998, the Company and IP each made filings with the departments of
insurance of the States of California, New York and Delaware to secure
regulatory approval of the Acquisition. HSR filings for the Acquisition and
Equity Financings were made on July 7, 1998 and July 17, 1998. All relevant
approvals have not yet been obtained. BIG, the Company, and IP each commenced
the process of seeking other necessary approvals, including approval by the
Company's stockholders, required to consummate the Acquisition.

In June 1998, the Company and Zurich commenced discussions regarding a sale
of BICO to Zurich Centre Group LLC and a related underwriting arrangement. On
June 9, 1998, these discussions resulted in a letter of intent whereby BICO
would be sold immediately after consummation of the Acquisition. In July 1998,
Zurich filed a Form A with the department of insurance of Delaware to secure
regulatory approval of its purchase of BICO.

In June 1998, Insurance Partners Advisors informed the Company that it had
hired personnel from DLJ who had been those primarily involved in preparing an
analysis of the Acquisition and the Equity Financings
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<PAGE> 46

for the Board, as described above. Although the Company maintained its
confidence in the advice of DLJ and continued the relationship, the Board was
concerned that an appearance of a conflict of interest might exist and therefore
determined that it was in the stockholders' best interest to retain a second
investment banking firm to render an opinion with respect to the Purchase Price
and the Equity Financings, taken as a whole. On June 23, 1998, the Company
engaged Merrill Lynch to render such opinion and on July 16, 1998, Merrill Lynch
delivered its oral opinion at a meeting of the Board that the Purchase Price and
Equity Financings, taken as a whole, are fair from a financial point of view to
the Company. A telephonic meeting of the Board was held on July 16, 1998, and
was attended by a quorum of the Company's directors, the Company's legal
advisor, representatives of the Company's independent auditors, and
representatives of Merrill Lynch and Merrill Lynch's legal advisor. Merrill
Lynch presented its research, analyses and conclusions to the Board, including
its oral opinion that the Purchase Price and the Equity Financings, taken as a
whole, are fair from a financial point of view to the Company. Thereafter, the
Board approved the mailing of this Proxy Statement to seek stockholder approval
of the Stock Offering and the IP Stock Issuance and Standby Commitment.

On July 7, 1998, the Company filed with the SEC registration statements
related to the Stock Offering and the Senior Notes Offering. On ,
1998, the SEC completed its review of the registration statements.

LOSS RESERVES GUARANTEE

LARGE ACCOUNT QUOTA-SHARE ARRANGEMENT

Separately, effective May 1, 1998, the Company and BIG each entered into
the three-year Quota-Share Arrangement with a reinsurer under which each will
cede all risks with an estimated annual premium at each risk's inception date of
$25,000 or more. Continuation of the Quota-Share Arrangement by BIG is
contingent on the Closing. The Company believes there is significantly more
pricing and persistency risk associated with policies with larger annual premium
amounts. The use of the Quota-Share Arrangement will allow the Company to
re-underwrite this business over time to the Company's underwriting standards
while preserving BIG's relationships with producers and insureds. Additionally,
because the Quota-Share Arrangement will reduce net written premium, the
Company's and BIG's ratio of net written premium to statutory surplus will
decrease.

DISPOSITION OF BICO

The sale of BICO is contingent upon a number of conditions, including the
completion of a due diligence investigation by Zurich Centre Group LLC,
execution of definitive documents by September 1, 1998, completion of the
Acquisition, approval from state insurance regulators, the execution of other
related agreements, and other customary conditions.

MANAGEMENT AFTER THE ACQUISITION

If the Acquisition is consummated, the Company's current directors will
continue to serve as directors if elected at the Annual Meeting and all
executive officers of the Company will remain in their present positions. Almost
all of the senior management of BIG is expected to remain with the Company after
the Acquisition.

TERMS OF THE ACQUISITION AND RELATED TRANSACTIONS

The detailed terms of, and conditions to, the Acquisition and certain
related transactions are contained in the Acquisition Agreement, a copy of which
accompanies this Proxy Statement as Annex A and is incorporated herein by
reference. The statements made in this Proxy Statement with respect to the terms
of the Acquisition and such related transactions are qualified in their entirety
by reference to the more complete information set forth in Annex A.

Structure of the Acquisition

The Acquisition Agreement provides that the Company will pay to FHC
approximately $285.0 million in cash (less the cost of the Loss Reserves
Guarantee if provided through reinsurance, see "--Loss Reserves Guarantee") for
all outstanding shares of the capital stock of BIG, which in turn owns all of
the outstanding capital stock of the BIG Insurance Subsidiaries. The Company
will contribute capital to the BIG Insurance Subsidiaries to offset any
reductions in surplus resulting from the cost of reinsurance for the Loss
Reserves Guarantee. The net result is that the purchase price, plus the capital
contributions, will be $285.0 million. Following the Acquisition, BIG will
become a direct wholly owned subsidiary of the Company, and the BIG Insurance
Subsidiaries (excluding BICO, which will be sold by the Company immediately
after the Acquisition, see "-- Disposition of BICO") will each remain wholly
owned subsidiaries of BIG. FHC is obligated prior to Closing to cause all of
BIG's intercompany balances and real estate holdings related to FHC, FHS and
their affiliates to be settled in cash.

Closing of the Acquisition

The Closing will occur as soon as practicable following the satisfaction or
waiver of all of the conditions to the Acquisition specified in the Acquisition
Agreement, or at such other time as the Company and FHC shall agree (the day on
which the Closing takes place being the "Closing Date"). See "--Conditions to
the Acquisition," below. It is anticipated that, if the Stock Offering and the
IP Stock Issuance are approved by the Company's stockholders, the Acquisition
will occur on or about October 22, 1998.

Conditions to the Acquisition

The obligations of the Company and FHC to effect the Acquisition are
subject to, among other things, the satisfaction or waiver prior to the Closing
Date of the following conditions: (a) the termination of the waiting period
under the HSR Act; (b) the required state insurance regulatory approvals,
including approval by the insurance departments of California, New York and
Delaware, provided that if the Company is unable to obtain regulatory approval
from New York for CCIC, and FHC has so elected pursuant to the Acquisition
Agreement, (i) FHC may treat CCIC as an "Excluded Asset" (as defined), (ii) CCIC
will not be treated as a BIG Insurance Subsidiary under the Acquisition
Agreement and its stock will be distributed out of BIG, (iii) the purchase price
will be reduced by 80% of the net book value of CCIC or approximately $6.6
million (based on SAP) as of March 31, 1998 (the "CCIC Value"), (iv) FHC and the
Company will negotiate in good faith to enter into an agreement whereby FHC will
continue to operate CCIC at the Company's expense until FHC obtains regulatory
approval to allow the Company to acquire all of CCIC's capital stock, (v) FHC
will take all steps reasonably necessary to obtain regulatory approval, (vi) if
obtained, the Company will

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purchase the capital stock of CCIC from FHC or its affiliates for the CCIC Value
plus interest, and, if not obtained, (vii) FHC will be free to sell CCIC's stock
or assets to a third party at any time after 12 months after the Closing Date,
after which time the Company will no longer have the obligation to purchase
CCIC; (c) no arbitrator or Governmental Entity (as defined) shall have issued
any order, injunction, statute or rule that would have the effect of prohibiting
the consummation of the material transactions contemplated by the Acquisition;
and (d) all consents, authorizations and approvals required to consummate the
transactions contemplated by the Acquisition Agreement having been obtained,
except where the failure to have obtained such consents, authorizations and
approvals would not have a Seller Material Adverse Effect or Purchaser Material
Adverse Effect (each as defined below), as the case may be.

The obligation of FHC to effect the Acquisition is further subject to,
among other things, the satisfaction prior to the Closing Date of the following
conditions, unless waived by FHC: (a) the Company's having performed in all
material respects its obligations under the Acquisition Agreement required to be
performed by it on or prior to the Closing Date; (b) the representations and
warranties of the Company contained in the Acquisition Agreement being true and
accurate as of the Closing Date as if made at and as of such time (other than
those representations and warranties that address matters only as of a
particular date or only with respect to a specific period of time that need to
be true and accurate only as of such date or with respect to such period),
except where the failure of such representations and warranties to be so true
and accurate (without giving effect to any limitation as to "materiality" or
"material adverse effect" set forth therein) would not have a Purchaser Material
Adverse Effect; (c) FHC's having received an incumbency certificate and a
certificate executed by two officers of the Company (dated as of the Closing
Date) confirming the matters set forth in clauses (a) (performance of
obligations by the Company) and (b) (the accuracy of the representations and
warranties of the Company) above; (d) FHC's having received executed copies of
the Service Agreements (as described in "-- Related Agreements -- Material
Service Agreements/Arrangements"); and (e) FHC's having received a certificate
(which certificate shall survive the Closing Date) to the effect that (i) the
Company has conducted and is satisfied with the results of its business,
accounting and legal due diligence review of the shares of capital stock of BIG
and the business and affairs of BIG and (ii) in completing the transactions
contemplated by the Acquisition Agreement, the Company has not and is not
relying on any representation or warranty of FHC or BIG that is not expressly
stated in the Acquisition Agreement.

The obligation of the Company to effect the Acquisition is further subject
to, among other things, the satisfaction prior to the Closing Date of the
following conditions, unless waived by the Company: (a) FHC's having performed
in all material respects all of its obligations under the Acquisition Agreement
required to be performed by it on or prior to the Closing Date; (b) the
representations and warranties of FHC contained in the Acquisition Agreement
being true and accurate as of the Closing Date as if made at and as of such time
(other than with respect to certain changes, including the absence of events
constituting a Seller Material Adverse Effect, and representations and
warranties that address matters only as of a particular date or only with
respect to a specific period of time which need to be true and accurate only as
of such date or with respect to such period), except where the failure of such
representations and warranties to be so true and accurate (without giving effect
to any limitation as to "materiality" or "material adverse effect" set forth
therein), would not have a Seller Material Adverse Effect or where the failure
of such representations to be true and accurate arises out of, or relates to,
the business or operations of the BIG Insurance Subsidiaries following May 5,
1998, the date of the Acquisition Agreement, unless written notice of such
failure or inaccuracy occurring within the first 20 business days following May
5, 1998 is provided to FHC by June 8, 1998; (c) the Company's having received an
incumbency certificate and a certificate executed by two executive officers of
FHC (dated as of the Closing Date) confirming the matters set forth in clauses
(a) (performance of obligations by FHC) and (b) (the accuracy of the
representations and warranties of FHC) above; (d) the BIG Insurance Subsidiaries
having entered into the Loss Reserves Guarantee reinsurance agreement; (e) all
intercompany accounts and promissory notes having been terminated as of the
Closing Date; (f) FHC's having entered into the Service Agreements (as described
in "-- Related Agreements -- Material Service Agreements/Arrangements"); (g) the
Company's having received letters of resignation from each of the members of the
board of directors of BIG and each of the BIG Insurance Subsidiaries, which
resignations shall be effective as of the Closing Date; (h) BIG's having no
subsidiaries other than BICO, CalComp, CBIC
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<PAGE> 49

and, provided FHC has not elected to treat CCIC as an "Excluded Asset," as
described above, CCIC; and (i) FHC's having delivered copies to the Company of
all certificates of good standing, certificates of qualification and
certificates of authority for BIG and each BIG Insurance Subsidiary for each
state where it conducts business.

Representations and Warranties

The Acquisition Agreement contains various representations and warranties
by FHC (including BIG and the BIG Insurance Subsidiaries, as appropriate) and
the Company to the effect that, except as specified or disclosed and, in some
cases, subject to certain exceptions (including exceptions that would not have a
Purchaser Material Adverse Effect or a Seller Material Adverse Effect) among
other things: (a) each such party is duly organized and in good standing, and
has the requisite corporate power to own its properties and carry on its
business as it is now being conducted; (b) each such party has all requisite
corporate power and authority to enter into the Acquisition Agreement and all
agreements contemplated thereby and to consummate the Acquisition, and the
Acquisition Agreement has been duly authorized by and constitutes the valid and
binding obligation of each such party; and (c) the execution, delivery and
performance of the Acquisition Agreement by each such party will not conflict
with such party's articles or certificate of incorporation or bylaws, violate
any agreement or law to which such party or its assets are bound, or require the
consent or approval of any court, regulatory or governmental agency.

The Acquisition Agreement also contains various representations and
warranties by the Company to the effect that, except as disclosed and, in some
cases, subject to certain exceptions (including exceptions that would not have a
Purchaser Material Adverse Effect), among other things: (a) the Company is
acquiring all outstanding shares of BIG for investment purposes only; (b) the
Company will have sufficient funds available to consummate the Acquisition; (c)
an acknowledgment by the Company that, except for the specific representations
and warranties contained in the Acquisition Agreement, none of FHC, BIG, or any
of their respective directors, officers, employees, affiliates, controlling
persons, agents, advisors or representatives made or shall be deemed to have
made any representation or warranty as to the accuracy or completeness of any of
the information (including, without limitation, any reserve estimates,
projections, forecasts or other forward-looking information) provided or
otherwise made available to the Company; (d) an agreement by the Company that
FHC and its directors, officers, employees, affiliates, controlling persons,
agents, advisors or representatives shall not have any liability to the Company
or any of its directors, officers, employees, affiliates, controlling persons,
agents, advisors or representatives with respect to FHC's representations and
warranties, except as expressly set forth in the Acquisition Agreement; and (e)
the Company, after acquiring BIG, will be solvent.

The Acquisition Agreement in addition contains various representations and
warranties by FHC to the effect that, except as specified or disclosed and, in
some cases, subject to certain exceptions (including exceptions that would not
have a Seller Material Adverse Effect), among other things: (a) BIG and the BIG
Insurance Subsidiaries are qualified to do business in those jurisdictions in
which the character of their business requires them to be so qualified; (b) BIG
has in force each governmental license or permit required for the operation of
its business; (c) BIG is in compliance with all charter documents, Material
Agreements (as defined) and all laws applicable to its business; (d) all issued
and outstanding capital stock of each BIG Insurance Subsidiary has been validly
issued and is owned by BIG free of all encumbrances; (e) all of the outstanding
shares of capital stock of BIG are validly issued and are held by FHC free of
all encumbrances; (f) BIG's consolidated unaudited financial statements fairly
present in all material respects the financial condition of BIG and have been
prepared in accordance with GAAP; (g) there have been no changes in BIG's
business since December 31, 1997 or any incurrence of liabilities outside of the
ordinary course of business; (h) there is no litigation pending or, to FHC's
knowledge, threatened against any party challenging the validity of the
Acquisition; (i) BIG's tax returns are accurate in all material respects and it
has paid all taxes due; (j) BIG's employee benefit plans are as disclosed and
there are no undisclosed liabilities in connection therewith; (k) there are no
collective bargaining agreements with BIG's employees nor attempts to form a
collective bargaining unit pending; (l) BIG is in compliance with and unaware of
any defaults under its leases for real property; (m) BIG has no liability under
any environmental laws; (n) BIG owns or has the right to

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<PAGE> 50

use all intellectual property utilized in its business; (o) BIG and the BIG
Insurance Subsidiaries have incurred no undisclosed liabilities since December
31, 1997 that would constitute a Seller Material Adverse Effect; (p) BIG has
disclosed to the Company all transactions between BIG, FHC and their affiliates;
(q) FHC has delivered or made available all Material Agreements (as defined),
and none of BIG or the BIG Insurance Subsidiaries is in default thereunder; (r)
FHC has no obligations in respect of any fees or commissions to any broker,
finder, investment banker, or other intermediary, except with respect to Salomon
Smith Barney and Shattuck Hammond Partners, Inc.; and (s) BIG does not use
equipment or databases, the performance of which will be adversely affected by
"Year 2000" problems.

As used herein and in the Acquisition Agreement, a "Purchaser Material
Adverse Effect" means any material adverse change in, or material adverse effect
on, the business, operations or financial condition of the Company and its
Subsidiaries, taken as a whole, provided that any adverse effect on the Company
and its Subsidiaries resulting from the execution of the Acquisition Agreement
and the announcement of such execution shall be excluded from the determination
of Purchaser Material Adverse Effect.

As used herein and in the Acquisition Agreement, a "Seller Material Adverse
Effect" means any material adverse change in, or material adverse effect on, the
business, operations or financial condition of BIG and the BIG Insurance
Subsidiaries, taken as a whole, provided that the effects of changes that are
generally applicable to (i) changes resulting from market fluctuations in the
value of BIG's investment portfolio and (ii) the commutation of certain
reinsurance agreements between BIG and General Reinsurance Corporation, if
completed prior to Closing, shall be excluded from the determination of Seller
Material Adverse Effect; and provided, further, that any adverse effect on BIG
resulting from the execution of the Acquisition Agreement and the announcement
thereof shall also be excluded from the determination of Seller Material Adverse
Effect.

Limited Survival of Representations and Warranties

The accuracy of the representations and warranties of each party to the
Acquisition Agreement is a condition to the obligation of the other to
consummate the Acquisition (see "-- Conditions to the Acquisition" above) and
all representations and warranties contained in the Acquisition Agreement (other
than as described herein) shall survive the Closing Date for a period of one
year. However, representations and warranties by FHC with regard to tax matters
will remain in effect until the expiration of the applicable statutes of
limitations, and representations and warranties by FHC with regard to
environmental matters will survive the Closing Date for a period of two years.
Such representations and warranties may only survive the applicable one-year or
two-year period with respect to any inaccuracy therein or breach thereof if
notice is given by the Company to FHC within the one-year or two-year time
period, as applicable.

Except with respect to tax matters, which are governed separately under the
Acquisition Agreement, a party may not recover from the other with respect to an
inaccuracy or breach of a representation, warranty or covenant unless the total
losses to the party exceed $5.0 million, and then the party may only recover the
amount by which the losses exceed $5.0 million; provided, that no party may
recover from the other more than $50.0 million in the aggregate for all losses
under the indemnification provisions of the Acquisition Agreement; and provided
further, that FHC has no obligation to indemnify the Company for any losses
arising out of, or relating to the business or operations of BIG following the
date of the Acquisition Agreement, unless notice is provided of a loss occurring
within 20 business days of the date of the Acquisition Agreement as provided
therein.

Covenants of the Parties

Under the terms of the Acquisition Agreement, FHC has agreed that it would
not, through any affiliate, officer, director, employee, agent or
representative, initiate, solicit, or encourage any proposal or offer with
respect to an acquisition of, merger or other business combination involving, or
sale of a substantial portion of the assets of, BIG and that FHC would cease any
existing discussions or negotiations conducted before the date of the
Acquisition Agreement with respect to any of the foregoing.

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<PAGE> 51

FHC has agreed, for the period from the May 5, 1998 date of the Acquisition
Agreement and continuing until the earlier of its termination or the Closing
Date, to cause BIG's operations to be conducted according to their usual and
ordinary course, except as disclosed to and approved by the Company. This
includes restrictions on material asset acquisitions or dispositions by BIG and
acquisitions, mergers or other business combinations involving the BIG Insurance
Subsidiaries. In addition, FHC has agreed to allow the Company to place certain
senior executives, including Arnold Senter (the "Interim Consulting Team"), in
interim consulting positions at BIG and the BIG Insurance Subsidiaries pursuant
to consulting arrangements which are reasonably acceptable to the parties and
consistent with the terms of the Acquisition Agreement. FHC has also agreed to
cause BIG and the BIG Insurance Subsidiaries to take, or not take, such actions
as the Interim Consulting Team may reasonable direct with respect to (i) the
strategy and execution of the BIG Insurance Subsidiaries' underwriting,
reinsurance, claims handling, and other operational functions, and (ii) the
restructuring of certain asset positions, both in the BIG Insurance
Subsidiaries' investment portfolios and otherwise, each coordinated with FHC's
executives and subject to FHC's approval, which will not be unreasonably
withheld. Notwithstanding any other provision of the Acquisition Agreement,
neither BIG, nor any of the BIG Insurance Subsidiaries, shall be obligated to
commute any insurance or reinsurance policy or otherwise take any action that
may be reasonably expected to cause any Governmental Entity to require BIG or
any of its affiliates to make a capital contribution to the BIG Insurance
Subsidiaries.

Each party has agreed to make such filings as may be required to obtain all
governmental and regulatory consents and approvals required to consummate the
Acquisition, including regulatory filings with the departments of insurance of
California, Delaware and New York, to take any further acts required to effect
the Acquisition, and to use its best efforts to take all actions required to
consummate and make effective the transactions contemplated by the Acquisition
Agreement. The parties have also agreed that the purchase price for BIG will be
increased by the amount of any capital contributions made to BIG after December
31, 1997 in order to fund any capital contributions or any other payment, in an
amount not to exceed $25.0 million, that are required by any Governmental
Entity, provided that an increase in the purchase price in excess of $10.0
million shall be paid in the form of a senior note from the Company with the
principal amount thereon due three years from the Closing Date and bearing an
interest rate equal to the rate on the Senior Notes to be issued in the Senior
Notes Offering.

FHC has agreed to allow the Company access to BIG's facilities, offices,
records, and files and to provide certain financial statements. Each party has
agreed to bear its own expenses in connection with the Acquisition, and to
consult with the other and use reasonable efforts to agree on the text of any
press release or other public statement before making it with respect to the
transactions contemplated by the Acquisition Agreement.

FHC has agreed to take all actions necessary to cause Excluded Assets (as
defined) and real property owned by any BIG Insurance Subsidiary to be
transferred to one or more FHC affiliates prior to the Closing Date. Certain
intercompany accounts and promissory notes are to be terminated at or before the
Closing Date in cash. FHC has also agreed to cause the BIG Insurance
Subsidiaries to purchase reinsurance pursuant to the Loss Reserves Guarantee.
See "-- Loss Reserves Guarantee." Each party has covenanted to use all
reasonable efforts in good faith to negotiate leases of three years in duration
for all properties of the BIG Insurance Subsidiaries currently not subject to a
lease.

The Company has agreed, as promptly as practicable, after the date of the
Acquisition Agreement to prepare and file this Proxy Statement with the SEC and
take such other action as is necessary to convene the Annual Meeting to consider
and vote upon Proposals No. 1 and No. 2. The Company has agreed that the Proxy
Statement shall include the Board of Directors' recommendation to the
stockholders to vote in favor Proposals No. 1 and No. 2 and that the Board of
Directors shall take all reasonable steps to solicit and obtain such approval.

The Company also has agreed to enter into the Service Agreements. See
"-- Related Agreements -- Material Service Agreements/Arrangements."

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<PAGE> 52

The Company and FHC have agreed as to certain tax matters, including the
mutual provision of assistance to cause the completion and filing of all tax
returns and to respond to audits by any taxing authorities, as may be reasonably
requested to satisfy either parties' accounting or tax requirements.

After the Closing Date, the Company has agreed to honor existing employment
agreements and employee benefit plans of BIG and the BIG Insurance Subsidiaries
while reserving the right to modify or terminate such agreements or plans in
accordance with their terms or applicable law. Each employee of BIG and the BIG
Insurance Subsidiaries will receive credit for time served as an employee of BIG
or the BIG Insurance Subsidiaries, as applicable, for purposes of receiving
benefits as an employee of the Company. Each employee of BIG and the BIG
Insurance Subsidiaries will be hired by the Company or its affiliates or with
third party employee leasing companies on an "at-will" basis on terms consistent
with the Company's employment policies and benefit plans in general.

Termination, Amendment and Waiver

The Acquisition Agreement may be terminated at any time by the mutual
written consent of the Company and FHC. The Acquisition Agreement may also be
terminated by any party if the Closing of the Acquisition has not occurred on or
before November 30, 1998 (or December 31, 1998 if the only condition remaining
unfulfilled on November 30, 1998 is approval by any required Governmental Entity
and the Company and FHC are continuing to seek to obtain such approval). Either
party may terminate the Acquisition Agreement if any Governmental Entity issues
an order, decree or ruling or otherwise takes any action permanently prohibiting
the material transactions contemplated in the Acquisition Agreement. The
Acquisition Agreement may also be terminated by FHC as a consequence of the
Company's failure to perform the Acquisition, with the Company likely incurring
liability for liquidated damages (as discussed below), if Proposal No. 1 and
Proposal No. 2 are not approved by the Company's stockholders or if the Company
or its Board of Directors or officers (i) fails to recommend approval of
Proposal No. 1 and Proposal No. 2, or (ii) withdraws, revokes, or adversely
modifies its approval or recommendation of Proposal No. 1 and Proposal No. 2.
Pursuant to the Voting Agreements among certain stockholders of the Company and
FHC, approximately 47.0% of the outstanding shares of Common Stock eligible to
vote are committed to vote in favor of Proposals No. 1 and No. 2. See
"-- Related Agreements -- Voting Agreements" below.

The Acquisition Agreement may be terminated by the Company alone if there
is a breach of any of the representations and warranties of FHC in any material
respect (other than Excluded Breaches) or if FHC breaches or fails in any
material respect to perform or comply with any of its material covenants or
agreements contained in the Acquisition Agreement and such breach would have a
Seller Material Adverse Effect, in each case such that the conditions relating
to the Company's obligation to effect the Acquisition would not be satisfied,
provided that if any such breach is curable within a reasonable period of time
by FHC through the exercise of its best efforts and for so long as it shall be
using its best efforts to cure the breach, the Company may not terminate the
Acquisition Agreement.

The Acquisition Agreement may also be terminated by the Company alone if
prior to the Closing Date there shall have occurred a "Material Adverse Change"
in the financial condition, business or operations of BIG. A "Material Adverse
Change" means (i) during the 20 business days following the May 5, 1998 date of
the Acquisition Agreement, any change in the business or operations of BIG that
meets the definition of a Seller Material Adverse Effect and with respect to
which the Company provides FHC, within 35 days following May 5, 1998, notice of
its desire to terminate the Acquisition Agreement and (ii) after such 20
business day period, subject to the right to provide written notice as provided
by the immediately preceding clause (i), until the Closing Date, a change in the
business or operations of BIG that meets the definition of a Seller Material
Adverse Effect, other than a Seller Material Adverse Effect arising out of, or
relating to, the business or operations of BIG after May 5, 1998 or the matters
disclosed in the related disclosure schedules.

FHC alone may terminate the Acquisition Agreement if there is a breach of
any of the representations and warranties of the Company in any material respect
or if the Company breaches or fails to comply in any material respect with any
of its material covenants or agreements contained in the Acquisition Agreement
and such breach would have a Purchaser Material Adverse Effect, provided that if
any such breach is curable

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<PAGE> 53

within a reasonable period of time by the Company through the exercise of its
best efforts and for so long as it shall be using its best efforts to cure the
breach, FHC may not terminate the Acquisition Agreement.

The Acquisition Agreement may be amended only by an instrument in writing
signed by FHC and the Company. At any time prior to the Closing, any party to
the Acquisition Agreement may, in writing, waive any failure of the other party
to comply with any obligation, covenant, agreement or condition contained in the
Acquisition Agreement.

Breakup Fee

In the event that the conditions to Closing with respect to either FHC or
the Company have been met and there is no basis for such party to terminate the
Acquisition Agreement, and yet upon the request of the other, such party does
not agree upon and does not meet a reasonable schedule to set the Closing Date
and complete the Closing, then such party will be deemed to have wrongfully
failed to close and the other party shall be entitled to either obtain
injunctive relief to require the Closing to occur or receive a $15.0 million
payment from the other party and seek additional monetary damages from the other
party, if any, provided, however, that the occurrence of the Closing shall
preclude the ability to recover any monetary payments. In addition, in the event
FHC terminates the Acquisition Agreement because the Company or its Board of
Directors or officers fails to recommend approval of Proposal No. 1 and Proposal
No. 2, or withdraws, revokes or adversely modifies its approval or
recommendation of Proposal No. 1 and Proposal No. 2, or because Proposal No. 1
and Proposal No. 2 are not approved by the Company's stockholders, then FHC
shall be entitled to receive a $15.0 million payment from the Company and seek
additional monetary damages, if any. If FHC shall pay to the Company a breakup
fee, then the Company is obligated under the terms of the Stock Purchase
Agreement to pay a portion of the fee to IP based on the percentage of Common
Stock owned by IP on a diluted basis, based on the hypothetical completion of
the Equity Financings. See "Proposal No. 2 -- Stock Purchase
Agreement -- Expenses and Fees."

THE COMPANY IS OBLIGATED UNDER THE ACQUISITION AGREEMENT TO PROCEED WITH
THE ACQUISITION REGARDLESS OF WHETHER THE EQUITY FINANCINGS ARE APPROVED BY ITS
STOCKHOLDERS AND CONSUMMATED IN ACCORDANCE WITH THEIR TERMS. IF THE STOCK
OFFERING OR THE IP STOCK ISSUANCE IS NOT APPROVED BY THE COMPANY'S STOCKHOLDERS,
OR THE EQUITY FINANCINGS ARE NOT CONSUMMATED FOR ANY OTHER REASON, AND THE
COMPANY IS UNABLE TO SECURE ALTERNATIVE FINANCING SO AS TO BE ABLE TO PROCEED
WITH THE ACQUISITION, IN THE EVENT FHC HAS SATISFIED CERTAIN CONDITIONS, THE
COMPANY MOST LIKELY WOULD BE LIABLE TO FHC FOR DAMAGES OF $15.0 MILLION AND
ADDITIONAL MONETARY DAMAGES, IF ANY, SHOULD FHC DECIDE TO SEEK THEM.

The Company will in any event be responsible for all of its own costs and
expenses incurred in connection with the Acquisition and the transactions
contemplated thereby, whether or not the Closing occurs.

Effect of Termination

Except to the extent the Company or FHC may be obligated to pay damages of
$15.0 million and any additional monetary damages, in the event the Acquisition
Agreement is terminated, it shall become void and there will be no liability on
the part of any party thereto, except that no party shall be relieved of any
liability for any willful breach of any provisions of the Acquisition Agreement
or the confidentiality agreement among the parties.

RELATED AGREEMENTS

The Service Agreements are to be executed at the Closing. In addition,
certain holders of Company Common Stock have entered into Voting Agreements
pursuant to which they agreed to, among other things, vote in favor of the Stock
Offering and the IP Stock Issuance.

Material Service Agreements/Arrangements

In connection with the Acquisition Agreement, the Company, BIG and various
subsidiaries of FHC which are Excluded Assets will enter into long-term service
agreements (the "Service Agreements"). These

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<PAGE> 54

agreements include medical bill review, PPO utilization, certain managed care
services, claim negotiation and review, recruitment of employees, placement of
temporary workers, and transitional corporate administrative services. The
Service Agreements will have minimum terms of five years.

Voting Agreements

FHC is party to the Voting Agreements with certain holders of Common Stock,
namely IP Delaware, IP Bermuda, TJS Partners, L.P., C. Len Pecchenino, William
L. Gentz, J. Chris Seaman, and Gordon E. Noble. These stockholders, who together
hold approximately 47.0% of the outstanding Common Stock, have agreed to vote
all of their shares of Common Stock in favor of Proposals No. 1 and No. 2. The
affirmative vote of a majority of the shares represented and voting of the
Annual Meeting is required in order to approve the Stock Offering and the IP
Stock Issuance. Each of these stockholders has separately represented and
warranted as to its or his authority relative to their respective Voting
Agreement, the absence of conflicts between their respective Voting Agreement
and, if applicable, its organizational documents and material agreements or any
laws, and as to its or his title to the securities being voted. Each of these
stockholders has also covenanted that it or he will not sell or encumber the
securities held by such stockholder without FHC's consent. The Voting Agreements
terminate upon the earliest to occur of the Closing Date or the termination of
the Acquisition Agreement.

GOVERNMENTAL AND REGULATORY AND OTHER APPROVALS

The Acquisition requires the approval of the departments of insurance in
the States of California, Delaware, and New York, and notice filings in other
states. The Company has already made the requisite filings in order to obtain
such approval, including an application to the New York Department of Insurance.
If approval in New York is not obtained, the Acquisition will proceed without
the inclusion of CCIC. See "-- Terms of the Acquisition and Related
Transactions -- Conditions to the Acquisition." While the Company is confident
of obtaining approval in New York, as of the date of this Proxy Statement all
necessary regulatory approvals have not yet been obtained. The Acquisition is
also subject to the expiration of the waiting period under the HSR Act, and the
waiting period has expired. Additionally, the holders of the Trust Preferred
Securities are being requested to consent to the issuance of the Senior Notes.
The Company expects to obtain all of these approvals.

ACCOUNTING TREATMENT

The Acquisition is to be treated as a purchase for accounting purposes. See
"Unaudited Pro Forma Financial Information."

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OPINION OF MERRILL LYNCH

Superior National retained Merrill Lynch on June 23, 1998 to render its
opinion to the Board of Directors of Superior National as to whether the
Purchase Price and the Equity Financings, taken as a whole, are fair from a
financial point of view to the Company. On July 16, 1998, Merrill Lynch rendered
an opinion (the "Merrill Lynch Opinion") to the Board of Directors to the effect
that, based upon and subject to the assumptions and considerations set forth in
such opinion, as of such date, the Purchase Price and the Equity Financings,
taken as a whole, are fair from a financial point of view to the Company.
Merrill Lynch subsequently confirmed the Merrill Lynch Opinion by delivery to
the Board of Directors of a written opinion dated as of July 17, 1998. Such
written opinion will not be further updated prior to consummation of the
Acquisition or the Equity Financings.

The full text of Merrill Lynch's written opinion dated as of July 17, 1998
is attached as Annex B to this Proxy Statement and is incorporated herein by
reference. The description of the Merrill Lynch Opinion set forth herein is
qualified in its entirety by reference to the full text of such opinion.
Stockholders of Superior National are urged to read the opinion in its entirety
for a description of the procedures followed, assumptions made, matters
considered and qualifications and limitations on the review undertaken by
Merrill Lynch in connection therewith.

THE MERRILL LYNCH OPINION WAS PROVIDED TO SUPERIOR NATIONAL'S BOARD FOR ITS
INFORMATION AND IS DIRECTED ONLY TO THE FAIRNESS FROM A FINANCIAL POINT OF VIEW
OF THE PURCHASE PRICE AND THE EQUITY FINANCINGS, TAKEN AS A WHOLE, TO SUPERIOR
NATIONAL. THE MERRILL LYNCH OPINION DOES NOT ADDRESS THE MERITS OF THE
UNDERLYING DECISION BY THE COMPANY TO ENGAGE IN THE ACQUISITION OR EQUITY
FINANCINGS AND DOES NOT CONSTITUTE A RECOMMENDATION TO ANY STOCKHOLDER OF
SUPERIOR NATIONAL AS TO HOW SUCH STOCKHOLDER SHOULD VOTE ON THE EQUITY
FINANCINGS. MERRILL LYNCH EXPRESSED NO OPINION WITH RESPECT TO THE FAIRNESS OF
THE SUBSCRIPTION PRICE OR THE OTHER TERMS OF THE EQUITY FINANCINGS SEPARATELY,
OR WHETHER ALTERNATE FUNDING ON MORE FAVORABLE TERMS THAN THE EQUITY FINANCINGS
MIGHT BE AVAILABLE.

The summary set forth below does not purport to be a complete description
of the analyses performed by Merrill Lynch underlying the Merrill Lynch Opinion
or the presentation made by Merrill Lynch to Superior National's Board of
Directors. The preparation of a fairness opinion involves various determinations
as to the most appropriate and relevant methods of financial analysis and the
application of these methods to the particular circumstances and, therefore,
such an opinion is not readily susceptible to a partial analysis or summary
description. Accordingly, notwithstanding the separate factors summarized below,
Merrill Lynch believes that its analyses must be considered as a whole and that
selecting portions of its analyses and factors considered by it, without
considering all analyses and factors, or attempting to ascribe relative weights
to some or all such analyses and factors, could create an incomplete view of the
evaluation process underlying the Merrill Lynch Opinion.

In performing its analyses, Merrill Lynch made numerous assumptions with
respect to industry performance, general business and economic conditions and
other matters, many of which are beyond the control of Superior National, BIG
and Merrill Lynch. The analyses performed by Merrill Lynch are not necessarily
indicative of actual values or actual future results, which may be significantly
more or less favorable than suggested by such analyses. With respect to the
comparison of selected companies analysis and the analysis of selected insurance
merger transactions summarized below, no public company utilized as a comparison
is identical to Superior National or BIG. Accordingly, an analysis of publicly
traded comparable companies and comparable business combinations is not
mathematical. Rather, it involves complex considerations and judgments
concerning the differences in financial and operating characteristics of the
companies and other factors that could affect the public trading values of the
companies concerned. The analyses do not purport to be appraisals or to reflect
the prices at which Superior National or BIG might actually be sold or the
prices at which any securities may trade at the present time or at any time in
the future. Merrill Lynch was

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<PAGE> 56

not asked to consider, and the Merrill Lynch Opinion does not in any manner
address, the price at which shares of common stock of Superior National will
actually trade following consummation of the Acquisition or the Equity
Financings. In addition, as described below, the Merrill Lynch Opinion and
Merrill Lynch's presentation to Superior National's Board of Directors were
among many factors taken into consideration by the Board in making its
determination to confirm that it would seek to obtain stockholder approval of
the Equity Financings. Consequently, the Merrill Lynch analyses described below
should not be viewed as determinative of decisions of Superior National's Board
or management with respect to the Acquisition and the Equity Financings.

In arriving at its opinion, Merrill Lynch, among other things, reviewed
certain publicly available business and financial information relating to
Superior National and BIG; reviewed certain information, including financial
forecasts, relating to the businesses, earnings, cash flow, assets, liabilities
and prospects of Superior National and BIG; conducted discussions with members
of senior management of Superior National concerning, among other things, the
business and prospects of Superior National and BIG, before and after giving
effect to the Acquisition; reviewed the implied valuation multiples in the
Acquisition and the market price and valuation multiples of Superior National's
Common Stock and compared them with those of certain publicly traded companies;
reviewed the results of operations of Superior National and BIG and compared
them with those of certain publicly traded companies; compared the proposed
financial terms of the Acquisition with the financial terms of certain other
acquisition transactions; reviewed the pro forma impact of the Acquisition on
Superior National; reviewed the Acquisition Agreement, the Stock Purchase
Agreement and the form of Reinsurance Agreement; reviewed the most current draft
of the Proxy Statement relating to the Acquisition and the Company's
Registration Statements on Form S-1 relating to the Stock Offering and the
offering of Senior Notes; reviewed the terms of other rights offerings and
equity financings; and conducted such other analyses and investigations as
Merrill Lynch deemed appropriate for purposes of the Merrill Lynch Opinion.

In preparing the Merrill Lynch Opinion, Merrill Lynch relied on the
accuracy and completeness of all information supplied or otherwise made
available to Merrill Lynch, discussed with or reviewed by or for Merrill Lynch,
or publicly available. Merrill Lynch has not assumed responsibility for
independently verifying such information, has not undertaken an independent
evaluation or appraisal of the assets or liabilities, contingent or otherwise,
of Superior National or BIG and was not furnished with any such evaluation or
appraisal. Merrill Lynch is not an expert in the evaluation of allowances for
loss and loss adjustment expenses and has not made an independent evaluation of
the adequacy of the allowances for loss and loss adjustment expenses for each of
Superior National or BIG, nor has Merrill Lynch reviewed any individual policies
relating to Superior National or BIG. In addition, Merrill Lynch has not
conducted a physical inspection of the properties or facilities of Superior
National or BIG. With respect to the financial forecasts, including, without
limitation, the effects of the three-year quota share reinsurance arrangement
described in the Proxy Statement, Merrill Lynch assumed that they were
reasonably prepared and reflected the best currently available estimates,
allocations and judgement of Superior National's management as to the expected
future financial performance of Superior National or BIG, as the case may be.
Merrill Lynch expressed no opinion as to such financial forecasts or the
assumptions on which they were based. As to certain legal matters, Merrill Lynch
relied on advice of counsel to the Company. Merrill Lynch was not requested to,
nor did it, solicit the interest of any party in providing the Equity
Financings. Merrill Lynch was retained by the Company for the purpose of
rendering the Merrill Lynch Opinion and did not provide any other service in
connection with the Acquisition or the Equity Financings.

The Merrill Lynch Opinion is necessarily based upon market, economic and
other conditions as they existed on, and could be evaluated as of, the date of
such opinion. Although subsequent developments may affect the Merrill Lynch
Opinion, Merrill Lynch assumed no obligation to update, revise or reaffirm such
opinion. For purposes of rendering its opinion Merrill Lynch assumed that in the
course of obtaining the necessary regulatory or other consents or approvals
(contractual or otherwise) for the Acquisition and Equity Financings, no
restrictions, including any divestiture requirements or amendments or
modifications, will be imposed that will have a material adverse effect on the
contemplated benefits of the Acquisition. Merrill Lynch also assumed that the
rights (except for rights issued in respect of employee stock options and
unvested

44
<PAGE> 57

restricted shares of Superior National's Common Stock) will be transferable and
that the exercise period for the rights will be at least 30 days and that, as a
result, each recipient of rights (subject to the foregoing exception) will have
a reasonable opportunity to exercise or sell such rights.

The projections furnished to Merrill Lynch and used by it in certain of its
analyses were prepared by the senior management of Superior National in
connection with the Acquisition and were not prepared with a view towards public
disclosure. The projections were based on numerous variables and assumptions
which are inherently uncertain, including, without limitation, factors related
to general economic and competitive conditions, and accordingly, actual results
could vary significantly from those set forth in such projections.

The following is a summary of the material analyses presented by Merrill
Lynch to Superior National's Board of Directors on July 16, 1998, in connection
with the Merrill Lynch Opinion.

Summary of Proposal. Merrill Lynch reviewed the terms of the Acquisition
and Equity Financings. Based on the total transaction value of approximately
$285 million (including repayment of $121 million of existing debt), Merrill
Lynch calculated the price to book value, and price to earnings multiples for
BIG in the Acquisition. This analysis yielded a price to book value (as of
December 31, 1997) multiple of 0.63x, and a price to 1997 earnings (normalized
to exclude the effects of the reserve strengthening) multiple of 7.7x. Merrill
Lynch also reviewed the terms of the proposed Equity Financings, including the
discount offered in the Rights Offering and the amount of the fee for the
Standby Commitment. Based on the Subscription Price of $16.75, Merrill Lynch
calculated the discount of the Subscription Price to the 30 day average market
price of the Common Stock prior to the announcement date of the Acquisition (May
4, 1998). This analysis yielded a subscription discount of 17.9%.

Comparison of Comparable Specialty Property/Casualty ("P&C") Insurance
Companies -- BIG. Merrill Lynch compared selected operating results of BIG to
the publicly available corresponding data of certain other P&C insurance
companies which Merrill Lynch deemed to be relevant, including Orion Capital,
TIG Holdings, W.R. Berkeley Corp., HCC Insurance, Markel Corp., Frontier
Insurance, Medical Assurance, MMI Companies, Centris Group and Penn-America.
Merrill Lynch compared the price to 1998 and 1999 estimated earnings per share
("EPS") (based upon First Call estimates as of July 8, 1998 ("First Call
Estimates")), and price to book value as of March 31, 1998. This analysis
yielded a range of (i) price to 1998 estimated EPS multiples with a mean of
14.1x and a median of 13.8x, (ii) price to 1999 estimated EPS multiples with a
mean of 12.6x and a median of 12.2x, and (iii) price to book value multiples
with a mean of 1.7x and a median of 1.5x. This analysis yielded an overall
imputed market value reference range of BIG of $347.9 to $419.3 million.

No company used in the above analysis as a comparison is identical to BIG.
Accordingly, an analysis of the results of the foregoing necessarily involves
complex considerations and judgments concerning differences in financial and
operating characteristics of the companies and other factors that could affect
the public trading value of BIG and the companies to which it is being compared.

Comparison of Comparable Workers' Compensation Insurers -- BIG. Merrill
Lynch compared selected operating results of BIG to the publicly available
corresponding data of certain other workers compensation insurance companies
which Merrill Lynch deemed to be relevant, including Fremont General, Argonaut
Group, Zenith National Insurance, Paula Financial and Superior National. Merrill
Lynch compared the price to 1998 and 1999 estimated EPS (based on First Call
Estimates), and price to book value as of March 31, 1998. This analysis yielded
a range of (i) price to 1998 estimated EPS multiples with a mean of 16.1x and a
median of 16.5x, (ii) price to 1999 estimated EPS earnings with a mean of 14.6x
and a median of 13.8x, and (iii) price to book value multiples with a mean of
1.7x and a median of 1.6x. This analysis yielded an overall imputed market value
reference range of BIG of $394.5 to $419.9 million.

45
<PAGE> 58

Analysis of Recent P&C Insurance Acquisition Transactions -- BIG. Merrill
Lynch reviewed publicly available information regarding 17 P&C insurance
acquisition transactions which had occurred in the United States since June 1,
1996 that it deemed to be relevant (the "Comparable P&C Transactions"). The
Comparable P&C Transactions and the month in which they were announced are:
Berkshire Hathaway's proposed acquisition of General Re (June, 1998), GRE's
proposed acquisition of ING P&C (June, 1998), Nationwide's proposed acquisition
of ALLIED Group (May, 1998), ACE's proposed acquisition of CAT Limited (March,
1998), Exel's proposed acquisition of Mid Ocean (March, 1998), Fairfax's
proposed acquisition of Crum & Forster (March, 1998), Cendent's proposed
acquisition of American Bankers (January, 1998), St. Paul's acquisition of USF&G
(January, 1998), HFS's proposed acquisition of Providian (December, 1997),
Hartford Financial's acquisition of Omni (October, 1997), USF&G's acquisition of
Titan (August, 1997), GECC's acquisition of Colonial Penn (June, 1997), GMAC's
acquisition of Integon (June, 1997), Safeco's acquisition of American States
(June, 1997), Vesta's acquisition of Anthem (April, 1997), Allmerica's
acquisition of Allmerica P&C (December, 1996), and Berkshire Hathaway's
acquisition of GEICO (August, 1996). Merrill Lynch compared the equity value to
book value, equity value to last twelve month operating earnings, equity value
to forward operating earnings, enterprise value (defined as equity value plus
debt assumed) to statutory net premium written, enterprise value to statutory
surplus, and enterprise value to last twelve month statutory operating earnings.
This analysis yielded a range of (i) equity value to book value multiples with a
mean of 2.36x and a median of 2.13x (compared with multiple of 0.63x for BIG in
the Acquisition), (ii) equity value to last twelve month operating earnings
multiples with a mean of 20.9x and a median of 20.5x (the multiple of BIG in the
Acquisition is not calculatable because of negative earnings), (iii) equity
value to forward operating earnings multiples with a mean of 18.8x and a median
of 20.2x (the multiple of BIG in the Acquisition is not calculatable because of
negative earnings), (iv) enterprise value to statutory net premium written
multiples with a mean of 3.15x and a median of 1.70x (compared with a multiple
of 0.54x for BIG in the Acquisition), (v) enterprise value to statutory surplus
multiples with a mean of 3.71x and a median of 3.46x (compared with a multiple
of 1.10x for BIG in the Acquisition), and (vi) enterprise value to statutory
last twelve month operating earnings multiples with a mean of 20.8x and a median
of 19.6x multiple. This analysis yielded an overall imputed equity value
reference range of BIG of $526.1 to $582.0 million, and an enterprise value
reference range of $894.3 to $1,658.3 million, based on the mean and median
imputed ranges.

No company or transaction used in the above analysis as a comparison is
identical to BIG or the Acquisition. Accordingly, an analysis of the results of
the foregoing necessarily involves complex considerations and judgments
concerning differences in financial and operating characteristics of the
companies and other factors that could affect the public trading value of BIG
and the companies to which it is being compared.

Analysis of Recent Workers' Compensation Acquisition
Transactions -- BIG. Merrill Lynch reviewed publicly available information
regarding four workers compensation acquisition transactions which had occurred
in the United States since June 1, 1994 that it deemed to be relevant (the
"Comparable Workers' Comp Transactions"). The Comparable Workers' Comp
Transactions and the month in which they were announced are: Fremont General's
acquisition of Industrial Indemnity (May, 1997), Delphi Financial Group Inc.'s
acquisition of SIG Holding (October, 1995), W.R. Berkeley's acquisition of
Midwest Employers Casualty (September, 1995) and Fremont General's acquisition
of Casualty Insurance Co. (October, 1994). Merrill Lynch compared the equity
value to last twelve month operating earnings, equity value to book value,
enterprise value to statutory surplus, enterprise value to statutory net premium
written, and enterprise value to last full calendar year statutory operating
earnings. This analysis yielded a range of (i) equity value to last twelve month
operating earnings multiples with a mean of 11.79x and a median of 8.55x (the
multiple of BIG in the Acquisition is not calculatable because of negative
earnings), (ii) equity value to book value multiples with a mean of 1.19x and a
median of 1.06x (compared with multiple of 0.63x for BIG in the Acquisition),
(iii) enterprise value to statutory surplus multiples with a mean of 2.02x and a
median of 1.64x, (compared with a multiple of 1.10x for BIG in the Acquisition),
(iv) enterprise value to statutory net premium written multiples with a mean of
2.21x and a median of 2.34x (compared with a multiple of 0.55x for BIG in the
Acquisition), and (v) enterprise value to last full calendar year statutory
operating earnings with a mean of 11.88x and a median of 10.87x (the multiple of
BIG in the Acquisition is not calculatable because of negative
46
<PAGE> 59

earnings). This analysis yielded an overall imputed equity value reference range
of BIG of $262.7 to $293.3 million, and an enterprise value reference range of
BIG of $422.7 to $1213.2 million, based on the mean and median imputed ranges.

Pro Forma Merger Analysis. Based on projections provided by Superior
National, assuming $2, $5 and $8 million in cost savings for 1999, 2000 and
2001, respectively, Merrill Lynch analyzed certain pro forma effects of the
Acquisition. This analysis indicated that the Acquisition would be accretive to
Superior National's 1999, 2000 and 2001 projected EPS by 12.4%, 3.9% and 5.3%,
respectively, and that the Acquisition would be accretive to Superior National's
book value in 1998. In this analysis, Merrill Lynch assumed that Superior
National performed in accordance with the earnings forecasts provided to Merrill
Lynch by Superior National's senior management, which included the effects of
the large account quota share reinsurance contract. The results described in pro
forma merger analysis are not necessarily indicative of future operating results
or financial position.

Discounted Cash Flow Analysis -- BIG. Merrill Lynch discounted estimated
cash flows of BIG through the end of 2002 and an estimated terminal value of BIG
based on estimated net income of BIG in 2002 using discount rates ranging from
10% to 14%. Available dividends were calculated based on the greater of 10% of
prior year's statutory surplus or statutory net income. Merrill Lynch derived an
estimate of a range of terminal values by applying multiples ranging from 10.0x
to 14.0x to estimated year-end 2002 net income. These rates and values were
chosen to reflect different assumptions regarding the required rates of return
of holders or prospective buyers of BIG. This analysis, and its underlying
assumption, yielded a range of values for BIG of approximately $311.9 to $447.7
million.

Discounted Cash Flow Analysis -- Superior National. Merrill Lynch
discounted estimated cash flows of Superior National through the end of 2002 and
an estimated terminal value of Superior National, assuming net income based on
Superior National's management estimates and a dividend rate equal to the
greater of 10% of prior year's statutory surplus or statutory net income, and
using discount rates ranging from 10% to 14%. Merrill Lynch derived an estimate
of a range of terminal values by applying multiples ranging from 12.0x to 16.0x
to estimated year-end 2002 net income. These rates and values were chosen to
reflect different assumptions regarding the required rates of return of holders
or prospective buyers of Superior National's Common Stock. This analysis, and
its underlying assumption, yielded a range of aggregate values for Superior
National of approximately $188.2 to $262.0 million, and a range of per share
values for Superior National of approximately $11.21 to $20.69.

Discounted Dividend Analysis -- Superior National. Using a discounted
dividend analysis, Merrill Lynch estimated the present value of Superior
National's dividendable net income on both a stand-alone and pro forma basis
from 1999 through 2003. In this analysis, Merrill Lynch assumed that Superior
National performed in accordance with the earnings forecasts provided to Merrill
Lynch by Superior National's senior management. Merrill Lynch estimated the
terminal values for Superior National's Common Stock at 13.0x, 14.0x, 15.0x and
16.0x Superior National's estimated year-end 2003 net income. The dividendable
net income streams and terminal values were then discounted to present values
using discount rates ranging from 10% to 14% chosen to reflect different
assumptions regarding required rates of return of holders or prospective buyers
of Superior National's Common Stock. On a stand-alone basis, this discounted
dividend analysis indicated a range of aggregate value for Superior National of
$166.6 million to $245.1 million, and a range of per share values for Superior
National of approximately $20.66 to $30.40. On a pro forma basis, this
discounted dividend analysis indicated a range of aggregate value for Superior
National of $504.8 million to $742.7 million, and a range of per share values
for Superior National of approximately $24.51 to $36.06. As indicated above,
this analysis is not necessarily indicative of actual values or actual future
results and does not purport to reflect the prices at which any securities may
trade at the present or at any time in the future. Merrill Lynch noted that

47
<PAGE> 60

the discounted dividend stream analysis is a widely used valuation methodology,
but the results of such methodology are highly dependent upon the numerous
assumptions that must be made, including earnings growth rates, dividend payout
rates, terminal values and discount rates.

Analysis of Recent Financial Services Rights Offerings. Merrill Lynch
reviewed publicly available information regarding 55 rights offerings by
financial services companies which had occurred in the United States since
January 1, 1990 that it deemed to be relevant. Merrill Lynch compared the
discount (premium) of the subscription price in the applicable rights offering
to the last reported sale price of the applicable common stock prior to the
commencement of such rights offering. This analysis yielded a range of (i)
discount to last reported sale price of 1.3% to 65.0%, with a mean of 23.1%, for
rights offerings with over $25 million of common stock issuable, (ii) discount
to last reported sale price of 0.0% to 123.1%, with a mean of 23.5%, for all
rights offerings with below $25 million of common stock issuable, (iii) discount
to last reported sale price of 0.0% to 123.1%, with a mean of 22.9%, for all
rights offerings, (iv) discount to last reported sale price of 1.4% to 56.3%,
with a mean of 21.2%, for underwritten rights offerings with over $25 million of
common stock issuable, (v) discount to last reported sale price of 7.5% to
123.1%, with a mean of 31.3%, for underwritten rights offerings with below $25
million of common stock issuable, (vi) discount to last reported sale price of
1.4% to 123.1%, with a mean of 27.0%, for all underwritten rights offerings,
(vii) discount to last reported sale price of 1.3% to 65.0%, with a mean of
27.2%, for non-underwritten rights offerings with over $25 million of common
stock issuable, (viii) discount to last reported sale price of 0.0% to 100.0%,
with a mean of 18.5%, for non-underwritten rights offerings with below $25
million of common stock issuable, and (ix) discount to last reported sale price
of 0.0% to 100.0% with a mean of 20.1% for all non-underwritten rights
offerings. These figures compare with a 34.3% discount to last reported sale
price on July 13, 1998 for the Rights Offering.

No company or rights offering used in the above analysis as a comparison is
identical to Superior National or the Rights Offering. Accordingly, an analysis
of the results of the foregoing necessarily involves complex considerations and
judgments concerning differences in financial and operating characteristics of
the companies and other factors that could affect the discount offered by
Superior National and the companies to which it is being compared.

Analysis of Selected Rights Offerings With Standby Commitment. Merrill
Lynch reviewed publicly available information regarding 14 rights offerings
which included standby commitments to purchase shares not subscribed for in the
rights offering which had occurred in the United States since July 1, 1991 that
it deemed to be relevant. Merrill Lynch compared the discount (premium) of the
subscription price in the rights offering to the last reported sale price of the
applicable common stock prior to such rights offering, the discount (premium) of
the subscription price in applicable rights offering to the last trading price
of the applicable common stock prior to public announcement of such rights
offering, the fee paid for the standby commitment to the commitment amount, and
the fee paid for the standby commitment to the rights offering size. This
analysis yielded a range of (i) discount (premium) to last reported sale price
prior to such rights offering of (7.0%) to 143.4%, with a mean of 24.7%
(compared with a 34.3% discount to last reported sale price on July 13, 1998,
for the Rights Offering), (ii) discount to last trading price prior to public
announcement of 3.6% to 43.1%, with a mean of 23.6% (compared with a 22.4%
discount to the last trading price of Superior National's Common Stock prior to
the public announcement of the Rights Offering), (iii) fee to commitment amount
of 0.0% to 6.1%, with a mean of 2.1% (compared with a 7.7% fee to commitment
amount for the Rights Offering), and (iv) fee to rights offering size of 0.0% to
6.1%, with a mean of 1.7% (compared with a 7.7% fee to rights offering size for
the Rights Offering).

No company or offering used in the above analysis as a comparison is
identical to Superior National or the Rights Offering. Accordingly, an analysis
of the results of the foregoing necessarily involves complex considerations and
judgments concerning differences in financial and operating characteristics of
the companies and other factors that could affect the discount offered and
standby commitment fee paid by Superior National and the companies to which it
is being compared.

Analysis of Selected Public Offerings. Merrill Lynch reviewed publicly
available information regarding 33 public offerings of common stock (not
including initial public offerings) that occurred in the United States

48
<PAGE> 61

since January 1, 1996 for which the amount of shares offered was equal to or
greater than shares outstanding before the offering. Merrill Lynch compared the
discount of the offering price to the last reported sale price prior to such
offering of the applicable common stock. This analysis yielded a range of
discount (premium) to last reported sale price of (13.5%) to 64.3%, with a mean
of 17.8% (compared with a 34.3% discount to last reported sale price of Superior
National's Common Stock on July 13, 1998, for the Equity Financings).

No company or offering used in the above analysis as a comparison is
identical to Superior National or the Equity Financings. Accordingly, an
analysis of the results of the foregoing necessarily involves complex
considerations and judgments concerning differences in financial and operating
characteristics of the companies and other factors that could affect the
discount offered by Superior National and the companies to which it is being
compared.

Pro Forma Ownership Analysis. Based on information provided by Superior
National, Merrill Lynch analyzed pro forma ownership profile of Superior
National for the Equity Financings. This analysis indicated that excluding
warrants issued in payment of the standby commitment fee (the "Commitment
Warrants"), ownership of IP and certain related parties of IP would increase
from 45.5% to 54.7%, total public holdings would decrease from 43.1% to 35.8%,
and management holdings would decrease from 8.6% to 7.1%, on a fully diluted
basis, including Commitment Warrants, ownership of IP and certain related
parties would increase from 45.5% to 56.2%, total public holdings would decrease
from 43.1% to 34.6%, and management holding would decrease from 8.6% to 6.9% on
a fully diluted basis. In this analysis, Merrill Lynch assumed that all Rights
are exercised by recipients.

Black-Scholes Option Pricing Model Analysis. Merrill Lynch analyzed the
value of the Commitment Warrants. Such warrants have a strike price of $16.75,
and an assumed expiration date of July 13, 2003 for purposes of the Merrill
Lynch Opinion. Merrill Lynch valued the warrants based on the Black-Scholes
model using different volatility (ranging from 25% to 50%) and assuming a 5.06%
interest rate, zero dividend yield and different prices for Superior National's
Common Stock (ranging from $19.78 to $23.00). This analysis, and its underlying
assumptions, yielded a range of values for the warrants of $8.15 million to
$13.63 million.

In connection with its opinion dated as of the date of this Proxy
Statement, Merrill Lynch performed procedures to update, as necessary, certain
of the analyses described above and reviewed the assumptions on which such
analyses described above were based and the factors considered in connection
therewith. Merrill Lynch did not perform any analyses in addition to those
described above in updating its July 16, 1998 opinion.

Superior National retained Merrill Lynch based upon Merrill Lynch's
experience and expertise. Merrill Lynch is an internationally recognized
investment banking and advisory firm. Merrill Lynch, as part of its investment
banking business, is continuously engaged in the valuation of businesses and
securities in connection with mergers and acquisitions, negotiated
underwritings, competitive biddings, secondary distributions of listed and
unlisted securities, private placements and valuations for corporate and other
purposes. In the ordinary course of its business, Merrill Lynch and its
affiliates may actively trade the debt and/or equity securities of Superior
National or Foundation Health Systems, the parent of FHC and BIG, for their own
account and for the accounts of customers and, accordingly, may at any time hold
a long or short position in such securities. In addition, an affiliate of
Merrill Lynch has committed to make a limited partnership investment in a new
fund which is one of the entities constituting IP for purposes of the Stock
Purchase Agreement.

The Company and Merrill Lynch have entered into an amended letter agreement
dated July 14, 1998, relating to the services to be provided by Merrill Lynch in
connection with the Merger. The Company has agreed to pay Merrill Lynch fees as
follows: (i) a cash fee of $50,000, which was paid upon the execution of the
letter agreement, and (ii) a cash fee of $950,000, which was payable upon
delivery of the Merrill Lynch Opinion. In such letter, the Company also agreed
to reimburse Merrill Lynch for its reasonable out-of-pocket expenses incurred in
connection with its advisory work, including the reasonable fees and
disbursements of its legal counsel, and to indemnify Merrill Lynch against
certain liabilities relating to or arising out of the Acquisition, and the
Equity Financings, including liabilities under the federal securities laws.

49
<PAGE> 62

UNAUDITED PRO FORMA FINANCIAL INFORMATION

The following Unaudited Pro Forma Financial Information of the Company for
the three months ended March 31, 1998 and the year ended December 31, 1997
presents the results of operations for the Company as if the Acquisition had
been consummated as of the beginning of each period presented. The pro forma
adjustments are based on available information and certain assumptions the
Company currently believes are reasonable in the circumstances. The Unaudited
Pro Forma Financial Information has been derived from and should be read in
conjunction with the historical Consolidated Financial Statements and Notes of
the Company for the three months ended March 31, 1998 (unaudited) and the year
ended December 31, 1997 and the historical Combined Financial Statements and
Notes of BIG for the three months ended March 31, 1998 (unaudited) and the year
ended December 31, 1997 contained elsewhere herein, and should be read in
conjunction with the accompanying Notes to Unaudited Pro Forma Financial
Information.

The pro forma information is presented for illustrative purposes only and
is not necessarily indicative of the results of operations that would have
occurred had the Acquisition been consummated on the dates assumed, nor is the
pro forma information intended to be indicative of the Company's future results
of operations.

50
<PAGE> 63

UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET

<TABLE>
<CAPTION>
AS OF MARCH 31, 1998
------------------------------------------------------
PURCHASE
SUPERIOR ACCOUNTING PRO FORMA
NATIONAL BIG ADJUSTMENT(1) COMBINED
-------- ---------- ------------- ----------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
ASSETS
Investments:
Bonds and notes:
Available-for-sale, at market................ $210,065 $ 656,829 $ $ 866,894
Held-to-maturity, at amortized value......... -- 14,020 14,020
Equity securities, at market................... 1,980 -- 1,980
Real estate.................................... -- 29,658 (29,658)(a) --
Note from parent................................. -- 10,000 (10,000)(b) --
Cash and short-term, at market................... 16,490 81,319 29,658(a) 163,071
10,194(b)
10,506(c)
107,000(e)
193,100(f)
(5,796)(g)
(285,000)(h)
5,600(i)
-------- ---------- --------- ----------
Total investments......................... 228,535 791,826 25,604 1,045,965
Reinsurance receivables............................ 55,598 216,101 271,699
Premiums receivable................................ 21,655 75,906 97,561
Earned but unbilled premiums receivable............ 12,791 22,155 34,946
Accrued investment income.......................... 2,331 11,092 (194)(b) 13,229
Deferred policy acquisition costs.................. 5,987 24,681 30,668
Income tax receivable.............................. -- 10,506 (10,506)(c) --
Deferred income taxes.............................. 12,428 17,793 (17,793)(j) 12,428
Funds held by reinsurer............................ 4,186 -- 4,186
Prepaid reinsurance premiums....................... 5,381 -- 5,381
Goodwill........................................... 35,583 13,951 (13,951)(k) 35,583
Prepaid and other.................................. 17,033 21,011 38,044
-------- ---------- --------- ----------
Total Assets.............................. $401,508 $1,205,022 $ (16,840) $1,589,690
======== ========== ========= ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Claim and claim adjustment expenses................ $180,333 $ 713,473 $ 893,806
Unearned premiums.................................. 14,610 49,469 64,079
Reinsurance payable................................ 7,383 24,571 31,954
Long-term debt..................................... 30 121,750 $(121,750)(d) 107,030
107,000(e)
Deferred credit -- negative goodwill............... 83,771(h) 57,627
5,600(i)
(17,793)(j)
(13,951)(k)
Policyholder dividends............................. 1,370 2,823 4,193
Capital lease...................................... 7,191 -- 7,191
Accounts payable and other liabilities............. 27,492 45,915 (5,796)(g) 67,611
-------- ---------- --------- ----------
Total Liabilities......................... 238,409 958,001 37,081 1,233,491
Trust preferred securities......................... 101,291 -- 101,291
Stockholders' equity
Common stock....................................... 34,316 167,416 193,100(f) 227,416
(167,416)(h)
Paid-in capital warrants........................... 2,206 -- 2,206
Accumulated other comprehensive income............. --
Unrealized gain on investments, net of taxes....... 1,407 3,726 (3,726)(h) 1,407
Retained earnings.................................. 23,879 75,879 121,750(d) 23,879
(197,629)(h)
-------- ---------- --------- ----------
Total Stockholders' Equity................ 61,808 247,021 (53,921) 254,908
-------- ---------- --------- ----------
Total Liabilities and Stockholders'
Equity.................................. $401,508 $1,205,022 $ (16,840) $1,589,690
======== ========== ========= ==========
</TABLE>

Footnotes on following page

51
<PAGE> 64

- ------------------------------
(1) Description of Pro Forma Adjustments

(a) Adjustment represents the sale of real estate to FHS at current book value,
pursuant to the Acquisition Agreement.

(b) Adjustment represents FHC's repayment of an intercompany promissory note
including principal and interest, pursuant to the Acquisition Agreement.

(d) Adjustment represents FHC's forgiveness of intercompany debt at the time of
the Acquisition, pursuant to the Acquisition Agreement.

(e) Adjustment represents the sale of Senior Notes, net of transaction costs, in
connection with the Acquisition.

(f) Adjustment represents the Equity Financings, net of transaction costs, in
connection with the Acquisition.

(g) Adjustment to settle intercompany payable arising in the ordinary course of
business with FHS, pursuant to the Acquisition Agreement.

(h) Adjustment represents payment of $285.0 million to FHC for acquisition of
BIG and corresponding adjustment to Common Stock and additional paid-in
capital to reflect the elimination of BIG's stockholders' equity interest.

(i) Adjustment represents the sale of BICO to Zurich Centre Group LLC for
estimated proceeds of $5.6 million. The Company will retain BICO's
insurance business, infrastructure, liabilities, and employees.

(j) Adjustment represents the elimination of the deferred tax asset related to
the election under Section 338(h) of the Code taken by FHC.

(k) Adjustment represents the elimination of BIG's goodwill existing prior to
the Acquisition.

52
<PAGE> 65

PRO FORMA FINANCIAL INFORMATION
ACQUISITION OF BUSINESS INSURANCE GROUP, INC. BY SUPERIOR NATIONAL INSURANCE
GROUP, INC.
PURCHASE ACCOUNTING METHOD
UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31, 1998
-------------------------------------------------
PRO
FORMA
ADJUST-
MENTS PRO
SUPERIOR INC. FORMA
NATIONAL BIG (DECR)(1) COMBINED
---------- -------- --------- -----------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
REVENUES:
Net premiums earned..... $ 30,587 $139,612 (102,894)(j) $ 67,305
Net investment income
and capital gains..... 4,253 9,853 (519)(a) 13,587
Other income............ -- 166 166
---------- -------- --------- -----------
Total
Revenues...... 34,840 149,631 (103,413) 81,058
EXPENSES:
Claim and claim
adjustment expenses,
net of reinsurance.... 18,288 114,286 (76,759)(j) 55,815
Underwriting and general
and administrative
expenses.............. 9,991 42,132 (34,470)(j) 17,653
Policyholder
dividends............. 120 120
Goodwill amortization... 304 309 (309)(c) (220)
(524)(d)
Interest expense........ -- 2,359 (2,359)(e) 2,338
2,338(b)
Other expense........... 179 -- -- 179
---------- -------- --------- -----------
Total
Expenses...... 28,762 159,206 (112,083) 75,885
---------- -------- --------- -----------
Income (loss) before
income taxes,
preferred securities
dividends and
accretion,
discontinued
operations,
extraordinary items,
and cumulative effect
of change in
accounting for income
taxes................. 6,078 (9,575) 8,670 5,173
Income tax expense
(benefit)............. 2,311 (5,394) 4,767(i) 1,684
---------- -------- --------- -----------
Income (loss) before
preferred securities
dividends and
accretion, and
extraordinary items... $ 3,767 $ (4,181) $ 3,903 $ 3,489
========== ======== ========= ===========
BASIC EPS:
Per Common Share:
Net income (loss)....... $ 0.64 $ 0.20
Weighted average shares
outstanding........... 5,874,054 17,814,353
DILUTED EPS:
Per Common Share:
Net income (loss)....... $ 0.48 $ 0.18
Weighted average shares
outstanding........... 7,781,614 19,721,912
OTHER DATA (UNAUDITED):
EBITDA.................. 6,601 7,748
Ratio of earnings to
fixed charges and
distributions on
preferred
securities............ 1.55x
Ratio of EBITDA to
distributions on
preferred
securities............ 1.84x
Ratio of preferred
securities to
EBITDA................ 13.07x

<CAPTION>
YEAR ENDED DECEMBER 31, 1997
--------------------------------------------------------------
PRO
FORMA
ADJUST-
MENTS PRO
SUPERIOR PAC INC. FORMA
NATIONAL(2) RIM(3) BIG (DECR)(1) COMBINED
----------- --------- -------- --------- -----------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C>
REVENUES:
Net premiums earned..... $ 140,920 $ 19,507 $515,272 (379,755)(j) $ 295,944
Net investment income
and capital gains..... 12,674 1,449 44,724 (1,996)(a) 56,851
Other income............ -- -- 3,512 3,512
---------- --------- -------- --------- -----------
Total
Revenues...... 153,594 20,956 563,508 (381,751) 356,307
EXPENSES:
Claim and claim
adjustment expenses,
net of reinsurance.... 90,447 25,841 443,204 (12,000)(g) 264,194
(283,298)(j)
Underwriting and general
and administrative
expenses.............. 37,695 10,769 168,187 (900)(f) 86,236
(2,297)(h)
(127,218)(j)
Policyholder
dividends............. -- 1,006 793 1,799
Goodwill amortization... 1,039 -- 1,262 (1,262)(c) (1,057)
(2,096)(d)
Interest expense........ 6,335 589 8,326 (8,326)(e) 16,274
9,350(b)
Other expense........... 817 -- -- -- 817
---------- --------- -------- --------- -----------
Total
Expenses...... 136,333 38,205 621,772 (428,047) 368,263
---------- --------- -------- --------- -----------
Income (loss) before
income taxes,
preferred securities
dividends and
accretion,
discontinued
operations,
extraordinary items,
and cumulative effect
of change in
accounting for income
taxes................. 17,261 (17,249) (58,264) 46,296 (11,956)
Income tax expense
(benefit)............. 6,437 612 (28,847) 17,374(i) (4,424)
---------- --------- -------- --------- -----------
Income (loss) before
preferred securities
dividends and
accretion, and
extraordinary items... $ 10,824 $ (17,861) $(29,417) $ 28,922 $ (7,532)
========== ========= ======== ========= ===========
BASIC EPS:
Per Common Share:
Net income (loss)....... $ 2.06 $ (0.44)
Weighted average shares
outstanding........... 5,249,736 17,190,034
DILUTED EPS:
Per Common Share:
Net income (loss)....... $ 1.54 $ (0.40)
Weighted average shares
outstanding........... 7,016,165 18,956,463
OTHER DATA (UNAUDITED):
EBITDA.................. 24,749 3,791
Ratio of earnings to
fixed charges and
distributions on
preferred
securities............ 0.47x
Ratio of EBITDA to
distributions on
preferred
securities............ 0.20x
Ratio of preferred
securities to
EBITDA................ 26.72x
</TABLE>

Footnotes on following page
53
<PAGE> 66

- ------------------------------
(1) Description of Pro Forma Adjustments.

(a) Adjustment represents the elimination of net investment income for real
estate sold to FHC and interest on the promissory note from FHC, pursuant to
the Acquisition Agreement.

(b) Adjustment represents estimated interest expense on the $110.0 million of
Senior Notes issued in conjunction with the Acquisition. The Company is
using an estimated interest rate of 8.5% for purposes of this calculation.

(d) Adjustment represents the amortization of the negative goodwill (deferred
credit) on a straight line basis over 27.5 years.

(e) Adjustment represents the elimination of the interest expense associated
with $121.7 million of intercompany debt that will be settled by FHC at the
time of the Acquisition.

(f) Adjustment represents elimination of a one-time charge for the
discontinuance of the executive deferred compensation plan.

(g) Adjustment represents a portion of the adverse development recorded in 1997
by Pac Rim for accident years 1995 and prior. The recording of adverse
development amounts in Pac Rim's 1996 and 1997 Statement of Operations was
required by regulatory authorities as a condition to the Company's
acquisition of Pac Rim.

(h) Adjustment represents the cost reductions expected to be achieved under the
Company's business plan to integrate the operations of Pac Rim into Superior
Pacific, based upon cost reductions achieved during the remainder of 1997.

<TABLE>
<CAPTION>
FIRST THREE MONTHS
1997 COMBINED
PROJECTED SAVINGS
------------------
(IN THOUSANDS)
<S> <C>
Payroll reductions for the elimination of duplicative
personnel (A)............................................. $1,556
Cancellation of data processing outsourcing agreement (B)... 213
Sublease of excess office space at current market price..... 237
Elimination of other duplicative corporate costs including
outside audit fees, executive travel, director and
officers insurance, payroll processing, and cancellation
of line of credit (C)..................................... 248
Rate differential between SNIC's excess of loss reinsurance
treaties and Pac Rim reinsurance treaties................. 43
------
$2,297
======
</TABLE>

(A) Upon consummation of the Pac Rim Transaction, the Company immediately
began the process of absorbing the operations of Pac Rim into the
Company's existing operations. At the time the Pac Rim Transaction was
announced the Company had approximately 360 employees and Pac Rim had
approximately 270 employees.

Within nine months following the consummation of the Pac Rim
Transaction, approximately 225 employees of Pac Rim were released or
resigned. The remaining employees have been retained.

Immediately upon consummation of the Pac Rim Transaction and subsequent
to the consummation of the Pac Rim Transaction, the Company added staff
to its existing operations to support the operations acquired from Pac
Rim. As of nine months following the Pac Rim Transaction, the Company
had completed its staff increases, and was performing substantially all
of the administrative functions in its Calabasas, California
headquarters. The net increase in staff by the Company related to the
Pac Rim Transaction was approximately 30 employees. The Pac Rim
employees terminated included substantially all of its executive
management. The additional employees added by the Company were
primarily line employees.

In preparing the pro-forma salary adjustment, the ongoing salary
expenses relating to the new employees hired were included. These
salary costs are expected to represent the level of salaries needed to
manage the operations acquired from Pac Rim on an ongoing basis.

(B) In 1992, Pac Rim entered into an agreement with an outside vendor to
assume substantially all of its data processing responsibilities.
During 1996, Pac Rim paid approximately $1.7 million to the outside
vendor for services provided. The Company, at the time of the Pac Rim
Transaction, terminated the contract and has assumed all data
processing responsibilities for Pac Rim's operations.

54
<PAGE> 67

(C) Represents savings from the elimination of certain duplicate services
that both the Company and Pac Rim contracted out or obtained through
outsourcing agreements. These savings have been presented net of
projected cost increases to the Company because additional costs are
expected to arise as a result of the Pac Rim Transaction.

(i) Adjustment represents the tax effect of the pro forma adjustments,
excluding goodwill.

(j) Adjustment represents the Quota-Share Arrangement entered into May 1, 1998
in connection with the Acquisition of BIG. Under the terms of the
Quota-Share Arrangement both Superior Pacific and BIG cede 100% of the
premiums and losses for policies with an estimated annual premium of
$25,000 or greater at inception.

(2) The results of Superior National for the year ended December 31, 1997
include the results of Pac Rim for periods subsequent to April 1, 1997.

(3) Pac Rim was acquired on April 11, 1997. The results of operations presented
are for the period January 1, 1997 through March 31, 1997.

55
<PAGE> 68

PROPOSAL NO. 1 -- THE STOCK OFFERING

INTRODUCTION

The Board of Directors believes that the best interests of the Company and
its stockholders will be served by approval of the approximately $109.7 million
Stock Offering, consisting of the Rights Offering and the Employee
Participation, as described below. Under the Rights Offering, the Company will
issue to each existing stockholder (other than IP Delaware and IP Bermuda) and
warrant holder (other than warrant holders exercising preemptive rights in
connection with the IP Stock Issuance) on the record date for the Rights
Offering one transferable Right per share of Common Stock held (or share of
Common Stock issuable upon the exercise of a warrant) with each Right being
exercisable to purchase one share of Common Stock for the Subscription Price of
$16.75 per share. The Employee Participation consists of the grant of an
opportunity to participate in the Stock Offering for employees and consultants
of the Company holding vested and unvested stock options and grants of
Restricted Stock of the Company, all of which have been issued under the terms
of equity incentive plans previously approved by the Company's stockholders. The
opportunity to participate will be effected through the same form of Right
issued pursuant to the Rights Offering, except that each employee or consultant,
in order to participate, will be required to agree that his or her Rights are
non-transferrable. In addition the Board of Directors has approved certain
financing arrangements for participating employees and has imposed one-year
restrictions on the transferability of the Common Stock so purchased.

The principal reason for the Stock Offering is to provide the Company a
portion of the cash it needs to fund its acquisition of BIG. For a description
of the Acquisition, see "Acquisition of Business Insurance Group,
Inc. -- Background to Proposals No. 1 and No. 2." In the event no warrant
holders exercise preemptive rights in connection with the IP Stock Issuance, and
all Rights are exercised in the Rights Offering and Employee Participation, the
Company would issue a total of 6,548,664 shares of Common Stock in the Stock
Offering, with gross proceeds of $109.7 million. Because it is likely a number
of Rights will not be exercised the Company expects that the gross proceeds of
the Stock Offering, together with the Standby Commitment, will be approximately
$106.0 million. The proceeds, together with the proceeds from the Senior Notes
Offering and the IP Stock Issuance, will be used to fund the $285.0 million
purchase price for BIG. The amounts obtained in excess of $285.0 million will be
used for transaction costs in connection with the Acquisition and these related
financing transactions, for capital for the Company's insurance subsidiaries,
and for general corporate purposes. Stockholders are urged to read carefully the
following sections of this Proxy Statement, including the related annexes,
before voting on this proposal.

The completion of the Acquisition and the Senior Notes Offering is a
condition to consummation of the Stock Offering. Should the Acquisition not
close, all funds received pursuant to the exercise of Rights issued in the Stock
Offering will be returned, without interest. The Board of Directors has agreed
to the Acquisition for the reasons set forth in this Proxy Statement, and its
consummation is subject to certain customary conditions. See "Acquisition of
Business Insurance Group, Inc. -- Background to Proposals No. 1 and No. 2."

The affirmative vote of the holders of a majority of the outstanding shares
of Common Stock voting at a meeting at which a quorum is present is required to
approve the Stock Offering. The Stock Offering has been unanimously approved by
the Board of Directors. The Board of Directors has determined the Stock Offering
is fair and in the best interests of the Company and its stockholders. THE BOARD
OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS VOTE IN FAVOR OF
PROPOSAL NO. 1.

THE STOCK OFFERING

The Rights Offering

The Stock Offering consists of the Rights Offering and the Employee
Participation. In the Rights Offering, the Company will distribute to each
holder of Common Stock (other than IP Delaware and IP Bermuda) and warrants
(other than warrant holders exercising preemptive rights in connection with the
IP Stock Issuance) one Right for each share of Common Stock owned (or issuable
upon the exercise of a

56
<PAGE> 69

warrant) as of the record date for the Rights Offering. Each Right will entitle
the holder thereof to purchase one share of Common Stock for the Subscription
Price ($16.75 per share of Common Stock).

Commencement; Expiration; No Revocation. If the stockholders approve the
Stock Offering, the Rights Offering and Employee Participation will commence no
later than the second business day following the Annual Meeting and will expire
at 5:00 p.m. on the Expiration Date, which will be no less than 30 days after
they began. The Company may extend the Expiration Date and will announce any
extension thereof by not later than 9:00 a.m., Eastern time, on the business day
following the previously scheduled Expiration Date. Any extension of the
Expiration Date will be for at least three Nasdaq trading days. After the
Expiration Date, unexercised Rights will be null and void. Once a holder of
Rights has exercised the Subscription Privilege, that exercise may not be
revoked.

Transferability. Upon effectiveness of the Registration Statement filed
with respect to the Rights, the Rights issued in the Rights Offering will be
transferable and it is expected that they will trade on Nasdaq under the symbol
" " until the close of business on the last Nasdaq trading day
prior to the Expiration Date. The Rights issued in the Employee Participation
will not be transferrable.

Mechanics of Exercise and Delivery of Common Shares. Each Right will
entitle the holder thereof to receive, upon payment of the Subscription Price,
one share of Common Stock. One Right for each outstanding share of Common Stock
(or each share issuable upon the exercise of warrants) will be issued without
cost to eligible stockholders (or warrant holders) of record on the Rights
Offering record date. Prior to the Expiration Date, holders would be able to
exercise the Rights by transmitting the Subscription Certificate and the
Subscription Price to the Company's Subscription Agent. The Subscription Price
must be delivered in funds that are immediately available on or prior to the
Expiration Date. Upon confirmation that the funds were received, the person
exercising the Right will become entitled to receive one share of Common Stock
per exercised Right immediately after the Closing, which is expected to occur
two to three weeks after the Expiration Date. Should the Acquisition not close,
funds would be returned by the Subscription Agent, without interest.

Determination of the Subscription Price. The Subscription Price was
determined by negotiations between the Company and IP. The Company's objective
in establishing the Subscription Price was to approximate recent trading prices,
raise the targeted proceeds, and provide all of the Company's stockholders with
a reasonable opportunity to make an additional investment in the Company and
thus limit to some extent dilution of their ownership and voting percentage in
the Company. In approving the Subscription Price, the Board of Directors
considered such factors as the alternatives available to the Company for raising
capital, the market price of the Common Stock, pricing of similar transactions,
the business prospects for the Company, and the general condition of the
securities markets. There can be no assurance, however, that the market price of
the Common Stock will not decline between the date of this Proxy Statement and
the Expiration Date, or that, following the issuance of the Rights and of the
Common Stock upon exercise of the Rights, a subscribing holder will be able to
sell the Rights or sell the Common Stock purchased in the Rights Offering at a
price equal to or greater than the Subscription Price.

Certain Federal Income Tax Considerations. Existing stockholders who remain
holders of shares on the Rights Offering record date will be issued Rights. They
most likely will not recognize taxable income in connection with the issuance to
them or exercise by them of Rights. An existing stockholder who sells Rights
received in the Rights Offering rather than exercising them will recognize
capital gain or loss equal to the difference between the sale proceeds and the
stockholder's tax basis, if any, in the Rights sold. All holders of Common Stock
are urged to consult with their tax advisors regarding the specific tax
consequences to them of the Rights Offering, including the effects of federal,
state, local, foreign, and other tax laws.

THIS PROXY STATEMENT IS NOT AN OFFER TO SELL OR THE SOLICITATION OF AN
OFFER TO BUY SHARES OF COMMON STOCK OR ANY OTHER SECURITIES, INCLUDING THE
RIGHTS OR ANY SHARES OF COMMON STOCK ISSUABLE UPON EXERCISE OF THE RIGHTS.
OFFERS AND SALES OF THE COMMON STOCK ISSUABLE UPON EXERCISE OF THE RIGHTS WILL
ONLY BE MADE BY MEANS OF A PROSPECTUS MEETING THE REQUIREMENTS OF THE SECURITIES
ACT AND APPLICABLE STATE SECURITIES LAWS,
57
<PAGE> 70

ON THE TERMS AND SUBJECT TO THE CONDITIONS SET FORTH IN SUCH PROSPECTUS, WHICH
IS EXPECTED TO BE DELIVERED TO STOCKHOLDERS PROMPTLY AFTER THE ANNUAL MEETING,
PROVIDED THE STOCK OFFERING PROPOSAL IS APPROVED.

Employee Participation

The Board of Directors has approved the grant, pursuant to the Employee
Participation, of the opportunity to participate in the Stock Offering for
employees and consultants holding stock options and grants of Restricted Stock,
all of which have been issued under the terms of equity incentive plans
previously approved by the Company's stockholders. As a result, each employee or
consultant will receive one non-transferable right to purchase Common Stock at
the Subscription Price of $16.75 for each Common Stock equivalent share held by
them. The opportunity to participate will be effected through the issuance of
the same form of Right issued pursuant to the Rights Offering, except that each
employee or consultant, in order to participate, will be required to agree that
his or her Rights are non-transferrable.

The Board of Directors has incorporated a stock purchase program into the
Employee Participation in order to encourage the employees and consultants of
the Company who are eligible to participate in the Employee Participation to
exercise Rights and make an investment in the Common Stock. Each employee and
consultant of the Company who wishes to purchase shares of Common Stock in the
Employee Participation may, in lieu of delivering cash to pay the Subscription
Price, borrow funds from the Company and use the borrowed funds to pay all or a
portion of the Subscription Price and income taxes incurred as a result of
exercise. The maximum amount that may be borrowed is 66% of the value of the
collateral pledged by an individual, with value calculated as set forth below.
Employees or consultants may pledge as collateral for the loan (i) shares of
Common Stock purchased by the employee or consultant under the Employee
Participation, (ii) other shares of Common Stock owned by the employee or
consultant, (iii) warrants held by the employee or consultant, and (iv) vested
and unvested options and Restricted Stock granted to the employee or consultant.

The "value" of a share of Common Stock (including shares of Restricted
Stock) pledged as collateral will be equal to the average closing price (last
trade) of a share of Common Stock for the first ten trading days after the
Rights Offering begins. The value of each option or warrant pledged as
collateral will be equal to the deemed value of the underlying share of Common
Stock, less the exercise price of such security.

Each employee and consultant of the Company who elects to pay all or a
portion of the Subscription Price with loan proceeds shall deliver to the
Subscription Agent a promissory note in favor of the Company (a "Participation
Note") and enter into a pledge agreement with respect to shares, options, or
warrants pledged as collateral (a "Securities Pledge Agreement"). See
"-- Promissory Note" and "-- Securities Pledge Agreement."

Stock Subscription Agreement. The Stock Subscription Agreement will contain
a provision that prohibits the employee or consultant purchasing shares of
Common Stock in the Employee Participation from selling, transferring, or
otherwise disposing of or encumbering those shares for a period of one year,
except in certain limited circumstances. In the event of termination of the
employment or consulting relationship with the Company, the loan evidenced by
the Participation Note, if applicable, and accrued interest thereon, will be
immediately due and payable.

Participation Note. Under the terms of the Participation Note, the employee
or consultant will promise to pay the Company the amount borrowed, plus any
unpaid accrued interest thereon. The Company's recourse in event of default on
payment of principal or interest will be to the collateral pledged as security
for the Participation Note. The interest rate will be determined by the Board on
the record date for the Rights Offering. The interest accrued on the
Participation Note will be payable on each December 31. Principal on the
Participation Note will be due in a lump sum on the earlier of the tenth
anniversary of the Closing, or the termination of the employment or consulting
relationship with the Company. Additionally, the Company may call principal for
repayment at any time the loan amount exceeds 100% of the value of the pledged
collateral.

58
<PAGE> 71

Securities Pledge Agreement. Under the terms of the Securities Pledge
Agreement, the employee or consultant will grant to the Company a security
interest in all of the collateral pledged in order to collateralize the loan
amount. The pledge will secure the payment of all of the obligations of such
employee or consultant under the Participation Note. In the event of default
under the Stock Subscription Agreement, the Participation Note, or the
Securities Pledge Agreement, the Company may seize the pledged collateral in
order to satisfy any outstanding obligations which the employee or consultant
may have under such agreements. There can be no assurance that the liquidation
value of the collateral will be sufficient to satisfy the amount due under the
Participation Note, particularly in light of the fact that the unvested
securities will have no value in liquidation.

Regulations issued by the Federal Reserve Board relating to loans secured
by marketable securities permit the Company to make loans secured by Common
Stock and Common Stock equivalents pursuant to a plan for the benefit of the
Company's employees that has been approved by the stockholders. If the
stockholders approve the Stock Offering, and thus the terms of the Employee
Participation, they will be deemed to have approved loans to the Company's
employees secured by Common Stock and Common Stock equivalents for purposes of
implementing the Employee Participation.

The following table sets forth certain information regarding (i) certain
executive officers of the Company, (ii) all executive officers as a group (the
"Executive Officer Group"), and (iii) all employees and consultants holding
options or grants of Restricted Stock as a group (the "Employee Group") with
respect to the Employee Participation.
EMPLOYEE PARTICIPATION

<TABLE>
<CAPTION>
TOTAL NUMBER OF
SHARES TO BE TOTAL NUMBER OF
OFFERED PURSUANT SHARES TO BE APPROXIMATE
TO EMPLOYEE OFFERED PURSUANT MAXIMUM LOAN
NAME AND POSITION PARTICIPATION(1) TO STOCK OFFERING(1) AMOUNT(1)(9)
----------------- ---------------- -------------------- ------------
<S> <C> <C> <C>
William L. Gentz
President, Chief Executive Officer and
Director........................................ 110,352 155,034(2) $ 2,762,348
J. Chris Seaman
Executive Vice President, Chief Financial
Officer and Director............................ 104,561 211,228(3) 3,694,911
Arnold J. Senter
Executive Vice President and Chief Operating
Officer......................................... 37,500 39,500(4) 717,875
Matthew Natalizio
Vice President -- Finance and Treasurer......... 27,860 36,511(5) 653,350
Thomas I. Boggs, Jr.
Senior Vice President -- Underwriting........... 35,191 40,613(6) 733,054
Executive Officer Group (11 persons).............. 456,733 675,921(7) 12,006,776
Employee Group (112 persons)...................... 651,089 903,310 16,107,076
</TABLE>

- ---------------
(1) Amounts as of June 30, 1998. The number of shares presented is based on the
distribution ratio of one Right for each share of Common Stock and share of
Common Stock underlying outstanding options and Restricted Stock grants held
by such person or group, as applicable.

(2) Includes 44,682 Rights to be issued to Mr. Gentz as a holder of 44,682
shares of Common Stock.

(3) Includes 106,667 Rights to be issued to Mr. Seaman as a holder of 47,872
shares of Common Stock and warrants to purchase 58,795 shares of Common
Stock.

(4) Includes 2,000 Rights to be issued to Mr. Senter as a holder of 2,000 shares
of Common Stock.

(5) Includes 8,651 Rights to be issued to Mr. Natalizio as a holder of 8,651
shares of Common Stock.

(6) Includes 5,422 Rights to be issued to Mr. Boggs as a holder of 5,422 shares
of Common Stock.

(7) Includes 219,188 Rights to be issued to the group as holders, in the
aggregate, of an estimated 156,131 shares of Common Stock and warrants to
purchase 63,057 shares of Common Stock.

(8) Includes 252,221 Rights to be issued to the group as holders, in the
aggregate, of an estimated 189,164 shares of Common Stock and warrants to
purchase 63,057 shares of Common Stock.

(9) Values in this column are based on a Common Stock market price of $20.50,
the closing price of the Common Stock on May 4, 1998, the day immediately
prior to the public announcement of the Stock Offering. The amount shown
represents an amount sufficient to exercise all of the Rights issued to the
person or group, as applicable, in the Stock Offering, plus an amount
sufficient to pay estimated taxes on the ordinary income to be recognized on
purchases pursuant to the Employee Participation, based on an assumed tax
rate of 40%. The actual maximum amount permitted to be borrowed, and the
actual borrowing amounts, will vary.

59
<PAGE> 72

Certain Federal Income Tax Considerations. The Company believes that
employees and consultants who are issued Rights in connection with the Employee
Participation will not recognize gain or loss upon receipt of the Rights because
the Rights should not be treated as having a readily ascertainable fair market
value, within the meaning of applicable Treasury regulations, when issued.
However, each employee or consultant would recognize ordinary income at the time
the Rights are exercised in an amount equal to the difference between the fair
market value of the Common Stock (at the time of exercise) and the Subscription
Price in accordance with Section 83 of the Code. Employees and consultants
should consult with their own tax advisors regarding the specific consequences
to them upon the exercise of Rights.

STANDBY COMMITMENT

To assure the Company that a total of $200.0 million in proceeds will be
provided by the Stock Offering, the IP Stock Issuance and the exercise of
warrant holder preemptive rights to purchase stock under the terms of the IP
Stock Issuance, IP has agreed to purchase up to 6,328,358 shares of Common
Stock, with the exact number being that number of shares necessary to bring the
total proceeds of the Stock Offering, the IP Stock Issuance, the exercise of
warrant holder preemptive rights, and the Standby Commitment to $200.0 million.
Any shares purchased pursuant to the Standby Commitment will be purchased
privately at the Subscription Price under the terms and conditions of the Stock
Purchase Agreement. See "Proposal No. 2 -- The Standby Commitment." IP Delaware
and IP Bermuda are not participating in the Stock Offering.

REGISTRATION STATEMENT

The Company has filed a registration statement with the SEC (the
"Registration Statement") with respect to the Rights, and up to 6,548,664 shares
of Common Stock to be issued upon exercise of the Rights. The effectiveness of
the Registration Statement is a condition precedent to the Stock Offering. Upon
the Registration Statement being declared effective, and assuming that no stop
order is issued by the SEC, the Rights and Common Stock purchased upon exercise
thereof will be transferable without restriction and freely tradeable on Nasdaq
(other than as contractually limited under the terms of the Employee
Participation). See "-- The Stock Offering -- Employee Participation."

POTENTIAL EFFECTS OF THE STOCK OFFERING AND STANDBY COMMITMENT ON CONTROL OF THE
COMPANY

Based upon the Common Stock outstanding as of the Record Date, and assuming
that (i) no outstanding warrants or stock options convertible into shares of
Common Stock are exercised prior to the Closing, and (ii) all Rights are
exercised in the Rights Offering except as previously indicated to the Company,
approximately 18,036,972 shares of Common Stock will be outstanding upon
consummation of the Stock Offering and IP Stock Issuance, of which the Company
believes approximately 9.6 million shares and approximately 2.6 million warrants
(approximately 53.0% of the total number of shares of Common Stock that will
then be outstanding) will be held in the aggregate by IP, Centerline, Centre Re,
III, IIA, and other related parties. In the unlikely event that no shares are
issued in the Stock Offering, so that IP purchases 6,328,358 shares of Common
Stock under the Standby Commitment, IP and such related parties would own
instead 79.0% of the Common Stock then outstanding and 85.5% on a diluted basis.
However, IP and such related parties have agreed to certain limitations on their
voting power as stockholders and their rights to purchase additional equity
securities of the Company. See "Proposal No. 2 -- Terms of the IP Stock
Issuance -- Certain Covenants -- Covenants of IP." The Board of Directors
considered the fact that IP will acquire a majority of the outstanding Common
Stock in determining to proceed with the Equity Financings. See "-- Advantages
and Disadvantages of the Stock Offering."

ADVANTAGES AND DISADVANTAGES OF THE STOCK OFFERING

The Company investigated a number of transaction forms and terms before
selecting the Stock Offering, coupled with the Standby Commitment, to raise a
substantial portion of the equity portion of the Acquisition financing. Further,
in negotiations with FHC it became clear that the Company would have to
guarantee the availability of its financing. Thus, the Board believes the
principal advantages resulting from the Stock Offering and Standby Commitment
are that, by coupling the issuance of the Rights with the Standby
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<PAGE> 73

Commitment, the Company would be assured of raising the $106.0 million in equity
necessary to complete the Acquisition, without having to resort to a general
offering of Common Stock that could be subject to a much greater market risk. In
addition, the Company believes the additional equity provided will be viewed
favorably by rating agencies such as A.M. Best. A general offering would also
not present to existing stockholders the opportunity to limit dilution of their
ownership interest that is available through participation in the Stock
Offering. The issuance of additional shares of Common Stock in the Stock
Offering also will increase the liquidity of the trading market for the Common
Stock, by adding to the "float", or the number of shares and aggregate value of
stock held by non-insiders. The Company's increased market capitalization could
make coverage of the Common Stock by analysts more likely, and such coverage
generally adds to liquidity by increasing the trading market's awareness of the
Company and its prospects.

The primary disadvantage of the Stock Offering and Standby Commitment
considered by the Board was the potential dilution of the equity interests of
existing stockholders, warrant holders and option holders who do not choose to
exercise their Rights. If no Rights are exercised, and the Standby Commitment is
utilized in full, existing stockholders other than IP and certain related
parties could own as little as 21.0% of the outstanding Common Stock. However,
stockholders and warrant holders who do not wish to make the additional economic
investment required to purchase Common Stock in the Rights Offering, may sell
their Rights in the market, and, if a willing buyer is found, obtain cash as a
result of the transaction although their proportionate ownership interest in the
Company would be reduced. Conversely, persons interested in making a larger than
proportionate investment in the Company will have the opportunity to acquire
transferable Rights in the market (assuming that trading is successfully
established) and exercise those Rights.

The Board also considered the fact that IP and certain related parties may
have the power to control further or more significantly influence the election
of directors and all other matters submitted to the Company's stockholders and
otherwise to direct the business and affairs of the Company if they acquire a
significantly greater percentage of the outstanding shares of Common Stock
pursuant to the Standby Commitment. The amount of Common Stock acquired by IP in
the IP Stock Issuance and the Standby Commitment could also have a negative
influence on an attempt to acquire control of the Company, because the Company's
public stockholders may not have sufficient voting power to out-vote IP to
approve, for example, a potential future strategic offer for the Company by a
third party that might be attractive to such stockholders. The Company has
attempted to limit the potential adverse impact this may have on the Company and
its stockholders by negotiating the Stock Purchase Agreement, which imposes
certain restrictions on IP, Centerline, Centre Re, III and IIA and other related
parties. Those restrictions include the covenant that on any matter before the
stockholders, other than the election of directors, if the aggregate number of
all shares that are voted in like manner by IP and such related parties shall be
greater than 35% of the total number of shares voted, then those votes that
exceed the 35% threshold shall be voted in the same proportion as the other
stockholders voted their shares with respect to that matter. Further, IP and
those related parties agreed that they will not act to elect more directors to
the Board than that number (presently five) that is the largest number not
constituting a majority of the Board. See "Proposal No. 2 -- Certain
Covenants -- Covenants of IP."

On July 16, 1998, the Board of Directors evaluated the fairness of the
terms before confirming the Company's intent to proceed to seek stockholder
approval of the Stock Offering and Standby Commitment.

CONSEQUENCES IF THE STOCK OFFERING IS NOT APPROVED

If the stockholders do not approve the Stock Offering, then the Company
would not have a significant portion of the funds needed to finance the
Acquisition, and would almost certainly be unable to find alternative sources of
equity financing quickly enough in order to complete the Acquisition. The
Company is obligated to proceed with the Acquisition regardless of whether the
Stock Offering is approved and may incur considerable liabilities to FHC,
including the payment of $15.0 million in damages plus additional damages in
material amounts, if it is unable to complete the Acquisition due to the absence
of financing. The failure to complete the Acquisition under such circumstances
would almost certainly have a material adverse effect on the Company. Further,
the Company is obligated to pay the Commitment Fee regardless of whether the
Stock Offering takes place.
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<PAGE> 74

ABSENCE OF APPRAISAL RIGHTS

Under Delaware law and the Company's Certificate of Incorporation,
objecting stockholders will have no appraisal, dissenters' or similar rights
(i.e., the right to seek a judicial determination of the "fair value" of the
Common Stock and to compel the Company to purchase their shares of Common Stock
for cash in that amount) with respect to the proposals presented at the Annual
Meeting or otherwise with respect to the Stock Offering, nor will such rights be
voluntarily accorded to stockholders by the Company. Therefore, if Proposal No.
1 is approved by the requisite number of shares, that approval will bind all
stockholders and objecting stockholders will have no alternative other than
selling their Common Stock in the market.

EXPENSES OF THE STOCK OFFERING

The Company expects to incur expenses incident to the Stock Offering of
approximately $0.6 million consisting of printing and distribution expenses,
agent fees, and legal and accounting costs. The Company is also obligated to pay
the Commitment Fee to IP in consideration, in part, of its providing the Standby
Commitment, consisting of warrants to purchase 734,000 shares of Common Stock at
$16.75 per share. Commitment Fee Warrants to purchase 205,520 shares of Common
Stock will be transferred to an affiliate of Zurich in consideration of certain
financing commitments to IP II.

VOTE REQUIRED TO APPROVE THE STOCK OFFERING

Approval of "Proposal No. 1 -- The Stock Offering" requires the affirmative
vote of the holders of a majority of the shares of Common Stock represented and
voting at a meeting at which a quorum is present (which shares voting
affirmatively also constitute at least a majority of the required quorum). The
holders of the Voting Notes are not entitled to vote on this proposal.
Abstentions will have no effect. Because the IP Stock Issuance is contingent on
the completion of the Stock Offering, a vote against Proposal No. 1 should be
considered to be effectively a vote against "Proposal No. 2 -- The IP Stock
Issuance" as well.

C. Len Pecchenino, William L. Gentz, J. Chris Seaman, and Gordon E. Noble,
who are directors and stockholders of the Company; and TJS Partners, L.P., IP
Delaware, and IP Bermuda, who are stockholders of the Company (such persons and
entities holding approximately 47.0% of the Company's outstanding Common Stock)
have entered into the Voting Agreements, pursuant to which they will vote their
shares at the Annual Meeting in favor of Proposals No. 1 and No. 2. See
"Acquisition of Business Insurance Group, Inc. -- Related Agreements."

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO. 1.

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PROPOSAL NO. 2 -- THE IP STOCK ISSUANCE

INTRODUCTION

The Board of Directors believes that the best interests of the Company and
its stockholders will be served by the issuance and sale of 5,611,940 shares of
Common Stock to IP, at a purchase price of $16.75 per share for an aggregate
purchase price of approximately $94.0 million, under the terms and conditions of
the Stock Purchase Agreement. IP has also agreed to provide the Standby
Commitment to the Company, whereby it will purchase up to 6,328,358 shares of
Common Stock, with the exact number of shares purchased to be that number of
shares necessary to bring the total proceeds of the Equity Financings to $200.0
million. Additionally, the preemptive rights of the Company's warrant holders
are activated as a result of the IP Stock Issuance. As a result, the Board of
Directors has approved the issuance of up to 2,145,821 shares of Common Stock to
the warrant holders, so that each warrant holder electing to exercise such
preemptive rights by purchasing Common Stock under the terms of the IP Stock
Issuance could purchase one share of Common Stock at the same $16.75 per share
price for each Common Stock equivalent share held. Warrant holders who elect to
purchase Common Stock under the terms of the IP Stock Issuance will be excluded
from the Rights Offering. The principal reason for the IP Stock Issuance and the
Standby Commitment is to provide a portion of the cash the Company needs to fund
the Acquisition. The Board of Directors has agreed to the Acquisition for the
reasons set forth in this Proxy Statement, and its consummation is subject to
certain customary conditions. See "Acquisition of Business Insurance Group,
Inc. -- Background to Proposals No. 1 and No. 2." The simultaneous closing of
the Acquisition, the Stock Offering and the Senior Notes Offering are conditions
to the Closing of the IP Stock Issuance and the Standby Commitment. Stockholders
are urged to read carefully the following sections of this Proxy Statement,
including the related Annexes, before voting on this proposal.

The affirmative vote of the holders of a majority of the outstanding shares
of Common Stock voting at a meeting at which a quorum is present is required to
approve the IP Stock Issuance and the Standby Commitment. The Board of Directors
has unanimously approved the IP Stock Issuance and the Standby Commitment and
has determined that they are fair and in the best interests of the Company and
its stockholders. In a separate vote, the disinterested directors and the
directors who are not employees of the Company unanimously approved the IP Stock
Issuance and the Standby Commitment, in accordance with the provisions of the
Stock Purchase Agreement dated as of September 17, 1996, as amended and restated
effective as of February 17, 1997, among the Company, IP Delaware, IP Bermuda,
TJS Partners, L.P., and certain members of the Company's management (the "1996
Stock Purchase Agreement"). Because the completion of the Stock Offering is
contingent on the completion of the IP Stock Issuance, a vote against Proposal
No. 2 should be considered to be effectively a vote against Proposal No. 1 as
well. THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS VOTE
IN FAVOR OF PROPOSAL NO. 2.

IP STOCK ISSUANCE

The detailed terms of, and conditions to, the IP Stock Issuance, the
Standby Commitment, and certain related transactions are contained in the Stock
Purchase Agreement, a copy of which accompanies this Proxy Statement as Annex C
and is incorporated herein by reference. The statements made in this Proxy
Statement with respect to the terms of the IP Stock Issuance, the Standby
Commitment, and such related transactions governed by the Stock Purchase
Agreement are qualified in their entirety by reference to the more complete
information set forth in Annex C. The Company originally entered into the Stock
Purchase Agreement with IP Delaware, IP Bermuda and Capital Z; Capital Z, which
is the general partner of IP II, subsequently assigned its rights and
obligations to IP II.

The table below sets forth the number of shares of Common Stock to be
acquired by IP from the Company in the IP Stock Issuance. The price to be paid
for each share of Common Stock under the Stock Purchase Agreement is $16.75 per
share for an aggregate consideration of approximately $94.0 million. This
purchase price was determined on behalf of the Company by Mr. Pecchenino and Mr.
Jamieson, directors of the Company, on behalf of the Company, with the advice of
DLJ, and in negotiations with IP. After considering the advice of DLJ on such
matter, reviewing the pricing history of the Common Stock over the
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<PAGE> 76

12 months prior to May 1998 and more recent changes in price, and considering
other factors deemed material by the Board, the disinterested directors of the
Company determined the price of $16.75 per share was fair to and in the best
interests of the Company and its stockholders. None of the shares of Common
Stock purchased by IP will be registered under the Securities Act or any state
securities law. The shares will be purchased as follows:

<TABLE>
<CAPTION>
PERCENT OF
NUMBER OF SHARES
PURCHASER SHARES PURCHASED
--------- --------- ----------
<S> <C> <C>
IP Delaware(1)........................................... 1,756,627 31.3%
IP Bermuda(1)............................................ 712,627 12.7
IP II(2)................................................. 3,142,686 56.0
--------- -----
Total.......................................... 5,611,940 100.0%
</TABLE>

- ---------------
(1) Robert A. Spass, Steven B. Gruber and Bradley E. Cooper, directors of the
Company, own certain direct or indirect limited partnership interests in IP
Delaware and IP Bermuda and some of their respective general partners.
Messrs. Spass and Gruber are officers of Insurance GenPar MGP, Inc. and
Insurance GenPar (Bermuda) MGP, Ltd., the ultimate general partners of IP
Delaware and IP Bermuda, respectively. See "Security Ownership of Certain
Beneficial Owners and Management -- Security Ownership of Certain Beneficial
Owners" table, footnotes 6 and 9.

(2) Robert A. Spass and Bradley E. Cooper, directors of the Company, are
officers of Capital Z, the general partner of IP II. Certain members of
management of the Company are investors in an equity fund that is a limited
partner of IP II.

THE STANDBY COMMITMENT

To ensure the Company will obtain the funds sought through the Stock
Offering, IP has agreed with the Company pursuant to the Stock Purchase
Agreement, subject to certain limited exceptions, to provide the Standby
Commitment. Under the terms of the Stock Purchase Agreement, in addition to the
$94.0 million IP Stock Issuance, and subject to certain limited exceptions, IP
will purchase privately at the Subscription Price of $16.75 per share that
number of shares of Common Stock necessary to bring the total proceeds of the
Stock Offering, the exercise of warrant holder preemptive rights, and the
Standby Commitment to $106.0 million, and thus the gross proceeds of the Equity
Financings to $200.0 million. IP Delaware and IP Bermuda are not participating
in the Stock Offering. The maximum number of shares that may be issued to IP
under the Standby Commitment is 6,328,358. The Company has agreed to pay IP a
commitment fee in consideration of the Standby Commitment, consisting of the
Commitment Fee Warrants exercisable to purchase an aggregate of 734,000 shares
of Common Stock at an exercise price of $16.75 per share, payable upon the
Closing. The Commitment Fee Warrants will expire five years from the date of
issuance if not previously exercised. Commitment Fee Warrants to purchase
205,520 shares of Common Stock will be transferred to an affiliate of Zurich in
consideration of certain financing commitments to IP II. The Company is
obligated to issue the Commitment Fee Warrants whether or not the Equity
Financings are consummated.

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The table below sets forth the range of the number of shares of Common
Stock that may be acquired by IP from the Company under the Standby Commitment.
None of the Common Stock purchased by IP in the Standby Commitment will be
registered under the Securities Act or any state securities law. The shares will
be purchased as follows:

<TABLE>
<CAPTION>
MINIMUM MAXIMUM PERCENT OF
NUMBER OF NUMBER OF PURCHASED
PURCHASER SHARES(1) SHARES(2) SHARES
--------- --------- --------- ----------
<S> <C> <C> <C>
IP Delaware(3)................................. 0 1,980,877 31.3%
IP Bermuda(3).................................. 0 803,600 12.7
IP II (3)...................................... 0 3,543,881 56.0
-- --------- -----
Total................................ 0 6,328,358 100.0%
</TABLE>

- ---------------
(1) Assumes exercise of sufficient Rights in the Stock Offering.

(2) Assumes that the Stock Offering occurs, but no Rights or preemptive rights
under outstanding warrants are exercised.

(3) See footnotes 1 and 2 to the table under "-- IP Stock Issuance" above for
information concerning the interests of certain directors of the Company in
IP Delaware, IP Bermuda, and IP II.

Because the Common Stock issued under the Standby Commitment (if any) will
not be issued in a registered transaction, those shares will be subject to the
standard restrictions on transferability imposed by federal and state securities
laws. The Stock Purchase Agreement, under which the terms of the Standby
Commitment were established (as well as the terms of the IP Stock Issuance),
provides that any shares issued under the Standby Commitment shall be the
subject of a registration rights agreement. See "-- Registration Rights
Agreement."

The rights and obligations of the Company and IP with respect to the
Standby Commitment are subject to certain limited conditions, including the
absence of any pending or threatened action, suit or proceeding relating to the
Stock Offering or the Stock Purchase Agreement.

TERMS OF THE STOCK PURCHASE AGREEMENT

Representations and Warranties of the Company

The Stock Purchase Agreement contains various representations and
warranties by the Company, among other things, as to or to the effect that,
except as specified or disclosed and in some cases, subject to certain
exceptions (including exceptions that would not have, individually or in the
aggregate, a material adverse effect on the operations, condition, prospects or
results of operations (a "Material Adverse Effect") of the Company and its
Subsidiaries), (i) the due organization and good standing of the Company and its
Subsidiaries, (ii) the Company's capitalization, (iii) the authorization of the
Stock Purchase Agreement, (iv) the valid issuance of the Common Stock to be
issued under the Stock Purchase Agreement and the Commitment Fee Warrants, (v)
pending or threatened litigation, (vi) the Stock Purchase Agreement's non-
contravention of any agreement, law, charter or bylaw provision and that (except
as specified) no governmental or third-party consents are required to execute,
deliver, and perform the Stock Purchase Agreement, (vii) that the IP Stock
Issuance does not constitute a "change of control" as defined in any of the
Company's material agreements, (viii) certain tax matters, (ix) the accuracy of
financial statements and filings with the SEC, (x) the conduct of business in
the ordinary course and the absence of any material adverse change in the
financial condition, results of operations, or prospects of the Company since
December 31, 1997, (xi) the Company's and its Subsidiaries' compliance with the
requirements of applicable laws, and (xii) the existence and identity of brokers
and finders.

Representations and Warranties of IP

The Stock Purchase Agreement contains various representations and
warranties by each of IP Delaware, IP Bermuda, and IP II (as
successor-in-interest to Capital Z) severally but not jointly, as to (i) such
entity's organization and good standing and authorization of the Stock Purchase
Agreement, (ii) the Stock Purchase

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Agreement's non-contravention of any agreement, law or charter provision (except
to the extent contravention would not have a Material Adverse Effect on such
entity) and that (except as specified) no governmental or third-party consents
are required to execute, deliver, and perform the Stock Purchase Agreement,
(iii) the existence and identity of brokers and finders, (iv) the availability
of funds to meet such entity's obligation to purchase the shares of Common
Stock, and (v) state and federal securities laws matters.

Certain Covenants

Covenants of All Parties. Each party to the Stock Purchase Agreement
covenants that such party shall use its reasonable best efforts to consummate
the transactions contemplated by the Stock Purchase Agreement and each other
agreement contemplated thereby. Each party further covenants the information
supplied by it for inclusion in this Proxy Statement is materially accurate as
of the date of the mailing of this Proxy Statement and as of the date of the
Annual Meeting.

Covenants of the Company. The Company made various covenants in the Stock
Purchase Agreement with respect to certain matters, including, among other
things, its agreement to take certain actions to cause the due preparation and
timely mailing of this Proxy Statement and all accompanying documents to the
Company's stockholders. The Company also covenants as to the accuracy of the
information contained in registration statements and prospectuses to be prepared
in connection with the Stock Offering and the Senior Notes Offering. The Company
further covenants that the Board of Directors shall recommend the approval of
each of Proposal No. 1 and Proposal No. 2 and use its reasonable efforts to
obtain such approval. In addition, the Company covenants that it will use the
net proceeds from the sale of the Common Stock under the Stock Purchase
Agreement to consummate the transactions contemplated under the Acquisition
Agreement.

Covenants of IP

Standstill. Each of the IP "Associates" (which term is defined to include
CentreLine, Centre, III, IIA, and any person or entity that controls, is under
common control with, or is controlled by IP or such persons or entities, and all
individuals who are officers, directors, or control persons of any such
entities, including IP) that is a signatory to the Stock Purchase Agreement
covenants and agrees with respect to itself, and IP covenants and agrees with
respect to itself and those of its Associates that are not signatories thereto,
that neither it nor they will: (i) acquire or offer or agree to acquire,
directly or indirectly, by purchase or otherwise, any shares of Common Stock or
voting securities of the Company (or direct or indirect rights or options to
acquire any such securities); (ii) enter, agree to enter into, or propose to
enter into, directly or indirectly, any merger or business combination involving
the Company; (iii) make, or in any way participate, directly or indirectly, in
any "solicitation" of "proxies" (as such terms are used in the rules of the SEC)
or consent to vote, or seek to advise or influence any person or entity with
respect to the voting of, any voting securities of the Company; or (iv) form,
join, or in any way participate in a "group" (within the meaning of Section
13d-3 of the Exchange Act) with any persons not referenced to herein with
respect to any of the foregoing; provided, however, that none of the foregoing
shall restrict IP or any of its Associates from (A) acquiring shares of Common
Stock or voting securities as a result of a stock split, stock dividend, or
similar recapitalization of the Company, (B) exercising the Commitment Fee
Warrants, the warrants issued to III on March 31, 1992, the CentreLine Warrant
and any other warrants with respect to any capital stock of the Company issued
prior to May 5, 1998 (or any preemptive rights granted pursuant to any of them),
(C) making, or in any way participating, directly or indirectly, in any
"solicitation" of "proxies" (as such terms are defined in Rule 14a-1 under the
Exchange Act) in connection with the election to the Board of Directors of
directors nominated by IP or any of its Associates (to the extent not otherwise
inconsistent with the Stock Purchase Agreement), or (D) with respect to a tender
or exchange offer or a merger or other business combination involving the
Company (a "Business Combination"), that was initiated without the encouragement
by or the participation of IP or any of its Associates, making a tender or
exchange offer or a proposal with respect to a Business Combination, or forming,
joining or participating as a "group" to make such offer or proposal, in either
case upon more favorable terms than those of the unsolicited tender or exchange
offer or Business Combination; and provided further,that none of the foregoing
shall affect or impair the right of any director of the Company to (x) act as a
member of the Board of Directors or any committee thereof or (y) take any action
necessary or

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advisable to carry out his obligations and duties as a director of the Company.
Notwithstanding the foregoing, no provision of the Stock Purchase Agreement
shall prohibit or restrict any Associate who is a director of the Company from
acquiring, in one or more transactions, in his individual capacity, an aggregate
of 25,000 shares of Common Stock so long as such acquisition does not violate
any provision of the Company's charter in effect from time to time or prohibit
or restrict ordinary transactions on behalf of third party clients by an
Associate engaged in the investment management business.

The limitations set forth above and in "-- Transfer of Shares" below may be
waived by the affirmative vote of the nearest whole number representing 66 2/3%
or more of (i) the directors of the Company, excluding from the total number of
directors voting those who are Associates of IP or (ii) the shares of the
Company, not including in such total number of shares voting those beneficially
owned by IP and its Associates (such approval shall be referred to herein as
"Disinterested Approval").

In furtherance of the standstill covenants set forth above, each of the
Company and IP has agreed that any material business relationship between the
Company and IP or any of its Associates must be approved by Disinterested
Approval. Any financing transaction involving IP would require Disinterested
Approval.

Other than with respect to the election of directors of the Company, IP
covenants and agrees that, with respect to any vote of the stockholders of the
Company on a particular matter, if the aggregate number of all shares that are
voted in like manner by IP and its Associates shall be greater than 35% of the
total number of shares voted, then those votes that exceed such 35% threshold
shall be voted in the same proportion as the other stockholders voted their
shares with respect to such matter.

IP covenants and agrees that IP and its Associates will not vote their
shares of Common Stock, the Voting Notes, or shares of Common Stock issued upon
exercise of any warrants held by any of them, to elect as directors of the
Company a total of more than five persons (or the highest number that is less
than a majority of the Board of Directors, as the case may be), including the
individual designated by IP pursuant to the terms of the 1996 Stock Purchase
Agreement, who are either Associates of IP or of any of its Associates.

The agreements described herein under "-- Standstill" shall continue so
long as the shares of Common Stock owned by IP and its Associates, directly or
indirectly, represent 15% or more of the outstanding shares of Common Stock on a
fully diluted basis (including the Voting Notes). Upon consummation of the IP
Stock Issuance, the foregoing provisions will supersede the corresponding
provisions in the 1996 Stock Purchase Agreement.

Transfer of Shares. So long as the shares of Common Stock owned by IP and
its Associates, directly or indirectly, represent 15% or more of the shares of
Common Stock outstanding on a fully diluted basis (including the Voting Notes),
IP agrees not to transfer, assign, sell, or otherwise dispose of (each, a
"Transfer") any of its shares of Common Stock, except for Transfers described
herein under "-- Transfer of Shares." IP may at any time Transfer any or all of
its shares of Common Stock (i) to any Associate of IP, if such Associate
executes and delivers to the Company, prior to any such Transfer, an instrument
in form and substance reasonably satisfactory to the Company pursuant to which
such Associate agrees to be bound by the provisions described above under
"-- Standstill" and described herein under "-- Transfer of Shares," (ii)
pursuant to Rule 144 under the Securities Act or any successor to such rule,
(iii) pursuant to a tender offer or exchange offer made by the Company or any
"Affiliate" (as such term is defined in Rule 12b-2 of the Exchange Act) of the
Company, (iv) pursuant to a tender offer or exchange offer initiated by any
person or "group" (within the meaning of Section 13d-3 of the Exchange Act)
other than IP or any Associate thereof or a Business Combination (as defined),
which is approved or recommended by the Board of Directors of the Company or
with respect to which the Board of Directors has announced its intention to
remain neutral, (v) so long as the shares of Common Stock to be Transferred
represent, in the aggregate, not greater than 10% of the outstanding Common
Stock, in a transaction or series of transactions exempt from the registration
and prospectus delivery requirements of the Securities Act, (vi) by the Transfer
of greater than 10% of the outstanding shares of Common Stock in a transaction
or series of transactions exempt from the registration and prospectus delivery
requirements of the Securities Act to (A) one purchaser, (B) one purchaser and
its Affiliates, or (C) a "group" of purchasers, if such purchaser or purchasers
of Common Stock in any such transaction or series of transactions execute and
deliver to the Company prior to any such purchase or
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purchases an instrument in form satisfactory to the Company pursuant to which
such purchaser or purchasers agree to be bound by the provisions described above
under "-- Standstill" and described herein under "--Transfer of Shares"
(treating such purchaser or purchasers as an "Associate" for purposes of such
sections), (vii) pursuant to a registration statement filed under the Securities
Act pursuant to the Registration Rights Agreement (defined below), or otherwise,
or (viii) pursuant to a pro rata distribution to its partners. Upon consummation
of the IP Stock Issuance, the foregoing provisions will supersede the
corresponding provisions in the 1996 Stock Purchase Agreement.

Stock Offering; Senior Notes Offering. The Company is obligated to effect
the Stock Offering with a Subscription Price of $16.75 per share and in an
aggregate amount offered of no less than $106.0 million, and to complete the
Senior Notes Offering to raise no less than $110.0 million (unless IP consents
to other amounts). The Company agreed to file registration statements with
respect to the Stock Offering and the Senior Notes Offering.

Miscellaneous. The Company has granted IP exclusive rights to complete its
role in the Equity Financings. In addition, the Company has agreed not to amend
the Acquisition Agreement without the consent of IP (which shall not be
unreasonably withheld).

Closing Conditions

Conditions to Each Party's Obligations. It is a condition to each party's
obligations under the Stock Purchase Agreement that the following conditions be
satisfied or waived: (i) all governmental authorizations and necessary waivers
and consents required for performance of the obligations under the Stock
Purchase Agreement have been obtained; (ii) there shall be no statute, rule,
regulation, writ, order, or injunction of any court or governmental body that
has the effect of prohibiting consummation of the transactions contemplated by
the Stock Purchase Agreement or restricting the operation of the business of the
Company and its Subsidiaries in a manner that would have a Material Adverse
Effect on the Company; and (iii) the closing of the Stock Purchase Agreement
shall occur simultaneously with the closing of the transactions contemplated by
the Acquisition Agreement.

Conditions to the Company's Obligations. The obligations of the Company
under the Stock Purchase Agreement are subject to the fulfillment or waiver of
the following additional conditions: (i) each of the representations and
warranties of IP contained in the Stock Purchase Agreement (A) having been true
in all material respects when made and (B) being true in all material respects
at the time of the Closing as if such representations and warranties had been
made at such time, except to the extent that any such representation or warranty
is made as of a specified date, in which case such representation and warranty
shall be true and correct as of such date; (ii) at or prior to the Closing, IP
having performed in all material respects its obligations under the Stock
Purchase Agreement; (iii) IP having delivered to the Company a certificate,
dated as of the Closing Date, certifying as to the fulfillment of the conditions
specified in clauses (i) and (ii) of this sentence; (iv) the Company's having
received the favorable written opinion of its financial advisor (which has been
received); (v) all of the conditions to the closing of the transactions
contemplated by the Acquisition Agreement having been satisfied or waived; (vi)
at the Annual Meeting, the stockholders having duly approved Proposals No. 1 and
No. 2; and (vii) the Company's having received fully executed copies of the
Acquisition Agreement and the Registration Rights Agreement (as defined below).

Conditions to IP's Obligations. IP's obligations under the Stock Purchase
Agreement are subject to the fulfillment or waiver of the following additional
conditions: (i) certain representations and warranties of the Company contained
in the Stock Purchase Agreement (A) having been true in all material respects
when made and (B) being true in all material respects at the time of the Closing
as if such representations and warranties had been made at such time, except to
the extent that any such representation or warranty is made as of a specified
date, in which case such representation and warranty shall be true and correct
as of such date; (ii) at or prior to the Closing, the Company's having performed
in all material respects all obligations required of it pursuant to the Stock
Purchase Agreement; (iii) the Company's having delivered to IP a certificate
dated the Closing Date certifying as to the fulfillment of the conditions
specified in clauses (i) and (ii) of this sentence; (iv) at the Annual Meeting,
the stockholders having duly approved Proposals No. 1 and No. 2;

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(v) IP's having received fully executed copies of the Acquisition Agreement and
the Registration Rights Agreement; (vi) the Stock Offering and Senior Notes
Offering having been consummated simultaneously with the closing of the Stock
Purchase Agreement and the Acquisition Agreement on terms and condition
reasonably satisfactory to IP, and in no event shall the Senior Notes have an
interest rate in excess of 12.0% annum; and (vii) the Acquisition Agreement not
having been materially amended or modified except upon IP's consent.

Amendment/Termination

The Stock Purchase Agreement may be amended by the parties thereto, but no
amendment shall be enforceable against any party that has not signed such an
amendment. The Stock Purchase Agreement shall terminate simultaneous with or
following the termination of the Acquisition Agreement, upon failure by the
stockholders to approve Proposals No. 1 or No. 2, or on November 30, 1998
(unless the Stock Offering is commenced within 30 days of that date, in which
case the period is extended to December 31, 1998). In the event that the IP
Stock Issuance shall be consummated, the Stock Purchase Agreement shall
thereafter terminate at such time as, by their terms, the covenants described
under "-- Certain Covenants" above are no longer in effect.

Expenses and Fees

The Company will pay IP's costs, expenses, and reasonable legal fees in
connection with the IP Stock Issuance, whether or not consummated. The Company
has also agreed to pay to IP at the Closing an aggregate transaction fee of $3.9
million. If FHC shall pay to the Company a breakup fee (see "Acquisition of
Business Insurance Group, Inc. -- Terms of the Acquisition and Related
Transactions -- Breakup Fee") then the Company shall pay to IP that portion of
the breakup fee equal to the percentage of Common Stock owned by IP on a diluted
basis calculated as if IP had purchased the maximum number of shares of Common
Stock possible under the Stock Purchase Agreement (which would include the
shares available for purchase pursuant to the Standby Commitment), including the
issuance of the Commitment Fee Warrants (notwithstanding that no Closing shall
have occurred). See "-- The Standby Commitment."

Indemnification

The Company and IP have agreed to indemnify the other, and each of the
other's respective partners, directors, employees, agents and representatives,
as the case may be, against, and hold them harmless from, all claims,
obligations, costs and expenses including, without limitation, reasonable
attorneys' fees and expenses incurred by the other party in any action between
IP and the Company or between IP or the Company, as the case may be, and any
third party, and liabilities of and damages to the other party arising out of
the material breach by such indemnifying party of any representation, warranty,
covenant, or agreement in the Stock Purchase Agreement.

RESTRICTIONS ON TRANSFER OF SHARES

The shares of Common Stock to be received by IP in the IP Stock Issuance
are being offered and sold in a private transaction and will not be subject to a
registration statement under the Securities Act, except if one is prepared on a
subsequent date pursuant to the Registration Rights Agreement. See
"-- Registration Rights Agreement." In that regard, each of IP Delaware, IP
Bermuda, and IP II have represented and warranted to the Company, among other
things, that such entity, as of the Closing Date, will be an "accredited
investor" as defined in Rule 501 promulgated as part of Regulation D under the
Securities Act and is not purchasing the shares with a view to a distribution or
resale of any of such securities in violation of any applicable securities laws.

Because the Common Stock to be issued and sold under the Stock Purchase
Agreement has not been issued in a registered transaction under the Securities
Act, such stock will be subject to the standard restrictions on transferability
imposed by federal and state securities law, including Rule 144 promulgated
under the Securities Act. In general, under Rule 144 as currently in effect, a
person (or a group of persons

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whose shares are aggregated) who has beneficially owned restricted securities
for at least one year, will be entitled to sell in any three-month period a
number of shares that does not exceed the greater of (i) 1% of the
then-outstanding shares of Common Stock or (ii) the average weekly trading
volume in the over-the-counter market during the four calendar weeks immediately
preceding the date on which notice of the sale is filed with the SEC. Sales
pursuant to Rule 144 are subject to certain requirements relating to manner of
sale, notice and availability of current public information about the Company. A
person (or a group of persons whose shares are aggregated) who is not deemed to
have been an affiliate of the Company at any time during the 90 days immediately
preceding the sale and who has beneficially owned restricted securities for at
least two years is entitled to sell such shares pursuant to Rule 144(k) without
regard to the limitations described above. Rule 144(k) is not available to
affiliates of the Company. IP and its Associates are further restricted from
certain transfers of the Common Stock by certain covenants contained in the
Stock Purchase Agreement. See "-- Stock Purchase Agreement -- Certain
Covenants -- Covenants of IP."

REGISTRATION RIGHTS AGREEMENT

The Amended and Restated Registration Rights Agreement to be entered into
by the Company and IP as a condition to the IP Stock Issuance ("Registration
Rights Agreement") provides that IP and any affiliate thereof to whom or which
shares of Common Stock have been transferred by IP may, on not more than four
occasions at any time after the Closing Date, require the Company at its sole
expense to prepare and file with the SEC a registration statement under the
Securities Act covering the public offer and sale of shares of Common Stock they
hold (including shares issued in the IP Stock Issuance, the Standby Commitment,
or upon exercise of the Commitment Fee Warrants), in addition to other shares
requested to be so covered by other securities holders having similar,
preexisting registration rights, and use its best efforts to cause to be
declared effective and remain effective for up to the lesser of 180 days or the
period during which all of the shares requested to be so registered have been
sold (a "Demand Registration"). Notwithstanding the terms described above, the
Company is not required to file a registration statement in response to a Demand
Registration if certain conditions are not met, including the anticipated
failure of a Demand Registration to achieve an aggregate net offering price of
$7.5 million or more. Under the Registration Rights Agreement, IP and its
affiliates have customary "piggyback" registration rights allowing them to
register shares in the event the Company proposes to sell any of its Common
Stock to the public in a transaction registered under the Securities Act. Under
the terms of the Stock Purchase Agreement, the Registration Rights Agreement
contains additional customary terms and provisions, including reciprocal
indemnification and contribution provisions with respect to information
furnished or provided by the Company or IP for inclusion in any such
registration statement. Under the terms of the Stock Purchase Agreement, the
Registration Rights Agreement will be executed by the Company and IP at the
Closing, at which point it will amend and supersede in its entirety the
Registration Rights Agreement dated as of April 11, 1997 among the Company, IP
Delaware and IP Bermuda.

CERTAIN OTHER ITEMS RELATED TO THE IP STOCK ISSUANCE AND THE STANDBY COMMITMENT

Potential Effects of the IP Stock Issuance and the Standby Commitment on
Control of the Company

Based upon the Common Stock outstanding as of the Record Date, and assuming
that (i) no outstanding warrants or stock options convertible into shares of
Common Stock are exercised prior to the Closing, (ii) all Rights are exercised
in the Stock Offering, and (iii) warrant holders purchase their full allotment
of shares under their preemptive rights, approximately 18,036,972 shares of
Common Stock will be outstanding upon consummation of the Stock Offering and IP
Stock Issuance, of which the Company believes approximately 9.6 million shares
and approximately 2.6 million warrants (approximately 53.0% of the total number
of shares of Common Stock that will then be outstanding) will be held in the
aggregate by IP, Centerline, Centre Re, III, IIA, and other related parties. In
the unlikely event that no shares are issued in the Stock Offering, and IP
consequently purchases 6,328,358 shares under the Standby Commitment, IP and
such related parties would own instead 79.0% of the Common Stock then
outstanding and 85.5% on a diluted basis. However, IP and such related parties
have agreed to certain limitations on their voting power as stockholders and
their rights to purchase additional equity securities of the Company. See
"-- Stock Purchase Agreement -- Certain

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Covenants -- Covenants of IP." The Board of Directors considered the fact that
IP will acquire a majority of the outstanding Common Stock in determining to
proceed with the Equity Financings. See "-- Advantages and Disadvantages of the
IP Stock Issuance and the Standby Commitment."

Advantages and Disadvantages of the IP Stock Issuance and the Standby
Commitment

The Company investigated a number of transaction forms and terms before
selecting the IP Stock Issuance to raise part of the equity portion of the
Acquisition financing. The Board of Directors determined that a majority of the
financing for the Acquisition should be equity in order to avoid incurring
excessive debt obligations and to provide the Company with additional
stockholders' equity, which it believes will be viewed favorably by rating
agencies, such as A.M. Best. Further, in negotiations with FHC it became clear
that the Company would have to guarantee the availability of its financing.
Thus, when the Acquisition was to close, the Company would have to have
committed financing that it could call upon quickly and be confident that
sufficient funds would be available at the designated time. This need made it
impractical for the Company to structure its financing arrangements for the
Acquisition solely in reliance upon transactions that would depend upon the
decisions of a large group of private purchasers or upon access to the public
market at a future date. These transaction forms presented too much risk that
the market would be unfavorable and no financing transaction meeting the
Company's needs could be completed on a timely basis. The Company determined,
therefore, to complete an equity transaction, in the form of the IP Stock
Issuance, with IP, which had the resources available to make the investment, was
also able to provide the Standby Commitment, and was an investment group known
to the Company. The IP Stock Issuance, in conjunction with the Standby
Commitment, gave the Company confidence that it would raise the equity financing
necessary to complete the Acquisition, which, in turn, made the likelihood of
successfully completing the Senior Notes Offering significantly greater. IP's
equity interest in the Company at the conclusion of these transactions will be
substantial, but the Company determined that IP's ownership position would not
be disruptive to the Company's operations or future prospects.

IP, which currently beneficially owns approximately 36.2% of the
outstanding Common Stock, is also a related party to several beneficial owners
of more than five percent of the Common Stock on a diluted basis. Three members
of the Board of Directors are affiliated with IP. IP was chosen as the investor
for the equity transaction because it had assisted the Company in procuring the
Acquisition and had communicated its desire and ability to enter quickly into a
private equity investment agreement with the Company committing IP to provide a
substantial portion of the Acquisition price. In doing so, IP confirmed its
willingness to renew the covenants under the 1996 Stock Purchase Agreement
restricting its control of the Company. See "--Stock Purchase
Agreement -- Certain Covenants -- Covenants of IP." Because of the need to enter
into an agreement quickly with investors who had the resources to commit to the
Company, and because no other practical alternatives were readily available, the
Company entered into serious negotiations with IP regarding the IP Stock
Issuance. On May 1, 1998, the Board of Directors evaluated the fairness of the
terms before confirming the Company's intent to proceed with the IP Stock
Issuance pursuant to the Stock Purchase Agreement. The Board of Directors
conducted a second evaluation on July 16, 1998, before approving the mailing of
this Proxy Statement to stockholders. See "Opinion of Merrill Lynch."

Because of the conflict of interest with directors of the Company who are
affiliated with parties related to IP, independent directors of the Company were
designated by the Board of Directors to negotiate the Stock Purchase Agreement
on behalf of the Company. Mr. Pecchenino and Mr. Jamieson, in consultation with
the Company's lawyers and investment bankers, performed that function.

The primary disadvantage of the IP Stock Issuance and the Standby
Commitment considered by the Board was the fact that IP and certain related
parties may have the power to control further or more significantly influence
the election of directors and all other matters submitted to the Company's
stockholders and otherwise to direct the business and affairs of the Company if
it acquires a significantly greater percentage of the outstanding shares of
Common Stock pursuant to the IP Stock Issuance and the Standby Commitment. The
amount of Common Stock acquired by IP pursuant to the IP Stock Issuance and the
Standby Commitment could also have a negative influence on an attempt to acquire
control of the Company, because the Company's public stockholders may not have
sufficient voting power to approve a potential future strategic
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offer for the Company by a third party that might be attractive to such
stockholders. The Company has attempted to limit the potential adverse impact
this may have on the Company and its stockholders by negotiating the Stock
Purchase Agreement, which imposes certain restrictions on IP, CenterLine, Centre
Re, III and IIA and other related parties. Those restrictions include IP's
covenant that on any matter before the stockholders, other than the election of
directors, if the aggregate number of all shares that are voted in like manner
by IP and such related parties shall be greater than 35% of the total number of
shares voted, then those votes that exceed the 35% threshold shall be voted in
the same proportion as the other stockholders voted their shares with respect to
that matter. See "-- Stock Purchase Agreement -- Certain Covenants -- Covenants
of IP."

Governmental and Regulatory Approvals

The Company is not aware of any governmental or regulatory approvals
required for consummation of the IP Stock Issuance or the Standby Commitment,
other than compliance with applicable securities laws, the approval of the DOI
under Section 1215 et seq. of the California Insurance Code of both of the
Acquisition and the issuance of more than 10% of the outstanding Common Stock to
IP II and similar approvals from the States of New York and Delaware. Each of
the issuance of Common Stock to IP II and the Acquisition is subject to DOI
approval and to similar approvals in Delaware and New York. Forms seeking such
approvals have been filed, and notice filings have been made with respect to the
issuance of Common Stock to IP Delaware and IP Bermuda. As of the date of this
Proxy Statement, all such approvals have not been obtained. Further, due to the
number of shares of Common Stock to be issued under the Equity Financings,
stockholder approval is required pursuant to Nasdaq Rule 4460(i)(1)(C)(ii). In
addition, the IP Stock Issuance and Standby Commitment are subject to the
expiration of the waiting period under the HSR Act. The Company, IP Delaware,
and IP Bermuda have filed reports under the HSR Act, but the relevant waiting
period has not yet expired.

Prior Relationships

Prior to the commencement of negotiations regarding the IP Stock Issuance,
the only business relationship that existed between the Company and IP related
to the April 1997 purchase by IP Delaware and IP Bermuda of an aggregate of
2,124,834 shares of Common Stock under the 1996 Stock Purchase Agreement in
connection with the Company's acquisition of Pac Rim Holding Corporation. In
addition, since 1992, the Company has had significant business relationships
with various persons or entities related to IP, including III, CentreLine,
Centre Re, IIA, and Robert A. Spass, Steven D. Germain, Bradley E. Cooper, and
Steven B. Gruber, who are directors of the Company. See "Proposal No.
7 -- Certain Relationships and Related Transactions."

Absence of Appraisal Rights

Under Delaware law and the Company's Certificate of Incorporation,
objecting stockholders will have no appraisal, dissenters' or similar rights
(i.e., the right to seek a judicial determination of the "fair value" of the
Common Stock and to compel the Company to purchase their shares of Common Stock
for cash in that amount) with respect to the proposals presented at the Annual
Meeting or otherwise with respect to the IP Stock Issuance and the Standby
Commitment, nor will such rights be voluntarily accorded to stockholders by the
Company. Therefore, if Proposal No. 2 is approved by the requisite number of
shares, that approval will bind all stockholders and objecting stockholders will
have no alternative other than selling their Common Stock in the market.

Expenses of the IP Stock Issuance and the Standby Commitment

The Company expects to incur expenses incident to the IP Stock Issuance of
approximately $4.0 million, including the $3.9 million transaction fee payable
to IP. The Company will issue the Commitment Fee Warrants in consideration of
the Standby Commitment. See "-- The Standby Commitment."

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PREEMPTIVE RIGHTS OF WARRANT HOLDERS

The Company's outstanding warrants to purchase Common Stock grant
preemptive rights to the warrant holders. Due to these rights, the warrant
holders are entitled to be included in the Rights Offering. The IP Stock
Issuance, however, is a separate transaction to which the preemptive rights also
apply. In order to meet its obligations under the preemptive rights, the Company
has offered warrant holders the opportunity to participate in the private
issuance of Common Stock occurring in the IP Stock Issuance. Their participation
in the IP Stock Issuance will be on the basis of one share per share of Common
Stock issuable upon the exercise of their warrants. They may purchase Common
Stock at $16.75 per share (the same price being paid by IP) and the amount of
their purchases will be added to the $94.0 million of shares to be purchased by
IP. Warrant holders who satisfy their preemptive rights by this means will be
excluded from the Rights Offering. In order to satisfy the Company's obligations
with respect to the preemptive rights warrant holders have in connection with
the IP Stock Issuance, the Board of Directors has authorized, and is seeking
stockholder approval of, the issuance of up to 2,145,821 shares of Common Stock
to warrant holders who purchase Common Stock upon exercise of preemptive rights.

To the extent that a warrant holder does not agree to exercise his or her
preemptive rights by purchasing under the terms of the IP Stock Issuance, that
holder will be eligible to receive Rights in the Rights Offering on the basis of
one share per share of Common Stock issuable upon the exercise of warrants held.

The advantage to the warrant holders of purchasing Common Stock under the
terms of the IP Stock Issuance rather than in the Rights Offering is that the
tax treatment of exercising a contractual right inherent in the warrant (by
purchasing under the terms of the IP Stock Issuance) is probably more favorable
than that of receiving a Right and exercising it. A disadvantage is that the
Common Stock purchased privately under the terms of the IP Stock Issuance is
non-transferable in the public market other than by complying with Rule 144,
while the shares purchased upon exercise of the Rights will be issued in a
registered transaction and will be freely tradeable on Nasdaq. A further
disadvantage is that the ability to purchase under the terms of the IP Stock
Issuance is not transferable. Once a warrant holder has made the election to
purchase in that transaction, he or she will not be eligible to participate in
the Rights Offering, even if he or she subsequently decides not to purchase any
shares under the terms of the IP Stock Issuance.

From the Company's perspective, the total number of shares being made
available to the warrant holders is the same, regardless how they choose to
exercise their preemptive rights. To the extent that any warrant holder opts to
purchase Common Stock under the terms of the IP Stock Issuance and is thereby
excluded from the Rights Offering, the total number of Rights distributed will
be reduced by the number of Rights that would have been distributed to the
excluded warrant holders. The Standby Commitment will be based on the proceeds
of the Stock Offering plus the proceeds of purchases by warrant holders who
exercised their preemptive rights by purchasing privately under the terms of the
IP Stock Issuance. Thus, the means chosen by warrant holders to exercise their
preemptive rights is neutral in terms of use or effect of the Standby
Commitment.

CONSEQUENCES IF PROPOSAL NO. 2 IS NOT APPROVED

If the stockholders do not approve the IP Stock Issuance and the Standby
Commitment, then the Company would not have a significant portion of the funds
needed to finance the Acquisition, and would almost certainly be unable to find
alternative sources of equity financing quickly enough in order to complete the
Acquisition. The Company is obligated to proceed with the Acquisition regardless
of whether the IP Stock Issuance and the Standby Commitment are approved and may
incur considerable liabilities to FHC, including the payment of damages in the
amount of $15.0 million, and other damages in material amounts, if it is unable
to complete the Acquisition due to the absence of financing. The failure to
complete the Acquisition under these circumstances would almost certainly have a
material adverse effect on the Company. Further, the Company is obligated to pay
the Commitment Fee on the Standby Commitment, regardless of whether the Stock
Offering is completed. Completion of the IP Stock Issuance is a condition to the
Stock Offering. If Proposal No. 2 is not approved by the stockholders, the
Company will pay the Commitment Fee and receive no funds under the Standby
Commitment.

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VOTE REQUIRED TO APPROVE PROPOSAL NO. 2

Approval of "Proposal No. 2 -- The IP Stock Issuance" requires the
affirmative vote of the holders of a majority of the shares of Common Stock
represented and voting at a meeting at which a quorum is present (which shares
voting affirmatively also constitute at least a majority of the required
quorum). The holders of the Voting Notes are not entitled to vote on this
proposal. Abstentions will have no effect. Because the completion of the Stock
Offering is contingent on completion of the IP Stock Issuance, a vote against
Proposal No. 2 should be considered to be effectively a vote against Proposal
No. 1 as well.

C. Len Pecchenino, William L. Gentz, J. Chris Seaman, and Gordon E. Noble,
who are directors and stockholders of the Company, and TJS Partners, L.P., IP
Delaware and IP Bermuda, who are stockholders of the Company (such persons and
entities holding approximately 47.0% of the Company's outstanding Common Stock)
have entered into the Voting Agreements, pursuant to which they will vote their
shares at the Annual Meeting in favor of Proposals No. 1 and No. 2. See
"Acquisition of Business Insurance Group, Inc. -- Related Agreements."

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO. 2.

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PROPOSAL NO. 3 -- AMENDMENT TO 1995 STOCK INCENTIVE PLAN

INTRODUCTION

The 1995 Stock Incentive Plan (the "1995 Plan") provides for the granting
of stock options to purchase shares of Common Stock and the issuance of shares
of Common Stock subject to contractual restrictions ("Restricted Stock") to
participants in the 1995 Plan ("Participants"). The purpose of the 1995 Plan is
to promote the interests of the Company and its stockholders by enabling the
Company to offer Participants an opportunity to acquire an equity interest in
the Company so as to better attract, retain and reward employees, directors and
other persons providing services to the Company, and accordingly, to strengthen
the mutuality of interests between Participants and the Company's stockholders
by providing Participants with a proprietary interest in pursuing the Company's
long-term growth and financial success.

If approved by the stockholders, the proposed amendment to the 1995 Plan
(the "Plan Amendment") would increase the number of shares of Common Stock
authorized for issuance under the Plan from 625,000 shares to 3,000,000 shares.

The 1995 Plan was approved by the Company's stockholders at the 1995 Annual
Meeting. At the recommendation of the Compensation Committee, the Plan Amendment
was approved by the Board on July 16, 1998. In light of the pending Acquisition
of BIG, the Company believes that it is necessary to adopt the Plan Amendment at
this time in order to provide an adequate pool for the grant of stock-based
incentive awards in the future. Upon consummation of the Acquisition, the
Company will have many more employees than at present, so more shares will be
needed to make option and Restricted Stock grants in the ordinary course of
business and thus accomplish the Company's goals of attracting, motivating and
retaining qualified executives who can maximize long-term stockholder returns in
the highly competitive post-open rating workers' compensation insurance
industry. The Plan Amendment would become effective only upon Closing of the
Acquisition.

The primary features of the 1995 Plan are summarized below. This summary is
qualified in its entirety by reference to, and subject to, the terms of the 1995
Plan. A copy of the 1995 Plan, as proposed to be amended, is attached hereto as
Annex D to this Proxy Statement.

ELIGIBILITY AND PARTICIPATION

Officers, key employees, including directors who are key employees, and
consultants chosen by the Compensation Committee are eligible to be Participants
in the 1995 Plan. The number of Participants in the 1995 Plan is approximately
112 as of the date of this Proxy Statement.

Under the 1995 Plan, officers, key employees, and consultants of the
Company or its Subsidiaries may be granted options to purchase shares of Common
Stock or they may be given the opportunity to purchase Restricted Stock. The
1995 Plan permits the granting both of options that qualify for treatment as
incentive stock options under Section 422 of the Code ("Incentive Stock
Options"), and options that do not qualify as Incentive Stock Options
("Nonqualified Stock Options").

The Compensation Committee periodically sets guidelines for the number and
terms of option or Restricted Stock awards based on factors similar to those
considered with respect to the other components of the Company's compensation
program, including comparison with the practices of peer group companies and
direct competitors. In the event of unsatisfactory corporate performance, the
Compensation Committee may decide not to award options or Restricted Stock in
any given fiscal year although exceptions to this policy may be made for
individuals who have assumed substantially greater responsibilities and other
similar factors. Generally, options become exercisable in cumulative
installments over a period of five years, but the Participant forfeits any
installment that has not vested during the period of his or her service to the
Company. Restricted Stock grants generally vest in equal installments over nine
years with unvested shares subject to repurchase by the Company at no gain to
the Participant upon the termination of his or her services with the Company.
When Restricted Stock grants have been made, the share certificates representing
the Restricted

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Stock are only issued when the restrictions lapse, hence the bulk of those
shares are not reflected in the Company's total outstanding shares number.

Under the 1995 Plan, the Compensation Committee during 1997 and 1998,
approved a set of option grants to all officers then employed and, in 1997, made
Restricted Stock grants to certain officers then employed, based on performance
achieved in 1996 or 1997, as the case may be. Agreements reflecting these option
and Restricted Stock grants have been prepared and delivered to the
Participants.

SHARES AVAILABLE UNDER THE 1995 PLAN, AS AMENDED

Upon approval of the Plan Amendment by the Company's stockholders, there
will be an aggregate of 3,000,000 shares of Common Stock available for issuance
under the 1995 Plan. Such shares may be either authorized but unissued shares or
shares previously issued under the 1995 Plan and reacquired by the Company. The
2,375,000 additional shares authorized for issuance pursuant to the Plan
Amendment constitute approximately 13.2% of the total number of shares of the
Common Stock outstanding, assuming the Equity Financings are consummated.

PAYMENT FOR SHARES UNDER THE 1995 PLAN

Participants may exercise options by giving written notice to the Company
specifying the number of shares to be purchased and accompanied by payment of
the full purchase price therefor in cash or by check. Payment may also be made
in such other form of lawful consideration as the Compensation Committee may
approve from time to time, including without limitation and in the sole
discretion of the Compensation Committee, the assignment and transfer by the
Participant to the Company of outstanding shares of the Common Stock theretofore
held by the Participant.

VOTE REQUIRED TO APPROVE AMENDMENT TO THE 1995 PLAN

Approval of "Proposal No. 3 -- Amendment to 1995 Stock Incentive Plan"
requires the affirmative vote of the holders of a majority of the shares of
Common Stock represented and voting at the Annual Meeting. The holders of the
Voting Notes are not entitled to vote on this proposal. Abstentions will have no
effect.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO. 3.

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PROPOSAL NO. 4 -- EMPLOYEE STOCK PURCHASE PLAN

The Board of Directors has approved and adopted, subject to stockholder
approval, the Company's Employee Stock Purchase Plan (the "Payroll Purchase
Plan"). The Payroll Purchase Plan is briefly summarized below, but these
descriptions are subject to and qualified in their entirety by the full text of
the Payroll Purchase Plan, which is attached as Annex E to this Proxy Statement.

The Board, upon the recommendation of the Compensation Committee, has
approved the Payroll Purchase Plan in order to offer all employees the
opportunity to invest in Common Stock through payroll deductions. The Company
believes that plans similar to this proposal, particularly those that allow
below market purchases of Common Stock, are offered to employees by several
competing insurance holding companies. FHS, the ultimate parent of BIG, offers a
similar plan to all of BIG's employees and the Company believes that its ability
to retain employees after consummation of the Acquisition would be enhanced by
the Company's making available to its employees a compensation package
comparable to that currently provided to BIG's employees. In addition, the Board
believes stock incentives (both under the 1995 Plan as proposed to be amended
and the Payroll Purchase Plan) should play an increased role in the Company's
overall compensation strategy. The Payroll Purchase Plan will not be implemented
if the Acquisition is not completed.

DESCRIPTION OF THE PAYROLL PURCHASE PLAN

The Payroll Purchase Plan is an employee stock purchase plan that is
intended to qualify under Code Section 423. The Payroll Purchase Plan allows
employees to purchase Common Stock from the Company at a discount, without being
subject to tax until they sell the stock, and without having to pay any
brokerage commissions with respect to the purchases. The effective date of the
Payroll Purchase Plan will be the first practicable date after the Closing, and
no later than January 1, 1999. The purpose of the Payroll Purchase Plan is to
provide employment incentives for, and to encourage stock ownership by, the
employees of the Company or any Subsidiary that maintains the Payroll Purchase
Plan in order to increase their proprietary interest in the success of the
Company. The Payroll Purchase Plan is administered by the Board of Directors or
by the Compensation Committee on behalf of the Board.

Employees who have worked continuously for the Company for at least 30 days
are eligible to participate in the Payroll Purchase Plan, provided that they are
regularly scheduled to work more than 20 hours per week. Employees of the
Company's Subsidiaries are also eligible to participate in the Payroll Purchase
Plan. However, employees who directly or indirectly own five percent (5%) or
more of the combined voting power or value of all classes of stock of the
Company or a Subsidiary may not participate in the Payroll Purchase Plan.

Employees will be granted the right to purchase Common Stock ("Purchase
Right") in each calendar quarter ("Purchase Right Period"). Employees can
commence participation only on the first day of a Purchase Right Period. There
are four Purchase Right Periods: (i) January 1 -- March 31; (ii) April 1 -- June
30; (iii) July 1 -- September 30; and (iv) October 1 -- December 31. The first
Purchase Right Period will be from January 1, 1999 through March 31, 1999,
unless the Compensation Committee determines that it is practicable to establish
a "stub period" ending December 31, 1998. Employees may not sell or otherwise
transfer their Purchase Rights.

Prior to the beginning of the Purchase Right Period, employees may elect to
contribute amounts to the Payroll Purchase Plan to purchase Common Stock.
Employees must designate either a fixed dollar amount or a percentage of
compensation, which amount cannot be increased or decreased during the Purchase
Right Period, except that employees may elect to stop contributing to the
Payroll Purchase Plan at any time. The maximum amount an employee can contribute
to the Payroll Purchase Plan during a calendar year is $25,000. The minimum
contribution per payroll period is $10.

Employee contributions can only be made by means of payroll withholding.
Employees are subject to income and employment taxes on their contributions to
the Payroll Purchase Plan (i.e., the contributions are made with after-tax
dollars).

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<PAGE> 90

The amount to be paid for the Common Stock under the Payroll Purchase Plan
is 85% of the last reported sale price on Nasdaq (the "Fair Market Value") of
the Common Stock on the last day of the Purchase Right Period.

A participant may elect to terminate his or her contributions to the
Payroll Purchase Plan and receive a refund of all of his or her contributions at
any time prior to the last day of the Purchase Right Period by notifying the
Company in writing 15 days in advance. An employee who withdraws from the
Payroll Purchase Plan in this fashion may not participate for the following two
Purchase Right Periods.

The maximum aggregate number of shares of Common Stock that can be
purchased under the Payroll Purchase Plan is 500,000. However, if the
outstanding shares of Common Stock of the Company are increased, decreased, or
exchanged for different securities through a reorganization, recapitalization,
reclassification or other similar transaction, a proportionate adjustment will
be made to the number, price and kind of shares subject to outstanding Purchase
Rights. The Common Stock issuable under the Payroll Purchase Plan will be
previously unissued shares, or "treasury" shares that may have been reacquired
by the Company from time to time. The Company currently has no treasury shares.

The Company's Board may at any time amend or terminate the Payroll Purchase
Plan, except as to outstanding Purchase Rights. However, any amendment that
relates to the class of individuals who may be participants or to the aggregate
number of shares granted under the Payroll Purchase Plan must also be approved
by the stockholders of the Company.

If the Common Stock ceases to be listed on Nasdaq or another exchange, due
to the sale of the Company or otherwise, or upon the sale or other disposition
of all or substantially all the assets of the Company, all Purchase Rights will
be automatically exercised immediately before such event.

FEDERAL INCOME TAX CONSEQUENCES APPLICABLE TO THE PAYROLL PURCHASE PLAN

The following general discussion of the principal federal income tax
considerations is based upon the statutes and regulations existing at the date
of this document, both of which are subject to modification at any time.
Participants should consult with their own tax advisors with respect to the
state and federal tax consequences of the exercise of Purchase Rights and the
sale of Common Stock acquired upon the exercise of Purchase Rights, as those tax
consequences relate to their own particular circumstances.

Grant and Exercise. The Payroll Purchase Plan is intended to qualify as an
"Employee Stock Purchase Plan" within the meaning of Code Section 423. The
Payroll Purchase Plan is not a tax-qualified retirement plan under Code Section
401(a) nor is it subject to the Employee Retirement Income Security Act of 1974
("ERISA").

As an employee stock purchase plan, participants will not recognize any
income either at the time of the grant of the Purchase Rights or at the time of
the issuance of the shares of Common Stock upon the exercise of the Purchase
Rights. Correspondingly, the Company will not be entitled to a federal income
tax deduction as the result of the grant or the exercise of any Purchase Right.

Capital Gains Treatment. Upon the subsequent sale or other disposition of
Common Stock acquired upon the exercise of a Purchase Right, an employee will
generally recognize long-term capital gain or loss if the employee has held the
shares for at least two years from the first day of the Purchase Right Period in
which the Common Stock was purchased.

Ordinary Income. If the participant sells or otherwise disposes of Common
Stock prior to the expiration of the two-year holding period, the participant
will generally recognize ordinary income in the year of sale or other
disposition in an amount equal to the excess of (1) the fair market value of the
share on the last day of the Purchase Right period over (2) the exercise price
of the Purchase Right.

The amount of ordinary income recognized by the participant will be added
to the participant's basis in the Common Stock received upon exercise of the
Purchase Right. Any remaining gain or loss recognized upon the disposition of
the Common Stock will be short-term or long-term capital gain or loss depending
on

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whether the sale occurs more than one year following the last day of the
Purchase Right Period in which the Common Stock was purchased.

In the case of a premature disposition that triggers the gain or loss of
ordinary income, the Company is entitled to deduct the amount of ordinary income
taxable to the participant. Accordingly, the participant is required to notify
Company in the event of such a premature disposition.

VOTE REQUIRED TO APPROVE EMPLOYEE STOCK PURCHASE PLAN

Approval of "Proposal No. 4 -- Employee Stock Purchase Plan" requires the
affirmative vote of the holders of a majority of the shares of Common Stock
represented and voting at the Annual Meeting. The holders of the Voting Notes
are not entitled to vote on this proposal. Abstentions will have no effect.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO. 4.

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PROPOSAL NO. 5 -- AMENDMENT TO CERTIFICATE OF INCORPORATION
TO INCREASE AUTHORIZED SHARES

The Board of Directors has approved and adopted, subject to stockholder
approval, a resolution providing for an amendment to the Company's Certificate
of Incorporation to increase the authorized number of shares of Common Stock
from 25.0 million to 40.0 million shares (the "Charter Amendment to Increase
Authorized Shares").

REASONS FOR CHARTER AMENDMENT TO INCREASE AUTHORIZED SHARES

At the close of business on the Record Date, there were shares of
Common Stock outstanding and entitled to vote. If the Plan Amendment to the 1995
Plan is approved and the Stock Offering and the IP Stock Issuance are
consummated, it is expected that there will be approximately 18.0 million shares
of Common Stock outstanding (assuming no options or warrants with respect to
Common Stock are exercised) and approximately 6.4 million shares reserved for
issuance upon the exercise of warrants or options, or for grants of Restricted
Stock or employee stock purchases. Based on these assumptions, following the
Acquisition, the Company would have available for future issuance approximately
600,000 authorized shares of Common Stock. The Board of Directors believes it is
in the Company's best interests to have a larger number of authorized but
unissued and unreserved shares of Common Stock available. Such authorized but
unissued shares would be available for issuance without further action by
stockholders except as required by law or applicable stock exchange
requirements.

While the Company currently has available a sufficient number of authorized
but unissued shares of Common Stock to effect the issuance of Common Stock
pursuant to the Stock Offering, the IP Stock Issuance, the Plan Amendment, and
the Payroll Purchase Plan, the Board of Directors believes it is desirable to
authorize additional shares of Common Stock so that there will be sufficient
shares available for issuance in the future for purposes that the Board of
Directors may hereafter determine to be in the best interests of the Company and
its stockholders. These purposes could include the issuance of shares for cash,
in acquisitions, through employee benefit programs, and for other general
corporate purposes. In many situations, prompt action may be required that would
not permit seeking stockholder approval to authorize additional shares for a
specific transaction on a timely basis. The Board of Directors believes it is
important that they maintain the flexibility to act promptly in the best
interests of stockholders. The terms of any future issuance of shares of Common
Stock will depend largely on market and financial conditions and other factors
existing at the time of issuance. Other than a desire to be able to respond
quickly to opportunities to complete acquisitions, the Company does not have any
immediate plans, agreements, arrangements, commitments, or understandings with
respect to the issuance of any of the additional shares of Common Stock that
would be authorized by the Charter Amendment to Increase Authorized Shares.

The Board of Directors will not amend the Certificate of Incorporation if
the Acquisition and Equity Financings are not completed.

PRINCIPAL EFFECTS

The additional shares of Common Stock to be authorized by the Charter
Amendment to Increase Authorized Shares would have rights identical to those of
the currently outstanding Common Stock. Adoption of this amendment would not
affect the rights of the holders of currently outstanding Common Stock, except
for effects incidental to increasing the number of shares of Common Stock
outstanding upon any future issuance of newly authorized shares of Common Stock.
If the Charter Amendment to Increase Authorized Shares is approved by the
Company's stockholders, it will become effective upon the filing of a
Certificate of Amendment to the Company's Certificate of Incorporation with the
Secretary of State of the State of Delaware. This amendment would be filed upon
completion of the Acquisition.

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VOTE REQUIRED TO APPROVE AMENDMENT TO CERTIFICATE OF INCORPORATION TO INCREASE
AUTHORIZED SHARES

Approval of "Proposal No. 5 -- Amendment to Certificate of Incorporation to
Increase Authorized Shares" requires the affirmative vote of a majority of the
outstanding shares of Common Stock entitled to vote thereon. Abstentions will
have the effect of a negative vote.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO.
5. AN ABSTENTION WILL BE COUNTED AS A VOTE AGAINST THE PROPOSAL.

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PROPOSAL NO. 6 -- AMENDMENT TO CERTIFICATE OF INCORPORATION
TO REMOVE TRANSFER RESTRICTIONS

The Board of Directors has approved and adopted, subject to stockholder
approval, a resolution which provides for an amendment to the Company's
Certificate of Incorporation to remove the transfer restrictions on the Common
Stock that relate to the Company's NOLs for federal income tax purposes. The
reason for removing the restrictions is the Board's conclusion that the Equity
Financings almost certainly will result in an "ownership change," as described
below. As the Board has determined to go ahead with the Equity Financings even
in light of this result, it believes the transfer restrictions are burdensome on
the Company's stockholders and should no longer be imposed.

BACKGROUND

On April 11, 1997, the Company, with Board and stockholder approval,
adopted provisions (the "Transfer Restrictions") in its Certificate of
Incorporation that were designed to restrict, for a period of three years,
direct and indirect transfers of the Company's equity securities that could
result in the imposition of limitations on the use by the Company, for federal
income tax purposes, of NOLs and other tax attributes that were and will be
available to the Company. In general, NOLs can benefit the Company by offsetting
taxable income dollar-for-dollar by the amount of the NOLs, thereby eliminating
(subject to a relatively minor alternative minimum tax) the federal corporate
tax on such income. The maximum federal corporate tax rate is currently 35%. As
of March 31, 1998, the Company had available NOLs of $126.4 million to offset
taxable income recognized by the Company in periods after March 31, 1998. For
federal income tax purposes, these NOLs will expire in material amounts
beginning in the year 2006.

The benefit of a company's NOLs can be reduced or eliminated under Section
382 of the Code ("Section 382"). Section 382 limits the use of losses and other
tax benefits by a company that has undergone an "ownership change," as defined
in Section 382. Generally, an ownership change occurs if one or more
stockholders, each of whom owns 5% or more in value of a company's capital
stock, increase their aggregate percentage ownership by more than 50 percentage
points over the lowest percentage of stock owned by such shareholders over the
preceding three-year period. For this purpose, all holders who each own less
than 5% of a company's capital stock are generally treated together as one or
more 5 percent shareholders. In addition, certain constructive ownership rules,
which generally attribute ownership of stock to the ultimate beneficial owner
thereof without regard to ownership by nominees, trusts, corporations,
partnerships or other entities, or to related individuals, are applied in
determining the level of stock ownership of a particular shareholder. Special
rules can also result in the treatment of options (including warrants) as
exercised if such treatment would result in an ownership change. All percentage
determinations are based on the fair market value of a company's capital stock,
including any preferred stock that is voting or convertible or otherwise
participates in corporate growth.

Transactions in the public markets among stockholders owning less than 5%
of the equity securities of a company are not included in the calculation, but
acquisitions by a stockholder causing that person to become a 5% or more
stockholder are treated as a 5 percentage point change in ownership, regardless
of the size of the purchase that caused the threshold to be exceeded. As
examples, if a single stockholder owning 10% of the equity securities of the
Company acquired an additional 50% of equity securities in a three-year period,
a change of ownership would occur. Similarly, if ten persons, none of whom owned
5% or more of the equity securities at the beginning of the period, each became
an owner of at least 5% of the Company's equity securities within the three-year
period, an ownership change would have occurred.

EFFECT OF OWNERSHIP CHANGE

If an ownership change of the Company were to occur, the amount of taxable
income in any year (or portion of a year) subsequent to the ownership change
that could be offset by NOLs or other carryovers existing (or "built-in") prior
to such ownership change could not exceed the product obtained by multiplying
(i) the aggregate value of the Company's equity securities immediately prior to
the ownership change with certain adjustments by (ii) the federal long-term tax
exempt rate (currently 5.25%). The Company would

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incur corporate income tax on any taxable income during a given year in excess
of such limitation. Because the value of the Company's equity securities, as
well as the federal long-term tax-exempt rate, fluctuate, it is impossible to
state exactly the annual limitation upon the amount of taxable income of the
Company that could be offset by such NOLs or other items if an ownership change
were to occur upon the Equity Financings. However, at values and rates in
existence at June 30, 1998, an ownership change could have resulted in the
Company's having available approximately $8.0 million of NOLs for each year of
the NOLs' remaining life. Additionally, as a result of certain built-in gains
the Company expects to have the ability to use an additional $45.0 million of
NOLs during the five years after the ownership change. As the Company's NOLs
begin to expire in material amounts in eight years, an ownership change at the
value of the Company's stock on June 30, 1998 would mean that the Company would
not lose the availability of a very substantial portion of its existing NOLs.

Assuming their approval by the stockholders, the Board believes that the
Equity Financings will limit and defer the availability of the Company's NOLs
under the terms of Section 382. The Board has determined that the Equity
Financings, despite this impact, are in the Company's best interests. As the
purpose of the Transfer Restrictions was to forestall the limitations and
deferrals caused by the application of Section 382, the Board has determined
that the Transfer Restrictions are no longer appropriate. Removal of the
Transfer Restrictions will eliminate current limitations on a stockholder's
ability to accumulate stock of the Company that the Board believes might have
led to a decreased valuation of the Common Stock while they were in place.

The Board of Directors will not amend the Certificate of Incorporation if
the Acquisition and Equity Financings are not consummated.

PRINCIPAL EFFECTS OF AMENDMENT

Because some corporate takeovers occur through the acquiror's purchase (in
the public market or otherwise) of sufficient stock to give it control of a
company, any provision that restricts the transferability of shares can have the
effect of preventing such a takeover. The Transfer Restrictions therefore may be
deemed to have had an "anti-takeover" effect because they restricted, until
April 2000, the ability of a person or entity or group thereof from accumulating
an aggregate of 4.90% or more of the Company's Common Stock or Voting Notes and
the ability of persons, entities or groups now owning 4.90% or more of the
Company's Common Stock or Voting Notes from acquiring additional securities. The
Transfer Restrictions discouraged or prohibited accumulations of substantial
blocks of shares for which stockholders might receive a premium above market
value.

In addition, a stockholder's ability to sell stock of the Company may have
been restricted as a result of the Transfer Restrictions, and a stockholder's
ability to purchase additional shares of Common Stock may have become restricted
as a result of actions taken by related persons. The Transfer Restrictions may
have resulted in a decreased valuation of the Common Stock due to the resulting
restrictions on transfers to persons directly or indirectly owning or seeking to
acquire a significant block of the Common Stock.

The elimination of the Transfer Restrictions will terminate their
anti-takeover effect and will make it possible for existing stockholders and
future stockholders to acquire blocks of shares representing more than 4.90% of
the Company's diluted or outstanding Common Stock. To the extent that an
ownership change under Section 382 does not occur as a result of the Equity
Financings, eliminating the Transfer Restrictions will make it more likely that
an ownership change will occur soon, with the impact described in "-- Effect of
Ownership Change."

VOTE REQUIRED TO APPROVE AMENDMENT TO CERTIFICATE OF INCORPORATION TO REMOVE
TRANSFER RESTRICTIONS

Approval of "Proposal No. 6 -- Amendment to Certificate of Incorporation to
Remove Transfer Restrictions" requires the affirmative vote of a majority of the
outstanding shares of Common Stock entitled to vote thereon. Abstentions will
have the effect of a negative vote.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO.
6. AN ABSTENTION WILL BE COUNTED AS A VOTE AGAINST THE PROPOSAL.

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PROPOSAL NO. 7 -- ELECTION OF DIRECTORS

Eleven directors are to be elected at the Annual Meeting to serve until the
next annual meeting of stockholders and until their respective successors have
been elected and qualified. In the event that any nominee for election as
director should become unavailable to serve, it is intended that votes will be
cast, pursuant to the enclosed proxy, for such substitute nominee as may be
nominated by the Company. Management has no present knowledge that any of the
persons named will be unavailable to serve.

No arrangement or understanding exists between any nominee and any other
person or persons pursuant to which any nominee was or is to be selected as a
director or nominee, except that IP Delaware and IP Bermuda nominated Steven B.
Gruber to the Board of Directors in April 1997, pursuant to the terms of the
1996 Stock Purchase Agreement. Under the 1996 Stock Purchase Agreement, which
will be reaffirmed upon the consummation of the Equity Financings, IP and
certain related parties have agreed that they will nominate no more than five
directors to the eleven-member Board. For the Annual Meeting, all candidates
have been nominated by the Board.

DIRECTORS

Information Concerning Incumbent Nominees to Board of Directors

Information is set forth below concerning the incumbent directors, all of
whom are also nominees for election as directors, and the year in which each
director was first elected as a director of the Company. Each nominee has
furnished the information as to his beneficial ownership of Common Stock as of
June 30, 1998 and, if not employed by the Company, the nominee's principal
occupation. Each nominee has consented to being named in this Proxy Statement as
a nominee for director and has agreed to serve as a director if elected.

<TABLE>
<CAPTION>
DIRECTOR
CONTINUING DIRECTORS AGE POSITION WITH THE COMPANY SINCE
-------------------- --- ------------------------------------------------- --------
<S> <C> <C> <C>
C. Len Pecchenino(1)................. 71 Director, Chairman of the Board 1988
Steven D. Germain(2)................. 45 Director 1995
Steven B. Gruber..................... 40 Director 1997
Thomas J. Jamieson(1)(3)............. 55 Director 1985
Gordon E. Noble(2)................... 70 Director 1990
Craig F. Schwarberg(1)(3)............ 42 Director 1992
Robert A. Spass...................... 42 Director 1992
Bradley E. Cooper(2)(3).............. 31 Director 1992
William Gentz........................ 57 President, Chief Executive Officer and Director 1994
J. Chris Seaman(3)................... 43 Executive Vice President, Chief Financial Officer 1993
and Director
Roger W. Gilbert..................... 66 Director 1997
</TABLE>

- ---------------
(1) Member of Audit Committee

(2) Member of Compensation Committee

(3) Member of Investment Committee

C. Len Pecchenino became a director of the Company in May 1988 and was
elected as Chairman in June 1994. He served as the Company's Chief Executive
Officer from September 1991 to February 1992 and as the President and Chief
Executive Officer from February 1994 to May 1994. He also served as the Chairman
from September 1991 to August 1992. Until his retirement in 1986, Mr. Pecchenino
held various executive officer positions, including President and Chief
Operating Officer, with IC Industries, Inc. and Pneumo Corporation.

Steven D. Germain was elected to the Board of Directors in April 1995. From
1988 to 1994 he served as General Counsel to the Centre Reinsurance Group of
Companies. Since 1994 he has served as General Counsel of Zurich Centre Group
L.L.C., a company that provides management services to the Centre Reinsurance
Group of Companies. Mr. Germain continues to serve as a Senior Vice President,
General

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Counsel and Secretary to Centre Re and as a director, Senior Vice President,
General Counsel and Secretary of CentreLine Reinsurance Limited, a Bermuda
corporation ("CentreLine"). Mr. Germain is also a director, President, and Chief
Executive Officer of Home Holdings, Inc. and a director of certain of its
subsidiaries.

Steven B. Gruber became a director of the Company in April 1997. He was a
founder of, and since February 1994, has served as a Managing Partner of,
Insurance Partners Advisors, L.P. ("IPA"). From May 1990 to present, Mr. Gruber
has served as a Managing Director of Oak Hill Partners, Inc. and from October
1992 to present, has served as a Vice President of Keystone, Inc. From 1981 to
April 1990 he was associated with Lehman Brothers Inc., most recently as
Managing Director and Co-Head of high-yield securities. From 1994 to 1997 he
served as a director of Unionamerica Holdings plc. From 1990 to 1996 he served
as a director of National Reinsurance Holding, Corp. He is also a director of
Reliant Building Products, Inc., Grove Worldwide L.L.C, and MVE Inc.

Thomas J. Jamieson has been a director of the Company since December 1985.
Since 1971, he has served as President of Jaco Oil Company, and, since 1993, has
been a director of Berry Oil Co.

Gordon E. Noble became a director of the Company in October 1990. Since
July 1990, he has been Chairman and Chief Executive Officer of Commodore
Insurance Services. Previously he served as Executive Vice President and as a
director and member of the Executive Committee of Sedgwick James, an
international insurance brokerage and risk management firm.

Craig F. Schwarberg was appointed to the Board of Directors in March 1992.
From 1991 to 1997, Mr. Schwarberg worked for International Insurance Advisors,
Inc. ("IIA"), serving as a Managing Director through February 1994. From 1994 to
March 1996, Mr. Schwarberg was a director and Chairman of the Board of NACOLAH
Holding Corporation. Prior to 1991, he held various positions at Lehman Brothers
Inc., most recently as Senior Vice President.

Robert A. Spass was appointed to the Board of Directors in March 1992.
Since 1990, Mr. Spass has served as President and Chief Executive Officer, and a
director, of IIA. From 1994 to the present, Mr. Spass has been a Managing
Partner of IPA. Prior to 1990, Mr. Spass held various positions at Salomon
Brothers Inc, most recently as a Director. Since January 1996, he has served as
a director of Highlands Insurance Group, Inc. Since January 1998, he has served
as a director of MMI Companies, Inc. From 1990 to 1996, he served as a director
of National Reinsurance Holdings Corp. From 1994 to 1997, he served as a
director of Unionamerica Holdings plc and from 1994 to 1996 he served as a
director of NACOLAH Holding Corporation.

Bradley E. Cooper became a director of the Company in May 1992. Currently,
Mr. Cooper is a Partner of IPA, joining at its formation in 1994. From May 1990
to February 1994, Mr. Cooper served as Vice President of IIA. Prior to 1990, Mr.
Cooper was an analyst with Salomon Brothers Inc. Since January 1996, he has
served as a director of Highlands Insurance Group, Inc.

William Gentz became a director of the Company in June 1994. Mr. Gentz has
held the position of President and Chief Executive Officer since mid-1994. Mr.
Gentz joined the Company after seventeen years at Zenith Insurance Company where
he was responsible for marketing, underwriting, loss control, and field
operations for Zenith's workers' compensation operations. Mr. Gentz began his
insurance career in 1958, and from 1958 to 1968 worked in the marketing and
underwriting departments of a variety of insurance companies in the mid-west and
California.

J. Chris Seaman became a director of the Company in March 1993. Mr. Seaman
has held the positions of Executive Vice President since February 1995 and Chief
Financial Officer since July 1991. Prior to joining the Company, Mr. Seaman was
the Chief Financial Officer of a private company engaged in insurance company
acquisitions following ten years with Ernst & Whinney. Mr. Seaman previously
held staff and management positions at Industrial Indemnity Insurance Company
and Allianz of America Corporation, respectively.

Roger W. Gilbert became a director of the Company in April 1997. From May
1988 until his retirement in June 1993, Mr. Gilbert served simultaneously as the
Chief Executive Officer and Chairman of the Board of TIC Indemnity Co., the
Chief Executive Officer of TMIC Insurance Co. Inc., and a California Special

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Deputy Insurance Commissioner, a position to which he was appointed by the
California Insurance Commissioner. Prior to 1988, Mr. Gilbert served as Senior
Vice President and director of Great American Insurance Companies, and as
President of Great America West Inc.

Committees

The standing committees of the Board of Directors are the Audit Committee,
the Compensation Committee, and the Investment Committee.

The Audit Committee recommends to the Board of Directors the engagement or
discharge of the Company's independent auditors; reviews with the independent
auditors the scope, timing and plan for the annual audit, any non-audit
services, and the fees for audit and other services; reviews outstanding
accounting and auditing issues with the independent auditors; and supervises or
conducts such additional projects as may be relevant to its duties. The Audit
Committee is also responsible for reviewing and making recommendations with
respect to the Company's financial condition, its financial controls, and its
accounting practices and procedures. The Audit Committee, which presently
consists of Messrs. Pecchenino, Jamieson, and Schwarberg, held five meetings
during the fiscal year ended December 31, 1997.

The Compensation Committee reviews and approves the Company's executive
compensation policies and bonus distributions to officers and key employees of
the Company. The Compensation Committee, which during the fiscal year ended
December 31, 1997 held four meetings, consists of Messrs. Noble, Cooper, and
Germain.

The Investment Committee reviews the investment practices of the Company's
primary insurance subsidiaries, SNIC and SPCC, and oversees the relationship
between SNIC and SPCC and their investment manager. It carries out this function
through the fact that its members are the directors of SNIC and SPCC responsible
for the same oversight at SNIC and SPCC. The Investment Committee, which
presently consists of Messrs. Jamieson, Cooper, Seaman, and Schwarberg, held
five meetings during the fiscal year ended December 31, 1997.

Meetings and Remuneration

During the fiscal year ended December 31, 1997, the Board of Directors held
eight meetings and took various actions by unanimous written consent. Each
incumbent director during his incumbency attended at least 75% of the aggregate
of (i) the total number of meetings held by the Board of Directors during fiscal
1997 and (ii) the total number of meetings held by all Committees of the Board
of Directors on which he served during that period, other than Mr. Germain, who
attended 50% of all of such meetings.

Each director is elected to hold office until the next annual meeting of
stockholders and until his respective successor is elected and qualified. Each
incumbent director who is not an officer of the Company is paid a fee of $4,000
for each regular Board of Directors meeting attended and $500 for each committee
meeting attended. The Board of Directors regularly meets once each quarter. All
directors are reimbursed for their out-of-pocket expenses in serving on the
Board.

In May 1997, the Board of Directors approved the payment to C. Len
Pecchenino, the Chairman of the Board, of $50,000 per year so long as he remains
Chairman of the Board and serves on the Audit Committee. This amount is to be
paid in addition to the fees he normally receives for attendance at regularly
scheduled Board meetings. Mr. Pecchenino was paid $50,000 in September 1997 and
since then he has been paid this amount in four equal quarterly installments.

Messrs. Spass and Cooper are employees of IIA, and Mr. Schwarberg is a
former IIA employee. Mr. Spass is also an officer and director of IIA. Mr.
Germain is an officer and director of Centre Re and CentreLine, each of which
are affiliates of Zurich. Messrs. Spass and Gruber are executive officers of the
ultimate general partner of each of IP Delaware and IP Bermuda. In addition,
Messrs. Spass and Cooper are officers of Capital Z, the general partner of IP
II. Each of IIA, Centre Re, CentreLine, Zurich, IP Delaware, IP Bermuda, IP II,
IPA, and Capital Z are parties to transactions with the Company described in
"Certain Relationships and Related Transactions." Additionally, Mr. Gentz and
Mr. Seaman have participated in
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transactions pursuant to which they acquired or are acquiring Common Stock
and/or warrants issued by the Company. See "Certain Relationships and Related
Transactions."

EXECUTIVE OFFICERS

Set forth in the table below are the names, ages and current offices held
by all executive officers of the Company and Superior Pacific. Unless
specifically noted, the positions named are held at both the Company and at
Superior Pacific.

<TABLE>
<CAPTION>
EXECUTIVE
OFFICER
NAME AGE POSITION WITH THE COMPANY SINCE
---- --- --------------------------------------------------- ---------
<S> <C> <C> <C>
William L. Gentz..... 57 President and Chief Executive Officer 1994
J. Chris Seaman...... 43 Executive Vice President and Chief Financial 1991
Officer
Arnold J. Senter..... 56 Executive Vice President and Chief Operating 1997
Officer
Thomas I. Boggs, 51 Senior Vice President -- Underwriting 1995
Jr.................
Karl O. Johnson...... 66 Senior Vice President, Superior Pacific 1989
Douglas R. Roche..... 57 Senior Vice President -- Management Information 1990
Systems
Robert E. Nagle...... 49 Senior Vice President, General Counsel and 1996
Secretary
James L. Cinney...... 57 Senior Vice President, Superior Pacific 1994
Edward C. Shoop...... 54 Senior Vice President and Chief Actuary 1997
Theresa A. Sealy..... 50 Senior Vice President -- California Operations 1998
Matthew Natalizio.... 43 Vice President -- Finance and Treasurer 1994
</TABLE>

Executive officers of the Company are elected by and serve at the
discretion of the Board. No arrangement exists between any executive officer and
any other person or persons pursuant to which any executive officer was or is to
be selected as an executive officer. None of the executive officers has any
family relationship to any director or to any other executive officer of the
Company. Set forth below is a brief description of the business experience for
at least the previous five years of all of the executive officers.

William L. Gentz has held the positions of President and Chief Executive
Officer since mid-1994, and has served as a director of the Company since June
1994. Mr. Gentz joined the Company after seventeen years at Zenith Insurance
Company where he was responsible for marketing, underwriting, loss control, and
field operations for Zenith's workers' compensation operations. Mr. Gentz began
his insurance career in 1958, and from 1958 to 1968 worked in the marketing and
underwriting departments of a variety of insurance companies in the mid-west and
California.

J. Chris Seaman has held the positions of Executive Vice President since
February 1995 and Chief Financial Officer since July 1991, and has served as a
director of the Company since March 1993. Prior to joining the Company, Mr.
Seaman was the Chief Financial Officer of a private company engaged in insurance
company acquisitions, following ten years with Ernst & Whinney. Mr. Seaman
previously held staff and management positions at Industrial Indemnity Insurance
Company and Allianz of America Corporation, respectively.

Arnold J. Senter has held the positions of Executive Vice President and
Chief Operating Officer since February 1997. Prior to joining the Company, Mr.
Senter most recently served as Senior Vice President, Southwest and Southeast
Operations at Zenith National Insurance Company, and had previously held various
operational positions in nearly every functional area for Zenith since 1981. Mr.
Senter has 30 years experience with both regional and national carriers.

Thomas I. Boggs, Jr. was appointed Senior Vice President -- Underwriting
effective March 1995. From October 1993 to March 1995, he served as Assistant
Vice President of Fremont Compensation Insurance Company and from October 1991
to October 1993 served as Business Development Executive for the Southern
California Commercial Insurance Center for Fireman's Fund Insurance Company.
Prior to October 1991, Mr. Boggs held various underwriting and marketing
positions at Cypress Insurance Company, Industrial Indemnity Insurance Company,
and Safeco.

87
<PAGE> 100

Karl O. Johnson has been responsible for SNIC's Central California
Operations since 1989. He was promoted to Senior Vice President in 1994. Mr.
Johnson has served with various insurance organizations in loss control and
marketing capacities since 1955; he joined the Company in 1987.

Douglas R. Roche was appointed Senior Vice President -- Management
Information Systems in 1994 and served in such position until January 1997 at
which point he was appointed Senior Vice President -- Claims. He served in such
position until September 1997 when he was reappointed Senior Vice President --
Management Information Systems. Before 1994, he served as Vice President of
Internal Operations from the time he joined the Company in 1990. From 1987 to
1990, Mr. Roche sold software and provided systems consulting services to the
insurance industry. From 1969 to 1987 he held a variety of management positions
in various insurance companies' systems analysis operations.

Robert E. Nagle has held the positions of Senior Vice President, General
Counsel, and Secretary since January 1996. From 1986 until he joined the
Company, Mr. Nagle was corporate counsel and senior corporate counsel for
Farmers Group, Inc.

James L. Cinney has been responsible for Superior Pacific's Woodland Hills
branch since 1997. Prior to that, he held the position of Senior Vice
President -- Loss Control of SNIC from 1994. Before joining the Company, Mr.
Cinney was self-employed in the hospitality industry for one year. Prior to
that, he was Vice President, responsible for loss control, at Industrial
Indemnity Insurance Company. Mr. Cinney has 30 years of workers' compensation
loss control experience in a variety of staff and management positions with
Industrial Indemnity Insurance Company, Zenith Insurance Company, Employee
Benefits Insurance Company, and Hanover Cal/Comp Insurance Company.

Edward C. Shoop was appointed Senior Vice President and Chief Actuary in
October 1997. From April 1995 to August 1997 he served as Senior Vice President
and Actuary with Zenith Insurance Company, and from March 1994 to April 1995
served as Vice President and Actuary with Great States Insurance Company. Prior
to that, Mr. Shoop was Vice President and Actuary with the Workers' Compensation
Insurance Rating Bureau of Massachusetts from November 1991 to March 1994. Mr.
Shoop's 31 years of actuarial experience also includes working for Fireman's
Fund Insurance Company and Royal Insurance Company of Canada, as a Vice
President, and for Aetna Life and Casualty Company.

Theresa A. Sealy was appointed Senior Vice President -- California
Operations in July 1998. From November 1997 to June 1998 she served as Vice
President of the Company. From June 1997 until she joined the Company, she
served as regional manager for CalComp and, prior to that, served as a Senior
Vice President of Allianz Insurance Company since February 1992.

Matthew Natalizio has held the position of Vice President -- Finance and
Treasurer since 1994. From 1988 until he joined the Company, Mr. Natalizio was
employed by KPMG Peat Marwick LLP.

SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

Section 16(a) of the Exchange Act ("Section 16(a)") requires the Company's
directors and certain of its officers, and persons who own more than ten percent
of a registered class of the Company's equity securities (collectively,
"Insiders"), to file reports of ownership and changes in ownership with the SEC.
Insiders are required by SEC regulations to furnish the Company with copies of
all Section 16(a) forms they file.

Based solely on its review of the copies of such forms received by it, or
written representations from certain reporting persons that no Forms 5 were
required for those persons, the Company believes that its Insiders complied with
all applicable Section 16(a) filing requirements for fiscal 1997, with the
exception of (i) Curtis H. Carson, an executive officer of the Company, who
filed a Form 5 to report one transaction that was not reported on a Form 4 on a
timely basis and (ii) IIA and International Insurance Investors (Bermuda)
Limited, each of which filed a late Form 4 to report the same two transactions.

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<PAGE> 101

EXECUTIVE COMPENSATION

The following table sets forth certain information concerning the
compensation for services in all capacities to the Company for the fiscal years
ended December 31, 1997, 1996, and 1995, of those persons who were, at December
31, 1997, (i) the chief executive officer and (ii) the other four most highly
compensated executive officers of the Company.

SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>
LONG TERM COMPENSATION
-------------------------------------
ANNUAL COMPENSATION AWARDS PAYOUT
-------------------------------- ------------------------- ---------
OTHER RESTRICTED SECURITIES
ANNUAL STOCK UNDERLYING ALL OTHER
COMPEN- AWARDS OPTIONS/ LTIP COMPEN-
NAME AND PRINCIPAL POSITION YEAR SALARY(1) BONUS(2) SATION($) ($)(3) SARS(#) PAYOUT(#) SATION($)(4)
- --------------------------- ---- --------- -------- --------- ---------- ---------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
William L. Gentz........... 1997 $293,830 $ -- -- $121,250(5) 18,800 -- 2,250
President and Chief 1996 298,300 278,500 -- 46,874 17,875 -- 2,250
Executive Officer 1995 294,508 203,500 -- 53,690 19,175 -- 2,250
J. Chris Seaman............ 1997 231,616 -- -- 109,125(6) 17,500 -- 2,250
Executive Vice President 1996 235,298 128,500 -- 36,223 13,813 -- 2,250
and Chief Financial
Officer 1995 215,500 128,500 -- 40,170 39,325 -- 2,250
Arnold J. Senter(7)........ 1997 229,335 -- -- -- 25,000 -- 2,250
Executive Vice President 1996 -- -- -- -- -- -- --
and Chief Operating
Officer 1995 -- -- -- -- -- -- --
Matthew Natalizio.......... 1997 183,292 -- -- 18,188(8) 2,786 -- 2,250
Vice President -- 1996 131,004 35,000 -- 20,058 6,500 -- 1,875
Finance and Treasurer 1995 138,504 30,000 -- 7,280 2,600 -- 2,078
Thomas I. Boggs, Jr........ 1997 164,261 -- -- 30,313(10) 4,643 -- 2,250
Senior Vice President -- 1996 155,800 32,000 -- 21,306 8,125 -- 2,163
Underwriting(9) 1995 115,917 7,000 -- 13,000 12,150 -- 1,098
</TABLE>

- ---------------
(1) The amounts set forth for fiscal year 1997 include salary and other cash
compensation paid in that year, other than amounts listed in the column
entitled "Bonus."

(2) Bonus amounts represent cash payments and are presented in the year to
which they apply, although payment typically is made in April of the
subsequent year. No bonus payments were made for fiscal year 1997.

(3) Represents the fair market value of the underlying shares on the date of
grant.

(4) Represents the employer's contribution under the Company's 401(k) Plan.

(5) Represents a grant of 10,000 shares of Restricted Stock that vests in nine
equal annual increments following the date of grant. As of December 31,
1997, Mr. Gentz held an aggregate of 29,950 shares of Restricted Stock
valued at $434,275, based upon the $14.50 per share fair market value of
the Common Stock on such date.

(6) Represents a grant of 9,000 shares of Restricted Stock that vests in nine
equal annual increments following the date of grant. As of December 31,
1997, Mr. Seaman held an aggregate of 24,163 shares of Restricted Stock
valued at $350,364, based upon the $14.50 per share fair market value of
the Common Stock on such date.

(7) Mr. Senter began his employment with the Company in February 1997.

(8) Represents a grant of 1,500 shares of Restricted Stock that vests in nine
equal increments following the date of grant. As of December 31, 1997, Mr.
Natalizio held an aggregate of 6,399 shares of Restricted Stock valued at
$92,786, based upon the $14.50 per share fair market value of the Common
Stock on such date.

(9) Mr. Boggs began his employment with the Company in March 1995.

(10) Represents a grant of 2,500 shares of Restricted Stock that vests in nine
equal annual increments following the date of grant. As of December 31,
1997, Mr. Boggs held an aggregate of 9,375 shares of

89
<PAGE> 102

Restricted Stock valued at $135,938, based upon the $14.50 per share fair
market value of the Common Stock on such date.

EMPLOYMENT AGREEMENTS

The Company has in effect employment agreements with the following
officers:

William L. Gentz, President and Chief Executive Officer. Mr. Gentz's
agreement expires on June 1, 1999, but is subject to automatic renewal in
one-year increments unless notification of non-renewal is given sixty days prior
to the expiration of the then-current term. His salary was set as of June 1,
1994 at $275,000 annually, plus benefits and incidentals generally provided to
officers of the Company, and is thereafter as determined by the Board. Mr.
Gentz's annual salary was increased to $287,500 effective August 1, 1995. If Mr.
Gentz's employment is terminated by the Company other than for cause, he is
entitled to payment of his salary and benefits for the then-remaining term of
his agreement. In the event of a change in control of the Company, Mr. Gentz
would be deemed terminated without cause and his employment agreement would be
deemed to have a three-year remaining term.

Arnold J. Senter, Executive Vice President and Chief Operating Officer. Mr.
Senter's agreement expires on February 17, 1999, but is subject to automatic
renewal in one-year increments unless notification of non-renewal is given sixty
days prior to the expiration of the then-current term. His salary was set as of
February 17, 1997 at $200,000 annually, plus benefits and incidentals generally
provided to officers of the Company, and is thereafter as determined by the
Board. If Mr. Senter's employment is terminated by the Company other than for
cause, he is entitled to payments of his salary and benefits for the
then-remaining term of his agreement. In the event of a change in control of the
Company, Mr. Senter would be deemed terminated without cause and his employment
agreement would be deemed to have a three-year remaining term.

J. Chris Seaman, Executive Vice President and Chief Financial Officer. Mr.
Seaman's agreement expires on June 1, 1999, but is subject to automatic renewal
in one-year increments unless notification of non-renewal is given sixty days
prior to the expiration of the then-current term. His annual salary under the
agreement is $200,000, plus benefits and incidentals generally provided to
officers of the Company, and is thereafter as determined by the Board. If Mr.
Seaman's employment is terminated by the Company other than for cause, he is
entitled to payments of his salary and benefits for the then-remaining term of
his agreement. In the event of a change in control of the Company, Mr. Seaman
would be deemed terminated without cause and his employment agreement would be
deemed to have a three-year remaining term.

Edward C. Shoop, Senior Vice President and Chief Actuary. Mr. Shoop's
agreement expires on October 6, 1999 and provides that, if his employment with
the Company is terminated as a result of a change in control, he will be
entitled to his salary and benefits for two years from the date of his
termination.

Each of Messrs. Gentz, Senter, Seaman, and Shoop have acknowledged that the
acquisition by IP of a majority of the outstanding Common Stock, should it occur
as a result of the Equity Financings, does not constitute a change in control
for purposes of their employment agreements.

Matthew Natalizio, Vice President -- Finance and Treasurer. Mr. Natalizio's
agreement is open-ended. His compensation and benefits are determined by the
Board. If Mr. Natalizio's employment is terminated by the Company other than for
cause, he is entitled to payment of his salary and benefits for one year from
the date of the termination. Mr. Natalizio's agreement does not provide any
special rights in the event of a change in control.

CHANGE IN CONTROL ARRANGEMENTS

In addition to the rights described above with respect to Messrs. Gentz,
Senter, Seaman, and Shoop, the only change in control arrangement in place is in
connection with the Company's stock incentive plans. Under the terms of the 1986
Non-Statutory Stock Option and 1986 Non-Statutory Stock Purchase Plan (the "1986
Plan"), upon a change of control of the Company, unless replacement options to
purchase stock in the new or recapitalized entity are offered, all option
holders will have thirty days to exercise their outstanding options,
90
<PAGE> 103

excluding those that have then not yet vested. Under the terms of the 1995 Plan,
under similar circumstances, the Compensation Committee may, in its discretion,
allow each person holding an option or Restricted Stock who did not receive a
replacement equity incentive grant to exercise that option without regard to its
vesting provisions, or to retain that Restricted Stock without regard to the
Company's repurchase right, as applicable.

EQUITY INCENTIVE GRANTS

Officers, key employees, including directors who are key employees, and
consultants chosen by the Compensation Committee are eligible to participate in
the 1995 Plan.

Under the 1995 Plan, officers, key employees, and consultants of the
Company or its subsidiaries may be granted options to purchase shares of Common
Stock or they may be given the opportunity to purchase Restricted Stock of the
Company. The 1995 Plan permits the granting both of options that qualify for
treatment as Incentive Stock Options under Section 422 of the Code and those
that do not, referred to as Nonqualified Stock Options. The 1995 Plan also
allows for the issuance of Restricted Stock, which is subject to the Company's
right of repurchase, which expires over time.

In 1986, the Company adopted the 1986 Plan, which allowed the Company to
issue to employees of the Company and its subsidiaries Nonqualified Stock
Options and rights to purchase Common Stock. The purchase right aspect of the
1986 Plan was terminated by the Board of Directors in 1989. Following the
adoption of the 1995 Plan, the Board of Directors determined to make no further
grants pursuant to the 1986 Plan.

OPTION GRANTS IN LAST FISCAL YEAR

The following table sets forth information concerning options granted
during fiscal 1997 to each of the executive officers named in the Summary
Compensation Table set forth above under "-- Executive Compensation."

<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
------------------------------------------------------
NUMBER OF % OF TOTAL POTENTIAL REALIZABLE VALUE AT
SECURITIES OPTIONS/ ASSUMED ANNUAL RATES OF STOCK
UNDERLYING SARS PRICE APPRECIATION
OPTIONS/SARS GRANTED TO EXERCISE OR FOR OPTION TERM
GRANTED EMPLOYEES IN BASE PRICE EXPIRATION ------------------------------
NAME (#) FISCAL YEAR ($/SH)(1) DATE 0%(2) 5% ($)(3) 10% ($)(3)
---- ------------ ------------ ----------- ---------- ----- --------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
William L. Gentz............ 18,800(4) 14.9 12.125 3/31/07 -- 143,414 363,294
J. Chris Seaman............. 17,500(4) 13.8 12.125 3/31/07 -- 133,497 338,172
Arnold J. Senter............ 25,000(4) 19.8 11.380 2/17/07 -- 178,920 453,419
Matthew Natalizio........... 2,786(4) 2.2 12.125 3/31/07 -- 21,244 53,837
Thomas I. Boggs, Jr......... 4,643(4) 3.7 12.125 3/31/07 -- 35,419 89,722
</TABLE>

- ---------------
(1) Represents the fair market value of the underlying shares of Common Stock at
the time of the grant.

(2) Unless the stock price increases, which will benefit all stockholders
commensurately, an option holder will realize no gain.

(3) Represents the value of the shares of Common Stock issuable upon the
exercise of the option, assuming the stated rates of price appreciation for
ten years, compounded annually, with the aggregate exercise price deducted
from the final appreciated value. The 5% and 10% rates are established by
the SEC as examples only and are not intended to forecast future
appreciation in the Common Stock price.

(4) Represents a ten-year, Incentive Stock Option grant, vesting at a rate of
20% per year for five years from the date of grant, granted pursuant to the
1995 Plan.

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<PAGE> 104

OPTION EXERCISES AND YEAR-END VALUE

The following table sets forth information concerning the aggregate number
of options exercised during fiscal 1997 by each of the executive officers named
in the Summary Compensation Table set forth above under "-- Executive
Compensation," and outstanding options held by each such officer as of December
31, 1997.

<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS/ IN-THE-MONEY OPTIONS/
SARS AT SARS AT
FISCAL YEAR-END(#) FISCAL YEAR-END(1)
-------------------- ---------------------
SHARES ACQUIRED VALUE EXERCISABLE/ EXERCISABLE/
NAME ON EXERCISE(#) REALIZED($) UNEXERCISABLE UNEXERCISABLE
---- --------------- ----------- -------------------- ---------------------
<S> <C> <C> <C> <C>
William Gentz.................... -- -- 29,995/57,105 $280,133/405,606
J. Chris Seaman.................. -- -- 40,591/45,047 392,016/304,878
Arnold J. Senter................. -- -- --/25,000 --/78,000
Matthew Natalizio................ -- -- 8,340/13,546 78,068/104,719
Thomas I. Boggs, Jr.............. -- -- 6,485/18,433 60,847/141,419
</TABLE>

- ---------------
(1) Uses a fair market value at December 31, 1997 of $14.50 per share, with the
aggregate exercise price deducted from the total value of the Common Stock
underlying the options.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

The Compensation Committee during the fiscal year ended December 31, 1997
consisted of Messrs. Noble, Cooper and Germain, each of whom was a non-employee
director. Mr. Cooper is an employee of IIA, which was paid $250,000 by the
Company in fiscal 1997 for investment banking and financial consulting services.
Mr. Germain is an officer and a director of Centre Re, which was involved in
several transactions with the Company during 1997 involving payments in excess
of $60,000. See "-- Certain Relationships and Related Transactions."

During fiscal 1997, no officers participated in deliberations of the
Compensation Committee concerning executive officer compensation, except William
Gentz, the Company's President and Chief Executive Officer.

REPORT OF THE COMPENSATION COMMITTEE OF THE BOARD OF DIRECTORS

The Compensation Committee was comprised of Messrs. Noble, Cooper and
Germain during 1997. The Compensation Committee establishes the general
compensation policies of the Company, establishes the compensation plans and
specific compensation levels for executive officers, and administers the 1986
Plan and the 1995 Plan.

As required by rules designated to enhance the disclosure of the Company's
executive compensation policies and practices, the following is the Compensation
Committee's report submitted to the Board addressing the compensation of the
Company's executive officers for fiscal 1997:

COMPENSATION COMMITTEE REPORT

The Compensation Committee of the Board of Directors establishes the
general compensation policies of the Company, establishes the compensation
plans, establishes the specific compensation of Mr. William Gentz, the Company's
Chief Executive Officer, reviews the Chief Executive Officer's recommendations
as to the specific compensation levels for the other executive officers, and
administers the Company's stock incentive plans.

Compensation Policy and Programs

The Compensation Committee's responsibility is to provide a strong and
direct link among stockholder values, Company performance, and executive
compensation through its oversight of the design and implementation of a sound
compensation program that will attract and retain highly qualified personnel.
Compensation

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<PAGE> 105

programs are intended to complement the Company's short- and long-term business
objectives and to focus executive efforts on the fulfillment of these
objectives.

The Compensation Committee, consistent with its standing policy, has
conducted a full review of the Company's executive compensation program and will
repeat this review as it deems necessary. Advisors with expertise in executive
compensation matters are consulted regularly by the Compensation Committee. It
is the Compensation Committee's practice to establish target levels of
compensation for senior officers consistent with that of companies comparable in
size and complexity to the Company, as well as companies that are direct
business competitors of the Company. After considerable review of extensive data
relating to aspects of compensation paid by such groups of companies, actual
compensation of the Company's executive officers is subject to increase or
decrease by the Compensation Committee from targeted levels according to the
Company's overall performance and the individual's efforts and contributions. As
of 1997, as in previous years, a significant portion of executive compensation
is directly related to the Company's financial performance and is therefore at
risk. Total compensation for the Company's senior management is composed of base
salary, near-term incentive compensation in the form of bonuses, and long-term
incentive compensation in the form of options and Restricted Stock grants. The
Compensation Committee retains the discretion to adjust the formula for certain
items of compensation so long as total compensation reflects overall corporate
performance and individual achievement.

Base Salary

In establishing base salary levels for senior officer positions, the
Compensation Committee and Mr. Gentz consider levels of compensation at other
similarly situated companies and at direct competitors, levels of
responsibility, and internal issues of consistency and fairness. In determining
the base salary of a particular executive, the Compensation Committee and Mr.
Gentz consider individual performance, including the accomplishment of short-
and long-term objectives, and various subjective criteria including initiative,
contribution to overall corporate performance, and leadership ability.

In the fiscal year ended December 31, 1995, the annual base salary of Mr.
Gentz began at $275,000 and increased to $287,500 in September, a level
determined to be appropriate by the Compensation Committee based on comparable
chief executive salaries of a peer group of companies and of direct competitors,
the Company's overall performance and profitability in the relevant fiscal year,
and Mr. Gentz's efforts and contributions to the Company. Mr. Gentz's annual
base salary of $287,500 did not increase in either the fiscal year ended
December 31, 1996 or the fiscal year ended December 31, 1997.

Bonuses

The Company's executive officers are eligible for annual bonuses based upon
recommendations made by Mr. Gentz (as to the other executive officers) and the
Compensation Committee (as to Mr. Gentz) as to individual performance and the
Company's achievement of certain operating results. The Company's practice is to
determine bonuses for the prior fiscal year early in the second quarter.

Amounts of individual awards are based principally upon the results of the
Company's financial performance during the relevant fiscal year. The awards for
senior officers are within guidelines established by the Compensation Committee
and Mr. Gentz as a result of their review of total compensation for senior
management of peer companies and competitors. The actual amount awarded within
these guidelines is determined principally by the Compensation Committee and Mr.
Gentz. Consideration is given to factors such as the individual's contribution
to the Company's overall financial performance, the individual's successful
completion of a special project, any significant increase or decrease in the
level of the individual's executive responsibility, and the Compensation
Committee's and Mr. Gentz's evaluation of the individual's overall efforts and
ability to discharge the responsibilities of his position. In 1997, bonuses were
paid with respect to fiscal 1996 performance to all of the continuing executive
officers named in the Summary Compensation Table (other than Mr. Senter) and to
17 executive officers in total. In 1998, it was determined that no bonuses would
be paid for fiscal 1997 because the financial performance of the Company was
such that consideration of the other factors were not warranted.

93
<PAGE> 106

In determining Mr. Gentz's bonus, the Compensation Committee gives
particular consideration to the following factors: (1) the Company's
underwriting results; (2) the Company's return on average equity during the
fiscal year; (3) the positive earnings growth of the Company during the fiscal
year; (4) performance of the Common Stock during the fiscal year; (5) the
success of the Company in implementing acquisitions and divestitures; and (6)
the efforts and contributions made by Mr. Gentz in discharging his
responsibilities as Chief Executive Officer. In determining that no bonus would
be paid for fiscal 1997, the Compensation Committee determined the Company did
not satisfy financial performance criteria and that consideration of other
factors was not warranted.

Stock Incentives

The Company currently has in place the 1986 Plan and the 1995 Plan. The
Company ceased issuing options under the 1986 Plan in April 1995. The purpose of
the 1995 Plan is to provide incentives and reward the contributions of key
employees, officers, and consultants for the achievement of long-term Company
performance, as measured by earnings per share and the market value of the
Common Stock. The Compensation Committee set guidelines for the number and terms
of option or Restricted Stock awards based on factors similar to those
considered with respect to the other components of the Company's compensation
program, including comparison with the practices of peer group companies and
direct competitors. In the event of unsatisfactory corporate performance, the
Compensation Committee may decide not to award options or Restricted Stock in
any given fiscal year although exceptions to this policy may be made for
individuals who have assumed substantially greater responsibilities and other
similar factors. The awards under the 1995 Plan are designed to align the
interests of executives with those of the stockholders. Generally, options
become exercisable in cumulative installments over a period of five years, but
the individual forfeits any installment that has not vested during the period of
his or her service to the Company. Restricted Stock grants generally vest in
equal installments over nine years with unvested shares subject to repurchase by
the Company at no gain to the participant upon the termination of his or her
employment. When Restricted Stock grants have been made, the share certificates
representing the Restricted Stock are only issued when restrictions lapse, hence
the bulk of those grants are not reflected in the Company's total outstanding
shares number.

Under the 1995 Plan, the Compensation Committee during 1997 approved a set
of option grants to all officers then employed and a set of Restricted Stock
grants to certain officers then employed. Agreements reflecting these option and
Restricted Stock grants have been prepared and delivered to the recipient
employees.

The Compensation Committee has reviewed the Company's executive
compensation policies and plans in light of the provisions of the Omnibus Budget
Reconciliation Act of 1993 and the rules promulgated under that Act. This
legislation amended Section 162 of the Code by limiting to $1 million the
deductibility of compensation paid to certain executives. Rulemaking has
clarified the impact of the 1993 act on equity incentive plans. It is the
current policy of the Compensation Committee to maximize, to the extent
reasonably possible, the Company's ability to obtain a corporate tax deduction
for compensation paid to executive officers of the Company to the extent
consistent with the best interests of the Company and its stockholders.

Bradley E. Cooper
Steven D. Germain
Gordon E. Noble
Members of the Compensation Committee

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<PAGE> 107

COMPANY PERFORMANCE

The graph below compares the cumulative total stockholder return of the
Company with the cumulative total return on The Nasdaq National Market (U.S.
Companies) Index and the Nasdaq Insurance Stocks Index for the period from June
30, 1995 (the date on which the Company's registration statement under Section
12 of the Exchange Act became effective) through December 31, 1997.

COMPARISON OF CUMULATIVE TOTAL RETURN

<TABLE>
<S> <C>
Superior National Insurance Group, Inc. Common Stock........ $322.22
Nasdaq Insurance Stocks Index............................... $170.69
The Nasdaq National Market (U.S. Companies) Index........... $170.08
</TABLE>

Assumes that $100 was invested on June 30, 1995 (the date on which the
Company's registration statement under Section 12 of the Exchange Act became
effective) in each of the Common Stock, The Nasdaq National Market (U.S.
Companies) Index, and the Nasdaq Insurance Stocks Index, and that all dividends
were reinvested.

The Company believes that the Company's total stockholder return improved
during 1997 primarily as a result of the consummation of its acquisition of SPCC
and the anticipated savings that the Company expects will result from the
transaction.

95
<PAGE> 108

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

TRANSACTIONS WITH IIA

Messrs. Spass and Cooper, directors of the Company, are employees of IIA.
Mr. Spass is also an officer and director of IIA. Mr. Schwarberg, a director of
the Company, is a former employee of IIA. IIA was paid $250,000 by the Company
during each of fiscal 1997, 1996, and 1995 for investment banking and financial
consulting services. Such payments were made pursuant to a consulting agreement
entered into in 1992 that continues through the end of 1998.

TRANSACTIONS WITH AFFILIATES OF ZURICH, INCLUDING CENTRE RE

Zurich, Centre Re, and CentreLine are affiliates of each other. Mr.
Germain, a director of the Company, is an officer and director of Centre Re and
CentreLine and an officer of Zurich.

Financing Transactions

In December 1997, Centre Reinsurance (Bermuda) Ltd. purchased $10.0 million
of the Trust Preferred Securities.

Effective June 11, 1998, Zurich Reinsurance (North America), Inc. ("ZRNA")
advanced to SNIC $5.5 million of a reinsurance commutation amount to be paid to
SNIC in July 1998. SNIC used the proceeds of the advance to purchase Common
Stock from a director of the Company, and other investments. See "-- Purchase of
Common Stock by SNIC from Thomas J. Jamieson, Director." Until the commutation
occurs, ZRNA will receive interest on the funds advanced at current short term
borrowings rates.

As of June 30, 1994, the Company completed a $20.0 million financing
transaction (the "1994 Transaction") with CentreLine and another affiliate of
Centre Re. The 1994 Transaction resulted in Centre Re's affiliate owning
preferred securities issued by an entity controlled by the Company with a 9.7%
annual rate of return payable semi-annually, and in the issuance of the
CentreLine Warrant. Because no cash dividends were paid on the preferred
securities, additional preferred securities were issued. In December 1997, the
Company applied the proceeds from the issuance and sale of the Trust Preferred
Securities and the underlying Senior Subordinated Notes to redeem all of the
approximately $26.6 million in such preferred securities then outstanding.

In March 1992, the Company engaged in an $11.0 million financing
transaction with III in which the Company issued its 14.5% Notes and detachable
warrants to purchase Common Stock. Substantially all the 14.5% Notes were repaid
in 1994 but the III warrants remain outstanding. Centre Re is a limited partner
of III. Messrs. Spass, Schwarberg, and Cooper, directors of the Company, are
each the beneficial owner of less than one percent of the limited partnership
interests in III. In addition, Mr. Spass has voting power over all of the voting
capital stock of III's general partner. Messrs. Seaman and Johnson, each of whom
is an officer of the Company (Mr. Seaman is also a director), Joseph Wolonsky
(an officer who resigned from the Company in June 1997), Richard Hotchkiss (an
officer who retired from the Company in June 1996), and Edwin Wilson (an officer
who resigned from the Company in May 1995) each received warrants in this 1992
transaction as a result of their purchase of 14.5% Notes.

In addition to its interest in the 14.5% Notes, Centre Re, because of its
limited partnership position in III, was further interested because, under the
terms of the CentreLine Warrant, the exercise price thereof would have been
reduced from $5.20 to $4.00 had the 14.5% Notes not been refinanced prior to
December 31, 1994. If that reduction had occurred, the aggregate exercise price
that CentreLine would have had to pay to exercise the CentreLine Warrant in full
would have decreased by $695,228.

Under the terms of the warrants issued to III and the CentreLine Warrant,
Centre Re and CentreLine, among other things, have preemptive rights on the
issuance by the Company of equity securities, including rights or warrants to
purchase equity securities.

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<PAGE> 109

Reinsurance

Effective January 1, 1993, SNIC entered into an aggregate excess of loss
reinsurance contract with Centre Re under which SNIC was required to cede not
less than $15.0 million and not more than $20.0 million of claim and claim
adjustment expense to Centre Re with respect to any covered accident year.
During 1995 the Company paid $15.0 million to Centre Re for reinsurance
services. Effective January 1, 1996, the Company cancelled certain reinsurance
services provided by Centre Re. The Company accrued a $5.3 million charge
related to the cancellation of such reinsurance services.

Effective January 1, 1994, SNIC entered into the ZRNA Quota-Share with
ZRNA, an affiliate of Zurich, which also applies to business written by SPCC
since April 1, 1997. Under the ZRNA Quota-Share, ZRNA may provide Superior
Pacific with an ALE facility, or, effective January 1, 1997, Superior Pacific
may write directly on policy forms of ZCIC, an affiliate of ZRNA (the "ZCIC
Underwriting Agreement"). The ceding rate under the contract was 20% for 1994,
and ZRNA and Superior Pacific mutually agreed to reduce the quota-share
participation to 5% for 1995 and 1996. Further, Superior Pacific receives ceding
commissions ranging between 22.5% and 24.5% for premiums ceded to ZRNA. The
purpose of the ceding commission is to cover Superior Pacific's cost of
acquiring new business and may be changed as a result of changes in market
conditions on a quarterly basis.

Effective January 1, 1997, the terms of the ZRNA Quota-Share were amended.
Under the amended terms of the ZRNA Quota-Share, ZRNA increased its
participation from 5% of premiums written in 1996 to 6.5% in 1997. In exchange
for the increased participation, ZRNA will no longer receive a separate fee for
policies written on ALEs, but will receive 2% of premiums written on ZCIC
Underwriting Agreement policies only.

Superior Pacific entered into a reinsurance transaction with Centre Re
effective June 30, 1997 under which Centre Re assumed $10.0 million of reserves
associated with claims open for future medical payments only from Superior
Pacific in consideration of $1 million in cash and the assignment of the rights
of Superior Pacific's contribution and subrogation recoveries during the term of
the contract. The contract is accounted for as a deposit, and no gain or loss
will be recognized until net cash payments from (or to) Centre Re are either
greater (or less) than Superior Pacific's $1.0 million premium.

Claim Severity Management Program

Beginning December 31, 1997 the Company entered into agreements with Risk
Enterprise Management Limited ("REM") and an affiliate of REM to provide the
Claim Severity Management Program. The total cost of this program to the Company
is expected to be approximately the same cost as the Company's regular claim
management functions would have entailed over the expected five-year life of the
program. The Company believes its operating costs would have been similar had it
not determined to pursue the program, while its claim severity risk has been
reduced. See "Superior National -- Business -- Claim Severity Management
Program."

Acquisition and Equity Financings

In connection with the Acquisition and Equity Financings, Zurich Centre
Group LLC will purchase BICO from the Company immediately after the Closing, and
will cause BICO to enter into an underwriting arrangement with the Company. See
"Acquisition of Business Insurance Group, Inc. -- Disposition of BICO." In
addition, an affiliate of Zurich will receive 205,520 of the Commitment Fee
Warrants to be issued to IP for providing the Standby Commitment, in exchange
for certain financing commitments provided to IP II. Also, due to their status
as holders of warrants, Centre Re and CentreLine will be issued Rights in the
Rights Offering or will have the opportunity to exercise preemptive rights
arising out of the IP Stock Issuance.

1996-97 TRANSACTIONS WITH IP AND LIMITATIONS ON RELATED PARTY CONTROL

Messrs. Spass and Gruber, directors of the Company, are executive officers
of the ultimate general partner of each of IP Delaware and IP Bermuda. In April
1997, IP Delaware and IP Bermuda purchased an

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<PAGE> 110

aggregate of 2,124,834 shares of Common Stock at $7.53 per share, for an
aggregate purchase price of $16.0 million, pursuant to the 1996 Stock Purchase
Agreement among the Company, IP Delaware, IP Bermuda, TJS, and certain members
of the Company's management. The Company used the proceeds to fund, in part, its
acquisition of Pac Rim. The price of the Common Stock was determined based on
its per share price as quoted on Nasdaq during a certain period preceding the
September 17, 1996 announcement of the Pac Rim Transaction, and represented, in
April 1997, a significant discount to the then-current market price of the
Common Stock. Mr. Gruber's election as a director of the Company was effective
upon the consummation of the acquisition of Pac Rim. The Board of Directors
(without Messrs. Gentz, Seaman, Spass, Germain, and Cooper, who disclosed their
conflict of interest, withdrew from the discussion, and abstained from the vote)
unanimously approved the 1996 Stock Purchase Agreement. The negotiations of the
1996 Stock Purchase Agreement were conducted by Mr. Pecchenino on behalf of the
Company.

The 1996 Stock Purchase Agreement contains, in addition to customary terms
and provisions, certain covenants by IP Delaware and IP Bermuda that shall
remain effective so long as IP Delaware and IP Bermuda and their "Associates"
beneficially own an aggregate of 15% or more of the Common Stock on a fully
diluted basis. As used herein and for purposes of the 1996 Stock Purchase
Agreement, "Associates" means each of CentreLine, Centre Re, III, IIA, and any
person or entity that controls, is under common control with, or is controlled
by IP Delaware and IP Bermuda or such persons or entities, and all individuals
who are officers, directors, or control persons of any such entities, including
IP Delaware and IP Bermuda. One such covenant, with certain limited exceptions,
prohibits IP Delaware and IP Bermuda or any of their Associates from acquiring
any additional shares of Common Stock, entering into a merger or business
combination involving the Company, participating in any solicitation of proxies,
or participating in any group with respect to the foregoing, without a two-third
majority vote of (i) the non-Associate and non-employee directors or (ii) the
Company's stockholders (excluding those shares held by IP Delaware and IP
Bermuda and their Associates and by executive officers having to report
transactions in Common Stock under securities laws). Other covenants provide
that IP Delaware and IP Bermuda and their Associates would not elect more than
five directors (or the highest number that is less than a majority of the Board
of Directors) and that IP Delaware and IP Bermuda and their Associates would not
transfer any of their shares except in certain types of specified transactions.
Further, other than with respect to the election of directors of the Company, IP
Delaware and IP Bermuda and their Associates agreed that, with respect to any
vote of the stockholders of the Company on a particular matter, if the aggregate
number of all shares that are voted in like manner by IP Delaware and IP Bermuda
and their Associates shall be greater than 35% of the total number of shares
voted, then those votes that exceed such 35% threshold shall be voted in the
same proportion as the other stockholders voted their shares with respect to
such matter.

In connection with the 1996 Stock Purchase Agreement, the Company entered
into an agreement with all holders of the Company's outstanding warrants
pursuant to which such holders are prohibited from exercising their warrants
until April 2000 unless prior approval of the Board of Directors is obtained.
This restriction was implemented in order to reduce the risk that the Company
would undergo an ownership change for purposes of Section 382 of the Code and
thus be limited in its ability to use its NOLs. It is anticipated that this
restriction will be terminated effective at the Closing.

The relevant provisions of the 1996 Stock Purchase Agreement will be
superseded by the Stock Purchase Agreement effective upon the Closing. See
"-- Participation by IP in the Equity Financings and Limitations on Related
Party Control."

In addition, each of Messrs. Spass and Gruber are executive officers of
IPA. On April 11, 1997, IPA received a transaction fee from the Company of
$625,000 representing a percentage of all of the funds raised in connection with
the Pac Rim Transaction.

PURCHASE OF COMMON STOCK BY SNIC FROM THOMAS J. JAMIESON, DIRECTOR

Effective June 11, 1998, SNIC agreed to purchase an aggregate of 245,000
shares of Common Stock from Thomas J. Jamieson, a director of the Company, and
Jaco Oil Company, an entity controlled by Mr. Jamieson. The price per share paid
was $21.00, for total consideration of $5,145,000. The closing sales price

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per share of Common Stock on June 10, 1998 was $22.88. The Common Stock
purchased by SNIC is held as an investment. The Board of Directors, with
disclosure of the conflicts of interest of Mr. Jamieson, and also Mr. Germain
(due to ZRNA's advance of funds discussed above), unanimously approved SNIC's
purchase of Mr. Jamieson's and Jaco Oil Company's Common Stock.

PARTICIPATION BY IP IN THE EQUITY FINANCINGS AND LIMITATIONS ON RELATED PARTY
CONTROL

On May 3, 1998, in connection with the Acquisition and in accordance with
the terms of the 1996 Stock Purchase Agreement, the non-Associate and
non-employee directors of the Company unanimously approved the IP Stock Issuance
and the Standby Commitment. Under the IP Stock Issuance, concurrently with the
Acquisition, IP Delaware, IP Bermuda, and IP II, collectively, will purchase an
aggregate of 5,611,940 shares of Common Stock at a price of $16.75, for a total
of $94.0 million. Under the Standby Commitment, IP has agreed to purchase up to
an additional 6,328,358 shares of Common Stock in an amount of shares of Common
Stock necessary to bring the total proceeds of the Equity Financings to $200.0
million. Any shares purchased pursuant to the Standby Commitment will be
purchased privately at the Stock Offering's Subscription Price of $16.75. The
purchase of shares by IP under each of the IP Stock Issuance and, if necessary,
the Standby Commitment will be governed by the Stock Purchase Agreement. The
terms of the Stock Purchase Agreement, and the $16.75 Subscription Price, were
negotiated by independent directors on behalf of the Company. Because the $16.75
price equals the Subscription Price in the Stock Offering, and the Subscription
Price was set with the intention of inducing participation by the Company's
stockholders, at the time the price was determined, and at the date hereof, the
$16.75 price represents a discount to the market price of the Common Stock.

As in the 1996 Stock Purchase Agreement, the Stock Purchase Agreement
contains, in addition to customary terms and provisions, including customary
representations and warranties, covenants, and reciprocal indemnification
provisions, certain covenants by IP that shall remain effective so long as IP
and its Associates beneficially own an aggregate of 15% or more of the
outstanding Common Stock on a diluted basis. One such covenant, with certain
limited exceptions, prohibits IP or any of its Associates from acquiring any
additional shares of Common Stock, entering into a merger or business
combination involving the Company, participating in any solicitation of proxies,
or participating in any group with respect to any of the foregoing, without a
two-third majority vote of (i) the directors not affiliated with IP or its
Associates, or (ii) the stockholders (other than IP and its Associates). Other
covenants provide that IP and its Associates will not elect more than five
directors (or the highest number that is less than a majority of the Board of
Directors) and that IP will not transfer any of its shares except in certain
types of specified transactions. Further, other than with respect to the
election of directors of the Company, IP has agreed that, with respect to any
vote of the stockholders of the Company on a particular matter, if the aggregate
number of all shares that are voted in like manner by IP and its Associates
shall be greater than 35% of the total number of shares voted, then those votes
that exceed such 35% threshold shall be voted in the same proportion as the
other stockholders voted their shares with respect to such matter.

The Company has agreed to pay $3.9 million to IP as a transaction fee upon
consummation of the IP Stock Issuance.

In consideration of its agreement to provide the Standby Commitment, IP
will receive a commitment fee from the Company, regardless of whether the Stock
Offering and Standby Commitment are consummated, consisting of Commitment Fee
Warrants to purchase 734,000 shares of Common Stock at $16.75 per share. IP will
transfer 205,520 of these Commitment Fee Warrants to an entity affiliated with
Zurich in consideration of certain financing commitments to IP II.

MANAGEMENT PURCHASE OF EQUITY IN 1997

In April 1997, 30 members of the Company's management and TJS, at the time
a 10% or greater stockholder of the Company, purchased an aggregate of 265,604
shares of Company Common Stock at $7.53 per share for an aggregate purchase
price of $2.0 million under the 1996 Stock Purchase Agreement. As is its policy,
IP Delaware and IP Bermuda requested that management participate with IP
Delaware and IP

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<PAGE> 112

Bermuda in their purchase of Common Stock under the 1996 Stock Purchase
Agreement. Of the 2,390,438 shares of Common Stock issued under the 1996 Stock
Purchase Agreement, 2,124,834 shares were acquired by IP Delaware and IP
Bermuda, as discussed above, 132,802 shares were acquired by TJS; 25,234 were
acquired by William Gentz (a director and the President and Chief Executive
Officer of the Company); 25,232 were acquired by J. Chris Seaman (a director, an
Executive Vice President and the Chief Financial Officer of the Company); 9,296
were acquired by Joseph P. Wolonsky (who was then a Senior Vice President of the
Company, but who subsequently resigned from the Company as of June 30, 1997);
9,296 were acquired by Karl O. Johnson (a Senior Vice President of Superior
Pacific); 9,296 were acquired by Douglas R. Roche (a Senior Vice President of
the Company); and 54,448 were acquired by other members of management.

PARTICIPATION BY MANAGEMENT IN THE STOCK OFFERING

The Board of Directors has approved the opportunity to participate in the
Stock Offering for employees and consultants of the Company holding vested and
unvested stock options and grants of shares of Restricted Stock, all previously
issued under the terms of equity incentive plans approved by the Company's
stockholders. The opportunity to participate will be effected through the
issuance of the same form of Right issued pursuant to the Rights Offering
(bearing an identical $16.75 Subscription Price), except that each employee or
consultant, in order to participate, will be required to agree that his or her
Rights are non-transferable. In addition, the Board of Directors has approved
making certain financing arrangements available to the participating employees
and consultants and the Company will have the power to dispose of Common Stock
and Common Stock equivalents pledged as collateral. Up to approximately 700,000
shares of Common Stock will be issued pursuant to the Employee Participation
portion of the Stock Offering. Messrs. Gentz and Seaman, who are employees and
directors of the Company, and all other executive officers of the Company, will
be eligible to purchase Common Stock through the Employee Participation. It is
expected that several of these participants will incur obligations in excess of
$60,000 to the Company as a result of financing arrangements provided as part of
the Employee Participation. See "Proposal No. 1 -- The Stock Offering --
Employee Participation."

Those directors and executive officers who own Common Stock (whether
acquired through open market purchases, in private transactions, or through the
exercise of options or the lapse of restrictions on Restricted Stock), will, by
virtue of such holdings, have the opportunity to purchase shares of Common Stock
in the Rights Offering. See "Proposal No. 1 -- The Stock Offering -- Employee
Participation" and "Security Ownership of Certain Beneficial Owners and
Management."

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THE ELECTION OF THE ELEVEN
PERSONS NOMINATED TO THE BOARD OF DIRECTORS.

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PROPOSAL NO. 8 -- RATIFICATION OF THE APPOINTMENT OF
KPMG PEAT MARWICK LLP AS INDEPENDENT AUDITORS

The Audit Committee of the Board has selected KPMG Peat Marwick LLP as
independent public accountants to audit the consolidated financial statements of
the Company and its consolidated subsidiaries for the year ending December 31,
1998. KPMG Peat Marwick LLP has audited the Company's financial statements
annually since the fiscal year ended December 31, 1985. A member of that firm is
expected to be present at the Annual Meeting, will have an opportunity to make a
statement if so desired, and will be available to respond to appropriate
questions. If the stockholders do not ratify the selection of KPMG Peat Marwick
LLP, if it should decline to act or otherwise become incapable of acting as
independent public accountants for the Company, or if its employment as such is
discontinued, the Audit Committee will appoint independent public accountants
for fiscal 1998. Proxies solicited by the Board will be voted in favor of
ratification unless stockholders specify otherwise.

THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS A VOTE FOR THIS PROPOSAL NO. 8.

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SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS

The table below sets forth certain information regarding the beneficial
ownership of the Company's voting securities as of June 30, 1998 by each person
who is known by the Company to be the beneficial owner of more than 5% of the
indicated classes of the Company's voting securities and the estimated
beneficial ownership of the Company's voting securities by each such person as
of October 30, 1998, an approximate estimate of the Closing Date, after giving
effect to the consummation of the Equity Financings. On March 31, 1992, the
Company issued its Voting Notes in connection with a transaction wherein the
Company issued its 14.5% Notes in an aggregate principal amount of $11.0
million, together with warrants to purchase approximately 1,616,886 shares of
Common Stock. The Company redeemed all of the 14.5% Notes with a prepayment,
effective June 30, 1994, except for the Voting Notes, with respect to which
prepayment is prohibited. See "Proposal No. 7 -- Certain Relationships and
Related Transactions -- Transactions with Affiliates of Zurich, Including Centre
Re." The outstanding principal amount of the Voting Notes is $30,000. The number
of votes attaching to the Voting Notes is equal to the number of shares of
Common Stock that may be purchased upon exercise of the warrants that were
issued in that March 31, 1992 transaction and that remain outstanding and are
unexercised as of the applicable record date for a stockholder vote. As of June
30, 1998, the number of votes held by III, the holder of the Voting Notes, was
equivalent to 1,566,465 shares of Common Stock. The holder of the Voting Notes
is permitted to vote only in director elections, director removals, votes on
amending that right to vote, and changes to the number of authorized directors.
As a result of the cancellation of a portion of the relevant warrants, the
number of Common Stock equivalent votes held under the Voting Notes has
decreased somewhat since March 31, 1992. The specific voting rights of the
Voting Notes are set forth in the Company's Certificate of Incorporation and
Bylaws.

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<PAGE> 115

CERTAIN BENEFICIAL OWNERS

<TABLE>
<CAPTION>
COMMON STOCK
AS ADJUSTED
FOR THE EQUITY
COMMON STOCK(1) FINANCINGS(2) VOTING NOTES
---------------------- ---------------------- --------------------
SHARES
NAME AND ADDRESS SHARES PERCENT(3) SHARES PERCENT(4) EQUIVALENT PERCENT
- ---------------------------------------- --------- ---------- --------- ---------- ---------- -------
<S> <C> <C> <C> <C> <C> <C>
"III"................................... 217,942(5) 3.58% 435,884(5) 2.39% 1,566,465(5) 100%
International Insurance Investors, L.P.,
a Bermuda limited partnership
c/o International Insurance Investors
(Bermuda) Limited, General Partner
Cumberland House
One Victoria Street
Hamilton HM HX, Bermuda
"IP DELAWARE"........................... 1,375,547(6) 23.41% 3,361,928(6) 18.40% -- --
Insurance Partners, L.P.
201 Main Street
Suite 2600
Ft. Worth, Texas 76102
"IP II"................................. -- -- 3,348,206(7) 18.35% -- --
Insurance Partners II, L.P. and/or
Insurance Partners II Private Fund, L.P.
One Chase Manhattan Plaza
New York, New York 10005
"IIA"................................... 1,243,332(8) 17.46% 1,243,332(8) 6.49% -- --
International Insurance Advisors, Inc.
One Chase Manhattan Plaza
44th Floor
New York, New York 10005
"IP BERMUDA"............................ 765,304(9) 13.02% 1,571,137(9) 8.67% -- --
Insurance Partners Offshore (Bermuda),
L.P.
Cedar House
41 Cedar Avenue
P.O. Box HM 1179
Hamilton HM HX, Bermuda
"CENTRELINE"............................ 579,356(10) 8.97% 1,158,712(10) 6.22% -- --
CentreLine Reinsurance Limited,
a Bermuda corporation
Cumberland House
One Victoria Street
Hamilton HM HX, Bermuda
"TJS"................................... 529,652(11) 9.01% 1,405,750(11) 7.72% -- --
TJS Partners, L.P.
52 Vanderbilt Avenue, 5th Floor
New York, New York 10017
"CENTRE RE"............................. 395,128(12) 6.30% 790,256(12) 4.29% -- --
Centre Reinsurance Limited
One Victoria Street
Seventh Floor
Hamilton HM HX, Bermuda
"BISHOP ESTATE"......................... 326,552(13) 5.26% 653,104(13) 3.56% -- --
Trustees of the Estate of Bernice P.
Bishop
567 South King Street
Suite 200
Honolulu, Hawaii 96813
</TABLE>

- ------------------------------
(1) Includes warrants expiring on April 1, 2002 to purchase 1,566,465 shares of
Common Stock and a warrant expiring on April 1, 2002 to purchase 579,356
shares of Common Stock described more fully in footnote 10, below. All such
warrants are subject to an agreement among all warrant holders, that
prohibits the exercise or transfer of any such warrants until April 2000
unless prior approval from the Board of Directors is obtained. Assuming
that the Company's stockholders approve Proposal No. 6 to remove certain
transfer restrictions contained in the Company's Certificate of
Incorporation at the Annual Meeting, it is anticipated that this agreement
will terminate upon the consummation of the Equity Financings. Certain
warrants were issued on March 31, 1992 in a transaction in which the

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<PAGE> 116

Company issued (a) warrants to purchase approximately 1,616,886 shares of
Common Stock and (b) promissory notes in the aggregate principal amount of
$11.0 million to III and certain members of the Company's management. These
warrants are exercisable at $4.00 per share. The warrants purchased by III,
initially exercisable into 1,474,306 shares of Common Stock, were
originally issued to IIA, as agent for each of the limited partners and the
general partner of III. These warrants have since been distributed to the
partners of III; however, IIA's revocable agency relationship with such
partners was reestablished after the distribution. Since the distribution,
some of these partners sold their warrants to certain third parties that do
not have such an agency relationship with IIA. See footnote 8 below. The
Company has retired certain warrants issued to members of management no
longer employed by the Company.

(2) Assumes that the Rights issued in the Rights Offering to such person are
exercised in full by that person and that the number of shares of Common
Stock beneficially owned by that person on the record date of the Rights
Offering and immediately prior to the consummation of the Equity Financings
is the same number beneficially owned as of June 30, 1998.

(3) Percent ownership is based on the number of shares outstanding as of June
30, 1998, which number is 5,876,368 shares, plus any shares issuable
pursuant to warrants held by the entity in question that may be exercised
within 60 days after June 30, 1998. See footnote 1 regarding certain
contractual provisions that restrict the ability of warrant holders to
exercise such warrants.

(4) Percent ownership is based on the number of shares estimated to be
outstanding as of October 30, 1998, which number is 18,036,972 shares, plus
any shares issuable pursuant to warrants held by the entity in question
that may be exercised within 60 days thereof. See footnote 1 regarding
certain contractual provisions that restrict the ability of warrant holders
to exercise warrants.

(5) Robert A. Spass, Craig F. Schwarberg, and Bradley E. Cooper, each of whom
is a director of the Company, beneficially own limited partnership
interests in III of 0.583%, 0.225%, and 0.075%, respectively. In addition,
Mr. Spass has voting power over all of the voting capital stock of
International Insurance Investors (Bermuda) Limited ("III (Bermuda)"), the
general partner of III; however, pursuant to an agreement between the board
of directors of III (Bermuda) and Mr. Spass, the board of directors (of
which Mr. Spass is not a member) is entitled to make all voting and
investment decisions with respect to the warrants held by III (Bermuda) and
the Common Stock issuable upon the exercise thereof. III (Bermuda)
beneficially owns warrants to purchase 13,183 shares of Common Stock that
are held by IIA, as its agent. In addition, as contemplated by the terms of
III's limited partnership agreement, the limited partners and III (Bermuda)
transferred warrants to purchase an aggregate of 204,759 shares of Common
Stock to III to be held by III (subject to IIA's revocable agency
relationship) in reserve for the payment to III (Bermuda) of its incentive
fee under such limited partnership agreement. Upon the occurrence of
certain events, Messrs. Spass, Schwarberg, and Cooper, Centre Re and others
will be entitled to a distribution of the warrants presently held by III
(subject to IIA's revocable agency relationship) in amounts to be
determined at the time of distribution. Each such party presently disclaims
beneficial ownership (as defined in Rule 13d-3 under the Exchange Act) of
all such warrants. See footnote 8 below. See also "Proposal No.
7 -- Certain Relationships and Related Transactions -- 1996-97 Transactions
with IP and Limitations on Related Party Control" and "-- Participation by
IP in the Equity Financings and Limitations on Related Party Control,"
regarding restrictions on III's ability to acquire additional equity
securities of the Company.

(6) Represents shares of Common Stock held by IP Delaware. Robert A. Spass and
Steven B. Gruber, directors of the Company, are the President and a Vice
President, respectively, of Insurance GenPar MGP, Inc. ("GenPar Inc."), the
general partner of Insurance GenPar MGP, L.P. ("GenPar MGP"), the general
partner of Insurance GenPar, L.P. ("GenPar," and, together with GenPar MGP
and IP Delaware, the "Delaware Partnerships"), which is the general partner
of IP Delaware. Mr. Spass owns 40% and Messrs. Gruber and Daniel L.
Doctoroff each own 30% of the voting capital stock of GenPar Inc. In
addition, Messrs. Spass, Gruber, Doctoroff, and Cooper, own direct or
indirect limited partnership interests in certain of the Delaware
Partnerships. Each of Messrs. Spass, Gruber, Cooper, and Doctoroff
disclaims beneficial ownership (as defined in Rule 13d-3 under the Exchange
Act) of all

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<PAGE> 117

shares of Common Stock held by IP Delaware. See "Proposal No. 7 -- Certain
Relationships and Related Transactions -- 1996-97 Transactions with IP and
Limitations on Related Party Control" and "-- Participation by IP in the
Equity Financings and Limitations on Related Party Control," regarding
restrictions on IP Delaware's ability to acquire additional equity
securities of the Company. Assuming no shares of Common Stock are purchased
by IP Delaware under the Standby Commitment, then, upon consummation of the
Equity Financings, IP Delaware would beneficially own 3,361,928 shares of
Common Stock, which includes 229,754 shares of Common Stock issuable upon
exercise of the Commitment Fee Warrants to be acquired by IP Delaware. In
the unlikely event that IP Delaware is required to exercise the Standby
Commitment in full, then IP Delaware would beneficially own 5,342,805
shares of Common Stock, which includes 229,754 shares of Common Stock
issuable upon exercise of the Commitment Fees Warrants to be acquired by IP
Delaware, representing 29.24% of the Common Stock estimated to be then
outstanding.

(7) Represents shares of Common Stock to be purchased by IP II, pursuant to the
IP Stock Issuance and 205,520 shares issuable upon exercise of the
Commitment Fee Warrants to be acquired by IP II assuming that it is not
required to purchase any shares of Common Stock under the Standby
Commitment. In the unlikely event that IP II is required to exercise the
Standby Commitment in full, then IP II would beneficially own 6,892,087
shares of Common Stock, which includes 205,520 shares of Common Stock
issuable upon exercise of the Commitment Fee Warrants to be acquired by IP
II, representing 37.78% of the Common Stock estimated to be then
outstanding.

(8) Represents warrants to purchase shares of Common Stock that are held by
IIA, as agent for each of the limited partners and for the general partner
of III, as discussed in footnotes 1 and 5 above. As agent for such
partners, IIA has the revocable authority to exercise rights set forth in
the warrants and to vote any shares of Common Stock issuable upon exercise
of the warrants. Robert A. Spass, a director of the Company, is an officer
of IIA and as such, has the authority to exercise these rights. The
partners who, upon revocation of IIA's authority, would be entitled to
exercise warrants covering more than 5% of the Common Stock are Centre Re
and Bishop Estate, in the share amounts and percentages stated. See
"Proposal No. 7 -- Certain Relationships and Related
Transactions -- 1996-97 Transactions with IP and Limitations on Related
Party Control" and "-- Participation by IP in the Equity Financings and
Limitations on Related Party Control," regarding restrictions on IIA's
ability to acquire additional equity securities of the Company or exercise
warrants to purchase Common Stock. Because IIA is not the record holder of
the warrants it beneficially owns, IIA will not receive any Rights in the
Rights Offering; as a result, its beneficial ownership will not change upon
consummation of the Equity Financings.

(9) Represents shares of Common Stock held by IP Bermuda. Robert A. Spass and
Steven B. Gruber, directors of the Company, are the President and a Vice
President, respectively, of Insurance GenPar (Bermuda) MGP, Ltd. ("GenPar
(Bermuda) Ltd."), the general partner of Insurance GenPar (Bermuda) MGP,
L.P. ("GenPar (Bermuda) MGP"), the general partner of Insurance GenPar
(Bermuda), L.P. ("GenPar (Bermuda)" and, together with GenPar (Bermuda) MGP
and IP Bermuda, the "Bermuda Partnerships"), which is the general partner
of IP Bermuda. Robert A. Spass owns 40% and Messrs. Gruber and Doctoroff
each own 30% of the voting capital stock of GenPar (Bermuda) Ltd. In
addition, each of Messrs. Spass, Gruber, and Doctoroff and Bradley E.
Cooper, a director of the Company, owns direct or indirect limited
partnership interests in certain of the Bermuda Partnerships. Each of
Messrs. Spass, Gruber, Cooper, and Doctoroff disclaims beneficial ownership
(as defined in Rule 13d-3 under the Exchange Act) of all shares of Common
Stock held by IP Bermuda. See "Proposal No. 7 -- Certain Relationships and
Related Transactions -- 1996-97 Transactions with IP and Limitations on
Related Party Control" and "-- Participation by IP in the Equity Financings
and Limitations on Related Party Control," regarding restrictions on IP
Bermuda's ability to acquire additional equity securities of the Company.
Assuming no shares of Common Stock are purchased by IP Bermuda under the
Standby Commitment, then upon consummation of the Equity Financings, IP
Bermuda would beneficially own 1,571,137 shares of Common Stock, which
includes 93,206 shares of Common Stock issuable upon exercise of the
Commitment Fee Warrants to be acquired by IP Bermuda. In the unlikely event
that IP Bermuda is required to exercise the Standby Commitment in

105
<PAGE> 118

full, then IP Bermuda would beneficially own 2,374,737 shares of Common
Stock, which includes 93,206 shares of Common Stock issuable upon exercise
of the Commitment Fee Warrants to be acquired by IP Bermuda, representing
13.1% of the Common Stock estimated to be then outstanding.

(10) Represents a warrant to purchase 579,356 shares of Common Stock issued as
of June 30, 1994 (the "CentreLine Warrant"). CentreLine is an affiliate of
Centre Re. See footnote 12 below for information regarding Centre Re's
beneficial ownership of securities of the Company. The CentreLine Warrant
was issued in connection with a $20.0 million investment in the Company
(and its affiliate, Superior National Capital, L.P.) by CentreLine and a
second Centre Re affiliate, Centre Reinsurance Services (Bermuda) III
Limited. The CentreLine Warrant is exercisable at $5.20 per share. Steven
D. Germain, a director of the Company, is an officer and a director of both
Centre Re and CentreLine. In addition to Mr. Germain, each of Steven M.
Gluckstern, Michael D. Palm, and David A. Brown is an officer and/or
director of both Centre Re and CentreLine. Messrs. Germain, Gluckstern,
Palm and Brown disclaim any beneficial interest in the CentreLine Warrant
and the Common Stock issuable upon its exercise, and in the warrants held
by IIA, as agent for Centre Re (as described in footnote 12 below), and the
shares of Common Stock issuable upon the exercise of such warrants.
However, as officers and/or directors of both Centre Re and CentreLine,
such persons share voting and/or investment power over such securities
(subject to the agency appointment described in footnotes 1 and 8 above).
See "Proposal No. 7 -- Certain Relationships and Related Transactions --
1996-97 Transactions with IP and Limitations on Related Party Control" and
"-- Participation by IP in the Equity Financings and Limitations on Related
Party Control," regarding restrictions on CentreLine's ability to acquire
additional equity securities of the Company.

(11) TJS Corporation and its controlling stockholder, sole director, and
executive officer, Thomas J. Salvatore, are the general partners of TJS
Management, L.P., the general partner of TJS; exercise voting control and
dispositive power over all shares presently owned; and are the beneficial
owners of all such shares. The information contained in this footnote is
based, in part, on an Amendment No. 2 to Schedule 13D/A, filed with the SEC
in May 1997. Does not include 173,223 shares issuable upon the exercise of
warrants acquired since May 1997 that are subject to an agreement among all
holders of warrants, which prohibits the exercise or transfer of these
warrants until April 2000 unless prior approval from the Board of Directors
is obtained. See footnote 1 above. Because of these restrictions, TJS, TJS
Management, L.P., TJS Corporation, and Mr. Salvatore disclaim beneficial
ownership (as defined in Rule 13d-3 under the Exchange Act) of such
warrants. Upon consummation of the Equity Financings and assuming the
Company's stockholders approve Proposal No. 6 to remove certain transfer
restrictions in the Company's Certificate of Incorporation at the Annual
Meeting, it is anticipated the agreement containing these restrictions will
terminate. As a result, the number of shares TJS will beneficially own, as
adjusted for the Equity Financings, would include the 173,223 shares of
Common Stock issuable upon such warrants.

(12) Represents warrants to purchase shares of Common Stock received upon the
distribution by III to its partners of warrants, as described in footnote 1
above. See footnote 8 above for information concerning Centre Re's agency
relationship with IIA with respect to such warrants and see footnote 10
above for information concerning Centre Re's relationships with Steven D.
Germain and CentreLine. See also "Proposal No. 7 -- Certain Relationships
and Related Transactions -- 1996-97 Transactions with IP and Limitations on
Related Party Control" and "-- Participation by IP in the Equity Financings
and Limitations on Related Party Control," regarding restrictions on Centre
Re's ability to acquire additional equity securities of the Company. The
reported number of shares issuable upon exercise of warrants does not
include warrants to purchase 75,262 shares of Common Stock held by III
(subject to IIA's revocable agency relationship) in reserve for the payment
to III (Bermuda) of its incentive fee under III's limited partnership
agreement. See footnote 5 above.

(13) Represents warrants to purchase shares of Common Stock received upon the
distribution by III to its partners of warrants, as described in footnote 1
above. Richard S.H. Wong, Oswald K. Stender, Lokelani Lindsey, Gerard A.
Jervis, and Henry H. Peters, the trustees of the Bishop Estate, share
voting and/or investment power over securities held by the Bishop Estate.
Mr. Peters is a director of IIA. The reported number of shares issuable
upon exercise of warrants does not include warrants to purchase
106
<PAGE> 119

62,200 shares of Common Stock held by III (subject to IIA's revocable
agency relationship) in reserve for the payment to III (Bermuda) of its
incentive fee under III's limited partnership agreement. See footnote 5
above.

SECURITY OWNERSHIP OF MANAGEMENT

The following table sets forth certain information regarding the beneficial
ownership of Common Stock as of June 30, 1998 and the estimated beneficial
ownership of Common Stock as of October 30, 1998, after giving effect to the
consummation of the Equity Financings, by (i) each director and certain
executive officers of the Company, individually, and (ii) all directors and
executive officers as a group:

OWNERSHIP OF MANAGEMENT

<TABLE>
<CAPTION>
AS ADJUSTED
FOR THE EQUITY
FINANCINGS
-------------------------
SHARES SHARES
NAME OWNED PERCENT(1) OWNED(2) PERCENT(3)
- ---------------------------------------- --------- ---------- --------- ----------
<S> <C> <C> <C> <C>
William L. Gentz........................ 115,349(4) 1.94% 268,921(4) 1.49%
J. Chris Seaman......................... 183,209(5) 3.05% 395,899(5) 2.18%
Arnold J. Senter........................ 7,000(6) * 46,500(6) *
Matthew Natalizio....................... 26,351(7) * 62,862(7) *
Douglas R. Roche........................ 32,481(8) * 75,034(8) *
Thomas J. Jamieson...................... 300(9) * 600(9) *
Gordon E. Noble......................... 6,000 * 12,000 *
C. Len Pecchenino....................... 14,250 * 28,500 *
Robert A. Spass......................... 15,216(10) * 30,432(10) *
Craig F. Schwarberg..................... 2,790(11) * 5,580(11) *
Bradley E. Cooper....................... 4,930(12) * 9,860(12) *
Steven D. Germain....................... 980,964(13) 14.32% 1,961,928(13) 10.32%
Steven B. Gruber........................ --(14) -- --(14) --
Roger W. Gilbert........................ -- -- -- --
Directors and Executive Officers as a
Group (20 persons).................... 1,505,777(15) 20.95% 3,211,168(15) 16.59%
</TABLE>

- ------------------------------
* Less than 1%

(1) Percent ownership is based on the number of shares outstanding as of June
30, 1998, which number is 5,876,368 shares, plus any shares issuable
pursuant to options or warrants held by the person in question that may be
exercised within 60 days after June 30, 1998. See footnote 1 to the
preceding "Certain Beneficial Owners" table regarding certain contractual
provisions that restrict the ability of warrant holders to exercise
warrants.

(2) Assumes that the Rights issued in the Stock Offering to such person are
exercised in full by that person and that the number of shares of Common
Stock beneficially owned by that person on the Rights Offering record date
and immediately prior to the consummation of the Equity Financings is the
same number beneficially owned as of June 30, 1998.

(3) Percent ownership is based on the number of shares estimated to be
outstanding as of October 30, 1998, which number is 18,036,972 shares, plus
any shares issuable pursuant to options or warrants held by the person in
question that may be exercised within 60 days thereof.

(4) Includes 47,415 shares issuable upon exercise of options that are
exercisable within 60 days of June 30, 1998, in addition to 29,950
Restricted Stock grants awarded under the 1995 Plan, of which the
restrictions have lapsed as to 6,698 shares. As adjusted for the Equity
Financings, includes 47,415 shares issuable upon exercise of options that
are exercisable within 60 days of October 30, 1998, and 29,950 Restricted
Stock grants, of which the restrictions have lapsed as to 6,698 shares.

(5) Includes 58,795 shares issuable upon exercise of warrants and 57,619 shares
issuable upon exercise of options, each of which is exercisable within 60
days of June 30, 1998, in addition to 24,163 Restricted Stock grants
awarded under the 1995 Plan, of which the restrictions have lapsed as to
5,240 shares. As

107
<PAGE> 120

adjusted for the Equity Financings, includes 58,795 shares issuable upon
exercise of warrants and 57,619 shares issuable upon exercise of options,
each of which are exercisable within 60 days of October 30, 1998, and
24,163 Restricted Stock grants, of which the restrictions have lapsed as to
5,240 shares.

(6) Includes 5000 shares issuable upon exercise of options that are exercisable
within 60 days of June 30, 1998. As adjusted for the Equity Financings,
includes 5,000 shares issuable upon the exercise of options that are
exercisable within 60 days of October 30, 1998.

(7) Includes 12,726 shares issuable upon exercise of options that are
exercisable within 60 days of June 30, 1998, in addition to 6,399
Restricted Stock grants awarded under the 1995 Plan, of which the
restrictions have lapsed as to 1,425 shares. As adjusted for the Equity
Financings, includes 12,726 shares issuable upon exercise of options that
are exercisable within 60 days of October 30, 1998 and 6,399 Restricted
Stock grants, of which the restrictions have lapsed as to 1,425 shares.

(8) Includes 11,471 shares issuable upon exercise of options that are
exercisable within 60 days of June 30, 1998, in addition to 6,387
Restricted Stock grants awarded under the 1995 Plan, of which the
restrictions have lapsed as to 1,320 shares. As adjusted for the Equity
Financings, includes 13,798 shares issuable upon exercise of options that
are exercisable within 60 days of October 30, 1998 and 6,387 Restricted
Stock grants, of which the restrictions have lapsed as to 1,320 shares.

(9) Represents shares owned of record by Jaco Oil Company, an entity controlled
by Mr. Jamieson.

(10) Includes 8,000 shares of Common Stock owned directly by Mr. Spass. Also
includes warrants to purchase 7,216 shares of Common Stock held by IIA, as
agent, as described in footnote 7 of the preceding "Certain Beneficial
Owners." Mr. Spass disclaims beneficial ownership (as defined in Rule 13d-3
under the Exchange Act) of warrants to purchase 13,183 shares of Common
Stock held by III (Bermuda) (subject to IIA's revocable agency
relationship) in reserve for the payment to III (Bermuda) of its incentive
fee under III's limited partnership agreement. See footnotes 5 and 8 of the
preceding "Certain Beneficial Owners" table. Mr. Spass is an officer of
IIA, which holds, as agent for the partners of III, warrants to purchase
1,243,332 shares of Common Stock. In addition, see footnote 5 to the
preceding "Certain Beneficial Owners" table concerning Mr. Spass' voting
power with respect to the Voting Notes. Separately, 1,375,547 shares of
Common Stock are beneficially owned by IP Delaware and 765,304 shares of
Common Stock are beneficially owned by IP Bermuda. As adjusted for the
Equity Financings, IP Delaware and IP Bermuda will beneficially own
3,361,928 and 1,571,137 shares of Common Stock, respectively, assuming no
shares are purchased under the Standby Commitment. In the unlikely event
that the Standby Commitment is exercised in full, then IP Delaware and IP
Bermuda would beneficially own 5,342,805 and 2,374,737 shares of Common
Stock, respectively. See footnotes 6 and 9 to the preceding "Certain
Beneficial Owners" table. Mr. Spass is the President of GenPar Inc. and
GenPar (Bermuda) Ltd., the ultimate general partners of IP Delaware and IP
Bermuda, respectively. Mr. Spass disclaims beneficial ownership (as defined
in Rule 13d-3 under the Exchange Act) of all shares of Common Stock that
are held by IP Delaware and IP Bermuda. See footnotes 6 and 9 to the
preceding "Certain Beneficial Owners" table for information concerning such
partnerships. In addition, Mr. Spass is an officer of Capital Z, the
general partner of IP II. Upon consummation of the Equity Financings, IP II
will beneficially own 3,348,206 shares of Common Stock, assuming no shares
are purchased under the Standby Commitment. In the unlikely event that IP
II is required to exercise the Standby Commitment in full, then IP II would
beneficially own 6,892,087 shares of Common Stock. Mr. Spass disclaims
beneficial ownership (as defined in Rule 13d-3 under the Exchange Act) of
all shares of Common Stock and the Commitment Fee Warrants to be acquired
by IP II in connection with the Equity Financings. See footnote 7 to the
preceding "Certain Beneficial Owners" table for information concerning IP
II.

(11) Represents warrants to purchase 2,790 shares of Common Stock held by IIA,
as agent, as described in footnote 8 of the preceding "Certain Beneficial
Owners" table.

(12) Includes 4,000 shares of Common Stock owned directly by Mr. Cooper. Also
includes warrants to purchase 930 shares of Common Stock held by IIA, as
agent, as described in footnote 8 of the preceding "Certain Beneficial
Owners" table. Mr. Cooper is also an officer of Capital Z, the general
partner of IP II. Upon consummation of the Equity Financings, IP II will
beneficially own 3,348,206 shares of

108
<PAGE> 121

Common Stock, assuming no shares are purchased under the Standby
Commitment. In the unlikely event that IP II is required to exercise the
Standby Commitment in full, then IP II would beneficially own 6,892,087
shares of Common Stock. Mr. Cooper disclaims beneficial ownership (as
defined in Rule 13d-3 under the Exchange Act) of all shares of Common Stock
and the Commitment Fee Warrants to be acquired by IP II in connection with
the Equity Financings. See footnote 7 to the preceding "Certain Beneficial
Owners" table for information concerning IP II.

(13) Includes (i) 5,600 shares of Common Stock owned directly, (ii) 880 shares
of Common Stock owned indirectly as custodian for the benefit of his
children under the New York Uniform Gift to Minors Act, and (iii) warrants
to purchase Common Stock, consisting of the CentreLine Warrant to purchase
579,356 shares and the warrants to purchase 395,128 shares held by IIA as
agent for Centre Re. See the preceding "Certain Beneficial Owners" table
and footnotes 10 and 12 thereto. Mr. Germain is an officer and director of
both Centre Re and CentreLine. As such, he shares voting and/or dispositive
control over such securities (subject to the termination of the agency
relationship with IIA by Centre Re). Mr. Germain disclaims any beneficial
interest in the CentreLine Warrant, the warrants held by IIA as agent for
Centre Re, and the Common Stock issuable upon their exercise.

(14) Mr. Gruber, a director of the Company, is a Vice President of each of
GenPar Inc. and GenPar (Bermuda) Ltd., the ultimate general partners of IP
Delaware and IP Bermuda, respectively. IP Delaware beneficially owns
1,375,547 shares of Common Stock and IP Bermuda beneficially owns 765,304
shares of Common Stock. As adjusted for the Equity Financings, IP Delaware
and IP Bermuda will beneficially own 3,361,928 and 1,571,137 shares of
Common Stock, respectively, assuming no shares are purchased under the
Standby Commitment. In the unlikely event that the Standby Commitment is
exercised in full, then IP Delaware and IP Bermuda would beneficially own
5,342,805 and 2,374,737 shares of Common Stock, respectively. See footnotes
6 and 9 to the preceding "Certain Beneficial Owners" table. Mr. Gruber
disclaims beneficial ownership (as defined in Rule 13d-3 under the Exchange
Act) of all shares of Common Stock held by IP Delaware and IP Bermuda. See
footnotes 6 and 9 to the preceding "Certain Beneficial Owners" table for
information concerning such partnerships.

(15) Includes (i) 1,048,477 shares issuable upon exercise of warrants and (ii)
190,006 shares issuable upon exercise of options, each of which are
exercisable within 60 days of June 30, 1998. Also includes 92,786
Restricted Stock grants, of which the restrictions have lapsed as to 20,653
shares. As adjusted for the Equity Financings, includes (i) 1,048,477
shares issuable upon exercise of warrants and (ii) 195,026 shares issuable
upon exercise of options, each of which are exercisable within 60 days of
October 30, 1998. Also includes 92,786 Restricted Stock grants, of which
the restrictions have lapsed as to 20,653 shares. Refer to footnotes 10
through 13 for information regarding beneficial interests in warrants.

109
<PAGE> 122

SUPERIOR NATIONAL INSURANCE GROUP, INC.

SELECTED CONSOLIDATED FINANCIAL DATA

The following selected consolidated financial data are qualified by
reference to, and should be read in conjunction with, the consolidated financial
statements and notes thereto included elsewhere in this document. The selected
consolidated financial data set forth below as of and for the years ended
December 31, 1997, 1996, and 1995 have been derived from the audited financial
statements of the Company included elsewhere in this document. The selected
consolidated financial data set forth below as of and for the years ended
December 31, 1994 and 1993 have been derived from audited financial statements
of the Company not included in this document. The selected consolidated
financial data as of and for the three months ended March 31, 1998 and 1997 have
been derived from unaudited consolidated financial statements of the Company,
but include all adjustments, including normally occurring accruals, that the
Company considers necessary for a fair presentation of the results of operations
for the periods presented. The results of operations for the three months ended
March 31, 1998 are not necessarily indicative of the results that may be
expected for the Company's fiscal year ending December 31, 1998.

<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
----------------------- --------------------------------------------------------------
1998 1997 1997(1) 1996 1995 1994 1993
---------- ---------- ---------- ---------- ---------- ---------- ----------
(UNAUDITED) (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C>
REVENUES:
Gross premiums written............. $ 41,053 $ 22,780 $ 159,352 $ 99,282 $ 97,084 $ 134,769 $ 157,986
Net premiums written............... 28,501 20,003 136,929 87,715 89,139 105,946 154,431
Net premiums earned................ 30,587 18,978 140,920 88,648 89,735 110,418 153,585
Net investment income (excluding
capital gains and losses)........ 3,853 2,077 12,630 7,738 10,309 9,014 8,481
Net capital gain (loss)............ 400 9 44 31 (525) 35 1,069
Other income (expense), net........ (179) (181) (817) 186 (536) (340) (743)
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total revenues............... 34,661 20,883 152,777 96,603 98,983 119,127 162,392
EXPENSES:
Claim and claim adjustment
expenses, net of reinsurance..... 18,288 10,271 90,447 55,638 53,970 78,761 113,817
Underwriting and general and
administrative expenses.......... 9,991 7,004 37,695 34,138 29,447 21,660 28,779
Policyholder dividends............. -- -- -- (5,927) (5,742) 4,983 11,371
Goodwill amortization.............. 304 -- 1,039 -- -- -- --
Interest expense................... -- 1,727 6,335 7,527 9,619 8,726 6,221
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total expenses............... 28,583 19,002 135,516 91,376 87,294 114,130 160,188
Income from continuing operations
before preferred securities and
extraordinary items -- pre-tax... 6,078 1,881 17,261 5,227 11,689 4,997 2,204
Income tax benefit (expense)....... (1,347) (437) 1,788 (739) 5,849 (4) 2,304
Accretion on preferred securities
-- pre-tax....................... (2,836) (688) (4,650) (2,525) (2,255) (1,035) --
(Loss) from operations of
discontinued P&C
operations -- pre-tax(2)......... -- -- -- -- (14,912) -- (4,532)
Extraordinary (loss) -- pre-tax.... -- -- (19,540) -- -- (3,064) (686)
Cumulative effect of change in
accounting for income taxes...... -- -- -- -- -- -- 2,297
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income (loss)............ $ 1,895 $ 756 $ (5,141) $ 1,963 $ 371 $ 894 $ 1,587
========== ========== ========== ========== ========== ========== ==========
BASIC EPS:
Per common share:
Income before items below -- after
all taxes(3)..................... $ 0.80 $ 0.42 $ 3.63 $ 1.31 $ 5.12 $ 1.45 $ 1.31
Preferred securities -- pre-tax.... (0.48) (0.20) $ (0.89) (0.74) (0.66) (0.30) --
Discontinued
operations -- pre-tax............ -- -- -- -- (4.35) -- (1.32)
Extraordinary items -- pre-tax..... -- -- (3.72) -- -- (0.89) (0.20)
Cumulative effect of change in
accounting -- pre-tax............ -- -- -- -- -- -- 0.67
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income (loss)............ $ 0.32 $ 0.22 $ (0.98) $ 0.57 $ 0.11 $ 0.26 $ 0.46
========== ========== ========== ========== ========== ========== ==========
</TABLE>

110
<PAGE> 123

<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
----------------------- --------------------------------------------------------------
1998 1997 1997(1) 1996 1995 1994 1993
---------- ---------- ---------- ---------- ---------- ---------- ----------
(UNAUDITED) (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C>
DILUTED EPS:
Per common shares:
Income before items below -- after
all taxes(3)..................... $ 0.61 $ 0.27 $ 2.71 $ 0.93 $ 4.44 $ 0.97 $ 0.94
Preferred Securities -- pre-tax.... (0.37) (0.13) (0.66) (0.52) (0.57) (0.20) --
Discontinued
operations -- pre-tax............ -- -- -- -- (3.78) -- (0.95)
Extraordinary items -- pre-tax..... -- -- (2.79) -- -- (0.60) (0.14)
Cumulative effect of change in
accounting -- pre-tax............ -- -- -- -- -- -- 0.48
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income (loss)................ $ 0.24 $ 0.14 $ (0.74) $ 0.41 $ 0.09 $ 0.17 $ 0.33
========== ========== ========== ========== ========== ========== ==========
OTHER DATA:
EBITDA(4).......................... 6,601 2,947 24,749 14,727 22,652 15,276 9,300
GAAP RATIOS:(5)
Claim and claim adjustment expense
ratio............................ 59.8% 54.1% 64.2% 62.8% 60.1% 71.3% 74.1%
Expense ratio...................... 32.7% 36.9% 26.7% 31.8% 26.4% 24.1% 26.1%
---------- ---------- ---------- ---------- ---------- ---------- ----------
Continuing operations combined
ratios, net of reinsurance....... 92.5% 91.0% 90.9% 94.6% 86.5% 95.4% 100.2%
========== ========== ========== ========== ========== ========== ==========
Ratio of earnings to combined fixed
charges and accretion on
preferred securities(6).......... 1.84x 1.45x 1.98x 1.27x 1.87x 1.36x 1.33x
FINANCIAL POSITION:
Total cash and investment(7)
Carrying value..................... $ 228,535 $ 140,912 $ 242,116 $ 149,440 $ 163,951 $ 176,878 $ 150,179
Market value..................... 228,535 140,912 242,116 149,440 166,103 172,706 156,744
Total assets....................... 401,508 297,984 416,569 306,569 240,781 286,776 264,098
Long-term debt..................... 30 96,947 30 98,961 8,530 9,730 6,743
Claim and claim adjustment expense
liability........................ 180,333 106,758 201,225 115,529 141,495 171,258 171,038
Total liabilities.................. 238,409 228,002 255,474 237,807 176,256 227,622 224,044
1994 Preferred securities issued by
affiliate........................ -- 24,258 -- 23,571 21,045 18,790 --
Company-obligated trust preferred
securities....................... 101,291 -- 101,277 -- -- -- --
Net stockholders' equity........... 61,808 45,724 59,818 45,191 43,480 40,364 40,055
Book value per share............... $ 10.52 $ 13.27 $ 10.19 $ 13.11 $ 12.68 $ 11.77 $ 11.68
Outstanding shares................. 5,874,379 3,446,492 5,871,279 3,446,492 3,430,373 3,429,873 3,429,873
</TABLE>

- ---------------
(1) The information for the year ended December 31, 1997 includes the financial
data of SPCC for the period beginning April 1, 1997.

(2) The Company's losses from discontinued operations resulted principally from
contractors' and developers' liability business underwritten from 1986 to
1991.

(3) Since the Company's inception it has not declared or paid any dividends to
its stockholders. "Income before items below -- after all taxes" has been
calculated to include the tax benefits related to the items following.

(4) EBITDA consists of earnings before interest, taxes, minority interest,
depreciation, and amortization. EBITDA is presented here not as a measure of
operating results, but rather as a measure of the Company's cash flow and
debt service ability, and should not be considered as an alternative to net
earnings and cash flows determined in accordance with GAAP. Because the
Company's ability to obtain dividends from its insurance subsidiaries may be
subject to a range of restrictions, EBITDA is not necessarily indicative of
the Company's ability to service its indebtedness.

(5) These ratios are for continuing operations. The claim and claim adjustment
expense ratio is calculated by dividing the claim and claim adjustment
expenses by net premiums earned. The expense ratio is calculated by dividing
the sum of commissions (net of reinsurance ceding commissions), policyholder
dividends, and general and administrative expenses by net premiums earned.
The combined ratio is the sum of the claim and claim adjustment expense
ratio and the expense ratio.

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<PAGE> 124

(6) For purposes of calculating the ratio of earnings to combined fixed charges
and accretion on preferred securities, earnings represent income before the
provision (benefit) for income taxes, plus fixed charges. Fixed charges
consist of interest expense, amortization of financing costs, and the
portion of rental expense on operating leases which the Company estimates to
be representative of the interest factor attributable to the leases.
Preferred stock dividends consist of dividends on preferred securities
having an effective interest rate of 11.7% issued in June 1994 by an
affiliate. An aggregate of $20.0 million in such securities were issued and
$26.6 million in face value was repaid in December 1997. The payment was
made out of the proceeds of the Trust Preferred Securities and thereafter
accrual of preferred securities dividends reflects the Trust Preferred
Securities.

(7) Investments as of December 31, 1997 and 1996 are reflected at market value.
As of December 31, 1995 and 1994 a portion of the portfolio was classified
as held to maturity and was therefore reflected at amortized cost and the
remaining portfolio was shown at market value. Investments as of December
31, 1993 are reflected at amortized cost. The changes in portfolio valuation
reflect the adoption of Statement of Financial Accounting Standard No. 115,
effective for fiscal years following December 15, 1993.

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<PAGE> 125

SUPERIOR NATIONAL
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis provides information that management
believes to be relevant for an understanding of the Company's consolidated
results of operations and financial condition. The discussion should be read in
conjunction with the consolidated financial statements and the notes thereto.

OVERVIEW

The Company recorded an underwriting profit from continuing operations of
$2.3 million or $0.30 per share on a diluted basis in the three month period
ended March 31, 1998, versus an underwriting profit of $1.7 million or $0.32 per
share on a diluted basis in the corresponding period in the prior year. The
increase in underwriting profit from continuing operations was primarily the
result of an increase in premiums as a result of the April 11, 1997 acquisition
of SPCC. During the three months ended March 31, 1998, the Company realized net
income of $1.9 million or $0.24 per share on a diluted basis as compared to $0.8
million or $0.14 per share on a diluted basis for the three months ended March
31, 1997. In addition to improved underwriting profit, net income increased due
to a $2.2 million increase in investment income, which resulted from the
increase in invested assets. Invested assets increased due to the SPCC
acquisition and the net proceeds of the issuance of the Trust Preferred
Securities discussed below. The increase in underwriting profit and investment
income was offset in part by dividends and accretion on the Trust Preferred
Securities and amortization of goodwill.

During 1997, the Company entered into three significant extraordinary
transactions: the acquisition of Pac Rim, the parent of SPCC, completed April
11, 1997; the prepayment of approximately $88.6 million of long-term debt,
completed June 30, 1997; and the issuance of $105.0 million in Trust Preferred
Securities completed December 3, 1997. The Company's income before preferred
securities' dividends and accretion, discontinued operations, and extraordinary
items was $10.8 million in 1997, as compared to $3.6 million in 1996. The
increase of $7.2 million in income before income taxes, preferred securities'
dividends and accretion, discontinued operations, and extraordinary items was
primarily the result of a $4.9 million increase in investment income. The
increase of $4.9 million in net investment income is primarily due to increases
of $92.7 million and $93.1 million in assets available for investment that
resulted, respectively, from the acquisition of SPCC and the November 1996
financing transaction with The Chase Manhattan Bank ("Chase"). See "-- Liquidity
and Capital Resources."

For the year ended December 31, 1997, the Company recorded a net loss of
$5.1 million after preferred securities' dividends and accretion, discontinued
operations, and extraordinary items, as compared to net income of $2.0 million
for the year ended December 31, 1996. Net loss per share for the year ended
December 31, 1997 was $0.74 (diluted) versus net income per share of $0.41
(diluted) in 1996. During 1997, the Company recorded $12.9 million in
extraordinary losses, net of income tax benefits, as a result of the prepayment
of debt or the retirement of debt instruments, as compared to 1996, when no
extraordinary losses were recorded. Further, during 1997, the Company recorded
$3.0 million in dividend expense and accretion on preferred securities, as
compared to $1.7 million in 1996.

For the year ended December 31, 1996, the Company's net income was $2.0
million, as compared to $0.4 million in 1995. Net income per share for the year
ended December 31, 1996 was $0.41 (diluted) versus $0.09 (diluted) for the year
ended December 31, 1995. Income before preferred securities' dividends and
accretion, discontinued operations, and extraordinary loss was $3.6 million for
the year ended December 31, 1996, versus $11.7 million in 1995. The decrease in
1996 was due principally to a $5.3 million fee for reinsurance, as well as an
increase of $1.7 million from 1995 claim and claim adjustment expense. Income
before preferred securities' dividends and accretion, discontinued operations,
and extraordinary loss, excluding the above discussed adjustments, was $10.6
million for the year ended December 31, 1996, as compared to $11.7 million for
the comparable period of 1995.

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<PAGE> 126

THREE MONTHS ENDED MARCH 31, 1998 AS COMPARED TO THREE MONTHS ENDED MARCH 31,
1997

Gross written premium increased $18.3 million or 80.2% to $41.1 million in
the first quarter of 1998 as compared to the same period in 1997. Substantially
all of this increase can be attributed to the addition of business written by
SPCC. Net written premium increased $8.5 million or 42.5% to $28.5 million in
the first quarter of 1998 as compared to the same period in 1997, reflecting the
increase in gross written premium. Net premiums earned increased $11.6 million
or 61.2% to $30.6 million in the first quarter of 1998 as compared to the same
period in 1997, reflecting the increase in net written premium.

Net claim and claim adjustment expenses increased $8.0 million or 78.1% to
$18.3 million in the first quarter of 1998 as compared to the same period in
1997. This increase is attributable to the addition of premiums renewed by SNIC
for policies expiring from SPCC. The net claim and claim adjustment expense
ratio increased to 59.8% in the first quarter of 1998 from 54.1% in the same
period of 1997. Although the Company has been experiencing a reduction in the
frequency of claims, at the same time there has been an increase in claim
severity for injuries sustained in 1995 and thereafter. To address the
increasing severity trend, management has put into place a Claim Severity
Management Program that is intended to reduce the Company's average ultimate per
claim and claim adjustment expense for 1995 and subsequent dates of injury. See
"Superior National -- Business -- Claim Severity Management Program."

Underwriting and general and administrative expenses increased $3.0 million
or 42.6% to $10.0 million in the first quarter of 1998, as compared to the same
period in 1997. This increase was due primarily to the acquisition of SPCC. Net
commission expense increased $0.8 million or 34.6% to $3.0 million in the first
quarter of 1998, as compared to the same period in 1997. The increase in net
commission expense is due to an increase in premiums. Net underwriting and
general and administrative expenses increased 45.7% to $10.5 million in the
first quarter of 1998 from $7.2 million in the same period of 1997. The
Company's underwriting expense ratio decreased 4.2 percentage points to 32.7%
for the first quarter of 1998 from 36.9% for the same period in 1997, due
primarily to a reduction in net commission expense relative to the related net
premium level. This reduction in net commission expense relative to the related
net premium level is due to an increase in reinsurance ceding commissions
received. The direct commission expense relative to the related direct written
premium level remained unchanged from the prior year.

The Company recorded an underwriting profit from continuing operations of
$2.3 million in the first quarter of 1998, versus $1.7 million for the same
period in 1997. The increase in underwriting profit from continuing operations
was primarily the result of the increase in premiums discussed above, coupled
with a decrease in underwriting and general and administrative expenses relative
to the premium level.

Net investment income, excluding realized investment gains/losses,
increased $1.8 million or 85.5% to $3.9 million in the first quarter of 1998
compared to the same period in 1997. The improvement was due to the increase in
assets available for investment resulting from the SPCC acquisition and the
availability of $30.0 million in invested assets as a result of the issuance of
the Trust Preferred Securities. Excluding SPCC and the increase in invested
assets due to the issuance of the Trust Preferred Securities, net investment
income decreased $0.3 million or 18.4% to $1.8 million in the first quarter of
1998 as compared to the same period in 1997. This 18.4% decrease was due to a
change in portfolio mix as compared to the same period in 1997.

No interest expense was incurred in the first quarter of 1998 as compared
to $1.7 million for the same period in 1997, due to the repayment of all
long-term debt with funds obtained through the sale of the Trust Preferred
Securities.

Distributions and accretion on preferred securities increased by $2.1
million as compared to $0.7 million in the first quarter of 1998, as a result of
the issuance of the Trust Preferred Securities and the redemption of preferred
securities issued by an affiliate in December 1997.

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<PAGE> 127

A summary of net investment income, excluding capital gains and losses, for
the three months ended March 31, 1998 and 1997 is as follows:

<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31,
----------------
1998 1997
------ ------
(IN THOUSANDS)
<S> <C> <C>
Interest on bonds and notes................................ $3,643 $ 858
Interest on invested cash.................................. 318 1,346
Other...................................................... 76 --
------ ------
Total investment income.................................... 4,037 2,204
Capital gains.............................................. 400 9
Investment expense......................................... 184 127
------ ------
Net investment income...................................... $4,253 $2,086
====== ======
</TABLE>

The distribution of the Company's consolidated investment portfolio is as
follows:

<TABLE>
<CAPTION>
MARCH 31, 1998
(UNAUDITED) DECEMBER 31, 1997
-------------------- --------------------
CARRYING MARKET CARRYING MARKET
VALUE VALUE VALUE VALUE
AVAILABLE FOR SALE: -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
U.S. Government Agencies and
Authorities........................... $ 77,836 $ 77,836 $ 90,097 $ 90,097
Collateralized Mortgage Obligations..... 36,721 36,721 73,481 73,481
Corporate Instruments................... 45,101 45,101 41,636 41,636
Special Revenue and Special
Assessment............................ 50,407 50,407 -- --
State and Political Subdivisions........ -- -- -- --
-------- -------- -------- --------
Total Available for Sale................ $210,065 $210,065 $205,214 $205,214
======== ======== ======== ========
</TABLE>

<TABLE>
<CAPTION>
MARCH 31, 1998
(UNAUDITED) DECEMBER 31, 1997
---------------- ------------------
MARKET MARKET
COST VALUE COST VALUE
EQUITY SECURITIES ------ ------ ------- -------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Corporate....................................... $1,837 $1,980 $1,356 $1,526
------ ------ ------ ------
Total........................................... $1,837 $1,980 $1,356 $1,526
====== ====== ====== ======
</TABLE>

The Company's management monitors the matching of assets and liabilities
and attempts to maintain the Company's portfolio's investment duration at the
mid-point of the length of its net claim and claim adjustment expense payout
pattern. Investment duration is the weighted average measurement of the current
maturity of a fixed income security, in terms of time, of the present value of
the future payments to be received from that security. However, in selecting
assets to purchase for its investment portfolio, the Company considers each
security's modified duration and the effect of that security's modified duration
on the portfolio's overall modified duration. Modified duration is a measurement
that estimates the percentage change in market value of an investment for a
small change in interest rates. The modified duration of fixed maturities at
March 31, 1998 was 3.05 years compared to 2.90 years at December 31, 1997. At
March 31, 1998, 97.1% of the carrying values of investments in the fixed
maturities portfolio were rated as investment grade by the Securities Valuation
Office of NAIC.

Discontinued operations had claim and claim adjustment expense reserves of
$12.1 million as of March 31, 1998, which was consistent with management's
expectations. The Company has significant exposure to construction defect
liabilities on P&C insurance policies underwritten from 1986 to 1993. Management
continues to closely monitor the Company's potential exposure to construction
defect claims and has not changed its estimates of ultimate claim and claim
adjustment expenses on discontinued operations since 1995. Management believes
its current reserves are adequate to cover the Company's claims activity. There
can be no assurance, however, that further upward development of ultimate loss
costs associated with construction defect claims will not occur. The Company
will continue to closely monitor the adequacy of its

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<PAGE> 128

loss reserves in the discontinued operations. Offsetting these liabilities are
$11.4 million of deferred tax assets and $0.7 million in reinsurance recoverable
on paid claim and claim adjustment expenses.

YEAR ENDED DECEMBER 31, 1997 AS COMPARED TO YEAR ENDED DECEMBER 31, 1996

Gross written premium for the years ended December 31, 1997 and 1996 were
$159.4 million and $99.3 million, respectively. This increase in gross written
premium represents an increase of $60.1 million or 60.5% for the 1997 policy
year as compared to the 1996 policy year. Substantially all of this increase can
be attributed to business written related to SPCC. Net written premium increased
$49.2 million or 56.1% to $136.9 million for the year ended December 31, 1997,
as compared to the year ended December 31, 1996. This increase reflects the
increase in gross written premium. Net premium earned increased $52.3 million or
59.0% to $140.9 million for the year ended December 31, 1997, as compared to the
year ended December 31, 1996.

For the year ended December 31, 1997, net claim and claim adjustment
expenses increased $34.8 million or 62.6% to $90.4 million as compared to $55.6
million for the year ended December 31, 1996. The entire increase of claim and
claim adjustment expense relates to the acquisition of SPCC. The net claim and
claim adjustment expense ratio increased to 64.2% for the year ended December
31, 1997, as compared to 62.8% for the year ended December 31, 1996. The
increase in the claim and claim adjustment expense ratio is due primarily to the
1997 accident year. Although the Company has continued to experience a reduction
in the frequency of claims, at the same time there has been an increase in claim
severity for injuries sustained in 1995 and thereafter. To address the
increasing severity trend, management has put into place the Claim Severity
Management Program that is intended to reduce the Company's average ultimate
loss cost per claim and claim adjustment expense for 1995 and subsequent dates
of injury. See "Superior National -- Business -- Claim Severity Management
Program."

Underwriting and general and administrative expenses, excluding
policyholder dividends, increased $3.6 million or 10.4% to $37.7 million for the
year ended December 31, 1997, as compared to the same period in 1996. This
increase primarily resulted from the SPCC acquisition. Excluding the one-time
expense of $5.3 million for the cancellation in 1996 of a reinsurance contract,
underwriting expenses for 1997 increased $8.9 million or 30.9%. The Company's
expense ratio decreased to 26.7% from 38.5% for the year ended December 31,
1997, as compared to 1996. The decrease in the expense ratio from 1997 to 1996
is due to the 1996 one-time charge of $5.3 million, previously mentioned, and an
increase in premium without a corresponding increase in expense resulting from
the SPCC acquisition.

No policyholder dividends were paid during the year ended December 31,
1997, as compared to $1.3 million of such dividends during fiscal 1996. Prior to
open rating, policyholder dividends served both as an economic incentive to
employers for safe operations and as a means of price differentiation. As a
result of consumers' preference for the lowest price at a policy's inception
under open rating, dividends are currently no longer a significant factor in the
marketing of workers' compensation insurance in California. In 1995, as a result
of the diminishing value of policyholder dividends as a marketing tool, the
Company's management declared a moratorium in the payment of policyholder
dividends for California policies. In December 1996, the Company discontinued
dividend payments. Estimated amounts to be returned to policyholders were
accrued when the related premium was earned by the Company. Dividends were paid
to the extent that a surplus was accumulated from the premium paid on the
specific workers' compensation policy.

Net investment income increased $4.9 million or 63.1% to $12.7 million for
the year ended December 31, 1997, as compared to 1996. The increase in
investment income is due to a $92.7 million increase in assets available for
investment that resulted from the acquisition of SPCC.

Interest expense decreased 15.8% to $6.3 million for the year ended
December 31, 1997, as compared to 1996. The decline in interest expense is due
primarily to the elimination of the funds withheld balance.

Discontinued operations claim counts and losses as of December 31, 1997
were 215 and $13.5 million, respectively. These amounts and estimates are
consistent with management's expectations. The Company has significant exposure
to construction defect liabilities on P&C insurance policies underwritten from
1986 to 1993. Management continues to monitor closely its potential exposure to
construction defect claims and has not changed its estimates of ultimate claim
and claim adjustment expense on discontinued operations since
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<PAGE> 129

1995. Management believes its current reserves are adequate to cover its claim
liabilities. There can be no assurance, however, that further upward development
of ultimate loss costs associated with construction defect claims will not
occur. See "Superior National -- Business -- Discontinued Operations."

YEAR ENDED DECEMBER 31, 1996 AS COMPARED TO YEAR ENDED DECEMBER 31, 1995

Gross written premium increased $2.2 million or 2.3% to $99.3 million in
1996 from 1995. The increase in gross written premium in 1996 was due primarily
to the Company's continued strategy of underwriting smaller risks where the
competition has been less fierce, as compared to larger policies. Net written
premium decreased $1.4 million or 1.6% to $87.7 million reflecting an increased
amount of premiums ceded to reinsurers. Net premiums earned decreased $1.1
million or 1.2% to $88.6 million in 1996 from 1995, reflecting, in part, an
increase in ceded premiums.

Claim and claim adjustment expenses increased $1.7 million or 3.1% to $55.6
million in 1996 from 1995, due principally to adverse development in claim and
claim adjustment expense reserves related to the 1995 accident year. The claim
and claim adjustment expense ratio as a percentage of net earned premium
increased slightly to 62.8% in 1996 from 60.1% in the 1995 accident year.

Underwriting and general and administrative expenses, excluding
policyholder dividends, increased $4.7 million or 16% to $34.1 million in 1996
from 1995. The increase in underwriting and general and administrative expenses,
excluding policyholder dividends, was due primarily to a $5.3 million adjustment
recorded in the second quarter of 1996 for accrued costs related to the
cancellation of a reinsurance contract. Underwriting and general and
administrative expenses for 1996, excluding the $5.3 million in accrued costs,
were $28.8 million as compared to $29.4 million in 1995. The Company's expense
ratio, excluding the $5.3 million in accrued costs and policyholder dividends,
was 32.5% for 1996, which is comparable to 32.8% in 1995.

Policyholder dividend expenses for 1996 were comparable to 1995,
constituting a decrease in underwriting expense of $5.9 million in 1996 as
compared to $5.7 million in 1995.

Underwriting profit from continuing operations decreased $7.3 million or
60% to $4.8 million in 1996 from 1995, principally due to a $4.7 million
increase in underwriting expense. The increase in underwriting and general and
administrative expenses was due primarily to the cost of canceling the
reinsurance contract discussed above, and $2.0 million in claim and claim
adjustment expense due as a result of adverse development on reserves related to
prior accident years.

Net investment income decreased $2.0 million or 20% to $7.8 million in 1996
as compared to 1995. The decline in investment income was due to a decrease in
the average investable assets of $11.3 million and a decline in the average
portfolio investment yield as a result of generally lower market interest rates
in 1996 as compared to 1995. While a financing transaction involving Chase and
Centre Re entered into in November 1996 substantially increased the size of the
investment portfolio on which the Company retained investment income, it
occurred too late in 1996 to have a material effect on 1996 net investment
income results. See "--Liquidity and Capital Resources."

LIQUIDITY AND CAPITAL RESOURCES

Liquidity is a measure of an entity's ability to secure sufficient cash to
meet its contractual obligations and operating needs. The Company's cash inflows
are generated from cash collected for policies sold, investment income on the
existing portfolio, and sales and maturities of investments. The Company's cash
outflows consist primarily of payments for policyholders' claims, operating
expenses, and debt service. For their insurance operations, the Company's
subsidiaries must have available sufficient cash and liquid assets to meet their
obligations to policyholders and claimants in accordance with contractual
obligations in addition to meeting their ordinary operating costs. Absent
adverse material changes in the workers' compensation insurance market,
management believes that the Company's present cash resources are sufficient to
meet the needs of the Company for the foreseeable future.

During the first three months of 1998, the Company used $20.6 million of
cash in its operations versus $8.0 million during the same period in 1997. The
$12.6 million increase in cash used in operations during the first three months
of 1998 is primarily due to the addition of SPCC operations beginning April 1,
1997. The
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<PAGE> 130

Company's continued negative cash flow is the result of the Company's historical
in force premium bases being significantly higher than its current level and
higher than expected payments of claim and claim adjustment expenses in the 1995
and 1996 accident years. The Company anticipates it will continue to experience
negative cash flow from operations until the claims related to the historically
higher premium base have been paid out. In addition, the reduction in net
written premium arising out of the Quota-Share Arrangement for large accounts
will increase negative cash flow substantially. Although the Company has
implemented its Claim Severity Management Program to control cash outflows
related to the 1995 and 1996 accident years at acceptable levels, there can be
no assurance that it will be successful. In any event, the Company believes that
it has adequate short-term investments and readily marketable investment-grade
securities to cover both claim payments and expenses. As of March 31, 1998, the
Company had total cash, cash equivalents and investments of $228.5 million and
had 99.1% of its investment portfolio invested in cash, cash equivalents, and
fixed maturities. In addition, 92.0% of the Company's fixed-income portfolio had
ratings of "AA" or equivalent or better and 98.1% had ratings of "BBB" or
equivalent or better.

During the year ended December 31, 1997, the Company used $52.4 million of
cash in its operations versus $14.9 million in the year ended December 31, 1996.
The Company's continued negative cash flow is the result of the Company's
premium in force being significantly higher historically versus its current
level. The $37.5 million increase in cash used in operations during the year
ended December 31, 1997 is primarily due to the addition of the SPCC operations.
The Company believes that it has adequate short-term investments and readily
marketable investment-grade securities to cover both claim payments and
expenses. At December 31, 1997, the Company had total cash, cash equivalents,
and investments of $242.1 million and had 99.4% of its investment portfolio
invested in cash, cash equivalents, and fixed maturities. In addition, 90.8% of
the Company's fixed-income portfolio had ratings of "AA" or equivalent or better
and 98.0% had ratings of "BBB" or equivalent or better.

The Company generated $77.3 million from financing activities during the
year ended December 31, 1997, as compared to $90.5 million in 1996. The 1996
financing activities consisted primarily of the transaction with Chase discussed
below. During 1997, net proceeds from the Company's financing activities were
used to fund the acquisition of SPCC, to repay outstanding bank debt, to redeem
outstanding preferred stock issued by an affiliate, and to refinance existing
debt. The Company generated the necessary cash to acquire SPCC from the proceeds
of a $44.0 million term loan and the sale of approximately $18.0 million in
Common Stock. Of the approximately $62.0 million raised in those financing
transactions, approximately $42.0 million was used to fund the acquisition of
SPCC, approximately $6.6 million was used to repay an existing bank loan, $10.0
million was contributed as capital to SPCC, and the remaining funds were used
for general corporate purposes, including the payment of related transaction
costs.

On December 3, 1997, the Trust issued its Trust Preferred Securities,
having an aggregate liquidation amount of $105.0 million, in a private
placement, and also issued to the Company, for an aggregate consideration of
approximately $3.25 million, all of the Trust's common securities. The proceeds
from the sale of these securities were used by Trust to purchase the Senior
Subordinated Notes. On January 16, 1998, the Company and the Trust completed the
registration with the SEC of an exchange offer for the outstanding Trust
Preferred Securities, Senior Subordinated Notes, and related Company guarantee,
pursuant to which substantially all of these securities were exchanged for
substantially similar securities. The Company used the proceeds it received from
the issuance of the Senior Subordinated Notes to repay the $40.3 million
outstanding balance on the term loan used to acquire SPCC, to redeem
approximately $27.7 million in preferred stock issued by a Company affiliate to
Centre Reinsurance (Bermuda) Ltd., to pay approximately $4.0 million in related
transaction costs, and for general corporate purposes, including a $15.0 million
contribution to the surplus of SNIC.

Distributions on the Trust Preferred Securities (and interest on the
related Senior Subordinated Notes) are payable semi-annually, in arrears, on
June 1 and December 1 of each year, and commenced June 1, 1998. Subject to
certain conditions set forth in the Indenture pursuant to which the Senior
Subordinated Notes were issued (the "Subordinated Notes Indenture"), on or after
December 1, 2005, the Company has the right to redeem the Senior Subordinated
Notes, in whole or in part at any time, at call prices ranging from 105.375% at
December 1, 2005 to 101.792% at December 1, 2007, and 100% thereafter. The
proceeds from any

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<PAGE> 131

redemption will be immediately applied by the Trust to redeem Trust Preferred
Securities and the Trust's common securities at such redemption prices. In
addition, the Company has the right, at any time, subject to certain conditions,
to defer payments of interest on the Senior Subordinated Notes for Extension
Periods (as defined in the Subordinated Notes Indenture), each not exceeding 10
consecutive semi-annual periods, provided that no Extension Period may extend
beyond the maturity date of the Senior Subordinated Notes. As a consequence of
any such extension by the Company of the interest payment period, distributions
on the Trust Preferred Securities would be deferred (though such distributions
would continue to accrue interest at a rate of 10.75% per annum compounded
semi-annually). Upon the termination of any Extension Period and the payment of
all amounts then due, the Company may commence a new Extension Period, subject
to certain requirements.

In addition, during 1997 the Company repaid approximately $0.6 million of
an existing bank loan and at the time due $3.7 million of the principal of the
term loan used to acquire SPCC.

In November 1996, the Company entered into a financing transaction
involving Centre Re and Chase pursuant to which Chase extended a $93.1 million
term loan, net of transaction costs. The Company used the proceeds from the
transaction to purchase from SNIC reinsurance receivables due from Centre Re. On
June 30, 1997, the Company and Chase reached an agreement under which the
Company agreed to transfer these reinsurance receivables to Chase in exchange
for the cancellation of the Company's debt to Chase. As a result of these
actions, the Company's investable assets increased $93.1 million. The additional
investments contributed to the increase in investment income in 1997.

The Company has a reverse purchase facility with a national securities
brokerage firm that allows it to engage in up to $20.0 million in reverse
purchase transactions secured by either U.S. Treasury instruments, U.S. Agency
debt, or corporate debt. This arrangement provides the Company with additional
short-term liquidity. Reverse purchase transactions may be rolled from one
period to the next, at which time the transaction is repriced. This type of
financing allows the Company a great deal of flexibility to manage short-term
investments, avoiding unnecessary realization of losses to satisfy short-term
cash needs. Further, this method of financing is less expensive than bank debt.
As of March 31, 1998, the Company had no obligation outstanding under this
facility.

The Company, as a holding company, depends on dividends and intercompany
tax allocation payments from its operating subsidiaries for its net cash flow
requirements, which consist primarily of periodic payments on its outstanding
debt obligations. Absent other sources of cash flow, the Company cannot expend
funds materially in excess of the amount of dividends or tax allocation payments
that could be paid to it by SNIC and SPCC. Further, insurance companies are
subject to restrictions affecting the amount of shareholder dividends and
advances that may be paid within any year without the prior approval of the DOI.
The California Insurance Code provides that amounts may be paid as dividends on
an annual noncumulative basis (generally up to the greater of (i) net income for
the preceding year and (ii) 10% of statutory surplus as regards policyholders as
of the preceding December 31) without prior notice to, or approval by, the DOI.
Dividends may only be paid out of "earned surplus" as defined in the California
Insurance Code. No dividends were paid by SPCC or SNIC during 1997; however,
SNIC paid $2.9 million to the Company for its current income taxes. No dividends
were paid in the three months ended March 31, 1998. Insurance holding company
regulations, in ordinary circumstances, place a two-year moratorium on payments
of dividends by a subsidiary that has undergone a change of control. The Company
has requested of the DOI, and expects to receive, a waiver from the moratorium
in connection with the Acquisition. If dividends are available for payment as
expected, the Company believes it will have adequate cash to service its debt.

The Company is party to several leases principally associated with the
Company's home and branch office space, as well as its fixed assets. These
leases contain provisions for scheduled lease charges and escalations in base
rent over the lease term. The Company's minimum lease commitment with respect to
these leases in 1998 is approximately $7.0 million. These leases expire from
2000 to 2003.

With the exception of the approximately $285.0 million necessary to
complete the Acquisition of BIG, together with fees and costs related thereto,
the Company does not foresee any material expenditures during the next twelve
months other than those arising in the ordinary course of business.

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<PAGE> 132

The effect of inflation on the revenues and net income of the Company
during the years ended December 31, 1997, 1996, and 1995 was not significant.

TAXES

As of March 31, 1998, the Company had available $126.4 million in NOLs to
offset taxable income recognized by the Company in periods after March 31, 1998.
For federal income tax purposes, these NOLs will expire in material amounts
beginning in the year 2006. Any 5% shift in the current ownership of the Company
may result in a "change of ownership" under Section 382 of the Code, and limit
and defer the Company's ability to utilize NOLs. In an effort to protect these
NOLs, the Company's charter documents prohibit 5% owners of Common Stock
(including holders of options and warrants) from acquiring additional stock and
prohibit any additional person or entity from becoming a 5% holder of Common
Stock. The prohibition against changes in ownership by the 5% holders of Common
Stock expires in April 2000. The Company believes that it is very likely that
the Equity Financings will result in a "change of ownership," but has concluded
that the cost of the limitation of use of the NOLS in relation to the benefits
derived from the Acquisition is acceptable. The Company is seeking stockholder
approval of a proposal to eliminate the charter provisions at the Annual
Meeting. See "Proposal No. 6 -- Amendment to Certificate of Incorporation to
Remove Transfer Restrictions."

PRIMARY DIFFERENCES BETWEEN GAAP AND SAP

The financial statements contained herein have been prepared in conformity
with GAAP, as opposed to SAP prescribed or permitted for insurance companies by
regulatory authorities. SAP differs from GAAP principally in the following
respects: (a) premium income is taken into operations over the periods covered
by the policies, whereas the related acquisition and commission costs are
expensed when incurred; (b) deferred income taxes are not recognized under SAP;
(c) certain assets such as agent's balances over ninety days due and prepaid
expenses are nonadmitted assets for statutory reporting purposes; (d)
policyholder dividends are accrued when declared; (e) the cash flow statement is
not consistent with classifications and the presentation under GAAP; (f) bonds
are recorded at amortized cost, regardless of trading activities; (g) loss and
loss adjustment expense reserves and unearned premium reserves are stated net of
reinsurance; and (h) minimum statutory reserves for losses in excess of the
Company's estimates are required.

The NAIC, recently approved the codification of SAP with an effective date
of January 1, 2001. Included in the codification is a change in the definition
of prescribed versus permitted policies that insurance companies use to prepare
their statutory financial statements. The Company has not yet determined the
impact of the adoption of the codification project.

YEAR 2000 STRATEGY

A significant percentage of the software that runs most of the computers in
the United States and the rest of the world relies on two-digit date codes to
perform computations and decision making functions. Commencing January 1, 2000,
these computer programs may fail from an inability to interpret date codes
properly, misinterpreting "00" as the year 1900 rather than 2000. The Company is
in the process of identifying all necessary software changes to ensure that it
does not experience any loss of critical business functionality due to the Year
2000 issue. The Company has appointed an internal Year 2000 project manager and
adopted a three phase approach of assessment, correction, and testing. The scope
of the project includes all internal software, hardware, and operating systems,
and assessment of risk to the business from producers, vendors, and other
partners in Year 2000 issues. The Company believes that this formal assessment
of risk (including the prioritization of business risk), correction (including
conversions to new software), and testing of necessary changes will minimize the
business risk of Year 2000 from internal systems. The Company plans to complete
its Year 2000 conversion not later than December 31, 1998. Although the Company
has not completed its Year 2000 project, the Company does not believe the Year
2000 issue will cause any system problems that could have a material adverse
effect on its operations. The Company does not expect the cost associated with
its Year 2000 project to be material. See "Certain Considerations -- Year 2000
Compliance" and "Superior National -- Business -- Discontinued Operations."

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SUPPLEMENTARY DATA

Summarized quarterly financial data for 1998 (unaudited), 1997, and 1996 is
as follows:

<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
--------- -------- --------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
1998
Earned premiums................................... $30,587 $ -- $ -- $ --
Income before income taxes, preferred securities
dividends and accretion and extraordinary
items........................................... $ 6,078 $ -- $ -- $ --
Net income........................................ $ 1,895 $ -- $ -- $ --
Basic earnings per share.......................... $ 0.32 $ -- $ -- $ --
Diluted earnings per share........................ $ 0.24 $ -- $ -- $ --
1997
Earned premiums................................... $18,978 $ 45,410 $34,760 $41,772
Income before income taxes, preferred securities
dividends and accretion and extraordinary
items........................................... $ 1,881 $ 382 $ 5,460 $ 9,538
Net income (loss)................................. $ 756 $(10,530) $ 2,132 $ 2,501
Basic earnings per share.......................... $ 0.22 $ (1.80) $ 0.36 $ 0.42
Diluted earnings per share........................ $ 0.14 $ (1.39) $ 0.28 $ 0.32
1996
Earned premiums................................... $18,897 $ 24,136 $23,007 $22,608
Income before income taxes, preferred securities
dividends and accretion and extraordinary
items........................................... $ 1,656 $ 1,406 $ 1,440 $ 725
Net income........................................ $ 678 $ 526 $ 712 $ 47
Basic earnings per share.......................... $ 0.20 $ 0.15 $ 0.21 $ 0.02
Diluted earnings per share........................ $ 0.17 $ 0.12 $ 0.15 $ 0.01
</TABLE>

NEW ACCOUNTING STANDARDS

In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard No. 128, "Earnings per Share" ("SFAS
128"), which was adopted for the year ended December 31, 1997. The Company has
changed its method used to compute per share results and restated the results
for all prior periods. The impact of SFAS 128 did not have a material effect on
the Company's earnings per share.

In June 1997, the FASB issued Statement of Financial Accounting Standard
No. 130, "Reporting Comprehensive Income" ("SFAS 130"). Effective for periods
ending after December 15, 1997, including interim periods, SFAS 130 requires
companies to report comprehensive income and its components in a financial
statement and display the accumulated balance of other comprehensive income
separately from retained earnings and additional paid-in-capital. Comprehensive
income includes all changes in equity during a period except those resulting
from investments by stockholders and distributions to stockholders. The Company
has not yet seen any material impact from the implementation of SFAS 130.

Also, in June 1997, the FASB issued Statement of Financial Accounting
Standard No. 131, "Disclosures about Segments of an Enterprise and Related
Information" ("SFAS 131"). This statement specifies revised guidelines for
determination of an entity's operating segments and the type and level of
financial information to be disclosed. SFAS 131 is effective for periods ending
after December 15, 1997, including interim periods. The Company's adoption of
SFAS 131 has not had any impact on its current financial reporting practices.

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SUPERIOR NATIONAL

BUSINESS

OVERVIEW

Superior National is a holding company that, through its wholly owned
subsidiaries, SNIC and SPCC, underwrites and markets workers' compensation
insurance principally in the State of California and, until September 30, 1993,
was engaged in the underwriting and marketing of commercial P&C insurance. The
Company was incorporated in California in March 1985 and reincorporated in
Delaware in April 1997. SNIC and SPCC conduct business under the "Superior
Pacific" trade name. Unless the context indicates otherwise, "Superior Pacific,"
as used herein, refers to SNIC and SPCC and their combined operations from April
1997 to the present, and refers only to SNIC and its operations for all prior
periods.

In April 1997, Superior National acquired Pac Rim, the parent company of
The Pacific Rim Assurance Company (subsequently renamed Superior Pacific
Casualty Company). SPCC's Southern California operations complement SNIC's
historical focus on Central and Northern California. As a result of the Pac Rim
Transaction, the Company believes that, excluding the State Fund, it is the
eighth largest California workers' compensation insurer overall, based upon 1996
direct written premium. Pro forma for the Pac Rim Transaction, the Company would
have had direct written premium of $182.2 million and $179.7 million for the
years ended December 31, 1996 and 1997, respectively. The Company had direct
written premium for the year ended December 31, 1997 (reflecting the SPCC
acquisition as of April 1, 1997) of $159.4 million, and had $41.4 million in
direct written premium in the first quarter of 1998. Pro forma for the
Acquisition of BIG, the Company would have had direct written premium of $823.3
million and $848.6 million for the years ended December 31, 1996 and 1997,
respectively, and $195.0 million in direct written premium in the first quarter
of 1998. The preceeding pro forma information is presented for illustrative
purposes only and is not necessarily indicative of the results of operations
that would have occurred had the Acquisition or the Pac Rim Transaction been
consummated on the dates assumed, nor is this pro forma information intended to
be indicative of the Company's future results of operations.

In connection with the Pac Rim Transaction, the Company agreed with the DOI
that SPCC would operate in a "run-off" situation and that all new or renewal
business would be written only by SNIC. As a result, the Company has been
integrating SPCC's operations into SNIC's operations and has substantially
completed the process. The Pac Rim Transaction has enabled the Company to
increase its book of California workers' compensation insurance business and
generate significant expense savings through the consolidation of the back
office operations of the two companies.

In addition to California, Superior Pacific is also licensed to write
business in Arizona, Arkansas, Colorado, District of Columbia, Georgia, Indiana,
Iowa, Kentucky, Maryland, Mississippi, Missouri, Montana, Nevada, New Mexico,
Oregon, South Dakota, Texas, Utah, and Wyoming, but virtually all of Superior
Pacific's current premium is generated in California (94%) and Arizona (6%).
Following the Pac Rim Transaction, SPCC's operations in states other than
California and Arizona were discontinued and are currently in run-off, but the
Company intends to maintain BIG's multi-state operations upon consummation of
the Acquisition.

STRATEGY

Integration Strategy

The Company acquired SPCC in April 1997 and has rapidly integrated SPCC's
operations into Superior Pacific. The Company believes it has achieved
significant expense savings through the integration of SPCC into Superior
Pacific. Although the Company does not expect any material cost savings to arise
in the short term out of the Acquisition of BIG, the benefits of economics of
scale could be realized over a period of years.

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<PAGE> 135

The Company's strategy for improving the overall financial performance of both
Superior Pacific and BIG includes:

- Leadership in California Market. As the largest private sector workers'
compensation insurer in California, the Company will be positioned to
offer insureds and producers outstanding service, innovative loss control
programs, and competitive pricing.

- Nationwide Presence; Opportunities for Growth. The Company intends to
maintain a nationwide presence and seek additional opportunities for
growth outside of California, using an underwriting arrangement with an
affiliate of Zurich (after its purchase of BICO), and the regional and
branch network established by BIG.

- Underwriting. The Company believes it can accomplish a gradual
re-underwriting of BIG's book of business to enhance profitability. The
pricing and persistency risk associated with the re-underwriting of
larger accounts will be mitigated by ceding accounts with estimated
annual premium of $25,000 or more at inception to a reinsurer.

- Information Systems. The Company believes that its data processing
systems will give Superior Pacific and BIG a significant competitive
advantage by (i) enhancing the effectiveness of their employees'
underwriting, policy administration, and claims activities, (ii)
providing detailed, real-time, and near real-time information to
management for control and administration purposes, and (iii) providing
marketing benefits through improved customer service.

- Loss Control and Claims Management. The Company believes BIG is a leader
in loss control for workers' compensation, and expects to introduce
innovative concepts developed by BIG, such as employer safety management
schools, to Superior Pacific's business. Additionally, once a claim is
made the Company expects to benefit from the Service Agreements with FHS,
and the claim severity management services Superior Pacific will obtain
from REM as part of the Claim Severity Management Program. These claim
practices will continue to emphasize rapid medical intervention to
mitigate the severity of injuries.

- Producer Relationships. The Company intends to strengthen relationships
with its producers, including nationally recognized insurance brokers who
have longstanding relationships with BIG, in order to reach potential
customers with nationwide operations. The Company endeavors to be the
primary supplier of workers' compensation insurance for many of its
producers. The Company will continue to emphasize its relationships with
small- and medium-sized producers who often use the Company as a primary
underwriter of workers' compensation insurance.

Operating Strategy

Superior National intends to continue to focus on the bottom line while
completing the integration of Superior Pacific and BIG. The key elements of its
strategy to maintain operating margins in its business are:

- Focus on Specialized Market Segments. The Company's experienced
management team utilizes a sophisticated information system to focus the
Company's business on selected policy sizes and employment
classifications that management believes provide the greatest opportunity
for profitability.

- Underwriting Discipline. Following the advent of open rating in
California in 1995, some California workers' compensation insurers have
reduced premium rates substantially to increase or maintain market share.
The Company has not followed this practice and has maintained
consistently stringent underwriting policies in order to maintain gross
profit margins. As a result, although the Company experienced declines in
premium until acquiring SPCC, from 1993 to 1997 the Company's combined
ratio from continuing operations has improved from 100.2% to 90.9%.

EXPERIENCED MANAGEMENT; BUSINESS RELATIONSHIPS WITH ZURICH AFFILIATES

The Company is led by an experienced management team, with the Chief
Executive Officer and the Chief Operating Officer having a combined 59 years of
workers' compensation insurance business experience both in and outside of
California. The experience of management and the Company's sophisticated data
processing systems allow the Company to react quickly to positive and negative
developments in its markets.

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<PAGE> 136

In addition, the Company benefits from business relationships with
affiliates of Zurich, which have provided financing and access to their
expertise and products, including claim management services and reinsurance. The
Company currently maintains a facility that allows it to offer certain
policyholders insurance policies written by a Zurich affiliate having an A.M.
Best "A" rating. Affiliates of Zurich are providing services that the Company
has integrated into its Claim Severity Management Program. Furthermore, in
December 1997, Centre Reinsurance (Bermuda) Ltd. purchased $10.0 million of the
Trust Preferred Securities issued by the Company's subsidiary, the Trust. In
addition, in connection with the Acquisition of BIG, Zurich Centre Group LLC
will purchase BICO from the Company and establish an underwriting arrangement
with the Company for a fee equal to 2.5% of direct written premium plus a pass
through of all related expenses.

COMPANY STRUCTURE

Superior National has two direct, wholly owned active subsidiaries:
Superior Pacific Insurance Group, Inc. ("SPIG") and the Trust, a statutory
business trust created under the laws of the State of Delaware. SPIG has four,
direct, wholly owned active subsidiaries: SNIC, SPCC, InfoNet Management
Systems, Inc. ("InfoNet"), and Superior (Bermuda) Ltd. ("SBL"). InfoNet provides
data processing purchasing services to Superior National and its Subsidiaries.
SBL was formed in September 1995 to facilitate the management of the run-off of
SNIC's P&C business.

The Trust was formed by the Company in December 1997 and exists solely for
the purpose of issuing the Trust Preferred Securities, having an aggregate
liquidation amount of $105.0 million, and investing the proceeds thereof in an
equivalent amount of the Senior Subordinated Notes. The Company owns directly
all of the common securities issued by the Trust, which it purchased for an
aggregate consideration of approximately $3.25 million. See "Superior
National -- Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."

SNIC's only subsidiary is wholly owned Western Select Service Corp., which
currently provides vocational rehabilitation, legal, paralegal, and other
services to SNIC and SPCC. SPCC has no active subsidiaries.

CALIFORNIA WORKERS' COMPENSATION MARKET

Workers' Compensation. Workers' compensation is a no-fault statutory system
under which an employer is required to provide its employees with medical care
and other specified benefits for work-related injuries and diseases. There are
four types of benefits payable under workers' compensation policies: disability,
vocational rehabilitation, medical, and death benefits. The amount of benefits
payable for various types of claims is established by statute and varies with
the nature and severity of the injury or disease, and the wage, occupation, and
age of the employee. While no dollar limitations are set for medical benefits
and dollar limitations apply only under certain circumstances to vocational
rehabilitation benefits, reinsurance typically covers liability in excess of a
specified dollar amount agreed upon by the insurer and the reinsurer.

California Marketplace. California is the country's largest workers'
compensation insurance market, with total direct written premium of $5.0 billion
in 1996, the latest year for which industry data are available. The California
market is composed of (i) the State Fund, (ii) companies, including BIG, that
write workers' compensation insurance in California but have significant
writings in other lines of business and/or in other states, and (iii) the
Company, which, prior to the Acquisition, is the one private sector company that
writes exclusively workers' compensation insurance specifically focused in
California. The State Fund, which is obligated to write workers' compensation
insurance for any applicant, including those turned down by the private sector
carriers, is the largest underwriter of workers' compensation insurance in
California, accounting for approximately 19% of the direct written premium in
California in 1996. Because the State Fund must accept all risks, its combined
ratios have historically been much higher than those of the private sector
carriers. Despite these results, the State Fund has consistently achieved
profitability through the investment income earned on its large invested asset
base. As of December 31, 1996, the State Fund had invested assets of $7.0
billion and statutory capital and surplus of $1.6 billion. The State Fund
currently maintains an "A" claims paying ability rating from S&P and an "A-"
rating from A.M. Best. Although the State Fund regularly competes with the
Company for profitable underwriting business, the Company views the State Fund's
role as
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the insurer of last resort to be a significant benefit because it eliminates the
need to create an assigned risk plan in which the Company and other insurers
conducting business in California would be required to participate.

Pricing. Prior to January 1, 1995, the DOI set minimum premium rates for
workers' compensation insurance to provide a stable environment for the pricing
of such insurance. On January 1, 1995, the State of California formally
converted to a system of "open rating" for workers' compensation insurance
written within the state. Insurance companies now file and use their own
actuarially defensible rates. Following the introduction of open rating, total
direct written premium in the California market decreased from $9.0 billion in
1993 to $5.0 billion in 1996 as many carriers engaged in price competition.

Under open rating, the DOI sets "pure premium" (effectively, the estimated
claim and allocated claim adjustment expense) rates for each employment
classification. Carriers then apply their own multipliers to the pure premium
rate to adjust for that carrier's anticipated unallocated claim adjustment and
underwriting expenses. These rates are then subject to further adjustment on a
policyholder by policyholder basis to account for historical loss experience,
the presence of stricter safety programs, differing dividend and commission
plans, and other factors.

Recent Results. The State Fund's relatively poor underwriting results,
together with its large size, have created a skewed perception of the
underwriting profitability of companies writing business in the California
workers' compensation marketplace. Although market-wide combined ratios have
increased, responsible underwriters, such as Superior National, have been able
to achieve an underwriting profit. The results of the State Fund and of the
total industry under SAP are detailed below (1997 data is not yet available):

<TABLE>
<CAPTION>
1996 1995 1994 1993
------------------ ------------------ ------------------ ------------------
STATE STATE STATE STATE
FUND INDUSTRY FUND INDUSTRY FUND INDUSTRY FUND INDUSTRY
------ -------- ------ -------- ------ -------- ------ --------
(IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Premiums................... $ 992 $ 5,779 $1,073 $5,855 $1,456 $7,655 $1,705 $8,965
Loss Ratio................. 111.8% 94.4% 87.0% 75.7% 71.0% 67.8% 96.1% 80.4%
Expense Ratio.............. 21.1 20.6 17.0 20.0 12.6 17.8 11.1 15.4
Policyholder Dividend
Ratio.................... 11.8 6.5 26.3 15.1 23.3 14.2 9.8 7.4
------ ------- ------ ------ ------ ------ ------ ------
Combined Ratio............. 144.7% 121.5% 130.3% 110.8% 106.9% 99.8% 117.0% 103.2%
====== ======= ====== ====== ====== ====== ====== ======
Underwriting Gain (Loss)... $ (443) $(1,244) $ (325) $ (632) $ (102) $ 15 $ (290) $ (286)
Investment Income.......... 473 NA 490 1,740 502 1,623 531 2,178
------ ------- ------ ------ ------ ------ ------ ------
Pre-Tax Income............. $ 30 NA $ 165 $1,108 $ 400 $1,638 $ 241 1,892
====== ======= ====== ====== ====== ====== ====== ======
</TABLE>

Recent Developments. While competitive pressures in the California's
workers' compensation insurance market increased with the implementation of open
rating in January 1995, certain fundamentals of the workers' compensation
insurance market have recently improved. In 1996, the total direct workers'
compensation written premium in California leveled out at approximately $5.0
billion as compared to $9.0 billion in 1993, as the market began to experience
rate stabilization. Based on the Company's analysis of data obtained from the
WCIRB and other sources, this trend continued into 1997, as demonstrated by a
slight improvement in premium pricing of 0.5% for the year ended December 31,
1997 over 1996. Additionally, anti-fraud legislation passed by the State of
California in 1993 continues to have a positive effect on the market's losses by
controlling fraudulent claims and medical and legal expense levels. These
improvements have resulted in a reduction in the frequency of claims in the
California workers' compensation market. However, beginning in 1997, the Company
has recognized an increase in claim severity for injuries sustained in 1995 and
thereafter. Management has taken steps to address this issue by undertaking the
Claim Severity Management Program. See "-- Claim Severity Management Program"
and "-- Claim and Claim Adjustment Expense Reserves" and "Certain
Considerations -- Uncertainty Associated with Estimating Reserves for Unpaid
Claim and Claim Adjustment Expenses."

Superior Pacific Within the California Workers' Compensation Market. After
the Acquisition the Company believes that it will be better positioned than its
competitors to compete successfully in the post-open rating California workers'
compensation insurance market, while also reducing somewhat its dependence on
California for growth and profitability. The Company believes it will benefit
from its focus on workers' compensation insurance, and that its leadership
position in the California market will allow it to offer insureds

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<PAGE> 138

and producers outstanding service, innovative loss control programs, and
competitive pricing. The national presence provided by the Acquisition will give
the Company some diversification from the California market, offering what the
Company believes are attractive growth opportunities in a number of markets. The
Company continues to believe that pricing and underwriting policies designed
specifically for workers' compensation means that its workers' compensation
insurance business should perform better financially than the workers'
compensation business of insurers who offer workers' compensation policies to
insureds as part of a package of insurance.

MARKETING

Superior Pacific primarily markets its insurance products through
approximately 250 small- to medium-sized producers located throughout California
and Arizona, most of which have an ongoing relationship with the Company's
executives. Because these producers also represent one or more competing
insurance companies, Superior Pacific views the producers as its marketing
target and delivers service the Company believes surpasses normal industry
levels. Superior Pacific's percentage of business with each of its producers, in
terms of premium volume, has a significant effect on a producer's efforts,
because management believes companies that represent a significant volume of a
producer's business typically receive the highest quality business. The Company
is one of the primary underwriters of workers' compensation insurance for most
of its producers. During the year ended December 31, 1997, no single producer
controlled more than 5.0% of premium in force.

While the Company's principal marketing strategy is to meet the business
needs of Superior Pacific's producers by providing the insurance coverage and
services needed by their customers, the Company has concentrated its marketing
efforts on policies with annual premium under $50,000, principally to avoid the
extreme price competition usually associated with larger insureds. As of
December 31, 1997, the Company's average annual premium per policy was
approximately $8,300. In 1998, the Company initiated a program to market
coverage to selected large accounts that meet the Company's underwriting
criteria.

Approximately 57.9% of the Company's premium in force is concentrated in
925 non-group policies and 291 group programs that each provide annual premium
in excess of $25,000. The average annual premium volume generated by each of
Superior Pacific's group programs is approximately $820,000 and in the aggregate
these programs represent 31.1% of the Company's premium in force. Because
policies issued through group programs reflect some of the attributes of smaller
non-group policies, marketing workers' compensation insurance through such
programs to reach smaller policyholders is a means by which the Company can
implement its strategy to underwrite smaller policies. For example, individual
policies within a group typically possess rate adequacy associated with small
non-group accounts. Moreover, renewal rates within a group are generally
superior to non-group business. However, group programs, because of their
overall premium, also reflect some of the attributes of large non-group
policies, mainly their greater vulnerability to price competition than the
individual accounts within the group.

The average size of Superior Pacific's non-group policies that exceed
$25,000 in annual premium is approximately $76,424 and those policies in the
aggregate represent 47.1% of premium in force. Most of these policies were
obtained by the Company upon its acquisition of SPCC. The Company's strategy is
to maintain adequate pricing on accounts regardless of their size, and in
pursuing this strategy the Company has been unable to retain a portion of these
large non-group policies. However, the Company expects to replace many of them
with new, smaller accounts through its newly acquired relationships with
policyholders and producers previously associated with Pac Rim, and with larger
accounts (where adequate pricing can be obtained) through the Company's new
large account marketing program.

Superior Pacific closely monitors its producers through its on-line
management information systems, with special attention given to the volume and
profitability of business written through Superior Pacific. Relationships with
producers who consistently write unprofitable business, or do not meet the
minimum guideline of annual premium per year, may be terminated. Superior
Pacific believes that by continually monitoring and improving the quality of the
business acquired through its producers, long-term profitability will be
enhanced. See "-- Information Services."

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<PAGE> 139

The marketing staff, along with the branch office managers and the
underwriting, loss control, and regional claim staffs, work closely with
producers and frequently make joint presentations with producers to potential
workers' compensation policyholders. Superior Pacific conducts its marketing by
territory to enable its marketing representatives to better address the specific
types of accounts located in each region.

Producer commissions are generally determined by negotiation and are
dependent on the size and profit potential of the producer's accounts. Superior
Pacific's average direct commission rate was 11.1% for the years ended December
31, 1997 and 1996, and 12.0% in 1995. The Company believes the stabilization in
the average direct commission rate for the year ended December 31, 1997 was due
primarily to a combination of firming prices and a greater use by larger
policyholders of fee-based arrangements (as opposed to traditional commission
arrangements) with their insurance producers. Superior Pacific's producers are
not permitted to bind Superior Pacific with respect to any account. All new and
renewal policyholder applications must be submitted to Superior Pacific for
approval. Superior Pacific is not committed to accept a fixed portion of any
producer's business.

UNDERWRITING

Because the types of accounts that Superior Pacific insures vary among
different geographic regions, Superior Pacific conducts its underwriting
activities through branch offices that are focused on the local economies. While
Superior Pacific underwrites over 400 of the approximately 500 employment
classifications established by the WCIRB, it targets specific classifications
that management believes to be profitable. The Company believes that by focusing
on certain employment classifications, it can provide claim management and
standardized loss control services at a level appropriate to each policyholder.
For the year ended December 31, 1997, five employment classifications, made up
primarily of office and clerical, hospitality, agricultural, garment, and health
care workers, represented approximately 35% of Superior Pacific's premium in
force. The Company excludes most employment classifications that represent
historically higher risk exposure, including the manufacturing, handling, and
shipping of explosives; oil rig and derrick work; subway construction; and
navigation of marine vessels. Classifications that require the approval of
Superior Pacific's principal underwriting officer include those that represent
potential exclusions from Superior Pacific's reinsurance treaties, unusual
hazards, or catastrophic exposures such as taxicab fleets, carnivals, ski
resorts, and detective agencies. Certain risks, such as the transportation of
groups of employees, are generally ceded to reinsurers under separate
reinsurance agreements.

Prior to insuring an account, Superior Pacific's underwriting department
reviews, inter alia, the employer's prior loss experience and safety record,
premium payment and credit history, operations, geographic location, and
employment classifications. Superior Pacific verifies employment classifications
principally through information provided by the WCIRB and, in many instances,
through its own on-site surveys of the employer's place of business.

The Company's underwriting system is a fully integrated, computerized,
rating, quoting, and policy issuance system for use both internally and remotely
from producers' offices. The system contains edit and blocking features that
prohibit underwriters from issuing policies associated with business that is
deemed inappropriate or undesirable by management, or that may be
inappropriately priced. See "-- Information Services."

SPCC historically underwrote larger accounts than SNIC, and in a more
limited range of risk classification codes. Since SPCC's acquisition, Superior
Pacific has been re-underwriting SPCC's book of business at policy renewal dates
in conformity with SNIC's historic underwriting standards and pricing
guidelines. SPCC's average policy size has declined significantly, standing at
approximately $17,000 for the policy year ended December 31, 1997, versus
approximately $20,300 for the policy year ended December 31, 1996. Management
believes that the re-underwriting of SPCC's business will produce a new book of
business mirroring SNIC's historical book of business, both as to size and range
of risk classifications, by the end of 1998.

Virtually all of SPCC's business is located in urban and suburban Southern
California. Until 1993, claim experience in Southern California was more
volatile and less favorable than the remainder of the state. Further, since open
rating began in 1995, the relatively large accounts that SPCC has underwritten
have been

127
<PAGE> 140

subject to extreme price competition, consequently, the nature of SPCC's
historical book of business may cause historical claim reserves to be subject to
more uncertainty versus claim reserves established on prospective business.

LOSS CONTROL

In addition to its responsibility for risk evaluation as part of the
underwriting process, Superior Pacific's loss control department may assist
policyholders in developing and maintaining safety programs and procedures to
minimize on-the-job injuries and health hazards. After analyzing the
policyholder's loss profile, Superior Pacific's loss control consultants will
help develop a loss control program and establish accident reporting and claim
follow-up activities for the policyholder. Superior Pacific's loss control
personnel may also consult with policyholder management about safety and health
issues, as well as about the effectiveness of the policyholder's loss prevention
procedures.

CLAIM SEVERITY MANAGEMENT PROGRAM

Effective December 31, 1997, the Company entered into agreements with REM
and Zurich Reinsurance (North America), Inc. ("ZRNA"), affiliates of Zurich, to
provide claim management services for its Claim Severity Management Program
("CSMP"). Under the CSMP, REM, acting as a third party administrator ("TPA"),
provides claim processing and management services to Superior Pacific, and ZRNA
provides Superior Pacific with protection predicated on REM's ability to reduce
Superior Pacific's severity. The Company may terminate the contract with six
months notice after the initial three-year term of the contract, with a penalty
that will not exceed $250,000 plus REM's reasonable expenses to unwind the
agreement.

REM, in its capacity as a TPA, will provide certain claim management
services, while the Company will provide claims facilities and data processing
systems. All of the Company's claims personnel have been moved to an independent
contractor service provider as part of the CSMP. The terms of the agreement bind
REM to certain operational restrictions and performance standards designed to
assure quality claims administration. The Company believes that combining REM's
claim management techniques with the Company's claim processing systems should
produce material improvements in the Company's claim severity, more than
offsetting the cost of such services. The Company believes the CSMP will reduce
the Company's ultimate loss cost severity with favorable cost-benefit
trade-offs.

Under the agreement with ZRNA, ZRNA will credit the Company's direct claim
costs, up to an aggregate of $30.0 million, to the extent that REM is
unsuccessful in minimizing the claim severity.

The Company's claims services are provided primarily by Comprehensive
Compensation Claims Management, Inc. ("3CM"), which was formed with the support
of the Company and REM for that purpose. The Company and REM will continue to
work closely with policyholders to return injured workers to the job as quickly
as is medically appropriate. 3CM will continue to maintain for the Company four
full service claim service offices ("CSOs") in California, which are located in
Woodland Hills, Fresno, Pleasanton, and Sacramento. Additionally, the Company
will use a 3CM CSO in Phoenix, Arizona. Each CSO is managed by a claims manager.
The claims technical staffs are organized into units with, generally, one
supervisor supervising four claims examiners and two claims assistants per unit.

3CM relies extensively on the Company's data processing systems. The
Company's data processing systems were developed internally through a joint
effort of the claim and management information systems departments' personnel
with three goals in mind: capture timely and meaningful data, reduce the
possibility of human error through a series of system prompts and edit checks,
and automate manual functions. An additional benefit of the claims system is the
increased productivity, as a result of claims examiners' handling larger case
loads.

3CM's claims handling also includes a specialized subrogation function.
Claims examiners are responsible for the identification of potential recoupments
from third parties responsible for a work-related accident, after which the
examiner notifies a subrogation specialist of this potential. The subrogation
specialist determines whether a subrogation situation exists, and, if so,
assumes responsibility for all aspects of subrogation to finalization.

128
<PAGE> 141

CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES

Several years or more may elapse between the occurrence of a workers'
compensation loss, the reporting of the loss, and final payment of the loss.
Claim and claim adjustment expense reserves are estimates of what an insurer
expects to pay claimants. Superior Pacific is required to maintain reserves for
payment of estimated claim and claim adjustment expense for both reported claims
and claims that have been incurred but not reported ("IBNR"). Superior Pacific's
ultimate liability may be materially more or less than current reserve
estimates.

Reserves for reported claims are established on a case-by-case basis.
Case-by-case reserve amounts are determined by claim examiners, based on the
examiner's judgment and experience, and on Superior Pacific's reserving
practices, which take into account the type of risk, the circumstances
surrounding the claim or policy provisions relating to type of loss, and
historical paid claim and claim adjustment expense data for similar claims.
Case-by-case reserves are not established for claim adjustment expense, and the
entire reserve for claim adjustment expense is established primarily based upon
the Company's historical paid data. Superior Pacific's claims services providers
regularly monitor reserve adequacy for claims that have occurred and been
reported and Superior Pacific adjusts such reserves as necessary.

Claim and claim adjustment expense reserves for IBNR are estimated based on
many variables including historical and statistical information, inflation,
legal developments, the regulatory environment, benefit levels, economic
conditions, judicial administration of claims, general frequency and severity
trends, medical costs, and other factors affecting the adequacy of loss
reserves. See "Certain Considerations -- Uncertainty Associated with Estimating
Reserves for Unpaid Claim and Claim Adjustment Expense." The senior officers of
the Company review and adjust IBNR reserves monthly.

Adjustments in aggregate reserves are reflected in the operating results of
the period during which such adjustments are made. Although claims for which
reserves are established may not be paid for several years or more, the reserves
are not discounted, except to calculate taxable income as required by the Code.

The following table provides a reconciliation of the beginning and ending
claim and claim adjustment expense reserves for each of the years in the
three-year period ended December 31, 1997, computed in accordance with GAAP.

RECONCILIATION OF LIABILITY FOR CLAIM AND CLAIM ADJUSTMENT EXPENSE

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------
1997 1996 1995
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Beginning reserve, gross of reinsurance.................... $115,529 $141,495 $171,258
Less: Reinsurance recoverable on unpaid losses............. 24,986 27,076 31,897
-------- -------- --------
Beginning reserve, net of reinsurance...................... 90,543 114,419 139,361
Pac Rim reserves at acquisition............................ 104,588 -- --
Provision for net claim and claim adjustment expenses:
For claims occurring in current year..................... 95,826 57,614 58,842
For claims occurring in prior years...................... (5,379) (1,976) (4,872)
-------- -------- --------
Total claim and claim adjustment expenses................ 90,447 55,638 53,970
-------- -------- --------
Payments for net claim and claim adjustment expense:
Attributable to insured events incurred in current
year.................................................. (37,945) (19,816) (19,732)
Attributable to insured events incurred in prior years... (95,533) (59,698) (59,180)
-------- -------- --------
Total claim and claim adjustment expense payments........ (133,478) (79,514) (78,912)
-------- -------- --------
Ending reserves, net of reinsurance........................ 152,100 90,543 114,419
Reinsurance recoverable on unpaid losses................... 49,155 24,986 27,076
-------- -------- --------
Ending reserves, gross of reinsurance...................... $201,255 $115,529 $141,495
======== ======== ========
</TABLE>

During 1997, the Company continued to experience decreased frequency of
claims and at the same time experienced an increase in claim severity for
accident years 1995 and thereafter. The Company's net claim and

129
<PAGE> 142

claim adjustment expense ratio for accident year 1997 at the end of calendar
year 1997 was 68.0%, versus 65.0% and 65.6% for accident years 1996 and 1995 at
their respective calendar year ends.

In 1997, the Company experienced approximately $5.4 million in favorable
development on net claim and claim adjustment expense reserves estimated at
December 31, 1996. This $5.4 million favorable development is the result of a
$10.8 million favorable development on ceded reserves for accident years 1996
and prior. The $10.8 million favorable development on ceded reserves is
attributable to SPCC and due to the post-acquisition review of all open claim
files and the subsequent adjustment to reserves, which caused many claims to
have incurred claim and claim adjustment expenses in excess of the retention on
SPCC's reinsurance treaties. The $10.8 million favorable development is offset
by a $5.4 million adverse development on direct reserves attributable to the
accident years 1995 and 1996. The Company believes similar adverse development
has been experienced throughout the California workers' compensation industry,
perhaps due to an increase in claim severity.

In 1996, the Company experienced approximately $2.0 million in favorable
development on net claim and claim adjustment expense reserves estimated at
December 31, 1995. This $2.0 million favorable development is the result of $8.4
million in favorable development on direct reserves for accident years 1994 and
prior. The favorable development was offset in part by $4.1 million in adverse
development on direct reserves for accident year 1995. The accident year net
claim and claim adjustment expense ratio for accident year 1995 at the end of
calendar year 1995 was 65.6% versus 74.6% at the end of the 1996 calendar year.
The Company believes, from its review of data obtained by the WCIRB, that
similar adverse development has been experienced throughout the California
workers' compensation industry.

During 1995, the Company experienced approximately $8.6 million of
favorable development on direct claim and claim adjustment expense reserves
estimated at December 31, 1994. Management believes the favorable development
resulted from the Company's improved claims management controls and decreased
claim severity, particularly in the medical component of the workers'
compensation line. Similar favorable development on pre-1995 losses has been
experienced elsewhere in the California workers' compensation industry.
Offsetting the favorable direct development in large part was the re-estimation
during 1995 of reinsurance receivables recorded at December 31, 1994, from
approximately $66.2 million to approximately $59.9 million at December 31, 1995.

On April 11, 1997, the Company acquired SPCC. The claim and claim
adjustment expenses related to SPCC for this analysis are reflected in the
Company's 1997 claim and claim adjustment expense balances regardless of the
year the claim was previously reported to SPCC. To the extent that claims
develop in the future or close favorably, the result will be reflected in the
calendar year development to which it relates.

130
<PAGE> 143

The following table discloses the development of direct workers'
compensation claim and claim adjustment expense reserves of Superior Pacific
from December 31, 1987 through December 31, 1997.

ANALYSIS OF DIRECT CLAIM AND CLAIM ADJUSTMENT EXPENSE DEVELOPMENT
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------------------------------------------------
1987 1988 1989 1990 1991 1992 1993 1994
------- ------- ------- ------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Reserve for Unpaid Losses
and Loss Adjustment
Expenses, Gross of
Reinsurance Recoverables
Reserve................. $21,969 $42,268 $60,615 $88,270 $116,811 $136,102 $171,038 $171,258
Reserve Re-estimated as
of:
One Year Later.......... 24,241 43,581 68,718 112,160 144,676 162,634 171,960 162,635
Two Years Later......... 26,120 46,788 79,059 111,151 143,912 148,906 161,262 145,626
Three Years Later....... 29,140 50,955 74,619 117,506 138,607 152,420 148,654 144,173
Four Years Later........ 29,423 47,696 78,112 113,029 137,939 144,898 148,983
Five Years Later........ 29,541 49,297 75,475 112,840 135,074 146,867
Six Years Later......... 29,082 47,554 75,913 109,655 138,048
Seven Years Later....... 27,759 49,470 74,149 111,871
Eight Years Later....... 27,846 48,653 75,898
Nine Years Later........ 27,573 49,451
Ten Years Later......... 27,803
Cumulative (Deficiency)
Redundancy.............. (5,834) (7,183) (15,283) (23,601) (21,237) (10,765) 22,055 27,085

Cumulative Amount of
Reserve Paid through:
One Year Later.......... $ 9,447 $17,698 $24,478 $42,627 $ 53,914 $ 57,348 $ 60,726 $ 67,757
Two Years Later......... 14,482 19,879 35,195 51,160 56,299 61,648 66,077 61,952
Three Years Later....... 15,777 25,830 38,067 52,761 63,354 63,523 64,464 67,388
Four Years Later........ 18,666 26,165 38,261 57,332 64,703 66,547 66,754
Five Years Later........ 19,384 26,026 40,794 59,093 68,152 66,750
Six Years Later......... 19,660 27,181 42,032 59,917 69,052
Seven Years Later....... 20,707 27,202 43,146 60,749
Eight Years Later....... 20,803 27,947 42,898
Nine Years Later........ 21,123 27,857
Ten Years Later......... 20,899
Gross Reserve -- December 31........................................................... $171,038 $171,258
Reinsurance Recoverables............................................................... 28,971 31,897
-------- --------
142,067 139,361
Reclassification of Amounts Recoverable from Centre Re................................. (42,032) (34,269)
-------- --------
Net Reserve -- December 31............................................................. $100,035 $105,092
======== ========
Gross Re-estimated Reserve............................................................. $148,983 $144,173
Re-estimated Reinsurance Recoverables.................................................. 25,775 34,083
-------- --------
123,208 110,090
Reclassification of Amounts Recoverable from Centre Re................................. 42,032 34,269
-------- --------
Net Re-estimated Reserve............................................................... $ 81,176 $ 75,821
======== ========
Net Cumulative Redundancy.............................................................. $ 18,859 $ 29,271
======== ========

<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1995 1996 1997
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Reserve for Unpaid Losses
and Loss Adjustment
Expenses, Gross of
Reinsurance Recoverables
Reserve................. $141,495 $115,529 $201,255
Reserve Re-estimated as
of:
One Year Later.......... 137,242 120,999
Two Years Later......... 145,209
Three Years Later.......
Four Years Later........
Five Years Later........
Six Years Later.........
Seven Years Later.......
Eight Years Later.......
Nine Years Later........
Ten Years Later.........
Cumulative (Deficiency)
Redundancy.............. (3,714) (5,470)
Cumulative Amount of
Reserve Paid through:
One Year Later.......... $ 63,587 $ 69,658
Two Years Later......... 72,946
Three Years Later.......
Four Years Later........
Five Years Later........
Six Years Later.........
Seven Years Later.......
Eight Years Later.......
Nine Years Later........
Ten Years Later.........
Gross Reserve -- December $141,495 $115,529 $201,255
Reinsurance Recoverables.. 27,076 24,986 49,155
-------- -------- --------
114,419 90,543 152,100
Reclassification of Amount (11,696) -- --
-------- -------- --------
Net Reserve -- December 31 $102,723 $ 90,543 $152,100
======== ======== ========
Gross Re-estimated Reserve $145,209 $120,999
Re-estimated Reinsurance R 35,648 35,835
-------- --------
109,561 85,164
Reclassification of Amount 11,696 --
-------- --------
Net Re-estimated Reserve.. $ 97,865 $ 85,164
======== ========
Net Cumulative Redundancy. $ 4,858 $ 5,379
======== ========
</TABLE>

131
<PAGE> 144

The first line of the preceding table depicts the estimated liability for
unpaid claim and claim adjustment expense recorded on the balance sheets of
Superior Pacific at the indicated balance sheet dates. This liability represents
the estimated amount of claim and claim adjustment expense for claims arising
during all years prior to the indicated balance sheet date that are unpaid as of
that balance sheet date, gross of reinsurance recoverables, including losses
that have been incurred but not yet reported. The table also shows the re-
estimated liability as of the end of each succeeding year through the latest
balance sheet date, and the cumulative payments made for such claims, at annual
intervals after the initial indicated balance sheet date. The claim and claim
adjustment expense liability estimates change as more information becomes known
about the frequency and severity of claims for each year. A direct reserve
redundancy or deficiency is displayed for each balance sheet date in the center
of the table when the initial liability estimate is greater (or less) than the
re-estimated liability at the latest balance sheet date. A net-of-reinsurance
redundancy is displayed for each of the years ended December 31, 1993, 1994,
1995, and 1996 at the bottom of the table.

The direct reserve deficiencies associated with the years ended December
31, 1987 and 1988 were due to the lack of claim and claim adjustment expense
history, which prevented management from accurately estimating ultimate claim
costs. The direct deficiencies associated with reserves as of December 31, 1989,
1990, 1991, and 1992 were due to unexpected increases in claim costs resulting
from increased litigation in the California workers' compensation system, an
economic recession in California, and workers' compensation laws that at the
time effectively encouraged workers to file unwarranted psychiatric stress and
fraudulent claims. The direct redundancies associated with the years ended
December 31, 1993 and 1994 occurred as a result of significant reforms in the
California workers' compensation laws that became effective January 1, 1993 and
an improvement in the California economy that were not anticipated when reserves
were established. The direct reserve deficiencies associated with the years
ended December 31, 1995 and 1996 occurred as a result of unexpected increases in
severity affecting claims occurring in 1995 and 1996.

Superior Pacific's experience with direct reserve deficiencies occurring
for the years ended December 31, 1989 through 1992, 1995, and 1996 and direct
redundancies occurring for the years ended December 31, 1993 and 1994 is
consistent with the results experienced by the California workers' compensation
industry during the same time periods. The underlying improvement in claim
frequency and severity during the years ended December 31, 1993 and 1994 that
caused Superior Pacific to develop direct redundant reserves is also consistent
with industry experience. The direct reserve deficiencies occurring for the
years ended December 31, 1995 and 1996 resulted from unexpected increases in
claim severity, consistent with some California workers' compensation insurers'
experience. The net-of-reinsurance redundancies displayed at the bottom of the
table reflect Superior Pacific's per risk excess of loss, quota share, and
aggregate excess of loss reinsurance, the effects of which were to reduce
Superior Pacific's direct redundancies/deficiencies due to the cession to a
reinsurer of a portion of Superior Pacific's favorable development.

Currently, management prepares on a monthly basis a comprehensive analysis
of workers' compensation experience, and the process of estimating claim and
claim adjustment expense liabilities is continually modified to consider
additional information regarding trends in pricing, frequency, and severity.
However, conditions and trends that have historically affected Superior
Pacific's claims may not necessarily be indicative of conditions and trends that
will affect future claims, and it is not appropriate to extrapolate future
reserve redundancies or deficiencies based on the data set forth above.

By frequently reviewing reserves and utilizing sophisticated data
processing systems, management is generally able to detect trends in claim and
claim adjustment expenses and take appropriate actions in a timely manner to
avoid having to increase reserves substantially at a later date. For example,
the Company was one of the first to recognize and quantify the increase in claim
severity appearing in claims with 1995 and subsequent dates of injury.
Recognition of this shift has enabled management to take pro-active steps, an
example of which is its undertaking of the CSMP. See "-- Claim Severity
Management Program."

DISCONTINUED OPERATIONS

Superior Pacific's discontinued operations consist of P&C business that was
discontinued effective September 30, 1993. The discontinued operations
liabilities principally pertain to contractors' general liability

132
<PAGE> 145

policies underwritten during the years 1986 through 1990. There is often a
significant lag between the date of loss of construction-related claims and the
date such claims are reported to Superior Pacific. Superior Pacific believes the
existing provision is sufficient to cover future claims, but there is
significant uncertainty associated with the reporting and severity of
construction claims. Management estimates that discontinued operations will
essentially have "run-off" by the year 2000.

In 1993, the Company recorded a pre-tax charge to income of $4.5 million
for estimated operating losses during the phase-out period. During the second
quarter of 1995, the Company increased by approximately $15.0 million its
reserves for discontinued operations for accident years 1993 and prior and has
not increased them since.

The following table provides a reconciliation of the beginning and ending
claim and claim adjustment expense reserves for discontinued operations for each
of the years in the three-year period ended December 31, 1997, computed in
accordance with GAAP.

RECONCILIATION OF LIABILITY FOR DISCONTINUED OPERATIONS CLAIM AND
CLAIM ADJUSTMENT EXPENSE

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1997 1996 1995
------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Beginning reserve, gross of reinsurance..................... $25,466 $ 40,526 $ 36,410
Less: Reinsurance recoverable on unpaid losses.............. 6,976 9,159 8,777
------- -------- --------
Beginning reserve, net of reinsurance....................... 18,490 31,367 27,633
Provision for net claim and claim adjustment expenses:
For claims occurring in current year...................... -- -- --
For claims occurring in prior years....................... -- -- 15,006
------- -------- --------
Total claim and claim adjustment expenses......... -- -- 15,006
------- -------- --------
Payments for net claim and claim adjustment expense:
For claims occurring in current year...................... -- -- --
For claims occurring in prior years....................... (5,020) (12,877) (11,272)
------- -------- --------
Total claim and claim adjustment expense
payments........................................ (5,020) (12,877) (11,272)
------- -------- --------
Ending reserves, net of reinsurance......................... 13,470 18,490 31,367
Reinsurance recoverable on unpaid losses.................... 5,216 6,976 9,159
------- -------- --------
Ending reserves, gross of reinsurance....................... $18,686 $ 25,466 $ 40,526
======= ======== ========
</TABLE>

133
<PAGE> 146

The following table discloses the development of discontinued operations
direct claim and claim adjustment expense reserves from December 31, 1987
through December 31, 1997.

ANALYSIS OF DISCONTINUED OPERATIONS DIRECT CLAIM AND CLAIM ADJUSTMENT EXPENSE
DEVELOPMENT
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------------------------
1987 1988 1989 1990 1991 1992 1993 1994
-------- -------- -------- -------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Reserve for Direct
Unpaid Claim and Claim
Adjustment Expenses,
Gross of Reinsurance
Recoverables
Reserve............... $ 12,678 $ 25,935 $ 41,088 $ 56,735 $ 65,629 $ 66,532 $ 54,898 $ 36,410
Re-estimated as of:
One Year Later........ 19,879 32,395 56,093 73,295 83,770 73,298 56,041 54,855
Two Years Later....... 25,865 43,160 60,679 89,336 91,453 73,067 75,073 55,622
Three Years Later..... 30,455 43,585 72,860 98,206 90,717 96,531 76,079 60,849
Four Years Later...... 30,134 52,261 82,218 102,538 117,215 92,569 82,026
Five Years Later...... 34,215 61,539 84,304 126,431 113,084 99,009
Six Years Later....... 38,051 63,072 103,326 123,722 119,112
Seven Years Later..... 38,844 77,080 104,428 130,055
Eight Years Later..... 44,129 78,938 108,897
Nine Years Later...... 44,866 80,906
Ten Years Later....... 45,315
Cumulative
(Deficiency).......... (32,637) (54,971) (67,809) (73,320) (53,483) (32,477) (27,128) (24,439)
Cumulative Amount of
Reserve Paid Through
One Year Later........ $ 7,529 $ 13,754 $ 19,839 $ 27,397 $ 29,274 $ 26,473 $ 23,043 $ 14,329
Two Years Later....... 13,146 15,301 26,399 35,278 29,165 23,483 16,203 16,765
Three Years Later..... 15,900 19,844 32,188 39,203 28,136 18,380 19,649 11,857
Four Years Later...... 18,915 23,007 37,758 42,135 23,255 17,777 19,263
Five Years Later...... 22,329 28,609 38,798 41,835 22,047 18,276
Six Years Later....... 26,129 31,715 37,585 42,943 23,104
Seven Years Later..... 27,645 31,247 42,260 42,363
Eight Years Later..... 27,791 37,394 40,796
Nine Years Later...... 27,780 41,325
Ten Years Later....... 29,163
Gross Reserve -- December 31............................................................. $ 54,898 $ 36,410
Reinsurance Recoverables................................................................. (8,379) (8,777)
-------- --------
Net Reserve -- December 31............................................................... $ 46,519 $ 27,633
======== ========
Gross Re-estimated Reserve............................................................... $ 82,026 $ 60,849
Re-estimated Reinsurance Recoverables.................................................... 21,249 18,210
-------- --------
Net Re-estimated Reserve................................................................. $ 60,777 $ 42,639
======== ========
Net Cumulative (Deficiency).............................................................. $(14,258) $(15,006)
======== ========

<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------
1995 1996 1997
-------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C>
Reserve for Direct
Unpaid Claim and Claim
Adjustment Expenses,
Gross of Reinsurance
Recoverables
Reserve............... $ 40,526 $25,466 $18,686
Re-estimated as of:
One Year Later........ 41,293 30,693
Two Years Later....... 46,520
Three Years Later.....
Four Years Later......
Five Years Later......
Six Years Later.......
Seven Years Later.....
Eight Years Later.....
Nine Years Later......
Ten Years Later.......
Cumulative
(Deficiency).......... (5,994) (5,227)
Cumulative Amount of
Reserve Paid Through
One Year Later........ $ 15,827 $10,717
Two Years Later....... 10,717
Three Years Later.....
Four Years Later......
Five Years Later......
Six Years Later.......
Seven Years Later.....
Eight Years Later.....
Nine Years Later......
Ten Years Later.......
Gross Reserve -- Decembe $ 40,526 $25,466 $18,686
Reinsurance Recoverables (9,159) (6,976) (5,216)
-------- ------- -------
Net Reserve -- December $ 31,367 $18,490 $13,470
======== ======= =======
Gross Re-estimated Reser $ 46,520 $30,693
Re-estimated Reinsurance 15,153 12,203
-------- -------
Net Re-estimated Reserve $ 31,367 $18,490
======== =======
Net Cumulative (Deficien $ -- $ --
======== =======
</TABLE>

The first line of the preceding table depicts the estimated liability for
unpaid claim and claim adjustment expense for discontinued operations recorded
for each of the indicated periods. The table follows the form of the table
depicting workers' compensation reserve development in "-- Analysis of Direct
Claim and Claim Adjustment Expense Development," above.

134
<PAGE> 147

From 1987 to 1990, the increase in ultimate claim and claim adjustment
expense for discontinued operations was due to the lack of Company history, as
well as changes in economic and legal environments that prevented management
from reasonably estimating ultimate loss costs. Thereafter, a full actuarial
analysis has been performed semi-annually taking into account the Company's
history of reserve development, industry claim experience, and the effects of
litigation on future loss costs.

The predominant number of the Company's pre-1991 discontinued operations
claims are attributable to construction defect claims associated with commercial
package policies sold to general contractors, developers, and artisan
contractors underwritten from 1986 to 1993. Other carriers writing these same
lines of business have also been negatively affected by the unfavorable increase
in claim frequency and severity that occurred as a result of changes in the
economic and legal environment during this time. At December 31, 1997,
approximately $16.8 million (approximately 90%) of the total $18.7 million of
direct reserves for discontinued operations was attributable to construction
defect claims.

The Company began to monitor separately the effects of construction defect
claims beginning in 1993. Prior to 1993 the effects of construction defect
claims were combined with all other general liability business for reserve
valuation purposes. The frequency, severity, and time lag between the occurrence
and reporting dates of such claims vary significantly from the statistics
associated with all other lines and sublines of the Company's claim and claim
adjustment expense reserves for discontinued operations. Effective June 30,
1995, the Company recorded a pre-tax charge of approximately $15.0 million ($9.8
million net of tax) for discontinued P&C operations due principally to an
increase in management's estimates of IBNR construction defect claims.

The frequency of newly reported construction defect claims increased
significantly in July 1995. Management believes the increase in new construction
defect claims was attributable to the California Supreme Court decision in
Montrose Chemical Corporation v. Admiral Insurance Company ("Montrose") handed
down in July 1995. The Montrose decision effectively broadened the definition of
"loss occurrence" to potentially include an extended period of time beginning
with the construction date and ending perhaps as late as the date of judgment
associated with defective construction. Since July 1995 the Company has received
notices of claims on allegedly defective construction projects where the
manifestation of the loss, the immediate cause of the loss, and the first report
of the loss, all fall outside of the Company's policy terms. Regardless of these
facts, under the California Supreme Court's ruling, the Company believes it is
compelled to defend the "insured" and to contribute appropriately to loss
settlements.

Management cannot predict the volume of future Montrose-related claims, the
cost of handling the claims, or the ultimate severity of loss associated with
such claims, but believes its current reserves are adequate to cover this
increase in claims activity, depending on the length of time the recent
reporting trends continue. There can be no assurance, however, that further
upward development of ultimate loss costs associated with construction defect
claims will not occur.

The Company has also experienced significant development with respect to
loss costs for components of discontinued operations other than construction
defect claims. While these other claims are generally more predictable than
construction defect claims, there can be no assurance that further upward
development of loss costs associated with such claims will not occur.

REINSURANCE

Reinsurance is generally used to reduce the liability on individual risks
and to protect against individual risks or aggregate catastrophic losses.
Superior Pacific follows the industry practice of reinsuring a portion of its
risks. The availability and cost of reinsurance are subject to prevailing market
conditions and may affect Superior Pacific's profitability. Superior Pacific's
reinsurance program is based on the security of the reinsurers, coverage, and
price. Superior Pacific monitors its reinsurers' financial condition carefully
and recoverable losses are pursued aggressively. Occasionally, Superior Pacific
is involved in disputes with reinsurers, which, if not settled, may be resolved
in arbitration. At December 31, 1997, there were no disputes related to the
workers' compensation operations.

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Superior Pacific maintains excess of loss reinsurance contracts with
various reinsurers and a quota-share contract with ZRNA. Under its current
excess of loss contracts (with multiple reinsurers), various reinsurers
collectively assume liability on that portion of each loss that exceeds $500,000
on a per occurrence basis, up to a maximum of $150.0 million per occurrence.

Effective January 1, 1994, SNIC entered into a quota-share reinsurance
contract (the "ZRNA Quota-Share") with ZRNA. Under the ZRNA Quota-Share, ZRNA
may provide Superior Pacific with an Assumption of Liability Endorsement ("ALE")
facility, or, effective January 1, 1997, Superior Pacific may write directly on
policy forms of ZC Insurance Company ("ZCIC"), an affiliate of Zurich (the "ZCIC
Underwriting Agreement"). The ceding rate under the contract was 20% for 1994,
and ZRNA and Superior Pacific mutually agreed to reduce the quota-share
participation to 5% for 1995 and 1996. Further, Superior Pacific received ceding
commissions ranging between 22.5% and 24.5% for premiums ceded to ZRNA under the
1994-1997 contracts. The purpose of the ceding commission is to cover Superior
Pacific's cost of acquiring new business and may be changed as a result of
changes in market conditions on a quarterly basis.

Effective January 1, 1997, the terms of the ZRNA Quota-Share were amended
to increase ZRNA's participation from 5% of premiums written in 1996 to 6.5% in
1997. In exchange for the increased participation, ZRNA no longer received a
separate fee for policies written on ALEs, but received an additional 2% of
premiums written on ZCIC Underwriting Agreement policies only.

Effective January 1, 1998, the terms of the ZRNA Quota-Share again were
amended to increase the ceding commission to 27.5% for non-ZCIC policies and on
ALE premium. The ceding commission on ZCIC policies remained at 20%. Further,
the additional 2% of premium paid to ZCIC for its underwriting was eliminated.

Superior Pacific entered into a contract with Centre Re effective June 30,
1997, under which Centre Re assumed $10.0 million of reserves associated with
claims open for future medical payments from Superior Pacific in consideration
of $1.0 million in cash and assignment of Superior Pacific's rights of
contribution and subrogation recoveries during the term of the contract. The
contract is accounted for as a deposit, and no gain will be recognized until net
cash payments from Centre Re are greater than Superior Pacific's $1.0 million
premium. See "Superior National -- Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources."

Effective February 1, 1998, Superior Pacific entered into the unrelated
Quota-Share Arrangement with United States Life Insurance Company, rated "A+" by
A.M. Best, under which Superior Pacific ceded 100% of premiums and claim and
claim adjustment expenses associated with policies having $100,000 or more of
estimated annual premium. Superior Pacific received a 35.0% ceding commission on
premiums ceded under this contract. Effective May 1, 1998, the Quota-Share
Arrangement was amended so that the ceding level was reduced to $25,000 in
estimated annual premium at inception, and the ceding commission was adjusted to
33.5%. The term of the amended agreement is three years, with two one-year
extensions. As BlG has entered into a substantially identical Quota-Share
Arrangement with the same reinsurer, this contract plays an important role in
the Company's strategy going forward.

Reinsurance makes the assuming reinsurer liable to the insurer to the
extent of the reinsurance ceded, but it generally does not legally discharge an
insurer of its primary liability for the full amount of the policy liability
(except for ALEs). If a reinsurer fails to meet its obligations under a
reinsurance agreement, the ceding company is required to pay the loss. With
respect to policies of Superior Pacific's with an ALE, however, in the event
that Superior Pacific is unable to meet its claim payment obligations, ZRNA
assumes all responsibility for the payment of losses related to the policy. All
of the excess of loss reinsurance is with non-affiliated reinsurers.

Superior Pacific generally enters into its contracts on an annual basis.
Superior Pacific has maintained reinsurance contracts with many reinsurers for a
number of years. In general, Superior Pacific's reinsurance contracts cover
specified underwritten risks. Superior Pacific also from time to time purchases
reinsurance covering specific liabilities or policies underwritten. As of
December 31, 1997, ZRNA and General Reinsurance Corporation ("Gen Re") accounted
for 24.5% and 21.6%, respectively, of total amounts

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recoverable by Superior Pacific from all reinsurers on paid and unpaid claims
and claim adjustment expenses, and were the only reinsurers that accounted for
more than 10% of such amounts.

INVESTMENTS

The amount and types of investments that may be made by the Company are
regulated under the California Insurance Code and the rules and regulations
promulgated by the DOI. The Company's investments are primarily managed
externally, based upon guidelines and strategies approved by management. As of
December 31, 1997, the Company's consolidated portfolio consisted almost
entirely of fixed-income securities. The bond portfolio is heavily weighted
toward short- to intermediate-term, investment-grade securities rated "A" or
better, with approximately 91% rated "AA" or better.

Funds withheld assets having carrying and market values of $114.9 million
and $117.1 million, respectively, at December 31, 1995, were withheld from
Centre Re as collateral under an excess of loss reinsurance contract. These
assets were carried as held to maturity until they were returned to Centre Re in
1996 upon the commutation of the reinsurance contract. All investment income and
market value risk associated with these assets was assumed by Centre Re.
Interest expense in the amount of $6.1 million and $8.8 million was paid to
Centre Re during 1996 and 1995, respectively. In November 1996, the Company
entered into a financing transaction involving Centre Re and Chase pursuant to
which Chase extended a $93.1 million term loan, net of transaction costs. The
Company used proceeds from the transaction to purchase from SNIC reinsurance
receivables due from Centre Re. On June 30, 1997, the Company reached an
agreement under which the Company agreed to transfer reinsurance receivables to
Chase in exchange for the cancellation of the Company's debt to Chase. As a
result of these transactions, the Company's investable assets increased by $93.1
million.

The table below contains information concerning the composition of the
Company's investment portfolio at December 31, 1997:

<TABLE>
<CAPTION>
AS OF
DECEMBER 31, 1997
----------------------
CARRYING MARKET
AMOUNT (1) VALUE
TYPE OF INVESTMENT ---------- --------
(IN THOUSANDS)
<S> <C> <C>
Bonds: (2)
U.S. government and agencies (AAA/Aaa rated).......... $165,273 $165,273
AA/Aa rated........................................... 21,127 21,127
A rated............................................... 12,584 12,584
BBB/Baa rated......................................... 2,150 2,150
BB/Ba rated........................................... 4,080 4,080
-------- --------
Total Bonds................................. 205,214 205,214
Invested cash and short-term investments.............. 35,376 35,376
Common stocks......................................... 1,526 1,526
-------- --------
Total....................................... $242,116 $242,116
======== ========
</TABLE>

- ------------------------------
(1) Carrying amount is amortized cost for bonds held to maturity and short-term
investments. Market value is used for bonds held for sale and common stocks.

(2) S&P defines "AAA" rated securities as "highest rating, extremely strong
security," "AA" rated securities as "very strong security," "A" as "strong
security," "BBB" as "adequate security," and "BB" as "low quality." Moody's
Investor Services, Inc. ("Moody's") defines "Aaa" rated securities as "best
quality," "Aa" as "high quality," "A" as "strong security," "Baa" as
"adequate security," and "Ba" as "low quality."

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The table below reflects investments and interest earned thereon and
average annual yield on investments for each year in the five-year period ended
December 31, 1997.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------
1997 1996 1995 1994 1993
-------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Total investments at end of period...... $242,116 $149,440 $163,951 $174,345 $144,778
Net investment income (before taxes).... $ 12,674 $ 7,769 $ 9,784 $ 9,049 $ 9,550
Average annual yield on ending
investment portfolio (before taxes)... 5.2% 5.2% 5.9% 5.2% 6.6%
</TABLE>

The Company in monitoring its asset and liability match attempts to keep
the investment duration at the mid-point of the payout pattern. As of December
31, 1997, the investments under the Company's management (i.e., excluding funds
withheld) have a duration of 2.9 years.

The table below sets forth the maturity profile of the Company's bond
portfolio at market value as of December 31, 1997:

<TABLE>
<CAPTION>
AS OF DECEMBER 31, 1997
----------------------------------------------------------
BONDS RATED(1)
----------------------------------------------------------
AAA/Aaa AA/Aa A BBB/Baa BB/Ba TOTAL
-------- ------- ------- ------- ------ --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
1 year or less.................... $ 25,086 $ 25,086
More than 1 year, through 3
years........................... 9,038 $ 5,544 14,582
More than 3 years, through 5
years........................... 11,988 $15,120 3,020 30,128
More than 5 years, through 10
years........................... 26,519 6,007 4,020 $2,150 $4,080 42,776
More than 10 years, through 15
years........................... 2,866 2,866
More than 15 years................ 89,776 89,776
-------- ------- ------- ------ ------ --------
Total................... $165,273 $21,127 $12,584 $2,150 $4,080 $205,214
======== ======= ======= ====== ====== ========
</TABLE>

- ------------------------------
(1) S&P defines "AAA" rated securities as "highest rating, extremely strong
security," "AA" rated securities as "very strong security," "A" as "strong
security," "BBB" as "adequate security," and "BB" as "low quality." Moody's
defines "Aaa" rated securities as "best quality," "Aa" as "high quality,"
"A" as "strong security," "Baa" as "adequate security," and "Ba" as "low
quality."

The Company intends to cause BIG to liquidate its investment portfolio
immediately prior to Closing. The bulk of the investable assets obtained as a
result of the Acquisition will be invested in accordance with the Company's
existing investment policies. The Company also intends to purchase a $110.0
million Federal National Mortgage Association security maturing in 2013. Such a
security would have a high investment grade rating, a higher yield coupon than
the Company's portfolio generally, and an approximately ten-year duration.

INFORMATION SERVICES

Superior Pacific emphasizes the development of personal computer based
information and processing systems for use in all areas of its business and to
that end strives to maintain a creative, flexible, and dynamic data processing
capability that (i) enhances the effectiveness of its employees' underwriting,
policy administration, and claims activities, (ii) provides detailed, real-time,
and near real-time information to management for control and administration
purposes, and (iii) provides marketing benefits through improved customer
service. The Company believes that these systems give it a significant
competitive advantage over competitors that lack such systems. Superior Pacific
expensed or capitalized 3.7%, 4.2%, and 3.3% of direct written premium in 1997,
1996, 1995, respectively, for developing and upgrading its systems.

Data Warehouse Decision Support System. In 1993 the Company developed
SWAMI(R), its proprietary "data warehouse decision support" system. Beginning
with the installation of SWAMI(R), Superior Pacific adjusted the Company's
monitor and feedback cycle to no less frequently than weekly, and, in many
respects,

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to a daily basis. Management believes this monitoring and feedback system is
necessary due to the information intensive nature of the insurance business
because lack of information represents a major aspect of underwriting risk.
Accordingly, SWAMI(R) was developed to provide quality, detailed, real-time, and
near real-time information to management as needed to reduce the risk
represented by lack of information. The SWAMI(R) system has been constantly
enhanced since its implementation. Management believes that SWAMI(R) is the
first comprehensive "data warehouse decision support" system developed in the
insurance industry.

Underwriting. The Company's underwriting system is a fully integrated,
computerized, rating, quoting, and policy issuance system for use both
internally and remotely from producers' offices. The system contains edit and
blocking features that prohibit underwriters from issuing policies associated
with business that is deemed inappropriate or undesirable by management, or that
may be inappropriately priced. Detailed information for each producer can be
instantaneously reviewed on an accident year, policy year, or calendar year
basis. The system provides analytical information as to producers, underwriters,
or branch operations, which management uses to take corrective action with
respect to unprofitable producers or ineffective staff. The system permits
management to evaluate commissions, in force business, collections activity, and
product pricing in detail, utilizing information that is no more than 24 hours
old.

Policy Administration. The Company's policy administration, including
premium collection and audit activities, is fully automated. In addition to
traditional "agency" billing services, the Company's collections capabilities
also include direct bill, automatic withdrawals from policyholders' bank
accounts, and credit card billings, which, management believes, dramatically
improve credit experience and policy persistency.

Claims Administration. The core of the claims system is a proprietary
document imaging system that, combined with sophisticated workflow protocols,
improves the productivity of the Company's claims administration.

The Company has comprehensive physical and virtual safeguards for its
information and processing systems. Disaster recovery programs and back-up
procedures include nightly back-up storage of all transactions and changes to
the system's database. At the end of each business day, the Company transfers
this information to tapes that are stored off site. The Company maintains
back-up systems in the branch offices to use if the main system fails. Computer
access is restricted by use of codes and passwords.

The Company does not believe that it will incur any material expenditures
or liabilities as a result of the Year 2000 problem in computer software. See
"Superior National -- Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Year 2000 Strategy."

The Company is developing a strategy to integrate BIG's policy and claims
functions into its system over time. The integration of policy functions would
be the first step, and could occur as new or renewal policies are issued after
the Acquisition. The claims functions of Superior Pacific and BIG would be
separate for some time.

COMPETITION

California is the country's largest workers' compensation insurance market.
Competitive pressures in the California workers' compensation market increased
with the implementation of open rating in January 1995. As a result, total
direct written premium for the California market decreased from $9.0 billion in
1993 to $5.0 billion in 1996, the latest year for which data is available. More
recently, certain fundamentals of the workers' compensation market in California
have improved, as demonstrated by an actual improvement in premium pricing of
0.5% for the year ended December 31, 1997, as compared to the same period in
1996.

The workers' compensation insurance industry in California is extremely
competitive. Many of Superior Pacific's competitors have been in business
longer, have a larger volume of business, offer more diversified types of
insurance coverage, have greater financial resources, and have greater
distribution capabilities than Superior Pacific. Of the approximately 300
companies that report to the WCIRB that they write workers' compensation
insurance, the Company believes that Liberty Mutual Insurance Companies,
CalComp, and American International Group are the largest private sector
underwriters of workers' compensation insurance
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<PAGE> 152

in California. Superior Pacific believes the dominant competitor in the
California workers' compensation industry is the State Fund. As a result of the
Pac Rim Transaction, the Company believes that, excluding the State Fund, it is
the eighth largest California workers' compensation insurer overall, based upon
1996 direct written premium. On a pro forma basis, upon acquiring CalComp in the
Acquisition, as well as the other BIG Insurance Subsidiaries, the Company
believes it will be the largest California workers' compensation insurer
overall, excluding the State Fund.

The workers' compensation market is commodity-oriented, highly fragmented,
and reflective of intense price competition. Nevertheless, because each risk is
unique in terms of insurance exposure, different insurers can develop widely
divergent estimates of prospective losses. Most insurers attempt to segment
classes within markets so that they target the more profitable sub-classes with
lower, although adequate, rates given the estimated profitability of the
segment. In some cases, no statistics are available for the sub-classes
involved, and the insurer implements discounted rate structures based solely on
theoretical judgment. Finally, different insurers have widely divergent internal
expense positions, due to distribution methods, economies of scale, and
efficiency of operations. Therefore, although workers' compensation insurance is
a commodity, the price of insurance does not necessarily reflect commodity
pricing. Superior Pacific's existing and prospective customer bases are
vulnerable to competition, especially from larger insurers that at any time are
capable of penetrating Superior Pacific's markets with products priced at levels
substantially below Superior Pacific's.

RATINGS

Superior Pacific is currently rated "BBB" by S&P, a claims paying rating it
has held since 1995. Insurance companies rated "BBB" are considered by S&P to
offer adequate financial security, but capacity to meet policyholder obligations
is susceptible to adverse economic and underwriting conditions. A.M. Best has
currently assigned a "B+" (Very Good) rating to Superior Pacific, a rating it
has held since 1995. A.M. Best has placed the Company's rating on a watch with
positive implications. A.M. Best's ratings are based upon an evaluation of a
company's: (i) financial strength (leverage/capitalization, capital
structure/holding company, quality, appropriateness of reinsurance program,
adequacy of loss/policy reserves, quality, diversification of assets, and
liquidity); (ii) operating performance (profitability, revenue composition, and
management experience and objectives); and (iii) market profile (market risk,
competitive market position, spread of risk, and event risk). A "B+" rating is
assigned to companies that have on balance, in A.M. Best's opinion, very good
financial strength, operating performance, and market profile when compared to
the standards established by A.M. Best, and have a good ability to meet their
ongoing obligations to policyholders. "B+" is A.M. Best's sixth highest rating
classification out of 15 ratings. A.M. Best's and S&P's ratings represent
independent opinions of a company's financial strength and ability to meet its
obligations to policyholders and are not based upon factors concerning
investors. Such ratings are subject to change and are not recommendations to
buy, sell, or hold securities. One factor in an insurer's ability to compete
effectively is its A.M. Best rating. The Company's A.M. Best rating is lower
than that of many of its competitors. There can be no assurance that such
ratings or future changes therein will not affect the Company's competitive
position.

In addition, the Company currently maintains a facility that allows it to
offer certain policyholders insurance policies written by ZCIC, having an A.M.
Best "A" rating. As a result of the planned sale of BICO to Zurich Centre Group
LLC, and an underwriting arrangement created in connection therewith, the
Company expects to have the ability to offer certain policyholders policies with
Zurich's "A" rating.

REGULATION

Superior National and its insurance subsidiaries are subject to extensive
governmental regulation and supervision. Regulations relate to such matters as
the filing of premium rates and policy forms, adequacy of reserves, types and
quality of investments, minimum capital and surplus requirements, deposits of
securities for the protection of policyholders, statutory financial reporting,
and restrictions on stockholder dividends. Superior National and its insurance
subsidiaries are also subject to periodic examination by the DOI. In addition,
assessments are made against Superior Pacific and other California insurers to
cover liabilities to policyholders of insolvent insurance companies. The
regulation and supervision of insurance companies by state agencies is designed
only for the benefit of policyholders, not stockholders. Superior National
believes
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<PAGE> 153

that it and its Subsidiaries are in material compliance with state regulatory
requirements that are relevant to their respective businesses.

The DOI Triennial Examination of SNIC, which covered the three years ended
December 31, 1994, was completed in 1996 and indicated no material issues or
actions needed to be taken by SNIC in either its operations or financial
statements. SPCC's Triennial Examination, which was completed in 1996, resulted
in an additional $18.5 million of claim and claim adjustment expense reserves
being recorded as of December 31, 1996, and other significant adjustments
totalling $4.1 million in aggregate. An additional $12.0 million in claim and
claim adjustment expense was recorded by SPCC in the first quarter of 1997.
These events preceded SPCC's acquisition on April 11, 1997.

The California Insurance Code requires the DOI to approve any proposed
change of control of the Company. For such purposes, "control" is presumed to
exist if any person, directly or indirectly, owns, controls, holds with the
power to vote, or holds proxies representing more than 10% of the voting
securities of the Company.

The California Insurance Code also limits the amount of dividends or
distributions an insurance subsidiary may pay without DOI approval or
non-disapproval in any 12-month period to the extent it exceeds the greater of
(a) net income from operations for the preceding year or (b) 10% of statutory
policyholders' surplus as of the preceding December 31. Payments of greater
amounts require the approval of the DOI. The maximum dividends permitted under
the California Insurance Code are not necessarily indicative of an insurer's
actual ability to pay dividends or other distributions to a parent company,
which also may be constrained by business and regulatory considerations, such as
the impact of dividends on surplus, that could affect an insurer's competitive
position, the amount of premiums that can be written, and the ability to pay
future dividends. Further, the California Insurance Code requires that the
statutory surplus of an insurance company following any dividend or distribution
by such company be reasonable in relation to its outstanding liabilities and
adequate for its financial needs. Moreover, dividends may only be paid out of
"earned surplus" as defined in the California Insurance Code. New York and
Delaware, the respective domiciles of CCIC and BICO, also limit the amount of
dividends that may be paid by an insurance subsidiary.

In 1989, 1991, 1993, and 1995, various workers' compensation reform laws
that were passed into law by the California legislature materially impacted the
Company's rates, claims experience, financial condition, and results of
operations.

Under the last important measure, adopted in 1993 and declared effective as
of January 1995, California's minimum rate law was replaced by an open rating
system. Under this new rating system, individual insurance companies file rates
and rules not less than 30 days prior to their effective date, and such rates
and rules can only be disapproved by the DOI after a hearing and only on the
basis of solvency, market share, or improper filing. Superior Pacific cannot
predict the ultimate effect of open rating on its workers' compensation
business, but during the first three years of open rating, the intense price
competition that ensued led to lower average premiums per policy. Rates
stabilized in 1996 and appeared to increase slightly during 1997. Superior
Pacific believes the rates it has filed with the DOI are adequate, but it is
unable to predict the degree to which such rates are competitive in the
marketplace.

In 1996, the California legislature implemented a set of workers'
compensation reforms, referred to as Assembly Bill 1913 ("AB 1913"), and the DOI
issued its guidelines with respect to their interpretation. AB 1913 causes,
among other things, the experience modification factor of a current workers'
compensation policy and the immediately preceding two policies regardless of
carrier to be subject to revision if a single claim used in a modification
closes on or after January 1, 1995, for a value of 60% or less of its highest
earlier reported value, if the highest reported incurred value was $10,000 or
more. AB 1913 was amended effective January 1, 1998 by Senate bill 1217 ("SB
1217"). Under the new guidelines of SB 1217, if the aggregate amount of incurred
claims (as opposed to a single claim) changes by the threshold amount, than the
WCIRB will calculate a new experience modification factor. Such a change in the
experience modification factor will require the current workers' compensation
carrier to return a portion of a policyholder's premium for the current and
preceding two policies' periods without regard to whether the current workers'
compensation insurance carrier was the insured's previous carrier. WCIRB
estimates the ultimate cost to California workers'
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compensation underwriters will be less than 2.5% of 1996 premium; however, these
estimates are based upon broad industry estimates and could vary significantly
from company to company based upon the type of claims incurred, size of
employer, and employer industry group.

Proposed federal legislation has been introduced from time to time in
recent years that would provide the federal government with substantial power to
regulate P&C insurers, including state workers' compensation systems, primarily
through the establishment of uniform solvency standards. Proposals also have
been discussed to modify or repeal the antitrust exemption for insurance
companies provided by the McCarran-Ferguson Act. The adoption of such proposals
could have a material adverse impact upon the operations of the Company.

In order to enhance the regulation of insurer solvency, the NAIC has
adopted a formula and model law to implement risk-based capital ("RBC")
requirements for P&C (including workers' compensation) insurance companies
designed to assess minimum capital requirements and to raise the level of
protection that statutory surplus provides for policyholder obligations. The
NAIC model law has been incorporated into the California Insurance Code. The RBC
formula for P&C insurance companies measures four major areas of risk: (i)
underwriting, which encompasses the risk of adverse loss developments and
inadequate pricing, (ii) declines in asset values arising from credit risk,
(iii) declines in asset values arising from investment risks, and (iv)
off-balance sheet risk arising from adverse experience from non-controlled
assets, guarantees for affiliates, contingent liabilities, and reserve and
premium growth. Pursuant to the model law, insurers having less statutory
surplus than that required by the RBC calculation will be subject to varying
degrees of regulatory action, depending on the level of capital inadequacy.

The RBC model law provides for four levels of regulatory action. The extent
of regulatory intervention and action increases as the level of surplus as a
percentage of the RBC amount falls. The first level, the Company Action Level
(as defined by the NAIC), requires an insurer to submit a plan of corrective
actions to the regulator if surplus falls below 200% of the RBC amount. The
Regulatory Action Level (as defined by the NAIC) requires an insurer to submit a
plan containing corrective actions and requires the relevant insurance
commissioner to perform an examination or other analysis and issue a corrective
order if surplus falls below 150% of the RBC amount. The Authorized Control
Level (as defined by the NAIC) gives the relevant insurance commissioner the
option either to take the aforementioned actions or to rehabilitate or liquidate
the insurer if surplus falls below 100% of the RBC amount. The fourth action
level is the Mandatory Control Level (as defined by the NAIC), which requires
the relevant insurance commissioner to rehabilitate or liquidate the insurer if
surplus falls below 70% of the RBC amount. Based on the foregoing formulae, as
of December 31, 1997, the RBC ratios of SNIC and SPCC were in excess of the
Company Action Level, the first trigger level that would require regulatory
action.

The NAIC's Insurance Regulatory Information System ("IRIS") was developed
by a committee of state insurance regulators and is primarily intended to assist
state insurance departments in executing their statutory mandates to oversee the
financial condition of insurance companies operating in their respective states.
IRIS identifies eleven industry ratios and specifies "usual values" for each
ratio. Departure from the usual values on four or more of the ratios may lead to
increased regulatory oversight. Based on its 1997 statutory financial statement,
SNIC was within the usual range of all twelve IRIS tests, and SPCC fell outside
the usual range of three of the twelve IRIS tests. SPCC was outside of the usual
range of the tests measuring change in net writings, two-year overall operating
ratio, and two-year reserve development to surplus. The unusual values were the
result of 1996 claim and claim adjustment expense reserve increases, and the
runoff of SPCC's premium in force during 1997.

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under GAAP; (f) bonds are recorded at amortized cost, regardless of trading
activities; (g) loss and loss adjustment expense reserves and unearned premium
reserves are stated net of reinsurance; and (h) minimum statutory reserves for
losses in excess of the Company's estimates are required.

The NAIC recently approved the codification of SAP with an effective date
of January 1, 2001. Included in the codification is a change in the definition
of prescribed versus permitted policies that insurance companies use to prepare
their statutory financial statements. The Company has not yet determined the
impact of the adoption of the codification project.

It is not possible to predict the future impact of changing state and
federal regulation on the Company's operations and there can be no assurance
that laws and regulations enacted in the future will not be more restrictive
than existing laws.

EMPLOYEES

As of June 1, 1998, the Company had 262 employees, none of whom was covered
by a collective bargaining agreement.

BUSINESS PROPERTIES

The Company's principal executive offices are located in Calabasas,
California and are subject to a lease that expires in 2000. The Company also
leases space for branch offices in Woodland Hills, Pleasanton, Sacramento, and
Fresno (all in California). Such leases expire in 2002, 2003, 2001, and 2000,
respectively. The Company's Phoenix, Arizona office is the subject of a lease
that expires in 2001.

The Company's principal executive office is located at 26601 Agoura Road,
Calabasas, California 91302, and the telephone number is (818) 880-1600.

LEGAL PROCEEDINGS

Superior National and its Subsidiaries are parties to various legal
proceedings, all of which are considered routine and incidental to the business
of the Company and are not material to the financial condition and operation of
the business. Neither Superior National nor any of its Subsidiaries is a party
to any litigation expected to have a material adverse effect upon the Company's
business or financial position.

The Company is subject to class action litigation filed against all
workers' compensation insurers in California, related principally to claims
paying practices. Such litigation is being vigorously contested by the Company.
Although the likelihood of a material adverse result in such matters is regarded
by the defendants as low, there can be no assurance that, should a trial be
held, the class plaintiffs will not receive a substantial award.

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BUSINESS INSURANCE GROUP, INC.

SELECTED COMBINED FINANCIAL DATA

The following selected combined financial data are qualified by reference
to and should be read in conjunction with the combined financial statements and
notes thereto included elsewhere in this document. The selected combined
financial data set forth below as of December 31, 1997 and 1996 and for the
years ended December 31, 1997, 1996, and 1995 have been derived from the audited
financial statements of BIG included in this document. The selected combined
financial data set forth below as of December 31, 1995, 1994, and 1993 and for
the years ended December 31, 1994 and 1993 have been derived from unaudited
combined financial statements of BIG not included in this document. The selected
combined financial data as of and for the three months ended March 31, 1998 and
1997 have been derived from unaudited combined financial statements of BIG, but
include all adjustments, including normally occurring accruals, that BIG
considers necessary for a fair presentation of the results of operations for the
periods presented. The results of operations for the three months ended March
31, 1998 are not necessarily indicative of the results that may be expected for
BIG's fiscal year ending December 31, 1998.

<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
----------------------- --------------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
REVENUES:
Gross premiums written................ $ 153,920 $ 165,617 $ 668,906 $ 641,113 $421,422 $364,466 $332,772
Net premiums written.................. 147,021 135,961 526,925 490,367 397,077 343,006 240,991
Net premiums earned................... 139,612 121,388 515,272 480,828 390,974 340,097 233,341
Net investment income (excluding
capital gains and losses)........... 9,627 9,574 37,548 33,317 24,005 16,146 13,711
Net capital gain (loss)............... 226 -- 7,176 892 1,667 (61) 2,539
Other income, net..................... 166 853 3,512 2,823 248 96 --
---------- ---------- ---------- ---------- -------- -------- --------
Total revenues................. 149,631 131,815 563,508 517,860 416,894 356,278 249,591
EXPENSES:
Claim and claim adjustment expenses,
net of reinsurance.................. 114,286 83,967 443,204 381,897 245,522 218,240 169,828
Underwriting and general and
administrative expenses............. 42,132 32,105 168,187 107,640 114,918 75,364 49,262
Policyholder dividends................ 120 -- 793 (5,250) 5,494 11,176 24,487
Goodwill amortization................. 309 68 1,262 909 256 146 175
Interest expense...................... 2,359 2,128 8,326 4,330 -- -- 946
---------- ---------- ---------- ---------- -------- -------- --------
Total expenses................. 159,206 118,268 621,772 489,526 366,190 304,926 244,698
Income from continuing operations..... (9,575) 13,547 (58,264) 28,334 50,704 51,352 4,893
Income tax benefit (expense).......... 5,394 (2,746) 28,847 (2,934) (12,952) (13,832) 1,461
---------- ---------- ---------- ---------- -------- -------- --------
Net income (loss).............. $ (4,181) $ 10,801 $ (29,417) $ 25,400 $ 37,752 $ 37,520 $ 6,354
========== ========== ========== ========== ======== ======== ========
GAAP RATIOS:
Claim and claim adjustment expense
ratio............................... 81.9% 69.2% 86.0% 79.4% 62.8% 64.2% 72.8%
Expense ratio......................... 30.3% 26.4% 32.8% 21.3% 30.8% 25.4% 31.6%
---------- ---------- ---------- ---------- -------- -------- --------
Continuing operations combined ratios,
net of reinsurance.................. 112.2% 95.6% 118.8% 100.7% 93.6% 89.6% 104.4%
========== ========== ========== ========== ======== ======== ========
FINANCIAL POSITION:
Total cash and investments
Carrying value...................... $ 791,826 $ 764,521 $ 763,171 $ 754,652 $529,515 $419,943 $362,133
Market value........................ 791,986 764,296 763,339 754,745 529,650 419,053 370,437
Total assets.......................... 1,205,022 1,119,383 1,222,406 1,093,773 749,104 627,855 602,023
Long-term debt........................ 121,750 123,750 121,750 128,250 -- -- --
Claim and claim adjustment expense
liability........................... 713,473 611,105 728,421 590,595 443,600 412,666 386,194
Total liabilities..................... 958,001 841,740 970,060 825,881 508,214 479,543 466,139
Net stockholder's equity.............. 247,021 277,643 252,346 267,892 240,890 148,312 135,884
</TABLE>

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BUSINESS INSURANCE GROUP, INC.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis provides information that BIG's
management believes to be relevant for an understanding of BIG's combined
results of operations and financial condition. The discussion should be read in
conjunction with the consolidated financial statements and the notes thereto.

THREE MONTHS ENDED MARCH 31, 1998 AS COMPARED TO THREE MONTHS ENDED MARCH 31,
1997

Gross premiums written for the quarter ended March 31, 1998 and 1997 were
$153.9 million and $165.6 million, respectively. The $11.7 million decline in
gross premiums written was the result of a $15.0 million decline in gross
premiums written in the California marketplace. The premium reduction in the
California marketplace was precipitated by an underwriting and pricing criteria
change implemented effective January 1, 1998. The decrease in gross premiums
written in California was somewhat offset by a $3.3 million increase in gross
premiums written outside of California. Despite BIG's decline in gross premiums
written, its net premiums written increased $11.1 million. The increase in net
premiums written for the quarter ended March 31, 1998 was the result of the
expiration of an aggregate excess of loss reinsurance treaty on January 1, 1998,
and the cancellation of a quota-share reinsurance treaty on July 1, 1997. During
the quarter ended March 31, 1997, $15.0 million of premiums were ceded under the
aggregate excess of loss reinsurance treaty, and $11.3 million of premiums were
ceded under the 7.5% quota-share reinsurance treaty. As neither the aggregate
excess of loss reinsurance treaty or the quota-share reinsurance treaty were in
force during the quarter ended March 31, 1998, no such comparable cession
occurred.

Net claim and claim adjustment expense increased $30.3 million or 36.1% to
$114.3 million for the quarter ended March 31, 1998, as compared to $84.0
million for the same period in 1997. The net claim and claim adjustment expense
ratio increased to 81.9% for the quarter ended March 31, 1998, from 69.2% for
the quarter ended March 31, 1997. The increase in claim and claim adjustment
expenses and expense ratio was primarily due to two factors. The first factor
was the expiration of BIG's aggregate excess of loss reinsurance treaty on
January 1, 1998. During the quarter ended March 31, 1997, BIG ceded $18.6
million of claims and claim adjustment expenses, while no comparable cession
occurred during the quarter ended March 31, 1998. The second factor is the
continued increase in the severity of BIG's California workers' compensation
claims. The increase in the California workers' compensation claim severity is
believed by BIG's management to be caused by two principal factors: first, legal
decisions in late 1996 that permit injured workers to provide greater direction
in their treatments; and second, increased claims and legal costs associated
with a change in the permanent disability rating schedules effective April 1997.

Underwriting and general and administrative expenses, excluding
policyholder dividends, increased $7.6 million or 24.1% to $39.1 million for the
quarter ended March 31, 1998, as compared to the same period in 1997. The
expense increase is attributable to a $3.1 million decrease in ceding
commissions, which offset the expenses, as a result of the July 1, 1997
cancellation of the quota-share reinsurance treaty. The remaining $4.5 million
expense variation is due to increased general and administrative expenses in
order to provide policyholder services related to the 1996 and 1997 premium
growth of BIG's non-California operations and the associated cost of supporting
these operations.

There were no material policyholder dividends recorded in either period.

Net investment income was relatively unchanged between the first quarter of
1998 and the first quarter of 1997. Although BIG experienced an increase in
average assets available for investment from the first quarter of 1997 to the
first quarter of 1998, the increase in investments held was offset by an overall
decline in bond yields.

Interest expense increased $0.2 million between the first quarter of 1998
and the first quarter of 1997 on reduced average principal balance. The
reduction in principal was offset during the first quarter of 1998 by a higher
interest rate charged BIG by FHC on its credit facility (the "FHC Credit
Facility"). FHC increased BIG's interest rate to 7.75% from 6.75% in 1997,
effective January 1, 1998.
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<PAGE> 158

YEAR ENDED DECEMBER 31, 1997 AS COMPARED TO YEAR ENDED DECEMBER 31, 1996

Gross premiums written for the years ended December 31, 1997 and 1996 were
$668.9 million and $641.1 million, respectively. This increase in gross premiums
written represents an increase of $27.8 million or 4.3% for the 1997 calendar
year as compared to the 1996 calendar year. Gross premiums written relating to
states other than California increased $42.2 million or 28.8% to $188.5 million
in 1997, as BIG experienced premium growth through BICO's nationwide operations.
Offsetting this increase was a decline of $14.4 million, or 2.9% of premiums
written in California. The 2.9% decrease reflects the continued price
competition in the California workers' compensation insurance marketplace since
the advent of open rating in January 1995. Net premiums written increased $36.5
million or 7.4% to $526.9 million for the year ended December 31, 1997, as
compared to the year ended December 31, 1996. The increase in net premiums
reflects the increase in gross premiums and a decrease in the quota-share ceding
percentage from 30% for the second six months of 1996 to 7.5% for the first six
months of 1997. The decrease in the quota-share ceding percentage resulted in
$68.3 million in additional net premiums. Partially offsetting these increases
is a reinsurance charge of $93.5 million related to an aggregate excess of loss
treaty purchased by BIG in 1997. Net premiums earned increased $34.5 million or
7.2% to $515.3 million for the year ended December 31, 1997, as compared to the
year ended December 31, 1996.

Net claim and claim adjustment expenses increased $61.3 million or 16.1% to
$443.2 million for the year ended December 31, 1997, as compared to $381.9
million for the year ended December 31, 1996. This increase is primarily
attributable to the increase in the claim and claim adjustment expense ratio to
86.0% in 1997 as compared to 79.4% in 1996. The 1997 increase is primarily due
to an increase in the estimates for accident year 1996 and prior loss and loss
adjustment expenses incurred, which estimates were increased by $75.2 million in
1997. The cause of the increase in the accident year 1996 and prior estimates
was in part due, BIG's management believes, to a 1996 court ruling that gave the
treating physician expanded authority in determining the level of disability of
the injured worker. The impact of this court ruling is believed to be the
primary cause of increased claim severity. In addition, changes to the
California permanent disability rating schedules in April 1997 adversely
affected average claim severity in California, thereby contributing to the
higher 1997 accident year claim and claim adjustment cost expense ratio compared
to 1996.

Underwriting and general and administrative expenses, excluding
policyholder dividends, increased $60.6 million or 56.3% to $168.2 million for
the year ended December 31, 1997, as compared to the same period in 1996. The
underwriting expense ratio was 32.6% in calendar year 1997 as compared to 22.4%
in 1996. The expense increase is attributable to a $33.5 million decrease in
ceding commissions as a result of the reduced quota-share reinsurance ceding
percentage in 1997, and approximately $20 million of the expense increase
resulted from the growth in BIG's non-California operations as BIG fully
developed its expense infrastructure during 1997 to support the higher in force
premium levels for policies issued during 1995 and 1996.

Policyholder dividends increased to $0.8 million for the year ended
December 31, 1997, as compared to a credit to expense of $5.2 million for the
same period in 1996. The increase primarily resulted from BIG's issuing
participating workers' compensation insurance policies in a limited number of
states where dividends play an important role in the marketing of policies, and
BIG's reduction of its California policyholder dividend liability by $6.0
million in 1996.

Net investment income increased $4.2 million or 12.6% to $37.5 million for
the year ended December 31, 1997, as compared to 1996. BIG's average invested
assets increased to $758.9 million in 1997 from $642.1 million in 1996. The
investment income increase was due to higher investable assets as BIG borrowed
$130.0 million in mid-1996 under the FHC Credit Facility and contributed $120.0
million of the proceeds to the statutory policyholders' surplus of CalComp and
BICO.

Net capital gains increased $6.3 million to $7.2 million for the year ended
December 31, 1997, from $0.9 million for 1996. The increase is due to BIG's
decision to take advantage of decreases in long-term interest rates throughout
1997 and increases in the market value of its bond portfolio. BIG sold $350.9
million of available-for-sale bonds in 1997, primarily during the fourth quarter
of 1997, realizing investment gains of $7.2 million.
146
<PAGE> 159

Interest expense increased 92.3% to $8.3 million for the year ended
December 31, 1997, as compared to the year ended December 31, 1996. The higher
interest expense is primarily due to incurring a full year of interest expense
on funds borrowed in mid-1996 from the FHC Credit Facility.

YEAR ENDED DECEMBER 31, 1996 AS COMPARED TO YEAR ENDED DECEMBER 31, 1995

Gross premiums written increased $219.7 million or 52.1% to $641.1 million
in 1996 from 1995. In California, BIG's premiums increased $102.2 million or
26.0% to $494.7 million. Additionally, in 1996, BIG experienced very strong
growth in its non-California operations. BIG's non-California gross premiums
written increased $117.5 million to $146.4 million. This level of growth was
consistent with BIG's change in its strategic plan regarding geographic
diversification. Net premium written increased $93.3 million or 23.5% to $490.4
million, reflecting the increase in gross premium written, partially off-set by
an increase in premium ceded to reinsurers. The increase in premium ceded was
the result of BIG entering into a 30% quota-share treaty effective July 1, 1996.
Net premium earned increased $89.8 million or 23.0% to $480.8 million in 1996
from 1995. The change in net premium earned is consistent with the changes
affecting net premium written.

Net claim and claim adjustment expenses increased $136.4 million or 55.6%
to $381.9 million in 1996 from $245.5 million for the year ended December 31,
1995. The increase in claim and claim adjustment expenses occurred primarily due
to BIG's growth in gross premium written and a $20.1 reserve strengthening
recorded in 1996 for accident year 1995. However, BIG recorded a $26.9 million
decrease in claim and claim adjustment expense in 1995 for accident years 1994
and prior.

Underwriting and general and administrative expenses, excluding
policyholder dividends, decreased $7.3 million or 6.4% to $107.6 million in 1996
as compared to $114.9 million in 1995. The underwriting expense ratio decreased
to 22.4% in calendar year 1996 as compared to 29.4% in 1995. The lower
underwriting and general and administrative expenses was due to ceding
commissions of $28.7 million recorded in 1996 under the quota-share reinsurance
treaty effective July 1, 1996. The other reason for the lower expense ratio was
due to an increase in gross premiums earned in states outside California, as BIG
did not have its operating infrastructure fully in place until 1997 to support
the higher premium volume of non-California policies issued in 1995 and 1996.

Policyholder dividend expense decreased $10.7 million for the year ended
1996 as compared to the same period in 1995. This decrease is due primarily to
the fact that in California prior to open rating, policyholder dividends served
both as an economic incentive to employers for safe operations and as a means of
price differentiation. As a result of consumers' preference for the lowest price
at a policy's inception under open rating, dividends are no longer a significant
factor. Therefore, BIG discontinued its payment of dividends in the state of
California and reduced its outstanding policyholder dividend liability by $6.0
million in 1996.

Net investment income increased $9.3 million or 38.8% to $33.3 million for
the year ended December 31, 1996 as compared to 1995. BIG's average invested
assets increased to $642.1 million in 1996 from $474.7 million in 1995. The
increased investment income in 1996 is due to higher invested assets produced
from net cash flows from operations during the year of $104.8 million and funds
borrowed under the FHC Credit Facility in May and August of 1996, totalling a
net amount of $128.2 million.

LIQUIDITY AND CAPITAL RESOURCES

BIG's cash inflows are generated from cash collected from policies sold,
investment income generated from its exiting portfolio, and sales and maturities
of investments. BIG's cash outflows consist primarily of payments for
policyholders' claims, operating expenses, and debt service. For its insurance
operations, BIG must have available cash and liquid assets to meet obligations
to policyholders and claimants in accordance with contractual obligations in
addition to meeting ordinary operating costs. Absent adverse material changes in
the workers' compensation insurance market, management believes BIG's present
cash resources are sufficient to meet its needs for the foreseeable future. BIG
believes that it has adequate short-term investments and readily marketable
investment-grade securities to cover both claim payments and expenses.

147
<PAGE> 160

During the year ended December 31, 1997, operating activities provided the
Company with $7.9 million of cash versus $104.8 million for the year ended
December 31, 1996. The decrease in cash generation is due primarily to
reinsurance payments of $93.5 million under an aggregate excess of loss
reinsurance treaty that commenced on January 1, 1997. At December 31, 1997, BIG
had total cash and cash equivalents of $98.1 million in an investable asset
portfolio of $763.2 million. Of the fixed income portfolio, 76.9% was rated "AA"
or better and 95.7% was rated "A" or better.

BIG generated $65.7 million in cash from investing activities during the
year ended December 31, 1997, as compared to a use of cash of $237.2 million in
1996. The Company's cash and cash equivalents position increased in 1997 as a
result of the sales of bonds available for sale as BIG repositioned its
portfolio during the fourth quarter to take advantage of a decline in long-term
interest rates.

BIG used $1.3 million in financing activities in 1997 with the repayment of
$6.5 million of debt to FHS and the excess of book value over net asset acquired
related to the purchase of Christania General Insurance Corporation (renamed
Commercial Compensation Insurance Company), offset by a $10.8 million dividend
received from BIG's non-insurance subsidiaries. The non-insurance subsidiaries
are not part of the Acquisition transaction with Superior National and will
remain subsidiaries of FHS.

BIG is party to several leases principally associated with BIG's home and
regional office space. Such leases contain provisions for scheduled lease
charges and escalations in base rent over the lease term. BIG's minimum lease
commitment with respect to these leases in 1998 is $8.9 million. These leases
expire between 1998 and 2005.

The effect of inflation on the revenues and net income of BIG during the
years ended December 31, 1997, 1996, and 1995 was not significant.

PRIMARY DIFFERENCES BETWEEN GAAP AND SAP

The financial statements contained herein for BIG have been prepared in
conformity with GAAP as opposed to SAP prescribed or permitted for insurance
companies by regulatory authorities. For a discussion of the differences between
GAAP and SAP, see "Superior National -- Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Primary Differences Between
GAAP and SAP."

YEAR 2000 STRATEGY

A significant percentage of the software that runs most of the computers in
the United States and the rest of the world relies on two-digit date codes to
perform computations and decision making functions. For insurance policies with
an expiration date of January 1, 2000 or later, these computer programs may fail
from an inability to interpret date codes properly, misinterpreting "00" as the
year 1900 rather than 2000. BIG is currently upgrading its computer software to
address the Year 2000 problem, which it believes will be completed by August
1998, prior to issuing policies with a Year 2000 expiration date. Upon the
completion of such upgrade, BIG believes that its computer systems will be fully
Year 2000 compliant; there can be no assurance, however, that BIG will complete
the computer upgrade before issuing policies with a Year 2000 expiration date or
that such upgrade will successfully prevent any Year 2000 problems from
occurring. BIG does not expect the cost associated with its Year 2000 project to
be material. See "Certain Considerations -- Year 2000 Compliance."

148
<PAGE> 161

SUPPLEMENTARY DATA

Summarized quarterly financial data for 1998, 1997, and 1996 is as follows:

<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
--------- -------- --------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
1998
Earned premiums................................. $139,612 $ -- $ -- $ --
Income before income taxes, preferred securities
dividends and accretion and extraordinary
items......................................... $ (9,575) $ -- $ -- $ --
Net income (loss)............................... $ (4,181) $ -- $ -- $ --
1997
Earned premiums................................. $121,388 $124,894 $127,084 $141,906
Income before income taxes, preferred securities
dividends and accretion and extraordinary
items......................................... $ 13,547 $ 5,017 $ 10,571 $(87,399)
Net income (loss)............................... $ 10,801 $ 4,934 $ 8,919 $(54,071)
1996
Earned premiums................................. $126,212 $140,288 $109,475 $104,853
Income before income taxes, preferred securities
dividends and accretion and extraordinary
items......................................... $ 19,718 $ 21,859 $ 23,251 $(36,494)
Net income (loss)............................... $ 13,830 $ 15,877 $ 17,344 $(21,651)
</TABLE>

NEW ACCOUNTING STANDARDS

The FASB has recently adopted a number of new standards. The impact of
these new standards did not have a material effect on BIG's results. BIG has not
yet determined the impact of SFAS 130. For a discussion of the new standards,
see "Superior National -- Management's Discussion and Analysis of Financial
Condition and Results of Operations -- New Accounting Standards."

149
<PAGE> 162

BUSINESS INSURANCE GROUP, INC.

BUSINESS

OVERVIEW

BIG, a wholly owned indirect subsidiary of FHS, is an insurance holding
company that writes workers' compensation and group health insurance,
principally in California, with regional and branch operations throughout the
continental United States. BIG has four insurance subsidiaries: CalComp, BICO,
CBIC, and CCIC. Some members of BIG's current senior management team established
BIG, formerly Business Insurance Corporation, in 1987, and in 1988 purchased
CalComp from Hanover Insurance Company ("Hanover"). BIG was subsequently
acquired in 1993 by FHC. Based on available data on 1997 direct written premium,
BIG ranks as the largest private sector writer of workers' compensation
insurance in California.

BIG currently conducts its insurance operations through its four wholly
owned subsidiaries. CalComp, a specialty workers' compensation carrier writing
business primarily in California, is the largest of these and is licensed in 12
states. BICO, acquired in February 1995, is licensed in 49 states and the
District of Columbia and writes workers' compensation insurance primarily in
states other than California. CBIC was acquired in January 1995 and writes
single source workers' compensation and employee group health insurance in
California. CCIC is licensed in 40 states and was acquired in May 1997 to create
a broader range of products and pricing plans.

Of the $647.4 million of BIG's direct written premium in 1997, $465.0
million was written in California; $20.4 million, $19.4 million, $18.9 million,
$16.9 million, and $13.4 million in direct premium was written in Georgia,
Texas, Louisiana, Colorado, and Oregon, respectively; and the remaining 14.4% of
direct premium was written in other states. The premium outside of California
primarily was written through BICO.

MARKETING

BIG has developed an extensive nationwide presence through 16 regional
offices and 21 branch offices, with eight regional offices and two branch
offices in California. BIG has historically expanded into a new region by
establishing a branch office with a few employees specializing in marketing,
underwriting, and loss control. As the branch office grew and there were
demonstrated needs for further infrastructure to support growth, resources were
added and certain branches became regional offices. Regional offices have
additional local management and support the growth of additional branch offices.
BIG's expanding presence outside of California is indicated by the growth in
direct written premium outside of California from $27.1 million in 1995 to
$182.4 million in 1997. As of June 1, 1998, BIG employed a staff of
approximately 270 outside California.

BIG markets its products through a distribution network of approximately
1,700 producers. Of these, over 1,300 are located in California, and
approximately 400 are outside California.

BIG markets its policies through major national brokers as well as through
small- to medium-sized producers focusing on regional customers. The top ten
producers accounted for 18.5% of direct written premium in fiscal 1997, and the
top 50 producers accounted for 42.9%. Of the top 50 producers for BIG in
California and Arizona, 8 are also among the top 50 producers for Superior
National.

BIG enters into brokerage contracts with producers as opposed to agency
relationships. Certain states require that all appointments be made through an
agency contract. No agent in these states has the ability to bind BIG to issue
policies, and the same basic contract that is used for brokerage appointments is
also used for agency appointments. BIG also has relationships with certain other
producers ("Program Administrators") that have the ability to bind BIG to issue
coverage to a customer based on its program administration agreement with BIG.
These agreements call for override commissions to be paid to the Program
Administrators and most of the Program Administrators' agreements provide for
direct premium billing to policyholders. These agreements may be cancelled by
BIG if the Program Administrator violates the terms of the agreement with no
recourse whatsoever. All new and renewal policyholder applications (other than
those handled under a program administration agreement) must be submitted to BIG
for approval. BIG is not committed to accept a
150
<PAGE> 163

fixed portion of any producer's business, but must accept all policies written
consistent with the underwriting and pricing templates of the program
administration agreements. BIG also has in force a variety of override,
contingency, and profit-sharing commission agreements with certain of its
producers in order to encourage a certain level of pricing and profitability.

CalComp focuses on the California workers' compensation market. The
regional offices and BIG's national account marketing group focus on accounts
with estimated annual premiums ("EAP") over $25,000. Overall, BIG's average
policy size of $16,165 generated $562.3 million in EAP as of December 31, 1997.
Within California, the average policy size of $15,708 generated $404.6 million
in EAP, and outside of California the average policy size was $17,471 and
generated an EAP of $157.7 million. Policies with over $25,000 in EAP at
inception as of March 31, 1998 accounted for 73.7% of BIG's combined EAP.

Producer commissions are generally determined by negotiation and are
dependent on the size and profit potential of the producer's accounts. BIG's
average direct commission rate was 9.5% for the year ended December 31, 1997,
11.0% for the year ended December 31, 1996, and 14.0% for the year ended
December 31, 1995. The reduction in the average direct commission rate from 1995
to 1996 was due to policies issued with an expiration date after January 1,
1995, in which higher commissions were paid to brokers in an effort to increase
market share to position themselves for the start of open rating on January 1,
1995. The reduction from 1996 to 1997 was due to an increase in BIG's national
business, which has a lower commission rate than California, lowering the
average direct commission rate.

UNDERWRITING

BIG's workers' compensation underwriting is conducted almost entirely
through regional and branch offices nationwide. As a policy matter, BIG does not
write policies in employment classifications that represent historically higher
risk exposure, particularly those risks in the classifications generally
considered specialized workers' compensation insurance.

For new and renewal policies effective on or after January 1, 1998, BIG
filed a rate increase in California. In March 1998, BIG management implemented a
program to increase rates on policies with unacceptable hazard grade and loss
ratio combinations. In the first and the second quarters of 1998, BIG
experienced a substantial reduction in premium due to the non-renewal of these
accounts. Reduction in premium related in part to changes in pricing.
Additionally, a reduction by A.M. Best of BIG's rating and the uncertainty
related to the sale of BIG by FHS contributed to the loss of business in 1998.
See " -- Ratings." Following the execution of the Acquisition Agreement, BIG
modified the March 1998 pricing program to be more competitive and to stem the
loss of premium. BIG also implemented the Quota-Share Arrangement effective May
1, 1998.

BIG offers a number of alternative pricing plans for its customers,
including retrospectively rated policies, deductible plans, contingent surcharge
plans, and, only outside of California, dividend plans for customers.
Retrospective rating results in a return of premium to customers if certain loss
criteria are achieved. Deductible plans offer customers lower premiums in
exchange for the customers' participating in the first layer of losses.
Contingent surcharge plans add additional premium at specified dates after
expiration of the policy if the account exceeds an expected loss ratio. The
surcharge premium is subject to return if the loss ratio is reduced in future
periods.

In many states, workers' compensation insurers issue participating
policies, which allow the insurer to declare and pay dividends to a policyholder
after expiration of the policy. Although policyholder dividends are no longer an
important component of the workers' compensation insurance marketplace in
California, they remain a significant tool for BIG to obtain and retain business
outside of California. In 1997, BIG paid $1.2 million in policyholder dividends,
and participating policies represented 2.1% of BIG's workers' compensation
policies overall, 8.2% outside of California. Policyholder dividends may be
computed as a flat rebate to the policyholder upon achievement of certain loss
ratios or expense factors, or, more commonly, reflect an amount that is not
guaranteed but is determined based on the insurer's view of a number of related
factors including loss ratio, the class of business, geographic location and
premium payment history of the

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policyholder, risk and expense factors, competition in the marketplace, and the
overall financial condition of the insurer.

LOSS CONTROL

BIG has a loss control department that seeks to control claims before they
occur, and loss control has formed a key component of BIG's business strategy.
BIG has specialized employer and employee safety management schools that are
unique in the industry. In addition, BIG utilizes comprehensive reports to track
loss control results and key factors in reducing claims. The loss control unit
had approximately 100 employees at June 1, 1998. BIG requires that every
regional and branch office be staffed with a loss control specialist from the
time it is established. The employer safety management school involves
approximately 28 employees, and all but two of these specialists are based in
California.

CLAIM MANAGEMENT

BIG's claims department is organized on the basis of claim supervisory
units consisting of four to six claims examiners, each responsible for 150 - 170
claims; one claims assistant for each claims examiner; one file clerk for each
supervisory unit; and one data entry clerk/processor for each supervisory unit.
A vocational rehabilitation specialist is utilized in each unit to evaluate
vocational rehabilitation plans and attend formal and informal rehabilitation
planning conferences. Claims examiners are responsible for vocational
rehabilitation plan approval and statutory filings. Each claims unit also
employs a specialist to handle settlement negotiations. BIG's claims handling
policy includes contacting the injured worker within 24 hours of notification of
the injury, obtaining a recorded statement during the initial claimant contact,
and maintaining monthly contact while the injured worker is receiving total
disability payments. BIG uses third party administrators for the handling of
claims and loss control services that are associated with captive programs,
representing approximately 5% of BIG's EAP as of December 31, 1997.

Since 1992, BIG has maintained a Special Investigations Unit ("SIU") to
handle potentially fraudulent claims. The group consists of former law
enforcement officers and medical and claims experts, and provides training to
employees and customers in areas of fraud recognition, trends, and legal
updates. Through 1997, the SIU was responsible for 241 referrals to insurance
departments and district attorneys, 80 criminal cases filed, 23 arrests, and 14
convictions.

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CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES

BIG's claim and claim adjustment expense reserves are established in a
manner similar to Superior National's. See "Superior National -- Business" and
"Certain Considerations -- Uncertainty Associated with Estimating Reserves for
Unpaid Claim and Claim Adjustment Expense."

The following table provides a reconciliation of the beginning and ending
claim and claim adjustment expense reserves of BIG for each of the years in the
three-year period ended December 31, 1997, computed in accordance with GAAP.

RECONCILIATION OF LIABILITY FOR CLAIM AND CLAIM ADJUSTMENT EXPENSE

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------
1997 1996 1995
--------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C>
Beginning reserve, gross of reinsurance................. $ 590,595 $ 443,600 $ 412,666
Less: Reinsurance recoverable on unpaid losses.......... (121,170) (76,154) (90,326)
--------- --------- ---------
Beginning reserve, net of reinsurance................... 469,425 367,446 322,340
Provision for net claim and claim adjustment expenses:
For claims occurring in current year.................. 367,971 361,750 272,388
For claims occurring in prior years................... 75,233 20,147 (26,866)
--------- --------- ---------
Total claim and claim adjustment expenses............. 443,204 381,897 245,522
--------- --------- ---------
Payments for net claim and claim adjustment expense:
Attributable to insured events incurred in current
year............................................... (135,202) (106,757) (71,899)
Attributable to insured events incurred in prior
years.............................................. (255,877) (173,161) (128,517)
--------- --------- ---------
Total claim and claim adjustment expense payments..... (391,079) (279,918) (200,416)
--------- --------- ---------
Ending reserves, net of reinsurance..................... 521,550 469,425 367,446
Reinsurance recoverable on unpaid losses................ 206,871 121,170 76,154
--------- --------- ---------
Ending reserves, gross of reinsurance................... $ 728,421 $ 590,595 $ 443,600
========= ========= =========
</TABLE>

In 1997, claim and claim adjustment expenses incurred in prior years
increased by $75.2 million due primarily to unfavorable development of the 1996
and 1995 accident years. The cause of the increase in the accident year 1996 and
prior estimates was in part due, BIG's management believes, to a 1996 court
ruling that gave the treating physician expanded authority in determining the
level of disability of the injured worker. The impact of this court ruling is
believed to be the primary cause of increased claim severity. In addition,
changes to the California permanent disability rating schedules in April 1997
adversely affected average claim severity in California, thereby contributing to
the higher 1997 accident claim and claim adjustment cost expense ratio compared
to 1996.

In 1996, BIG experienced adverse loss development related to accident year
1995. The increases for prior accident year claim and claim adjustment expense
reserves is primarily attributable to increases in BIG's average claim severity.
On a per claim basis, the average gross case loss reserve for the 1995 accident
year increased 55.2% from 1995 to 1996, and the average gross case loss paid for
the 1995 accident year increased 37.8% from 1995 to 1996.

In 1995, BIG experienced favorable loss development on net claim and claim
adjustment expense reserves estimated on December 31, 1994. The decrease in
prior accident year claim and claim adjustment expense reserves is primarily
attributable to reductions in the estimates for the 1993 and 1994 accident
years. The favorable impact of the reforms passed by the California State
Legislature in 1993 related to fraudulent claims, as well as the impact from
BIG's continued use of managed care techniques, including network utilization
and medical case management, also contributed to the reduction in the prior year
loss estimates.

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The following table discloses the development of net workers' compensation
claim and claim adjustment expense reserves of BIG from December 31, 1987
through December 31, 1997.

ANALYSIS OF NET CLAIM AND CLAIM ADJUSTMENT EXPENSE DEVELOPMENT
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------------------
1987 1988 1989 1990 1991 1992 1993 1994
------- ------- ------- -------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Liability for unpaid
losses and loss
adjustment expenses.... $53,170 $55,089 $76,296 $158,268 $206,993 $219,464 $268,191 $322,394
Paid (cumulative) as of:
One year later......... 14,186 11,649 20,541 59,110 103,361 106,693 115,189 129,284
Two years later........ 21,998 20,780 36,151 106,334 167,932 191,397 184,304 204,245
Three years later...... 27,849 28,389 44,665 130,826 211,087 233,537 214,676 243,210
Four years later....... 33,527 31,492 50,240 146,186 233,168 249,012 226,187
Five years later....... 35,630 34,015 53,896 154,514 241,693 252,921
Six years later........ 37,448 35,975 56,301 161,152 244,308
Seven years later...... 39,121 37,374 58,577 164,606
Eight years later...... 40,346 38,970 59,858
Nine years later....... 41,854 39,780
Ten years later........ 42,637
Liability re-estimated as
of:
One year later......... 53,321 51,147 75,988 160,141 218,747 251,012 262,032 295,856
Two years later........ 51,382 51,991 65,376 162,040 242,231 257,134 256,132 270,293
Three years later...... 54,349 43,651 61,098 172,981 242,533 262,582 250,238 296,016
Four years later....... 47,241 41,513 66,135 172,269 245,877 268,031 254,791
Five years later....... 46,116 44,701 66,174 173,581 249,220 270,478
Six years later........ 47,011 45,364 66,569 174,892 257,332
Seven years later...... 47,928 45,452 66,963 175,053
Eight years later...... 47,883 45,541 67,786
Nine years later....... 47,839 46,906
Ten years later........ 49,371
Redundancy
(deficiency)........... $ 3,799 $ 8,183 $ 8,510 $(16,785) $(50,339) $(51,014) $ 13,400 $ 26,378
Net reserve -- end of
period.......................................................................................... $322,394
Reinsurance recoverable on
unpaid losses and loss
adjustment expenses............................................................................. 90,366
--------
Gross reserve -- end of
period.......................................................................................... $412,760
========
Net re-estimated reserve --
end of period................................................................................... $296,016
Re-estimated reinsurance
recoverable..................................................................................... 91,848
--------
Gross re-estimated
reserve -- end of period........................................................................ 387,864
--------
Gross cumulative redundancy
(deficiency).................................................................................... $24,896
========

<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1995 1996 1997
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Liability for unpaid
losses and loss
adjustment expenses.... $367,061 $469,258 $521,550
Paid (cumulative) as of:
One year later......... 173,161 255,856
Two years later........ 288,885
Three years later......
Four years later.......
Five years later.......
Six years later........
Seven years later......
Eight years later......
Nine years later.......
Ten years later........
Liability re-estimated as
of:
One year later......... 387,426 544,491
Two years later........ 410,082
Three years later......
Four years later.......
Five years later.......
Six years later........
Seven years later......
Eight years later......
Nine years later.......
Ten years later........
Redundancy
(deficiency)........... $(43,021) $(75,233)
Net reserve -- end of
period................. $367,061 $469,258 $521,550
Reinsurance recoverable o
unpaid losses and loss
adjustment expenses.... 76,309 121,326 206,871
-------- -------- --------
Gross reserve -- end of
period................. $443,370 $590,584 $728,421
======== ======== ========
Net re-estimated reserve
end of period.......... $410,082 $544,679
Re-estimated reinsurance
recoverable............ 83,202 134,668
-------- --------
Gross re-estimated
reserve -- end of perio 493,284 679,347
-------- --------
Gross cumulative redundan
(deficiency)........... $(49,914) $(88,763)
======== ========
</TABLE>

The first line of the preceding table depicts the estimated liability for
unpaid claim and claim adjustment expense recorded on the balance sheets of BIG
at the indicated balance sheet dates. This liability represents the estimated
amount of claim and claim adjustment expense for claims arising during all years
prior to the indicated balance sheet date that are unpaid as of that balance
sheet date, net of reinsurance recoverables, including losses that have been
incurred but not yet reported. The table also shows the re-estimated liability
as of the end of each succeeding year through the latest balance sheet date, and
the cumulative payments made for such claims, at annual intervals after the
initial indicated balance sheet date. The claim and claim adjustment expense
liability estimates change as more information becomes known about the frequency
and severity of claims for each year. A net reserve redundancy or deficiency is
displayed for each balance sheet date in the center of the table when the
initial liability estimate is greater (or less) than the re-estimated liability
at the latest balance sheet date. A gross-of-reinsurance redundancy (deficiency)
is displayed for each of the years ended December 31, 1994, 1995, and 1996 at
the bottom of the table.

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<PAGE> 167

The net reserve deficiencies associated with the years ended December 31,
1987, 1988, and 1989 were due to CalComp's reassessment of the outstanding
reserve liability of all open claims at December 31, 1988, after BIG acquired
CalComp from Hanover in December, 1988. The net deficiencies associated with
reserves as of December 31, 1990, 1991, and 1992 were due to unexpected
increases in claims costs resulting from increased litigation in the California
workers' compensation system, an economic recession in California, and workers'
compensation laws that at the time effectively encouraged workers to file
unwarranted psychiatric stress and fraudulent claims. The net redundancies
associated with the years ended December 31, 1993 and 1994 occurred as a result
of significant reforms in the California workers' compensation laws that became
effective January 1, 1993 and an improvement in the California economy that were
not anticipated when reserves were established. The net reserve deficiencies
associated with the years ended December 31, 1995 and 1996 occurred as a result
of unexpected increases in severity affecting claims occurring in 1995 and 1996.

BIG's experience with net reserve deficiencies occurring for the years
ended December 31, 1990 through 1992, 1995, and 1996 and net redundancies
occurring for the years ended December 31, 1993 and 1994 is believed by BIG to
be consistent with the results experienced by the California workers'
compensation industry during the same time periods. The underlying improvement
in claims frequency and severity during the years ended December 31, 1993 and
1994 that caused BIG to develop net redundant reserves is also consistent with
industry experience. The net reserve deficiencies occurring for the years ended
December 31, 1995 and 1996 resulted from unexpected increases in claims
severity, consistent, BIG believes, with some California workers' compensation
insurers' experience. The direct net-of-reinsurance redundancies displayed at
the bottom of the table reflect BIG's per risk excess of loss, quota-share, and
aggregate excess of loss reinsurance, the effects of which were to reduce BIG's
net redundancies/deficiencies due to the cession of a portion of BIG's
development.

Currently, BIG's management prepares on a monthly basis a comprehensive
analysis of workers' compensation experience, and the process of estimating
claim and claim adjustment expense liabilities is continually modified to
consider additional information regarding trends in pricing, frequency, and
severity. Further, conditions and trends that have historically affected BIG's
claims may not necessarily be indicative of conditions and trends that will
affect future claims, and it is not appropriate to extrapolate future reserve
redundancies or deficiencies based on the data set forth above.

By frequently reviewing reserves, management is generally able to detect
trends in claim and claim adjustment expenses and take appropriate actions in a
timely manner to avoid having to increase reserves substantially at a later
date. See "Certain Considerations -- Uncertainty Associated with Estimating
Reserves for Unpaid Claim and Claim Adjustment Expense."

REINSURANCE

Under reinsurance agreements, BIG reinsures certain workers' compensation
risks with other insurance companies. Reinsurance contracts do not relieve BIG
from its obligations to policyholders, and failure of reinsurers to honor their
obligations could result in losses to BIG. See "Certain
Considerations -- Importance of Reinsurance." BIG has regularly evaluated the
financial condition of its reinsurers. Based on that evaluation, BIG's
management believes the reinsurers are creditworthy and that any potential
losses on these agreements will not have a material impact on the consolidated
financial statements. At December 31, 1997, there were no disputes related to
BIG's reinsurance agreements.

BIG has a treaty with Gen Re providing for an aggregate unsecured
recoverable for losses, paid and unpaid, including incurred but not reported
loss adjustment expense, and unearned premiums in excess of 3% of the Company's
surplus at December 31, 1996, of $122.2 million, and December 31, 1997, of
$194.5 million.

BIG maintains specific excess of loss reinsurance on workers' compensation
policies, which provides coverage in excess of $1,000,000 per occurrence for
accident years 1996 through 1998, in excess of $500,000 per occurrence for
accident years 1994 and 1995, in excess of $350,000 per occurrence for accident
years 1992 and 1993, and in excess of $250,000 per occurrence for accident years
1989 through 1991. The agreements provide coverage up to a maximum of $200
million per occurrence, including BIG's retention.

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<PAGE> 168

In addition, BIG also purchased several pro rata reinsurance agreements
wherein the reinsurer assumed a proportional amount of net premiums earned and
related losses. The quota-share percentage ranged from 5% to 40% (5% at June 30,
1994). As of July 1, 1994 the quota-share agreement was terminated, and this
treaty was commuted in 1997. Effective July 1, 1996, BIG entered into a 30%
quota-share treaty to cede a proportional amount of net premiums earned and
related loss and loss adjustment expenses incurred. The 30% ceding rate is
applicable from July 1, 1996 to December 31, 1996. Effective January 1, 1997,
the quota-share reinsurance ceding rate was reduced to 7.5% through June 30,
1997. The quota-share treaty contains a provisional ceding commission, which
adjusts based on actual reported loss experience on the subject business. BIG
stopped ceding under the quota share treaty effective July 1, 1997.

BIG entered into an aggregate excess of loss reinsurance agreement ("First
Aggregate Treaty") with Gen Re effective January 1, 1997. Under the terms of the
First Aggregate Treaty, $32.0 million of premiums were ceded to Gen Re and $37.3
million of losses and allocated loss adjustment expenses were ceded to Gen Re.
Effective July 1, 1997 a second six-month Aggregate Treaty was entered into with
Gen Re ("Second Aggregate Treaty"). Under the terms of the Second Aggregate
Treaty, $61.5 million of premiums were ceded to Gen Re and $75.0 million of
losses and allocated loss adjustment expenses were ceded to Gen Re. The First
and the Second Aggregate Treaties are expected to be commuted at or prior to the
Closing.

Effective May 1, 1998, BIG entered into two additional reinsurance
agreements. One is an excess of loss reinsurance arrangement whereby losses in
excess of $500,000, per occurrence, are ceded. The other is a Quota-Share
Arrangement identical to Superior Pacific's whereby all policies with estimated
annual premium at inception of $25,000 or more are ceded to the reinsurer. See
"Superior National -- Business -- Reinsurance."

In connection with the Acquisition, FHC will fulfill the Loss Reserves
Guarantee by causing BIG to obtain a binding commitment for an aggregate excess
of loss reinsurance agreement with a third-party reinsurer. The agreement will
provide $150.0 million of adverse loss development indemnification on BIG's
December 31, 1997 claim and claim adjustment expense reserves. In addition, FHC
will cause BIG further to obtain a binding commitment for a second aggregate
excess of loss reinsurance agreement providing $25.0 million of adverse loss
development indemnification for claims and claim adjustment expense incurred
through the Closing.

COMBINED CARE BENEFITS

BIG, through CBIC in California and through BICO in Utah, markets a program
of "24-hour care," providing the insureds' employees with workers' compensation
and group health benefits. The intent of the program is to provide the insured
with "one-stop shopping," so that the same medical provider who handles illness
off the job can treat workplace injuries as well. Additionally, the insureds
obtain centralized claims service on both health and workers' compensation
benefits. The combined care benefits product generated $7.5 million in premium
in 1997, or 1.2% of BIG's overall direct written premium.

INVESTMENTS

After the close of the Acquisition, BIG's invested cash will be invested in
a manner consistent with Superior Pacific's investment guidelines described in
"Superior National -- Business -- Investments."

The amount and types of investments that may be made by BIG are regulated
under the California Insurance Code and rules and regulations promulgated by the
DOI, and are similarly regulated by the States of Delaware and New York. As of
December 31, 1997, approximately 98% of BIG's investment portfolio was held in
fixed income securities, of which 93% are rated "A" or better and 89% are
invested in municipal securities. BIG maintains a minimum rating requirement of
"BBB." As of December 31, 1997, the average duration of BIG's portfolio was 3.88
years, the market value of the portfolio was $625.4 million, and its book value
was $617.7 million.

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<PAGE> 169

INFORMATION SERVICES

BIG uses a proprietary policy and claims administration system that was
developed in 1990. The system issues multistate policies for most
non-monopolistic states. Policies are issued, billed, endorsed, and final
audited through the system. Agency and direct billing are also supported by the
system. All functions except for premium audit and credit and collections are
decentralized through the system and may be carried out in any office that has
proper authorization. The claims system enforces benefit limits and vocational
rehabilitation benefits, and automatically places claims on diaries and produces
required notices. BIG is currently upgrading its computer software to address
the Year 2000 problem, which BIG believes will be completed by August 1998,
prior to issuing policies with a Year 2000 expiration date. Upon the completion
of such upgrade, BIG believes that its computer systems will be 100% Year 2000
compliant; there can be no assurance, however, that BIG will complete the
computer upgrade before issuing policies with a Year 2000 expiration date or
that such upgrade will successfully prevent any Year 2000 problems from
occurring. See "Business Insurance Group, Inc. -- Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Year 2000
Strategy."

BIG operates a client/server wide area network ("WAN") in a Windows
environment. This system shares a similar technical background with the
Company's, which will make a conversion to the Company's computer system easier
than if BIG utilized a mainframe system.

COMPETITION

Within California, BIG and Superior National compete for the same accounts
and face similar issues. See "Superior National -- Business -- Competition."

Nationally, several of the largest and best known multi-line insurance
carriers seek to obtain accounts for their workers' compensation arms in direct
competition with BIG. These carriers include Liberty Mutual, American
International Group and the Travelers Group. Many competing carriers have higher
A.M. Best ratings, enhancing their competitive position. Thus, BIG competes with
better capitalized and higher rated insurance concerns to write workers'
compensation insurance for the nation's largest industrial and service
companies. Additionally, many large companies self-insure for workers'
compensation where permitted by local regulations.

The workers' compensation market is commodity-oriented, highly fragmented,
and reflective of intense price competition. Nevertheless, because each risk is
unique in terms of insurance exposure, different insurers can develop widely
divergent estimates of prospective losses. Most insurers attempt to segment
classes within markets so that they target the more profitable sub-classes with
lower, although adequate, rates given the estimated profitability of the
segment. In some cases, no statistics are available for the sub-classes
involved, and the insurer implements discounted rate structures based solely on
theoretical judgment. Finally, different insurers have widely divergent internal
expense positions, due to distribution methods, economies of scale, and
efficiency of operations. Therefore, although workers' compensation insurance is
a commodity, the price of insurance does not necessarily reflect commodity
pricing. BIG's existing and prospective customer bases are vulnerable to
competition, especially from larger insurers that at any time are capable of
penetrating BIG's markets with products priced at levels substantially below
BIG's.

RATINGS

A.M. Best has currently assigned a "B++" (Very Good) rating to BIG, a
rating it was assigned in February 1998. The "B++" rating marks a downgrade from
the "A-" (Excellent) rating BIG had held from 1993 through 1998. The following
factors were relevant in A.M. Best's decision to downgrade the rating: BIG's
projected 1997 underwriting loss and reduced capital position following the
announcement that it would increase its loss reserves in response to adverse
loss development on its most recent accident years, the continued uncertainty
related to the pricing environment in BIG's core California market, BIG's
aggressive premium growth over the past few years, the potential for further
adverse loss development impacting future earnings, the capital position of BIG,
and the uncertainty regarding BIG's future ownership. In February 1998, the
"B++" rating was placed under review by A.M. Best with negative implications. In
May 1998, however,
157
<PAGE> 170

following announcement of the Acquisition, A.M. Best stated BIG's "B++" rating
was under review with developing (a change from negative) implications.

A.M. Best's ratings are based upon an evaluation of an insurer's: (i)
financial strength (leverage/ capitalization, capital structure/holding company,
quality, appropriateness of reinsurance program, adequacy of loss/ policy
reserves, quality, diversification of assets, and liquidity); (ii) operating
performance (profitability, revenue composition, and management experience and
objectives); and (iii) market profile (market risk, competitive market position,
spread of risk, and event risk) subject to confirmation of A.M. Best procedure.
A rating of "B++" from A.M. Best is considered by A.M. Best to be a "secure
rating." BIG is currently rated "BBB" by S&P, a claims paying rating it has held
since 1995. Such ratings are subject to change and are not recommendations to
buy, sell, or hold securities.

One factor in an insurer's ability to compete effectively is its A.M. Best
rating because some customers and insurance brokers require certain ratings as a
prerequisite for writing business with an insurance company. The reduction of
BIG's A.M. Best rating in February 1998 may have had an adverse effect on BIG's
competitive position in the nationwide workers' compensation insurance market.

A.M. Best often follows a practice of assigning an equal rating to all
insurers within an affiliated group of companies. If this practice is followed
with respect to Superior National's insurance subsidiaries after the
Acquisition, there can be no assurance that Superior Pacific's "B+" A.M. Best
rating will not be assigned to the BIG Insurance Subsidiaries. Such a rating
would reflect a further downgrade of BIG's rating and would likely have a
material adverse effect on Superior National's competitive position and results
of operations.

REGULATION

BIG and its insurance subsidiaries, like Superior National and its
insurance subsidiaries, are subject to extensive governmental regulation and
supervision. See "Superior National -- Business -- Regulation." Moreover,
outside of California, workers' compensation insurers may be required to
participate in assigned risk plans that provide coverage to individuals or
entities unable to obtain coverage from existing insurers in those states. The
net profit or loss incurred in administration of these plans is allocated back
to participant insurers based on each insurer's relative market share in each
state. In addition to DOI regulation, BICO is subject to regulation by the
Delaware Department of Insurance, and CCIC is subject to regulation by the New
York Department of Insurance.

California law also limits the ability of the BIG Insurance Subsidiaries to
pay stockholder dividends to BIG. See "Superior
National -- Business -- Regulation." Based upon restrictions presently in
effect, the maximum amount available for payment of dividends by the BIG
Insurance Subsidiaries during 1998 without prior regulatory approval is
approximately $21.3 million. In ordinary circumstances, following a change in
control BIG's subsidiaries would have a two-year moratorium on payment of
dividends. Superior National expects to obtain a waiver of such restrictions.

The NAIC's RBC formulae are also applied to BIG's subsidiaries. See
"Superior National -- Business -- Regulation." As of December 31, 1997, all of
the BIG Insurance Subsidiaries engaged in continuing operations that exceed all
RBC levels requiring any regulatory intervention.

Like Superior National, based on its 1997 statutory financial statement,
CBIC was within the usual range of eleven of the twelve IRIS tests, CalComp and
CCIC were within the usual range of nine of the twelve IRIS tests, and BICO was
within the usual range of six of the twelve IRIS tests. CBIC was outside the
range of the one-year reserve development to surplus test. CalComp was outside
of the usual range of the tests measuring two-year overall operating ratio,
one-year reserve development to surplus, and two-year reserve development to
surplus. CCIC was outside the usual range of tests measuring change in net
writings, two-year overall operating ratio, and investment yield. BICO was
outside of the usual range of the tests measuring net premiums to surplus,
change in net writings, two-year overall operating ratio, change in surplus,
agents' balances to surplus, and one-year reserve development to surplus.

As a result of the statutory financial results filed by BICO for the year
ended December 31, 1997, and BICO's only passing six of the twelve IRIS tests
for 1997, insurance regulators in certain states in which
158
<PAGE> 171

BICO is licensed have requested an explanation for the 1997 financial results as
filed. Two states, Minnesota and North Carolina, accounting for $662,000 in
direct written premium in 1997 (representing 0.1% of BIG's total direct written
premium), summarily restricted BICO's issuance of new workers' compensation
policies based on BICO's reported financial results. In responding to the
various regulatory authorities, BICO has replied by stating that the reason for
the reduced 1997 income and policyholders' surplus result was due to BICO's
increased percentage of the BIG intercompany pooling reinsurance agreement
effective January 1, 1997. In 1996, BICO's reinsurance pooling percentage was
15%. In 1997, the percentage was increased to 25%. On a consolidated basis, BIG
reported an increase to its estimate for the 1996 accident year loss and loss
adjustment expenses by $53.2 million in its 1997 financial statements. BICO's
proportionate share of this adverse prior accident year development increased
BICO's 1997 calendar year loss before income taxes by $5.3 million. In addition,
the higher percentage of the 1997 accident year results accounted for another
$2.1 million of losses, for a total of $7.4 million on a pre-tax basis. BICO's
response to regulators also disclosed: the May 5, 1998 announcement of the sale
of BIG and its four insurance subsidiaries from FHC to Superior, and the Loss
Reserves Guarantee in favor of Superior National in the amount of $175.0
million, obtained at FHC's cost through the purchase of reinsurance (See
"-- Reinsurance"). In addition, effective May 1, 1998, BIG entered into two new
reinsurance treaties: the first is a specific excess of loss agreement for
losses between $0.5 million and $1.0 million, per occurrence; and the second is
the Quota-Share Arrangement whereby BIG will cede 100% of the gross premiums
earned on accounts with an estimated annual premium at inception greater than
$25,000, and 100% of the net losses and allocated loss adjustment expenses
incurred on those associated policies for claims with an accident date of May 1,
1998 and subsequent. BIG will also recognize a 33.5% ceded commission of
premiums ceded under this agreement. Pursuant to the Acquisition Agreement, BIG
and Superior National are jointly discussing these financial and regulatory
issues with regulators. Additionally, Zurich Centre Group LLC has agreed to
purchase BICO from Superior National after the Closing.

The California DOI Triennial Examination for CalComp, which covered the
five years ended December 31, 1995, was completed in 1997. As of December 31,
1995, CalComp reported policyholders' surplus of $151.6 million. Based on the
Triennial Examination, the DOI reported CalComp's statutory surplus at $103.7
million, a difference of $47.9 million from the surplus reported by CalComp. The
entire difference between CalComp's reported surplus and the surplus balance per
the DOI exam was included and accounted for in CalComp's statutory financial
statements for the year ended December 31, 1996. Of the $47.9 million
difference, $10.0 million was due to the non-admission of a promissory note due
CalComp from FHC, $27.2 million was due to an increase to CalComp's claim and
claim adjustment expenses, including $6.8 million related to the statutory
excess liability, and $10.7 million was due to other miscellaneous adjustments.
During 1996, CalComp made the necessary adjustments to its internal control
structures and its policies and procedures to address the issues raised by the
DOI in connection with the Triennial Examination. Triennial Examinations as of
December 31, 1995 were also completed for BICO and CBIC by the Delaware
Department of Insurance and DOI, respectively. BICO's reported surplus at
December 31, 1995 of $7.2 million was reduced by $0.7 million by Delaware to
$6.5 million. The BICO surplus adjustment was primarily related to a federal
income tax recoverable of $0.5 million deemed to be non-admitted for statutory
accounting purposes. The DOI made no surplus adjustments to CBIC's reported
statutory policyholder surplus balance of $7.4 million at December 31, 1995.

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<PAGE> 172

MANAGEMENT

As of the date hereof, the management of BIG is as follows:

<TABLE>
<CAPTION>
YEAR
JOINED
NAME AGE TITLE BIG
---- --- ----- -----------
<S> <C> <C> <C>
Maurice A. Costa............... 50 Chairman, President and Chief Executive 1988
Officer
Robert P. White................ 51 Senior Vice President-Field Operations 1988
Dana P. Brown.................. 53 Senior Vice President-Chief Information 1988
Officer
Jacqueline Andersen-McAuley.... 41 Senior Vice President-Underwriting 1997
Paul W. Souza.................. 38 Vice President-Finance and Treasurer 1995
Gregory L. Johnson............. 50 Vice President-Marketing 1988
Robert A. Kamrath.............. 53 Vice President-Administration 1996
Deborah Day, M.D., MPH......... 45 Medical Director 1997
Trecia M. Nienow, Esq. ........ 37 Corporate Counsel and Secretary 1997
</TABLE>

Maurice A. Costa was a founder of the company that acquired CalComp from
Hanover in December 1988. He has been Chairman, President, and Chief Executive
Officer since November 1993, and has directed the operations of BIG since 1988.
Mr. Costa has more than 29 years of insurance industry experience having worked
for Industrial Indemnity Company from 1969 to 1988 in various claims,
underwriting, and management positions, including Division Manager from 1983 to
1988.

Robert P. White was a founder of the company that acquired CalComp from
Hanover in December 1988. He has been Senior Vice President -- Field Operations
since 1993 and, since 1988, has held various management positions with BIG
including Southern California Division Manager and Division Manager of Special
Programs, and was responsible for the expansion into states outside of
California. He has more than 24 years of insurance industry marketing and
underwriting experience, having worked for Industrial Indemnity Company from
1977 to 1988, including as Division Manager from 1980 to 1988 and prior to that
with Royal Globe Insurance Company and Insurance Company of North America.

Dana P. Brown was a founder of the company that acquired CalComp from
Hanover in December 1988. Mr. Brown has 21 years of insurance industry
information services and data processing experience having held similar
positions at Employee Benefits Insurance Company from 1976 to 1982. Following
the acquisition by the predecessor to FHS, Mr. Brown became Senior Vice
President of Information Technology for FHC in 1994 and subsequently returned to
BIG in his current position in 1996. Mr. Brown has a Doctorate in Physics from
the University of California.

Jacqueline Andersen-McAuley joined BIG as Senior Vice
President -- Underwriting in July 1997, having most recently held the position
of Executive Vice President -- Workers' Compensation at Golden Eagle Insurance
Company, where she was employed from 1991 to 1997 and was responsible for
workers' compensation underwriting, loss control, and claims operations. Ms.
McAuley has more than 19 years of insurance industry experience in claims and
marketing with Guarantee National Insurance Company, Occidental Fire and
Casualty Insurance Company, National Farmers Union Insurance Company, and State
Farm Insurance Company. She also owned and operated a fire and casualty
insurance brokerage firm in California and Wyoming from 1985 to 1991.

Paul W. Souza has been Vice President -- Finance and Treasurer since 1995
and had been previously employed as a Vice President and Controller from 1989 to
1991. Mr. Souza has 16 years of insurance accounting, finance, and premium
accounting/collection experience, having worked for Fireman's Fund Insurance
Company and Beaver Insurance Company. Mr. Souza was employed by Pac Rim, where
he was Vice President and Treasurer, from 1991 to 1995.

Gregory L. Johnson has been employed by BIG since 1988 in various positions
including Regional Manager and Northern California Division Manager prior to
assuming the position of Vice President -- Marketing in 1995. Mr. Johnson has
more than 23 years of insurance industry experience, having worked for

160
<PAGE> 173

Industrial Indemnity Company from 1970 to 1973 and 1985 to 1988, which included
a Marketing Manager position. Mr. Johnson has held marketing positions with
Employee Benefits Insurance Company, Mission Insurance Company, and Insurance
Company of the West.

Robert A. Kamrath joined BIG in 1996 as Vice President -- Administration.
Mr. Kamrath served in the U.S. Navy for 30 years in various command positions
including Captain of Submarines and Surface Ships. He also held the position of
Chief of Staff of the Naval Base of Charleston, South Carolina, where he
provided management oversight to a combined military and civilian workforce of
20,000. Prior to joining BIG, he worked for Tracor Applied Services as a
Director. Mr. Kamrath has a M.S. in Systems Engineering from George Mason and a
M.S. in Management from the Naval Post Graduate School.

Deborah Day, M.D., MPH joined BIG in 1997 as Medical Director. Dr. Day has
over 13 years of experience in Occupational and Environmental Medicine as a
Clinician and as Medical Director for the UCLA self-insured workers'
compensation program from 1988 to 1992, where she was responsible for developing
treatment protocols and return-to-work programs. Prior to joining BIG, Dr. Day
was employed by Zenith National Insurance Company as Medical Director from 1992
to 1997, including a role in the management and development of their Single
Point product. Dr. Day is a member of the American College of Physicians and the
American College of Occupational and Environmental Medicine.

Trecia M. Nienow, Esq. joined BIG as Corporate Counsel and Secretary in
1997 from FHS, where she had been employed in the corporate tax and law
departments since 1992. Since the Company's acquisition by FHS's predecessor in
1993, Ms. Nienow has provided compliance, licensing, and general corporate legal
support to BIG. Ms. Nienow is licensed by the State Bar of California and holds
a Master of Laws in Taxation.

EMPLOYEES

As of June 1, 1998, BIG had approximately 1,225 employees, none of whom was
covered by a collective bargaining agreement.

BUSINESS PROPERTIES

BIG's principal executive offices are located in Rancho Cordova, California
and are subject to a lease that expires in 2005. All of the facilities housing
BIG's 37 branch and regional offices in 42 states are leased, with lease
expiration dates ranging from 1998 to 2005. Nine of these facilities lease space
from FHS or its affiliates, and at nine facilities, Superior National has agreed
to provide FHS or its affiliates with subleases after the Closing.

The address for BIG's principal executive office is 11171 Sun Center Drive,
Rancho Cordova, California 95670, and the telephone number is (916) 853-7540.

LEGAL PROCEEDINGS

BIG and its subsidiaries are parties to various legal proceedings, all of
which are considered routine and incidental to the business of BIG and are not
material to the financial condition and operation of the business. Neither BIG
nor any of its subsidiaries is a party to any litigation expected to have a
material adverse effect upon BIG's business and financial position.

BIG, like Superior National, is subject to class action litigation filed
against all workers' compensation insurers in California, related principally to
claims paying practices. Such litigation is being vigorously contested by BIG.
Although the likelihood of a material adverse result in such matters is regarded
by the defendants as low, there can be no assurance that, should a trial be
held, the class plaintiffs will not receive a substantial award.

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<PAGE> 174

OTHER BUSINESS

The Company is not aware of any other business to be presented at the
Annual Meeting. All shares represented by Company proxies will be voted in favor
of the proposals of the Company described herein unless otherwise indicated on
the form of proxy. If any other matters properly come before the meeting,
Company proxy holders will vote thereon according to their best judgment.

SUBMISSION OF STOCKHOLDER PROPOSALS

Any stockholder who wishes to present a proposal for action at the 1999
annual meeting and who wishes to have it set forth in the corresponding proxy
statement and identified in the corresponding form of proxy prepared by
management must notify the Company no later than December 15, 1998 in such form
as required under the rules and regulations promulgated by the Commission.

Nominees for the Board of Directors of the Company are required to be made
in advance of the annual meeting. Nominations are governed by the bylaws of the
Company. A copy of the bylaws may be obtained by writing the Senior Vice
President, General Counsel and Secretary of the Company, Robert E. Nagle, at the
Company's principal office.

ANNUAL REPORT TO STOCKHOLDERS

A copy of the 1998 Annual Report to Stockholders is available from the
Company. The Company has also filed with the Commission its Annual Report on
Form 10-K for the fiscal year ended December 31, 1997. Each Report contains
information concerning the Company and its operations. A COPY OF EITHER REPORT
WILL BE FURNISHED TO STOCKHOLDERS WITHOUT CHARGE UPON REQUEST IN WRITING TO:
Robert E. Nagle, Senior Vice President, General Counsel and Secretary, at the
offices of the Company, 26601 Agoura Road, Calabasas, California 91302. Such
reports are not a part of the Company's soliciting material.

PROXIES AND SOLICITATION

Proxies for the Annual Meeting are being solicited by mail directly and
through brokerage and banking institutions. The Company will pay all expenses in
connection with the solicitation of proxies. In addition to the use of the
mails, proxies may be solicited by directors, officers and regular employees of
the Company personally or by telephone. The Company has also retained
to assist in the solicitation of proxies. The Company may
reimburse brokers and other persons holding stock in their names, or in the
names of nominees, for their expenses in sending proxy materials to principals
and obtaining their proxies. The fees of are expected to be
in a range of $5,000 - $10,000.

All stockholders are urged to complete, sign and promptly return the
enclosed proxy card.

By Order of the Board of Directors

ROBERT E. NAGLE
Secretary
, 1998
Calabasas, California

162
<PAGE> 175

GLOSSARY

DEFINED TERMS AND SELECTED INSURANCE TERMS

Acquisition................... The acquisition of BIG and its insurance
subsidiaries by the Company pursuant to the
Acquisition Agreement.

Acquisition Agreement......... The Purchase Agreement dated as of May 5, 1998
between the Company and FHC.

Admitted assets............... Assets recognized and accepted by state
insurance regulatory authorities for their
purposes in determining the financial condition
of an insurance company.

ALE........................... Assumption of Liability Endorsement

A.M. Best..................... A.M. Best Company, Inc.

Annual Meeting................ The meeting of the Company's stockholders to be
held on , 1998 at 10:00 a.m., Pacific
Time, at the Company's principal executive
offices at 26601 Agoura Road, Calabasas,
California 91302, and any adjournment or
postponement thereof.

Associate..................... A person or entity that controls, is under
common control with, or is controlled by
another person, and all individuals who are
officers, directors, or control persons of any
of such entities. IP's Associates include
CentreLine, Centre Re, III, and IIA.

BICO.......................... Business Insurance Company, a wholly owned
insurance subsidiary of BIG.

BIG........................... The insurance operations of Business Insurance
Group, Inc., a Delaware corporation, and, where
the context indicates, its wholly owned
insurance subsidiaries.

BIG Insurance Subsidiaries.... BICO, CalComp, CCIC, and CBIC.

Bishop Estate................. Estate of Bernice P. Bishop, a limited partner
of III.

Board or Board of Directors... Board of directors of the Company.

CalComp....................... California Compensation Insurance Company, a
wholly owned insurance subsidiary of BIG.

CBIC.......................... Combined Benefits Insurance Company, a wholly
owned
subsidiary of BIG.

CCIC.......................... Commercial Compensation Insurance Company, a
wholly owned insurance subsidiary of BIG.

Centre Re..................... Centre Reinsurance Limited.

CentreLine.................... CentreLine Reinsurance Limited, a Bermuda
corporation.

CentreLine Warrant............ A warrant exercisable to purchase 579,356
shares of Common Stock at $5.20 per share that
was issued in connection with a $20.0 million
investment in the Company (and its affiliate,
Superior National Capital, L.P.) by CentreLine
and a second Centre Re affiliate, Centre
Reinsurance Services (Bermuda) III Limited.

Chase......................... The Chase Manhattan Bank.

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<PAGE> 176

Claim and claim adjustment
expenses...................... The estimated ultimate cost of claims, whether
reported or unreported, charged against
earnings when claims occur, including the
estimated expenses of settling claims (claim
adjustment expenses).

Closing....................... Consummation of the Acquisition, the Equity
Financings, and the Senior Notes Offering,
which are conditioned on each other and are to
occur simultaneously.

Closing Date.................. Date on which the Closing occurs.

Code.......................... Internal Revenue Code of 1986, as amended.

Combined ratio................ The sum of the expense ratio, the loss ratio,
and the policyholder dividend ratio. A combined
ratio under 100% generally indicates an
underwriting profit, and a combined ratio over
100% generally indicates an underwriting loss.

Commission.................... Securities and Exchange Commission (also
referred to as the "SEC").

Commitment Fee Warrants....... Warrants to purchase 734,000 shares of Common
Stock at $16.75 per share that will be issued
to IP and an affiliate of Zurich as payment for
the Standby Commitment

Common Stock.................. Common Stock of the Company.

Company....................... Superior National Insurance Group, Inc., a
Delaware corporation and its subsidiaries (also
referred to as "Superior National").

CSMP.......................... Claim Severity Management Program.

Direct written premium........ Gross amount of premiums applicable to policies
written during an accounting period, without
regard to the accounting period in which the
insurance coverage is provided.

DOI........................... California Department of Insurance.

EBITDA........................ Earnings before interest, taxes, minority
interest, depreciation, and amortization.

Employee Participation........ The offering of non-transferable Rights to
holders of options and grants of Restricted
Stock as part of the Stock Offering.

Employee Participation
Agreement..................... Agreement between the Company and each employee
and consultant electing to receive Rights under
the Employee Participation that contains
restrictions on transferability of such Rights.

Equity Financings............. The Stock Offering, the IP Stock Issuance, and
the Standby Commitment.

Exchange Act.................. Securities Exchange Act of 1934, as amended.

Expense ratio................. The ratio of underwriting expenses to net
premiums earned.

Expiration Date............... The expiration date of the Rights Offering,
expected to be thirty days after commencement.

FASB.......................... Financial Accounting Standards Board.

FHC........................... Foundation Health Corporation, a Delaware
corporation, a subsidiary of FHS and the
immediate parent of BIG.

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<PAGE> 177

FHS........................... Foundation Health Systems, Inc., the insurance
holding company that is the ultimate parent of
BIG.

GAAP.......................... Generally accepted accounting principles.

Gen Re........................ General Reinsurance Corporation.

IBNR.......................... A reserve for incurred but not yet reported
claims.

IIA........................... International Insurance Advisors, Inc., a New
York corporation, investment advisors to III.

III........................... International Insurance Investors, L.P., a
Bermuda limited partnership.

IP............................ IP Bermuda, IP Delaware, and IP II,
collectively.

IP Bermuda.................... Insurance Partners Offshore (Bermuda), L.P., a
Bermuda limited partnership.

IP Delaware................... Insurance Partners, L.P., a Delaware limited
partnership.

IP II......................... Insurance Partners II, L.P., a Delaware limited
partnership, and/or Insurance Partners II
Private Fund, L.P., a Delaware limited
partnership, collectively.

IP Stock Issuance............. The Company's issuance and sale of 5,611,940
shares of Common Stock for $16.75 per share,
aggregating approximately $94.0 million, in a
private transaction pursuant to the Stock
Purchase Agreement.

IPA........................... Insurance Partners Advisors, L.P.

IRIS.......................... The NAIC's Insurance Regulatory Information
System, developed to assist state insurance
departments in assessing the financial health
of insurance companies through application of
financial ratios.

Loss ratio.................... The ratio of claims and claim adjustment
expenses to net premiums earned.

Loss Reserves Guarantee....... FHC's guarantee of BIG's claim and claim
adjustment expense reserves, covering $150.0
million in reserves for losses incurred prior
to December 31, 1997 and an additional $25.0
million for losses incurred through the
Closing.

Moody's....................... Moody's Investor Services, Inc.

NAIC.......................... National Association of Insurance
Commissioners.

Nasdaq........................ The Nasdaq National Market.

Net premiums earned........... The portion of net premiums written applicable
to the insurance coverage provided in any
particular accounting period.

Net premiums written.......... Premiums retained by an insurance company after
deducting premiums on business reinsured with
others.

NOLs.......................... Net operating loss carryforwards under the
Code.

Open rating................... The elimination of required minimum workers'
compensation premium rates in California,
instituted in January 1993.

P&C........................... Property and casualty insurance.
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<PAGE> 178

Pac Rim....................... Pac Rim Holding Corporation, and where the
context requires, its subsidiaries including
The Pacific Rim Assurance Company.

Pac Rim Transaction........... The Company's April 1997 acquisition of Pac Rim
and its subsidiary, The Pacific Rim Assurance
Company (subsequently renamed Superior Pacific
Casualty Company).

Participating policies........ Policies that provide for the discretionary
payment of dividends to policyholders (as a
refund of premiums).

Participation Note............ Secured promissory note delivered by an
employee or consultant as payment for all or a
portion of the Subscription Price for shares of
Common Stock purchased in the Employee
Participation.

Payroll Purchase Plan......... The Company's proposed Employee Stock Purchase
Plan.

Persistency risk.............. The risk that insureds will not renew upon
expiration of a policy and will select a
different carrier.

Plan Amendment................ The proposed amendment to increase the shares
eligible for issuance under the 1995 Plan from
625,000 to 3,000,000.

Policy acquisition costs...... Agents' or brokers' commissions, premium taxes,
marketing, underwriting, and other expenses
associated with the production of business.

Policyholder dividend ratio... The ratio of policyholder dividends incurred to
net premiums earned. Policyholder dividends are
amounts refunded by an insurance company to
policyholders.

Policyholders' surplus........ The amount remaining after all liabilities are
subtracted from all admitted assets, applying
statutory accounting principles. This sum is
regarded as financial protection to
policyholders in the event an insurance company
suffers unexpected or catastrophic losses.

Quota-Share Arrangement....... Either of the substantially identical
three-year quota-share reinsurance treaties
entered into by the Company and BIG.

RBC........................... Risk-based capital.

Record Date................... , 1998, the record date for
determining which stockholders are entitled to
vote at the Annual Meeting and any adjournment
or postponement thereof.

Reinsurance................... An agreement whereby an insurer transfers
("cedes") a portion of the insurance risk to a
reinsurer in exchange for the payment of a
premium. Reinsurance can be effected by
"treaties," which automatically cover all risks
of a defined category, amount, and type, or by
"facultative reinsurance," which is negotiated
between an original insurer and the reinsurer
on an individual, contract-by-contract basis.

REM........................... Risk Enterprise Management Limited, a Zurich
affiliate, which provides claim severity
management services to Superior Pacific.

Restricted Stock.............. Restricted Common Stock issued pursuant to the
Company's stock incentive plans.

Rights........................ Subscription rights granted in respect of each
share of Common Stock, option or warrant held,
with each Right entitling the holder thereof to
purchase one share of Common Stock for $16.75.
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<PAGE> 179

Rights Offering............... The Company's distribution to existing
stockholders (excluding IP Delaware and IP
Bermuda) and warrant holders (excluding those
exercising their preemptive rights to purchase
shares under the terms of the IP Stock
Issuance) of transferable Rights, the proceeds
of which, upon exercise, will be used to
acquire BIG.

S&P........................... Standard & Poor's Corporation.

SAP........................... Statutory Accounting Practices. An accounting
method prescribed or permitted by state
insurance regulators, which differs from GAAP
principally in the following respects: (a)
premium income is taken into operations over
the periods covered by the policies, whereas
the related acquisition and commission costs
are expensed when incurred; (b) deferred income
taxes are not recognized under SAP; (c) certain
assets such as agents' balances over ninety
days due and prepaid expenses are nonadmitted
assets for statutory reporting purposes; (d)
policyholder dividends are accrued when
declared; (e) the cash flow statement is not
consistent with classifications and the
presentation under GAAP; (f) bonds are recorded
at amortized cost, regardless of trading
activities; (g) loss and loss adjustment
expense reserves and unearned premium reserves
are stated net of reinsurance; and (h) minimum
statutory reserves for losses in excess of
Company's estimates are required.

SEC........................... Securities and Exchange Commission (also
referred to as the "Commission").

Securities Act................ Securities Act of 1933, as amended.

Securities Pledge Agreement... Agreement by which securities (which may
include Common Stock already owned or purchased
in the Employee Participation, options, or
warrants) will be pledged by an employee or
consultant to the Company as security for a
Participation Note.

Senior Notes.................. The Company's Senior Notes to be issued as part
of the financing of the Acquisition.

Senior Notes Indenture........ The indenture pursuant to which the Senior
Notes will be issued.

Senior Notes Offering......... The Company's offering of its Senior Notes in
the aggregate principal amount of $110.0
million, the proceeds of which will be used,
among other things, to acquire BIG.

Senior Subordinated Notes..... The Senior Subordinated Notes issued by the
Company to the Trust, in exchange for the
proceeds of the Trust's issuance of the Trust
Preferred Securities.

Service Agreements............ Long-term agreements that the Company and BIG
will enter into with various subsidiaries of
FHC that are not being purchased in the
Acquisition, covering such services as medical
bill review, PPO utilization, certain managed
care services, claim negotiation and review,
recruitment of employees, placement of
temporary workers, and transitional corporate
administrative services.

SNIC.......................... Superior National Insurance Company, a wholly
owned insurance subsidiary of the Company.

SPCC.......................... Superior Pacific Casualty Company, a wholly
owned insurance subsidiary of the Company.
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<PAGE> 180

Standby Commitment............ Commitment of IP to purchase at the
Subscription Price up to 6,328,358 shares of
Common Stock in an amount equal to the number
of shares of Common Stock necessary to bring
the total proceeds of the Equity Financings to
$200.0 million.

State Fund.................... California State Compensation Insurance Fund, a
quasi-public insurer required to provide
insurance to all applicants.

Stock Offering................ The Company's offering of approximately $109.7
million of Common Stock, consisting of the
Rights Offering and the Employee Participation.

Stock Purchase Agreement...... The Stock Purchase Agreement dated as of May 5,
1998 among the Company, IP Delaware, IP
Bermuda, and Capital Z Partners Ltd., general
partner of IP II (which subsequently assigned
its interest to IP II).

Stock Subscription
Agreement..................... Agreement under which purchases of Common Stock
by participants in the Employee Participation
will take place, which will restrict transfer
of the shares purchased for one year.

Subordinated Notes
Indenture..................... Indenture relating to the Senior Subordinated
Notes.

Subscription Certificates..... Certificates representing Rights to be
delivered by the Subscription Agent to
participants in the Stock Offering, which, in
the case of the Rights Offering, will be
transferable, and, in the case of the Employee
Participation, will not be transferable.

Subscription Price............ $16.75 per share.

Subsidiaries.................. The direct and indirect subsidiaries of the
Company, including, after the Acquisition, BIG.

Superior National............. Superior National Insurance Group, Inc., a
Delaware corporation, and its subsidiaries
(also referred to as the "Company").

Superior Pacific.............. SNIC and SPCC, together.

TJS........................... TJS Partners, L.P., a New York limited
partnership.

Treaty........................ A reinsurance agreement. See "Reinsurance,"
above.

Triennial Examination......... A regularly scheduled triennial review of the
operations and financial condition of a
regulated California insurance company by the
DOI as required under various provisions of the
California Insurance Code.

Trust......................... Superior National Capital Trust I, a subsidiary
of the Company.

Trust Preferred Securities.... $105 million in 10 3/4% Trust Preferred
Securities issued by the Trust on December 3,
1997. Superior National simultaneously issued
the Senior Subordinated Notes which were
purchased by the Trust with the proceeds of the
offering, and provided certain guarantees in
favor of the holders of the Trust Preferred
Securities.

Underwriting.................. The process whereby an insurer reviews
applications submitted for insurance coverage,
determines whether it will accept all or part
of the coverage requested, and determines the
premiums to be charged.

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Underwriting expenses......... The aggregate of commissions and other policy
acquisition costs, as well as the portion of
administrative, general, and other expenses
attributable to the underwriting operations.

Underwriting profit (loss).... The excess (deficiency) resulting from the
difference between net premiums earned and the
sum of claims and claims adjustment expenses,
underwriting expenses, and policyholder
dividends.

Unpaid claim and claim
adjustment expenses........... An estimate of claims that have occurred, both
reported and unreported (including claim
adjustment expenses), and have been charged
against earnings but remain unpaid.

Voting Agreements............. The Voting Agreements dated as of May 5, 1998
between FHC and each of IP Delaware, IP
Bermuda, J. Chris Seaman, C. Len Pecchenino,
Gordon E. Noble, William L. Gentz, and TJS
Partners, L.P.

Voting Notes.................. 14.5% Senior Subordinated Voting Notes issued
by the Company on March 31, 1992, and due April
1, 2002.

WCIRB......................... California Workers' Compensation Insurance
Rating Bureau.

Zurich........................ Zurich Centre Group Holdings, Limited, a
Bermuda corporation.

ZRNA.......................... Zurich Reinsurance (North America), Inc., a
Zurich affiliate.

1986 Plan..................... The Company's 1986 Non-Statutory Stock Option
and 1986 Non-Statutory Stock Purchase Plan.

1995 Plan..................... The Company's 1995 Stock Incentive Plan.

1996 Stock Purchase
Agreement..................... The Stock Purchase Agreement dated September
17, 1996, as amended and restated February 17,
1997, pursuant to which IP Delaware, IP
Bermuda, TJS and members of the Company's
management purchased Common Stock in connection
with the Company's acquisition of Pac Rim.

14.5% Notes................... 14.5% Senior Subordinated Promissory Notes
issued by the Company in 1992 and redeemed in
1994.

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INDEX TO FINANCIAL STATEMENTS

SUPERIOR NATIONAL INSURANCE GROUP, INC.

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF SUPERIOR
NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES........... F-1
INDEPENDENT AUDITORS' REPORT................................ F-3
AUDITED CONSOLIDATED FINANCIAL STATEMENTS:
Consolidated Balance Sheets as of December 31, 1997 and
1996................................................... F-4
Consolidated Statements of Operations for the years ended
December 31, 1997, 1996 and 1995....................... F-5
Consolidated Statements of Changes in Stockholders' Equity
for the years ended December 31, 1997, 1996 and 1995... F-6
Consolidated Statements of Cash Flows for the years ended
December 31, 1997, 1996 and 1995....................... F-7
Notes to Consolidated Financial Statements................ F-8
FINANCIAL STATEMENTS SCHEDULES:
Schedule I: Condensed Financial Information of the
Registrant, Superior National Insurance
Group, Inc................................... F-29
Schedule II: Valuation and Qualifying Accounts and
Reserves.................................... F-33
Schedule V: Supplemental Insurance Information,
Reinsurance and Supplemental Property and
Casualty Insurance Information............... F-34
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS:
Condensed Consolidated Balance Sheets as of March 31, 1998
(unaudited) and December 31, 1997...................... F-37
Condensed Consolidated Statements of Income for the three
months ended March 31, 1998 (unaudited) and March 31,
1997 (unaudited)....................................... F-38
Condensed Consolidated Statement of Changes in
Stockholders' Equity for the three months ended March
31, 1998 (unaudited) and year ended December 31,
1997................................................... F-39
Condensed Consolidated Statements of Cash Flows for the
three months ended March 31, 1998 (unaudited) and March
31, 1997 (unaudited)................................... F-40
Notes to Condensed Consolidated Financial Statements
(unaudited)............................................ F-41
THE INSURANCE OPERATIONS OF BUSINESS INSURANCE GROUP, INC

INDEX TO COMBINED FINANCIAL STATEMENTS OF THE INSURANCE
OPERATIONS OF BUSINESS INSURANCE GROUP, INC............... F-44
INDEPENDENT AUDITORS' REPORT................................ F-45
COMBINED FINANCIAL STATEMENTS:
Combined Balance Sheets as of December 31, 1997 and
1996................................................... F-46
Combined Statements of Operations for the years ended
December 31, 1997, 1996 and 1995....................... F-47
Combined Statements of Stockholder's Equity for the years
ended December 31, 1997, 1996 and 1995................. F-48
Combined Statements of Cash Flows for the years ended
December 31, 1997, 1996 and 1995....................... F-49
Notes to Combined Financial Statements.................... F-50
UNAUDITED CONDENSED COMBINED FINANCIAL STATEMENTS:
Condensed Combined Balance Sheets as of March 31, 1998
(unaudited) and December 31,
1997................................................... F-65
Condensed Combined Statement of Operations for the three
months ended March 31, 1998 and 1997................... F-66
Condensed Combined Statement of Changes in Stockholder's
Equity for the three months ended March 31, 1998
(unaudited) and year ended December 31, 1997........... F-67
Condensed Combined Statements of Cash Flows for the three
months ended March 31, 1998 (unaudited) and March 31,
1997 (unaudited)....................................... F-68
Notes to Condensed Combined Financial Statements.......... F-69
</TABLE>

F-1
<PAGE> 183

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PAC RIM HOLDING CORPORATION

CONSOLIDATED FINANCIAL STATEMENTS:
INDEPENDENT AUDITORS' REPORT................................ F-70
Consolidated Balance Sheets as of December 31, 1996
(restated) and 1995.................................... F-71
Consolidated Statements of Operations for the years ended
December 31, 1996 (restated), 1995, and 1994........... F-72
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 1996 (restated), 1995, and
1994................................................... F-73
Consolidated Statements of Cash Flows for the years ended
December 31, 1996 (restated), 1995, and 1994........... F-74
Notes to Consolidated Financial Statements................ F-75
</TABLE>

F-2
<PAGE> 184

INDEPENDENT AUDITORS' REPORT

The Board of Directors
Superior National Insurance Group, Inc.:

We have audited the consolidated financial statements of Superior National
Insurance Group, Inc. and subsidiaries as listed in the accompanying index. In
connection with our audits of the consolidated financial statements, we also
have audited the financial statement schedules as listed in the accompanying
index. These consolidated financial statements and financial statement schedules
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements and financial
statement schedules based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. 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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Superior
National Insurance Group, Inc. and subsidiaries as of December 31, 1997 and
1996, and the results of their operations and their cash flows for each of the
years in the three-year period ended December 31, 1997, in conformity with
generally accepted accounting principles. Also, in our opinion, the related
financial statement schedules, when considered in relation to the basic
consolidated financial statements taken as a whole, present fairly, in all
material respects, the information set forth therein.

KPMG PEAT MARWICK LLP

Los Angeles, California
March 27, 1998

F-3
<PAGE> 185

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 AND 1996

<TABLE>
<CAPTION>
1997 1996
--------- ---------
(IN THOUSANDS, EXCEPT
SHARE DATA)
<S> <C> <C>
ASSETS
Investments:
Bonds and Notes
Available-for-sale, at market (cost: 1997, $203,373;
1996, $46,549)......................................... $205,214 $ 46,330
Equity securities, at market
Common stock (cost: 1997, $1,356; 1996, $1,199)......... 1,526 1,173
Cash and Invested cash (Restricted cash: 1997, $651; 1996,
$297)................................................... 35,376 100,487
Restricted investment..................................... -- 1,450
-------- --------
TOTAL INVESTMENTS.................................. 242,116 149,440
Reinsurance recoverable:
Paid and unpaid claims and claim adjustment expenses...... 53,082 25,274
Premiums receivable (less allowance for doubtful accounts
of $800 in 1997 and $300 in 1996)....................... 24,364 9,390
Earned but unbilled premiums receivable................... 12,524 5,251
Accrued investment income................................. 2,661 1,035
Deferred policy acquisition costs......................... 5,879 3,042
Deferred income taxes..................................... 12,200 9,520
Funds held by reinsurer................................... 5,152 1,948
Receivable from reinsurer................................. -- 93,266
Prepaid reinsurance premiums.............................. 1,598 1,039
Goodwill.................................................. 35,887 --
Prepaid and other......................................... 21,106 7,364
-------- --------
TOTAL ASSETS....................................... $416,569 $306,569
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Claims and claim adjustment expenses...................... $201,255 $115,529
Unearned premiums......................................... 12,913 9,702
Reinsurance payable....................................... 3,412 874
Long-term debt............................................ 30 98,961
Policyholder dividends.................................... 1,370 --
Capital lease obligation.................................. 7,626 --
Accounts payable and other liabilities.................... 28,868 12,741
-------- --------
TOTAL LIABILITIES.................................. 255,474 237,807
1994 PREFERRED SECURITIES ISSUED BY AFFILIATE; authorized
1,100,000 shares; issued and outstanding 1,013,753 shares
in 1996................................................... -- 23,571
COMPANY-OBLIGATED TRUST PREFERRED SECURITIES OF SUBSIDIARY
TRUST HOLDING SOLELY SENIOR SUBORDINATED NOTES OF SNIG;
$1,000 face per share; issued and outstanding 105,000
shares in 1997............................................ 101,277 --
STOCKHOLDERS' EQUITY
Common stock, $0.01 par value; authorized 25,000,000 shares;
issued and outstanding 5,871,279 shares in 1997 and
3,446,492 shares in 1996.................................. 59 34
Paid-in capital excess of par............................... 34,242 15,988
Unrealized (loss) gain on investments, net of taxes......... 1,327 (162)
Paid-in capital -- warrants................................. 2,206 2,206
Retained earnings........................................... 21,984 27,125
-------- --------
NET STOCKHOLDERS' EQUITY........................... 59,818 45,191
-------- --------
TOTAL LIABILITIES, PREFERRED SECURITIES AND NET
STOCKHOLDERS' EQUITY.............................. $416,569 $306,569
======== ========
</TABLE>

See accompanying notes to consolidated financial statements.
F-4
<PAGE> 186

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>
<CAPTION>
1997 1996 1995
-------- ------- -------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
<S> <C> <C> <C>
REVENUES:
Premiums written, net of reinsurance ceded................ $136,929 $87,715 $89,139
Net change in unearned premiums........................... 3,991 933 596
-------- ------- -------
Net premiums earned....................................... 140,920 88,648 89,735
Net investment income..................................... 12,674 7,769 9,784
-------- ------- -------
TOTAL REVENUES...................................... 153,594 96,417 99,519
-------- ------- -------
EXPENSES:
Claims and claim adjustment, net of reinsurance recoveries
of $32,383, $6,064 and $2,418 in 1997, 1996 and 1995
respectively............................................ 90,447 55,638 53,970
Commissions, net of reinsurance ceding commissions of
$4,868, $2,030 and $1,350 in 1997, 1996 and 1995
respectively............................................ 13,838 10,426 11,881
Policyholder dividends.................................... -- (5,927) (5,742)
Interest.................................................. 6,335 7,527 9,619
General and administrative
Underwriting............................................ 23,857 23,712 17,566
Other................................................... 817 (186) 536
Goodwill................................................ 1,039 -- --
-------- ------- -------
TOTAL EXPENSES...................................... 136,333 91,190 87,830
-------- ------- -------
Income before income taxes, preferred securities dividends
and accretion, discontinued operations, and extraordinary
items..................................................... 17,261 5,227 11,689
Income tax expense (benefit)................................ 6,437 1,597 (12)
-------- ------- -------
Income before preferred securities dividends and accretion,
discontinued operations and extraordinary items........... 10,824 3,630 11,701
Preferred Securities dividends and accretion, net of income
tax benefit of $1,260, $858 and $767 in 1997, 1996 and
1995 respectively......................................... (2,445) (1,667) (1,488)
Trust Preferred Securities dividends and accretion, net of
income tax benefit of $321 in 1997........................ (624) -- --
Loss from operations of discontinued property and casualty
operations, net of income tax benefit of $5,070 in 1995... -- -- (9,842)
Extraordinary loss on retirement of long-term debt, net of
income tax benefit of $5,315.............................. (10,317) -- --
Extraordinary loss on retirement of long-term debt, net of
income tax benefit of $785................................ (1,524) -- --
Extraordinary loss on redemption of Pac Rim's outstanding
debentures, net of income tax benefit of $327............. (635) -- --
Extraordinary loss on retirement of preferred securities,
net of income tax benefit of $134......................... (259) -- --
Extraordinary loss on early retirement of Imperial Bank loan
net of income tax benefit of $83.......................... (161) -- --
-------- ------- -------
NET (LOSS) INCOME................................... $ (5,141) $ 1,963 $ 371
======== ======= =======
BASIC EARNINGS PER SHARE:
Income before preferred securities dividends and
accretion, and extraordinary items...................... $ 2.06 $ 1.06 $ 3.41
Preferred securities dividends and accretion.............. (0.58) (0.49) (0.43)
Discontinued operations................................... -- -- (2.87)
Extraordinary items....................................... (2.46) -- --
-------- ------- -------
NET (LOSS) INCOME................................... $ (0.98) $ 0.57 $ 0.11
======== ======= =======
DILUTED EARNINGS PER SHARE:
Income before preferred securities dividends and
accretion, and extraordinary items...................... $ 1.54 $ 0.75 $ 2.97
Preferred securities dividends and accretion.............. (0.44) (0.34) (0.38)
Discontinued operations................................... -- -- (2.50)
Extraordinary items....................................... (1.84) -- --
-------- ------- -------
NET INCOME.......................................... $ (0.74) $ 0.41 $ 0.09
======== ======= =======
</TABLE>

See accompanying notes to consolidated financial statements.
F-5
<PAGE> 187

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>
<CAPTION>
NET
UNREALIZED UNREALIZED
COMMON STOCK GAIN GAIN (LOSS)
-------------------- (LOSS) ON AVAILABLE- PAID IN TOTAL
SHARES $.01 PAR ON EQUITY FOR-SALE CAPITAL -- RETAINED STOCKHOLDERS'
ISSUED VALUE SECURITIES INVESTMENTS WARRANTS EARNINGS EQUITY
--------- -------- ---------- ------------- ---------- -------- -------------
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1994..................... 3,429,873 $15,941 -- $(2,574) $2,206 $24,791 $40,364

Net Income................. -- -- -- -- -- 371 371
Unrealized gain on equity
securities............... -- -- 2 -- -- -- 2
Change in unrealized loss
on available-for-sale
investments, net of
taxes.................... -- -- -- 2,741 -- -- 2,741
Stock issued under stock
option plan.............. 500 2 -- -- -- -- 2
--------- ------- ---- ------- ------ ------- -------
Balance at December 31,
1995..................... 3,430,373 15,943 2 167 2,206 25,162 43,480
--------- ------- ---- ------- ------ ------- -------

Net Income................. -- -- -- -- -- 1,963 1,963
Unrealized gain on equity
securities............... -- -- (19) -- -- -- (19)
Change in unrealized loss
on available-for-sale
investments, net of
taxes.................... -- -- -- (312) -- -- (312)
Stock issued under a stock
option plan.............. 3,100 12 -- -- -- -- 12
Common stock issued under a
stock incentive plan..... 13,019 67 -- -- -- -- 67
--------- ------- ---- ------- ------ ------- -------
Balance at December 31,
1996..................... 3,446,492 16,022 (17) (145) 2,206 27,125 45,191
--------- ------- ---- ------- ------ ------- -------

Net Loss................... -- -- -- -- -- (5,141) (5,141)
Unrealized gain on equity
securities............... -- -- 129 -- -- -- 129
Change in unrealized gain
on available-for-sale
investments, net of
taxes.................... -- -- -- 1,360 -- -- 1,360
Common stock issued........ 2,390,438 18,000 -- -- -- -- 18,000
Stock issued under a stock
option plan.............. 22,127 105 -- -- -- -- 105
Common stock issued under a
stock incentive plan..... 12,222 174 -- -- -- -- 174
--------- ------- ---- ------- ------ ------- -------
Balance at December 31,
1997..................... 5,871,279 $34,301 $112 $ 1,215 $2,206 $21,984 $59,818
========= ======= ==== ======= ====== ======= =======
</TABLE>

See accompanying notes to consolidated financial statements.
F-6
<PAGE> 188

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- ---------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income......................................... $ (5,141) $ 1,963 $ 371
-------- -------- ---------
Adjustments to reconcile net income to net cash provided
by (used in) operating activities:
Amortization of bonds and preferred stock............... (1,073) (1,581) (3,575)
Amortization of long-term debt.......................... 68 -- --
Loss/(gain) on sale of investments...................... 98 (31) 525
Gain on sale of Centre Re investments................... -- (2,036) (4,891)
Amortization of goodwill................................ 1,039 -- --
Extraordinary loss...................................... 12,896 -- --
Interest expense on long-term debt...................... 3,581 -- --
Preferred securities dividends and accretion............ 3,069 2,526 2,255
(Increase) decrease in reinsurance balances
receivable............................................. (23,789) 14,339 28,516
(Increase) decrease in premiums receivable.............. (1,848) 2,184 6,901
(Increase) decrease in earned but unbilled premiums
receivable............................................. (3,131) (2,101) 3,336
(Increase) decrease in accrued investment income........ (986) 792 (491)
(Increase) decrease in deferred policy acquisition
costs.................................................. (2,837) (262) 125
Decrease in income taxes receivable..................... -- -- 1,721
Decrease (increase) in deferred taxes................... 6,433 735 (5,853)
Increase in funds held by reinsurer..................... (3,204) (976) (972)
Increase in prepaid reinsurance premiums................ (2,406) (287) (88)
Decrease (increase) in other assets..................... 1,637 (1,287) (1,413)
Decrease in claims and claim adjustment expense
reserves............................................... (24,523) (25,966) (29,763)
Decrease in unearned premium reserves................... (3,648) (645) (508)
Increase (decrease) in reinsurance payable.............. 2,538 504 (2,835)
Decrease in policyholder dividends payable.............. -- (8,094) (10,970)
Decrease in discontinued operations..................... -- -- (4,223)
(Decrease) increase in accounts payable and other
liabilities............................................ (11,143) 5,321 (1,994)
-------- -------- ---------
Total adjustments....................................... (47,229) (16,865) (24,197)
-------- -------- ---------
Net cash used in operating activities............... (52,370) (14,902) (23,826)
-------- -------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Paid-in-capital -- stock options taken.................. 279 79 2
Proceeds from issuance of common stock.................. 18,000 -- --
Proceeds from Trust Preferred Securities net of $3.7
million issuance....................................... 101,272 -- --
Long-term debt -- Chase Manhattan Bank.................. 41,257 -- --
Retirement of long-term debt -- Chase Manhattan Bank.... (44,000) -- --
Retirement of 1994 Preferred Securities................. (27,668) -- --
Retirement of long-term debt............................ (7,250) (2,660) (1,200)
Prepayment penalty on long-term debt.................... (244) -- --
Funding of discontinued operations...................... (4,357) -- --
Proceeds from Chase Financing........................... -- 93,091 --
-------- -------- ---------
Net cash provided by (used in) financing
activities.......................................... 77,289 90,510 (1,198)
-------- -------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of bonds and notes:
Investments available-for-sale.......................... (226,749) (43,257) (4,611)
Investment funds withheld from reinsurers............... -- (88,568) (204,577)
Purchases of common stock................................. (1,496) (513) (680)
(Increase) in receivable from reinsurer................... -- (93,266) --
Purchase of Pacific Rim Holding Company................... (44,016) -- --
Investments and cash allocated to discontinued
operations.............................................. -- -- (1,581)
Sales of bonds and notes: Investments
available-for-sale...................................... 109,082 25,343 17,643
Maturities of bonds and notes:
Investments held-to-maturity............................ -- -- 2,250
Investments available-for-sale.......................... 15,042 12,771 3,035
Sales and maturities of funds withheld from reinsurers.... -- 206,548 191,238
Sales of equity securities................................ 1,197 -- --
Net decrease in invested cash............................. 55,460 983 26,062
-------- -------- ---------
Net cash (used in) provided by investing activities....... (91,480) 20,041 28,779
-------- -------- ---------
Net (decrease) increase in cash........................... (66,561) 95,649 3,755
Cash and invested cash at beginning of period............. 101,937 6,288 2,533
-------- -------- ---------
Cash and invested cash at end of period................... $ 35,376 $101,937 $ 6,288
======== ======== =========
Supplemental disclosure of cash flow information:
Cash paid during the year for income taxes.............. $ 4 $ 4 $ 4
======== ======== =========
Cash paid during the year for interest.................. $ 2,803 $ 641 $ 808
======== ======== =========
</TABLE>

See accompanying notes to consolidated financial statements.
F-7
<PAGE> 189

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The consolidated financial statements include the accounts of Superior
National Insurance Group, Inc. ("SNIG") and all subsidiaries (together with
SNIG, the "Company"). The Company's principal insurance subsidiaries
(collectively referred to as "Superior Pacific"), Superior National Insurance
Company ("SNIC") and Superior Pacific Casualty Company ("SPCC"), are licensed to
write workers' compensation insurance and commercial property and casualty
insurance in 20 states and the District of Columbia.

During the third quarter of 1993, the Company adopted a plan to discontinue
underwriting commercial property and casualty risks. Earned premiums reported in
1997, 1996, and 1995 reflect workers' compensation premiums from policies that
were primarily located in California.

The Company's consolidated financial statements have been prepared on the
basis of generally accepted accounting principles that vary in certain respects
from accounting practices prescribed or permitted by state insurance regulatory
authorities. The results of all significant intercompany transactions have been
eliminated.

Certain reclassifications have been made to prior year financial statements
to conform to the 1997 presentation.

Acquisition

On April 11, 1997, the Company acquired all of the outstanding stock of Pac
Rim Holding Corporation ("Pac Rim") for aggregate consideration of $42.0 million
in cash. This consideration resulted in payments of $20.0 million to Pac Rim
stockholders, $20.0 million to Pac Rim's convertible debenture holders, and $2.0
million to Pac Rim's warrant and option holders. In addition, the Company
incurred $2.0 million in transaction fees and related expenses. The Company
financed the acquisition of Pac Rim through a $44.0 million term loan and the
sale of $18 million of newly issued shares of common stock. The term loan was
subsequently retired from funds raised from the sale of $105 million of 10.75%
Trust Preferred Securities. As a result of the term loan's being retired, the
Company recorded an extraordinary loss, net of federal income taxes, of $1.5
million.

The transaction resulted in $36.9 million in goodwill that is being
amortized on a straight line basis over 27.5 years. The transaction was
accounted for using the purchase method and the results of operations since the
date of the acquisition have been included in operations. The transaction's
designated accounting effective date is April 1, 1997.

The balance sheet of Pac Rim at the acquisition date included the following
assets: investments of $105,913, cash of $2,627, receivables of $17,268, and
other assets of $22,272. Liabilities assumed in the acquisition included
unearned premiums of $6,859, claims and claim adjustment expense reserves of
$107,743, and other liabilities of $32,289.

F-8
<PAGE> 190
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The unaudited pro forma condensed consolidated results of operations
presented below assume the transaction occurred had the acquisition taken place
at the beginning of each period presented.

<TABLE>
<CAPTION>
PRO FORMA RESULTS FOR THE YEAR
ENDED DECEMBER 31,
-------------------------------
1997 1996
------------ ------------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
<S> <C> <C>
Revenues.................................................... $174,550 $187,732
Loss before income taxes, preferred securities dividends and
accretion, and extraordinary items........................ $ (253) $(18,620)
Net (loss).................................................. $(23,280) $(23,226)
Basic earnings per share.................................... $ (4.43) $ (3.01)
Diluted earnings per share.................................. $ (3.32) $ (2.55)
</TABLE>

These unaudited pro forma results are not necessarily indicative of the
results of operations that would have occurred had the acquisition taken place
at the beginning of each period or of future operations of the combined
companies.

Reverse Stock Split

Effective May 25, 1995, shareholders of SNIG approved a four-into-one
reverse split of SNIG's common stock. The purpose of the reverse split was to
increase the per-share price of the SNIG common stock in order to enhance public
trading of the common stock upon the effectiveness of the Company's registration
with the Securities and Exchange Commission. Consequently, the shares of common
stock and stock options information included in the accompanying consolidated
financial statements were prepared assuming the reverse stock split had been
outstanding at the beginning of all periods presented.

Cash and Invested Cash

Cash includes currency on hand and demand deposits with financial
institutions. Invested cash represents short-term, highly liquid investments,
readily convertible to known amounts of cash and near maturity such that there
is insignificant risk of changes in value because of changes in interest rates.
Invested cash is carried at cost, which approximates market.

Investments

Investments in debt instruments consist primarily of bonds and
collateralized mortgage obligations. Debt instruments and equities are
classified as (i) "held-to-maturity" (carried at amortized cost); (ii) "trading"
(carried at market with differences between cost and market being reflected in
the results of operations); or (iii) if not otherwise classified, as
"available-for-sale" (carried at market with differences between cost and market
being reflected as a separate component of stockholders' equity, net of
applicable income tax effect). The premiums and discounts on fixed maturities
and collateralized mortgage obligations are amortized using the scientific
method. Amortization and accretion of premiums and discounts on collateralized
mortgage obligations are adjusted for principal paydowns and changes in expected
maturities. Current market values of investments are obtained from published
sources. Declines in market value that are considered other than temporary are
charged to operations.

The Company does not own any investments that qualify as derivatives as
defined by Statement of Financial Accounting Standard No. 119, "Disclosure About
Derivative Financial Investments and Fair Value of Financial Investments."
Securities not designated as held-to-maturity have been designated as available-
for-sale. The Company did not have any investments categorized as trading
securities. For determining realized gains or losses on securities sold, cost is
based on average cost.

F-9
<PAGE> 191
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Investments in equity securities are carried at fair value. Unrealized
gains or losses on equity securities are reflected, net of applicable tax, in
stockholders' equity.

Premiums Receivable

Superior Pacific records premiums receivable for both billed and unbilled
amounts. Unbilled premiums receivable, which are substantially all earned,
primarily represent Superior Pacific's estimate of the difference between
amounts billed on installment policies and the amount to be ultimately billed on
the policy. Unbilled premiums receivable also include estimated billings on
payroll reporting policies which were earned but not billed prior to year end.
Superior Pacific uses its historical experience to estimate earned but unbilled
amounts which are recorded as premiums receivable. These unbilled amounts are
estimates, and while the Company believes such amounts are reasonable, there can
be no assurance that the ultimate amounts received will equal the recorded
unbilled amounts.

The ultimate collectability of the unbilled receivables can be affected to
a greater degree by general changes in the economy and the regulatory
environment than billed receivables due to the increased time required to
determine the billable amount. The Company attempts to consider these factors
when estimating the receivable for unbilled premiums.

Deferred Policy Acquisition Costs

Acquisition costs, consisting principally of commissions, premium taxes,
and certain marketing, policy issuance, and underwriting costs related to the
production of SNIC's workers' compensation business, are deferred and amortized
ratably over the terms of the policies. If recoverability of such costs is not
anticipated, the amounts not considered recoverable are charged to income. In
determining estimated recoverability, the computation gives effect to the
premium to be earned, related investment income, claims and claim adjustment
expenses, and certain other costs expected to be incurred as the premium is
earned.

Policy acquisition costs incurred and amortized into income are as follows:

<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
Balance at beginning of year....................... $ 3,042 $ 2,780 $ 2,905
Cost deferred during the year...................... 22,814 17,132 18,163
Amortization charged to expense.................... (19,977) (16,870) (18,288)
-------- -------- --------
Balance at end of year............................. $ 5,879 $ 3,042 $ 2,780
======== ======== ========
</TABLE>

Claims and Claim Adjustment Expenses

Claims and claim adjustment expenses are based on case-basis estimates of
reported claims and on estimates, based on experience and industry data, for
unreported claims and claim adjustment expenses. The provision for unpaid claims
and claim adjustment expenses, net of estimated salvage and subrogation, has
been established to cover the estimated net cost of incurred claims. The amounts
are necessarily based on estimates, and accordingly, there can be no assurance
the ultimate liability will not differ from such estimates.

There is a high level of uncertainty inherent in the evaluation of the
required claims and claim adjustment expense reserves. Management has selected
ultimate claim and claim adjustment expenses that it believes will reasonably
reflect anticipated ultimate experience. The ultimate costs of such claims are
dependent upon future events, the outcomes of which are affected by many
factors. Claims reserving procedures and settlement philosophy, current and
perceived social and economic factors, inflation, current and future court
rulings and jury attitudes, and many other economic, scientific, legal,
political, and social factors all can have significant effects on the ultimate
costs of claims. Changes in Company operations and management philosophy also
may cause actual developments to vary from the past.

F-10
<PAGE> 192
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Policyholder Dividends

Prior to the inception of open rating in January 1995, policyholder
dividends served both as an economic incentive to employers for safe operations
and as a means of price differentiation; however, since open rating, the
consumer's preference has been for the lowest net price at a policy's inception.
This is evidenced by the decline in participating policies written by Superior
Pacific as a percent of total policies from 24% of workers' compensation
premiums in force at December 31, 1995 to 1% at December 31, 1996. A small
increase in the percentage of participating policies to 3% at December 31, 1997
is attributable to policies written in Arizona. In 1995, as a result of the
diminishing value of policyholder dividends, Superior Pacific's management
declared a moratorium in the payment of policyholder dividends. In December
1996, the Company discontinued policyholder dividend payments. Estimated amounts
to be returned to policyholders were accrued when the related premium was earned
by Superior Pacific. Dividends were paid to the extent that a surplus was
accumulated from premiums on workers' compensation policies.

Premium Income Recognition

Insurance premiums are earned ratably over the terms of the policies.
Unearned premiums are computed on a daily pro-rata basis.

Income Taxes

The Company files a consolidated Federal income tax return which includes
all qualifying subsidiaries.

Deferred income taxes are provided for temporary differences between
financial statement and tax return bases using the asset and liability method,
in accordance with Statement of Financial Accounting Standard No. 109,
"Accounting for Income Taxes" ("SFAS 109"). Under the asset and liability
method, deferred taxes are measured using enacted tax rates in effect for the
year in which those temporary differences are expected to be settled. Tax rate
changes are accounted for in the year in which the tax law is enacted.

Earnings per Share ("EPS")

In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard No. 128, "Earnings per Share", which
requires presentation of basic and diluted earnings per share for all publicly
traded companies effective for fiscal years ending after December 15, 1997. Note
16 contains the required disclosures which make up the calculation of basic and
diluted earnings per share. The required restatement of prior years earnings per
share reflect an immaterial difference.

Property, Equipment, Leasehold Improvements and Assets Under Capital Lease

Property, equipment, and leasehold improvements are stated at cost, net of
accumulated depreciation and amortization. The accumulated depreciation and
amortization as of December 31, 1997 and 1996 was $2,207 and $4,289
respectively. Depreciation and amortization are provided principally on the
straight-line method over the estimated useful lives of the assets, or, if less,
the term of the lease. Property, equipment, and leasehold improvements are
included as a component of "Prepaid and other assets" on the consolidated
balance sheets.

Use of Management Estimations

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts of assets, liabilities, and disclosures of
contingent assets and liabilities at the date of the financial statements. The
Company has provided such estimates for its workers' compensation claims and
claim adjustment expenses; discontinued operations; policyholder dividends;
earned but unbilled premiums; and deferred tax balances in its financial
F-11
<PAGE> 193
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

statements. While these estimates are based upon analyses performed by
management, outside consultants, and actuaries, the amounts the Company will
ultimately pay may differ materially from the amounts presently estimated.

Stock-Based Compensation

The Company has elected to follow Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees" ("APB 25") and Related
Interpretations in accounting for its employee stock options.

Business Relationships with Zurich

Certain affiliates of Zurich Reinsurance Centre Holdings, Inc., a Delaware
corporation ("Zurich"), collectively own approximately 45% of SNIG's common
stock on a diluted basis, and approximately 36% of SNIG's issued and outstanding
common stock on a non-diluted basis.

In March 1992, the Company issued warrants (the "Warrants") to purchase
1,616,886 shares of Common Stock in connection with the sale of its 14.5% Senior
Subordinated promissory notes in an aggregate principal amount of $11.0 million,
which notes have since been redeemed. The Warrants are exercisable at $4.00 per
share and expire April 1, 2002. International Insurance Investors, L.P. ("III"),
an affiliate of Zurich, originally purchased 1,474,306 of such Warrants (which
are held by International Insurance Advisers, Inc. pursuant to a revocable
agency relationship) with the remaining 142,580 Warrants being issued to
management. As of December 31, 1997 Warrants to purchase 1,566,465 shares of
Common Stock were outstanding, as Warrants to purchase 50,421 shares of Common
Stock held by management have since been retired upon the termination of their
employment with the Company.

In June 1994, in connection with a $20.0 million investment in the Company
(and its affiliate, Superior National Capital, L.P.) by CentreLine Reinsurance
Limited ("CentreLine"), an affilate of Zurich, the Company issued to CentreLine
a warrant to purchase 579,356 shares of Common Stock at an exercise price of
$5.20 per share, which expires April 1, 2002.

(2) INVESTMENTS

The amortized cost and market values of bonds and notes classified as
available-for-sale at December 31, 1997 are as follows:

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- --------
<S> <C> <C> <C> <C>
Available-for-sale:
United States government agencies and
authorities........................ $ 89,884 $ 420 $(207) $ 90,097
Collateralized mortgage obligations... 72,478 1,100 (97) 73,481
Corporate instruments................. 41,011 657 (32) 41,636
State and political subdivisions...... -- -- -- --
-------- ------ ----- --------
Total available-for-sale.............. $203,373 $2,177 $(336) $205,214
======== ====== ===== ========
</TABLE>

F-12
<PAGE> 194
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The market values of equity securities as of December 31, 1997 are as
follows:

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- ------
<S> <C> <C> <C> <C>
Equity Securities:
Corporate Instruments................... $1,356 $171 $(1) $1,526
------ ---- --- ------
Total Equity Securities................. $1,356 $171 $(1) $1,526
====== ==== === ======
</TABLE>

The amortized cost and estimated market values of investments classified as
available for sale at December 31, 1997 by contractual maturity are shown below.
Expected maturities are likely to differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without
penalty. Mortgage-backed securities are included based upon the expected payout
pattern and duration of the fixed income security. Changes in interest rates,
investor expectations, and political agendas could cause the ultimate payout
pattern to differ.

<TABLE>
<CAPTION>
AVAILABLE FOR SALE
---------------------
AMORTIZED FAIR
COST VALUE
--------- --------
<S> <C> <C>
Due in one year or less..................................... $ 25,044 $ 25,086
Due after one year through five years....................... 44,254 44,710
Due after five years through ten years...................... 42,101 42,776
Due after ten years......................................... 91,974 92,642
-------- --------
Total....................................................... $203,373 $205,214
======== ========
</TABLE>

The amortized cost and market values of bonds and notes classified as
available for sale at December 31, 1996 are as follows:

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- -------
<S> <C> <C> <C> <C>
Available-for-sale:
United States government agencies and
authorities......................... $22,596 $ 62 $(174) $22,484
Collateralized mortgage obligations.... 12,989 -- (134) 12,855
Corporate instruments.................. 9,864 23 (20) 9,867
State and political subdivisions....... 1,100 24 -- 1,124
------- ---- ----- -------
Total available-for-sale............... $46,549 $109 $(328) $46,330
======= ==== ===== =======
</TABLE>

The market value of equity securities as of December 31, 1996 are as
follows:

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- ------
<S> <C> <C> <C> <C>
Equity Securities:
Corporate Instruments................... $1,199 $73 $(99) $1,173
------ --- ---- ------
Total Equity Securities................. $1,199 $73 $(99) $1,173
====== === ==== ======
</TABLE>

F-13
<PAGE> 195
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

A summary of net investment income for the years ended December 31, are as
follows:

<TABLE>
<CAPTION>
1997 1996 1995
------- ------ -------
<S> <C> <C> <C>
Interest on bonds and notes............................ $ 9,124 $6,628 $ 9,310
Interest on invested cash.............................. 4,068 1,609 1,297
Realized gains (losses)................................ 44 31 (525)
Other.................................................. 190 -- --
------- ------ -------
Total investment income................................ 13,426 8,268 10,082
Investment expense..................................... (752) (499) (298)
------- ------ -------
Net investment income.................................. $12,674 $7,769 $ 9,784
======= ====== =======
</TABLE>

Realized gains (losses) on investments for the years ended December 31, are
as follows:

<TABLE>
<CAPTION>
1997 1996 1995
---- ---- -----
<S> <C> <C> <C>
Bonds and notes............................................. $44 $31 $(525)
Equity securities........................................... -- -- --
--- --- -----
Total....................................................... $44 $31 $(525)
=== === =====
</TABLE>

The changes in unrealized gains (losses) on debt instruments held as
available-for-sale and equity security investments at December 31, are as
follows:

<TABLE>
<CAPTION>
1997 1996 1995
------ ----- ------
<S> <C> <C> <C>
Bonds and notes........................................... $2,060 $(472) $4,154
Equity securities......................................... 196 (29) 2
------ ----- ------
Total..................................................... $2,256 $(501) $4,156
====== ===== ======
</TABLE>

Proceeds from sales of bonds and notes held as available-for-sale for the
years ended December 31, 1997, 1996, and 1995 were $109,082, $25,343, and
$17,643, respectively. Gross gains of $176 and gross losses of $132 were
realized on those sales in 1997. Gross gains of $44 and gross losses of $13 were
realized on those sales in 1996. Gross gains of $4 and gross losses of $529 were
realized on those sales in 1995.

Bonds and other securities with a market value of $180,447 at December 31,
1997, $127,112 at December 31, 1996 and $143,462 at December 31, 1995, were on
deposit with various insurance regulatory authorities. Additionally, see Note
(7) regarding investments held related to reinsurance contracts.

(3) FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table represents the carrying amounts and estimated fair
values of the Company's financial liabilities at December 31, 1997 and 1996.
Statement of Financial Accounting Standard No. 107, "Disclosure about Fair Value
of Financial Instruments," ("SFAS 107") defines the fair value of a financial
instrument as the amount at which the instrument could be exchanged in a current
transaction between willing parties. Fair values with respect to investments are
presented in Note (2) and the fair value of all other investments approximates
their fair value.

F-14
<PAGE> 196
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The carrying amounts shown in the table below are included in the
Consolidated Balance Sheet under the indicated options:

<TABLE>
<CAPTION>
1997 1996
-------------------- -------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
-------- -------- -------- -------
<S> <C> <C> <C> <C>
Financial liabilities:
Chase financing agreement................. $ -- $ -- $91,681 $91,374
Imperial Bank debt........................ $ -- $ -- $ 7,250 $ 7,541
1994 Preferred Securities issued by
affiliate............................... $ -- $ -- $23,571 $19,998
Trust Preferred Securities issued by
affiliate............................... $101,277 $104,990 $ -- $ --
</TABLE>

Fair value is estimated based on the quoted market prices for similar
issues or by discounting expected cash flows at the rates currently offered to
the Company for debt of the same remaining maturities. However, there can be no
assurances that in the event the assets and liabilities would be required to be
liquidated that the amounts received or due would be the amounts reflected
herein.

(4) CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES

The activity in the claim and claim adjustment expense reserve account is
summarized as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------
1997 1996 1995
-------- -------- --------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
Beginning reserve, gross of reinsurance............ $115,529 $141,495 $171,258
Less: Reinsurance recoverable on unpaid losses..... 24,986 27,076 31,897
-------- -------- --------
Beginning reserve, net of reinsurance.............. 90,543 114,419 139,361
Pac Rim reserves at acquisition.................... 104,588 -- --
Provision for net claims and claim adjustment
expenses
For claims occurring in current year............. 95,826 57,614 58,842
For claims occurring in prior years.............. (5,379) (1,976) (4,872)
-------- -------- --------
Total claims and claim adjustment expenses....... 90,447 55,638 53,970
-------- -------- --------
Payments for net claims and claim adjustment
expense:
Attributable to insured events incurred in
current year.................................. (37,945) (19,816) (19,732)
Attributable to insured events incurred in prior
years......................................... (95,533) (59,698) (59,180)
-------- -------- --------
Total claims and claim adjustment expense
payments...................................... (133,478) (79,514) (78,912)
-------- -------- --------
Ending reserves, net of reinsurance................ 152,100 90,543 114,419
Reinsurance recoverable on unpaid losses........... 49,155 24,986 27,076
-------- -------- --------
Ending reserves, gross of reinsurance.............. $201,255 $115,529 $141,495
======== ======== ========
</TABLE>

During 1997, the Company continued to experience decreased frequency of
claims and at the same time experienced an increase in claims severity for
accident years 1995 and thereafter. The Company's net claim and claim adjustment
expense ratio for accident year 1997, at the end of calendar year 1997, was
68.0%, versus 65.0% and 65.6% for accident years 1996 and 1995, at their
respective calendar year ends.

F-15
<PAGE> 197
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

review of all open claim files and the subsequent adjustment to reserves, which
caused many claims to have incurred claim and claim adjustment expenses in
excess of the retention on SPCC's reinsurance treaties. The $10.8 million
favorable development is offset by a $5.4 million adverse development on direct
reserves attributable to the accident years 1995 and 1996.

In 1996, the Company experienced approximately $2.0 million in favorable
development on net claims and claim adjustment expense reserves estimated at
December 31, 1995. This $2.0 million favorable development is the result of $8.4
million in favorable development on direct reserves for accident years 1994 and
prior. The favorable development was offset in part by $4.1 million adverse
development on direct reserves for accident year 1995, and $2.3 million adverse
development on ceded reserves for accident years 1995 and prior. The Company's
1995 accident year net claims and claim adjustment expense ratio for accident
year 1995 at the end of calendar year 1995 was 65.6%, verses 74.6% at the end of
the 1996 calendar year. Offsetting the favorable development in large part was
the re-estimation during 1995 of reinsurance receivables recorded at December
31, 1994, from approximately $66.2 million to approximately $59.9 million at
December 31, 1995.

(5) DISCONTINUED OPERATIONS

During the third quarter of 1993, the Company adopted a plan to discontinue
underwriting commercial property and casualty risks. As a result, the Company
recorded a pre-tax charge to income of $2,991 for estimated operating losses
during the phase-out period.

During the second quarter of 1995, the Company increased its reserves by
approximately $15 million for discontinued operations for accident years 1994
and prior. This increase in claims and claim adjustment expense reserves from
the original estimate at the measurement date resulted from increased frequency
and severity of claims incurred from those years relative to previous
expectations, which in turn caused an increase in the estimated ultimate claims
and claim adjustment expense reserves related to 1994 and prior years.

At December 31, 1997 and 1996, liabilities of discontinued operations
relating to unpaid claim and claim adjustment expenses, off-set by certain
assets, have been reclassified in the balance sheet. Management estimates the
discontinued operations will be "run off" by the year 2000. The assets and
liabilities of discontinued operations are summarized below.

<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1997 1996
------- -------
<S> <C> <C>
Assets:
Reinsurance recoverables.................................. $ 5,937 $ 8,604
Deferred tax asset........................................ 12,904 --
Investments and other assets.............................. -- 17,261
------- -------
Total Assets...................................... $18,841 $25,865
======= =======
Liabilities:
Claims and claim adjustment expense reserves.............. $18,686 $25,466
Other liabilities......................................... 155 399
------- -------
Total Liabilities................................. $18,841 $25,865
======= =======
</TABLE>

F-16
<PAGE> 198
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

(6) INCOME TAXES

Total income tax expense (benefit) for the years ended December 31, 1997,
1996, and 1995 was allocated as follows:

<TABLE>
<CAPTION>
1997 1996 1995
------- ------ -------
<S> <C> <C> <C>
Continuing operations.................................. $ 6,437 $1,597 $ (12)
Dividend accrued on preferred securities............... (1,581) (858) (767)
Discontinued operations................................ -- -- (5,070)
Extraordinary items.................................... (6,643) -- --
------- ------ -------
Total........................................ $(1,787) $ 739 $(5,849)
======= ====== =======
</TABLE>

Income tax expense (benefit) from continuing operations for the years ended
December 31, 1997, 1996, and 1995 is composed of the following amounts:

<TABLE>
<CAPTION>
1997 1996 1995
------ ------ ----
<S> <C> <C> <C>
Current.................................................... $ 4 $ 4 $ 4
Deferred................................................... 6,433 1,593 (16)
------ ------ ----
Total............................................ $6,437 $1,597 $(12)
====== ====== ====
</TABLE>

Taxes computed at the statutory rate of 34% varied from the amounts
reported in the consolidated statements of income at December 31, as follows:

<TABLE>
<CAPTION>
1997 1996 1995
------ ------ -------
<S> <C> <C> <C>
Income taxes at statutory rates......................... $5,869 $1,777 $ 3,974
Effect of tax-exempt interest........................... (10) (22) (15)
Effect of meals and entertainment....................... 42 38 38
Effect of goodwill amortization......................... 353 -- --
Research and development credit......................... 179 (200) --
Change in valuation allowance for tax assets............ -- -- (4,013)
Other................................................... 4 4 4
------ ------ -------
Total......................................... $6,437 $1,597 $ (12)
====== ====== =======
</TABLE>

F-17
<PAGE> 199
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and liabilities at December 31, are
presented below:

<TABLE>
<CAPTION>
1997 1996
-------- --------
<S> <C> <C>
Deferred tax assets:
Original issue discount................................... $ -- $ 5,764
Net operating loss carryforward........................... 43,918 29,062
Alternate minimum tax credit carryforward................. 1,035 701
Loss reserve discounting.................................. 7,787 --
Unearned premium liability................................ 878 660
Policyholder dividends.................................... 466 --
Deferred gain on capital lease............................ 546 --
Unrealized loss on available-for-sale securities.......... -- 84
Research and development credit........................... 21 200
Other..................................................... 403 281
-------- --------
Total gross deferred tax assets........................... 55,054 36,752
Less: Valuation allowance................................. (8,129) --
-------- --------
Total............................................. 46,925 36,752
-------- --------
Deferred tax liabilities:
Loss reserves............................................. -- (9,139)
Discontinued operations................................... (3,039) (1,245)
Reinsurance experience refunds............................ (15,300) (15,300)
Deferred acquisition costs................................ (1,999) (1,034)
Direct collection allowance............................... (799) (510)
Unrealized gain on available-for-sale investments......... (684) --
Reinsurance payable....................................... -- (4)
-------- --------
Total gross deferred tax liabilities...................... (21,821) (27,232)
-------- --------
Net deferred tax asset................................. 25,104 9,520
Net deferred tax asset allocated to discontinued
operations............................................. (12,904) --
-------- --------
Net deferred tax asset -- continuing operations........ $ 12,200 $ 9,520
======== ========
</TABLE>

Management believes it is more likely than not that the existing net
deductible temporary differences will reverse during the periods in which the
Company generates net taxable income. However, there can be no assurance the
Company will generate any earnings or any specific level of continuing earnings
in future years. Certain tax planning strategies could be implemented to
supplement income from operations to fully realize recorded tax benefits.

At December 31, 1997, the Company had a tax net operating loss carryforward
of $130.2 million that begins to expire in the year 2006.

(7) REINSURANCE

Superior Pacific cedes claims and claim adjustment expenses to reinsurers
under various contracts that cover individual risks, classes of business, or
claims that occur during specified periods of time. Reinsurance is ceded on
pro-rata, per-risk, excess-of-loss, and aggregate bases. These reinsurance
arrangements provide greater diversification of risk and limit SNIC's claims
arising from large risks or from hazards of an unusual nature. Superior Pacific
is contingently liable to the extent that any reinsurer becomes unable to meet
its

F-18
<PAGE> 200
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

contractual obligations. Therefore, the Company evaluates the financial
condition of its reinsurers and monitors concentrations of credit risks arising
from reinsurance activities and economic characteristics to minimize its
exposure to significant losses from reinsurer insolvencies.

As of December 31, 1997, SNIC was involved in a dispute with certain of its
reinsurers, which, if not settled, may be resolved in arbitration. SNIC's
dispute exists with its property and casualty reinsurers as to the existence of
coverage related to a claim in the amount of $456. Management expects to recover
the entire disputed amount from the reinsurers. At December 31, 1997, there were
no disputes related to the workers' compensation operations.

Effective June 30, 1991, SNIC entered into an aggregate excess of loss
reinsurance contract ("1991 Contract") with Centre Reinsurance Limited ("Centre
Re"). Under the 1991 Contract, SNIC purchased for $50 million reinsurance for
claims and claim adjustment expenses incurred on or prior to June 30, 1991 to
the extent that these amounts were unpaid at June 30, 1991. The coverage
obtained amounted to $87.5 million in excess of SNIC's retention. Additionally,
SNIC ceded approximately $69.1 million of earned premiums to Centre Re through
December 31, 1992. Claims and claim adjustment expenses occurring prior to
December 31, 1992 were ceded to Centre Re in the amount of $165.6 million under
the 1991 Contract. Prospective cessions of premium and claims were terminated by
mutual consent of SNIC and Centre Re effective December 31, 1992; however, all
other terms of the 1991 Contract remained in effect until the treaty was
commuted in June 1997.

In 1996, as a result of the transaction entered into between the Company,
Centre Re, and Chase Manhattan Bank (see Note 8), the reinsurance receivables
related to the 1991 Contract no longer qualify as reinsurance receivables under
the conditions established in SFAS 113. Therefore, in 1996 the receivables were
reclassified as receivables from reinsurer on the balance sheet.

Effective January 1, 1993, SNIC entered into an aggregate excess of loss
reinsurance contract ("1993 Contract") with Centre Re. From SNIC's perspective,
the 1993 Contract substantively operated as a one-year contract with at least
four one-year options to renew that were exercisable solely at the Company's
election during the first five years of the contract. Subsequent to January 1,
1998, the 1993 Contract could have been terminated by either SNIC or Centre Re
upon 30 days notice. The 1993 Contract required the Company to cede not less
than $15 million and not more than $20 million of premium to Centre Re with
respect to any covered accident year. Claims and allocated claim adjustment
expenses occurring during the accident year are ceded to Centre Re in excess of
a variable percentage of earned premium (60%, 56.5%, and 57.5% for the 1995,
1994, and 1993 accident years, respectively) and are subject to a limit of 130%
of ceded earned premium, such limit not to exceed $26 million for any accident
year. Effective January 1, 1996, the 1993 Contract was canceled at the Company's
election. In 1997, the Company paid $5.3 million related to the cancellation of
the 1993 Contract.

Effective January 1, 1994, SNIC entered into a quota-share reinsurance
contract ("Quota-Share Contract") with Zurich Reinsurance (North America), Inc.,
("ZRNA") an affiliate of Zurich. Under the Quota-Share Contract, ZRNA may
provide Superior Pacific with an Assumption of Liability Endorsement facility
("ALE"), or, effective January 1, 1997, Superior Pacific may write directly on
policy forms of ZC Insurance Company ("ZCIC"), an affiliate of Zurich (the "ZCIC
Front"). The ceding rate under the Quota-Share Contract was 20% for 1994, and
ZRNA and Superior Pacific mutually agreed to reduce the quota-share
participation to 5% for 1995 and 1996. Further, Superior Pacific receives ceding
commissions ranging between 22.5% and 24.5% for premiums ceded to ZRNA. The
purpose of the ceding commission is to cover Superior Pacific's cost of
acquiring new business and may be changed as a result of changes in market
conditions on a quarterly basis.

Effective January 1, 1997, the terms of the Quota-Share Contract were
amended. Under the amended terms of the Quota-Share Contract, ZRNA increased its
participation from 5% of premiums written in 1996

F-19
<PAGE> 201
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

to 6.5% in 1997. In exchange for the increased participation, ZRNA will no
longer receive a separate fee for policies written on ALEs, but will receive 2%
of premiums written on ZCIC Front policies only.

Superior Pacific entered into a reinsurance contract with Centre Re
effective June 30, 1997, under which Centre Re assumed $10 million of reserves
associated with claims open for future medical payments from Superior Pacific in
consideration of $1 million in cash and the assignment of the rights of Superior
Pacific's contribution and subrogation recoveries during the term of the
contract. The contract is accounted for as a deposit, and no gain will be
recognized until net cash payments from Centre Re are greater than Superior
Pacific's $1 million premium.

Superior Pacific's contracts are generally entered into on an annual basis.
Superior Pacific has maintained reinsurance treaties with many reinsurers for a
number of years. In general, Superior Pacific's reinsurance contracts are of the
treaty variety, and cover underwritten risks specified in the treaties. Superior
Pacific also from time to time purchases facultative reinsurance covering
specific liabilities or policies underwritten. As of December 31, 1997, ZRC,
General Reinsurance Corporation, and Allstate Insurance account for 24.5%,
21.6%, and 10.4%, respectively, of total amounts recoverable from all reinsurers
on paid and unpaid claims and claim adjustment expenses.

Amounts included in the income and expense accounts in continuing
operations in connection with all ceded reinsurance at December 31, are as
follows:

<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- -------
<S> <C> <C> <C>
Net Premiums written:
Premiums written.................................. $159,352 $ 99,282 $97,084
Premiums ceded.................................... (22,423) (11,567) (7,945)
-------- -------- -------
Net premiums written........................... $136,929 $ 87,715 $89,139
======== ======== =======
Net change in unearned premiums:
Direct............................................ $ (3,649) $ (645) $ (381)
Ceded............................................. (342) (288) (215)
-------- -------- -------
Net change in unearned premiums................ $ (3,991) $ (933) $ (596)
======== ======== =======
Net claims and claim adjustment expenses:
Claims and claim adjustment expenses.............. $122,830 $ 61,702 $56,388
Reinsurance recoveries............................ (32,383) (6,064) (2,418)
-------- -------- -------
Net claims and claim adjustment expenses....... $ 90,447 $ 55,638 $53,970
======== ======== =======
</TABLE>

(8) LONG-TERM DEBT

The following is a summary of the Company's long-term debt balances at
December 31:

<TABLE>
<CAPTION>
1997 1996
---- -------
<S> <C> <C>
Chase Financing Agreement -- 6.87% due through 2004......... $-- $91,681
Imperial Bank debt -- 8.25% due through 2001................ -- 7,250
Voting Notes due 2002....................................... 30 30
--- -------
Balance at end of period.................................... $30 $98,961
=== =======
</TABLE>

Effective June 30, 1994, the Company entered into a $10 million term loan
agreement ("1994 Loan") with Imperial Bank, which was used to retire
subordinated notes issued during 1992. This term loan was to be fully amortized
over seven years with quarterly payments of $300 plus interest per quarter for
years one and two, $350 plus interest per quarter for years three and four, and
$400 plus interest per quarter for years five, six

F-20
<PAGE> 202
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

and seven. Effective July 1, 1995, the borrowing rate was changed from Imperial
Bank's prime rate plus one-half percent to a fixed rate of 8% per annum.
Additionally, under the amended terms of the 1994 Loan, the Company could not
prepay it until July 1, 1996.

The Company adhered to certain requirements and provisions in compliance
with the terms of the 1994 Loan. The provisions required SNIC to maintain
certain financial ratios and SNIG to maintain Imperial Bank certificates of
deposit in an amount equal to 20% of the Company's outstanding balance under the
1994 Loan. At December 31, 1996, the Imperial Bank certificates of deposit were
$1.5 million, all of which was restricted. On April 11, 1997, the Company
retired its outstanding 1994 Loan with Imperial Bank. As a result of the early
extinguishment, the Company recognized an extraordinary loss of $0.2 million,
net of a tax benefit of $0.1 million.

During 1996, the Company entered into a financing transaction involving
Centre Re and Chase. Chase extended a $93.1 million term loan (net of
transaction costs). The Company used the proceeds from the financing to purchase
from SNIC reinsurance receivables due from Centre Re. The principal balance of
the loan was collateralized by receivables due from the reinsurer and amortized
based upon the payout pattern of the underlying claims of the reinsurance
receivables. In June 1997, the $93.1 million term loan was retired, offsetting
the entire amount due against the reinsurance receivable balance. The retirement
of this collateralized financing resulted in the Company's recognizing a $10.3
million extraordinary loss, net of income taxes.

Voting notes ("Voting Notes") in the amount of $30 related to SNIG's 14.5%
Senior Subordinated Series A and Series B Notes ("14.5% Senior Subordinated
Notes") were still outstanding as of December 31, 1997. The 14.5% Senior
Subordinated Notes were retired in 1994. The Voting Notes of $30 will mature in
the year 2002. Warrants related to the 14.5% Senior Subordinated Notes remain
outstanding and provide their holders the right to purchase 1,566,465 shares of
SNIG common stock at a strike price of $4 per share. These warrants, which are
currently exercisable and expire on April 1, 2002, are held by senior management
and a nominee for III.

The Company has an agreement with a national brokerage house to allow it to
enter into $20 million of reverse repurchase transactions that must be secured
by either U.S. treasuries, government agency bonds, or corporate debt. There
were no outstanding transactions at December 31, 1997.

(9) PREFERRED SECURITIES ISSUED BY AFFILIATES

On June 30, 1994, SNIG completed the sale of $20 million of preferred
securities and warrants to affiliates of Centre Re in a transaction approved by
the shareholders and the California Department of Insurance ("DOI"). The
preferred securities were subordinate to the 1994 Loan. A special purpose
investment partnership, Superior National Capital, L.P. (the "Limited
Partnership"), was formed in Bermuda to issue $20 million face amount of 9.7%
redeemable preferred securities ("1994 Preferred Securities") to Centre
Reinsurance Services (Bermuda) III, Limited in exchange for $18 million.
CentreLine Reinsurance Limited paid the Company $2 million for warrants to
purchase 579,357 shares of SNIG's common shares at $5.20 per share, representing
a fully-diluted 10 percent interest in SNIG. The warrants may be exercised at
any time and expire in 2002.

In December 1997, SNIG formed a trust, whose sole purpose was to issue
10 3/4% Trust Preferred Securities (the "Trust Preferred Securities"), having an
aggregate liquidation amount of $105 million, and to invest the proceeds thereof
in an equivalent amount of 10 3/4% Senior Subordinated Notes due 2017 of the
Company (the "Senior Subordinated Notes"). The Company owns directly all of the
common securities issued by the Trust, which it purchased for an aggregate
consideration of $3.25 million. The proceeds from the sale of the Trust
Preferred Securities were used solely to purchase SNIG's Senior Subordinated
Notes. In addition, the Company entered into several contractual undertakings,
that when taken together, guarantee to the holders of the Trust Preferred
securities an unconditional right to enforce the payment of the distributions

F-21
<PAGE> 203
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

with respect to such securities. Holders of the Trust Preferred Securities are
entitled to receive cumulative cash distributions at an annual rate of 10 3/4%
of the stated liquidation amount of $1,000 per Trust Preferred Security,
accruing from the date of original issuance of the Trust Preferred Securities
and payable semi-annually, in arrears, commencing on June 1, 1998. The Company
has the right to defer payments at any time or from time to time for a period
not exceeding 10 consecutive semi-annual periods, provided that no extension
period may extend beyond the stated maturity date. In the event there is a
change in control, holders of the Trust Preferred Securities may redeem their
securities at 101% of the principal.

The Company used the net proceeds from the sale of the 10 3/4% Senior
Subordinated Notes in the amount of approximately $101.2 million, (i) to repay
outstanding debt, consisting of $40.8 million of bank debt and interest incurred
in connection with the acquisition of Pac Rim that would have matured in April
2003, bearing an average effective interest rate of 10.2%, (ii) to redeem from
an affiliate of Zurich $27.7 million Preferred of principal and interest, with
an effective rate of 11.7%, of the 1994 Securities, and (iii) to make a $15
million capital contribution to SNIC. The remaining proceeds are invested in
short-term, income-generating, investment-grade securities.

The difference between the face value and the carrying value of the Trust
Preferred Securities is amortized over their nineteen-year maturity using the
scientific method. The amortization, net of tax benefits and accrued dividends,
is charged to current year income after continuing operations, net of taxes.

The following is a summary of the preferred securities balance as of
December 31:

<TABLE>
<CAPTION>
1997 1996
-------- -------
<S> <C> <C>
Beginning balance........................................... $ 23,571 $21,045
Dividends and accretion..................................... 3,709 2,526
Retirement of 1994 Preferred Securities..................... (27,275) --
Issuance of Trust Preferred Securities...................... 101,272 --
-------- -------
Balance at end of period.................................... $101,277 $23,571
======== =======
</TABLE>

(10) STATUTORY SURPLUS AND DIVIDEND RESTRICTIONS

SNIC and SPCC are domiciled in the State of California and prepare their
statutory financial statements in accordance with accounting practices
prescribed or permitted by the DOI. Prescribed statutory accounting practices
include a variety of publications of the National Association of Insurance
Commissioners ("NAIC"), as well as state laws, regulations, and general
administrative rules. Permitted statutory accounting practices encompass all
accounting practices not so prescribed.

SNIC's statutory policyholders' surplus as reported to regulatory
authorities was $71,663 and $51,998 at December 31, 1997, and 1996,
respectively. SNIC's statutory net income, as reported to regulatory
authorities, was $2,888, $791 and $1,050 for the years ended December 31, 1997,
1996, and 1995 respectively.

SPCC's statutory policyholders' surplus as reported to regulatory
authorities was $30,542 and $20,930 at December 31, 1997 and 1996, respectively.
SPCC's statutory net income, as reported to regulatory authorities, was
$(6,074), $(13,069), and $4,879 for the years ended December 31, 1997, 1996, and
1995 respectively.

Insurance companies are subject to insurance laws and regulations
established by the states in which they transact business. The laws of various
states establish supervisory agencies with broad administrative and supervisory
powers. Most states have also enacted legislation regulating insurance holding
company systems, including acquisitions, extraordinary dividends, the terms of
affiliate transactions, and other related matters. The Company and Superior
Pacific have registered as holding company systems pursuant to such legislation
in California. The NAIC has formed committees and appointed advisory groups to
study and formulate regulatory proposals on such diverse issues as the use of
surplus debentures and accounting for reinsurance

F-22
<PAGE> 204
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

transactions. It is not possible to predict the future impact of changing state
and federal regulation on the operations of the Company and Superior Pacific.

The Risk Based Capital Model ("RBC") for property and casualty insurance
companies was adopted by the NAIC in December 1993, and starting in 1995,
companies were required to report their RBC ratios to the NAIC. SNIC and SPCC
have calculated and met their RBC requirements.

Insurance companies are also subject to restrictions affecting the amount
of stockholder dividends and advances that may be paid within any one year
without the prior approval of the DOI. The California Insurance Code provides
that the maximum amount that may be paid as dividends on an annual noncumulative
basis without prior notice to, or approval by, the DOI is the greater of (1) net
income for the preceding year or (2) 10% of statutory surplus as regards
policyholders as of the preceding December 31. At December 31, 1997, SNIC and
SPCC could pay approximately $7.2 million and $3.1 million, respectively, in
dividends and advances to the Company without the DOI's prior approval based on
10% of reported statutory surplus.

In 1995, after receiving prior approval from the DOI, SNIC made an
extraordinary dividend distribution to SNIG of 100% of its shares in Superior
(Bermuda) Limited, which represented $15 million of SNIC's statutory capital and
surplus.

(11) EMPLOYEE BENEFIT PLANS

SNIG has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25") and related
Interpretations in accounting for its employee stock options. As discussed below
in management's opinion, the alternative fair value accounting provided for
under SFAS 123, requires use of option valuation models that were not developed
for use in valuing employee stock options. Under APB 25, because the exercise
price of the Company's employee stock options equals the market price of the
underlying stock on the date of the grant, no compensation expense is
recognized.

SNIG has two equity option plans, the 1986 Stock Option Plan ("1986 Plan")
and the 1995 Stock Incentive Plan ("1995 Plan"). The terms of the 1986 Plan
permit SNIG, at the Board of Directors' discretion, to grant options to its
management to purchase up to 225,000 shares of common stock. Options granted
under the 1986 Plan are not intended to qualify as incentive stock options
within the meaning of Section 422 of the Internal Revenue Code ("Code"). The
1995 Plan permits the granting of both options that qualify for treatment as
incentive stock options under Section 422 of the Code and options that do not
qualify as incentive stock options. Under the 1995 Plan, officers and key
employees of the Company may be granted options to purchase shares of SNIG
common stock or may be given the opportunity to receive restricted stock of
SNIG. Under the 1995 Plan, the aggregate number of shares of common stock that
may be granted, either through the exercise of options or the issuance of
restricted stock, is 625,000 shares. Under both plans, the exercise price of
each option equals the market price of SNIG's stock on the date of grant and
options have a maximum term of ten years. The Board of Directors may grant
options at any point during a year and the options generally vest over five
years.

Pro forma information regarding net income and earnings per share is
required by SFAS 123, and has been determined as if the Company had accounted
for its employee stock options under the fair value method of that Statement.
The fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions. The risk free interest rate used in the calculation is the 10 year
Treasury Note rate on the date the options were granted. The risk free interest
rate range used for options granted during 1997, 1996, and 1995 was 5.8% to
6.9%, 6% to 6.79%, and 6% to 7.11%, respectively. The volatility factors for the
expected market price of the common stock of 65%, 70%, and 77% were used for
options granted in 1997, 1996, and 1995 respectively. A weighted average
expected life of ten years was used as the Company has little history of
options' being exercised prior to their expiration.

F-23
<PAGE> 205
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options that do not have 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 stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the value of an 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.

For purposes of pro forma disclosures, the estimated fair value of the
options is amortized into expense over the options' vesting period. The
Company's pro forma information follows (in thousands except for earnings per
share information):

<TABLE>
<CAPTION>
1997 1996
------- ------
<S> <C> <C>
Pro forma net income........................................ $(5,366) $1,857
Pro forma earnings per share
Basic..................................................... (1.02) 0.54
Diluted................................................... $ (0.77) $ 0.38
</TABLE>

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

<TABLE>
<CAPTION>
1997 1996 1995
-------------------------- -------------------------- --------------------------
WEIGHTED- WEIGHTED- WEIGHTED-
NUMBER AVERAGE NUMBER AVERAGE NUMBER AVERAGE
OF SHARES EXERCISE PRICE OF SHARES EXERCISE PRICE OF SHARES EXERCISE PRICE
--------- -------------- --------- -------------- --------- --------------
<S> <C> <C> <C> <C> <C> <C>
Stock options outstanding
beginning of year......... 389,516 $ 5.13 252,500 $4.90 138,750 $4.47
Stock options granted....... 132,257 12.43 146,516 5.46 135,000 5.20
Stock options exercised..... (22,127) 4.74 (3,100) 4.00 (500) 4.00
Stock options canceled...... (38,567) 5.94 (6,400) 4.61 (20,750) 4.00
-------- -------- --------
Stock options outstanding,
end of year............... 461,079 $ 7.17 389,516 $5.13 252,500 $4.90
======== ====== ======== ===== ======== =====
Exercisable at end of
year...................... 152,525 -- 102,200 -- 56,690 --
Weighted-average fair value
of options granted during
the year.................. $ 9.76 $ 4.41 $ 4.40
</TABLE>

F-24
<PAGE> 206
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Exercise prices for options outstanding as of December 31, 1997 ranged from
$4 to $14.875. The weighted-average remaining contractual life of those options
is 8.3 years. Since the range of exercise prices is wide, the following is a
summary of information for each exercise price range:

<TABLE>
<CAPTION>
WEIGHTED-AVERAGE
NUMBER WEIGHTED-AVERAGE NUMBER OF EXERCISE PRICE
OF OPTIONS REMAINING OPTIONS (SHARES) OF CURRENTLY
EXERCISE PRICE (SHARES) WEIGHTED-AVERAGE CONTRACTUAL LIFE CURRENTLY EXERCISABLE
RANGE OUTSTANDING EXERCISE PRICE (YEARS) EXERCISABLE OPTIONS
- --------------- ----------- ---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C> <C>
$ 4.00-$ 4.99 111,566 $ 4.54 7.56 48,261 $ 4.25
$ 5.00-$ 5.99 176,450 5.18 7.68 95,130 5.18
$ 6.00-$ 6.99 40,112 6.25 9.00 7,864 6.25
$ 7.00-$11.99 28,850 10.89 9.85 770 7.70
$12.00-$12.99 81,851 12.16 10.00 500 12.75
$13.00-$14.99 22,250 14.64 10.00 -- --
------- -------
461,079 $ 7.17 8.30 152,525 $ 4.98
======= ====== ===== ======= ======
</TABLE>

The following is a summary of the transactions under the 1986 Plan for the
years ended December 31:

<TABLE>
<CAPTION>
1997 1996 1995
----------------------- ----------------------- -----------------------
NUMBER OPTION NUMBER OPTION NUMBER OPTION
OF SHARES PRICE OF SHARES PRICE OF SHARES PRICE
--------- ----------- --------- ----------- --------- -----------
<S> <C> <C> <C> <C> <C> <C>
Stock options
outstanding beginning
of year.............. 120,000 $4.00-$5.20 127,500 $4.00-$5.20 138,750 $4.00-$5.20
Stock options
granted.............. -- -- -- -- 10,000 5.20
Stock options
exercised............ (9,125) 4.00 (3,100) 4.00 (500) 4.00
Stock options
canceled............. (2,125) 4.00 (4,400) 4.00-5.20 (20,750) 4.00
------- ------- ---------
Stock options
outstanding, end of
year................. 108,750 $4.00-$5.20 120,000 $4.00-$5.20 127,500 $4.00-$5.20
======= =========== ======= =========== ========= ===========
</TABLE>

At December 31, 1997, 72,475 vested options were exercisable under the 1986
Plan. No additional options or purchase rights will be granted under the 1986
Plan.

The following is a summary of the transactions under the 1995 Plan for the
years ended December 31:

<TABLE>
<CAPTION>
1997 1996 1995
------------------------- ----------------------- ------------------
NUMBER OPTION NUMBER OPTION NUMBER OPTION
OF SHARES PRICE OF SHARES PRICE OF SHARES PRICE
--------- ------------- --------- ----------- --------- ------
<S> <C> <C> <C> <C> <C> <C>
Stock Options:
Stock options
outstanding
beginning of
year............ 269,516 $5.20-$7.70 125,000 $5.20 -- --
Stock options
granted......... 132,257 11.375-14.875 146,516 5.20-7.70 125,000 $5.20
Stock options
exercised....... (13,002) 4.87-7.70 -- -- -- --
Stock options
canceled........ (36,442) 4.87-12.125 (2,000) 5.20 -- --
------- ------- -------
Stock options
outstanding end
of year......... 352,329 $4.87-$14.875 269,516 $5.20-$7.70 125,000 $5.20
======= ============= ======= =========== ======= =====
</TABLE>

F-25
<PAGE> 207
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

<TABLE>
<CAPTION>
1997 1996 1995
------------------------- ----------------------- ------------------
NUMBER OPTION NUMBER OPTION NUMBER OPTION
OF SHARES PRICE OF SHARES PRICE OF SHARES PRICE
--------- ------------- --------- ----------- --------- ------
<S> <C> <C> <C> <C> <C> <C>
Restricted Options:
Shares outstanding
beginning of
year............ 69,265 $4.87-$6.25 36,350 $5.20 -- $--
Shares granted..... 36,450 12.125 45,934 4.87-6.25 36,350 5.20
Shares issued...... (12,222) 4.87-12.125 (13,019) 4.87-5.20 -- --
Shares canceled.... (9,813) 4.87-12.125 -- -- -- --
------- ------- -------
Shares outstanding
end of year..... 83,680 $4.87-$12.125 69,265 $4.87-$6.25 36,350 $5.20
======= ============= ======= =========== ======= =====
</TABLE>

At December 31, 1997, 80,050 vested options were exercisable under the 1995
Plan. Shares available for future grants under the 1995 Plan at December 31,
1997 were 188,991.

Effective January 1, 1990, the Company implemented a 401(k) Plan ("Company
Plan") which is available for substantially all employees and under which the
Company matches a percentage of the participant's compensation. The employer
contributions are discretionary and vest over a five year period. The employer
contributions for plan years 1997, 1996, and 1995 were $186, $170, and $150,
respectively.

The Company has no formal post-employment retirement benefit plans;
however, the Company has entered into severance contracts with certain former
employees for which approximately $366, $48, and $322 of accrued expenses were
recorded at December 31, 1997, 1996, and 1995, respectively.

The Pac Rim Assurance Company 401(k) Plan ("Pac Rim Plan") permits
employees of Pac Rim who attain the age of 21 and complete 30 days of employment
to elect to make tax-deferred contributions of a specified percentage of their
compensations during each year through payroll deductions. As of December 31,
1997, there were 38 participants in the Pac Rim Plan employed by the Company.
Under the Pac Rim Plan, the Company, as successor to Pac Rim, has discretion to
make additional contributions. The Company made a $200 discretionary employer
contribution to the Pac Rim Plan in April 1997. The Company plans to merge the
Pac Rim Plan into the Company Plan by the end of December 31, 1998.

(12) COMMITMENTS

The Company occupies offices under various operating leases and leases
substantially all of its fixed assets through a capital lease. The future
minimum lease payments at December 31, 1997, are as follows:

<TABLE>
<CAPTION>
OPERATING CAPITAL INTEREST ON CAPITAL TOTAL LEASE
COMMITMENTS COMMITMENTS COMMITMENTS COMMITMENTS
----------- ----------- ------------------- -----------
<S> <C> <C> <C> <C>
1998........................ $ 4,655 $1,659 $ 685 $ 6,999
1999........................ 4,681 2,005 552 7,238
2000........................ 3,414 2,232 325 5,971
2001........................ 3,083 1,797 16 4,896
2002........................ 1,279 -- -- 1,279
------- ------ ------ -------
$17,112 $7,693 $1,578 $26,383
======= ====== ====== =======
</TABLE>

Rental expenses totaled approximately $4,020, $1,918, and $1,772 for the
years ended December 31, 1997, 1996, and 1995 respectively.

Effective December 1, 1997, the Company entered into an $8,000 capital
lease with BancBoston for substantially all of the property and equipment of
both SNIC and SPCC acquired on or before March 31, 1997. The transaction
resulted in a deferred gain of $1,651 that will be amortized over 36 months.

F-26
<PAGE> 208
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

In a transaction associated with the sale of the 14.5% Senior Subordinated
Notes to III, the Company and SNIC agreed to pay International Insurance
Advisors, Inc., agent for each of the III limited partners and for the general
partner of III, a consulting fee in the amount of $250 beginning on April 1,
1993, and on each April 1 thereafter, to and including April 1, 1998. The
retirement of the 14.5% Senior Subordinated Notes in 1994 did not affect the
obligation of the Company and SNIC to pay the consulting fee.

(13) LITIGATION

The Company is subject to various litigation which arises in the ordinary
course of business. Management is of the opinion that such litigation will not
have a material adverse effect on the consolidated financial position of the
Company or its consolidated results of operations.

(14) PREPAID AND OTHER ASSETS

A summary of prepaid and other assets at December 31, are as follows:

<TABLE>
<CAPTION>
1997 1996
------- ------
<S> <C> <C>
Furniture and fixtures, net................................. $ 7,970 $1,260
Data processing equipment, net.............................. 71 3,560
Prepaid and advances........................................ 2,178 1,091
Funds due from lender....................................... 8,000 --
Other....................................................... 2,887 1,453
------- ------
$21,106 $7,364
======= ======
</TABLE>

(15) ACCOUNTS PAYABLE AND OTHER LIABILITIES

A summary of accounts payable and other liabilities at December 31, are as
follows:

<TABLE>
<CAPTION>
1997 1996
------- -------
<S> <C> <C>
Escheatment payable......................................... $ 1,401 $ 333
Rent and lease liability.................................... 371 527
Accounts payable............................................ 15,526 8,683
Liabilities associated with Pac Rim acquisition............. 7,608 --
Other liabilities........................................... 3,962 3,198
------- -------
$28,868 $12,741
======= =======
</TABLE>

F-27
<PAGE> 209
SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

(16) EARNINGS PER SHARE RECONCILIATION

The following is an illustration of the reconciliation of the numerators
and denominators of the basic and diluted earnings per share (EPS) computations:
<TABLE>
<CAPTION>
FOR THE YEAR ENDED 1997 FOR THE YEAR ENDED 1996
------------------------------------------ ------------------------------------------
INCOME SHARES PER SHARE INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- --------- -------------- ------------- ---------
(IN THOUSANDS) (IN THOUSANDS
<S> <C> <C> <C> <C> <C> <C>
BASIC EPS
Income before items
below................. $ 10,824 5,249,736 $ 2.06 $ 3,630 3,432,679 $ 1.06
Preferred Securities.... (3,069) (0.58) (1,667) (0.49)
Discontinued
Operations............ -- -- -- --
Extraordinary Items..... (12,896) (2.46) -- --
-------- ------ ------- ------
Net Income.............. $ (5,141) $(0.98) $ 1,963 $ 0.57
======== ====== ======= ======
EFFECT OF DILUTIVE
SECURITIES
Options................. 295,065 266,183
Warrants................ 1,471,364 1,167,178
DILUTED EPS
Income before items
below................. $ 10,824 7,016,165 $ 1.54 $ 3,630 4,826,040 $ 0.75
Preferred Securities.... (3,069) (0.44) (1,667) (0.34)
Discontinued
Operations............ -- -- -- --
Extraordinary Items..... (12,896) (1.84) -- --
-------- ------ ------- ------
Net Income............... $ (5,141) $(0.74) $ 1,963 $ 0.41
======== ====== ======= ======

<CAPTION>
FOR THE YEAR ENDED 1995
------------------------------------------
INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
-------------- ------------- ---------
(IN THOUSANDS)
<S> <C> <C> <C>
BASIC EPS
Income before items
below................. $11,701 3,429,915 $ 3.41
Preferred Securities.... (1,488) (0.43)
Discontinued
Operations............ (9,842) (2.87)
Extraordinary Items..... -- --
------- ------
Net Income.............. $ 371 $ 0.11
======= ======
EFFECT OF DILUTIVE
SECURITIES
Options................. 47,052
Warrants................ 464,627
DILUTED EPS
Income before items
below................. $11,701 3,941,594 $ 2.97
Preferred Securities.... (1,488) (0.38)
Discontinued
Operations............ (9,842) (2.50)
Extraordinary Items..... -- --
------- ------
Net Income............... $ 371 $ 0.09
======= ======
</TABLE>

Options to purchase 1,250 shares at $14.81, 12,500 shares at $14.875, 7,250
shares at $14.25, and 1,250 shares at $14.31 were outstanding during the last
quarter of 1997 but were not included in the computation of diluted EPS because
the options' exercise price was greater than the average market price of the
common shares. The options, which expire in 2002, were still outstanding at the
end of year 1997.

F-28
<PAGE> 210

SCHEDULE I.1

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONDENSED FINANCIAL INFORMATION OF REGISTRANT
SUPERIOR NATIONAL INSURANCE GROUP, INC.
BALANCE SHEET

<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1997 1996
--------- ---------
(AMOUNTS IN THOUSANDS,
EXCEPT SHARE DATA)
<S> <C> <C>
ASSETS
INVESTMENTS
Bonds and Notes:
Available-for-sale, at market (cost: 1997, $7,539)........ $ 7,533 $ --
Cash and short-term instruments (certificates of deposit
and other short-term instruments)...................... 5,404 1,787
-------- --------
TOTAL INVESTMENTS................................. 12,937 1,787
Accrued investment income................................. 38 1
Receivable from reinsurer................................. -- 110,527
Investment in subsidiaries................................ 168,856 72,788
Intercompany receivable................................... 91 91
Deferred income taxes..................................... 1,884 4,957
Other..................................................... 174 1,087
-------- --------
TOTAL ASSETS...................................... $183,980 $191,238
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Long-term debt.............................................. $ 30 $ 98,961
Intercompany liability...................................... 21,462 23,465
Accounts payable and other liabilities...................... 1,393 50
-------- --------
TOTAL LIABILITIES................................. 22,885 122,476
-------- --------
1997 PREFERRED SECURITIES ISSUED BY AFFILIATE;
authorized 105,000 shares in 1997......................... 101,277 --
1994 PREFERRED SECURITIES ISSUED BY AFFILIATE;
authorized 1,100,000 shares: issued and outstanding
1,013,753 shares in 1996.................................. -- 23,571

STOCKHOLDERS' EQUITY
Common stock, $0.01 par value; authorized 25,000,000 shares:
issued and outstanding 5,871,279 shares in 1997 and
3,446,492 shares in 1996.................................. 59 34
Paid-in capital excess of par............................... 34,242 15,988
Paid in capital -- warrants................................. 2,206 2,206
Unrealized gain on equity securities, net of taxes.......... 112 (17)
Unrealized gain (loss) on available-for-sale investments,
net of income taxes....................................... 1,215 (145)
Retained earnings........................................... 21,984 27,125
-------- --------
TOTAL STOCKHOLDERS' EQUITY........................ 59,818 45,191
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY........ $183,980 $191,238
======== ========
</TABLE>

See notes to condensed financial information
F-29
<PAGE> 211

SCHEDULE I.2

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONDENSED FINANCIAL INFORMATION OF REGISTRANT
SUPERIOR NATIONAL INSURANCE GROUP, INC.
STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
TWELVE MONTHS ENDED
DECEMBER 31,
------------------------------
1997 1996 1995
-------- ------- -------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
REVENUES:
Net investment income..................................... $ (112) $ 89 $ 330
-------- ------- -------
TOTAL REVENUES.................................... (112) 89 330
EXPENSES:
Interest expense.......................................... 5,965 1,465 804
Other operating expenses.................................. 518 (446) 304
-------- ------- -------
TOTAL EXPENSES.................................... 6,483 1,019 1,108
-------- ------- -------
LOSS BEFORE INCOME TAXES, PREFERRED SECURITIES DIVIDENDS AND
ACCRETION, AND EXTRAORDINARY ITEMS........................ (6,595) (930) (778)
Income tax expense.......................................... 8,246 858 767
-------- ------- -------
INCOME BEFORE PREFERRED SECURITIES DIVIDENDS AND ACCRETION,
AND EXTRAORDINARY ITEMS................................... (14,841) (1,788) (1,545)
Equity in net income of subsidiaries........................ 25,709 5,418 3,404
1994 Preferred securities dividends and accretion, net of
income tax benefit of $1,260 and $858 in 1997 and 1996,
respectively.............................................. (2,445) (1,667) (1,488)
1997 Preferred securities dividends and accretion, net of
income tax benefit of $321 in 1997........................ (624) -- --
Extraordinary loss on retirement of long-term debt, net of
income tax benefit of $5,338 in 1997...................... (10,361) -- --
Extraordinary loss on retirement of long-term debt, net of
income tax benefit of $785 in 1997........................ (1,524) -- --
Extraordinary loss on redemption of Pac Rim's outstanding
debentures, net of income tax benefit of $327 in 1997..... (635) -- --
Extraordinary loss on retirement of preferred securities,
net of income tax benefit of $134 in 1997................. (259) -- --
Extraordinary loss on early retirement of Imperial Bank Loan
net of income tax benefit of $83 in 1997.................. (161) -- --
-------- ------- -------
NET INCOME (LOSS)................................. $ (5,141) $ 1,963 $ 371
======== ======= =======
</TABLE>

See notes to condensed financial information
F-30
<PAGE> 212

SCHEDULE I.3

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONDENSED FINANCIAL INFORMATION OF REGISTRANT
SUPERIOR NATIONAL INSURANCE GROUP, INC.
STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
TWELVE MONTHS ENDED
DECEMBER 31,
------------------------------
1997 1996 1995
-------- --------- -------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income......................................... $ (5,141) $ 1,963 $ 371
-------- --------- -------
Adjustments to reconcile net (loss) income to net cash
used in operating activities:
Amortization of bonds and preferred stock............... -- -- (1)
Loss on sale of investment.............................. 7 5 --
Income from subsidiaries................................ (25,709) (5,418) (3,404)
Extraordinary loss...................................... 12,940 -- --
Interest expense on long-term debt...................... 3,581 -- --
Preferred securities dividends and accretion............ 3,069 2,525 2,255
Increase in current income taxes........................ -- -- 1,721
(Increase) decrease in accrued investment income........ (37) 8 1
Decrease in deferred income taxes....................... 8,247 -- --
(Increase) decrease in other assets..................... 2,209 (994) (11)
Increase in accounts payable and other liabilities...... 446 19,334 78
-------- --------- -------
Total adjustments..................................... 4,753 15,460 639
-------- --------- -------
Net cash (used in) provided by operating activities... (388) 17,423 1,010
-------- --------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Paid-in-capital -- restricted stock....................... 279 78 2
Proceeds from issuance of common stock.................... 18,000 -- --
Proceeds from 1997 Trust Preferred Securities............. 101,272 -- --
Long-term debt -- Chase Manhattan Bank.................... 41,257 -- --
Retirement of long-term debt -- Chase Manhattan Bank...... (44,000) -- --
Retirement of 1994 Preferred Securities................... (27,668) -- --
Retirement of long-term debt -- Imperial Bank............. (7,250) (1,250) (1,200)
Prepayment penalty on long-term debt...................... (244) -- --
Proceeds from Chase financing............................. -- 93,091 --
Retirement of long-term debt -- Chase Financing........... -- (1,410) --
-------- --------- -------
Net cash provided by (used in) financing activities... 81,646 90,509 (1,198)
-------- --------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of bonds and notes:
Investments available-for-sale.......................... (7,539) -- (1,496)
Increase in receivable from reinsurer................... -- (110,527) --
Purchase of Pacific Rim Holding Company................... (44,016) -- --
Investment in subsidiary.................................. (1,175) -- --
Sales of bonds and notes: Investments available for
sale.................................................... -- 1,493 --
Capital contribution to subsidiaries...................... (25,000) -- (1,500)
Net decrease in invested cash............................. 89 -- --
-------- --------- -------
Net cash used in investing activities................. (77,641) (109,034) (2,996)
-------- --------- -------
Net increase (decrease) in cash....................... 3,617 (1,102) (3,184)
Cash and invested cash at beginning of period............. 1,787 2,889 6,073
-------- --------- -------
Cash and invested cash at end of period................... $ 5,404 $ 1,787 $ 2,889
======== ========= =======
Supplemental disclosure of cash flow information:
Cash paid during the year for income taxes.............. $ 1 $ 1 $ 1
======== ========= =======
Cash paid during the year for interest.................. $ 2,433 $ 641 $ 808
======== ========= =======
</TABLE>

See notes to condensed financial information
F-31
<PAGE> 213

SCHEDULE I.4

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

CONDENSED FINANCIAL INFORMATION OF REGISTRANT
SUPERIOR NATIONAL INSURANCE GROUP, INC.
NOTES TO CONDENSED FINANCIAL INFORMATION

1. BASIS OF PRESENTATION

In accordance with the requirements of Regulation S-X of the Securities and
Exchange Commission, the financial statements of the registrant are condensed
and omit many disclosures presented in the consolidated financial statements and
the notes thereto.

2. LONG TERM DEBT

The following is a summary of the long-term debt balances at December 31:

<TABLE>
<CAPTION>
1997 1996
---- -------
<S> <C> <C>
Chase Financing Agreement -- 6.87% due through 2004......... $-- $91,681
Imperial Bank Debt -- 8.25% due through 2001................ -- 7,250
Voting Notes due 2002....................................... 30 30
--- -------
Balance at end of period.................................... $30 $98,961
=== =======
</TABLE>

The voting notes of $30 will mature in the year 2002.

3. DIVIDENDS FROM SUBSIDIARIES

During 1997, 1996, and 1995, there were no dividends paid to SNIG by its
consolidated subsidiaries; however SNIC paid SNIG $2.9 million for its current
income taxes.

4. CONTINGENCIES

The Company is subject to various litigation which arises in the ordinary
course of business. Based upon discussions with counsel, management is of the
opinion that such litigation will not have a material adverse effect on the
consolidated financial position of the Company or its consolidated results of
operations.

5. RECONCILIATION -- RECEIVABLE FROM REINSURER

The following is a reconciliation between the Condensed Financial
Information of Registrant Balance Sheet and the Consolidated Balance Sheet for
Receivable from reinsurer.

<TABLE>
<CAPTION>
RECEIVABLE FROM
REINSURER
----------------
1997 1996
---- --------
<S> <C> <C>
Balance per Consolidated Balance Sheet...................... $-- $ 93,266
Add: Elimination for Discontinued Operations................ -- 17,261
--- --------
Balance per Condensed Balance Sheet......................... $-- $110,527
=== ========
</TABLE>

F-32
<PAGE> 214

SCHEDULE II

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

VALUATION AND QUALIFYING ACCOUNTS AND RESERVES

<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
-------- ---------- ------------------------- ---------- ---------
ADDITIONS
-------------------------
BALANCE AT CHARGED TO CHARGED TO BALANCE
BEGINNING COSTS OTHER AT END
OF PERIOD AND EXPENSES ACCOUNTS DEDUCTIONS OF PERIOD
---------- ------------ ---------- ---------- ---------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1997
Allowance for possible losses on
premiums receivable............... $300 $2,311 -- $(1,811) $800
==== ====== ===== ======= ====
Allowance for possible losses on
reinsurance recoverable........... -- -- -- -- --
==== ====== ===== ======= ====
Year ended December 31, 1996
Allowance for possible losses on
premiums receivable............... $500 $1,369 -- $(1,569) $300
==== ====== ===== ======= ====
Allowance for possible losses on
reinsurance recoverable........... -- -- -- -- --
==== ====== ===== ======= ====
Year ended December 31, 1995
Allowance for possible losses on
premiums receivable............... $900 $1,531 -- $(1,931) $500
==== ====== ===== ======= ====
Allowance for possible losses on
reinsurance recoverable........... -- -- -- -- --
==== ====== ===== ======= ====
</TABLE>

F-33
<PAGE> 215

SCHEDULE V.1

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

SUPPLEMENTAL INSURANCE INFORMATION
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H
-------- ----------- -------------- -------- ------------ -------- ---------- ----------
FUTURE POLICY BENEFITS,
DEFERRED BENEFITS, OTHER POLICY CLAIMS,
POLICY LOSSES, CLAIMS CLAIMS AND NET LOSSES AND
ACQUISITION AND LOSS UNEARNED BENEFITS PREMIUM INVESTMENT SETTLEMENT
COSTS EXPENSES PREMIUM PAYABLE REVENUE INCOME EXPENSES
----------- -------------- -------- ------------ -------- ---------- ----------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
1997
Workers' Compensation.......... $5,879 $201,255 $12,913 $ -- $140,920 $12,674 $90,447
====== ======== ======= ====== ======== ======= =======
1996
Workers Compensation........... $3,042 $115,529 $ 9,702 $ -- $ 88,648 $ 7,769 $55,638
====== ======== ======= ====== ======== ======= =======
1995
Workers' Compensation.......... $2,780 $141,495 $10,347 $ -- $ 89,735 $ 9,784 $53,970
====== ======== ======= ====== ======== ======= =======

<CAPTION>
COLUMN A COLUMN I COLUMN J COLUMN K
-------- ------------ --------- --------
AMORTIZATION
OF DEFERRED
POLICY OTHER
ACQUISITION OPERATING PREMIUMS
COSTS EXPENSES WRITTEN
------------ --------- --------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
1997
Workers' Compensation.......... $19,977 $25,909 $136,929
======= ======= ========
1996
Workers Compensation........... $16,870 $24,609 $ 87,715
======= ======= ========
1995
Workers' Compensation.......... $18,288 $21,314 $ 89,139
======= ======= ========
</TABLE>

F-34
<PAGE> 216

SCHEDULE V.2

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

REINSURANCE

<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
-------- -------- --------- ------------ -------- -------------
PERCENTAGE OF
CEDED TO ASSUMED FROM AMOUNT
GROSS OTHER OTHER NET ASSUMED
AMOUNT COMPANIES COMPANIES AMOUNT TO NET
-------- --------- ------------ -------- -------------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1997
Premiums:
Workers' compensation insurance... $152,253 $22,081 $10,748 $140,920 7.6%
-------- ------- ------- -------- ---
Total premiums................. $152,253 $22,081 $10,748 $140,920 7.6%
======== ======= ======= ======== ===
Year ended December 31, 1996
Premiums:
Workers' compensation insurance... $ 97,270 $11,280 $ 2,658 $ 88,648 3.0%
-------- ------- ------- -------- ---
Total Premiums................. $ 97,270 $11,280 $ 2,658 $ 88,648 3.0%
======== ======= ======= ======== ===
Year ended December 31, 1995
Premiums:
Workers' compensation insurance... $ 96,630 $ 7,730 $ 835 $ 89,735 0.9%
-------- ------- ------- -------- ---
Total premiums................. $ 96,630 $ 7,730 $ 835 $ 89,735 0.9%
======== ======= ======= ======== ===
</TABLE>

F-35
<PAGE> 217

SCHEDULE V.3

SUPERIOR NATIONAL INSURANCE GROUP, INC. AND SUBSIDIARIES

SUPPLEMENTAL PROPERTY AND CASUALTY INSURANCE INFORMATION

<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H
-------- ----------- ---------- ----------- -------- -------- ---------- ---------------------
DISCOUNT
IF ANY,
DEDUCTED
RESERVES IN RESERVES CLAIMS AND CLAIM
FOR UNPAID FOR UNPAID ADJUSTMENT EXPENSES
DEFERRED CLAIMS AND CLAIMS AND INCURRED RELATED TO:
POLICY CLAIMS CLAIM NET ---------------------
ACQUISITION ADJUSTMENT ADJUSTMENT UNEARNED EARNED INVESTMENT CURRENT PRIOR
COSTS EXPENSES EXPENSES PREMIUM PREMIUM INCOME YEAR YEAR
----------- ---------- ----------- -------- -------- ---------- --------- ---------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997
Workers' Compensation.... $5,879 $201,255 $ -- $12,913 $140,920 $12,674 $95,826 $(5,379)
====== ======== ====== ======= ======== ======= ======= =======
1996
Workers' Compensation.... $3,042 $115,529 $ -- $ 9,702 $ 88,648 $ 7,769 $57,614 $(1,976)
====== ======== ====== ======= ======== ======= ======= =======
1995
Workers' Compensation.... $2,780 $141,495 $ -- $10,347 $ 89,735 $ 9,784 $58,842 $(4,872)
====== ======== ====== ======= ======== ======= ======= =======
</TABLE>

F-36
<PAGE> 218

SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)

ASSETS

<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED) (*)
<S> <C> <C>
INVESTMENTS:
Bonds and notes:
Available-for-sale, at market (cost: 1998, $208,077; 1997,
$203,373)............................................... $210,065 $205,214
Equity securities, at market (cost: 1998, $1,837; 1997,
$1,356)................................................... 1,980 1,526
Cash and short-term instruments (Restricted cash: 1998,
$159; 1997, $651)......................................... 16,490 35,376
-------- --------
Total investments.................................. 228,535 242,116
Reinsurance recoverable:
Paid claims and claim adjustment expense.................. 2,295 3,927
Unpaid claims and claim adjustment expense................ 53,303 49,155
Premiums receivable (less allowance for doubtful accounts:
1998 and 1997, $800)...................................... 21,655 24,364
Earned but unbilled premiums receivable..................... 12,791 12,524
Accrued investment income................................... 2,331 2,661
Deferred policy acquisition costs........................... 5,987 5,879
Deferred income taxes (less valuation allowance of $8,129,
1998 and 1997)............................................ 12,428 12,200
Funds held by reinsurer..................................... 4,186 5,152
Prepaid reinsurance premiums................................ 5,381 1,598
Goodwill.................................................... 35,583 35,887
Prepaid and other........................................... 17,033 21,106
-------- --------
Total assets....................................... $401,508 $416,569
======== ========

LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Claims and claim adjustment expenses........................ $180,333 $201,255
Unearned premiums........................................... 14,610 12,913
Reinsurance payable......................................... 7,383 3,412
Long-term debt.............................................. 30 30
Policyholder dividends...................................... 1,370 1,370
Capital lease............................................... 7,191 7,626
Accounts payable and other liabilities...................... 27,492 28,868
-------- --------
Total liabilities.................................. 238,409 255,474
Company-obligated Trust Preferred Securities of Subsidiary
Trust Holding solely Senior Subordinated Notes of SNIG;
$1,000 face per share; issued and outstanding 105,000
shares in 1997 and 1998................................... 101,291 101,277

STOCKHOLDERS' EQUITY

Common stock, $0.01 par value; authorized 25,000,000 shares:
issued and outstanding 5,874,379 shares in 1998; 5,871,279
shares in 1997............................................ 59 59
Paid-in capital excess of par............................. 34,257 34,242
Paid in capital -- warrants................................. 2,206 2,206
Accumulated other comprehensive income:
Unrealized gain on investments, net of taxes.............. 1,407 1,327
Retained earnings......................................... 23,879 21,984
-------- --------
Total stockholders' equity......................... 61,808 59,818
-------- --------
Total liabilities and stockholders' equity......... $401,508 $416,569
======== ========
</TABLE>

- ---------------
* Derived from audited financial statements.

See Notes to Condensed Consolidated Financial Statements.
F-37
<PAGE> 219

SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME
THREE MONTHS ENDED MARCH 31, 1998 AND 1997
(IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------------
1998 1997
----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C>
REVENUES:
Premiums written, net of reinsurance ceded of $12,552 and
$2,777 in 1998 and 1997, respectively..................... $28,501 $20,003
Net change in unearned premiums............................. 2,086 (1,025)
------- -------
Net premiums earned......................................... 30,587 18,978
Net investment income....................................... 4,253 2,086
------- -------
Total Revenues.................................... 34,840 21,064
EXPENSES:
Claims and claim adjustment expenses, net of reinsurance
recoveries of $7,694 and $2,768 in 1998 and 1997,
respectively.............................................. 18,288 10,271
Commissions, net of reinsurance ceding commissions of $3,252
and $549 in 1998 and 1997, respectively................... 2,964 2,201
Interest expense............................................ -- 1,727
General and administrative expenses
Underwriting.............................................. 7,027 4,803
Other..................................................... 179 181
Goodwill.................................................. 304 --
------- -------
Total Expenses.................................... 28,762 19,183
------- -------
Income Before Income Taxes, Preferred Securities Dividends
and Accretion............................................. 6,078 1,881
Income tax expense.......................................... 2,311 671
------- -------
Income Before Preferred Securities Dividends and
Accretion................................................. 3,767 1,210
Preferred Securities dividends and accretion, net of income
tax benefit of $234 in 1997............................... -- (454)
Trust Preferred Securities dividends and accretion, net of
income tax benefit of $964 in 1998........................ (1,872) --
------- -------
NET INCOME.................................................. $ 1,895 $ 756
======= =======
BASIC EARNINGS PER SHARE:
Income Before Preferred Securities Dividends and
Accretion.............................................. $ 0.64 $ 0.35
Preferred securities dividends and accretion.............. (0.32) (0.13)
======= =======
NET INCOME.................................................. $ 0.32 $ 0.22
======= =======
DILUTED EARNINGS PER SHARE:
Income Before Preferred Securities Dividends and
Accretion.............................................. $ 0.48 $ 0.23
Preferred securities dividends and accretion................ (0.24) (0.09)
======= =======
NET INCOME.................................................. $ 0.24 $ 0.14
======= =======
</TABLE>

See Notes to Condensed Consolidated Financial Statements.
F-38
<PAGE> 220

SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY

(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)

<TABLE>
<CAPTION>
ACCUMULATED
OTHER COMPREHENSIVE
INCOME
-------------------
UNREALIZED
NUMBER OF GAIN (LOSS) PAID IN TOTAL
SHARES COMMON ON CAPITAL COMPREHENSIVE RETAINED STOCKHOLDERS'
OUTSTANDING STOCK INVESTMENTS WARRANTS INCOME EARNINGS EQUITY
----------- ------- ------------------- -------- ------------- -------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1996........................ 3,446,492 $16,022 $ (162) $2,206 $27,125 $45,191
Comprehensive income
Net income.................. -- -- -- -- (5,141) (5,141) (5,141)
-------
Other comprehensive income,
net of tax change in
unrealized gain (loss) on
investments............... -- -- 1,489 -- 1,489 -- 1,489
-------
Other comprehensive
income.................... 1,489
-------
Comprehensive income.......... $(3,652)
=======
Common stock issued........... 2,390,438 18,000 -- -- -- 18,000
Stock issued under stock
option plan................. 22,127 105 -- -- -- 105
Common stock issued under
stock incentive plan........ 12,222 174 -- -- -- 174
--------- ------- ------ ------ ------- -------
Balance at December 31,
1997........................ 5,871,279 34,301 1,327 2,206 21,984 59,818
--------- ------- ------ ------ ------- -------
Comprehensive income
Net income.................. -- -- -- -- 1,895 1,895 1,895
-------
Other comprehensive income,
net of tax change in
unrealized gain (loss) on
investments............... -- -- 80 -- 80 -- 80
-------
Other comprehensive
income.................... 80
-------
Comprehensive income.......... $ 1,975
=======
Common stock issued........... -- -- -- -- -- --
Stock issued under stock
option plan................. 3,100 15 -- -- -- 15
Common stock issued under
stock incentive plan........ -- -- -- -- -- --
--------- ------- ------ ------ ------- -------
Balance at March 31, 1998..... 5,874,379 $34,316 $1,407 $2,206 $23,879 $61,808
========= ======= ====== ====== ======= =======
</TABLE>

See Notes to Condensed Consolidated Financial Statements.
F-39
<PAGE> 221

SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------
1998 1997
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................. $ 1,895 $ 756
-------- --------
Adjustments to reconcile net (loss) income to net cash used
in operating activities:
Discount (amortization) of bonds and preferred stock...... 2 (161)
Amortization of capital lease obligation.................. (435) --
Gain on sale of investments............................... (400) (9)
Amortization of Goodwill.................................. 304 --
Preferred securities dividends and accretion.............. 1,872 687
Increase in reinsurance balances receivable............... (2,516) (700)
Decrease in premiums receivable........................... 2,709 72
(Increase) decrease in earned but unbilled premiums
receivable.............................................. (267) 801
Decrease (increase) in accrued investment income.......... 330 (106)
Increase in deferred policy acquisition costs............. (108) (1,206)
Decrease in deferred income taxes......................... 2,180 433
Decrease (increase) in funds held by reinsurer............ 966 (372)
(Increase) decrease in prepaid reinsurance premiums....... (3,783) 281
Increase in other assets.................................. (3,927) (658)
Decrease in claims and claim adjustment expense
reserves................................................ (20,922) (8,771)
Increase in unearned premium reserves..................... 1,697 744
Increase (decrease) in reinsurance payable................ 3,971 (258)
(Decrease) increase in accounts payable and other
liabilities............................................. (4,197) 494
-------- --------
Total adjustments.................................. (22,524) (8,729)
-------- --------
Net cash used in operating activities................... (20,629) (7,973)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Paid-in-capital -- restricted stock....................... 15 --
Retirement of long-term debt -- Imperial Bank............. -- (350)
Funding of Discontinued Operations........................ (1,492) --
Retirement of long-term debt -- Chase Financing........... -- (1,664)
-------- --------
Net cash used in financing activities................... (1,477) (2,014)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of bonds and notes:
Investments available-for-sale.......................... (58,436) (21,297)
Purchase of equity security............................... (477) (145)
Increase in receivable from reinsurer................... -- 1,627
Sale of property, plant and equipment..................... 8,000 --
Sales of bonds and notes: Investments
available-for-sale...................................... 51,344 9,919
Maturities of bonds and notes:
Investments available-for-sale.......................... 2,709 2,683
Net decrease in invested cash............................. 80 243
-------- --------
Net cash provided by (used in) investing activities..... 3,220 (6,970)
-------- --------
Net decrease in cash.................................... (18,886) (16,957)
Cash and invested cash at Beginning of Period............... 35,376 101,937
-------- --------
Cash and invested cash at End of Period..................... $ 16,490 $ 84,980
======== ========
Supplemental disclosure of cash flow information:
Cash paid during the year for income taxes.................. $ 131 $ 4
======== ========
Cash paid during the year for interest...................... $ -- $ 141
======== ========
</TABLE>

See Notes to Condensed Consolidated Financial Statements

F-40
<PAGE> 222

SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 1998
(UNAUDITED)

NOTE A. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

A.1 BASIS OF PRESENTATION

Superior National Insurance Group, Inc. ("SNIG") is a holding company that
through its wholly-owned subsidiaries, Superior National Insurance Company
("SNIC") and Superior Pacific Casualty Company ("SPCC"), is engaged in writing
workers' compensation insurance principally in the States of California and
Arizona, and until September 30, 1993, was engaged in writing commercial
property and casualty insurance. The "Company" refers to SNIG and its
subsidiaries.

The accompanying unaudited condensed consolidated financial statements of
the Company have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions to Form
10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments, including normally occurring accruals, considered necessary for a
fair presentation have been included. Certain reclassifications of prior year
amounts have been made to conform with the 1998 presentation. Operating results
for the three months ended March 31, 1998 are not necessarily indicative of the
results to be expected for the year ending December 31, 1998. These consolidated
financial statements should be read in conjunction with the consolidated
financial statements and footnotes thereto contained in the Company's Annual
Report on Form 10-K for the year ended December 31, 1997.

A.2 ACQUISITION OF PAC RIM HOLDING CORPORATION

On April 11, 1997, the Company completed its acquisition of Pac Rim Holding
Corporation ("Pac Rim") and its wholly-owned subsidiary, The Pacific Rim
Assurance Company, for total consideration of approximately $42.0 million in
cash. This consideration resulted in payments of approximately $20.0 million to
Pac Rim stockholders; $20.0 million to Pac Rim's convertible debenture holders;
and $2.0 million to Pac Rim's warrant and option holders. In addition, the
Company incurred $2.0 million in transaction fees and related expenses. The
Pacific Rim Assurance Company was renamed Superior Pacific Casualty Company upon
its acquisition by the Company. The Company financed the acquisition of Pac Rim
through a $44.0 million term loan and the sale of $18.0 million in newly issued
shares of common stock in a private transaction. Approximately $6.6 million of
the loan proceeds was used to prepay SNIG's previously outstanding long-term
debt, and approximately $10.0 million was contributed by SNIG to the capital of
SPCC. The $44.0 million term loan was subsequently retired from funds raised
from the sale of $105.0 million of 10.75% Trust Preferred Securities.

The purchase of Pac Rim resulted in $36.9 million of goodwill that is being
amortized on a straight line basis over 27.5 years. The transaction was
accounted for using the purchase method and the results of operations since the
date of acquisition have been included in operations. The designated accounting
date of the purchase of Pac Rim is April 1, 1997.

The balance sheet of Pac Rim at the acquisition date included the following
assets: investments of $105.9 million, cash of $2.6 million, receivables of
$17.3 million, and other assets of $22.3 million. Liabilities assumed in the
acquisition included unearned premiums of $6.9 million, claim and claim
adjustment expense reserves of $107.7 million and other liabilities of $32.3
million.

F-41
<PAGE> 223
SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE THREE MONTHS ENDED MARCH 31, 1998
(UNAUDITED)

A.3 EARNINGS PER SHARE ("EPS"); COMPREHENSIVE INCOME

In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standard No. 128 ("FAS No. 128"), "Earnings Per Share",
which requires presentation of basic and diluted earnings per share for all
publicly traded companies effective for fiscal years after December 15, 1997.

The following is an illustration of the reconciliation of the numerators
and denominators of the basic and diluted earnings per share (EPS) computations:

<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31, 1998 THREE MONTHS ENDED MARCH 31, 1997
------------------------------------------ ------------------------------------------
INCOME SHARES PER SHARE INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT
-------------- ------------- --------- -------------- ------------- ---------
(IN THOUSANDS) (IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
BASIC EPS
Income before items
below................... $ 3,767 5,874,054 $ 0.64 $1,210 3,446,735 $ 0.35
Preferred Securities...... (1,872) (0.32) (454) (0.13)
------- ------ ------ ------
Net Income................ $ 1,895 $ 0.32 $ 756 $ 0.22
======= ====== ====== ======
EFFECT OF DILUTIVE
SECURITIES
Options................... 336,473 344,175
Warrants.................. 1,571,087 1,455,609
DILUTED EPS
Income before items
below................... $ 3,767 7,781,614 $ 0.48 $1,210 5,246,519 $ 0.23
Preferred Securities...... (1,872) (0.24) (454) (0.09)
------- ------ ------ ------
Net Income................ $ 1,895 $ 0.24 $ 756 $ 0.14
======= ====== ====== ======
</TABLE>

In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 130, "Reporting Comprehensive Income" ("SFAS
No. 130"). SFAS 130 is effective for periods ending after December 15, 1997,
including interim periods. SFAS No. 130 requires companies to report
comprehensive income and its components in a financial statement and display the
accumulated balance of other comprehensive income separately from retained
earnings and additional paid-in-capital. Comprehensive income includes all
changes in equity during a period except those resulting from investments by
stockholders and distributions to stockholders. The Company has included the
required disclosure of SFAS No. 130 in this filing.

A.4 CLAIM AND CLAIM ADJUSTMENT EXPENSE RESERVES

The liability for unpaid claim and claim adjustment expenses is based on an
evaluation of reported losses and on estimates of incurred but unreported
losses. The reserve liabilities are determined using adjusters' individual case
estimates and statistical projections, which can be affected by many external
factors that are difficult to predict, including changes in the economy, trends
in medical treatments and litigation, changes in regulatory environment, medical
services, and employment rights. The liability is reported net of estimated
salvage and subrogation recoverables. Adjustments to the liability resulting
from subsequent developments or revisions to the estimate are reflected in
results of operations in the period in which such adjustments become known.
While there can be no assurance that reserves at any given date are adequate to
meet the Company's obligations, the amounts reported on the balance sheet are
management's best estimate of that amount.

F-42
<PAGE> 224
SUPERIOR NATIONAL INSURANCE GROUP, INC.
AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE THREE MONTHS ENDED MARCH 31, 1998
(UNAUDITED)

A.5 TRUST PREFERRED SECURITIES

In December 1997, SNIG formed a trust, whose sole purpose was to issue 10
3/4% Trust Preferred Securities (the "Trust Preferred Securities"), having an
aggregate liquidation amount of $105 million, and to invest the proceeds thereof
in an equivalent amount of 10 3/4% Senior Subordinated Notes due 2017 of the
Company (the "Senior Subordinated Notes"). The Company owns directly all of the
common securities issued by the Trust, which it purchased for an aggregate
consideration of $3.25 million. The proceeds from the sale of the Trust
Preferred Securities were used solely to purchase SNIG's Senior Subordinated
Notes in the aggregate principal amount of $108.25 million, which are the sole
assets of the trust. In addition, the Company entered into several contractual
undertakings, that when taken together, guarantee to the holders of the Trust
Preferred Securities an unconditional right to enforce the payment of the
distributions with respect to such securities.

NOTE B. DISCONTINUED OPERATIONS

Outstanding discontinued operations claims and claim adjustment expense
reserves were $12.1 million at March 31, 1998, which was consistent with
management's expectations. Offsetting these liabilities are $11.4 million of
deferred tax assets and $0.7 million of reinsurance recoverable on paid claim
and claim adjustment expenses.

F-43
<PAGE> 225

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
<S> <C>
INDEPENDENT AUDITORS' REPORT................................ F-45
COMBINED FINANCIAL STATEMENTS:
Combined Balance Sheets as of December 31, 1997 and
1996................................................... F-46
Combined Statements of Operations for Each of the Three
Years Ended December 31, 1997.......................... F-47
Combined Statements of Stockholder's Equity for Each of
the Three Years
Ended December 31, 1997................................ F-48
Combined Statements of Cash Flows for Each of the Three
Years Ended December 31, 1997.......................... F-49
Notes to Combined Financial Statements.................... F-50
</TABLE>

F-44
<PAGE> 226

INDEPENDENT AUDITORS' REPORT

To the Board of Directors of
Business Insurance Group, Inc.:

We have audited the accompanying combined balance sheets of the Insurance
Operations of Business Insurance Group, Inc. (the "Company") as of December 31,
1997 and 1996 and the related combined statements of operations, stockholder's
equity, and cash flows for each of the three years ended December 31, 1997.
These combined financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these combined
financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the combined 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, such combined financial statements present fairly, in all
material respects, the financial position of the Insurance Operations of
Business Insurance Group, Inc. at December 31, 1997 and 1996, and the results of
their operations and their cash flows for each of the three years ended December
31, 1997 in conformity with generally accepted accounting principles.

DELOITTE & TOUCHE LLP
San Francisco, California
June 19, 1998

F-45
<PAGE> 227

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

COMBINED BALANCE SHEETS
DECEMBER 31, 1997 AND 1996

ASSETS

<TABLE>
<CAPTION>
1997 1996
---------- ----------
(IN THOUSANDS)
<S> <C> <C>
Invested Assets:
Bonds, available-for-sale, at fair value.................. $ 611,163 $ 671,629
Bonds, held-to-maturity, at amortized cost................ 14,059 15,978
Real estate............................................... 29,821 31,184
Note from parent.......................................... 10,000 10,000
Cash and cash equivalents................................. 98,128 25,861
---------- ----------
TOTAL INVESTED ASSETS.............................. 763,171 754,652
Reinsurance recoverable:
Paid loss and loss adjustment expenses.................... 18,518 14,939
Unpaid loss and loss adjustment expenses.................. 206,871 121,170
Premiums receivable -- Net.................................. 80,008 84,575
Earned but unbilled premiums receivable..................... 24,401 17,876
Accrued investment income................................... 10,605 12,812
Receivable from reinsurer................................... 4,132 --
Deferred policy acquisition costs........................... 23,841 19,946
Income taxes receivable from parent......................... 40,857 19,933
Deferred income taxes....................................... 15,807 14,665
Prepaid reinsurance premiums................................ -- 10,659
Goodwill.................................................... 14,266 9,964
Property and equipment -- Net............................... 14,556 9,922
Prepaid expenses and other assets........................... 5,373 2,660
---------- ----------
TOTAL ASSETS....................................... $1,222,406 $1,093,773
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities:
Loss and loss adjustment expenses......................... $ 728,421 $ 590,595
Unearned premiums......................................... 45,004 44,010
Reinsurance payable....................................... 28,027 35,478
Long-term debt due to parent.............................. 121,750 128,250
Policyholder dividends.................................... 3,015 3,385
Accounts payable and other liabilities.................... 43,843 24,163
---------- ----------
TOTAL LIABILITIES.................................. 970,060 825,881
---------- ----------
STOCKHOLDER'S EQUITY:
Unrealized gains on investments, net of deferred taxes...... 4,870 1,799
Invested capital............................................ 247,476 266,093
---------- ----------
Total Stockholder's Equity......................... 252,346 267,892
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY......... $1,222,406 $1,093,773
========== ==========
</TABLE>

See notes to combined financial statements.
F-46
<PAGE> 228

THE INSURANCE OPERATIONS OF BUSINESS INSURANCE GROUP, INC.

COMBINED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
REVENUES:
Net premiums earned...................................... $515,272 $480,828 $390,974
Net investment income.................................... 37,548 33,317 24,005
Net realized gain on investments......................... 7,176 892 1,667
Other income............................................. 3,512 2,823 248
-------- -------- --------
TOTAL REVENUES................................... 563,508 517,860 416,894
-------- -------- --------
EXPENSES:
Loss and loss adjustment, net of reinsurance
recoveries............................................ 443,204 381,897 245,522
Underwriting expenses.................................... 168,187 107,640 114,918
Policyholder dividends................................... 793 (5,250) 5,494
Interest................................................. 8,326 4,330 --
Goodwill................................................. 1,262 909 256
-------- -------- --------
TOTAL EXPENSES................................... 621,772 489,526 366,190
-------- -------- --------
Income (Loss) Before Income Taxes.......................... (58,264) 28,334 50,704
Income Tax Benefit (Expense)............................... 28,847 (2,934) (12,952)
-------- -------- --------
NET INCOME (LOSS)................................ $(29,417) $ 25,400 $ 37,752
======== ======== ========
</TABLE>

See notes to combined financial statements.
F-47
<PAGE> 229

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

COMBINED STATEMENTS OF STOCKHOLDER'S EQUITY
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>
<CAPTION>
NET UNREALIZED TOTAL
GAIN (LOSS) INVESTED STOCKHOLDER'S
ON INVESTMENTS CAPITAL EQUITY
-------------- -------- -------------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
Balance at December 31, 1994.............................. $(15,456) $163,769 $148,313
Net income................................................ 37,752 37,752
Unrealized gain on available for sale investments, net of
deferred taxes.......................................... 16,791 16,791
Capital contributions..................................... 37,422 37,422
-------- -------- --------
Balance at December 31, 1995.............................. 1,335 238,943 240,278
Net income................................................ 25,400 25,400
Capital contributions..................................... 1,750 1,750
Unrealized gain on available for sale investments, net of
deferred taxes.......................................... 464 464
-------- -------- --------
Balance at December 31, 1996.............................. 1,799 266,093 267,892
Net loss.................................................. (29,417) (29,417)
Capital contributions..................................... 10,800 10,800
Unrealized gain on available for sale investments, net of
deferred taxes.......................................... 3,071 3,071
-------- -------- --------
Balance at December 31, 1997.............................. $ 4,870 $247,476 $252,346
======== ======== ========
</TABLE>

See notes to combined financial statements.
F-48
<PAGE> 230

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

COMBINED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995

<TABLE>
<CAPTION>
1997 1996 1995
-------- --------- ---------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)......................................... $(29,417) $ 25,400 $ 37,752
-------- --------- ---------
Adjustments to reconcile net income to net cash provided
by (used in) operating activities:
Amortization of bond premium............................ 1,813 4,261 4,933
Depreciation of real estate............................. 658 813 323
Depreciation on property, plant and equipment........... 2,876 2,558 1,129
Loss (gain) on sale of investments...................... (7,256) (597) (1,228)
Loss (gain) on sale of real estate...................... 80 (295) (439)
Amortization of goodwill................................ 1,262 909 256
(Increase) decrease in reinsurance recoverables......... (89,280) (54,564) 23,028
(Increase) decrease in premiums receivable.............. 4,567 (28,118) (11,408)
(Increase) decrease in earned but unbilled
receivables............................................ (6,525) (2,289) (9,865)
(Increase) decrease in accrued investment income........ 2,207 1,000 (7,178)
(Increase) decrease in receivable from reinsurer........ (4,132) -- --
(Increase) decrease in deferred policy acquisition
costs.................................................. (3,895) (5,934) 1,222
(Increase) decrease in income taxes receivable.......... (20,924) (14,829) (5,104)
(Increase) decrease in deferred income taxes............ (2,808) 3,046 (973)
(Increase) decrease in prepaid reinsurance premiums..... 10,659 (10,659) 11
(Increase) decrease in prepaid and other assets......... (2,713) (5,286) 4,720
Increase (decrease) in loss and loss adjustment
expenses............................................... 137,826 147,146 30,783
Increase (decrease) in unearned premium reserves........ 994 20,198 6,103
Increase (decrease) in reinsurance payable.............. (7,451) 33,192 (6,338)
Increase (decrease) in policyholder dividend payable.... (370) (6,086) (12,086)
Increase (decrease) in accounts payable and other
liabilities............................................ 19,680 (5,033) 10,209
-------- --------- ---------
Total adjustments................................... 37,268 79,433 28,098
-------- --------- ---------
Net cash provided by operating activities........... 7,851 104,833 65,850
-------- --------- ---------
Cash flows from investing activities:
Purchases of bonds available for sale..................... (280,184) (350,311) (155,958)
Sales of bonds available for sale......................... 350,947 119,334 57,569
Maturities of bonds held to maturity...................... 1,801 1,248 7,258
Purchases of property, plant and equipment................ (7,509) (6,353) (4,064)
Purchases of real estate.................................. (13) (1,647) (34,916)
Sales of real estate...................................... 638 487 10,570
-------- --------- ---------
Net cash provided by (used in) investing
activities.......................................... 65,680 (237,242) (119,541)
-------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt................ -- 130,000 --
Principal payments on long-term debt.................... (6,500) (1,750) --
Capital contributions................................... 10,800 1,750 37,422
Excess of book value over net assets acquired........... (5,564) -- (6,109)
-------- --------- ---------
Net cash provided by (used in) financing
activities.......................................... (1,264) 130,000 31,313
-------- --------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........ 72,267 (2,409) (22,378)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR.............. 25,861 28,270 50,648
-------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF YEAR.................... $ 98,128 $ 25,861 $ 28,270
======== ========= =========
</TABLE>

See notes to combined financial statements.
F-49
<PAGE> 231

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

1. BASIS OF PRESENTATION

Business Insurance Group, Inc. ("BIG"), is an insurance holding company and
ultimately a wholly owned subsidiary of Foundation Health Systems, Inc. ("FHS").
BIG serves as the immediate parent company for four workers' compensation
insurance subsidiary companies as well as certain non-insurance entities. On May
5, 1998, FHS entered into a definitive agreement to sell BIG and its four
insurance subsidiaries [California Compensation Insurance Company ("CalComp"),
Business Insurance Company ("BICO"), Combined Benefits Insurance Company
("CBIC"), and Commercial Compensation Insurance Company ("CCIC")] to Superior
National Insurance Group, Inc. ("Superior") of Calabasas, California. The
transaction, subject to customary closing conditions including regulatory
approvals and a favorable vote from Superior's shareholders, is expected to
close in the fourth quarter of 1998.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Combination -- The accompanying combined financial statements
include the accounts of BIG and its insurance subsidiaries, CalComp, BICO, CBIC
and CCIC (together with BIG, the "Company"). BIG is also the parent company of
Foundation Integrated Risk Management Solutions, Inc. ("FIRMS"), which is a
workers' compensation risk management and third party claims administrator, and
Foundation Health Medical Resources Management ("ReviewCo.") which provides bill
review, access to provider networks and other managed care service for workers'
compensation carriers and third party administrators. FIRMS and ReviewCo. are
not included in the sale to Superior. Therefore, for purposes of this report,
the operations, assets and liabilities of these non-insurance subsidiaries are
not included in the accompanying financial statements. Also, under the terms of
the agreement with Superior, certain assets and liabilities (including the note
from parent, long-term debt due to parent and other intercompany balances) will
be settled at or prior to the closing of the transaction. In addition,
investment real estate will be purchased by FHS at book value prior to or at the
closing date of the transaction.

For the periods presented, certain revenues, costs and expenses reflected
in the combined financial statements include allocations to the Company by FHS
and amounts charged or received through various transactions with affiliates
(see Note 10). Management believes that the foregoing allocations and fees were
made on a reasonable basis; however, they do not necessarily equal the costs
which would have been incurred on a stand-alone basis.

The financial information included herein does not necessarily reflect the
financial position and results of operations in the future or what the financial
position and results of operations would have been had the Company been a
separate, stand-alone entity during the periods presented.

The Company's combined financial statements have been prepared on the basis
of generally accepted accounting principles. The results of all significant
intercompany transactions have been eliminated.

Cash and Cash Equivalents -- Cash includes currency on hand and demand
deposits with financial institutions. Cash equivalents represent short-term,
highly liquid investments, readily convertible to known amounts of cash and near
maturity such that there is insignificant risk of changes in fair value because
of changes in interest rates. Cash equivalents are carried at cost, which
approximates fair value.

Investments in debt instruments consist primarily of bonds. Debt
instruments are classified as (i) "available-for-sale" (carried at fair value
with differences between amortized cost and fair value being reflected as a
separate component of stockholder's equity, net of applicable income tax
effect); (ii) "held-to-maturity" (carried at amortized cost); or (iii) "trading"
(carried at fair value with differences between cost and fair value being
reflected in the results of operations). Securities not designated as
held-to-maturity have
F-50
<PAGE> 232
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

been designated as available-for-sale. The Company did not have any investments
categorized as trading securities. For determining realized gains or losses on
securities sold, cost is determined using the specific identification method.
The premiums and discounts on fixed maturities are amortized using the effective
yield method. Current fair values of investments are obtained from published
sources. Declines in fair value that are considered other than temporary are
charged to operations.

Investment real estate which the Company has held for the production of
income is carried at depreciated cost less any write-downs to fair value for
impairment losses. Depreciation on real estate is computed using the
straight-line method over the estimated lives of the properties.

The Company does not own any investments that qualify as derivatives as
defined by Statement of Financial Accounting Standard No. 119, Disclosure About
Derivative Financial Investments and Fair Value of Financial Investments.

Premiums Receivable -- The Company records premiums receivable for both
billed and unbilled amounts. Unbilled premiums receivable primarily represent
the Company's estimated billings on payroll reporting policies which were earned
but not billed prior to year end. Unbilled premiums receivable also include
estimates of the difference between amounts billed on installment policies and
the amounts estimated to be ultimately billed on the policy. The Company uses
its historical experience to estimate earned but unbilled amounts which are
recorded as premiums earned. These unbilled amounts are estimates, and while the
Company believes such amounts are reasonable, there can be no assurance that the
ultimate amounts collected will equal the recorded unbilled amounts.

The ultimate collectibility of the unbilled receivables can be affected to
a significant degree by general changes in the economy and the regulatory
environment due to the increased time required to determine the billable amount.
The Company considers these factors when estimating the receivable for unbilled
premiums. The allowance for doubtful accounts was $13,841 and $11,488 as of
December 31, 1997 and 1996, respectively.

Deferred Policy Acquisition Costs -- Acquisition costs, consisting
principally of commissions, premium taxes, and certain marketing, policy
issuance, and underwriting costs related to the production of the Company's
workers' compensation business, are deferred and amortized ratably over the
terms of the policies. If recoverability of such costs is not anticipated, the
amounts not considered recoverable are charged against income. In determining
estimated recoverability, the computation gives effect to the premium to be
earned, related investment income, claims and claim adjustment expenses, and
certain other costs expected to be incurred as the premium is earned.

Policy acquisition costs incurred and amortized into income are as follows:

<TABLE>
<CAPTION>
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
Balance at beginning of year................... $ 19,946 $ 14,012 $ 15,234
Cost deferred during the year.................. 40,069 35,926 24,561
Amortization charged to expense................ (36,174) (29,992) (25,783)
-------- -------- --------
Balance at end of year......................... $ 23,841 $ 19,946 $ 14,012
======== ======== ========
</TABLE>

Losses and loss adjustment expenses ("LAE") are estimates based on
case-basis amounts of reported claims and unreported losses and loss adjustment
expenses based on experience and industry data. The provision for unpaid losses
and loss adjustment expenses, net of estimated salvage and subrogation, has been

F-51
<PAGE> 233
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

established to cover the estimated net cost of incurred claims. The amounts are
necessarily based on estimates, and accordingly, there can be no assurance the
ultimate liability will not differ from such estimates.

There is a high level of uncertainty inherent in the evaluation of the
required losses and loss adjustment expense reserves. Management has selected
ultimate losses and loss adjustment expenses that it believes will reasonably
reflect anticipated ultimate experience. The ultimate costs of such claims are
dependent upon future events, the outcomes of which are affected by many
factors. Claims reserving procedures and settlement philosophy, current and
perceived social and economic factors, inflation, current and future court
rulings and jury attitudes, and many other economic, legal, political, and
social factors all can have significant effects on the ultimate cost of claims.
Changes in Company operations and management philosophy also may cause actual
experience to vary from the historical trends.

Policyholder Dividends -- Prior to the inception of open rating in
California in January 1995, policyholder dividends served both as an economic
incentive to employers for safe operations and as a means of price
differentiation; however, since the start of open rating, the consumer's
preference has been for the lowest net price at a policy's inception. This is
evidenced by the decline in participating policies written by the Company as a
percent of total policies from 20.9% of workers' compensation premiums in force
at December 31, 1995 to 3.4% and 2.7% at December 31, 1996 and 1997,
respectively. In 1995, as a result of the diminishing value of policyholder
dividends, the Company's management declared a moratorium on the payment of
policyholder dividends on California policies expiring between March 1, 1994 and
December 31, 1995. In December 1996, the Company formally discontinued
policyholder dividend payments on California policies expiring between March 1,
1994 and December 31, 1996. Estimated amounts to be returned to policyholders
for non-California policies are accrued when the related premium is earned. For
non-California business, dividends are paid to the extent that a surplus is
accumulated from premiums on workers' compensation policies.

Premium Income Recognition -- Insurance premiums are earned ratably over
the terms of the policies. Unearned premiums are computed on a daily pro-rata
basis.

Income Taxes -- The Company files a consolidated federal income tax return
which includes all qualifying subsidiaries, with FHS.

Pursuant to a tax allocation agreement with FHS, the Company reflects a
provision for income taxes under the liability method as if it were to file
separate federal tax returns. In fiscal years in which the Company incurs net
losses, FHS allocates a tax benefit to the Company based on an appropriate tax
rate.

Property, Equipment and Leasehold Improvements -- Property, equipment, and
leasehold improvements are stated at cost, net of accumulated depreciation and
amortization. Depreciation is computed using the straight-line method over the
lesser of estimated useful lives of the various classes of assets or the lease
term lives of the assets which range from 3 to 7 years.

Expenditures for maintenance and repairs are expensed as incurred.
Significant improvements which increase the estimated useful life of an asset
are capitalized. Upon the sale or retirement of assets recorded cost and related
accumulated depreciation are removed from the accounts, and any gain or loss on
disposal is reflected in operations.

Acquisitions and Related Goodwill -- In May 1997, Christiania General
Insurance Corporation of New York (renamed Commercial Compensation Insurance
Company) was purchased by the Company for $12,813, including goodwill of $5,564.

In February 1995, London Guarantee and Accident Company of New York
(renamed Business Insurance Company) was purchased by the Company for $13,201,
including goodwill of $4,590.
F-52
<PAGE> 234
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

In January 1995, Foundation Health Benefit Life Insurance Company (renamed
Combined Benefits Insurance Company) was purchased at book value by the Company
for $7,950.

Goodwill represents the excess of the cost of companies acquired over the
fair value of their net assets at dates of acquisition and is being amortized on
the straight-line method over a range of 20-40 years.

Concentrations of Credit Risk -- Financial instruments that potentially
subject the Company to concentrations of credit risk consist primarily of cash
equivalents, investments and premium receivables. All cash equivalents and
investments are managed within established guidelines which limit the amounts
which may be invested with one issuer. Concentrations of credit risk with
respect to premium receivables are limited due to the large number of payers
comprising the Company's customer base. The Company's ten largest employer
groups accounted for 3.7% and 3.2% of receivables as of December 31, 1997 and
1996, respectively, and 1.9%, 2.5% and 5.4% of premium revenue for the years
ended December 31, 1997, 1996 and 1995, respectively.

Recently Issued Accounting Pronouncements -- During 1997, the Financial
Accounting Standards Board issued SFAS No. 130, Reporting Comprehensive Income,
which requires that an enterprise report, by major components and as a single
total, the change in its net assets during the period from non-owner sources;
SFAS No. 131, Disclosures About Segments of an Enterprise and Related
Information, which establishes annual and interim reporting standards for an
enterprise's business segments and related disclosures about its products,
services, geographic areas, and major customers; and SFAS No. 132, Employers'
Disclosures About Pensions and Other Postretirement Benefits, which revises and
standardizes pension and other benefit plan disclosures. Adoption of these
statements will not impact the Company's combined financial position, results of
operations or cash flows. These statements are effective for fiscal years
beginning after December 15, 1997.

Use of Management Estimates -- The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts of assets, liabilities,
and disclosures of contingent assets and liabilities at the date of the
financial statements. The Company has provided such estimates for its loss and
loss adjustment expenses; policyholder dividends; allowance for doubtful
accounts; deferred policy acquisition costs; earned but unbilled premiums; and
deferred taxes balances in its financial statements. While these estimates are
based upon analyses performed by management and outside actuaries, the amounts
the Company will ultimately pay or collect may differ materially from the
amounts presently estimated.

3. INVESTMENTS

The amortized cost and fair values of bonds classified as
available-for-sale and held-to-maturity at December 31, 1997 are as follows:

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- --------
<S> <C> <C> <C> <C>
Available-for-sale:
United States government agencies and
authorities.............................. $ 43,454 $ 233 $(102) $ 43,585
Collateralized mortgage obligations......... 2,999 1 -- 3,000
Corporate instruments....................... 16,263 52 -- 16,315
State and political subdivisions............ 540,812 8,120 (779) 548,153
Certificates of deposit..................... 110 -- -- 110
-------- ------ ----- --------
Total available-for-sale............ $603,638 $8,406 $(881) $611,163
======== ====== ===== ========
</TABLE>

F-53
<PAGE> 235
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- -------
<S> <C> <C> <C> <C>
Held-to-maturity:
United States government agencies and authorities.... $ 763 $ -- $ (2) $ 761
Corporate instruments................................ 24 -- -- 24
State and political subdivisions..................... 12,847 198 (28) 13,017
Certificates of deposit.............................. 425 -- -- 425
------- ---- ---- -------
Total held-to-maturity....................... $14,059 $198 $(30) $14,227
======= ==== ==== =======
</TABLE>

The amortized cost and estimated fair values of investments classified as
available-for-sale and held-to-maturity at December 1, 1997 by contractual
maturity are shown below. Expected maturities are likely to differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without penalty. Mortgage-backed securities are included
based upon the expected payout pattern and duration of the fixed income
security.

<TABLE>
<CAPTION>
AVAILABLE-FOR-SALE
---------------------
AMORTIZED FAIR
COST VALUE
--------- --------
<S> <C> <C>
Due in one year or less................................ $ 37,396 $ 37,426
Due after one year through five years.................. 199,568 201,745
Due after five years through ten years................. 190,820 193,574
Due after ten years.................................... 175,854 178,418
-------- --------
Total........................................ $603,638 $611,163
======== ========
</TABLE>

<TABLE>
<CAPTION>
HELD-TO-MATURITY
--------------------
AMORTIZED FAIR
COST VALUE
--------- -------
<S> <C> <C>
Due in one year or less................................. $ 2,749 $ 2,756
Due after one year through five years................... 6,402 6,437
Due after five years through ten years.................. 3,508 3,590
Due after ten years..................................... 1,400 1,444
------- -------
Total......................................... $14,059 $14,227
======= =======
</TABLE>

The amortized cost and fair values of bonds classified as
available-for-sale and held-to-maturity at December 31, 1996 are as follows:

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- --------
<S> <C> <C> <C> <C>
Available-for-sale:
United States government agencies and
authorities.............................. $ 60,679 $ 41 $ (828) $ 59,892
State and political subdivisions............ 608,051 5,952 (2,376) 611,627
Certificates of deposit..................... 110 -- -- 110
-------- ------ ------- --------
Total available-for-sale............ $668,840 $5,993 $(3,204) $671,629
======== ====== ======= ========
</TABLE>

F-54
<PAGE> 236
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- -------
<S> <C> <C> <C> <C>
Held-to-maturity:
United States government agencies
and authorities........................... $ 766 $ -- $(16) $ 750
State and political subdivisions............. 14,787 151 (42) 14,896
Certificates of deposit...................... 425 -- -- 425
------- ---- ---- -------
Total held-to-maturity............... $15,978 $151 $(58) $16,071
======= ==== ==== =======
</TABLE>

A summary of net investment income for the years ended December 31 is as
follows:

<TABLE>
<CAPTION>
1997 1996 1995
------- ------- -------
<S> <C> <C> <C>
Interest on bonds and notes........................... $35,009 $29,303 $20,492
Interest on cash and cash equivalents................. 2,791 2,681 3,478
Real estate rental income............................. 1,959 2,774 757
------- ------- -------
Total investment income..................... 39,759 34,758 24,727
Investment expense.................................... (2,211) (1,441) (722)
------- ------- -------
Net investment income................................. $37,548 $33,317 $24,005
======= ======= =======
</TABLE>

Realized gains (losses) on investments for the years ended December 31 are
as follows:

<TABLE>
<CAPTION>
1997 1996 1995
------ ---- ------
<S> <C> <C> <C>
Bonds...................................................... $7,256 $597 $1,228
Real estate................................................ (80) 295 439
------ ---- ------
Total............................................ $7,176 $892 $1,667
====== ==== ======
</TABLE>

The Company's investment real estate of $29,821 and $31,184 at December 31,
1997 and 1996, respectively, is held through direct ownership. The Company's
investment real estate consists of commercial properties, land and construction
in progress. In connection with the sale of the Company to Superior, FHS has
agreed to purchase the investment real estate at current book value prior to or
at the closing of the transaction.

Proceeds from sales of bonds held as available-for-sale for the years ended
December 31, 1997, 1996, and 1995 were $350,947, $119,334 and $57,569,
respectively. Gross gains of $7,262 and gross losses of $6 were realized on
those sales in 1997. Gross gains of $689 and gross losses of $92 were realized
on those sales in 1996. Gross gains of $1,858 and gross losses of $630 were
realized on those sales in 1995.

Bonds and other securities with a fair value of $480,584, $405,167 and
$340,676 at December 31, 1997, 1996 and 1995, respectively, were on deposit with
various insurance regulatory authorities.

4. FAIR VALUE OF FINANCIAL INSTRUMENTS

The estimated fair value of cash equivalents, investments
available-for-sale, note from parent and long-term debt due to parent
approximate their carrying amounts in the financial statements and have been
determined by the Company using available market information and appropriate
valuation methodologies. The carrying amount of cash equivalents approximate
fair value due to the short-term maturity of those instruments. The fair values
of investments available-for-sale are estimated based upon quoted market prices

F-55
<PAGE> 237
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

for the same or similar investments. In connection with the sale of the Company
to Superior, the note from parent and the long-term debt due to parent will be
settled at current book value; therefore, carrying amounts approximate fair
values. Considerable judgment is required to develop the estimates of fair
value. Accordingly, the estimates are not necessarily indicative of the amounts
the Company could have realized in a current market exchange. The use of
different market assumptions and/or estimation methodologies may have a material
effect on the estimated fair value amounts.

The fair value estimates are based on pertinent information available to
management as of December 31, 1997 and 1996. Although management is not aware of
any factors that would significantly affect the estimated fair value amounts,
such amounts have not been comprehensively revalued for purposes of these
financial statements since that date and, therefore, current estimates of fair
value may differ significantly.

5. LOSSES AND LOSS ADJUSTMENT EXPENSE RESERVES

The activity in the losses and loss adjustment expense reserve account is
summarized as follows:

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
Beginning reserve, gross of reinsurance......... $ 590,595 $ 443,600 $ 412,666
Less reinsurance recoverable on unpaid losses
and LAE....................................... (121,170) (76,154) (90,326)
--------- --------- ---------
Beginning reserve, net of reinsurance...... 469,425 367,446 322,340
--------- --------- ---------
Provision for net losses and loss adjustment
expenses:
For losses occurring in current year.......... 367,971 361,750 272,388
For losses occurring in prior years........... 75,233 20,147 (26,866)
--------- --------- ---------
Total losses and loss adjustment
expenses............................ 443,204 381,897 245,522
--------- --------- ---------
Payments for net losses and loss adjustment
expenses:
Attributable to insured events incurred in
current year............................... (135,202) (106,757) (71,899)
Attributable to insured events incurred in
prior years................................ (255,877) (173,161) (128,517)
--------- --------- ---------
Total loss and loss adjustment expense
payments............................ (391,079) (279,918) (200,416)
--------- --------- ---------
Ending reserves, net of reinsurance............. 521,550 469,425 367,446
Reinsurance recoverable on unpaid losses and
LAE........................................... 206,871 121,170 76,154
--------- --------- ---------
Ending reserves, gross of reinsurance........... $ 728,421 $ 590,595 $ 443,600
========= ========= =========
</TABLE>

In 1997, loss and LAE incurred in prior years increased by $75,233 due
primarily to unfavorable development of the 1996 and 1995 accident years. This
increase is primarily a result of a court ruling in late 1996 which expanded the
presumption of the treating physician related to California workers'
compensation workplace injuries in determining the disability of the injured
worker. This has led to increased severity on partial permanent disability
injuries.

In 1996, the Company experienced $20,147 in adverse loss development on net
loss and LAE reserves estimated at December 31, 1995. The increase for prior
accident year loss and LAE reserves is primarily attributable to increases in
the estimates for the 1995 accident year, primarily due to changes in the
Company's average claim severity. On a per claim basis, the average gross case
loss reserve for the 1995 accident year increased 55.2% from 1995 to 1996, and
the average gross case loss paid for the 1995 accident year increased 37.8% from
1995 to 1996.

F-56
<PAGE> 238
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

In 1995, the Company experienced $26,866 in favorable loss development on
net loss and LAE reserves estimated at December 31, 1994. The decrease in prior
accident year loss and LAE reserves is primarily attributable to reductions in
the estimates for the 1993 and 1994 accident years. The favorable impact of the
reforms passed by the California State Legislature in 1993 related to fraudulent
claims, as well as the impact from the Company's continued use of managed care
techniques, including network utilization and medical case management, also
contributed to the reduction in the prior year loss estimates.

6. INCOME TAXES

Income tax expense (benefit) for the years ended December 31, 1997, 1996,
and 1995 is composed of the following amounts:

<TABLE>
<CAPTION>
1997 1996 1995
-------- ------ -------
<S> <C> <C> <C>
Current....................................... $(26,039) $ (112) $16,619
Deferred...................................... (2,808) 3,046 (3,667)
-------- ------ -------
Total............................... $(28,847) $2,934 $12,952
======== ====== =======
</TABLE>

A reconciliation of the statutory federal income tax rate and the effective
income tax rate is as follows for the years ended December'31:

<TABLE>
<CAPTION>
1997 1996 1995
----- ----- ----
<S> <C> <C> <C>
Income taxes at statutory rates...................... (35.0)% 35.0% 35.0%
Effect of tax-exempt interest........................ (16.1) (24.8) (9.6)
Other................................................ 1.6 0.2 0.1
----- ----- ----
Total...................................... (49.5)% 10.4% 25.5%
===== ===== ====
</TABLE>

F-57
<PAGE> 239
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

The tax effect of temporary differences that give rise to significant
portions of the deferred tax assets and liabilities at December 31 are presented
below:

<TABLE>
<CAPTION>
1997 1996
-------- --------
<S> <C> <C>
Deferred tax assets:
Allowance for doubtful accounts...................... $ 4,844 $ 4,021
Accrued compensation................................. 794 376
Accrued expenses..................................... 577 512
Loss reserve discounting............................. 27,678 23,745
Unearned premium liability........................... 3,150 2,335
Policyholder dividends............................... 912 984
Other, net........................................... 40 11
-------- --------
Total deferred tax assets.................... 37,995 31,984
======== ========
Deferred tax liabilities:
Bond discount........................................ (453) (752)
Depreciable and amortizable property................. (10,735) (8,597)
Policy acquisition costs............................. (8,344) (6,981)
Unrealized gain on available-for-sale investments.... (2,656) (989)
-------- --------
Total deferred tax liabilities............... (22,188) (17,319)
-------- --------
Net deferred tax assets................................ $ 15,807 $ 14,665
======== ========
</TABLE>

7. REINSURANCE

Under reinsurance agreements, the Company cedes various amounts of risk to
other insurance companies. A contingent liability exists with respect to
reinsured losses which would become an actual liability of the Company in the
event that the reinsurers should be unable to meet the obligations assumed by
them under the reinsurance agreements. The Company regularly evaluates the
financial condition of its reinsurers. Based on this evaluation, management
believes the reinsurers are creditworthy and that any potential losses on these
arrangements will not have a material impact on the Company.

Effective January 1, 1996, the Company's insurance subsidiaries, CalComp,
BICO and CBIC, entered into a reinsurance pooling agreement. The agreement
applies to calendar year 1996 and subsequent net premiums earned, accident year
1996 and subsequent net loss and loss adjustment expenses incurred, and
underwriting expenses. Effective January 1, 1997, an additional affiliate, CCIC,
became a member of the agreement. The pooling percentages at December 31 were as
follows:

<TABLE>
<CAPTION>
1997 1996
----- -----
<S> <C> <C>
CalComp..................................................... 72.0% 83.5%
BICO........................................................ 25.0 15.0
CBIC........................................................ 1.5 1.5
CCIC........................................................ 1.5 --
----- -----
Total............................................. 100.0% 100.0%
===== =====
</TABLE>

F-58
<PAGE> 240
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

CalComp acts as the lead company and assumes all gross business of the
pooling participants, and cedes to the participants their percentage of the
combined results. All authorized lines and types of business are subject to the
pooling arrangement.

Effective July 1, 1996, the Company entered into a quota share reinsurance
agreement with General Reinsurance Corporation ("Gen Re") wherein Gen Re assumed
a 30% share of net premiums and related losses and allocated loss adjustment
expenses. Effective January 1, 1997, the quota share percentage on this
agreement was reduced to 7.5%, and effective July 1, 1997, this agreement was
terminated. Effective June 30, 1997, the Company commuted its 1990 - 1994 quota
share reinsurance agreement with Gen Re. Under terms of the commutation, Gen Re
paid $7,581 for ceded loss reserves of $7,259 and ceded loss adjustment expense
reserves of $570 offset by a $248 return of ceded commissions.

Effective January 1, 1997, the Company entered into a six-month aggregate
excess of loss reinsurance agreement with Gen Re which provides coverage in
excess of $1,000 per occurrence. The agreement contains two layers of coverage,
the first, with a maximum of $37,250 in excess of the Company's retention of
$153,500 and the second, with a maximum of $5,500 in excess of the Company's
retention of $235,000. Premium for this coverage is based on the loss ratio and
consists of a fixed premium of $2,000 plus a variable reinsurance premium equal
to 14.6% of net loss sustained by the Company with a minimum of $28,000 and a
maximum of $31,500.

Effective July 1, 1997, a second six-month aggregate excess of loss
agreement was entered into with Gen Re which provides coverage in excess of
$1,000 per occurrence. The agreement also contains two layers of coverage, the
first, with a maximum of $75,000 in excess of the Company's retention of
$150,977 and the second, with a maximum of $13,000 in excess of the Company's
retention of $251,251. Premium for this coverage is based on the loss ratio and
consists of a fixed premium of $4,000 plus a variable reinsurance premium equal
to 24.77% of net loss sustained by the Company with a minimum of $56,000 and a
maximum of $60,500.

The Company maintains specific excess reinsurance with various reinsurers
which provides coverage in excess of $1,000 per occurrence for 1997 and 1996.
The agreements provide coverage up to a maximum of $200,000 per occurrence,
including the Company's retention for 1997 and 1996.

In addition, effective April 1, 1995, the Company entered into an excess of
loss treaty with FH Assurance Company ("FHAC"), an affiliated reinsurer. The
treaty provides coverage for $100 in excess of $400 per occurrence for those
policies written in California through December 31, 1996, and, nationwide,
thereafter. Effective January 1, 1998, the treaty with FHAC was terminated.

F-59
<PAGE> 241
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

The effect of reinsurance on premiums written, change in unearned premiums
and losses and LAE for each of the years ended December 31, are shown in the
following tables.

<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- --------
<S> <C> <C> <C>
Premiums written:
Gross.................................. $ 668,906 $ 641,113 $421,422
Ceded.................................. (141,981) (150,746) (24,345)
--------- --------- --------
Net premiums written..................... $ 526,925 $ 490,367 $397,077
========= ========= ========
Change in unearned premiums:
Gross.................................. $ 994 $ 20,198 $ 6,103
Ceded.................................. 10,659 (10,659) --
--------- --------- --------
Net change in unearned premiums.......... $ 11,653 $ 9,539 $ 6,103
========= ========= ========
Losses and loss adjustment expenses:
Losses and loss adjustment expenses.... $ 601,688 $ 468,533 $254,401
Reinsurance recoveries................. (158,484) (86,636) (8,879)
--------- --------- --------
Net loss and loss adjustment expenses.... $ 443,204 $ 381,897 $245,522
========= ========= ========
</TABLE>

The Company has an aggregate unsecured recoverable for losses, paid and
unpaid, including incurred but not reported, LAE and unearned premiums from
individual reinsurers in excess of 3% of the Company's surplus at December 31 as
follows:

<TABLE>
<CAPTION>
1997 1996
-------- --------
<S> <C> <C>
General Reinsurance Corporation........................ $194,462 $122,205
======== ========
</TABLE>

In connection with the sale of the Company to Superior, the Company has
obtained a binding commitment for an Aggregate Excess of Loss reinsurance
agreement with a third-party reinsurer. The agreement will provide $150,000 of
adverse loss development indemnification on the Company's December 31, 1997 loss
and LAE reserves.

In addition, the Company has obtained a binding commitment for a second
Aggregate Excess of Loss reinsurance agreement providing $25,000 of adverse loss
development indemnification for claims which have occurred during the period
from January 1, 1998 until the date at which the sale transaction closes.

8. PROPERTY AND EQUIPMENT

<TABLE>
<CAPTION>
1997 1996
------- -------
<S> <C> <C>
Property and equipment................................... $20,826 $13,483
Leasehold improvements................................... 2,875 2,708
Accumulated depreciation................................. (9,145) (6,269)
------- -------
Net property and equipment............................... $14,556 $ 9,922
======= =======
</TABLE>

F-60
<PAGE> 242
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

9. STATUTORY SURPLUS AND DIVIDEND RESTRICTIONS

CalComp and CBIC are domiciled in the State of California, BICO is
domiciled in the State of Delaware and CCIC is domiciled in the State of New
York. Each entity prepares its statutory financial statements in accordance with
accounting practices prescribed or permitted by the respective Departments of
Insurance ("DOI"). Prescribed statutory accounting practices include a variety
of publications of the National Association of Insurance Commissioners ("NAIC"),
as well as state laws, regulations and general administrative rules. Permitted
statutory accounting practices encompass all accounting practices not so
prescribed.

CalComp's statutory policyholders' surplus as reported to regulatory
authorities was $204,330 and $223,964 at December 31, 1997, and 1996,
respectively. CalComp's statutory net income (loss), as reported to regulatory
authorities, was $(17,607), $17,642, and $30,087 for the years ended December
31, 1997, 1996 and 1995, respectively.

BICO's statutory policyholders' surplus as reported to regulatory
authorities was $38,644 and $54,142 at December 31, 1997, and 1996,
respectively. BICO's statutory net income (loss), as reported to regulatory
authorities, was $(11,842), $1,180, and $(751) for the years ended December 31,
1997, 1996 and 1995, respectively.

CBIC's statutory policyholders' surplus as reported to regulatory
authorities was $8,402 and $7,942 at December 31, 1997, and 1996, respectively.
CBIC's statutory net income, as reported to regulatory authorities, was $350,
$925 and $ 59 for the years ended December 31, 1997, 1996 and 1995 respectively.

CCIC's statutory policyholders' surplus as reported to regulatory
authorities was $6,734 and $7,462 at December 31, 1997, and 1996, respectively.
CCIC's statutory net income (loss), as reported to regulatory authorities, was
$(918), $2,059, and $(2,286) for the years ended December 31, 1997, 1996 and
1995, respectively.

Insurance companies are subject to insurance laws and regulations
established by the states in which they transact business. The laws of various
states establish supervisory agencies with broad administrative and supervisory
powers. Most states have also enacted legislation regulating insurance holding
company systems, including acquisitions, extraordinary dividends, the terms of
affiliate transactions, and other related matters. CalComp, CBIC, BICO and CCIC
have registered as holding company systems pursuant to such legislation in
California, Delaware and New York. The NAIC has formed committees and appointed
advisory groups to study and formulate regulatory proposals on such diverse
issues as the use of surplus debentures and accounting for reinsurance
transactions. It is not possible to predict the future impact of changing state
and federal regulation on the operations of insurance entities.

The Risk Based Capital Model ("RBC") for property and casualty insurance
companies was adopted by the NAIC in December of 1993, and, starting in 1995,
companies were required to report their RBC ratios to the NAIC. CalComp, BICO,
CBIC and CCIC have calculated and met their RBC requirements.

Insurance companies are also subject to restrictions affecting the amount
of stockholder dividends and advances that may be paid within any one year
without DOI prior approval. The California Insurance Code provides that the
maximum amount that may be paid as dividends on an annual non-cumulative basis
without prior notice to, or approval by, the DOI is the greater of (1) net
income for the preceding year or (2) 10% of statutory surplus as of the
preceding December 31. At December 31, 1997, CalComp and CBIC could pay
stockholder dividends in 1998 of $20,433 and $840, respectively. The Delaware
Insurance Code provides that an insurer may not declare or pay a dividend or
other distribution from any source other than earned surplus, without DOI prior
approval. At December 31, 1997, BICO had negative unassigned funds and as such,
cannot

F-61
<PAGE> 243
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

declare and pay any stockholders dividends in 1998 without the prior approval of
the Delaware Commissioner of Insurance. The maximum amount of dividends which
can be paid by State of New York insurance companies to stockholders without
prior approval is subject to restrictions relating to statutory earned surplus.
CCIC's statutory surplus at December 31, 1997, was $6,734. At December 31, 1997,
CCIC had negative earned surplus and, as such, cannot declare and pay any
stockholders dividends in 1998 without the prior approval of the New York
Commissioner of Insurance. In May 1998, CCIC received a capital contribution of
$1,500 from BIG.

10. TRANSACTIONS WITH AFFILIATES

ReviewCo. (a non-insurance subsidiary) paid stockholder dividends which
have been accounted for as capital contributions to BIG of $10,800, $1,750 and
$0 in 1997, 1996 and 1995, respectively. ReviewCo. also paid BIG $57 under an
Administrative Services Agreement effective in 1997.

BIG's insurance subsidiaries entered into various agreements for Medical
Bill Review Services with ReviewCo. wherein the companies utilize the services
of ReviewCo. to provide managed care services and review of medical bills for
duplicate, unauthorized and excessive charges. The amounts paid to ReviewCo.
totaled $14,429, $12,263 and $6,010 in 1997, 1996 and 1995, respectively.

CBIC entered into a Letter of Agreement by and on behalf of FHC and
ReviewCo., effective July 1, 1995, wherein CBIC and FHC provide network access
to their provider network to ReviewCo. in return for administrative services
performed by ReviewCo. The net amounts paid by ReviewCo. totaled $1,590, $701
and $247 in 1997, 1996 and 1995, respectively.

Effective October 1, 1997, BIG entered into an Administrative Services
Agreement with FHS wherein FHS provides administrative and financial services to
BIG and its subsidiaries. The amount paid to FHS in 1997 totaled $2,146.

CalComp entered into a Loan Agreement with Foundation Health Corporation
("FHC"), the Company's immediate parent and a wholly-owned subsidiary of FHS,
effective August 23, 1994, wherein it loaned FHC $10,000. The amounts paid for
interest by FHC to CalComp were $775, $774 and $777 in 1997, 1996 and 1995,
respectively.

FHC made capital contributions of $35,000 and $2,422 to the Company in
1995.

CalComp entered into an administrative services agreement with Foundation
Health, a California Health Plan ("FHCA"), and affiliate, effective September 1,
1994, wherein the company provides certain non-discretionary support services to
each other with regard to coverage issued under a jointly written Combined Care
program. This agreement was superseded by an administrative services agreement
between BIG, FHS and FHCA, effective October 1, 1997.

BIG's insurance subsidiaries utilize the services of FIRMS to provide
claims adjusting and administration services on some of its policies. The
amounts paid to FIRMS totaled $512, $508 and $45 in 1997, 1996 and 1995,
respectively.

BIG utilizes the services of Axis Integrated Resources, Inc. ("AXIS")
(formerly Claims Technical Services, Inc.), an affiliate, to provide temporary
employment services. The amounts paid to AXIS totaled $660, $149 and $242 in
1997, 1996 and 1995, respectively.

Foundation Health Corporation made loans to BIG totaling $130,000 in May
($75,000) and August ($55,000) of 1996. The notes accrue interest at an annual
rate of 6.75% per annum. Interest paid on the notes

F-62
<PAGE> 244
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

totaled $8,363 and $3,423 in 1997 and 1996, respectively. Principal payments
were made on the notes in the amounts of $1,750, $4,500 and $2,000 in June 1996,
February 1997 and June 1997, respectively. The balance of the two notes at
December 31, 1997 and 1996 were $121,750 and $128,250, respectively. Interest
payable on the notes at December 31, 1997 and 1996 was $870 and $907,
respectively. Effective January 1, 1998, the annual interest rate on the notes
was increased to 7.75%.

CalComp purchased four health care centers and land from Foundation Health
Medical Services ("FHMS") for $31,114 in 1995. Subsequent to the purchase, as of
September 29, 1995, CalComp leased the care centers to Foundation Health Medical
Group. Rental income earned on these properties from affiliates at December 31,
1997, 1996 and 1995 was $0, $2,773, and $755, respectively. In November 1996, in
conjunction with the sale of FHC's physician practices and medical management
company to FPA Medical Management, Inc. ("FPA"), an unaffiliated company, three
properties previously leased to FHC were leased to FPA.

11. EMPLOYEE BENEFIT PLANS

The Company's employees participated in the FHC 401(k) Plan (the "Plan"), a
qualified plan under Sections 401(a) and 401(k) of the Internal Revenue Code,
until August 31, 1997. Effective September 1, 1997, the FHC Plan was merged into
the FHS 401(k) Plan. Substantially all of the Company's employees are eligible
to participate in the Plan. Under the Plan, the Company makes matching
contributions equal to 50% of a participant's salary deferral up to a maximum of
6%, which is equal to a maximum of 3% of each participating employee's
compensation. The Company's contribution to the Plan totaled $929, $742 and $608
for the years ended December 31, 1997, 1996 and 1995, respectively.

Certain members of management and highly compensated employees participate
in a deferred compensation plan which allows the participants to defer payment
of up to 90% of their compensation. In connection with the FHC and Health
Systems International, Inc. 1997 merger, the plan was frozen in May 1997, at
which time each participant's account was credited with three times the 1996
Company match (or a lesser amount for certain prior participants) and each
participant became 100% vested in all such contributions. The current provisions
with respect to the form and timing of payments under the plan remain unchanged.
The Company's expense relating to these benefits totaled $795, $652 and $605 for
the years ended December 31, 1997, 1996 and 1995, respectively.

12. COMMITMENTS

The Company is obligated under several non-cancellable operating leases for
office facilities and certain equipment. These leases contain rent adjustment
provisions to compensate the lessor for increases in operating costs.

Future minimum lease payments under the operating leases are as follows:

<TABLE>
<S> <C>
1998....................................................... $ 8,874
1999....................................................... 7,245
2000....................................................... 6,392
2001....................................................... 5,299
2002....................................................... 1,591
Thereafter................................................. 1,675
-------
Total minimum lease payments..................... $31,076
=======
</TABLE>

F-63
<PAGE> 245
THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO COMBINED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(DOLLARS IN THOUSANDS)

Rental expenses totaled approximately $8,696, $8,389, and $7,333 for the
years ended December 31, 1997, 1996 and 1995 respectively.

13. LITIGATION

In the ordinary course of its business, the Company is a party to claims
and legal actions. The Company also undergoes regulatory audits with respect to
operations. After consulting with legal counsel, management is of the opinion
that any liability that may ultimately be incurred as a result of these claims,
legal actions or audits will not have a material adverse effect on the financial
position or results of operations of the Company.

14. PREPAID EXPENSES AND OTHER ASSETS

A summary of prepaid and other assets at December 31 is as follows:

<TABLE>
<CAPTION>
1997 1996
------- -------
<S> <C> <C>
Deposits............................................... $ 1,652 $ 1,193
Notes receivable....................................... 1,258 --
Prepaid expenses....................................... 681 1,448
Other.................................................. 1,782 19
------- -------
Total........................................ $ 5,373 $ 2,660
======= =======
</TABLE>

15. ACCOUNTS PAYABLE AND OTHER LIABILITIES

A summary of accounts payable and other liabilities at December 31 is as
follows:

<TABLE>
<CAPTION>
1997 1996
------- -------
<S> <C> <C>
Premium taxes, regulatory and assessment fees.......... $ 8,905 $ 9,172
Payables to affiliates................................. 10,443 3,019
Accrued expenses and other payables.................... 10,562 6,617
Payable for investments................................ 10,430 3,049
Salary and related expenses............................ 3,503 2,306
------- -------
Total........................................ $43,843 $24,163
======= =======
</TABLE>

F-64
<PAGE> 246

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.
CONDENSED COMBINED BALANCE SHEETS
(IN THOUSANDS)

<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
ASSETS
INVESTMENTS:
Fixed maturities:
Available for sale........................................ $ 656,829 $ 611,163
Held to maturity.......................................... 14,020 14,059
Real estate................................................. 29,658 29,821
Promissory note............................................. 10,000 10,000
Short-term investments...................................... 96,649 68,558
---------- ----------
TOTAL INVESTMENTS................................. 807,156 733,601
Cash and cash equivalents................................... (15,330) 29,570
Reinsurance receivable...................................... 216,101 229,521
Premiums receivable......................................... 91,592 94,944
Less: Allowance............................................. (15,686) (14,936)
Earned but unbilled premiums................................ 22,155 24,401
Accrued investment income................................... 11,092 10,605
Deferred policy acquisition costs........................... 24,681 23,841
Property & equipment, net................................... 15,557 14,556
Goodwill and other intangible assets, net................... 13,951 14,266
Deferred income taxes....................................... 17,793 15,807
Income taxes receivable..................................... 10,506 40,857
Other assets................................................ 5,454 5,373
---------- ----------
TOTAL ASSETS...................................... $1,205,022 $1,222,406
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
LIABILITIES
Reserves for losses and loss expenses....................... $ 713,473 $ 728,421
Unearned premium reserve.................................... 49,469 45,004
Notes payable............................................... 121,750 121,750
Reinsurance payable......................................... 24,571 28,027
Accrued expenses and accounts payable....................... 30,307 30,900
Accrued dividends to policyholders.......................... 2,823 3,015
Other liabilities........................................... 15,608 12,943
---------- ----------
TOTAL LIABILITIES................................. 958,001 970,060
STOCKHOLDER'S EQUITY:
Common stock and Invested capital........................... 167,416 167,416
Retained earnings........................................... 75,879 80,060
Unrealized investment holding gains (losses)................ 3,726 4,870
---------- ----------
TOTAL STOCKHOLDER'S EQUITY........................ 247,021 252,346
========== ==========
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY........ $1,205,022 $1,222,406
========== ==========
</TABLE>

F-65
<PAGE> 247

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

CONDENSED COMBINED STATEMENT OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 1998 AND 1997
(IN THOUSANDS)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------------
1998 1997
(UNAUDITED) (UNAUDITED)
<S> <C> <C>
REVENUES:
Gross premiums earned..................................... $146,512 $158,473
Ceded premiums earned..................................... (6,900) (37,085)
-------- --------
Net premiums earned............................... 139,612 121,388
Net investment income..................................... 9,627 9,574
Realized capital gains.................................... 226 --
Other income.............................................. 166 853
-------- --------
TOTAL REVENUE..................................... 149,631 131,815
EXPENSES:
Losses and loss adjustment expenses incurred.............. 114,286 83,967
Other underwriting expenses............................... 39,055 31,406
Dividends to policyholders................................ 120 --
Depreciation.............................................. 883 699
Amortization.............................................. 309 68
Interest expense.......................................... 2,359 2,128
Administrative expense.................................... 2,194 --
-------- --------
TOTAL COSTS AND EXPENSES.......................... 159,206 118,268
INCOME BEFORE INCOME TAXES.................................. (9,575) 13,547
Provision for federal income tax expense.................... (5,394) 2,746
-------- --------
NET INCOME........................................ $ (4,181) $ 10,801
======== ========
RATIOS TO NET PREMIUMS EARNED:
Losses and loss adjustment expenses incurred.............. 81.9% 69.2%
Other underwriting expenses............................... 28.0% 25.9%
Dividends to policyholders................................ 0.1% 0.0%
Depreciation.............................................. 0.6% 0.6%
-------- --------
110.6% 95.7%
======== ========
</TABLE>

F-66
<PAGE> 248

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.
CONDENSED COMBINED STATEMENT OF CHANGES IN STOCKHOLDER'S EQUITY
(IN THOUSANDS)
(UNAUDITED)

<TABLE>
<CAPTION>
NET
UNREALIZED TOTAL
GAIN(LOSS) STOCKHOLDER'S
ON INVESTMENTS INVESTED CAPITAL EQUITY
<S> <C> <C> <C>
Balance as at December 31, 1996........................ 1,799 266,093 267,892
Net income (loss)...................................... (29,417) (29,417)
Capital contributions.................................. 10,800 10,800
Unrealized gain on available for sale investments, net
of deferred taxes.................................... 3,071 3,071
------- -------- --------
Balance as at December 1997............................ $ 4,870 $247,476 $252,346
------- -------- --------
Net income (loss)...................................... (4,181) (4,181)
Unrealized gain (loss) on available for sale
investments, net of deferred taxes................... (1,144) (1,144)
------- -------- --------
Balance as at March 31, 1998........................... $ 3,726 $243,295 $247,021
======= ======== ========
</TABLE>

F-67
<PAGE> 249

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

CONDENSED COMBINED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)

<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------
1998 1997
---------- ----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)......................................... $ (4,181) $ 10,801
Adjustments to reconcile net income to net cash provided
by (used in) operating activities:
Amortization of bonds.................................. 1,189 1,035
Depreciation on real estate............................ 163 149
Depreciation on property, plant & equipment............ 883 699
Loss (gain) on sale of investments..................... (226) --
Amortization of goodwill and intangible assets......... 315 193
(Increase) decrease in reinsurance recoverables........ 9,288 (22,398)
(Increase) decrease in premiums receivable............. 4,102 1,315
(Increase) decrease in earned but unbilled
receivables........................................... 2,246 1,795
(Increase) decrease in accrued investment income....... (487) 1,367
(Increase) decrease in receivable from insurer......... 4,132 --
(Increase) decrease in deferred policy acquisition
costs................................................. (840) (3,618)
(Increase) decrease in income taxes receivable......... 30,351 (576)
(Increase) decrease in prepaid reinsurance premiums.... -- 7,328
(Increase) decrease in deferred income taxes........... (1,354) 989
(Increase) decrease in prepaid and other assets........ (81) 561
(Increase) decrease in loss and loss adjustment
expenses.............................................. (14,948) 21,467
(Increase) decrease in unearned premium reserves....... 4,465 5,451
(Increase) decrease in reinsurance payable............. (3,456) (2,228)
(Increase) decrease in policyholder dividend payable... (192) --
(Increase) decrease in accounts payable and other
liabilities........................................... 2,072 (4,331)
-------- --------
Total adjustments................................. 37,622 9,198
-------- --------
Net cash provided by (used in) operating
activities...................................... 33,441 19,999
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of bonds available for sale..................... (89,024) (39,887)
Sales of bonds available for sale......................... 40,620 23,314
Maturities of bonds:
Bonds held to maturity................................. 39 40
Purchases of property, plant & equipment.................. (1,884) (379)
Purchases of real estate.................................. 0 (1,287)
-------- --------
Net cash provided by (used in) investing
activities...................................... (50,249) (18,199)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on long-term debt...................... -- (4,500)
Capital contributions..................................... -- 4,500
-------- --------
Net cash provided by (used in) financing
activities...................................... -- --
-------- --------
Net Increase (Decrease) in Cash and Cash Equivalents........ (16,808) 1,800
Cash and Cash Equivalents at Beginning of Quarter........... 98,128 25,861
-------- --------
Cash and Cash Equivalents at End of Quarter................. $ 81,320 $ 27,661
======== ========
</TABLE>

F-68
<PAGE> 250

THE INSURANCE OPERATIONS OF
BUSINESS INSURANCE GROUP, INC.

NOTES TO CONDENSED COMBINED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 1998 AND 1997
(UNAUDITED)

NOTES A.1 SUMMARY OF SIGNIFICANT ACCOUNTING PRINCIPLES AND BASIS OF PRESENTATION

Business Insurance Group, Inc. ("BIG"), is an insurance holding company and
ultimately a wholly owned subsidiary of Foundation Health Systems, Inc. ("FHS").
BIG serves as the immediate parent company for four workers' compensation
insurance subsidiary companies, as well as certain non-insurance entities. On
May 5, 1998, FHS entered into a definitive agreement to sell BIG and its four
insurance subsidiaries [California Compensation Insurance Company ("CalComp"),
Business Insurance Company ("BICO"), Combined Benefits Insurance Company
("CBIC"), and Commercial Compensation Insurance Company ("CCIC")] to Superior
Insurance Group, Inc. ("Superior") of Calabasas, California. The transaction,
subject to customary closing conditions including regulatory approvals and a
favorable vote from Superior's shareholders, is expected to close in the fourth
quarter of 1998.

The accompanying combined financial statements include the accounts of BIG
and its insurance subsidiaries, CalComp, BICO, CBIC and CCIC. BIG is also the
parent company of Foundation Integrated Risk Management Solutions, Inc.
("FIRMS"), which is a workers' compensation risk management and third party
claims administrator, and Foundation Health Medical Resources Management
("ReviewCo."), which provides bill review, access to provider networks and other
managed care service for workers' compensation carriers and third party
administrators. FIRMS and ReviewCo. are not included in the sale to Superior.
Therefore, for the purposes of this report, the operations, assets and
liabilities of these non-insurance subsidiaries are not included in the
accompanying financial statements. Also, under the terms of the agreement with
Superior, certain assets and liabilities (including the note from parent,
long-term debt due to parent and other intercompany balances), will be settled
at or prior to the closing of the transaction. In addition, investment real
estate will be purchased by FHS at book value prior to or at the closing date of
the transaction.

NOTE A.2 LOSSES AND LOSS ADJUSTMENT EXPENSES ("LAE")

Losses and LAE are estimates on case-basis amounts of reported claims and
unreported losses and loss adjustment expenses based on experience and industry
data. The provision for unpaid losses and loss adjustment expenses, net of
estimated salvage and subrogation, has been established to cover the estimated
net cost of incurred claims. The amounts are necessarily based on estimates, and
accordingly, there can be no assurance the ultimate liability will not differ
from such estimates.

F-69
<PAGE> 251

INDEPENDENT AUDITORS' REPORT

The Board of Directors
Superior National Insurance Group, Inc.:

We have audited the accompanying consolidated balance sheets of Pac Rim Holding
Corporation and subsidiaries as of December 31, 1996 (as restated -- see Note 2)
and 1995, and the related consolidated statements of operations, stockholders'
equity, and cash flows for each of the years in the three-year period ended
December 31, 1996 (restated as to 1996 -- see Note 2). These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Pac Rim Holding
Corporation and subsidiaries as of December 31, 1996 and 1995, and the results
of their operations and their cash flows for each of the years in the three-year
period ended December 31, 1996 in conformity with generally accepted accounting
principles.

KPMG Peat Marwick, LLP

Los Angeles, California
August 28, 1997

F-70
<PAGE> 252

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

ASSETS

<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1996 1995
---------- --------
(RESTATED)
<S> <C> <C>
Investments:
Bonds, available-for-sale at fair value (amortized cost
$55,245 and $119,314).................................. $ 54,759 $121,771
Short-term investments (at cost, which approximates fair
value)................................................. 56,794 7,260
-------- --------
Total investments................................. 111,553 129,031
Cash........................................................ 1,731 773
Reinsurance recoverable on outstanding losses............... 3,124 3,884
Reinsurance receivable on paid losses....................... 785 184
Premiums receivable, less allowance for doubtful accounts of
$2,516 (Restated) and $1,221.............................. 14,278 11,616
Earned but unbilled premiums................................ 4,142 4,880
Investment income receivable................................ 609 2,207
Deferred policy acquisition costs........................... 1,065 974
Property and equipment, less accumulated depreciation and
amortization of $4,978 and $3,803......................... 4,411 2,434
Unamortized debenture issue costs........................... 1,063 1,468
Federal income taxes recoverable............................ -- 1,456
Deferred federal income taxes, net.......................... 8,745 8,348
Prepaid reinsurance premiums................................ 198 227
Other assets................................................ 3,731 1,569
-------- --------
Total Assets...................................... $155,435 $169,051
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Reserve for losses and loss adjustment expenses............. $100,588 $ 96,525
Convertible debentures payable, less unamortized discount of
$1,059 and $1,393......................................... 18,941 18,607
Unearned premiums........................................... 6,917 5,715
Reserve for policyholder dividends.......................... 364 381
Obligation under capital lease.............................. 1,203 --
Accrued expenses and accounts payable....................... 8,148 3,668
-------- --------
Total Liabilities................................. 136,161 124,896
Commitments and contingencies
Stockholders' Equity:
Preferred Stock:
$.01 par value -- shares authorized 500,000; none
issued and outstanding................................ -- --
Common Stock:
$.01 par value -- shares authorized 35,000,000 issued
and outstanding 9,528,200............................. 95 95
Additional paid-in capital.................................. 29,624 29,624
Warrants.................................................... 1,800 1,800
Unrealized gain (loss) on available-for-sale securities,
net....................................................... (324) 1,622
Retained earnings (deficit)................................. (11,921) 11,014
-------- --------
Net Stockholders' Equity.................................... 19,274 44,155
-------- --------
Total Liabilities and Stockholders' Equity........ $155,435 $169,051
======== ========
</TABLE>

See notes to consolidated financial statements.
F-71
<PAGE> 253

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------
1996 1995 1994
---------- ------- -------
(RESTATED)
<S> <C> <C> <C>
REVENUES:
Net premiums earned...................................... $ 82,654 $76,016 $92,894
Net investment income.................................... 7,013 8,089 6,514
Realized capital gains................................... 1,640 453 --
A&H commission income.................................... 8 -- --
-------- ------- -------
Total revenue.................................... 91,315 84,558 99,408
COSTS AND EXPENSES:
Losses and loss adjustment expenses...................... 79,890 50,957 63,788
Amortization of policy acquisition costs -- net.......... 14,672 18,647 19,565
Administrative, general, and other....................... 16,752 11,662 11,927
Policyholder dividends................................... (11) 132 1,301
Interest expense......................................... 2,341 2,306 857
-------- ------- -------
Total costs and expenses......................... 113,644 83,704 97,438
-------- ------- -------
Income (loss) before income taxes.......................... (22,329) 854 1,970
Income tax expense......................................... 606 279 812
-------- ------- -------
NET INCOME (LOSS).......................................... $(22,935) $ 575 $ 1,158
======== ======= =======
PER SHARE DATA:
NET INCOME (LOSS) PRIMARY AND FULLY DILUTED.............. $ (2.41) $ 0.06 $ 0.12
======== ======= =======
</TABLE>

See notes to consolidated financial statements.
F-72
<PAGE> 254

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(AMOUNTS IN THOUSANDS, EXCEPT FOR NUMBER OF SHARES)

<TABLE>
<CAPTION>
UNREALIZED
GAIN (LOSS)
COMMON STOCK ON
------------------ AVAILABLE-
NUMBER ADDITIONAL FOR-SALE RETAINED
OF PAID-IN SECURITIES, EARNINGS
SHARES AMOUNT CAPITAL WARRANTS NET (DEFICIT) TOTAL
--------- ------ ---------- -------- ----------- --------- -------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1994......... 9,528,200 $95 $29,624 -- -- $ 9,281 $39,000
Unrealized gain on
available-for-sale securities at
January 1, 1994, net............. -- -- -- -- 96 -- 96
Additional paid in
capital-warrants................. -- -- -- 1,800 -- -- 1,800
Net income......................... -- -- -- -- -- 1,158 1,158
Change in unrealized loss of
available-for-sale securities,
net.............................. -- -- -- -- (4,877) -- (4,877)
--------- --- ------- ------ ------- -------- -------
Balance at December 31, 1994....... 9,528,200 95 29,624 1,800 (4,781) 10,439 37,177
--------- --- ------- ------ ------- -------- -------
Net income....................... -- -- -- -- -- 575 575
Change in unrealized gain of
available-for-sale securities,
net............................ -- -- -- -- 6,403 -- 6,403
--------- --- ------- ------ ------- -------- -------
Balance at December 31, 1995....... 9,528,200 95 29,624 1,800 1,622 11,014 44,155
--------- --- ------- ------ ------- -------- -------
Net loss (Restated)................ -- -- -- -- -- (22,935) (22,935)
Change in unrealized loss of
available-for-sale securities,
net.............................. -- -- -- -- (1,946) -- (1,946)
--------- --- ------- ------ ------- -------- -------
Balance at December 31, 1996,
(Restated)....................... 9,528,200 $95 $29,624 $1,800 $ (324) $(11,921) $19,274
========= === ======= ====== ======= ======== =======
</TABLE>

See notes to consolidated financial statements.
F-73
<PAGE> 255

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(AMOUNTS IN THOUSANDS)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------
1996 1995 1994
---------- -------- -------
(RESTATED)
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net Income (loss)......................................... $(22,935) $ 575 $ 1,158
Adjustments to reconcile net income (loss) to net cash
provided (used) by operating activities:
Depreciation and amortization.......................... 2,001 1,421 930
Provision for losses on premiums receivable............ 1,295 150 (143)
Provision for deferred income taxes.................... 606 1,340 1,188
Realized capital gains................................. (1,640) (453) --
Changes in:
Reserve for losses and loss adjustment expenses...... 4,063 (20,104) (19,336)
Unearned premiums.................................... 1,202 (4,202) 1,655
Reserve for policyholder dividends................... (17) (609) (1,539)
Ceded reinsurance payable............................ -- -- (252)
Premiums receivable.................................. (3,219) 255 5,413
Reinsurance recoverable.............................. 159 (1,936) 13,044
Aggregate excess of loss reinsurance recoverable..... -- -- 10,812
Prepaid reinsurance premiums......................... 29 153 2,435
Deferred policy acquisition costs.................... (91) 1,111 (953)
Income taxes recoverable............................. 1,456 (1,013) 1,916
Accrued expenses and accounts payable................ 4,466 116 319
Investment income receivable......................... 1,598 148 (1,372)
Other assets......................................... (2,162) 229 630
---------- -------- -------
NET CASH PROVIDED (USED) BY OPERATING
ACTIVITIES...................................... (13,189) (22,819) 15,905
---------- -------- -------
INVESTING ACTIVITIES
Purchase of investments -- bonds.......................... (47,622) (40,524) (67,788)
Sales of investments -- bonds............................. 104,172 61,343 --
Maturity and calls of investments -- bonds................ 9,080 1,028 7,228
Additions to property and equipment....................... (1,949) (836) (918)
---------- -------- -------
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES....... 63,681 21,011 (61,478)
---------- -------- -------
FINANCING ACTIVITIES
Proceeds from issuance of convertible debentures.......... -- -- 20,000
Debenture issuance costs.................................. -- -- (2,025)
---------- -------- -------
NET CASH PROVIDED BY FINANCING ACTIVITIES.............. -- -- 17,975
---------- -------- -------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS............ 50,492 (1,808) (27,598)
Cash and cash equivalents at beginning of period............ 8,033 9,841 37,439
---------- -------- -------
CASH AND CASH EQUIVALENTS AT END OF PERIOD............. $58,525 $ 8,033 $ 9,841
========== ======== =======
SUPPLEMENTAL DISCLOSURE:
Interest paid............................................. $1,600 $ 1,615 $ -0-
========== ======== =======
Income taxes paid......................................... $-0- $ 37 $ -0-
========== ======== =======
</TABLE>

The Company entered into a capital lease during 1996, to acquire certain
operating system hardware and software; the lease obligation at December 31,
1996 was $1,203,000.

See notes to consolidated financial statements.
F-74
<PAGE> 256

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES
DECEMBER 31, 1996
(RESTATED)

NOTE 1 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization: Pac Rim Holding Corporation ("Pac Rim Holding") is a holding
company that was incorporated in 1987 in Delaware. The accompanying consolidated
financial statements include the accounts and operations of the holding company
and its subsidiary, The Pacific Rim Assurance Company ("Pacific Rim Assurance")
and its subsidiary, Regional Benefits Insurance Services, Inc., (collectively
referred to herein as "the Company"). All significant intercompany transactions
and balances are eliminated in consolidation. Pacific Rim Assurance is engaged
exclusively in the business of writing workers' compensation insurance in
California, Arizona, Georgia, Alabama and Texas. Regional Benefits Insurance,
Inc. ("RBIS") is an insurance agency.

Sale of Pac Rim Holding: The previously announced acquisition of Pac Rim
Holding by Superior National Insurance Group, Inc. ("SNTL") was completed on
April 11, 1997. Pac Rim Holding was acquired for aggregate consideration of $42
million in cash. The $42 million payment by SNTL resulted in the payment of
approximately $20 million ($2.105 per share) to Pac Rim Holding's common
stockholders, $20 million to Pac Rim Holding's convertible debenture holders,
and $2 million to Pac Rim Holding's warrant and option holders.

Accounting Principles: The accompanying consolidated financial statements
are presented on the basis of generally accepted accounting principles ("GAAP"),
which differ in some respects from prescribed and permitted statutory accounting
practices followed in reports to the Insurance Departments. Prescribed statutory
accounting practices include a variety of publications of the National
Association of Insurance Commissioners, as well as state laws, regulations, and
general administrative rules. Permitted statutory accounting practices encompass
all accounting practices not so prescribed. The principal differences relate to
the non-admission of certain assets, examples are, deferred income taxes,
deferred policy acquisition costs, earned but unbilled premiums, premiums
receivable, and software.

Earned Premiums: Earned premiums and the liability for unearned premiums
are calculated by formula such that the premium written is earned pro rata over
the term of the policy. The insurance policies currently written by the Company
are for a period of one year or less. Premiums earned include an estimate for
earned but unbilled premiums.

Reserve for Losses and Loss Adjustment Expenses: The reserve for losses and
loss adjustment expenses ("LAE") is based on the accumulation of cost estimates
for each loss reported prior to the close of the accounting periods and
provision for the probable cost of losses that have occurred but have not yet
been reported. The Company does not discount such reserves for financial
reporting purposes. The methods for making such estimates and for establishing
the resulting liabilities are continually reviewed and updated and any
adjustments resulting therefrom are included in current operations when
determined. While the ultimate amount of losses incurred and the related expense
is dependent on future developments, management is of the opinion that, given
the inherent variability in any such estimates, the reserve for unpaid losses,
and LAE is within a reasonable range of adequacy.

Policy Acquisition Costs: Policy acquisition costs, such as commissions,
premium taxes, and other underwriting costs related to the production and
retention of business, are deferred and amortized as the related premiums are
earned. Anticipated investment income is considered in determining the
recoverability of this asset. Other policy acquisition costs that do not vary
with the production of new business are expensed when incurred and are included
in administrative, general, and other expenses.

Policyholder Dividends: Certain policies written by the Company are
eligible for policyholder dividends. An estimated provision for policyholder
dividends is accrued as the related premiums are earned. Such
F-75
<PAGE> 257
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

dividends do not become a legal liability of Pacific Rim Assurance unless, and
until, declared by the board of directors.

Investments: The Company has designated all of its portfolio as
"available-for-sale" and accordingly, bonds are carried at market with the
unrealized gain (loss) reflected in equity, net of the applicable income taxes.
The cost of investments sold is determined by specific identification.

Property and Equipment: Property and equipment is stated at cost.
Depreciation of property and equipment is computed using the straight-line
method over an estimated useful life of five years for financial reporting
purposes. Leasehold improvements are amortized on the straight-line method over
the life of the lease.

Taxes: The Company recognizes deferred tax assets and liabilities based on
the expected future tax consequences of existing differences between financial
reporting and tax reporting bases of assets and liabilities and operating loss
and tax credit carry forwards for tax purposes. The insurance subsidiary pays
premium taxes on gross premiums written in California in lieu of state income
taxes.

Cash and Cash Equivalents: For purposes of the statements of cash flows,
certificates of deposit and short-term investments with an original maturity of
three months or less, at date of purchase, are considered to be cash
equivalents.

Stockholders' Equity: The issuance of the convertible debentures included
issuing detachable warrants to purchase common stock (See Note 6). The value of
these warrants was $1,800,000, which was recorded as warrants in the
Consolidated Balance Sheets.

Earnings Per Share: Net income (loss) per share is computed on the basis of
the weighted average shares of common stock, plus common stock equivalent shares
arising from the effect of the stock options, warrants, and convertible
debentures to the extent they are dilutive. (See Notes 6 and 7). The number of
shares used in the computation of primary and fully diluted earnings per share
for the years ended December 31, 1996, 1995 and 1994 was 9,528,200.

New Accounting Standards: In October 1995, FASB issued Statement No. 123,
"Accounting For Stock-Based Compensation" which established a fair value based
method of accounting for stock-based compensation plans. This statement is
effective for financial statements with fiscal years beginning after December
15, 1995. The Company elected to continue accounting for stock-based
compensation based on Accounting Principles Board (APB) No. 25; and thus, the
Company adopted only the disclosure provision of FASB Statement No. 123.

Fair Values of Financial Instruments: The carrying amounts of financial
instruments, other than investment securities, approximate their fair values.
For investment securities, the fair values for fixed maturity securities are
based on quoted market prices. The carrying amounts and fair values for all
investment securities are disclosed in Note 3.

Reclassifications: Certain prior year amounts in the accompanying financial
statements have been reclassified to conform with the 1996 presentation.

F-76
<PAGE> 258
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

NOTE 2 -- RESTATEMENT OF 1996 FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
NET
STOCKHOLDERS'
NET LOSS EQUITY
-------- -------------
(AMOUNTS IN THOUSANDS)
<S> <C> <C>
As originally stated at December 31, 1996............ $(15,900) $26,309
Change in EBUB....................................... (3,385) (3,385)
Change in allowance for doubtful accounts............ (1,460) (1,460)
Write-off of deferred merger expenses................ (479) (479)
Additional accrued expenses and accounts payable..... (1,278) (1,278)
Write-off of gain contingencies...................... (433) (433)
-------- -------
As restated at December 31, 1996..................... $(22,935) $19,274
======== =======
</TABLE>

Earned But Unbilled Premiums: Earned but unbilled premiums ("EBUB")
represent management's estimate of future additional or return premiums
generated by interim and final audits of payroll and rate classification data
associated with the Company's expired and inforce workers' compensation
policies. EBUB is generally based upon estimated and actual payrolls and rates
provided by policyholders, and historical billing patterns adjusted for changes
in regulations, pricing, and billing practices and procedures. The Company's
former management recorded $7.9 million in EBUB at December 31, 1996.

Current management attempted to reconcile its estimates with that of prior
management's recorded EBUB, and found prior management's methodology to be
fundamentally flawed. In light of the flawed methodology used by prior
management, current management reduced EBUB by $3.385 million.

Premiums receivable: At December 31, 1996, the Company had recorded
premiums receivable of $15.7 million, net of an allowance of doubtful accounts
of $1.1 million. Further, included in the $15.7 million premiums receivable, net
of the allowance for doubtful accounts were $1.6 million in premiums receivable
that had been turned over to an attorney for collection.

Based upon information contained in the December 31, 1996, 10-(K) and other
sources available to prior management, it was apparent to current management
that an additional allowance was required.

Deferred merger expenses: GAAP provides that certain costs related to an
acquisition of another company may be deferred by the acquiring Company. Costs
related to the acquisition of the company being acquired may not be deferred.
Pac Rim Holdings at December 31, 1996, had improperly deferred $0.479 million in
legal and investment banking costs related to its acquisition by SNTL.

Accrued expenses and accounts payable: At December 31, 1996, former
management estimated it had unpaid liabilities of $7.3 million. The current
management identified an additional $1.278 million in accrued liabilities and
accounts payable relating to legal, commissions, and miscellaneous general and
administrative expenses that were substantially known at year-end.

Gain contingencies: GAAP does not provide for the recognition of a gain
prior to its realization. At December 31, 1996, the Company recorded $433,000 in
such contingent gains. These gains related to anticipated legal actions that had
not gone to trial or had not been settled at December 31, 1996. Therefore, in
accordance with GAAP these contingent gains were eliminated from the
Consolidated Statements of Operations.

F-77
<PAGE> 259
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

NOTE 3 -- INVESTMENTS

Major categories of investment income, net of investment expenses, for
1996, 1995 and 1994 are summarized as follows (amounts in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1996 1995 1994
------ ------ ------
<S> <C> <C> <C>
Investment Income:
U.S. Treasury and Other Governmental Agency
Securities.................................. $4,065 $5,365 $5,508
Money Market Funds............................. 418 309 291
Funds Held by Reinsurer........................ -- -- 169
Corporate Bonds................................ 2,762 2,655 700
Tax-Exempt Bonds............................... -- 4 102
Certificates of Deposit........................ 31 22 9
------ ------ ------
Investment Income.............................. 7,276 8,355 6,779
Less: Investment Expenses...................... 263 266 265
------ ------ ------
Net Investment Income............................ $7,013 $8,089 $6,514
====== ====== ======
</TABLE>

Proceeds from the sales of investments in bonds during 1996 were
$104,172,000; gross gains of $1,888,000 and gross losses of $248,000 were
realized on those sales. Proceeds from the sales of investments in bonds during
1995 were $61,343,000; gross gains of $657,000 and gross losses of $204,000 were
realized on those sales. There were no sales of investments in bonds during
1994.

The amortized cost and fair values of investments in debt securities are
summarized as follows (amounts in thousands):

<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS (LOSSES) VALUE
--------- ---------- ---------- --------
<S> <C> <C> <C> <C>
1996
U.S. Treasury and other governmental $ 28,808 $ 5 $(184) $ 28,629
agencies..............................
Corporates.............................. 13,765 2 (204) 13,563
U.S. agencies........................... 12,341 8 (118) 12,231
Asset backed............................ 331 5 -- 336
-------- ------ ----- --------
Total......................... $ 55,245 $ 20 $(506) $ 54,759
======== ====== ===== ========
1995
U.S. Treasury and other governmental $ 68,963 $ 17 $(157) $ 68,823
agencies..............................
Corporates.............................. 33,793 1,886 -- 35,679
U.S. agencies........................... 10,546 418 -- 10,964
Asset backed............................ 6,012 293 -- 6,305
-------- ------ ----- --------
Total......................... $119,314 $2,614 $(157) $121,771
======== ====== ===== ========
</TABLE>

F-78
<PAGE> 260
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

The amortized cost and fair value of debt securities at December 31, 1996,
by contractual maturity are summarized as follows (amounts in thousands):

<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
--------- -------
<S> <C> <C>
Due in 1997....................................... $10,701 $10,696
Due 1998 - 2001................................... 44,544 44,063
------- -------
$55,245 $54,759
======= =======
</TABLE>

The expected maturities will differ from contractual maturities in the
preceding table, because borrowers have the right to call or prepay certain
obligations with or without call or prepayment penalties. At December 31, 1996,
debt securities and short-term investments with a fair value of $105,301,000
were on deposit to meet the Company's statutory obligation under insurance
department regulations.

NOTE 4 -- RESERVE FOR LOSSES AND LOSS ADJUSTMENT EXPENSES

The Company recognized adverse development during 1996, for the accident
years 1995 and prior. Despite experiencing favorable trends in the overall
frequency and severity of claims for the 1995 and 1996 accident years, the
Company and its internal and independent actuaries observed development patterns
in the 1990-1994 accident years that were volatile when compared to previous
historical patterns. In particular, 1990-1992, were very difficult accident
years to predict, due to the impact of fraud and stress claims from adverse
economic conditions. The 1993-1994 accident years were very favorable transition
years, following legislative reforms to the workers' compensation benefits
system. Nevertheless, it was unclear how each of those years ultimately would
develop, and how subsequent accident year patterns would thus be affected, given
paid loss and case reserve activity during 1996.

F-79
<PAGE> 261
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

The following table provides a reconciliation of beginning and ending loss
and LAE reserves for the years 1996, 1995, and 1994. All reserve totals are net
of reinsurance deductions. There are no material differences between the
Company's reserves for losses and LAE calculated in accordance with GAAP and
those reserves calculated based on statutory accounting practices.

RECONCILIATION OF RESERVE FOR LOSSES AND LOSS ADJUSTMENT EXPENSES

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------
1996 1995 1994
---------- -------- --------
(RESTATED)
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C>
Liability for losses and LAE, net of
reinsurance recoverables on unpaid
losses, at beginning of year........... $ 92,641 $114,709 $111,109
Provisions for losses and LAE, net of
reinsurance recoverable:
Current accident year.................. 62,244 49,962 60,989
Prior accident years................... 17,646 995 2,799
-------- -------- --------
Incurred losses during the current year,
net of reinsurance recoverable......... 79,890 50,957 63,788
Losses and LAE payment for claims, net of
reinsurance recoverable, occurring
during:
Current year........................... 16,398 13,473 13,641
Prior years............................ 58,669 59,552 46,547
-------- -------- --------
75,067 73,025 60,188
-------- -------- --------
Liability for losses and LAE, net of
reinsurance recoverable on unpaid
losses, at end of year................. 97,464 92,641 114,709
Reinsurance recoverable, at end of
year................................... 3,909 4,068 2,132
Less reinsurance recoverable on paid
losses................................. (785) (184) (212)
-------- -------- --------
Reinsurance recoverable on unpaid losses,
at end of year......................... 3,124 3,884 1,920
-------- -------- --------
Liability for losses and LAE, gross of
reinsurance recoverable on unpaid
losses, at end of year................. $100,588 $ 96,525 $116,629
======== ======== ========
</TABLE>

During 1991 through 1994, the Company, and the workers' compensation
industry in California in general, went through a dramatically changing
experience in losses and LAE incurred. During 1991 and 1992, the Company
experienced a substantial number of claims related to adverse economic
conditions, particularly for the 1990 and 1991 accident years.

In addition, there were "stress and strain" claims that did not involve
traumatic physical loss or injury, many of which were suspected by the Company
to be fraudulently submitted.

Throughout 1994, 1995 and 1996, the Company continued to experience a
favorable trend in the frequency of new claims. The positive trends and
experience related to new claims since the second half of 1992 have been
consistent with favorable experience of other workers' compensation insurance
specialty companies in California. In addition, the level of claims closed was
in excess of the level of new claims reported during 1994 and 1995. As a result,
the Company's estimate of loss and LAE reserves for the 1993, 1994, 1995 and
1996 accident years is based on substantially lower loss ratios than the 1991
and prior accident years. Nevertheless, despite improved frequency and lower
overall loss and LAE ratios in those years, the volatile changes in legislative,
economic, managed medical care, and litigation expense factors, affecting
historical paid loss and case reserve development patterns, have made it more
difficult to estimate the ultimate
F-80
<PAGE> 262
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

dollar cost of those reported claims. Thus, the inherent variability has
increased, and recognition of adverse development of prior years' estimates has
occurred.

NOTE 5 -- REINSURANCE

Under the Company's specific excess of loss reinsurance treaty, the
reinsurers assume the liability on that portion of workers' compensation claims
between $350,000 and $80,000,000 per occurrence.

The components of net premiums written are summarized as follows (amounts
in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------
1996 1995 1994
---------- ------- --------
(RESTATED)
<S> <C> <C> <C>
Direct.................................... $85,796 $75,553 $101,661
Assumed................................... 2,568 375 112
Ceded..................................... (4,479) (3,962) (4,789)
------- ------- --------
Net premiums written...................... $83,885 $71,966 $ 96,984
------- ------- --------
</TABLE>

The components of net premiums earned are summarized as follows (amounts in
thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------
1996 1995 1994
---------- ------- --------
(RESTATED)
<S> <C> <C> <C>
Direct.................................... $84,916 $79,920 $100,008
Assumed................................... 2,247 209 110
Ceded..................................... (4,509) (4,113) (7,224)
------- ------- --------
Net premiums earned....................... $82,654 $76,016 $ 92,894
------- ------- --------
</TABLE>

The components of net losses and loss adjustment expenses are summarized as
follows (amounts in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------
1996 1995 1994
------- -------- -------
<S> <C> <C> <C>
Direct....................................... $79,840 $ 54,454 $64,700
Assumed...................................... 1,559 188 149
Ceded........................................ (1,509) (3,685) (1,061)
------- -------- -------
Net losses and loss adjustment expenses...... $79,890 $ 50,957 $63,788
------- -------- -------
</TABLE>

A contingent liability exists to the extent that losses recoverable under a
reinsurance treaty are not paid to the Company by the reinsurer.

NOTE 6 -- LONG TERM DEBT

The Company had $20,000,000 in principal outstanding on its August 16,
1994, issue of Series A Convertible Debentures, with detachable warrants to
purchase 3,800,000 shares of the Company's common stock, of which 90% were owned
by PRAC, Ltd., a Nevada limited partnership. PRAC, Ltd. is controlled by Mr.
Richard Pickup, a former director. Mr. Pickup controlled approximately 26% of
the outstanding shares of the Company through various investment entities, which
together were the Company's largest stockholder. The remaining 10% were held by
the Company's primary reinsurer.

F-81
<PAGE> 263
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

The Debentures carried an 8% rate of interest, payable semi-annually and
were due on August 16, 1999. The Debentures were convertible at the holder's
option, into shares of common stock at a conversion price of $2.75 per share.
The Debentures were subject to automatic conversion if, after three years from
issuance, the price of the Common Stock exceeds 150% of the conversion price for
a period of 20 out of 30 consecutive trading days.

The Debenture Agreement also provided for the issuance to the Investor of
detachable warrants (the "Warrants") to acquire 1,500,000 shares of the
Company's common stock at an exercise of $2.50 per share (the "Series 1
Warrants"), 1,500,000 shares at an exercise price of $3.00 per share (the
"Series 2 Warrants"), and 800,000 shares at an exercise price of $3.50 per share
(the "Series 3 Warrants"). The Warrants expired on August 16, 1999, and the
exercise price of the Warrants was subject to downward adjustment in the event
of adverse development in the Company's December 31, 1993 loss and allocated
adjustment expense reserves related to the 1992 and 1993 accident years,
measured as of June 30, 1997. Under the terms of the Debenture Agreement, the
maximum adverse development that would impact the exercise price of the Warrants
is $20,000,000. In the event that the adverse development of reserves for those
periods exceeds $20,000,000, the exercise price of Series 1 Warrants would be
reduced to $0.01, and the exercise price of the Series 2 Warrants would be
reduced to $1.39 per share.

The Debenture Agreement includes covenants, which provide, among other
things, the Company maintain at least $32,200,000 in total stockholders' equity.
At December 31, 1996, the Company was not in compliance with certain of the
covenants. In April 1997, the debentures were repaid and the warrants purchased
in connection with the acquisition of the Company by SNTL.

The Debentures are carried on the balance sheet net of unamortized discount
of $1,059,000 at December 31, 1996. The effective average interest rate of this
debt after consideration of debt issuance costs and discount was 13.3%.

During 1996, the Company completed design and implementation of an
enhancement to its electronic data processing system. That system created
electronic files of claim and policyholder information, which substantially
decreases the need to access paper files and allows for more efficient handling
of claims and other underwriting activities. The project included an investment
in electronic data processing equipment, as well as software. The investment was
financed through a capital lease obligation covering a period of 36 months. The
lease contains a bargain purchase option at the end of the lease term. The total
cost of the equipment and software, $1,203,000, has been included in property
and equipment, and the present value of the capital lease obligation has been
recorded as a liability. Minimum lease payments are as follows (amounts in
thousands):

<TABLE>
<CAPTION>
YEAR AMOUNT
---- ------
<S> <C>
1997................................................ $504
1998................................................ 504
1999................................................ 307
</TABLE>

NOTE 7 -- STOCK OPTIONS

The Company has stock option plans that provide for options to purchase Pac
Rim Holding common stock at a price not less than fair values as of the date of
the grant. The options under those plans are

F-82
<PAGE> 264
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

exercisable over a period of up to ten years, at which time they expire. A
summary of the activity in the stock option plans is as follows:

<TABLE>
<CAPTION>
STOCK OPTIONS
--------------------------------
SHARES PRICE RANGE
--------- -----------
<S> <C> <C> <C> <C>
Outstanding at January 1, 1994................... 1,214,000 $1.00 - $11.41
Granted........................................ 500,000 2.75 - 5.50
Exercised...................................... --
Cancelled...................................... (736,375) 2.50 - 11.41
---------
Outstanding at December 31, 1994................. 977,625 1.00 - 8.50
Granted........................................ 65,000 2.50 - 3.19
Exercised...................................... --
Cancelled...................................... (85,000) 3.25 - 8.50
---------
Outstanding at December 31, 1995................. 957,625 1.00 - 8.50
Granted........................................ -- -- --
Exercised...................................... -- -- --
Cancelled...................................... (52,750) 2.50 - 8.50
---------
Outstanding at December 31, 1996................. 904,875 1.00 - 8.50
=========
</TABLE>

Under the 1988 stock option plan, 510,125 shares of common stock are
available for future grants of options. As of December 31, 1996, options to
purchase 676,000 shares of the Company's common stock at a price range of $1.00
to $8.50 were vested and were exercisable under the Company's stock option plan.
Subject to certain conditions, such as continued employment, the exercise of the
options is not restricted. The options expire at various dates through 2003. The
Company accounts for these plans under APB Opinion No. 25, under which no
compensation cost has been recognized. Had compensation cost for these plans
been determined consistent with SFAS No. 123, the Company's net income (loss)
and earnings (loss) per share would not have been materially different from that
reported.

Certain current officers and directors of the Company purchased as
aggregate of 136,000 shares of common stock at a purchase price of $1.00 per
share pursuant to the Pac Rim Holding 1987 Stock Purchase Plan (the "Stock
Purchase Plan"). The Stock Purchase Plan was terminated in 1988. Shares
purchased pursuant to the Stock Purchase Plan may be repurchased by Pac Rim
Holding in the event that the purchaser's service to the Company terminates
prior to specified points of time.

NOTE 8 - COMMITMENT AND CONTINGENCIES

The Company currently leases office facilities in Woodland Hills, and
Fresno, California as well as Phoenix, Arizona under noncancellable operating
leases that are subject to escalation clauses. Minimum rental commitments on the
operating leases are as follows (amounts in thousands):

<TABLE>
<CAPTION>
YEAR AMOUNT
---- ------
<S> <C>
1997................................................ 2,430
1998................................................ 2,381
1999................................................ 2,297
2000................................................ 2,269
2001................................................ 2,226
All Years Thereafter................................ 742
</TABLE>

Rent expense for 1996, 1995 and 1994, was $2,468,000, $2,461,000 and
$2,491,000, respectively.

F-83
<PAGE> 265
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

The Company is a party to two industrywide lawsuits, involving two medical
facilities. This litigation claims the insurance industry conspired to delay
payments of claims. While the ultimate outcome of this litigation is uncertain,
management believes that such litigation will not have a material adverse
financial effect on the Company's financial position and results of operations.

In addition, in the ordinary course of business, the Company is named as a
defendant in legal proceedings relating to policies of insurance that have been
issued and other incidental matters. Management does not believe that any such
litigation, taken as a whole, will have a material adverse financial effect on
the Company's financial position and results of operations.

NOTE 9 -- REGULATORY MATTERS

Under regulatory restrictions the ability of Pacific Rim Assurance to pay
dividends to its stockholders is limited. Generally, dividends payable during a
twelve month period, without prior regulatory approval, is limited to the
greater of net income for the preceding year or 10% of policyholders' surplus as
of the preceding December 31. The payment of dividends without prior California
Insurance Department ("DOI") approval can only be paid out of "earned surplus".
Under these provisions, Pacific Rim Assurance paid $1,100,000 in dividends in
1996 to Pac Rim Holding.

As reported to insurance regulatory authorities, statutory-basis capital
and surplus of Pacific Rim Assurance at December 31, 1996 and 1995, was
$27,216,000 and $46,549,000, respectively, and the net income (loss) amounted to
$(13,069,000), $4,879,000, and $(2,878,000) for 1996, 1995, and 1994,
respectively. At December 31, 1996, Pacific Rim Assurance had a deficit balance
of $(17,202,000) in its earned surplus account. Accordingly, Pacific Rim
Assurance cannot pay dividends to its parent during 1997, without prior DOI
approval.

Subsequent to Pacific Rim Assurance filing its 1995 annual statement with
regulatory authorities, the DOI issued its triennial report for the three years
ended December 31, 1995. As a result of the DOI's triennial report the Company
was required to reduce its statutory surplus by $27 million, leaving Pacific Rim
Assurance with a statutory surplus of $19 million at December 31, 1995. Pacific
Rim Assurance did not reflect or only partially reflected the DOI required
adjustments in their 1996 annual statement. The following table summarizes the
amounts required to be recorded and the amounts reflected in the Pacific Rim
Assurance 1996 annual statement. As the table reflects, Pacific Rim Assurance's
statutory surplus would have been reduced by an additional $4.626 million.

<TABLE>
<CAPTION>
REDUCTION IN
SURPLUS RECORDED
REDUCTION IN SURPLUS IN THE ANNUAL UNRECORDED
PER EXAMINATION STATEMENT REDUCTIONS IN SURPLUS
-------------------- ------------------ ---------------------
<S> <C> <C> <C>
Premiums and agents' balances due in
the course of collections........... $ 2,918 $ 2,918 --
Federal income tax recoverable........ 1,318 1,318 --
Electronic data processing
equipment........................... 1,626 -- $1,626
Loss and Loss Adjustment Expense...... 21,500 18,500 3,000
------- ------- ------
Total................................. $27,362 $22,736 $4,626
======= ======= ======
</TABLE>

The Risk Based Capital Model (RBC) for property and casualty companies was
adopted by the National Association of Insurance Commissioners in December 1993,
requiring companies to calculate and report their RBC ratios annually. RBC is a
company's statutory surplus adjusted through a formula for trends in premiums
written and claims activities, credit risk, asset risk, and underwriting risk.
The Company's total adjusted capital is compared to its authorized control
level. Pacific Rim Assurance previously reported that it had met its RBC
requirements for 1996.

F-84
<PAGE> 266
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

As a result of the adjustments discussed in Note 2 that have been recorded
as part of this restatement and adjustments indicated to be recorded as a result
of the DOI's triennial examination not reflected in its 1996 annual statement
filed with the DOI and other regulatory bodies, the RBC level of Pacific Rim
Assurance would have placed it in an action level. Depending upon the action
level that Pacific Rim Assurance would be categorized as, the DOI could have
required it to develop a rehabilitation plan, restrict or eliminate its ability
to write additional premiums, require additional surplus to be raised or take
other actions considered necessary. As a result of SNTL's acquisition of Pacific
Rim Assurance with the DOI's approval and SNTL's contribution of $10 million to
its surplus, Pacific Rim Assurance's adjusted statutory capital exceeds the
minimal RBC level.

NOTE 10 -- INCOME TAXES

The components of the provision for total income tax expense are summarized
as follows (amount in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1996 1995 1994
---------- ------- ------
(RESTATED)
<S> <C> <C> <C>
Current..................................... $ 0 $(1,061) $ (376)
Deferred.................................... 606 1,340 1,188
---- ------- ------
Total............................. $606 $ 279 $ 812
---- ------- ------
</TABLE>

A reconciliation of income tax computed at the U.S. federal statutory tax
rates to total income tax expense is as follows (amounts in thousands):

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
1996 1995 1994
---- ---- ----
(RESTATED)
<S> <C> <C> <C>
Federal statutory rate............................. $(7,592) $290 $670
Increase (decrease) in taxes resulting from:
Valuation allowance.............................. 8,129 -- --
Tax-exempt interest.............................. -- (1) (30)
Other............................................ 69 (10) 172
------- ---- ----
Total tax expense........................ $ 606 $279 $812
======= ==== ====
</TABLE>

At December 31, 1996, the Company has an alternative minimum tax credit of
$334,000 for tax purposes. Alternative minimum tax credits may be carried
forward indefinitely to offset future regular tax liabilities. At December 31,
1996, the Company has a tax net operating loss of $23,403,000 (restated) which
can be used to offset taxable income in future years, of which $2,676,000
expires in 2010 and $20,727,000 (restated) expires in 2011.

F-85
<PAGE> 267
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

Deferred income taxes reflect the net tax effect of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets and liabilities are summarized as follows
(amounts in thousands):

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------
1996 1995
------- ------
(RESTATED)
<S> <C> <C>
Deferred tax assets
Discounting of loss reserves.......................... $ 7,273 $7,189
Unearned premiums..................................... 470 373
Allowance for doubtful accounts....................... 855 415
Rental expense........................................ 512 518
Unrealized loss of securities......................... 167 --
Net operating loss carry forward...................... 7,957 910
Alternative minimum tax credit carry forward.......... 334 334
Policyholder dividends................................ 121 --
Other -- net.......................................... 21 93
------- ------
Total deferred tax assets............................... 17,710 9,832
Less: Valuation allowance............................... 8,129 --
Deferred tax liabilities:
Deferred policy acquisition........................... 362 331
Earned but unbilled premiums.......................... 282 165
Prepaid insurance..................................... 56 86
Unrealized gain on securities......................... -- 835
Other -- net.......................................... 136 67
------- ------
Total deferred tax liabilities.......................... $ 836 $1,484
------- ------
Net deferred tax assets................................. $ 8,745 $8,348
======= ======
</TABLE>

There were no taxes paid in 1995 and 1996.

Because of the significant operating loss during 1996, management believed
that it was prudent to record a valuation allowance of $8.1 million. Management
believes that it is more likely than not the net deductible temporary
differences not supported by the valuation allowance will reverse during periods
in which the Company generates net taxable income. However, there can be no
assurance the Company will generate any earnings or any specific level of
continuing earnings in future years. Certain tax planning strategies could be
implemented to supplement income from operations to fully realize recorded
benefits.

NOTE 11 -- DISCLOSURE OF CERTAIN SIGNIFICANT RISKS AND UNCERTAINTIES

Nature of Operations

During the year ended December 31, 1996, the Company wrote 88% of its
business in the state of California. The workers' compensation industry in the
state of California has seen many changes to regulations in the past few years
including the adoption of open rating. The Company cannot predict what
regulatory changes will be made in the future; therefore, the Company cannot
with certainty predict what material effects any potential changes will have on
the Company.

F-86
<PAGE> 268
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

At December 31, 1996, 35% of the Company's premiums in force had been
generated by its five highest producing agencies and brokerage firms, two of
which accounted for 17% of total premiums in force at that date.

Use of Estimates

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

Loss and Loss Adjustment Expenses

Loss and loss adjustment expenses are based on case-basis estimates of
reported claims and on estimates, based on experience and industry data, for
unreported loss and loss adjustment expenses. The provision for unpaid loss and
loss adjustment expenses, net of estimated salvage and subrogation, has been
established to cover the estimated net cost of incurred claims. The amounts are
necessarily based on estimates, and accordingly, there can be no assurance the
ultimate liability will not differ from such estimates.

There is a high level of uncertainty inherent in the evaluation of the
required loss and loss adjustment expense reserves. Management has selected
ultimate loss and loss adjustment expense that it believes will reasonably
reflect anticipated ultimate experience. The ultimate costs of such claims are
dependent upon future events, the outcomes of which are affected by many
factors. Claims reserving procedures and settlement philosophy, current and
perceived social and economic factors, inflation, current and future court
rulings and jury attitudes, and many other economic, scientific, legal,
political, and social factors all can have significant effects on the ultimate
costs of claims. Changes in Company operations and management philosophy also
may cause actual developments to vary from the past.

NOTE 12 -- RELATED PARTY TRANSACTIONS

The Company had a five-year employment contract with its former president
that expired on August 16, 1997. Under the provisions of the contract, the
President received annual compensation of $400,000 and a possible bonus, based
on achievement by the Company of various earnings-based performance criteria.
The agreement also provided for the payment of certain other fringe benefits.

The Company loaned to the former President $150,000 annually in 1991, 1992,
1993. As of December 31, 1996 and 1995, the loan balance was $450,000. The loan
bore interest at 6.3% on the principal amount, which was secured by the
President's pledge of shares of the Company's common stock, and payable in full
by February 16, 1998. As of December 31, 1996, the loan was secured by shares of
the Company's common stock with a market value equal to 100% of the principal
balance. The loan was eliminated on April 11, 1997, in conjunction with the
purchase of Pac Rim Holding.

The Company granted the former President options to purchase 250,000 shares
of the Company's common stock at an exercise price of $2.75 per share and
250,000 shares at $5.50 per share.

The Company used the law firm of Barger & Wolen for legal services. Dennis
W. Harwood was a member of the Company's Board of Directors, and Richard D.
Barger was a member of Pacific Rim Assurance's Board of Directors, as well as
being a partner with Barger & Wolen. During 1996, the Company paid Barger &
Wolen $711,000 for legal services. The fees paid for these services were charged
to the Company at the normal rates charged to the firm's other clients.

F-87
<PAGE> 269
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

PAC RIM HOLDING CORPORATION AND SUBSIDIARIES (CONTINUED)

The Company also used the legal services of The Busch Firm. Timothy R.
Busch, former Chairman of the Company's Board of Directors, is a partner in The
Busch Firm. During 1996, the Company paid the Busch Firm $20,000 for legal
services. The fees paid for these services are charged to the Company at the
normal rates charged to the firm's other clients.

NOTE 13 -- 401(K) PLAN

The Pacific Rim Assurance Company 401(K) Plan (the "Plan") permits
employees of the Company who attain the age of 21 and complete 30 days of
employment to elect to make tax-deferred contributions of a specified percentage
of their compensations during each year through payroll deductions. Under the
Plan, the Company has discretion to make additional contributions. The Company
has not yet made any discretionary employer contributions to the plan.

F-88
<PAGE> 270

ANNEX A

PURCHASE AGREEMENT

BY AND BETWEEN

FOUNDATION HEALTH CORPORATION

AND

SUPERIOR NATIONAL INSURANCE GROUP, INC.

MAY 5, 1998
<PAGE> 271

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
ARTICLE I
PURCHASE AND SALE

SECTION 1.1 Purchase and Sale........................................... A-2
SECTION 1.2 Purchase Price.............................................. A-2
SECTION 1.3 Closing..................................................... A-2

ARTICLE II

REPRESENTATIONS AND WARRANTIES OF SELLER

SECTION 2.1 Organization................................................ A-2
SECTION 2.2 Capitalization.............................................. A-3
SECTION 2.3 Ownership of Stock.......................................... A-3
SECTION 2.4 Authorization; Validity of Agreement........................ A-3
SECTION 2.5 Consents and Approvals; No Violations....................... A-3
SECTION 2.6 Financial Statements........................................ A-4
SECTION 2.7 No Undisclosed Liabilities.................................. A-5
SECTION 2.8 Absence of Certain Changes.................................. A-5
SECTION 2.9 Employee Benefit Plans; ERISA............................... A-5
SECTION 2.10 Litigation.................................................. A-6
SECTION 2.11 No Default; Compliance with Applicable Laws................. A-6
SECTION 2.12 Taxes....................................................... A-7
SECTION 2.13 Property.................................................... A-8
SECTION 2.14 Intellectual Property....................................... A-8
SECTION 2.15 Contracts................................................... A-8
SECTION 2.16 Labor Matters............................................... A-9
SECTION 2.17 Brokers or Finders.......................................... A-9
SECTION 2.18 Transactions with Related Parties........................... A-9
SECTION 2.19 Environmental Matters....................................... A-9
SECTION 2.20 Year 2000 Compliance........................................ A-10
SECTION 2.21 Insurance................................................... A-10
SECTION 2.22 Bank Accounts............................................... A-10

ARTICLE III

REPRESENTATIONS AND WARRANTIES OF PURCHASER
SECTION 3.1 Organization................................................ A-11
SECTION 3.2 Authorization; Validity of Agreement; Necessary Action...... A-11
SECTION 3.3 Consents and Approvals; No Violations....................... A-11
SECTION 3.4 Acquisition for Investment.................................. A-12
SECTION 3.5 Financing................................................... A-12
SECTION 3.6 Investigation by Purchaser.................................. A-12
SECTION 3.7 Capital Adequacy; Solvency.................................. A-12

ARTICLE IV

COVENANTS
SECTION 4.1 Interim Operations of Seller................................ A-13
SECTION 4.2 Access to Information....................................... A-14
</TABLE>

A-ii
<PAGE> 272

<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
SECTION 4.3 Tax Matters................................................. A-15
SECTION 4.4 Employee Matters............................................ A-18
SECTION 4.5 Publicity................................................... A-19
SECTION 4.6 Approvals and Consents; Cooperation; Notification........... A-19
SECTION 4.7 No Solicitation............................................. A-20
SECTION 4.8 Excluded Assets, Real Property.............................. A-20
SECTION 4.9 Intercompany Accounts....................................... A-20
SECTION 4.10 Reserve Cover............................................... A-21
SECTION 4.11 Audited Financial Statements; Quarterly Statements.......... A-21
SECTION 4.12 Related Party Service Agreements............................ A-21
SECTION 4.13 Lease Renewals.............................................. A-22
SECTION 4.14 Further Assurances.......................................... A-22
SECTION 4.15 State Insurance Regulatory Approval for CCIC................ A-22
SECTION 4.16 Stockholder Approval and Financing.......................... A-22

ARTICLE V

INDEMNIFICATION
SECTION 5.1 Indemnification by Seller................................... A-23
SECTION 5.2 Indemnification by Purchaser................................ A-23
SECTION 5.3 Survival of Representations and Warranties.................. A-23
SECTION 5.4 Notice and Opportunity to Defend............................ A-24
SECTION 5.5 Adjustment for Insurance and Taxes.......................... A-24
SECTION 5.6 Mitigation of Loss.......................................... A-25
SECTION 5.7 Subrogation................................................. A-25
SECTION 5.8 Tax Indemnification......................................... A-25
SECTION 5.9 Set-Off..................................................... A-25
SECTION 5.10 Exclusive Remedy............................................ A-25

ARTICLE VI

CONDITIONS
SECTION 6.1 Conditions to Each Party's Obligation to Effect the
Closing..................................................... A-25
SECTION 6.2 Conditions to the Obligations of Purchaser.................. A-26
SECTION 6.3 Conditions to the Obligations of Seller..................... A-26

ARTICLE VII

TERMINATION
SECTION 7.1 Termination................................................. A-27
SECTION 7.2 Procedure and Effect of Termination......................... A-28
SECTION 7.3 Breakup Fee................................................. A-28

ARTICLE VIII

MISCELLANEOUS
SECTION 8.1 Governing Laws and Consent to Jurisdiction.................. A-28
SECTION 8.2 Amendment and Modification.................................. A-29
SECTION 8.3 Notices..................................................... A-29
SECTION 8.4 Interpretation.............................................. A-29
SECTION 8.5 Counterparts................................................ A-30
SECTION 8.6 Entire Agreement; Third Party Beneficiaries................. A-30
</TABLE>

A-iii
<PAGE> 273

<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
SECTION 8.7 Severability................................................ A-30
SECTION 8.8 Service of Process.......................................... A-30
SECTION 8.9 Specific Performance........................................ A-31
SECTION 8.10 Assignment.................................................. A-31
SECTION 8.11 Expenses.................................................... A-31
SECTION 8.12 Waivers..................................................... A-31
</TABLE>

<TABLE>
<S> <C>
ANNEXES
Index to Defined Terms...................................... Annex A

EXHIBITS
Description of Reinsurance Agreement........................ Exhibit A
Service Agreements.......................................... Exhibits B-1-B-4
Form of Voting Agreement.................................... Exhibit C-1-C-2
</TABLE>

[Exhibits have been intentionally omitted for purposes of this Proxy Statement]

A-iv
<PAGE> 274

INDEX TO DISCLOSURE SCHEDULE

<TABLE>
<CAPTION>
TITLE SECTION
----- -------
<S> <C>
Capitalization.............................................. 2.2
Consents and Approvals; No Violations....................... 2.5
Financial Statements........................................ 2.6
No Undisclosed Liabilities.................................. 2.7
Absence of Certain Changes.................................. 2.8
Employee Benefit Plans; ERISA............................... 2.9(a)
Employee Benefit Plans; ERISA............................... 2.9(d)
Employee Benefit Plans; ERISA............................... 2.9(e)
Employee Benefit Plans; ERISA............................... 2.9(h)
Employee Benefit Plans; ERISA............................... 2.9(k)
Litigation.................................................. 2.10
No Default; Compliance With Applicable Laws................. 2.11(a)
No Default; Compliance With Applicable Laws................. 2.11(b)
Taxes....................................................... 2.12
Property.................................................... 2.13
Intellectual Property....................................... 2.14
Contracts................................................... 2.15
Labor Matters............................................... 2.16
Transactions with Related Parties........................... 2.18
Environmental Matters....................................... 2.19(b)
Year 2000 Matters........................................... 2.20
Insurance................................................... 2.21
Bank Accounts............................................... 2.22
Interim Operations of Seller................................ 4.1
Employee Benefits........................................... 4.4(b)
Intercompany Accounts....................................... 4.9
</TABLE>

INDEX TO PURCHASER DISCLOSURE SCHEDULE

<TABLE>
<CAPTION>
TITLE SECTION
----- -------
<S> <C>
Consent and Approvals; No Violations........................ 3.3
</TABLE>

A-v
<PAGE> 275

PURCHASE AGREEMENT

PURCHASE AGREEMENT, dated as of May 5, 1998 (this "Agreement"), by and
between Foundation Health Corporation, a Delaware corporation ("Seller"), and
Superior National Insurance Group, Inc., a Delaware corporation ("Purchaser").

WHEREAS, Seller is the owner of all of the outstanding shares (the
"Shares") of capital stock of Business Insurance Group, Inc., a Delaware
insurance holding company (the "Company"), whose principal assets are all of the
capital stock of each of California Compensation Insurance Company, a California
stock insurance company ("CalComp"), Business Insurance Company, a Delaware
stock insurance company ("BIC"), Combined Benefits Insurance Company, a
California stock insurance company ("CBIC") and Commercial Compensation
Insurance Company, a New York stock insurance company ("CCIC", and together with
CalComp, BIC and CBIC, taken as a whole, the "Insurance Subsidiaries", and
together with the Company, the "Seller Subsidiaries");

WHEREAS, the Seller Subsidiaries have the right to acquire the reinsurance
policy described on Exhibit A (the "Reinsurance Agreement") and a condition to
the obligations of the Purchaser to consummate the transactions contemplated
hereby is that the Seller Subsidiaries shall have entered into the Reinsurance
Agreement;

WHEREAS, Purchaser desires to purchase from Seller, and Seller desires to
sell to Purchaser, all of the Shares of the Company, and by that means, the
ownership of the Seller Subsidiaries, subject to the terms and conditions of
this Agreement;

WHEREAS, Seller intends, prior to the Closing (as hereinafter defined), to
cause the Company to dividend or otherwise distribute all of the capital stock
of each of Foundation Health Medical Resource Management, d/b/a Reviewco
("Reviewco"), Foundation Integrated Risk Management Solutions, Incorporated,
d/b/a FIRM Solutions ("FIRMS") and Axis Integrated Resources, Inc. ("Axis"),
each a wholly owned subsidiary of the Company (collectively, the "Excluded
Assets") to one or more other Affiliates of Seller;

WHEREAS, contemporaneous with the Closing (i) Purchaser, the Company and
Reviewco will enter into a long-term service agreement consistent with the terms
of Exhibit B-1 (e.g., medical bill review, PPO utilization and certain managed
care services), (ii) Purchaser, the Company and FIRMS will enter into a
long-term service agreement consistent with the terms of Exhibit B-2 (e.g.,
claim negotiation and review services), (iii) Purchaser, the Company and Axis
will enter into a long-term service agreement consistent with the terms of
Exhibit B-3 (e.g., recruitment of employees and placement of temporary workers
services) and (iv) Purchaser, the Company and Foundation Health Systems, Inc.
("FHS"), will enter into a term sheet setting forth the terms of a transitional
service agreement in the form of Exhibit B-4 (e.g., transitional corporate
administrative services) (collectively, the "Service Agreements");

WHEREAS, Seller holds certain promissory notes, dated May 30, 1996 and
August 9, 1996 issued by the Company in the current combined principal amount of
$121,250,000 plus all accrued and unpaid interest thereon (the "Intercompany
Note"), which will be satisfied in connection with the sale of the Shares;

WHEREAS, certain stockholders of Purchaser, including certain of the
executive officers and directors of the Purchaser and Insurance Partners, L.P.,
Insurance Partners Offshore (Bermuda), L.P. and certain of their affiliates have
entered into Voting Agreements, dated the date hereof in the forms of Exhibit
C-1-C-2 (the "Voting Agreements"), whereby such stockholders have agreed under
the terms thereof to vote all of their shares of common stock of Purchaser in
favor of all matters that require stockholder approval in order to consummate
the transactions contemplated hereby; and

WHEREAS, Purchaser and Seller desire to treat the sale of the Shares as a
sale of the Seller Subsidiaries' assets for purposes of Federal income taxation
and to make an election under Section 338(h)(10) of the Internal Revenue Code of
1986, as amended (the "Code") with respect to the Company and each of the
Insurance Subsidiaries.

A-1
<PAGE> 276

NOW, THEREFORE, in consideration of the foregoing and the representations,
warranties, covenants and agreements set forth herein, and other good and
valuable consideration, the receipt and sufficiency of which is hereby
acknowledged, the parties, intending to be legally bound hereby, agree as
follows:

ARTICLE I

PURCHASE AND SALE

SECTION 1.1 Purchase and Sale. Upon the terms and subject to the
conditions set forth in this Agreement, at the Closing, Seller shall sell,
assign, transfer and deliver to Purchaser, and Purchaser shall purchase from
Seller, the Shares, free and clear of all options, pledges, security interests,
liens or other encumbrances or restrictions on voting or transfer
("Encumbrances"), other than restrictions imposed by Federal or state securities
laws.

SECTION 1.2 Purchase Price. On the Closing Date (as hereinafter defined)
and subject to the terms and conditions set forth in this Agreement, Seller
shall deliver a certificate or certificates representing the Shares duly
endorsed in blank or accompanied by stock powers duly executed in blank and, in
consideration of the sale, assignment, transfer and delivery of the Shares,
Purchaser shall pay to Seller an amount equal to $280,000,000 less the cost of
the Reinsurance Agreement (the "Purchase Price") by wire transfer of immediately
available funds to an account or accounts designated by Seller. The Intercompany
Note will be settled prior to Closing. Interest accrued prior to Closing on the
Intercompany Note may continue to be paid to Seller consistent with past
practices. All accrued but unpaid interest on the Intercompany Note as of the
Closing Date will be settled pursuant to Section 4.9.

SECTION 1.3 Closing.

(a) The sale and purchase of the Shares contemplated by this Agreement
shall take place at a closing (the "Closing") to be held at the offices of
Riordan & McKinzie in Los Angeles at 8:00 a.m. local time on a date as soon as
practical following the satisfaction or waiver of all conditions to the
obligations of the parties set forth in Article VI, but in no event later than
September 15, 1998 (or October 15, 1998, in the event Purchaser has commenced
its common stock rights offering contemplated by the Financing Agreements), or
at such other place or at such other time or on such other date as Seller and
Purchaser mutually agree on in writing (the day on which the Closing takes place
being the "Closing Date").

(b) At the Closing, Seller shall deliver or cause to be delivered to
Purchaser (i) stock certificates evidencing the Shares duly endorsed in blank or
accompanied by stock powers duly executed in blank, (ii) duly executed Service
Agreements, (iii) a duly executed Reinsurance Agreement and (iv) all other
previously undelivered certificates and other documents required to be delivered
by Seller to Purchaser at or prior to the Closing Date in connection with the
transactions contemplated hereby.

(c) At the Closing, Purchaser shall deliver to Seller (i) the Purchase
Price by wire transfer in immediately available funds to an account or accounts
designated by Seller, (ii) duly executed Service Agreements and (iii) all other
previously undelivered certificates and other documents required to be delivered
by Purchaser to Seller at or prior to the Closing Date in connection with the
transactions contemplated hereby.

ARTICLE II

REPRESENTATIONS AND WARRANTIES OF SELLER

Seller represents and warrants to Purchaser as follows:

SECTION 2.1 Organization. Seller and each Seller Subsidiary is a
corporation duly organized, validly existing and in good standing under the laws
of the jurisdiction of its incorporation or organization and has all requisite
power and authority to own, lease and operate its properties and to carry on its
business as it is now being conducted. Seller and each Seller Subsidiary is duly
qualified or licensed to do business as a foreign corporation or other entity
and is in good standing in each jurisdiction in which the nature of the business

A-2
<PAGE> 277

conducted by it makes such qualification or licensing necessary. Seller has made
available to Purchaser a complete and correct copy of each of the articles or
certificate of incorporation, bylaws, certificate of formation, operating
agreement or similar organizational documents of Seller and each Seller
Subsidiary, as currently in effect. As used in this Agreement, "Seller Material
Adverse Effect" means any material adverse change in, or material adverse effect
on, the business, financial condition or operations of the Seller Subsidiaries,
taken as a whole; provided, however, that, the effects of changes that are
generally applicable to (i) changes resulting from market fluctuations in the
value of the Seller Subsidiaries' investment portfolio and (ii) the commutation
of the Agreement of Reinsurance No. 8382 and the Agreement of Reinsurance No.
8429, each between the Seller Subsidiaries and General Reinsurance Corporation,
if completed prior to Closing, shall be excluded from the determination of
Seller Material Adverse Effect; and provided, further, that any adverse effect
on the Seller Subsidiaries resulting from the execution of this Agreement and
the announcement of this Agreement and the transactions contemplated hereby
shall also be excluded from the determination of Seller Material Adverse Effect.

SECTION 2.2 Capitalization. Section 2.2 of the written statement delivered
by Seller to Purchaser at or prior to the execution of this Agreement (the
"Disclosure Schedule") sets forth the authorized, issued and outstanding capital
stock of each Seller Subsidiary. All the outstanding shares of capital stock of
the Seller Subsidiaries are duly authorized, validly issued, fully paid,
nonassessable and free of preemptive rights. There are no existing (i) options,
warrants, calls, subscriptions or other rights, convertible securities,
agreements or commitments of any character obligating Seller or any Seller
Subsidiary to issue, transfer or sell any shares of capital stock or other
equity interest in any Seller Subsidiary or securities convertible into or
exchangeable for such shares or equity interests, (ii) contractual or other
obligations of any Seller Subsidiary to repurchase, redeem or otherwise acquire
any capital stock of Seller or any Seller Subsidiary or (iii) voting trusts or
similar agreements or understandings to which Seller or any Seller Subsidiary is
a party with respect to the voting of the capital stock of any Seller
Subsidiary.

SECTION 2.3 Ownership of Stock. The Shares are owned by Seller free and
clear of all Encumbrances, other than restrictions imposed by Federal and state
securities laws. All of the issued and outstanding shares of the stock of each
of the Insurance Subsidiaries is owned by the Company free and clear of all
Encumbrances other than restrictions imposed by Federal and state securities
laws. Upon the consummation of the transactions contemplated hereby, Purchaser
will acquire title to the Shares, free and clear of all Encumbrances, other than
restrictions imposed by Federal and state securities laws.

SECTION 2.4 Authorization; Validity of Agreement. Seller and each Seller
Subsidiary, as appropriate, has the power and authority to execute and deliver
this Agreement and all the agreements and documents contemplated hereby, to
carry out its obligations hereunder and thereunder, and to consummate the
transactions contemplated hereby and thereby. The execution, delivery and
performance by Seller and each Seller Subsidiary, as appropriate, of this
Agreement, and all the agreements and documents contemplated hereby and thereby,
and the consummation by it of the transactions contemplated hereby and thereby,
have been duly authorized by all necessary corporate action, and no other
corporate action on the part of Seller or such Seller Subsidiary is necessary to
authorize the execution and delivery by Seller and such Seller Subsidiary as,
appropriate, of this Agreement and all the agreements and documents contemplated
hereby and thereby and the consummation by it of the transactions contemplated
hereby and thereby. This Agreement and each of the agreements and documents
contemplated hereby has been duly executed and delivered by Seller and the
Seller Subsidiaries, as appropriate, and (assuming due and valid authorization,
execution and delivery hereof by Purchaser) is a valid and binding obligation of
Seller and the Seller Subsidiaries, as appropriate, enforceable against Seller
and the Seller Subsidiaries, as appropriate, in accordance with its terms,
except that (i) such enforcement may be subject to applicable bankruptcy,
insolvency, reorganization, moratorium or other similar laws now or hereafter in
effect affecting creditors' rights generally and (ii) the remedy of specific
performance and injunctive and other forms of equitable relief may be subject to
equitable defenses and to the discretion of the court before which any
proceeding therefor may be brought.

SECTION 2.5 Consents and Approvals; No Violations. Except as disclosed in
Section 2.5 of the Disclosure Schedule and except for (a) filings pursuant to
the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the "HSR
Act"), (b) approvals or consents of any court, legislative, executive or

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regulatory authority or agency (a "Governmental Entity") under insurance holding
company laws of the states in which the Seller Subsidiaries are domiciled or as
may be otherwise required by law, (c) applicable requirements under corporation
or "blue sky" laws of various states and (d) matters specifically described in
this Agreement, neither the execution, delivery or performance of this Agreement
or any agreement or document contemplated hereby by Seller or any Seller
Subsidiary, as the case may be, nor the consummation by Seller or any Seller
Subsidiary, as the case may be, of the transactions contemplated hereby or
thereby will (i) violate any provision of the articles or certificate of
incorporation, bylaws or other organizational documents of Seller or any Seller
Subsidiary, (ii) result in a violation or breach of, or constitute (with or
without due notice or lapse of time or both) a default (or give rise to any
right of termination, cancellation or acceleration) under, or result in the
creation of any lien, security interest, charge or encumbrances upon any of the
properties or assets of Seller or any Seller Subsidiary under (or result in
being declared void, voidable or without further binding effect) any of the
terms, conditions or provisions of any note, bond, mortgage, indenture, lease,
license, contract, agreement or other instrument, commitment or obligation to
which Seller or any Seller Subsidiary is a party or by which any of them or any
of their properties or assets may be bound, (iii) violate any order, writ,
judgment, injunction, decree, law, statute, rule or regulation applicable to
Seller, any Seller Subsidiary or any of their properties or assets, (iv) require
on the part of Seller or any Seller Subsidiary any filing or registration with,
notification to, or authorization, consent or approval of, any Governmental
Entity or (v) result in a termination, loss or adverse modification of any
license, permit, certificate or franchise granted to, or otherwise held by,
Seller or any Seller Subsidiary; except in the case of clauses (ii) through (v)
for such violations, breaches, defaults or other events specified therein,
which, or filings, registrations, notifications, authorizations, consents or
approvals the failure of which to obtain, would (A) not have a Seller Material
Adverse Effect and would not materially adversely affect the ability of Seller
to consummate the transactions contemplated by this Agreement or (B) become
applicable as a result of the business or activities in which Purchaser is or
proposes to be engaged or as a result of any acts or omissions by, or the status
of any facts pertaining to, Purchaser.

SECTION 2.6 Financial Statements.

(a) Seller has delivered to Purchaser the unaudited consolidated balance
sheets of the Seller Subsidiaries as of December 31, 1997, and the related
unaudited consolidated statements of income for each of the two years in the
period ended December 31, 1997 (collectively, the "Financial Statements").
Except as set forth in Section 2.6 of the Disclosure Schedule, (i) the Financial
Statements have been derived from the books and records of the Seller
Subsidiaries and (ii) (A) the unaudited consolidated balance sheets included in
the Financial Statements present fairly in all material respects, the financial
position of the Seller Subsidiaries as of the respective dates thereof, and (B)
the other related unaudited statements of income present fairly, in all material
respects, the results of their operations for the periods therein specified, in
each case prepared in accordance with United States Generally Accepted
Accounting Principles ("GAAP"), except for the absence of footnote disclosures,
Statements of Cash Flows and Statements of Changes in Stockholders' Equity, all
of which are required under GAAP.

(b) Seller has delivered to Purchaser copies of audited statutory financial
statements for each Insurance Subsidiary as of the year ended December 31, 1997,
prepared in conformity with accounting practices prescribed or permitted by the
respective state of domicile for each Insurance Subsidiary (collectively, the
"STAT Financial Statements"). Each of the balance sheets included in the STAT
Financial Statements fairly presents in all material respects the financial
position of the applicable Seller Subsidiary as of December 31, 1997 and each
statement of operations included in the STAT Financial Statements fairly
presents in all material respects the results of operations of the applicable
Insurance Subsidiary for the period therein set forth, in each case in
accordance with statutory accounting practices prescribed or permitted by the
respective state of domicile.

(c) Notwithstanding any other provision of this Agreement (including
Sections 2.6 and 2.7), Seller makes no representation or warranty with respect
to (i) the items set forth in Section 2.6 of the Disclosure Schedule (the
"Listed Items") or (ii) the reserves of the Seller Subsidiaries for losses or
loss adjustment expenses (including, without limitation, whether such reserves
or liabilities are adequate or sufficient). Purchaser acknowledges that nothing
in this Agreement (including Sections 2.6 and 2.7) is intended to, or

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shall be construed to, provide a guaranty of the adequacy of (i) the Listed
Items or (ii) the loss and loss adjustment expense reserves of Seller as shown
in the Financial Statements or the STAT Financial Statements.

SECTION 2.7 No Undisclosed Liabilities. Except as disclosed in Section 2.7
of the Disclosure Schedule and as set forth in Section 2.6(c) above and except
(a) for liabilities and obligations incurred in the ordinary course of business,
consistent with past practices, after December 31, 1997, (b) for liabilities and
obligations disclosed in the Financial Statements or the STAT Financial
Statements and (c) for liabilities and obligations incurred in connection with
the transactions contemplated hereby or otherwise as contemplated by this
Agreement, since December 31, 1997, the Seller Subsidiaries have not incurred
any liabilities or obligations that would constitute a Seller Material Adverse
Effect.

SECTION 2.8 Absence of Certain Changes. Except as (a) disclosed in
Sections 2.6 or 2.8 of the Disclosure Schedule or (b) contemplated by this
Agreement, since December 31, 1997, the Seller Subsidiaries have not (i)
suffered any change constituting a Seller Material Adverse Effect, (ii) amended
their articles or certificate of incorporation, bylaws or other organizational
documents, (iii) materially changed their accounting principles, practices or
methods, except as required by GAAP or applicable law, (iv) suffered any event
or change or taken any action that would have violated Section 4.1(b) through
(m) below if it had occurred or been taken after the date hereof and (iv) the
Company has not (x) split, combined or reclassified the Shares or (y) declared
or set aside or paid any dividend or other distribution with respect to the
Shares other than regular cash dividends which have been declared consistent
with past practice and set forth in Section 2.8 of the Disclosure Schedule
(excluding dividends or distributions payments made to Seller Subsidiaries).

SECTION 2.9 Employee Benefit Plans; ERISA.

(a) Section 2.9(a) of the Disclosure Schedule sets forth a list of all
material employee benefit plans, programs and agreements, (including but not
limited to plans described in Section 3(3) of the Employee Retirement Income
Security Act of 1974, as amended ("ERISA"), and all multiemployer plans (as
defined in Section 4001(a)(3) of ERISA maintained or contributed to by the
Seller Subsidiaries, or by any trade or business, whether or not incorporated
(an "ERISA Affiliate"), which together with the Seller Subsidiaries, would be
deemed a "single employer" within the meaning of Section 414 of the Code for the
benefit of employees, former employees and directors of, and consultants of, and
consultants to, the Seller Subsidiaries ("Benefit Plans").

(b) With respect to each Benefit Plan, Seller has made available to
Purchaser complete copies of the plan documents (including all amendments
thereto) and, where applicable, the most recent summary plan description, all
other material employee communications and the most recent Internal Revenue
Service determination letter relating to such Benefit Plan.

(c) Each Benefit Plan has been operated and administered in all material
respects in accordance with its terms and applicable law, including, without
limitation, ERISA and the Code, except where the failure to so administer such
plan would not reasonably be expected to have a Seller Material Adverse Effect.

(d) Except as disclosed in Section 2.9(d) of the Disclosure Schedule, no
Benefit Plan provides medical or death benefits with respect to current or
former employees of the Seller Subsidiaries beyond their termination of
employment other than (i) to the extent required by applicable law , (ii) death
benefits under any "pension plan" (as defined in Section 3(2) of ERISA) or (iii)
benefits the full cost of which is borne by the current or former employee (or
his beneficiary).

(e) Except as set forth in Section 2.9(e) of the Disclosure Schedule, all
costs of administering and contributions required to be made to each Benefit
Plan under the terms of that Benefit Plan, ERISA, the Code or any other
applicable law have been timely made.

(f) No Benefit Plan is subject to Code Section 412.

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(g) The Internal Revenue Service has issued a favorable determination
letter with respect to each Benefit Plan that is intended to qualify under
Section 401(a) of the Code and to the knowledge of Seller, no event has occurred
(either before or after the date of the letter) that would disqualify the plan.

(h) Except as set forth in Section 2.9(h) of the Disclosure Schedule, to
the knowledge of Seller, there are no investigations, proceedings, or lawsuits,
either currently in progress or expected to be instituted in the future,
relating to any Benefit Plan, by any administrative agency, whether local,
state, or federal.

(i) There are no pending or, to the knowledge of Seller, threatened
lawsuits or other claims (other than routine claims for benefits under the plan
and qualified domestic relations orders) against or involving (i) any Benefit
Plan or (ii) any Fiduciary of such plan (within the meaning of Section 3(21)(A)
of ERISA) brought on behalf of any participant, beneficiary, or Fiduciary
thereunder relating to any Benefit Plan.

(j) None of the Seller Subsidiaries have any intention or legally binding
commitment to create any additional Benefit Plan, or to modify or change any
existing Benefit Plan so as to increase benefits to participants or the cost of
maintaining the plan.

(k) Except as disclosed in Section 2.9(k) of the Disclosure Schedule, none
of the Benefit Plans or employment contracts with any of the Seller Subsidiaries
provide any benefits that become payable solely as a result of the consummation
of this transaction.

SECTION 2.10 Litigation. Except as disclosed in Section 2.10 of the
Disclosure Schedule, there is no action, suit, proceeding or, to the knowledge
of Seller or any Seller Subsidiary, investigation pending or, to the knowledge
of Seller or any Seller Subsidiary, action, suit, proceeding or investigation
threatened, involving the Seller Subsidiaries or any of their assets or their
officers or directors as such, or challenging the validity or propriety of the
transactions contemplated by this Agreement by or before any Governmental Entity
or by any third party that is reasonably likely to have a Seller Material
Adverse Effect. Except as disclosed in Section 2.10 of the Disclosure Schedule,
no material orders, decrees, awards, sanctions or judgments exist against Seller
or the Seller Subsidiaries, any of their assets or their officers or directors
as such, other than those applicable to the industry as a whole in the
jurisdiction where issued.

SECTION 2.11 No Default; Compliance with Applicable Laws.

(a) Except as disclosed in Section 2.11(a) of the Disclosure Schedule, none
of the Seller Subsidiaries is in default or violation of any term, condition or
provision of (i) its articles or certificates of incorporation, bylaws or
similar organizational documents, (ii) any of the Material Agreements (as
hereinafter defined) or (iii) any statute, law, rule, regulation, judgment,
decree, order, arbitration award, or licenses, permits, consents, approvals and
authorizations of any Governmental Entity ("Permits") applicable to any Seller
Subsidiary including, without limitation, laws, rules and regulations relating
to the environment, occupational health and safety, employee benefits, wages,
workplace safety, equal employment opportunity and any unlawful discrimination,
excluding from the foregoing clauses (ii) and (iii), defaults or violations
which would not have a Seller Material Adverse Effect or which become applicable
as a result of the business or activities in which Purchaser is or proposes to
be engaged or as a result of any acts or omissions by, or the status of any
facts pertaining to, Purchaser. Except as set forth on Disclosure Schedule
2.11(a) hereto, neither Seller nor any Seller Subsidiary has received any
written notice since January 1, 1996 from any Governmental Entity alleging any
violation described in clause (iii) or directing Seller or any Seller Subsidiary
to take any remedial action with respect to such law, ordinance or regulation
which in each case would have a Seller Material Adverse Effect.

(b) Each Insurance Subsidiary has been duly authorized by the relevant
state insurance regulatory authorities to issue the insurance contracts that it
is currently writing in the respective states in which it conducts its business,
with such authority listed state by state for each Insurance Subsidiary in
Section 2.11(b) of the Disclosure Schedule. Each Insurance Subsidiary has all
other material Permits necessary to conduct its business in the manner and in
the areas in which it is presently being conducted by such Insurance Subsidiary,
and all such material Permits are valid and in full force and effect.

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SECTION 2.12 Taxes. Except as disclosed in Section 2.12 of the Disclosure
Schedule:

(a) the Seller Subsidiaries have (i) timely filed or caused to be
filed all Tax Returns (as hereinafter defined) required to be filed by them
other than those Tax Returns the failure of which to file would not have a
Seller Material Adverse Effect, and all such returns were true, correct and
complete in all material respects when filed and (ii) paid or accrued (in
accordance with GAAP) all material Taxes (as hereinafter defined) shown to
be due on such Tax Returns other than such Taxes that are being contested
in good faith by the Seller Subsidiaries;

(b) neither Seller nor the Seller Subsidiaries have received written
notice of any ongoing or pending nor to the knowledge of Seller or the
Seller Subsidiaries, there are no threatened federal, state, local or
foreign audits or examinations of any Tax Return of the Seller Subsidiaries
except a federal income tax examination which is currently in process for
the tax year ended June 30, 1996;

(c) there are no outstanding written requests, agreements, consents or
waivers to extend the statutory period of limitations applicable to the
assessment of any material Taxes or deficiencies against the Seller
Subsidiaries other than the six-month statute extension which results from
filing of federal tax returns by the extended due date;

(d) none of the Seller Subsidiaries is a party to an agreement
providing for the allocation or sharing of Taxes, except with its common
parent, FHS, which agreement will be terminated effective as of December
31, 1997; and

(e) there are no material statutory liens for Taxes upon the assets of
any Seller Subsidiary which are not provided for in the Financial
Statements, except liens for Taxes not yet due and payable and liens for
Taxes that are being contested in good faith.

(f) No assessment, audit or other proceeding by any taxing authority
is proposed, pending, or, to the knowledge of the Seller or the Seller
Subsidiaries, threatened with respect to any Taxes or Tax returns of any of
the Seller Subsidiaries.

(g) No consent to the application of Section 341(f)(2) of the Code has
been made or filed by or with respect to any of the Seller Subsidiaries or
any of their assets and properties.

(h) The Seller Subsidiaries have not taken any action that would
require an adjustment pursuant to Section 481 of the Code by reason of a
change in accounting method or otherwise.

(i) There have not been, nor will there be from the date hereof
through and including the Closing Date, any payments, or any agreements to
make payments, which are contingent upon, or related to, the transactions
contemplated hereunder and which would be "excess parachute payments" under
Section 280G of the Code.

(j) The Seller Subsidiaries have not executed or entered into any
closing agreement pursuant to Section 7121 of the Code, or any predecessor
pro-visions thereof or any similar provision of state or other law with
respect to any period for which the statute of limitations has not expired.

"Taxes" shall mean any and all taxes, charges, fees, levies or other
assessments, including, without limitation, income, gross receipts, excise,
real or personal property, sales, withholding, social security, occupation,
use, service, service use, value added, license, net worth, payroll,
franchise, transfer and recording taxes, fees and charges, imposed by the
United States Internal Revenue Service or any taxing authority (whether
domestic or foreign including, without limitation, any state, local or
foreign government or any subdivision or taxing agency thereof (including a
United States possession)), whether computed on a separate, consolidated,
unitary, combined or any other basis; and such term shall include any
interest, penalties or additional amounts attributable to, or imposed upon,
or with respect to, any such taxes, charges, fees, levies or other
assessments. "Tax Return" shall mean any report, return, document,
declaration or other information or filing required to be supplied to any
taxing authority or jurisdiction (foreign or domestic) with respect to
Taxes.

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SECTION 2.13 Property. Except as set forth in Section 2.13 of the
Disclosure Schedule, each Seller Subsidiary has sufficient leaseholds or rights
to real property to conduct its respective businesses as currently conducted in
all material respects. Section 2.13 of the Disclosure Schedule lists all
facility leases and agreements or rights to use facilities to which any of the
Seller Subsidiaries is a party in any capacity. No notice of default has been
given to Seller or any Seller Subsidiary, there is no existing default, and no
conditions that, with notice or lapse of time, would constitute a default by any
party to any such agreements.

SECTION 2.14 Intellectual Property. Section 2.14 of the Disclosure
Schedule lists all material trademarks, copyrights and patents owned or used by
the Seller Subsidiaries in the conduct of their business, and states all
royalties or license fees the Seller Subsidiaries pay for material proprietary
rights used in any of their businesses. Except as disclosed in Section 2.14 of
the Disclosure Schedule, there are no pending or, to the knowledge of Seller or
the Seller Subsidiaries, threatened claims of which Seller or the Seller
Subsidiaries have been given written notice, by any person and neither Seller
nor any Seller Subsidiary has asserted a claim against any person with respect
to any patents, patent rights, trademarks, trademark rights, service marks,
service mark rights, trade names, trade name rights, copyrights, logos, assumed
names and applications therefor and any know-how, technology, trade secrets or
other proprietary information owned or used by the Seller Subsidiaries in their
respective operations as currently conducted (collectively, the "Seller
Intellectual Property"). The Seller Subsidiaries have such ownership of or such
rights by license, lease or other agreement to Seller Intellectual Property as
are necessary to permit them to conduct their respective operations as currently
conducted, except where the failure to have such rights would not have a Seller
Material Adverse Effect. Except as set forth in Section 2.14 of the Disclosure
Schedule, to the knowledge of the Seller and the Seller Subsidiaries, the Seller
Subsidiaries have taken all appropriate actions and made all appropriate
applications and filings pursuant to applicable laws to perfect or protect their
interest in the Seller Intellectual Property.

SECTION 2.15 Contracts. Seller has delivered or listed in Section 2.15 of
the Disclosure Schedule and made available to Purchaser copies of all written
Material Agreements (as hereinafter defined). Except as set forth in Section
2.15 of the Disclosure Schedule, each Material Agreement is in full force and
effect and, to the knowledge of Seller and the Seller Subsidiaries, is valid and
enforceable by the applicable Seller Subsidiary in accordance with its terms.
Except as set forth in Section 2.15 of the Disclosure Schedule, none of Seller
Subsidiaries is in default in the observance or the performance of any term or
obligation to be performed by it under any Material Agreement; to the knowledge
of Seller there does not exist any event that, with the giving of notice or the
lapse of time or both, would constitute a breach of or a default under any
Material Agreement; and to the knowledge of Seller, there have been no
intentional waivers or releases of any rights or remedies of any Seller
Subsidiaries under any Material Agreement except for such breaches, defaults or
waivers the effect of which, individually or in the aggregate, would not have a
Seller Material Adverse Effect. To the knowledge of Seller and the Seller
Subsidiaries, no other person is in default in the observance or the performance
of any term or obligation to be performed by it under any Material Agreement. As
used in this Agreement, "Material Agreement(s)" shall mean each agreement,
arrangement, instrument, bond, commitment, franchise, indemnity, indenture,
lease, license or understanding to which any Seller Subsidiary is a party or to
which any Seller Subsidiary or any of its respective properties is subject that
(i) obligates any Seller Subsidiary to pay an amount in excess of $150,000 in
any twelve-month period beginning after December 31, 1997, (ii) provides for the
extension of credit, (iii) provides for a guaranty by any Seller Subsidiary of
obligations of others in excess of $150,000, (iv) constitutes an employment
agreement or personal service contract not terminable on less than sixty (60)
days' notice without penalty, (v) expressly limits, in any material respect, the
ability of any Seller Subsidiary to engage in any line of business, compete with
any person or expand the nature or geographic scope of its business, (vi)
creates a joint venture, (vii) since January 1, 1996, involved the acquisition
or disposition of a portion of the business or assets of any Seller Subsidiary
that provided for an aggregate purchase price in excess of $5,000,000 (other
than the sale of obsolete equipment or materials, in each case, in the ordinary
course of business) (the "Disposed Businesses"), (viii) producer agreements that
the Insurance Subsidiaries have entered into with the ten largest producers
overall for the Insurance Subsidiaries taken as a whole and (ix) all excess of
loss, quota share and aggregate stop reinsurance agreements and reinsurance
assumed or fronting arrangements. Notwithstanding the foregoing, the term
"Material Agreement(s)" does not include insurance contracts

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(including runoff contracts, reinsurance (other than as provided in clause (ix)
above), retrocession agreements, surety agreements and financial guaranties,
structured annuities for settlement of claims, agreements entered into with
parties identified on Schedule M of the STAT Financial Statements, incentive
commission agreements and agent and broker agreements (other than as provided in
clause (viii) above)) entered into by the Seller Subsidiaries in the ordinary
course of the insurance business except as specifically described above.

SECTION 2.16 Labor Matters. Except as set forth in Section 2.16 of the
Disclosure Schedule, (a) neither Seller nor any Seller Subsidiary is a party to,
or bound by, any collective bargaining agreement, contract or other agreement or
understanding with a labor union or labor organization, (b) there is no unfair
labor practice or labor arbitration proceeding pending or, to the knowledge of
Seller, threatened against Seller or the Seller Subsidiaries, except for any
such proceeding which would not have, individually or in the aggregate, a Seller
Material Adverse Effect and (c) the Seller Subsidiaries are in material
compliance with all applicable regulations respecting employment practices,
terms and conditions of employment, wages and hours, equal employment
opportunity, and the payment of social security and similar taxes. Set forth in
Section 2.16 of the Disclosure Schedule is a list of all (i) employment
contracts, (ii) severance policies, (iii) compensation and bonus plans
applicable to employees of the Seller Subsidiaries and (iv) historic bonus and
compensation practices applicable to employees of the Seller Subsidiaries.
Except as set forth in Section 2.16 of the Disclosure Schedule, there is no
material controversy pending or, to the knowledge of Seller or the Seller
Subsidiaries threatened between the Seller Subsidiaries and any of their
employees, and to the knowledge of Seller or the Sellers Subsidiaries there are
not facts that could reasonably result in any such material controversy. The
Seller Subsidiaries are not liable for any claims for past due wages, bonuses or
compensation or any penalties for failure to pay such past due wages, bonuses or
compensation.

SECTION 2.17 Brokers or Finders. Except for the fees payable to Salomon
Smith Barney and Shattuck Hammond Partners, Inc., which will be paid by Seller,
Seller represents, as to itself and the Seller Subsidiaries, that no agent,
broker, investment banker, financial advisor or other firm or person is or will
be entitled to any brokers' or finder's fee or any other commission or similar
fee in connection with any of the transactions contemplated by this Agreement.

SECTION 2.18 Transactions with Related Parties. Except as set forth in
Section 2.18 of the Disclosure Schedule or with respect to inconsequential
matters, no Affiliate of the Seller Subsidiaries has any contract for services,
borrowed or loaned money or other property with, or made any material
contractual or other claims on or against, any Seller Subsidiary or has any
interest in any property used by any Seller Subsidiary. Seller has made
available to Purchaser copies of all Forms B required to be filed by the Seller
Subsidiaries with insurance regulatory authorities in calender year 1997.

SECTION 2.19 Environmental Matters.

(a) Definitions. The following terms, when used in this Section 2.19, shall
have the following meanings:

(i) "Seller Subsidiaries" for purposes of this Section 2.19 includes
(A) Seller, (B) the Seller Subsidiaries, (C) all affiliates of the Seller
Subsidiaries, and (D) all partnerships, joint ventures and other entities
or organizations in which any Seller Subsidiary was at any time after
January 1, 1993, or is a partner, joint venturer, member or participant.

(ii) "Release" means and includes any spilling, leaking, pumping,
pouring, emitting, emptying, discharging, injecting, escaping, leaching,
dumping or disposing into the environment of any Hazardous Substance, and
otherwise as defined in any Environmental Law.

(iii) "Hazardous Substance" means any pollutants, contaminants and any
toxic, hazardous, infectious, carcinogenic, corrosive, ignitable or
flammable chemical, chemical compound, material or waste, whether solid,
liquid or gas, including asbestos, urea formaldehyde, PCB's, radon gas,
crude oil or any fraction thereof, all forms of natural gas, petroleum
products or by-products or derivatives, radioactive substance and any other
substance, material or waste that is subject to regulation, control or
remediation under any Environmental Law as hazardous or toxic.

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(iv) "Environmental Laws" mean all laws, rules, regulations,
ordinances, orders or decrees as now in effect which regulate or relate to
the protection or clean-up of the environment, the use, treatment, storage,
transportation, generation, manufacture, processing distribution, handling
or release or threatened release of Hazardous Substances, the preservation
or protection of waterways, groundwater, drinking water, air, wildlife,
plants or other natural resources, or the health of persons, including
protection of the health of employees. Environmental Laws include, without
limitation, the Federal Water Pollution Control Act, Resource Conservation
& Recovery Act, Clean Water Act, Safe Drinking Water Act, Atomic Energy
Act, Occupational Safety and Health Act, Toxic Substances Control Act,
Clean Air Act, Comprehensive Environmental Response, Compensation and
Liability Act, Hazardous Materials Transportation Act and all analogous or
related federal, state or local statutes, laws, rules and regulations.

(v) "Environmental Conditions" mean the release into the environment
of any Hazardous Substance as a result of which any Seller Subsidiary has
or may become liable to any person or entity or by reason of which any of
the assets of any Seller Subsidiary may suffer or be subjected to any
encumbrance or lien.

(b) Environmental Representations. Except as set forth in Section 2.19(b)
of the Disclosure Schedule and except for claims which individually or in the
aggregate are not reasonably likely to have a Seller Material Adverse Effect,
each Seller Subsidiary is in compliance in all material respects, with all
Environmental Laws.

(c) Notice of Violation. Neither Seller nor any Seller Subsidiary has
received any written notice of alleged, actual or potential responsibility for,
or any written inquiry or written notice of investigation regarding (i) any
Release or threatened Release by any Seller Subsidiary or any Hazardous
Substance at any location, or (ii) an alleged violation of or non-compliance by
any Seller Subsidiary with the conditions of any permit required under any
Environmental Law or the provisions of any Environmental Law. Neither Seller nor
any Seller Subsidiary has received any written notice of any other claim, demand
or action by any person or entity alleging any actual or threatened injury or
damage to any person, entity, property, natural resource or the environment
arising from or relating to any Release or threatened Release by any Seller
Subsidiary of any Hazardous Substances.

(d) Environmental Conditions. There are no present or past Environmental
Conditions in any way relating to any Seller Subsidiary, the business or the
assets of any Seller Subsidiary, except for any Environmental Conditions which
individually or in the aggregate are not reasonably likely to have a Seller
Material Adverse Effect.

SECTION 2.20 Year 2000 Compliance. To the knowledge of Seller and the
Seller Subsidiaries, no Seller Subsidiary owns or uses any application programs,
databases, software or hardware (including distributed systems and imbedded
chips), the performance of which will be adversely affected by dates after the
commencement of the year 2000 ("Year 2000 Matters") except to the extent such
adverse effects would not have a Seller Material Adverse Effect. Set forth in
Section 2.20 of the Disclosure Schedule is a description of the Seller
Subsidiaries' compliance program with respect to Year 2000 Matters and a
statement as to their progress in meeting such program's compliance schedule and
goals as of the date hereof.

SECTION 2.21 Insurance. Section 2.21 of the Disclosure Schedule sets forth
the insurance carriers and areas of coverage with respect to the insurance
policies of the Seller Subsidiaries.

SECTION 2.22 Bank Accounts. Section 2.22 of the Disclosure Schedule sets
forth a list of the Seller Subsidiaries' bank accounts, safe deposit boxes, and
related powers of attorney, and identifies all persons authorized to draw
thereon or have access thereto.

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ARTICLE III

REPRESENTATIONS AND WARRANTIES OF PURCHASER

Purchaser represents and warrants to Seller as follows:

SECTION 3.1 Organization. Purchaser is a corporation duly organized,
validly existing and in good standing under the laws of the jurisdiction of its
incorporation and has all requisite corporate power and authority to own, lease
and operate its properties and to carry on its business as is now being
conducted, except where the failure to be so organized, existing and in good
standing or to have such power and authority would not have a Purchaser Material
Adverse Effect (as hereinafter defined). Purchaser is duly qualified or licensed
to do business and is in good standing in each jurisdiction in which the
property owned, leased or operated by it or the nature of the business conducted
by it makes such qualification or licensing necessary, except where the failure
to be so duly qualified or licensed and in good standing would not have a
Purchaser Material Adverse Effect. As used in this Agreement, "Purchaser
Material Adverse Effect" means any material adverse change in, or material
adverse effect on, the business, financial condition or operations of Purchaser
and its Subsidiaries, taken as a whole; provided, however, that any adverse
effect on Purchaser and its Subsidiaries resulting from the execution of this
Agreement and the announcement of this Agreement and the transactions
contemplated hereby shall also be excluded from the determination of Purchaser
Material Adverse Effect.

SECTION 3.2 Authorization; Validity of Agreement; Necessary
Action. Subject to the approval of its stockholders, Purchaser has the corporate
power and authority to execute and deliver this Agreement and all the agreements
and documents contemplated hereby, and to consummate the transactions
contemplated hereby. The execution, delivery and performance by Purchaser of
this Agreement and all the agreements and documents contemplated hereby, and the
consummation of the transactions contemplated hereby, have been duly authorized
by all necessary corporate proceedings, subject to stockholder approval by a
majority of all stockholders entitled to vote, and no other corporate action on
the part of Purchaser is necessary to authorize the execution and delivery by
Purchaser of this Agreement and all the agreements and documents contemplated
hereby, and the consummation by it of the transactions contemplated hereby.
Stockholders holding or otherwise controlling the right to vote not less than
41.8% of the outstanding voting shares of the Purchaser have executed and
delivered Voting Agreements to the Seller. This Agreement and all the agreements
and documents contemplated hereby, have been duly executed and delivered by
Purchaser and by certain of its stockholders as appropriate (and assuming due
and valid authorization, execution and delivery hereof by Seller) is a valid and
binding obligation of Purchaser and such stockholders, as appropriate,
enforceable against them in accordance with its terms, except that (i) such
enforcement may be subject to applicable bankruptcy, insolvency, reorganization,
moratorium or other similar laws, now or hereafter in effect, affecting
creditors' rights generally and (ii) the remedy of specific performance and
injunctive and other forms of equitable relief may be subject to equitable
defenses and to the discretion of the court before which any proceeding therefor
may be brought.

SECTION 3.3 Consents and Approvals; No Violations. Except as set forth in
Section 3.3 of the written statement delivered by Purchaser to Seller at or
prior to the execution of the Agreement (the "Purchaser Disclosure Schedule")
and except for (a) filings pursuant to the HSR Act, (b) approvals or consents of
Governmental Entities under insurance holding company laws of the states in
which the Seller Subsidiaries are domiciled, (c) filings required pursuant to
the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934,
as amended, (d) approval by Purchasers' stockholders and (e) matters
specifically described in this Agreement, neither the execution, delivery or
performance of this Agreement by Purchaser nor the consummation by Purchaser of
the transactions contemplated hereby will (i) violate any provision of the
certificate of incorporation, bylaws or other organizational documents of
Purchaser, (ii) result in a violation or breach of, or constitute (with or
without due notice or lapse of time or both) a default (or give rise to any
right of termination, cancellation or acceleration) under, any of the terms,
conditions or provisions of any note, bond, mortgage, indenture, lease, license,
contract, agreement or other instrument or obligation to which Purchaser or any
of its Subsidiaries is a party or by which any of them or any of their
properties or assets may be bound, (iii) violate any order, writ, judgment,
injunction, decree, law, statute, rule or regulation applicable to Purchaser,
any of its Subsidiaries or any of their properties or assets or (iv) require on
the part of

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Purchaser any filing or registration with, notification to, or authorization,
consent or approval of, any Governmental Entity except in the case of clauses
(ii), (iii) or (iv) for such violations, breaches or defaults which, or filings,
registrations, notifications, authorizations, consents or approvals the failure
of which to obtain would not have a Purchaser Material Adverse Effect and would
not materially adversely affect the ability of Purchaser to consummate the
transactions contemplated by this Agreement.

SECTION 3.4 Acquisition for Investment. Purchaser is acquiring the Shares
solely for its own account and not with a view to any distribution or other
disposition of such Shares, and the Shares will not be transferred except in a
transaction registered or exempt from registration under the Securities Act of
1933, as amended.

SECTION 3.5 Financing. Purchaser has (i) entered into a valid, binding and
enforceable stock purchase agreement and backup letter agreement with the Zurich
Centre Investments Ltd. (collectively, the "IP Stock Purchase Agreement") with
Insurance Partners, L.P. ("IP"), Insurance Partners Offshore (Bermuda), L.P.
("IPB") and Capital Z Partners, Ltd. ("Capital Z"), and (ii) received a written
"highly confident letter" from Donaldson, Lufkin & Jenrette (together, the
"Financing Agreements") for financing the consummation of the transactions
contemplated hereby. IP, IPB and Capital Z have sufficient unencumbered funds
unconditionally committed to fulfill their respective obligations under the IP
Stock Purchase Agreement. The proceeds for such financing set forth in the
Financing Agreements, together with Purchaser's cash on hand as of the date
hereof and as of the Closing Date, will be sufficient to enable Purchaser to pay
the full amount of the Purchase Price at the Closing. True and complete copies
of each of the Financing Agreements have been provided to Seller by Purchaser.

SECTION 3.6 Investigation by Purchaser. In entering into this Agreement,
Purchaser:

(a) acknowledges that, except for the specific representations and
warranties of Seller contained in Article II, none of Seller, any Seller
Subsidiary, or any of their respective directors, officers, employees,
Affiliates, controlling persons, agents, advisors or representatives, makes
or shall be deemed to have made any representation or warranty, either
express or implied, as to the accuracy or completeness of any of the
information (including, without limitation, any reserve estimates,
projections, forecasts or other forward-looking information) provided or
otherwise made available to Purchaser or any of its directors, officers,
employees, Affiliates, controlling persons, agents, advisors or
representatives (including, without limitation, in any management
presentations, information or offering memorandum, the actuarial report
entitled "An Actuarial Analysis of the Loss and Loss Adjustment Expense
Reserves of Business Insurance Group as of December 31, 1997," prepared by
Milliman & Robertson, Inc. (the "M&R Report"), supplemental information or
other materials or information with respect to any of the above); and

(b) agrees, to the fullest extent permitted by law, that Seller and
its directors, officers, employees, Affiliates, controlling persons,
agents, advisors or representatives shall not have any liability or
responsibility whatsoever to Purchaser or any of its directors, officers,
employees, Affiliates, controlling persons, agents, advisors or
representatives on any basis in respect of the specific representations and
warranties of Seller set forth in Article II, except as and only to the
extent expressly set forth herein with respect to such representations and
warranties and subject to the limitations and restrictions contained
herein.

SECTION 3.7 Capital Adequacy; Solvency. Purchaser represents that
immediately after the sale of the Shares and the other transactions contemplated
herein, Purchaser (and any successor corporation) will have a positive net worth
(calculated in accordance with GAAP) and will not be insolvent (as defined under
the federal Bankruptcy Code (the "Bankruptcy Code") and in equity) and that the
sale of the Shares and other transactions contemplated hereby and any borrowing
by Purchaser in connection with such transactions will not have the effect of
hindering, delaying or defrauding any creditors of Purchaser (or any successor
corporation). Purchaser further represents that (A) upon consummation of the
sale of the Shares and within the meaning of Section 548 of the Bankruptcy Code,
the Seller Subsidiaries (and any successor corporations) will (i) have adequate
capitalization, (ii) not have an unreasonably small capital with respect to the
business or transactions engaged in or to be engaged in and (iii) not have
incurred debts that would be beyond the ability of Purchaser (or any successor
corporation) to pay as such debts mature and (B) the Purchase Price is a
reasonably equivalent value in exchange for the Shares.

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ARTICLE IV

COVENANTS

SECTION 4.1 Interim Operations of Seller. Promptly upon the execution of
this Agreement, Seller agrees that Purchaser may place certain senior
executives, including Arnold Senter (the "Interim Consulting Team"), in interim
consulting positions at the Company and the Insurance Subsidiaries pursuant to
consulting arrangements which are reasonably acceptable to the parties and
consistent with the terms of this Agreement. The Seller agrees to cause the
Company and the Insurance Subsidiaries to take, or not take, such actions as the
Interim Consulting Team may reasonably direct with respect to (i) the strategy
and execution of the Seller Subsidiaries' underwriting, reinsurance, claims
handling and other operational functions, and (ii) the restructuring of certain
asset positions, both in the Seller Subsidiaries' investment portfolios and
otherwise, each subject to Seller's approval, which will not be unreasonably
withheld. The Interim Consulting Team will coordinate all of its activities
under this Agreement through Jay M. Gellert, B. Curtis Westen and Maurice A.
Costa or their designees. Notwithstanding any other provision of the Agreement,
neither the Seller, nor any of the Seller Subsidiaries, shall be obligated to
commute any insurance or reinsurance policy or otherwise take any action that
may be reasonably expected to cause any Governmental Entity to require Seller or
any of its Affiliates to make a capital contribution to the Seller Subsidiaries.
Absent the written approval of one of the Interim Consulting Team, Seller
covenants and agrees that, except (i) as contemplated by this Agreement
(including the distribution of the Excluded Assets) or (ii) as disclosed in
Section 4.1 of the Disclosure Schedule after the date hereof and prior to the
Closing Date:

(a) the business of the Seller Subsidiaries shall be conducted only in
the ordinary and usual course of business and shall not include any actions
inconsistent with the transactions contemplated hereby or by the agreements
contemplated hereunder;

(b) none of the Seller Subsidiaries will amend its articles or
certificate of incorporation, bylaws or similar organizational documents;

(c) the Company will not (i) split, combine or reclassify the Shares,
(ii) declare, set aside or pay any dividend or other distribution payable
in cash, stock or property with respect to the Shares, provided, that the
Company may dividend or otherwise distribute or take any other necessary
action to allow Seller to retain the Excluded Assets, (iii) issue or sell
any additional shares of, or securities convertible into or exchangeable
for, or options, warrants, calls, commitments or rights of any kind to
acquire, the Shares or any capital stock of the Company, or (iv) redeem,
purchase or otherwise acquire directly or indirectly any of its capital
stock;

(d) none of the Seller Subsidiaries shall (i) adopt any new employee
benefit plan (including any stock option, stock benefit or stock purchase
plan) or amend any existing employee benefit plan in any material respect,
except for changes which are less favorable to participants in such plans
or as may be required by applicable law or (ii) increase any compensation
or enter into or amend any employment, severance, termination or similar
agreement with any of its present or future officers or directors, except
for promotions in the ordinary course of business consistent with past
practices, normal merit increases of five percent (5%) or less per annum in
the ordinary and usual course of business and the payment of cash bonuses
to employees pursuant to and consistent with existing plans or programs,
with respect to which any necessary accruals have been made;

(e) none of the Seller Subsidiaries shall, except as may be required
or contemplated by this Agreement or in the ordinary and usual course of
business, consistent with prior practice, acquire, sell, lease or dispose
of any assets which, individually or in the aggregate, are material to the
financial position or results of operations of the affected Seller
Subsidiary;

(f) none of the Seller Subsidiaries shall (i) incur or assume any
long-term or short-term debt or issue any debt securities except for
borrowings under existing lines of credit in the ordinary course of
business consistent with past practice, (ii) assume, guarantee, endorse or
otherwise become liable or responsible (whether directly, indirectly,
contingently or otherwise) for the material obligations of any other person
except in the ordinary and usual course of business consistent with past
practice in an

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amount not material to the affected Seller Subsidiary, (iii) make any
loans, advances or capital contributions to, or investments in, any other
person other than in the ordinary and usual course of business consistent
with past practice, (iv) pledge or otherwise encumber the Shares or any
shares of any Insurance Subsidiary or (v) mortgage or pledge any of its
material assets, tangible or intangible, or create or suffer to exist any
material Encumbrance of any kind with respect to any such asset;

(g) none of the Seller Subsidiaries shall (i) acquire (by merger,
consolidation or acquisition of stock or assets) any corporation,
partnership or other business organization or division thereof or any
equity interest therein (other than purchases of marketable securities in
the ordinary course of business), (ii) other than capital expenditures
provided for in the 1998 capital expenditures budgets of the Seller
Subsidiaries, which budgets have been delivered or made available to
Purchaser, authorize any new capital expenditure or expenditures which,
individually, is in excess of $150,000 or, in the aggregate, are in excess
of $500,000 or (iii) enter into or amend any contract, agreement,
commitment or arrangement providing for the taking of any action which
would be prohibited hereunder;

(h) none of the Seller Subsidiaries shall adopt a plan of complete or
partial liquidation or resolutions providing for or authorizing such
liquidation or a dissolution, merger, consolidation, restructuring,
recapitalization or other reorganization;

(i) none of the Seller Subsidiaries shall materially change any of the
accounting methods or practices used by it unless required by GAAP,
statutory accounting practices or applicable law;

(j) none of the Seller Subsidiaries shall settle or compromise any
claim (including arbitration) or litigation, which after insurance
reimbursement involves an amount in excess of $500,000 or otherwise is
material to the Seller Subsidiaries taken as a whole, without the prior
written consent of Purchaser, which consent will not be unreasonably
withheld;

(k) none of the Seller Subsidiaries shall make any payment, loan or
advance of any amount to or in respect of, or engage in the sale, transfer
or lease of any of its property or assets to, or enter into any contract
with, any Affiliate, except (i) in accordance with the terms of the
agreements set forth in Section 2.18 of the Disclosure Schedule, and (ii)
in connection with Seller's retention of the Excluded Assets and the owned
real property, as contemplated by this Agreement;

(l) none of the Seller Subsidiaries shall amend the terms of the (i)
Material Agreements, as disclosed in Section 2.15 of the Disclosure
Schedule and (ii) contracts, agreements or arrangements with any related
party, as disclosed in Section 2.18 of the Disclosure Schedule, to cause
any change in the cost, services being provided, or term of any such
agreements, other than as specifically contemplated by this Agreement;

(m) none of the Seller Subsidiaries shall cancel any indebtedness or
intentionally waive, release, grant or transfer any rights of substantial
value to the affected Seller Subsidiary, except in the ordinary course of
business and consistent with past practice, or forgive or waive any rights
in connection with any loans to its officers, directors or other related
individuals; and

(n) neither Seller nor any Seller Subsidiary will authorize or enter
into an agreement to do any of the foregoing.

SECTION 4.2 Access to Information. Seller shall cause each Seller
Subsidiary to afford Purchaser's officers, employees, accountants, counsel and
other authorized representatives full and complete access during normal business
hours throughout the period prior to the Closing Date or the date of termination
of this Agreement, to its and its offices, properties, contracts, commitments,
books and records (including but not limited to Tax Returns related solely to
the Seller Subsidiaries) and any report, schedule or other document filed or
received by it during such period pursuant to the requirements of Federal or
state securities laws and to use all reasonable efforts to cause its
representatives to furnish promptly to Purchaser such additional financial and
operating data and other information as to its businesses and properties as
Purchaser or its duly authorized representatives may from time to time
reasonably request and to make reasonably available the officers and employees
of each Seller Subsidiary to answer fully and promptly reasonable questions put
to them; provided,

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however, that nothing herein shall require Seller or the Seller Subsidiaries to
disclose any information to Purchaser if such disclosure would violate
applicable laws or regulations of any Governmental Entity. Unless otherwise
required by law and until the Closing Date, Purchaser will hold any such
information which is nonpublic in confidence in accordance with the provisions
of the Confidentiality Agreement between Seller and Purchaser, dated as of
January 6, 1998 (the "Confidentiality Agreement").

SECTION 4.3 Tax Matters.

(a) Section 338(h)(10) Election; Allocation of "Adjusted Grossed-Up
Basis." Seller and Purchaser agree to elect under section 338(h)(10) of the Code
to treat the sale of the Shares as a sale by the Company of all of its assets
and a sale by the Insurance Subsidiaries of all their assets (the "Section
338(h)(10) Election") and shall make any such available election under any
substantially similar state or local law, if requested by Seller. As reasonably
requested by Seller, Purchaser shall take such actions as Seller deems necessary
to effect the Section 338(h)(10) Election (including, without limitation, the
timely filing of Internal Revenue Service Form 8023 (Corporate Qualified Stock
Purchase Elections).

(b) Allocation. On or before the date that is 30 days after the Closing
Date, Purchaser shall provide to Seller a proposed allocation of the Purchase
Price for the deemed sale of assets resulting from the making of the Section
338(h)(10) Election, setting forth the estimated fair market values of the
assets of each of the Company and the Insurance Subsidiaries. On or before the
date that is 60 days after the Closing Date, Seller and Purchaser shall agree
upon a final allocation of such purchase price (the "Final Allocation"). Seller
and Purchaser shall cooperate in developing the Final Allocation, provided,
however, that Purchaser's allocation shall be presumed to be an allocation based
upon the fair market values of the Seller Subsidiaries and that Seller shall
have the burden of proof to demonstrate that such allocation is not an
appropriate allocation.

(c) Forms. On or before the date that is ten days before the Closing Date,
Seller shall provide to Purchaser drafts of all forms, together with all drafts
of required attachments thereto, other than allocation of the Purchase Price,
required for making the Section 338(h)(10) Election and any such available
election under any substantially similar state or local law if requested by
Seller (the "Election Forms"). On the Closing Date, Seller shall deliver to
Purchaser the Election Forms, properly executed by Seller or any proper
Affiliate of Seller. Seller and Purchaser shall cooperate in drafting and making
final the Election Forms, and any dispute with respect thereto shall be resolved
pursuant to Section 4.3(n). Seller shall be responsible for filing the Election
Forms with the proper taxing authorities, provided that Purchaser shall be
responsible for filing any Election Form that must be filed with its Tax
Returns.

(d) Modification; Revocation. Purchaser and Seller each agrees that it
shall not, and shall not permit any of its respective Affiliates to, take any
action to modify the Election Forms following the execution thereof, or to
modify or revoke the Section 338(h)(10) Election, or any such available election
under any substantially similar state or local law if requested by Seller,
following the filing of the Election Forms, without the written consent of
Purchaser or Seller, as the case may be.

(e) Consistent Treatment. Purchaser and Seller shall, and shall cause their
respective Affiliates to, file all Tax Returns in a manner consistent with the
information contained in the Election Forms as filed and the Final Allocation,
unless otherwise required because of a change in applicable tax law.

(f) Expenses Resulting from Section 338(h)(10) Elections. Purchaser and its
Affiliates (including the Company and the Insurance Subsidiaries following the
Closing), on the one hand, and Seller and its Affiliates, on the other hand,
shall bear their respective administrative, legal and similar expenses resulting
from the making of the Section 338(h)(10) Election and any such available
elections under any substantially similar state or local law if requested by
Seller.

(g) Tax Sharing Agreement. The tax sharing agreement between, among others,
each of the Seller Subsidiaries and its common parent, FHS, referenced in
Section 2.12(d) shall be terminated effective as of April 30, 1998. After the
Closing Date none of the Seller Subsidiaries, Seller, or any Affiliate of Seller
shall have any further rights or liabilities thereunder, except to the extent
stated on the balance sheet of the Seller Subsidiaries as of April 30, 1998
(using the Seller Subsidiaries' actual financial statements at and as of March
31, 1998, together with projected April 30, 1998 results as provided by Salomon
Smith Barney to the

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Purchaser), with all amounts then due being paid as soon as such amounts are
determined but in no event later the Closing Date. This Agreement shall be the
sole Tax sharing agreement relating to any Seller Subsidiary for all Pre-Closing
Tax Periods.

(h) Actions out of the Ordinary Course. If Purchaser causes or permits the
Seller Subsidiaries or any Affiliate of Purchaser to take any action on the
Closing Date other than actions contemplated by this Agreement or actions in the
ordinary course of business, including but not limited to the distribution of
any dividend or the effectuation of any redemption, Purchaser shall indemnify
Seller for any resulting tax liability from such action.

(i) Tax Indemnity. (i) Notwithstanding any other provisions of this
Agreement, from and after the Closing Date, Seller shall be liable to, and shall
indemnify and hold harmless, Purchaser and the Seller Subsidiaries against the
following Taxes, but only for Taxes in excess of the sum of Taxes paid prior to
December 31, 1997, Taxes accrued as current Taxes payable or reserves on the
December 31, 1997 financial balance sheet, and Taxes accrued or paid after
December 31, 1997 in the ordinary course of business, in accordance with past
practice, with respect to business operations for the period of January 1, 1998
through the Closing Date: (A) Taxes imposed on the Seller Subsidiaries with
respect to taxable years or periods ending on or before the Closing Date; (B)
with respect to taxable years or periods beginning before the Closing Date and
ending after the Closing Date, Taxes imposed on the Seller Subsidiaries which
are allocable, pursuant to such clause (ii) hereof, to the portion of such
taxable year or period ending on the Closing Date (an "Interim Period") (Interim
Periods and any taxable years or periods that end on or prior to the Closing
Date being referred to collectively hereinafter as "Pre-Closing Periods"); (C)
Taxes imposed on any member of any affiliated group with which the Seller and
the Seller Subsidiaries or any Seller Subsidiary files or has filed a Tax Return
on a consolidated, combined or unitary basis for a taxable year or period
beginning before the Closing Date; (D) Taxes required to be paid or reimbursed
by the Seller under subsection (i)(iii) hereof (to the extent such Taxes have
not been paid by Seller); (E) Taxes or additional Taxes imposed on the Purchaser
or the Seller Subsidiaries as a result of a breach of the representations and
warranties set forth in Section 2.12 of this Agreement or of the covenants
contained in this subsection (i) without duplication; or (F) Taxes or other
payments required to be made after the date hereof by the Seller Subsidiaries to
any party under any Tax sharing, indemnity or allocation agreement (whether or
not written).

(ii) In order to apportion appropriately any Taxes relating to any taxable
year or period that includes an Interim Period, the parties hereto shall, to the
extent permitted under applicable law, elect with the relevant Tax authority to
treat, for all purposes, the Closing Date as the last day of the taxable year or
period of the Seller Subsidiaries, and such Interim Period shall be treated as a
short taxable year and a Pre-Closing Period for purposes of this subsection (i).
In any case where applicable law does not permit the Seller Subsidiaries to
treat the Closing Date as the last day of the taxable year or period of the
Seller Subsidiaries with respect to Taxes that are payable with respect to an
Interim Period, the portion of any such Tax that is allocable to the portion of
the Interim Period ending on the Closing Date shall be:

(x) in the case of Taxes that are either (1) based upon or related to
income or receipts, or (2) imposed in connection with any sale or other
transfer or assignment of property (real or personal, tangible or
intangible), deemed equal to the amount which would be payable if the
taxable year or period ended on the Closing Date (except that, solely for
purposes of determining the marginal tax rate applicable to income or
receipts during such period in a jurisdiction in which such tax rate
depends upon the level of income or receipts, annualized income or receipts
may be taken into account, if appropriate, for an equitable sharing of such
Taxes); and

(y) in the case of Taxes not described in subparagraph (x) above that
are imposed on a period basis and measured by the level of any item, deemed
to be the amount of such Taxes for the entire period (or, in the case of
such Taxes determined on an arrears basis, the amount of such Taxes for the
immediately preceding period) multiplied by a fraction the numerator of
which is the number of calendar days in the Interim Period ending on the
Closing Date and the denominator of which is the number of calendar days in
the entire relevant period.

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(iii) The Seller shall be liable for and shall pay all applicable sales,
transfer, recording, deed, stamp and other similar taxes, including, without
limitation, any real property transfer or gains taxes (if any), resulting from
the consummation of the transactions contemplated by this Agreement.

(j) Purchaser and Seller Subsidiaries Indemnification. Except as otherwise
provided in Section 4.3(i), Purchaser and the Seller Subsidiaries shall be
liable for, and shall indemnify and hold Seller and any of its Affiliates
harmless against, (i) any and all Taxes imposed on the Seller Subsidiaries
relating or apportioned to any taxable year or portion thereof ending after the
Closing Date and (ii) the loss of any tax benefit solely as a result of
Purchaser's failure to take any action required under Section 4.3 necessary to
effectuate the filing of the Section 338(h)(10) Election.

(k) Refunds or Credits. At the reasonable request of Seller, Purchaser
shall cooperate, or cause the Seller Subsidiaries to cooperate, with Seller in
obtaining any refunds or credits (including interest thereon), other than any
refunds or credits on the December 31, 1997 financial statements of the Seller
Subsidiaries, relating to Taxes for which Seller may be liable under Section
4.3(i); provided, however, that Purchaser shall not be required to file such
claims for refund to the extent such claims for refund would have a material
adverse effect in future periods or to the extent the claims for refund relate
to a carryback of an item. Purchaser shall be entitled to all other refunds and
credits of Taxes; provided, however, it will not allow the amendment of any Tax
Return relating to any Taxes for a period ending on or prior to the Closing Date
or the carryback of an item to a period ending prior to Closing without Seller's
consent. For purposes of this Section 4.3(k), the terms "refund" and "credit"
shall include a reduction in Taxes and the use of an overpayment of Taxes as an
audit or other Tax offset. Receipt of a refund shall occur upon the filing of a
return or an adjustment thereto using such reduction, overpayment or offset, or
upon the receipt of cash.

(l) Mutual Cooperation. As soon as practicable, but in any event within 30
days after either Seller's or Purchaser's request, Purchaser shall, or shall
cause the Seller Subsidiaries to, deliver to Seller or Seller shall deliver to
Purchaser, as the case may be, such information and other data relating to the
Tax Returns and Taxes of the Seller Subsidiaries and shall provide such other
assistance as may reasonably be requested, to cause the completion and filing of
all Tax Returns or to respond to audits by any taxing authorities with respect
to any Tax Returns or taxable periods or to otherwise enable Seller, Purchaser
or the Seller Subsidiaries to satisfy their accounting or Tax requirements. For
a period of five years from and after the Closing, Purchaser and Seller shall,
and shall cause their Affiliates to, maintain and make available to the other
party, on such other party's reasonable request, copies of any and all
information, books and records referred to in this Section 4.3(l). After such
five-year period, Purchaser or Seller may dispose of such information, books and
records, provided that prior to such disposition, Purchaser or Seller shall give
the other party the opportunity to take possession of such information, books
and records.

(m) Contests. Whenever any taxing authority asserts a claim, makes an
assessment or otherwise disputes the amount of Taxes for which Seller is or may
be liable under this Agreement, Purchaser shall, if informed of such an
assertion, inform Seller within ten business days, and Seller shall have the
right to control any resulting proceedings and to determine whether and when to
settle any such claim, assessment or dispute to the extent such proceedings or
determinations affect the amount of Taxes for which Seller may be liable under
the Agreement except the Purchaser shall have the right to consent, which
consent will not be unreasonably withheld, to any settlement to the extent such
proceedings or settlement materially affect the amount of Taxes imposed on the
Seller Subsidiaries for periods beginning after the Pre-Closing Periods. If
Purchaser fails to provide such notice and such failure shall materially
prejudice Seller's ability to defend such assessment, then Seller's obligation
under Section 4.3(i) shall be null and void with regard to such assessment.
Whenever any taxing authority asserts a claim, makes an assessment or otherwise
disputes the amount of Taxes for which Purchaser is liable under this Agreement,
Purchaser shall have the right to control any resulting proceedings and to
determine whether and when to settle any such claim, assessment or dispute,
except that Seller shall have the right to consent, which consent shall not be
unreasonably withheld, to any settlement to the extent such proceedings
materially affect the amount of Taxes for which Seller is or may be liable under
this Agreement.

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(n) Resolution of Disagreements Between Seller and Purchaser. If either
Seller or Purchaser disagrees as to the amount of Taxes for which it may be
liable under this Agreement or Seller and Purchaser are unable to agree as to
the Final Allocation, the parties shall promptly consult each other to resolve
such dispute following the receipt of written notice from either party to begin
such consultation (the "Consultation Notice"). If any such point of disagreement
cannot be resolved within 60 days of the date of the Consultation Notice, or in
the case of the Final Allocation, within the 60-day period required by Section
4.3(b), as appropriate, Seller and Purchaser shall within ten days after such
period jointly select a nationally recognized independent public accounting or
law firm which has not, except pursuant to this Section 4.3(n), performed any
services since January 1, 1993, for Seller or Purchaser or their respective
Affiliates, to act as an arbitrator to resolve, within 60 days after its
selection, all points of disagreement concerning tax matters with respect to
this Agreement and presented to such accounting firm at the time of its
selection. If the parties cannot agree on the selection of an accounting or law
firm within such ten-day period, they shall cause their respective accounting
firms to select such firm within five business days of the end of such ten-day
period. Any such resolution shall be conclusive and binding on Purchaser and
Seller. The fees of such independent public accountants or law firm shall be
divided equally between Seller and Purchaser. Seller and Purchaser shall (and
shall cause the Seller Subsidiaries to) provide to such firm full cooperation.
Such firm shall be instructed to reach its conclusion regarding the dispute
within 60 days of its selection.

(o) Survival of Obligations. The obligations of the parties set forth in
Section 4.3 shall be unconditional and absolute, and shall remain in effect
until the expiration of the applicable statutes of limitations.

SECTION 4.4 Employee Matters.

(a) As of the Closing Date, Purchaser shall cause the Seller Subsidiaries
to continue to employ all persons who, immediately prior to the Closing Date,
were employees ("Company Employees") of the Seller Subsidiaries on terms
consistent with Purchaser's employment policies and benefit plans in general
effect at that time. Such employment may be with Purchaser, its affiliates or
with third party employee leasing companies, as determined by Purchaser and
shall be on terms mutually satisfactory to each Company Employee and Purchaser.
With respect to any employee benefits that are provided to Company Employees
under any of Purchaser's employee benefit plans, programs, policies and
arrangements, including vacation policies ("Purchaser Plans"), service accrued
by Company Employees during employment with Seller and the Seller Subsidiaries
prior to the Closing Date shall be recognized for all purposes, except to the
extent necessary to prevent duplication of benefits. Nothing in this Section 4.4
shall require that the Purchaser (i) maintain any particular benefit plan or
benefit in effect for any period of duration following the Closing Date, or (ii)
continue to employ any individual for any period of duration following the
Closing Date, except as required by any employment contract or laws.

(b) Purchaser agrees to assume and honor, and cause the Seller Subsidiaries
to assume and honor, without modification, all employment, severance, retention,
other incentive agreements and arrangements, postretirement medical, dental and
life insurance arrangements and all supplemental pension plans, as amended
through the date hereof (each, an "Employee Arrangement"), for the benefit of
any employees and former employees of the Company or any Company Subsidiary. The
Employee Arrangements set forth in Section 4.4(b) of the Disclosure Schedule
represent all the employment-related obligations of the Seller Subsidiaries that
will remain in effect following the Closing Date.

(c) Purchaser shall cause each Purchaser Plan to waive (i) any pre-existing
condition restriction which was waived under the terms of any analogous Benefit
Plan immediately prior to the Closing and (ii) waiting period limitation which
would otherwise be applicable to a Company Employee on or after the Closing to
the extent such Company Employee had satisfied any similar waiting period
limitation under an analogous Benefit Plan prior to the Closing. Company
Employees shall also be given credit for any deductible or co-payment amounts
paid in respect of the Benefit Plan year in which the Closing occurs, to the
extent that, following the Closing, they participate in any Purchaser Plan for
which deductibles or co-payments are required. For purposes of this Agreement,
"Company Employees" shall include those Company Employees who, as of immediately
prior to the Closing Date, are on lay-off, disability or leave of absence, paid
or unpaid.

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(d) Purchaser shall have no liability or obligation whatsoever in
connection with options to purchase FHS common stock that were granted by FHS to
any Company employee; provided, however, that Company employees shall be
eligible for Purchaser equity incentives, subject to the discretion of the
compensation committee of the Board of Directors of the Purchaser.

(e) As soon as practicable following the Closing Date, all Company
Employees who are participants in the FHS 401(k) Associate Savings Plan, as
amended and restated as of September 1, 1997, shall be given the opportunity to
receive a distribution of their respective account balances and shall be given
the opportunity to elect to "roll over" such account balance to the Superior
National Insurance Company 401(k) Plan, as amended and restated (the "Superior
401(k) Plan"), in both cases subject to, and in accordance with, the provisions
of such Plans and applicable law. Prior to such distributions, (i) Purchaser
will provide FHS with such documents and other information as FHS shall
reasonably request to assure itself that the Superior 401(k) Plan and the trust
established pursuant thereto are qualified and tax-exempt under Sections 401(a)
and 501(a) of the Code and will accept eligible rollover distributions from
Company Employees and (ii) FHS shall provide Purchaser with such documents and
other information as Purchaser may reasonably request to assure itself that the
FHS 401(k) Associate Savings Plan and the trust established pursuant thereto are
qualified and tax-exempt under Sections 401(a) and 501(a) of the Code and can
make eligible rollover distributions. If as of the date hereof, the Superior
401(k) Plan will not accept eligible rollover distributions from Company
Employees, Purchaser shall cause such plan to be so amended as soon as
practicable following the Closing Date.

SECTION 4.5 Publicity. Purchaser and Seller shall, subject to their
respective legal obligations (including requirements of stock exchanges and
other similar regulatory bodies), consult with each other and use reasonable
efforts to agree upon the text of any press release before issuing it or
otherwise making public statements with respect to the transactions contemplated
by this Agreement.

SECTION 4.6 Approvals and Consents; Cooperation; Notification.

(a) The parties shall use all reasonable efforts, and cooperate with each
other, to obtain as promptly as practicable all Permits and third-party consents
necessary or advisable to consummate the transactions contemplated by this
Agreement, and each party shall keep the other apprised of the status of matters
relating to completion of the transactions contemplated hereby. Purchaser and
Seller shall have the right to review in advance, to the extent reasonably
practicable, and shall consult with the other on, in each case subject to
applicable laws relating to the exchange of information, all the information
relating to Seller, the Seller Subsidiaries or Purchaser, as the case may be,
and any of their respective Affiliates, which appears in any filing made with,
or written materials submitted to, any third party or any Governmental Entity in
connection with the transactions contemplated by this Agreement, provided,
however, that nothing contained herein shall be deemed to provide either party
with a right to review any information provided to any Governmental Entity on a
confidential basis in connection with the transactions contemplated hereby. The
party responsible for any such filing shall promptly deliver to the other party
evidence of the filing of all applications, filings, registrations and
notifications relating thereto (except for any confidential portions thereof),
and any supplement, amendment or item of additional information in connection
therewith (except for any confidential portions thereof). The party responsible
for a filing shall, to the extent reasonably requested, also promptly deliver to
the other party a copy of each material notice, order, opinion and other item or
correspondence received by such filing party from any Governmental Entity in
respect of any such application (except for any confidential portions thereof).

(b) Seller and Purchaser shall use all reasonable efforts to file as soon
as practicable all notifications, filings and other documents required to obtain
all governmental authorizations, approvals, consents or waivers, including,
without limitation, under the HSR Act, and to respond as promptly as practicable
to any inquiries received from the Federal Trade Commission, the Antitrust
Division of the Department of Justice and any other Governmental Entity for
additional information or documentation and to respond as promptly as
practicable to all inquiries and requests received from any State Attorney
General or other Governmental Entity in connection therewith.

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(c) Without limiting the generality of the foregoing, within 20 business
days after the date hereof, Purchaser shall, if applicable as required by law,
make Form A filings with the insurance departments of the states listed in
Section 2.11(b) of the Disclosure Schedule with respect to the transactions
contemplated hereby. Purchaser shall promptly make any and all other filings and
submissions of information with such insurance departments which are required or
requested by such insurance departments to obtain the approvals required by such
insurance departments to consummate the transactions contemplated hereby. Seller
agrees to furnish Purchaser with such information and reasonable assistance as
Purchaser may reasonably request in connection with its preparation of such Form
A filings and other filings or submissions. Purchaser shall keep Seller fully
apprised of its actions with respect to all such filings and submissions and
shall provide Seller with copies of such Form A filings and other filings or
submissions in connection with the transactions contemplated by this Agreement
(except for any confidential portions thereof).

(d) Purchaser and Seller shall promptly advise each other upon receiving
any communication from any Governmental Entity whose consent or approval is
required for consummation of the transactions contemplated by this Agreement
which causes such party to believe that there is a reasonable likelihood that
any requisite regulatory approval will not be obtained or that the receipt of
any such approval will be materially delayed.

(e) Seller shall give prompt notice to Purchaser of the occurrence of any
Seller Material Adverse Effect, and Purchaser shall give prompt notice to Seller
of the occurrence of any Purchaser Material Adverse Effect. Each of Seller and
Purchaser shall give prompt notice to the other of the occurrence or failure to
occur of an event that would, or, with the lapse of time would, cause any
condition to the consummation of the transactions contemplated hereby not to be
satisfied.

SECTION 4.7 No Solicitation. Seller shall not, directly or indirectly,
through any Affiliate, officer, director, employee, investment banker, attorney,
representative or agent of Seller or any of the Seller Subsidiaries, solicit,
initiate, or encourage any inquiries or proposals that constitute, or could
reasonably be expected to lead to, an Acquisition Proposal (as hereinafter
defined). Seller will immediately cease and cause to be terminated any existing
activities, discussions or negotiations with any parties conducted heretofore
with respect to any of the foregoing. For purposes of this Agreement,
"Acquisition Proposal" means any offer or proposal for, or any indication of
interest in, a merger or other business combination involving the Seller
Subsidiaries or the acquisition of any equity interest in, or a substantial
portion of the assets of, the Seller Subsidiaries, other than the transactions
contemplated by this Agreement.

SECTION 4.8 Excluded Assets, Real Property.

(a) Seller and the Seller Subsidiaries shall take all actions necessary to
cause the Excluded Assets to be transferred (by dividend or otherwise) to one or
more other Affiliates of Seller so that such other Affiliates acquire valid
title to the Excluded Assets prior to the Closing.

(b) Seller and the Seller Subsidiaries shall take all actions necessary to
cause all right, title or interest in any real property owned by any Seller
Subsidiary prior to the Closing Date, whether held for use or for investment, to
be transferred (by dividend or otherwise) to one or more other Affiliates of the
Seller so that such other Affiliates prior to the Closing acquire all ownership
rights and title to such real property assets previously held by a Seller
Subsidiary. Seller, or another Affiliate of the Seller, shall replace the book
value of all the owned real estate assets so transferred with cash (or cash
equivalents reasonably acceptable to Purchaser) equal in value to such book
value at the date of transfer.

SECTION 4.9 Intercompany Accounts.

All intercompany accounts and Item 5 on Section 2.18 of the Disclosure
Schedule (an administrative service agreement between the Company and FHS,
effective 10/1/97), including, without limitation, the August 23, 1994
promissory note from Seller to CalComp in the principal amount of $10,000,000,
as set forth in Section 4.9 of the Disclosure Schedule, between the Seller
Subsidiaries, on the one hand, and Seller or its Affiliates on the other hand
("Intercompany Accounts") will be terminated at or before the Closing, and, if
practicable, settled at or before the Closing, and if not, then as soon as
practicable after the Closing Date and,

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in any event, within 60 days thereafter, provided, that all principal and
accrued interest under the promissory notes set forth in Section 4.9 of the
Disclosure Schedule will be paid in full at the Closing.

SECTION 4.10 Reserve Cover.

(a) Prior to the Closing, Seller shall cause the Seller Subsidiaries to
purchase $150,000,000 of adverse development protection on loss and allocated
loss adjustment expense reserves for claims occurring on or before December 31,
1997, pursuant to the Reinsurance Agreement. If Purchaser should determine while
the Reinsurance Agreement is in effect to commute it, Purchaser shall pay to
Seller, as soon as is practicable, one-half of (a) the then fair market value of
the returned assets less (b) the sum of (i) the then net present value (using a
discount rate reasonably acceptable to the parties) of the commuted reserves,
plus (ii) the tax cost of the commutation. Should Seller and Purchaser not agree
upon the fair market value of such assets, the net present value of such
commutation reserves or the tax costs of such commutation, they shall mutually
retain Ernst & Young LLP ("E&Y") to act as an independent actuary (the
"Independent Actuary") to determine the correct value and shall be bound by its
determination. If E&Y shall decline to serve in such capacity or has a conflict
with either of the parties, the parties shall agree on the appointment of the
Independent Actuary within a 10 day period. If the parties cannot agree upon the
selection of the Independent Actuary within a ten-day period, they shall cause
their respective accounting firms to select such firm within five business days
of the end of such ten-day period. Any such resolution shall be conclusive and
binding on Purchaser and Seller. Seller and Purchaser shall (and shall cause the
Seller Subsidiaries to) provide to such firm full cooperation. Such firm shall
be instructed to reach its conclusion regarding the dispute within 60 days of
its selection. The cost of the Independent Actuary's services shall be evenly
borne by Seller and Purchaser and shall be paid by Purchaser out of the
commutation savings proceeds, evenly reducing the proceeds available to each
party, prior to paying to Seller its portion of the commutation savings.

(b) Within 60 days of the date hereof (but in any event at least five days
prior to the Closing Date), Purchaser may request, in writing, and, if
requested, Seller agrees it shall cause the Seller Subsidiaries to increase the
amount of reinsurance cover by $25,000,000, consistent with the terms of the
Reinsurance Agreement, for aggregate ultimate net losses incurred by Seller
Subsidiaries on or prior to June 30, 1998 for losses occurring on or prior to
that portion of the 1998 accident year commencing on January 1, 1998 to and
including June 30, 1998, in exchange for a $5,000,000 increase in the purchase
price payable at the Closing by Purchaser pursuant to Section 1.2.

SECTION 4.11 Audited Financial Statements; Quarterly Statements.

(a) As soon as practical after the date hereof but in no event after 45
days following the date hereof, Seller shall deliver to Purchaser audited GAAP
financial statements for the Seller Subsidiaries, on a consolidated basis, for
each of the years ended on December 31, 1995, December 31, 1996 and December 31,
1997, including a balance sheet as of the latter two dates, and the statements
of operations, shareholders' equity and cash flows, and the related management
letters for the periods ending on each of such dates (collectively the "Audited
Financial Statements").

(b) Within 30 days after the end of each fiscal quarter after the date
hereof prior to the Closing, Seller shall deliver to Purchaser quarterly GAAP
financial statements (the "Quarterly Financial Statements") for the Seller
Subsidiaries, on a consolidated basis, including a balance sheet as of the end
of each quarter and statements of operations for each 1998 quarterly period then
ended, in a form sufficient for filing as part of Purchaser's proxy statement.

(c) Upon the reasonable request of Purchaser, Seller shall promptly
provide, or cause to be provided, to Purchaser such information as may be
reasonably required by Purchaser in connection with its Proxy Statement (as
defined below) and all other documents required to be filed by Purchaser in
order to consummate the transactions contemplated hereby.

SECTION 4.12 Related Party Service Agreements. Purchaser shall enter into
the Service Agreements with certain related parties of Seller on terms
consistent with the terms of Exhibits B-1 through B-4.

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ANNEX A

PURCHASE AGREEMENT

BY AND BETWEEN

FOUNDATION HEALTH CORPORATION

AND

SUPERIOR NATIONAL INSURANCE GROUP, INC.

MAY 5, 1998
<PAGE> 297

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
ARTICLE I
PURCHASE AND SALE

ARTICLE II

REPRESENTATIONS AND WARRANTIES OF SELLER

ARTICLE III

ARTICLE IV

COVENANTS
SECTION 4.1 Interim Operations of Seller................................ A-13
SECTION 4.2 Access to Information....................................... A-14
</TABLE>

A-ii
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ARTICLE V

ARTICLE VI

ARTICLE VII

ARTICLE VIII

A-iii
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<TABLE>
<S> <C>
ANNEXES
Index to Defined Terms...................................... Annex A

[Exhibits have been intentionally omitted for purposes of this Proxy Statement]

A-iv
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INDEX TO DISCLOSURE SCHEDULE

INDEX TO PURCHASER DISCLOSURE SCHEDULE

<TABLE>
<CAPTION>
TITLE SECTION
----- -------
<S> <C>
Consent and Approvals; No Violations........................ 3.3
</TABLE>

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PURCHASE AGREEMENT

A-1
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ARTICLE I

PURCHASE AND SALE

SECTION 1.3 Closing.

ARTICLE II

REPRESENTATIONS AND WARRANTIES OF SELLER

Seller represents and warrants to Purchaser as follows:

A-2
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A-3
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SECTION 2.6 Financial Statements.

A-4
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SECTION 2.9 Employee Benefit Plans; ERISA.

(f) No Benefit Plan is subject to Code Section 412.

A-5
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SECTION 2.11 No Default; Compliance with Applicable Laws.

A-6
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SECTION 2.12 Taxes. Except as disclosed in Section 2.12 of the Disclosure
Schedule:

(g) No consent to the application of Section 341(f)(2) of the Code has
been made or filed by or with respect to any of the Seller Subsidiaries or
any of their assets and properties.

(h) The Seller Subsidiaries have not taken any action that would
require an adjustment pursuant to Section 481 of the Code by reason of a
change in accounting method or otherwise.

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A-8
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SECTION 2.19 Environmental Matters.

(a) Definitions. The following terms, when used in this Section 2.19, shall
have the following meanings:

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SECTION 2.21 Insurance. Section 2.21 of the Disclosure Schedule sets forth
the insurance carriers and areas of coverage with respect to the insurance
policies of the Seller Subsidiaries.

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ARTICLE III

REPRESENTATIONS AND WARRANTIES OF PURCHASER

Purchaser represents and warrants to Seller as follows:

A-11
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SECTION 3.6 Investigation by Purchaser. In entering into this Agreement,
Purchaser:

A-12
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ARTICLE IV

COVENANTS

(b) none of the Seller Subsidiaries will amend its articles or
certificate of incorporation, bylaws or similar organizational documents;

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(i) none of the Seller Subsidiaries shall materially change any of the
accounting methods or practices used by it unless required by GAAP,
statutory accounting practices or applicable law;

(n) neither Seller nor any Seller Subsidiary will authorize or enter
into an agreement to do any of the foregoing.

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SECTION 4.3 Tax Matters.

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A-16
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A-17
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SECTION 4.4 Employee Matters.

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SECTION 4.6 Approvals and Consents; Cooperation; Notification.

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SECTION 4.8 Excluded Assets, Real Property.

SECTION 4.9 Intercompany Accounts.

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SECTION 4.10 Reserve Cover.

SECTION 4.11 Audited Financial Statements; Quarterly Statements.

SECTION 4.12 Related Party Service Agreements. Purchaser shall enter into
the Service Agreements with certain related parties of Seller on terms
consistent with the terms of Exhibits B-1 through B-4.

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SECTION 4.13 Lease Renewals. Purchaser and Seller shall use all reasonable
efforts in good faith to negotiate leases of three years in duration (or such
shorter period of time as may be remaining on the applicable underlying lease)
for all properties and facilities of the Seller Subsidiaries where the use of
such property or facility by a Seller Subsidiary is not the subject of a lease,
or the use by an Affiliate of a Seller Subsidiary is not the subject of a lease.
The monthly rents payable on such new leases will be equal to the total monthly
rental cost of the Seller's Affiliate for such facility times the percentage of
the space (based on square footage) to be used by the Seller Subsidiary. All
lease agreements in effect on the date of this Agreement shall be honored for
their remaining term by both Purchaser and Seller.

SECTION 4.14 Further Assurances. (a) Each party agrees to use all
reasonable efforts to take, or cause to be taken, all action, and to do, or
cause to be done, all things necessary, proper or advisable under applicable
laws and regulations to consummate and make effective the transactions
contemplated by this Agreement.

(b) Purchaser will use all reasonable efforts to cause a stockholder or
stockholders of Purchaser holding at least 5% of the outstanding common stock of
Purchaser who have not entered into Voting Agreements on or prior to the date
hereof to enter into a Voting Agreement as soon as practicable after the date
hereof.

SECTION 4.15 State Insurance Regulatory Approval for CCIC. Notwithstanding
the provision of Section 6.1(c), in the event that Purchaser is unable to obtain
state insurance regulatory approval to acquire CCIC within five (5) business
days after the receipt of state insurance regulatory approval for all of the
other Insurance Subsidiaries, Seller shall have the right to treat CCIC as an
"Excluded Asset" by providing written notice (the "CCIC Notice") to Purchaser of
its election to distribute the stock of CCIC out of the Company. Following
delivery of the CCIC Notice:

(i) CCIC will be deemed to be an "Excluded Asset" and will no longer
be treated as an "Insurance Subsidiary" for all purposes under the
Agreement;

(ii) the Purchase Price will be reduced by 80% of the net book value
of CCIC included in the most recent Quarterly Financial Statement delivered
to Purchaser (the "CCIC Value");

(iii) Purchaser and Seller agree to negotiate in good faith to enter
into an interim management agreement prior to Closing pursuant to which
Seller will agree to continue to operate CCIC, at Purchaser's full cost and
risk, consistent with the terms of Section 4.1 of this Agreement until
Seller is able to secure the necessary state insurance regulatory approval
to acquire all of the capital stock of CCIC;

(iv) Seller agrees that it will take all steps reasonably necessary to
secure such state insurance regulatory approval as soon as possible after
the delivery of the CCIC Notice;

(v) Purchaser agrees that it will purchase the capital stock of CCIC
from Seller or its Affiliates, subject only to receipt of the necessary
state insurance regulatory approvals and the Closing, for a price equal to
the CCIC Value plus interest on such amount from the date of Closing until
the date of purchase of the capital stock of CCIC accruing at a rate of 10%
per annum (the "CCIC Purchase");

(vi) upon consummation of the CCIC Purchase, CCIC will be deemed to be
an "Insurance Subsidiary" as of the Closing Date; and

(vii) notwithstanding the foregoing, Seller will be free to sell the
capital stock or assets of CCIC to a third party at any time after twelve
(12) months after the Closing Date after which time Purchaser will no
longer have the obligation to purchase CCIC pursuant to this Section 4.15.

SECTION 4.16 Stockholder Approval and Financing. Purchaser shall, as
promptly as practicable, after the date hereof prepare and file with the
Securities Exchange Commission a proxy statement (the "Proxy Statement") and
take such other actions necessary in accordance with applicable law and its
Certificate of Incorporation and bylaws to convene a meeting of its stockholders
to consider and vote upon the approval of the transaction contemplated by the
Financing Agreements in connection with the consummation of the transactions
contemplated by this Agreement. The Proxy Statement shall include the
recommendation of the Board of Directors of Purchaser that its stockholders vote
in favor of those matters requiring their approval in

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order to consummate the transactions contemplated by this Agreement and the
Financing Agreements. The Board of Directors of Purchaser shall take all
reasonable steps to solicit and obtain such approval. The Purchaser agrees to
use its best efforts to arrange and complete financing of the transactions as
contemplated by the Financing Agreements, including taking all steps necessary
to enforce its rights under the Financing Agreements. Purchaser further agrees
that prior to the Closing it will not amend the terms of the IP Stock Purchase
Agreement without the prior written consent of Seller if such amendments would
adversely effect the completion of the Financing Agreements.

ARTICLE V

INDEMNIFICATION

SECTION 5.1 Indemnification by Seller. Subject to the limits set forth in
this Article V, Seller agrees to indemnify, defend and hold Purchaser, its
officers, directors, agents and Affiliates (the "Purchaser Indemnified
Parties"), harmless from and in respect of any and all losses, damages, costs
and reasonable expenses (including, without limitation, reasonable expenses of
investigation and defense fees and disbursements of counsel and other
professionals and losses in connection with any clean-up or remedial action
pursuant to Environmental Laws), (collectively, "Losses"), that they may incur
arising out of or due to any inaccuracy of any representation or the breach of
any warranty, covenant, undertaking or other agreement of Seller contained in
this Agreement or the Disclosure Schedule; provided, however, that Seller shall
have no liability to Purchaser under this Section 5.1 unless Purchaser
Indemnified Parties shall have met the aggregate deductible requirements of
Section 5.3. Notwithstanding any other provision of this Agreement, including
this Section 5.1, the Seller shall have no obligation to indemnify, or otherwise
have any liability to, the Purchaser Indemnified Parties for any Loss arising
out of, or relating to the business or operations of the Seller Subsidiaries
following the date hereof (the "Excluded Losses"), including without limitations
any Excluded Breach (as defined below) unless written notice of a Loss occurring
during the first 20 business days after the date hereof is provided as
contemplated by Section 7.1(e) within 35 days following the date hereof.

SECTION 5.2 Indemnification by Purchaser. Subject to the limits set forth
in this Article V, Purchaser agrees to indemnify, defend and hold Seller, its
officers, directors, agents and Affiliates, harmless from and in respect of any
and all Losses that they may incur (i) arising out of or due to any inaccuracy
of any representation or the breach of any warranty, covenant, undertaking or
other agreement of Purchaser contained in this Agreement and (ii) arising out of
any and all actions, suits, claims and administrative or other proceedings of
every kind and nature instituted or pending against Seller or any of its
Affiliates at any time after the Closing Date to the extent that such Losses (x)
relate to or arise out of or in connection with the assets, businesses,
operations, conduct, products, environmental conditions or violations of
Environmental Laws and/or employees (including former employees) of the Seller
Subsidiaries relating to or arising out of or in connection with occurrences
after the Closing Date and (y) do not arise out of a breach of Seller's
representations and warranties in, or a default in the performance of any of
Seller's covenants under, this Agreement;

SECTION 5.3 Survival of Representations and Warranties. The several
representations and warranties of the parties contained in this Agreement or in
any instrument delivered pursuant to this Agreement will survive the Closing
Date and will remain in full force and effect thereafter for a period of one
year from the Closing Date; provided, however, that the representations and
warranties contained in Section 2.12 shall be governed by Section 4.3 and the
representations and warranties contained in Section 2.19 will survive the
Closing Date for a period of two years from the Closing Date; provided, further,
that such representations or warranties shall survive (if at all) beyond such
period with respect to any inaccuracy therein or breach thereof, notice of which
shall have been duly given within such one year or two years time period, as
applicable, in accordance with Section 5.4. Other than as stated in the tax
indemnity in Section 4.3, anything to the contrary contained herein
notwithstanding, neither party shall be entitled to recover from the other
unless and until the total of all claims for indemnity or damages with respect
to any inaccuracy or breach of any such representations or warranties or breach
of any covenants, undertakings or other agreements, whether such claims are
brought under this Article V or otherwise (other than, in each case, the
Excluded Losses), exceeds

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$5,000,000 and then only for the amount by which such claims for indemnity or
damages exceed $5,000,000; provided, however, that no party shall be entitled to
recover from the other more than $50,000,000 in the aggregate pursuant to this
Article V.

SECTION 5.4 Notice and Opportunity to Defend. If an event occurs which a
party asserts is an indemnifiable event pursuant to Section 5.1 or 5.2, the
party seeking indemnification shall promptly notify the other party obligated to
provide indemnification (the "Indemnifying Party"). If such event involves (i)
any claim or (ii) the commencement of any action or proceeding by a third
person, the party seeking indemnification will give such Indemnifying Party
prompt written notice of such claim or the commencement of such action or
proceeding, provided, however, that the failure to provide prompt notice as
provided herein will relieve the Indemnifying Party of its obligations hereunder
only to the extent that such failure prejudices the Indemnifying Party
hereunder. If any such action is brought against any party seeking
indemnification and it notifies the Indemnifying Party of the commencement
thereof, the Indemnifying Party shall be entitled to participate therein and, to
the extent that it wishes, at its cost, risk and expense to assume the defense
thereof, with counsel reasonably satisfactory to the party seeking
indemnification, unless the named party to such action or proceeding includes
both an Indemnifying Party and a party seeking indemnification and the party
seeking indemnification has been advised in writing by counsel that there may be
one or more legal defenses available to such party that are different from or
additional to those available to the Indemnifying Party, in which event the
party seeking indemnification shall be entitled, at the Indemnifying Party's
reasonable cost and expense to separate counsel of its own choosing reasonably
acceptable to the Indemnifying Party. After notice from the Indemnifying Party
to the party seeking indemnification of such election to so assume the defense
thereof, the Indemnifying Party shall not be liable to the party seeking
indemnification for any legal expenses of other counsel or any other expenses
subsequently incurred by such party in connection with the defense thereof. The
party seeking indemnification agrees to cooperate in all reasonable respects
with the Indemnifying Party and its counsel in the defense against any such
asserted liability. The party seeking indemnification shall have the right to
participate at its own expense in the defense of such asserted liability. The
Indemnifying Party shall be entitled to compromise or settle any claim as to
which it is providing indemnification, which compromise or settlement shall be
made only with the written consent of the party being indemnified, such consent
not to be unreasonably withheld. If an Indemnifying Party fails to assume the
defense of a claim within 30 calendar days after receipt of the notice of claim
by the Indemnifying Party, the party seeking indemnification, against which such
claim has been asserted, will, upon delivering notice to such effect to the
Indemnifying Party, have the right to undertake, at the Indemnifying Party's
reasonable cost and expense subject to the limitations set forth in this Article
V, the defense, compromise or settlement of such claim on behalf of and for the
account of the Indemnifying Party subject to the limitations set forth in this
Article V; provided, however, that such claim shall not be compromised or
settled without the written consent of the Indemnifying Party, which consent
shall not be unreasonably withheld. If the party seeking indemnity assumes the
defense of the claim, it shall keep the Indemnifying Party reasonably informed
of the progress of any such defense, compromise or settlement. In no event shall
an Indemnifying Party be liable for any settlement effected without its consent,
which will not be unreasonably withheld.

SECTION 5.5 Adjustment for Insurance and Taxes. The amount which an
Indemnifying Party is required to pay to, for or on behalf of the other party
(hereinafter referred to as an "Indemnitee") pursuant to this Article V and
Section 4.3 shall be adjusted (including, without limitation, retroactively) (i)
by any insurance proceeds actually recovered by or on behalf of such Indemnitee
in reduction of the related indemnifiable loss (the "Indemnifiable Loss") and
(ii) to take account of any tax benefit actually realized as a result of any
Indemnifiable Loss, less the cost of procuring such insurance proceeds or tax
benefit. Amounts required to be paid, as so reduced, are hereinafter sometimes
called an "Indemnity Payment." If an Indemnitee has received or has had paid on
its behalf an Indemnity Payment for an Indemnifiable Loss and subsequently
receives insurance proceeds for such Indemnifiable Loss, or realizes any tax
benefit as a result of such Indemnifiable Loss, then the Indemnitee shall (i)
promptly notify the Indemnifying Party of the amount and nature of such proceeds
and benefits, together with the cost of procuring them, and (ii) pay to the
Indemnifying Party the amount of such insurance proceeds or tax benefit (reduced
by such procurement cost), or, if lesser, the amount of the Indemnity Payment.

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SECTION 5.6 Mitigation of Loss. Each Indemnitee is obligated to use its
reasonable efforts to mitigate the amount of any Loss for which it is entitled
to seek indemnification hereunder, and the Indemnifying Party shall not be
required to make any payment to an Indemnitee in respect of such Loss to the
extent such Indemnitee failed to comply with the foregoing obligation.

SECTION 5.7 Subrogation. Upon making any Indemnity Payment, the
Indemnifying Party will, to the extent of such payment, be subrogated to all
rights of the Indemnitee against any third party in respect of the Loss to which
the payment relates; provided, however, that until the Indemnitee recovers full
payment of its Loss, any and all claims of the Indemnifying Party against any
such third party on account of such payment are hereby made expressly
subordinated and subjected in right of payment of the Indemnitee's rights
against such third party. Without limiting the generality of any other provision
hereof, each such Indemnitee and Indemnifying Party will duly execute upon
request all instruments reasonably necessary to evidence and perfect the above
described subrogation and subordination rights.

SECTION 5.8 Tax Indemnification. None of the provisions of this Article V,
with the exception of Section 5.5, shall apply to the claims, obligations,
liabilities, covenants and representations under Section 4.3, which shall be
governed solely by the terms thereof.

SECTION 5.9 Set-Off. Neither Seller nor Purchaser shall have any right to
set-off any Losses against any payments to be made by such party or parties
pursuant to this Agreement or the Service Agreements, except as otherwise
expressly provided herein or therein.

SECTION 5.10 Exclusive Remedy. Following the Closing, the indemnities
provided for in this Article V shall be the sole and exclusive remedies of the
parties and their respective officers, directors, employees, Affiliates, agents,
representatives, successors and assigns for any breach of or inaccuracy in any
representation or warranty or any breach, nonfulfillment or default in the
performance of any of the covenants or agreements contained in this Agreement
(but not any such covenants or agreements to the extent they are by their terms
to be performed after the Closing Date). The parties shall not be entitled to a
recission of this Agreement or to any further indemnification rights or claims
of any nature whatsoever in respect thereof (whether by contract, common law,
statute, law, regulation or otherwise, including, without limitation, under the
Racketeer Influence and Corrupt Organizations Act of 1970, as amended), all of
which the parties hereby waive, provided, however, that nothing herein is
intended to waive any claims for intentional fraud.

ARTICLE VI

CONDITIONS

SECTION 6.1 Conditions to Each Party's Obligation to Effect the
Closing. The obligations of Seller, on the one hand, and Purchaser, on the other
hand, to consummate the Closing are subject to the satisfaction (or, if
permissible, waiver by the party for whose benefit such conditions exist) of the
following conditions:

(a) no arbitrator or Governmental Entity shall have issued any order,
decree or ruling, and there shall not be any statute, rule or regulation,
restraining, enjoining or prohibiting the consummation of the material
transactions contemplated by this Agreement; provided that the parties
shall have used all reasonable efforts to cause any such order, decree,
ruling, statute, rule or regulation to be vacated or lifted;

(b) any waiting period applicable to the transactions contemplated
hereby under the HSR Act shall have expired or been terminated;

(c) the required state insurance regulatory approvals of the
consummation of the transactions contemplated hereunder (the "State
Insurance Regulatory Approval"), including the approval of the California
Department of Insurance pursuant to California Insurance Code Section 1215
et seq., shall have been obtained, provided, that if Purchaser is unable to
obtain Insurance Regulatory Approval for CCIC and Seller has exercised its
right under Section 4.15 to treat CCIC as an Excluded Asset, this Section
6.1(c) shall be deemed satisfied with respect to CCIC; and

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(d) all authorizations, approvals or consents required to permit the
consummation of the transactions contemplated hereby shall have been
obtained and be in full force and effect, except where the failure to have
obtained any such authorizations, approvals or consents would not have a
Seller Material Adverse Effect or a Purchaser Material Adverse Effect, as
the case may be.

SECTION 6.2 Conditions to the Obligations of Purchaser. The obligations of
Purchaser to consummate the transactions contemplated hereby are subject to the
satisfaction (or waiver by Purchaser) of the following further conditions:

(a) the representations and warranties of Seller shall be true and
accurate as of the Closing Date as if made at and as of such time (other
than (i) Section 2.8 and (ii) those representations and warranties that
address matters only as of a particular date or only with respect to a
specific period of time which need to be true and accurate only as of such
date or with respect to such period), except (x) where the failure of such
representations and warranties to be so true and accurate (without giving
effect to any limitation as to "materiality" or "material adverse effect"
set forth therein), would not have, a Seller Material Adverse Effect or (y)
where the failure of such representations to be true and accurate arises
out of, or relates to, the business or operations of the Seller
Subsidiaries following the date hereof (an "Excluded Breach"), unless
written notice of such failure or inaccuracy occurring within the first 20
business days after the date hereof is provided as contemplated by Section
7.1(e) within 35 days following the date hereof;

(b) Seller shall have performed in all material respects the
obligations hereunder required to be performed by it at or prior to the
Closing Date;

(c) Purchaser shall have received an incumbency certificate and a
certificate signed by two executive officers of Seller, dated as of the
Closing Date, to the effect that the conditions set forth in Section 6.2(a)
and Section 6.2(b) have been satisfied;

(d) the Seller Subsidiaries shall have entered into the Reinsurance
Agreement;

(e) all Intercompany Accounts have been terminated as of the Closing
Date;

(f) Seller shall have entered into the Transitional Services Agreement
contemplated by Exhibit B-4 hereto;

(g) Purchaser shall have received letters of resignation from each of
the members of the Board of Directors of each Seller Subsidiary, which
resignations shall be effective as of the Closing Date;

(h) the Company shall have no subsidiaries other than the Insurance
Subsidiaries; and

(i) Seller shall have delivered copies to Purchaser of all
certificates of good standing, certificates of qualification and
certificates of authority for each Seller Subsidiary consistent with the
disclosure provided in Section 2.11(b) of the Disclosure Schedules.

SECTION 6.3 Conditions to the Obligations of Seller. The obligations of
Seller to consummate the transactions contemplated hereby are subject to the
satisfaction (or waiver by Seller) of the following conditions:

(a) the representations and warranties of Purchaser shall be true and
accurate as of the Closing Date as if made at and as of such time (other
than those representations and warranties that address matters only as of a
particular date or only with respect to a specific period of time which
need to be true and accurate only as of such date or with respect to such
period), except where the failure of such representations and warranties to
be so true and accurate (without giving effect to any limitation as to
"materiality" or "material adverse effect" set forth therein) would not
have a Purchaser Material Adverse Effect;

(b) Purchaser shall have performed in all material respects all of the
obligations hereunder required to be performed by Purchaser, at or prior to
the Closing Date;

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(c) Seller shall have received an incumbency certificate and a
certificate signed by two executive officers of Purchaser, dated as of the
Closing Date, to the effect that the conditions set forth in Section 6.3(a)
and Section 6.3(b) have been satisfied;

(d) Purchaser shall have delivered executed copies of each of the
Service Agreements; and

(e) at the Closing, Purchaser shall have delivered to Seller a
certificate (which certificate shall survive the Closing) to the effect
that (i) Purchaser has conducted and is satisfied with the results of its
business, accounting and legal due diligence review of the Shares and the
business and affairs of Seller and the Seller Subsidiaries and (ii) in
completing the transactions contemplated in accordance with this Agreement,
Purchaser has not and is not relying on any representation or warranty of
Seller or the Seller Subsidiaries which is not expressly stated in this
Agreement.

ARTICLE VII

TERMINATION

SECTION 7.1 Termination. Anything herein or elsewhere to the contrary
notwithstanding, this Agreement may be terminated and the transactions
contemplated herein may be abandoned at any time prior to the Closing Date:

(a) by the mutual consent of Seller and Purchaser;

(b) by Seller or Purchaser:

(i) if the Closing shall not have occurred on or prior to November
30, 1998 (or December 31, 1998 if the only condition remaining
unfulfilled at November 30, 1998 is approval by any required
Governmental Entity and Seller and Purchaser are continuing to seek to
obtain such approval); provided, however, that the right to terminate
this Agreement under this Section 7.1(b)(i) shall not be available to
any party whose failure to fulfill any obligation under this Agreement
has been the cause of, or resulted in, the failure of the Closing to
occur on or prior to such date; or

(ii) if any Governmental Entity shall have issued an order, decree
or ruling or taken any other action (which order, decree, ruling or
other action the parties hereto shall use all reasonable efforts to
lift), in each case permanently restraining, enjoining or otherwise
prohibiting the material transactions contemplated by this Agreement,
and such order, decree, ruling or other action shall have become final
and non-appealable;

(c) by Seller if Purchaser (x) breaches or fails in any material
respect to perform or comply with any of its material covenants and
agreements contained herein or (y) breaches its representations and
warranties in any material respect and such breach would have a Purchaser
Material Adverse Effect, in each case such that the conditions set forth in
Section 6.1 or Section 6.3 would not be satisfied; provided, however, that
if any such breach is curable within a reasonable period of time by
Purchaser through the exercise of Purchaser's best efforts and for so long
as Purchaser shall be so using its best efforts to cure such breach, Seller
may not terminate this Agreement pursuant to this Section 7.1(c);

(d) by Purchaser if Seller (x) breaches or fails in any material
respect to perform or comply with any of their material covenants and
agreements contained herein or (y) breaches its representations and
warranties in any material respect (other than Excluded Breaches) and such
breach would have a Seller Material Adverse Effect, in each case such that
the conditions set forth in Section 6.1 or Section 6.2 would not be
satisfied; provided, however, that if any such breach is curable within a
reasonable period of time by Seller through the exercise of Seller's best
efforts and for so long as Seller shall be so using its best efforts to
cure such breach, Purchaser may not terminate this Agreement pursuant to
this Section 7.1(d);

(e) by Purchaser if, from the date of this Agreement through to the
Closing Date, there shall have occurred a "Material Adverse Change," as
hereinafter defined, in the financial condition, business or operations of
the Seller Subsidiaries, taken as a whole. A "Material Adverse Change", for
purposes of

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this Section 7.1(e), means (i) during the twenty (20) business days
following the date of this Agreement, any change in the business or
operations of the Seller Subsidiaries that meets the definition of a Seller
Material Adverse Effect and with respect to which Purchaser provides
Seller, within thirty-five (35) days following the date hereof, written
notice of its desire to terminate this Agreement pursuant to this Section
7.1(e) and (ii) after such twenty (20) business day period, subject to the
right to provide written notice as provided by the immediately preceding
clause (i), until the Closing Date, a change in the business or operations
of the Seller Subsidiaries that meets the definition of a Seller Material
Adverse Effect, other than a Seller Material Adverse Effect arising out of,
or relating to, the business or operations of the Seller Subsidiaries after
the date hereof or the matters disclosed in the Disclosure Schedules; or

(f) by Seller if (x) Purchaser, its board of directors or officers
fails to recommend to Purchaser's stockholders, or withdraws, revokes or
otherwise adversely modifies its approval or recommendation of the
transactions contemplated hereby or (y) the stockholders of Purchaser fail
to approve those matters requiring their approval in order to consummate
the transactions contemplated hereby.

SECTION 7.2 Procedure and Effect of Termination. In the event of the
termination and abandonment of this Agreement by Seller or Purchaser pursuant to
Section 7.1, written notice thereof shall forthwith be given to the other party.
If the transactions contemplated by this Agreement are terminated as provided
herein:

(a) each party will return all documents, work papers and other
material of any other party relating to the transactions contemplated
hereby, whether so obtained before or after the execution hereof, to the
party furnishing the same;

(b) all confidential information received by either party with respect
to the business of any other party or its subsidiaries or Affiliates shall
be treated in accordance with the provisions of the Confidentiality
Agreement, which shall survive the termination of this Agreement; and

(c) neither party will have any liability under this Agreement to the
other except (i) as stated in subparagraphs (a) and (b) of this Section
7.2, (ii) for any willful breach of any provision of this Agreement and
(iii) as provided in the Confidentiality Agreement.

SECTION 7.3 Breakup Fee. In the event that the conditions to closing set
forth in Article VI with respect to a party have been met and there is no basis
for such party to terminate this Agreement pursuant to Section 7.1, yet, upon
written request, such party does not agree upon and does not meet a reasonable
schedule to set the Closing Date and complete the Closing, then such party shall
be deemed to have wrongfully failed to close and the other party shall be
entitled to: (a) obtain injunctive relief to require the Closing to occur; or
(b) receive a $15,000,000 payment from the other party and seek additional
monetary damages from the other party, if any, provided, however, that the
occurrence of the Closing shall preclude in full the availability of alternative
(b). In addition, in the event Seller terminates the Agreement pursuant to
Section 7.1(f), Seller shall be entitled to receive a $15,000,000 payment from
Purchaser and seek additional monetary damages, if any. Any payment required
above shall be paid in immediately available funds within three (3) business
days of the demand for such payment and shall accrue interest at LIBOR plus 2%
per annum. For the purposes of this Agreement, "LIBOR" shall mean "LIBOR" as
defined in FHS's senior credit facility.

ARTICLE VIII

MISCELLANEOUS

SECTION 8.1 Governing Laws and Consent to Jurisdiction. The laws of the
State of Delaware (irrespective of its choice of law principles) shall govern
all issues concerning the validity of this Agreement, the construction of its
terms and the interpretation and enforcement of the rights and duties of the
parties. Each party irrevocably submits to the exclusive jurisdiction of the
federal courts of the United States of America located in Los Angeles County,
California (and federal courts having jurisdiction over appeals therefrom) in
respect of the transactions contemplated by this Agreement, the other agreements
and

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documents referred to herein and the transactions contemplated by this Agreement
and such other documents and agreements.

SECTION 8.2 Amendment and Modification. Subject to applicable law, this
Agreement may be amended, modified and supplemented in any and all respects by
written agreement of the parties at any time prior to the Closing Date with
respect to any of the terms contained herein.

SECTION 8.3 Notices. All notices, consents and other communications
hereunder shall be in writing and shall be deemed to have been duly given (i)
upon actual receipt or when delivered by hand or by FedEx or a similar overnight
courier, (ii) five days after being deposited in any United States Post Office
enclosed in a postage prepaid, registered or certified envelope addressed or
(iii) when successfully transmitted by telecopier (with a confirming copy of
such communication to be sent as provided in clause (i) or (ii) above), to the
receiving party during regular business hours at the address or telecopier
number set forth below (or at such other address or telecopier number for a
party as shall be specified by like notice), provided, however, that any notice
of change of address or telecopier number shall be effective only upon receipt:

(a) if to Purchaser, to:

Superior National Insurance Group, Inc.
26601 Agoura Road
Calabasas, California 91302
Telephone No.: (818) 880-1600
Telecopy No.: (818) 880-8615
Attention: J. Chris Seaman

with a copy to:

Riordan & McKinzie
5473 Corsa Avenue, Suite #116
Westlake Village, California 91362
Telephone No.: (818) 706-1800
Telecopy No.: (818) 706-2956
Attention: Dana M. Warren, Esq.

(b) if Seller, to:

Foundation Health Systems, Inc.
225 North Main
Pueblo, CO 81003
Telephone : (719) 585-8077
Telecopy No: (719) 585-8175
Attention: General Counsel

with a copy to:

Skadden, Arps, Slate, Meagher &
Flom (Illinois)
333 West Wacker Drive
Chicago, Illinois 60606
Telephone No.: (312 407-0700
Telecopy No.: (312 407-0411
Attention: Peter C. Krupp, Esq.

Section 8.4 Interpretation.

(a) The words "hereof," "herein" and "herewith" and words of similar import
shall, unless otherwise stated, be construed to refer to this Agreement as a
whole and not to any particular provision of this Agreement, and article,
section, paragraph, exhibit and schedule references are to the articles,
sections,

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paragraphs, exhibits and schedules of this Agreement unless otherwise specified.
The words describing the singular number shall include the plural and vice
versa, and words denoting any gender shall include all genders and words
denoting natural persons shall include corporations and partnerships and vice
versa. As used in this Agreement, the term "Affiliate(s)" shall have the meaning
set forth in Rule l2b-2 of the Securities Exchange Act of 1934, as amended. The
phrases "to the knowledge of," "to a party's best knowledge," or any similar
phrase shall mean such facts and other information which as of the date of
determination are actually known to any vice president or chief financial
officer and any officer superior to any of the foregoing, of the referenced
party. The phrase "made available" in this Agreement shall mean that the
information referred to has been made available if requested by the party to
whom such information is to be made available. The phrases "the date of this
Agreement," "the date hereof" and terms of similar import, unless the context
otherwise requires, shall be deemed to refer to May 5, 1998. As used in this
Agreement, the term "business day" means a day, other than a Saturday or a
Sunday, on which banking institutions in the city of Los Angeles are open. The
parties have participated jointly in the negotiation and drafting of this
Agreement. In the event an ambiguity or question of intent or interpretation
arises, this Agreement shall be construed as if drafted jointly by the parties,
and no presumption or burden of proof shall arise favoring or disfavoring any
party by virtue of the authorship of any provisions of this Agreement.

(b) The Disclosure Schedule shall be construed with and as an integral part
of this Agreement as if the same had been set forth verbatim herein. Any matter
disclosed pursuant to the Disclosure Schedule shall be deemed to be disclosed
for all purposes under this Agreement, but such disclosure shall not be deemed
to be an admission or representation as to the materiality of the item so
disclosed.

(c) Headings are for convenience of the parties only and shall be given no
substantive or interpretative effect whatsoever.

(d) Notwithstanding the provisions of Section 1.2, the Purchase Price shall
be increased by the amount of any capital contributions made to the Company
after December 31, 1997 in order to fund any capital contributions or any other
payment (a "Governmental Payment"), in an amount not to exceed $25,000,000,
which are required by any Governmental Entity (as defined below) and such
increase shall be payable by wire transfer of immediately available funds to an
account designated by Seller; provided that an increase in the Purchase Price
attributable to Governmental Payments in excess of $10,000,000 shall be paid in
the form of a senior note from Purchaser (the "Purchaser Note") with the
principal amount thereon due three years from the Closing Date and bearing a
rate of interest, payable quarterly, equal to the interest on the senior notes
to be issued by Purchaser pursuant to the Financing Agreements. The Purchaser
Note, if any, shall be in a form reasonably acceptable to Seller and Purchaser.

SECTION 8.5 Counterparts. This Agreement may be executed in multiple
counterparts, all of which shall together be considered one and the same
agreement.

SECTION 8.6 Entire Agreement; Third Party Beneficiaries. This Agreement
(including the documents and the instruments referred to herein), the
Confidentiality Agreement and the Disclosure Schedule (i) constitute the entire
agreement and supersede all prior agreements and understandings, both written
and oral, among the parties with respect to the subject matter hereof and (ii)
except as provided herein, are not intended to confer upon any person other than
the parties hereto any rights or remedies hereunder.

SECTION 8.7 Severability. If any term, provision, covenant or restriction
of this Agreement is held by a court of competent jurisdiction or other
authority to be invalid, void, unenforceable or against its regulatory policy,
the remainder of the terms, provisions, covenants and restrictions of this
Agreement shall remain in full force and effect and shall in no way be affected,
impaired or invalidated.

SECTION 8.8 Service of Process. Each party irrevocably consents to the
service of process outside the territorial jurisdiction of the courts referred
to in Section 8.1 hereof in any such action or proceeding by mailing copies
thereof by registered United States mail, postage prepaid, return receipt
requested, to its address as specified in or pursuant to Section 8.3 hereof.
However, the foregoing shall not limit the right of a party to effect service of
process on the other party by any other legally available method.

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SECTION 8.9 Specific Performance. Each party acknowledges and agrees that
in the event of any breach of this Agreement, each non-breaching party would be
irreparably and immediately harmed and could not be made whole by monetary
damages. It is accordingly agreed that, subject to the terms of Section 7.3, the
parties will (a) waive, in any action for specific performance, the defense of
adequacy of a remedy at law and (b) be entitled, in addition to any other remedy
to which they may be entitled at law or in equity, to compel specific
performance of this Agreement in any action instituted in accordance with
Section 8.1.

SECTION 8.10 Assignment. Neither this Agreement nor any of the rights,
interests or obligations hereunder shall be assigned by either party (whether by
operation of law or otherwise) without the prior written consent of the other
party. Subject to the preceding sentence, this Agreement will be binding upon,
inure to the benefit of and be enforceable by the parties and their respective
permitted successors and assigns.

SECTION 8.11 Expenses. Except as otherwise provided herein, all costs and
expenses incurred in connection with the transactions contemplated hereby, this
Agreement and the consummation of the transactions contemplated hereby shall be
paid by the party incurring such costs and expenses, whether or not the
transactions contemplated hereby is consummated, provided that Purchaser shall
pay all fees associated with any filings made under the HSR Act in connection
with the transactions contemplated by this Agreement.

SECTION 8.12 Waivers. Except as otherwise provided in this Agreement, any
failure of either party to comply with any obligation, covenant, agreement or
condition herein may be waived by the party or parties entitled to the benefits
thereof only by a written instrument signed by the party granting such waiver,
but such waiver or failure to insist upon strict compliance with such
obligation, covenant, agreement or condition shall not operate as a waiver of,
or estoppel with respect to, any subsequent or other failure.

IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be
signed by their respective officers thereunto duly authorized as of the date
first written above.

FOUNDATION HEALTH CORPORATION

By: /s/ B. CURTIS WESTEN
------------------------------------
Name: B. Curtis Westen
Title: Sr. VP, Gen. Counsel &
Secretary

SUPERIOR NATIONAL INSURANCE GROUP,
INC.

By: /s/ J. CHRIS SEAMAN
------------------------------------
Name: J. Chris Seaman
Title: Chief Financial Officer

A-31
<PAGE> 332

ANNEX A

INDEX OF DEFINED TERMS

<TABLE>
<CAPTION>
DEFINED IN
TERMS SECTION
----- ----------
<S> <C>
Acquisition Proposal........................................ 4.7
Adjusted Grossed-Up Basis................................... 4.3(a)
Affiliate(s)................................................ 8.4(a)
Agreement................................................... Preamble
Audited Financial Statements................................ 4.11(a)
Axis........................................................ Preamble
Bankruptcy Code............................................. 3.7
Benefit Plans............................................... 2.9(a)
BIC......................................................... Preamble
business day................................................ 8.4(a)
CalComp..................................................... Preamble
Capital Z................................................... 3.5
CBIC........................................................ Preamble
CCIC........................................................ Preamble
CCIC Notice................................................. 4.15
CCIC Purchase............................................... 4.15(v)
CCIC Value.................................................. 4.15(ii)
Closing..................................................... 1.3(a)
Closing Date................................................ 1.3(a)
Code........................................................ Preamble and 2.12(g)
Company Employees........................................... 4.4(a), 4.4(c)
Company..................................................... Preamble
Confidentiality Agreement................................... 4.2
Consultation Notice......................................... 4.3(n)
Disposed Businesses......................................... 2.15
Disclosure Schedule......................................... 2.2
E&Y......................................................... 4.10(a)
Election Forms.............................................. 4.3(c)
Employee Arrangement........................................ 4.4(b)
Encumbrances................................................ 1.1
Environmental Conditions.................................... 2.19(a)(v)
Environmental Laws.......................................... 2.19(a)(iv)
ERISA....................................................... 2.9(a)
ERISA Affiliate............................................. 2.9(a)
Excluded Assets............................................. Preamble
Excluded Breach............................................. 6.2(a)
Excluded Losses............................................. 5.1
FHS......................................................... Preamble
Final Allocation............................................ 4.3(b)
Financial Statements........................................ 2.6(a)
Financing Agreements........................................ 3.5
FIRMS....................................................... Preamble
GAAP........................................................ 2.6(a)
Governmental Entity......................................... 2.5
Governmental Payment........................................ 1.2
Hazardous Substance......................................... 2.19(a)(iii)
HSR Act..................................................... 2.5
Indemnifiable Loss.......................................... 5.5
</TABLE>

A-32
<PAGE> 333

<TABLE>
<CAPTION>
DEFINED IN
TERMS SECTION
----- ----------
<S> <C>
Indemnifying Party.......................................... 5.4
Indemnitee.................................................. 5.5
Indemnity Payment........................................... 5.5
Independent Actuary......................................... 4.10(a)
Insurance Subsidiaries...................................... Preamble
Intercompany Accounts....................................... 4.9
Intercompany Note........................................... Preamble
Interim Consulting Team..................................... 4.1
Interim Period.............................................. 4.3(i)
IP.......................................................... 3.5
IPB......................................................... 3.5
IP Stock Purchase Agreement................................. 3.5
Listed Items................................................ 2.6(c)
LIBOR....................................................... 7.3
Losses...................................................... 5.1
M&R Report.................................................. 3.6(a)
Material Adverse Change..................................... 7.1(e)
Material Agreement(s)....................................... 2.15
Permits..................................................... 2.11(a)
Pre-Closing Periods......................................... 4.3(i)
Proxy Statement............................................. 4.16
Purchase Price.............................................. 1.2
Purchaser................................................... Preamble
Purchaser Indemnified Parties............................... 5.1
Purchaser Disclosure Schedule............................... 3.3
Purchaser Note.............................................. 1.2
Purchaser Plans............................................. 4.4(a)
Purchaser Material Adverse Effect........................... 3.1
Quarterly Financial Statements.............................. 4.11(b)
Reinsurance Agreement....................................... Preamble
Release..................................................... 2.19(a)(ii)
Reviewco.................................................... Preamble
Section 338(h)(10) Election................................. 4.3(a)
Seller...................................................... Preamble
Seller Intellectual Property................................ 2.14
Seller Subsidiaries......................................... Preamble and 2.19(a)(i)
Seller Material Adverse Effect.............................. 2.1
Service Agreements.......................................... Preamble
Shares...................................................... Preamble
State Insurance Regulatory Approval......................... 6.1(c)
STAT Financial Statements................................... 2.6(b)
Superior 401(k) Plan........................................ 4.4(e)
Taxes....................................................... 2.12
Tax Return.................................................. 2.12
Voting Agreements........................................... Preamble
Year 2000 Matters........................................... 2.20
</TABLE>

A-33
<PAGE> 334

(LOGO)
ANNEX B
Investment Banking
Corporate and Institutional
Client Group
World Financial Center
North Tower
New York, New York 10281-1325
212 449 1000

July 17, 1998
Board of Directors
Superior National Insurance Group, Inc.
26601 Agoura Road
Calabasas, CA 91302

Members of the Board:

Superior National Insurance Group, Inc. (the "Company") and Foundation
Health Corporation ("FHC") have entered into a Purchase Agreement (the "Purchase
Agreement") pursuant to which the Company will acquire (the "Acquisition
Transaction") all the outstanding capital stock of Business Insurance Group,
Inc. (the "Acquisition Candidate"). To obtain part of the financing for the
Acquisition Transaction, the Company (i) has entered into a Stock Purchase
Agreement (the "Stock Purchase Agreement") under which it will sell shares of
its Common Stock ("Common Stock") to Insurance Partners, L.P. and affiliated
investment funds (collectively, "IP") and to warrantholders who exercise
preemptive rights to purchase shares under the terms of the Stock Purchase
Agreement, and (ii) will raise an additional amount through the offer of rights
(the "Rights Offering") to purchase shares of Common Stock to its stockholders
other than IP, warrantholders (excluding those who exercised their preemptive
rights to purchase under the terms of the Stock Purchase Agreement) and holders
of vested and unvested stock options and unvested restricted shares of Common
Stock (collectively, the "Rights Recipients"), with IP providing a backstop
commitment, subject to the limitation described in the next paragraph, to
purchase shares of Common Stock sufficient to bring the total equity proceeds to
$200 million (collectively, the "Equity Financings").

Pursuant to the Purchase Agreement, the Company will purchase all of the
outstanding capital stock of Acquisition Candidate for an amount equal to $285
million, less the cost of a loss reserve guarantee provided through a
reinsurance agreement (the "Reinsurance Agreement") referred to therein (the
"Purchase Price"). You have advised us, and we have assumed, that the cost of
the Reinsurance Agreement will be $26 million. Pursuant to the Stock Purchase
Agreement (i) the Company will sell to IP approximately 5.61 million shares of
Common Stock, at a purchase price of $16.75 per share (the "Subscription
Price"), and (ii) to the extent the Company raises in the aggregate less than
$200 million in proceeds from the sale of Common Stock pursuant to the Rights
Offering and to IP and to warrantholders pursuant to the Stock Purchase
Agreement, IP has committed to purchase a sufficient number of shares of Common
Stock up to a maximum of approximately 6.33 million shares, at the Subscription
Price, to bring the total equity proceeds to $200 million. IP and its affiliates
will agree not to acquire any additional shares of Common Stock and to certain
other restrictions.

You have asked us whether, in our opinion, the Purchase Price and the
Equity Financings, taken as a whole, are fair from a financial point of view to
the Company.

B-1
<PAGE> 335

In arriving at the opinion set forth below, we have, among other things:

1. Reviewed certain publicly available business and financial
information relating to the Company and the Acquisition Candidate that we
deemed to be relevant;

2. Reviewed certain information, including financial forecasts,
relating to the business, earnings, cash flow, assets, liabilities and
prospects of the Company and the Acquisition Candidate;

3. Conducted discussions with members of senior management of the
Company concerning the matters described in clauses 1 and 2 above, as well
as the businesses of the Company and the Acquisition Candidate and the
prospects before and after giving effect to the Acquisition Transaction;

4. Reviewed the implied valuation multiples in the Acquisition
Transaction and the market price and valuation multiples for the Common
Stock and compared them with those of certain publicly traded companies
that we deemed to be relevant;

5. Reviewed the results of operations of the Company and the
Acquisition Candidate and compared them with those of certain publicly
traded companies that we deemed to be relevant;

6. Compared the proposed financial terms of the Acquisition
Transaction with the financial terms of certain other acquisition
transactions that we deemed to be relevant;

7. Reviewed the potential pro forma impact of the Acquisition
Transaction on the Company;

8. Reviewed the Purchase Agreement, the Stock Purchase Agreement and
the form of the Reinsurance Agreement;

9. Reviewed the most current draft of the Company's proxy statement
relating to the Acquisition Transaction (the "Proxy Statement");

10. Reviewed the Registration Statements on Form S-1 relating to the
Rights Offering and the offering of the Company's senior notes;

11. Reviewed the terms of other rights offerings and other equity
financings that we deemed appropriate; and

12. Conducted such other analyses and investigations as we deemed
appropriate for purposes of this opinion.

In preparing our opinion, we have assumed and relied on the accuracy and
completeness of all information supplied or otherwise made available to us,
discussed with or reviewed by or for us, or publicly available, and we have not
assumed any responsibility for independently verifying such information or
undertaken an independent evaluation or appraisal of any of the assets or
liabilities of the Company or the Acquisition Candidate. In addition, we have
not assumed any obligation to conduct any physical inspection of the properties
or facilities of the Company or the Acquisition Candidate. Merrill Lynch is not
an expert in the evaluation of allowances for loss and loss adjustment expenses
and has not made an independent evaluation of the adequacy of the allowances for
loss and loss adjustment expenses for each of the Company or the Acquisition
Candidate, nor has Merrill Lynch reviewed any individual policies relating to
the Company or the Acquisition Candidate. With respect to the financial
forecasts furnished to or discussed with us by the Company or the Acquisition
Candidate, including, without limitation, the effects of the three-year quota
share reinsurance arrangements described in the Proxy Statement, we have assumed
that they have been reasonably prepared and reflect the best currently available
estimates and judgment of the Company's management as to the expected future
financial performance of the Company or the Acquisition Candidate, as the case
may be. As to certain legal matters, we have relied on the advice of counsel to
the Company. We were not requested to, nor did we, solicit the interest of any
other party in providing the Equity Financings. Moreover, we did not participate
in any negotiations or discussions with respect to the Acquisition Transaction
or the Equity Financings. We have been retained by the Company only for the
purpose of rendering this opinion and did not provide any other service in
connection with the Acquisition Transaction or the Equity Financings.

B-2
<PAGE> 336

Our opinion is necessarily based upon market, economic and other conditions
as they exist and can be evaluated on, and on the information made available to
us as of, the date hereof. It should be understood that, although subsequent
developments may affect this opinion, we do not have any obligation to update,
revise or reaffirm this opinion. We have assumed that in the course of obtaining
the necessary regulatory or other consents or approvals (contractual or
otherwise) for the Acquisition Transaction and the Equity Financings, no
restrictions, including any divestiture requirements or amendments or
modifications, will be imposed that will have a material adverse effect on the
contemplated benefits of the Acquisition Transaction. We have also assumed that
the rights (except for rights issued in respect of stock options and unvested
restricted shares of Common Stock) will be transferable and that the exercise
period for the rights will be at least 30 days and that, as a result, each
Rights Recipient will have a reasonable opportunity to exercise or sell such
Rights Recipient's rights.

In the ordinary course of our business, we may actively trade the Common
Stock and other securities of the Company or Foundation Health Systems, the
parent of FHC, for our own account and for the accounts of customers and,
accordingly, may at any time hold a long or short position in such securities.
In addition, an affiliate of Merrill Lynch has committed to make a limited
partnership investment in a new fund which is one of the entities constituting
IP for purposes of the Stock Purchase Agreement.

This opinion is for the use and benefit of the Board of Directors of the
Company. Our opinion does not address the merits of the underlying decision by
the Company to engage in the Acquisition Transaction or Equity Financings and
does not constitute a recommendation to any shareholder of the Company as to how
such shareholder should vote on the Equity Financings. We are expressing no
opinion with respect to the fairness of the Subscription Price or the other
terms of the Equity Financings separately or whether alternative financing on
more favorable terms than the Equity Financings might be available.

On the basis of and subject to the foregoing, we are of the opinion that,
as of the date hereof, the Purchase Price and the Equity Financings, taken as a
whole, are fair from a financial point of view to the Company.

Very truly yours,

MERRILL LYNCH, PIERCE, FENNER &
SMITH INCORPORATED

B-3
<PAGE> 337

ANNEX C

STOCK PURCHASE AGREEMENT

AMONG

SUPERIOR NATIONAL INSURANCE GROUP, INC.,

INSURANCE PARTNERS, L.P.,

INSURANCE PARTNERS
OFFSHORE (BERMUDA), L.P.

AND

CAPITAL Z PARTNERS, LTD.

DATED AS OF MAY 5, 1998
<PAGE> 338

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
ARTICLE I THE TRANSACTIONS............................................ C-1
1.1 Purchase and Sale........................................... C-1
1.2 Closing Matters............................................. C-2
1.3 The Closing................................................. C-2
1.4 Commitment Fee.............................................. C-2
1.5 Transaction Fee............................................. C-2
1.6 Additional Fee.............................................. C-2

ARTICLE II REPRESENTATIONS AND WARRANTIES OF THE PURCHASERS............ C-3
2.1 Organization................................................ C-3
2.2 Authority................................................... C-3
2.3 No Violation................................................ C-3
2.4 Brokers..................................................... C-4
2.5 Funds Available............................................. C-4
2.6 Securities Act Representation............................... C-4

ARTICLE III REPRESENTATIONS AND WARRANTIES OF THE COMPANY............... C-4
3.1 Corporate Organization...................................... C-4
3.2 Capital Stock............................................... C-4
3.3 Newly Issued Shares......................................... C-5
3.4 Authority................................................... C-5
3.5 No Violation................................................ C-5
3.6 SEC Filings................................................. C-6
3.7 Litigation.................................................. C-7
3.8 Compliance with Laws........................................ C-7
3.9 No Material Adverse Change; Ordinary Course of Business..... C-7
3.10 Private Offering............................................ C-7
3.11 Taxes....................................................... C-7
3.12 Brokers..................................................... C-8
3.13 Fairness Opinion............................................ C-8

ARTICLE IV COVENANTS AND AGREEMENTS.................................... C-8
4.1 Proxy Statement and Meeting of Company's Stockholders....... C-8
4.2 Standstill.................................................. C-8
4.3 Transfer of Shares.......................................... C-10
4.4 Rights Offering; Debt Offering.............................. C-10
4.5 Best Efforts................................................ C-11
4.6 Indemnification by the Company.............................. C-11
4.7 Indemnification by the Purchasers........................... C-12
4.8 Consents.................................................... C-12
4.9 Use of Proceeds............................................. C-12
4.10 HSR Reports................................................. C-12
4.11 Exclusivity................................................. C-12
</TABLE>

C-ii
<PAGE> 339

<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
4.12 SEC Filings................................................. C-13
4.13 Amendment of Purchase Agreement............................. C-13
4.14 Rights Offering Notice...................................... C-13

ARTICLE V CONDITIONS PRECEDENT........................................ C-13
5.1 Conditions to Each Party's Obligations...................... C-13
5.2 Conditions to the Obligations of the Company................ C-13
5.3 Conditions to the Obligations of Purchasers................. C-14
ARTICLE VI MISCELLANEOUS............................................... C-15
6.1 Termination................................................. C-15
6.2 Amendment................................................... C-15
6.3 Waiver...................................................... C-15
6.4 Survival.................................................... C-15
6.5 Notices..................................................... C-15
6.6 Headings; Agreement......................................... C-16
6.7 Publicity................................................... C-16
6.8 Entire Agreement............................................ C-16
6.9 Conveyance Taxes............................................ C-17
6.10 Assignment.................................................. C-17
6.11 Counterparts................................................ C-17
6.12 Governing Law............................................... C-17
6.13 Third Party Beneficiaries................................... C-17
6.14 Costs and Expenses.......................................... C-17

EXHIBITS
Exhibit A-1 Purchasers of the Shares of Common Stock
Exhibit A-2 Warrants
Exhibit A-3 Transaction Fee
Exhibit B Form of Warrant
Exhibit C Form of Amended and Restated Registration Rights Agreement
</TABLE>

[Exhibits B and C have been intentionally omitted for purposes of this Proxy
Statement]

C-iii
<PAGE> 340

STOCK PURCHASE AGREEMENT

STOCK PURCHASE AGREEMENT ("Agreement") dated as of May 5, 1998 by and among
Superior National Insurance Group, Inc., a Delaware corporation (the "Company"),
Insurance Partners, L.P., a Delaware limited partnership ("IP Delaware"),
Insurance Partners Offshore (Bermuda), L.P., a Bermuda limited partnership ("IP
Bermuda"), and Capital Z Partners, Ltd., a Bermuda corporation ("Cap Z", and
together with IP Delaware and IP Bermuda, the "Purchasers").

RECITALS:

WHEREAS, the Purchasers wish to purchase from the Company, and the Company
wishes to issue and sell to the Purchasers, the number of shares of common
stock, par value $.01 per share (the "Common Stock"), of the Company as is set
forth in Section 1.1 below, on the terms and subject to the conditions set forth
herein;

WHEREAS, concurrently with the execution of this Agreement, the Company and
Foundation Health Corporation, a Delaware corporation ("FHC"), are entering into
a Purchase Agreement (the "Purchase Agreement") pursuant to which the Company
will acquire certain subsidiaries of FHC;

WHEREAS, the Board of Directors of the Company (the "Board of Directors")
has approved this Agreement and the transactions contemplated hereby, upon the
terms and subject to the conditions set forth herein;

WHEREAS, in accordance with Section 4.2(b) and (c) of the Amended and
Restated Stock Purchase Agreement, dated as of September 17, 1996 as amended and
restated effective as of February 17, 1997 (the "September 1996 Stock Purchase
Agreement"), among the Company, IP Delaware, IP Bermuda and the other persons or
entities who executed the subscription agreements attached thereto, the
limitations set forth in Section 4.2(a) and (c) of the September 1996 Stock
Purchase Agreement have been waived with respect to the transactions
contemplated hereby with the approval of the Board of Directors of the Company
in accordance with Section 4.2(b) of the September 1996 Stock Purchase
Agreement; and

WHEREAS, the Board of Directors of the Company has approved the transfer or
assignment by Cap Z of (i) this Agreement and all of its rights, interests and
obligations hereunder and (ii) the Shares and the Warrants (each as defined
herein) to be issued to Cap Z hereunder (x) to a partnership of which Cap Z will
be, directly or indirectly, the general partner, (y) to or from Zurich Centre
Investments Ltd. ("ZCIL") or its affiliates in accordance with the terms of the
letter agreement, dated May 5, 1998 (the "Zurich Letter"), among the Company,
Cap Z and ZCIL or (z) in the case of the Warrants, as otherwise provided in
Section 1.4 hereof.

AGREEMENT:

NOW, THEREFORE, in consideration of the foregoing and the respective
representations, warranties, covenants, agreements and conditions contained
herein, the sufficiency of which is hereby acknowledged, and in order to set
forth the terms and conditions of the transactions described herein and the mode
of carrying the same into effect, the parties hereby agree as follows:

ARTICLE I

THE TRANSACTIONS

1.1 Purchase and Sale. Subject to the terms and conditions of this
Agreement, each of the Purchasers agrees to purchase from the Company and the
Company agrees to issue and sell to each of the Purchasers (the "Purchase") at
the Closing (as defined below) the aggregate number of shares of Common Stock
(the "Shares") equal to the sum of (a) the number of shares of Common Stock set
forth opposite such Purchaser's name on Exhibit A-1 hereto under the heading
"Shares to be Purchased" at a purchase price for each share of Common Stock of
Sixteen Dollars and Seventy-Five Cents ($16.75) (the "Share Price"), plus (b) if
all the
C-1
<PAGE> 341

shares of Common Stock offered in the Rights Offering (as defined herein) are
not subscribed for, the aggregate number of shares of Common Stock that is equal
to the product of the total number of shares of Common Stock which are not
subscribed for in the Rights Offering (which number shall be set forth in the
notice to be delivered by the Company to the Purchasers pursuant to Section 4.14
hereof) and the percentage set forth opposite such Purchaser's name on Exhibit
A-1 hereto under the heading "Percentage of Unsubscribed Shares" at a purchase
price for each share of Common Stock equal to the Share Price; provided, that in
no event shall any Purchaser be obligated to purchase in excess of the number of
shares of Common Stock set forth opposite such Purchaser's name on Exhibit A-1
hereto under the heading "Maximum Number of Shares" (the aggregate amount to be
paid by a Purchaser under this Section being the "Purchase Price" with respect
to such Purchaser).

1.2 Closing Matters. At the Closing each of the Purchasers shall wire
transfer or otherwise make available in same day funds to the Company the
Purchase Price to be paid by such Purchaser and the Company shall deliver to
such Purchaser certificates representing the Shares purchased by such Purchaser.

1.3 The Closing. Subject to the fulfillment of the conditions precedent
specified in Article V (any or all of which may be waived in writing by the
respective parties whose performance is conditioned upon satisfaction of such
conditions precedent), the purchase and sale of the Shares shall be consummated
at a closing (the "Closing") to be held at the offices of Riordan & McKinzie in
Los Angeles, California, subject to the satisfaction or waiver of all conditions
precedent specified in Article V hereof, simultaneous with the Closing (as
defined in the Purchase Agreement) under the Purchase Agreement, or at such
other place and time as the Company and the Purchasers shall mutually agree in
writing after the satisfaction or waiver of all conditions precedent specified
in Article V; provided, that the Closing Date shall not be less than 10 business
days after the date on which the Rights Offering Notice is delivered by the
Company to the Purchasers pursuant to Section 4.14 hereof; and provided,
further, that in no circumstance shall the Closing occur on or after November
30, 1998 or such later date as may be required by Section 7.1(b)(i) of the
Purchase Agreement, but in no event later than December 31, 1998 (such date and
time being herein referred to as the "Closing Date").

1.4 Commitment Fee. Whether or not the transactions contemplated hereby
are consummated, the Company shall pay a commitment fee to each Purchaser or its
designee (or, in the case of Cap Z, assignee) and ZCIL or its designee (the
"Commitment Fee") as compensation, in the case of each Purchaser, for agreeing
to purchase the Shares referred to in Section 1.1(b) hereof, and, in the case of
ZCIL, for providing the Zurich Letter in respect of the Shares referred to in
Section 1.1(b) hereof. The Commitment Fee due hereunder shall be earned and
payable as of the date of execution of this Agreement and shall be paid by
issuing to each Purchaser or its designee (or, in the case of Cap Z, assignee)
and ZCIL or its designee, except to the extent set forth in the Zurich Letter,
the number of Common Stock Purchase Warrants (the "Warrants") set forth opposite
such Purchaser's or ZCIL's name on Exhibit A-2 hereto registered in the name of
such Purchaser or ZCIL. The Warrants shall be in the form of Exhibit B hereto
and shall be issued to each Purchaser or its designee (or, in the case of Cap Z,
assignee) and ZCIL or its designee in definitive form on the earlier of the
Closing Date and the date this Agreement is terminated in accordance with its
terms. Notwithstanding the provisions of Section 6.4 hereof, this Section 1.4
shall survive the termination of this Agreement.

1.5 Transaction Fee. If the transactions contemplated hereby are
consummated, at the Closing, the Company shall pay to each Purchaser or its
designee (or, in the case of Cap Z, assignee), in immediately available funds, a
transaction fee in the amount set forth opposite such Purchaser's name on
Exhibit A-3 hereto.

1.6 Additional Fee. If FHC shall pay to the Company the breakup fee (the
"Breakup Fee") as described in Section 7.3 of the Purchase Agreement in
accordance with Section 7.3 of the Purchase Agreement, then the Company shall
pay to each Purchaser or its designee promptly following the Company's receipt
of the Breakup Fee, an amount equal to the product of (x) the Breakup Fee and
(y) a fraction, the numerator of which is equal to the sum of (i) the number of
shares of Common Stock set forth opposite such Purchaser's name on Exhibit A-1
hereto under the heading "Maximum Number of Shares" plus (ii) the

C-2
<PAGE> 342

number of shares of Common Stock issuable, as of the date the Breakup Fee is
paid to the Company, to such Purchaser upon the exercise of the number of
Warrants set forth opposite such Purchaser's name on Exhibit A-2 hereto (which,
in the case of Cap Z, shall also include the Warrants set forth opposite ZCIL's
name on such Exhibit), and the denominator of which is the number of outstanding
shares of Common Stock on a fully-diluted basis on the date the Breakup Fee is
paid to the Company, assuming the issuance to the Purchasers of the maximum
number of shares of Common Stock issuable hereunder as if the purchase by the
Purchasers contemplated hereunder shall have occurred (notwithstanding that no
such purchases shall have taken place) and the exercise, as of the date of such
payment, of all of the Warrants issuable hereunder into the aggregate number of
Shares of Common Stock issuable thereunder as of the date the Breakup Fee is
paid to the Company. Notwithstanding the provisions of Section 6.4 hereof, this
Section 1.6 shall survive the termination of this Agreement.

ARTICLE II

REPRESENTATIONS AND WARRANTIES OF THE PURCHASERS

Each of the Purchasers, severally but not jointly, represents and warrants
to the Company, solely as to such Purchaser, as to all matters relevant thereto,
as follows:

2.1 Organization. Each such Purchaser is a corporation or limited
partnership, as the case may be, duly organized, validly existing and in good
standing under the laws of its respective jurisdiction of incorporation or
formation, as the case may be.

2.2 Authority. (i) Each such Purchaser has full corporate or partnership,
as the case may be, power and authority to execute and deliver this Agreement
and each other agreement contemplated hereby to which it is a party, to carry
out its obligations hereunder and thereunder and to consummate the transactions
contemplated on its part hereby and thereby, (ii) the execution, delivery and
performance by such Purchaser of this Agreement and each other agreement
contemplated hereby to which it is a party have been duly authorized by all
necessary corporate or partnership, as the case may be, action on the part of
such Purchaser, (iii) no other action on the part of such Purchaser (or, in the
case of a Purchaser that is a limited partnership, its respective partners) is
necessary to authorize the execution and delivery of this Agreement and each
other agreement contemplated hereby by such Purchaser or the performance by such
Purchaser of its obligations hereunder and (iv) this Agreement has been duly
executed and delivered by such Purchaser and (assuming due execution and
delivery by the other parties hereto) constitutes a legal, valid and binding
agreement of such Purchaser, enforceable against it in accordance with its
terms, subject to applicable bankruptcy, insolvency, moratorium, reorganization
or similar laws affecting creditors' rights generally and subject to general
equitable principles (regardless of whether such enforceability is considered in
a proceeding in equity or at law). Each other agreement to be executed by such
Purchaser in connection with this Agreement on or prior to the Closing Date will
be duly executed and delivered by such Purchaser, and (assuming due execution
and delivery by the other party or parties thereto) will constitute a legal,
valid and binding obligation of such Purchaser, enforceable against it in
accordance with its terms, subject to applicable bankruptcy, insolvency,
moratorium, reorganization or similar laws affecting creditors' rights generally
and subject to general equitable principles (regardless of whether such
enforceability is considered in a proceeding in equity or at law).

2.3 No Violation. The execution and delivery by such Purchaser of this
Agreement and each other agreement contemplated hereby to which it is a party,
the performance by such Purchaser of its obligations hereunder and thereunder
and the consummation by it of the transactions contemplated hereby and thereby
will not (a) violate any provision of law, rule, regulation, order, writ,
judgment, injunction, decree, determination or award applicable to such
Purchaser (b) require such Purchaser to obtain the consent, waiver, approval,
license or authorization of or make any filing with any person or governmental
authority except for, (i) filings to be made in connection with or in compliance
with the provisions of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), Regulation D as promulgated under the Securities Act of 1933,
as amended (the Securities Act"), and applicable state securities laws, (ii) if
required, the filing of a pre-merger notification report under the
Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (an "HSR
Report"), and (iii) the filing of a Form A Information Statement ("Form A") by
the Purchaser with
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the insurance departments of such states as may be required in connection with
the transactions contemplated by this Agreement or the Purchase Agreement or (c)
violate, result (with or without notice or the passage of time, or both) in a
breach of or give rise to the right to accelerate, terminate or cancel any
obligation under or constitute (with or without notice or the passage of time,
or both) a default under, any of the terms or provisions of any charter or
bylaw, partnership agreement, indenture, mortgage, agreement, contract, order,
judgment, ordinance, regulation or decree to which such Purchaser is subject or
by which such Purchaser is bound, except for any of the foregoing matters which
would not have, individually or in the aggregate, a material and adverse effect
upon the operations, condition, prospects or results of operations of such party
(a "Material Adverse Effect").

2.4 Brokers. Such Purchaser has not paid or become obligated to pay any
fee or commission to any broker, finder, investment banker or other intermediary
in connection with this Agreement.

2.5 Funds Available. Such Purchaser has funds available, or commitments
from third parties to provide funds, sufficient to pay the Purchase Price to be
paid by such Purchaser, it being agreed by the Company that the Zurich Letter
constitutes such a commitment to provide funds to pay the Purchase Price to be
paid by Cap Z.

2.6 Securities Act Representation. As of the Closing hereunder, such
Purchaser will be an "accredited investor" as defined in Rule 501 promulgated as
part of Regulation D under the Securities Act. Such Purchaser is not purchasing
its respective portion of the Shares with a view to a distribution or resale of
any of such securities in violation of any applicable securities laws.

ARTICLE III

REPRESENTATIONS AND WARRANTIES OF THE COMPANY

The Company represents and warrants to the Purchasers as follows:

3.1 Corporate Organization. Each of the Company and its Subsidiaries (as
defined below) is a corporation or statutory business trust duly organized,
validly existing and in good standing under the laws of the jurisdiction of its
incorporation or formation, with all requisite corporate or trust, as the case
may be, power and authority to lease the properties it operates as lessee and to
carry on its business as it is now being conducted as described in the SEC
Filings (as defined herein), and is duly qualified or licensed to do business
and is in good standing in each jurisdiction in which it currently carries on
business, except where the failure to be so qualified or licensed or be in good
standing would not reasonably be expected, individually or in the aggregate, to
have a Material Adverse Effect on the Company. With respect to the Company, a
"Material Adverse Effect" shall refer to the Company and its Subsidiaries on a
consolidated basis. True and complete copies of the Certificate of Incorporation
and the Bylaws of the Company and respective charter documents of the
Subsidiaries, each as amended to date, have been delivered to the Purchasers.
"Subsidiaries" means, with respect to the Company, a corporation or other entity
of which 50% or more of the voting power of the outstanding voting securities or
50% or more of the outstanding equity interests is held, directly or indirectly,
by the Company.

3.2 Capital Stock. The authorized capital stock of the Company consists in
its entirety of 25,000,000 shares of Common Stock, of which, as of the date
hereof, 5,874,584 shares are issued and outstanding. All of the outstanding
shares of Common Stock have been duly and validly authorized and issued, are
fully paid and non-assessable and were issued in compliance with all applicable
federal and state securities laws. Except for warrants described in the SEC
Filings (and the preemptive rights that are contained in such warrants) and
except for options and other stock rights authorized for issuance pursuant to
the Company's stock plans and employee stock purchase plans described in the SEC
Filings and except for the Warrants to be issued hereunder and the rights to
purchase shares of Common Stock to be offered in connection with the Rights
Offering, there are no preemptive rights, options, warrants, conversion
privileges or other rights presently outstanding to purchase or otherwise
acquire any authorized but unissued shares of capital stock or other securities
of the Company or any of the Subsidiaries.

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3.3 Newly Issued Shares. The Shares to be issued and sold by the Company
to the Purchasers in accordance with the terms of this Agreement have been duly
authorized and, when issued as contemplated hereby at the Closing, will be
validly issued, fully paid and non-assessable. At the Closing, the Purchasers
will acquire good and marketable title to the Shares free and clear of any and
all liens, encumbrances, security interests, preemptive rights, adverse claims
or equities or rights in favor of another ("Encumbrances"), except such
Encumbrances as may be created pursuant to this Agreement or imposed by
applicable federal and state securities laws. Upon receipt of the Warrants
pursuant to the terms hereof, the Purchasers or their designees will acquire
good and marketable title to the Warrants and the Common Stock to be issued upon
exercise thereof, in each case free and clear of any and all Encumbrances,
except such Encumbrances as may be created pursuant to this Agreement, imposed
by applicable federal and state securities laws or, prior to the Closing, the
Certificate of Incorporation. The Common Stock to be issued upon the exercise of
the Warrants is duly authorized, has been reserved for issuance, and, when so
issued, will be fully paid and non-assessable. No other person or entity has any
preemptive right, option, warrant, subscription agreement or other right with
respect to such Shares, Warrants or Common Stock to be issued upon exercise of
the Warrants, other than the preemptive rights held by the holders of the Common
Stock Purchase Warrants issued under each of the Note Purchase Agreement, dated
as of March 31, 1992 (the "Note Purchase Agreement") and the Preferred
Securities Purchase Agreement, dated as of June 30, 1994 (the "Preferred
Securities Purchase Agreement"), which preemptive rights will, as of the Closing
Date, have been duly exercised or waived by such holders.

3.4 Authority. The Company has full corporate power and authority to
execute and deliver this Agreement and each other agreement contemplated hereby
to which it is a party, to carry out its obligations hereunder and thereunder
and to consummate the transactions contemplated on its part hereby and thereby.
The execution, delivery and performance by the Company of this Agreement and
each other agreement contemplated hereby to which it is a party and the
consummation of the transactions contemplated on its part hereby have been duly
authorized by the Board of Directors, and no other corporate proceedings on the
part of the Company, except for the stockholder approval as specified in Article
V hereof, are necessary to authorize the execution and delivery of this
Agreement and each other agreement contemplated hereby by the Company or the
performance by the Company of its obligations hereunder or thereunder. This
Agreement has been duly executed and delivered by the Company and (assuming due
execution and delivery by the other parties hereto) constitutes the legal, valid
and binding obligation of the Company, enforceable against the Company in
accordance with its terms, subject to applicable bankruptcy, insolvency,
moratorium, reorganization or similar laws affecting creditors' rights generally
and subject to general equitable principles (regardless of whether such
enforceability is considered in a proceeding in equity or at law). Each other
agreement to be executed by the Company in connection with this Agreement on or
prior to the Closing Date will be duly executed and delivered by the Company,
and (assuming due execution and delivery by the other party or parties thereto)
will constitute a legal, valid and binding obligation of the Company,
enforceable against the Company in accordance with their respective terms,
subject to applicable bankruptcy, insolvency, moratorium, reorganization, or
similar laws affecting creditors' rights generally and subject to general
equitable principles (regardless of whether such enforceability is considered in
a proceeding in equity or at law).

3.5 No Violation. The execution, delivery and performance of this
Agreement and each other agreement contemplated hereby by the Company and the
consummation by it of the transactions contemplated hereby and thereby do not
(a) violate any provision of law, rule, regulation, order, writ, judgment,
injunction, decree, determination or award (collectively, "Requirements of Law")
applicable to the Company or any of the Subsidiaries, (b) require the consent,
waiver, approval, license or authorization of or any notice or filing by the
Company or any of the Subsidiaries with any person or governmental authority
except for, (i) filings to be made in connection with or in compliance with the
provisions of the Securities Act, the Exchange Act and applicable state
securities laws, (ii) the filing of (A) HSR Reports by FHC and the Company in
connection with the transactions contemplated by the Purchase Agreement (the
"Acquisition"), (B) HSR Reports by the Purchasers, if required, in connection
with this Agreement, (C) Forms A by the Company with the insurance departments
of such states as may be required in connection with the Acquisition and (D)
Forms A by the Purchasers with the insurance departments of such states as may
be required in connection with this Agreement or (iii) any waiver required from
the holders of the 10 3/4% Trust Preferred Securities of the Company's
Subsidiary, Superior National Capital Trust I, in connection with the
transactions
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contemplated by this Agreement and the Purchase Agreement or (c) violate, result
(with or without notice or the passage of time, or both) in a breach of or give
rise to the right to accelerate, terminate or cancel any obligation under,
constitute (with or without notice or the passage of time, or both) a default
under, any of the terms or provisions of any charter or bylaw, indenture,
mortgage, agreement, contract, order, judgment, ordinance, regulation or decree
to which the Company or any of its Subsidiaries is subject or by which the
Company or any of its Subsidiaries is bound, except for any of the foregoing
matters which would not have, individually or in the aggregate, a Material
Adverse Effect on the Company. Neither the Company nor any of the Subsidiaries
previously entered into any agreement which is currently in effect, or by which
the Company or any of the Subsidiaries is currently bound, granting any rights
to any person which are inconsistent with the rights to be granted by the
Company in this Agreement and each other agreement contemplated hereby, other
than the rights granted to the holders of the Common Stock Purchase Warrants
issued pursuant to the Note Purchase Agreement and the Preferred Securities
Purchase Agreement. The execution, delivery and performance of this Agreement
and each other agreement contemplated hereby by the Company and the consummation
by it of the transactions contemplated hereby and thereby will not result in a
"change of control" or similar event occurring under any agreement, indenture,
mortgage or contract to which the Company or any of its Subsidiaries is subject
or by which the Company or any of its Subsidiaries is bound or give rise to a
payment by the Company or any of its Subsidiaries under a change of control or
similar provision in any agreement, indenture, mortgage or contract to which the
Company or any of its Subsidiaries is subject or by which the Company or any of
its Subsidiaries is bound.

3.6 SEC Filings. The Company has filed all SEC Filings required to be
filed by it since September 17, 1996 under the Securities Act or the Exchange
Act, and all amendments thereto. The Company heretofore has delivered to each
Purchaser true and complete copies of (a) its audited consolidated financial
statements of the Company and the Subsidiaries (balance sheet and statements of
operations, cash flows and stockholders' equity, together with the notes
thereto) for the fiscal years ended and as at December 31, 1996 and December 31,
1997 (as such financial statements appear in the Company's Form 10-K for each of
the fiscal years ended December 31, 1996 and December 31, 1997, which were filed
with the Commission on March 10, 1997 and March 31, 1998, respectively
(collectively, the "Financial Statements")), (b) its Quarterly Reports on Form
10-Q for the quarters ended September 30, 1996, March 31, 1997, June 30, 1997,
and September 30, 1997, (c) its Annual Report on Form 10-K for the fiscal year
ended December 31, 1997, (d) each of its Proxy Statements on Schedule 14A under
the Exchange Act, dated November 11, 1996 and March 10, 1997, respectively, and
(e) all other reports, statements, registration statements and other documents
(including Current Reports on Form 8-K) filed by it with the Securities and
Exchange Commission (the "Commission") under the Securities Act or the Exchange
Act, and all amendments and supplements thereto, since September 17, 1996 (the
foregoing subsections (a) through (e), including all exhibits and Schedules
thereto and documents incorporated by reference therein, are referred to in this
Agreement as the "SEC Filings"). As of the respective date that it was filed
with the Commission, each of the SEC Filings complied as to form and content, in
all material respects, with the requirements of the Securities Act or the
Exchange Act, as the case may be, and the rules and regulations promulgated
thereunder, and did not contain any untrue statement of a material fact or omit
to state any material fact required to be stated therein or necessary to make
the statements therein, in light of the circumstances under which they were
made, not misleading. The financial statements included in the SEC Filings were
prepared in accordance with generally accepted accounting principles,
consistently applied, and (except as may be indicated therein or in the notes
thereto) present fairly the consolidated financial position, results of
operations and cash flows of Company as of the dates and for the respective
periods indicated (subject, in the case of unaudited financial statements, to
normal recurring year-end adjustments and any other adjustments described
therein). The Company has (i) delivered to the Purchasers true and complete
copies of (x) all correspondence relating to the Company between the Commission
and the Company or its legal counsel and, to the Company's knowledge,
accountants since September 17, 1996 (other than routine filing package cover
letters) and (y) all correspondence between the Company or its counsel and the
Company's auditors since September 17, 1996, relating to any audit, financial
review or preparation of financial statements of the Company (other than
correspondence which the Company reasonably believes is subject to a privilege),
and (ii) disclosed to the Purchasers the content of all material discussions
between the Commission and the Company or its legal

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counsel and, to the Company's knowledge, accountants concerning the adequacy or
form of any SEC Filings filed with the Commission since September 17, 1996. The
Company is not aware of any issues raised by the Commission with respect to any
of the SEC Filings, other than those disclosed to the Purchasers pursuant to
this paragraph.

3.7 Litigation. Except as set forth in the SEC Filings, there are no
actions, suits, proceedings, claims, complaints, disputes or investigations
pending or, to the knowledge of the Company, threatened, at law, in equity, in
arbitration or before any governmental authority against the Company or any of
its Subsidiaries and with respect to which the Company or any of its
Subsidiaries is responsible by way of indemnity or otherwise, that would, if
adversely determined, (a) have a Material Adverse Effect on the Company or (b)
have a material adverse effect on the ability of the Company to perform its
obligations under this Agreement and each other agreement contemplated hereby to
which it is a party. No injunction, writ, temporary restraining order, decree or
order of any nature has been issued by any court or other governmental authority
against the Company or any of its Subsidiaries purporting to enjoin or restrain
the execution, delivery or performance of this Agreement or any other agreement
contemplated hereby.

3.8 Compliance with Laws.

(a) Each of the Company and the Subsidiaries is in compliance with all
Requirements of Law in all respects, except to the extent that the failure to
comply with such Requirements of Law would not have a Material Adverse Effect on
the Company.

(b)(i) Each of the Company and the Subsidiaries has all licenses, permits,
orders or approvals of any governmental authority (collectively, "Permits") that
are material to or necessary for the conduct of the business of the Company in
the manner described in the SEC Filings filed with the SEC prior to the date
hereof, except to the extent that the failure to have such Permits would not
have a Material Adverse Effect on the Company; (ii) such Permits are in full
force and effect; and (iii) no material violations are recorded in respect to
any Permit.

3.9 No Material Adverse Change; Ordinary Course of Business. Except as set
forth in the SEC Filings and except as previously disclosed to the Purchasers in
writing, since December 31, 1997, (i) there has not been any material adverse
change in operations, financial condition, prospects or results of operations of
the Company and the Subsidiaries, taken as a whole and (ii) neither the Company
nor any of the Subsidiaries has participated in any transaction or acted outside
the ordinary course of business.

3.10 Private Offering. No form of general solicitation or general
advertising was used by the Company or any of the Subsidiaries or their
respective representatives in connection with the offer or sale of the Shares or
Warrants. No registration of the Shares or Warrants, pursuant to the provisions
of the Securities Act or any state securities or "blue sky" laws, will be
required by the offer, sale or issuance of the Shares or Warrants.

3.11 Taxes. The Company and its Subsidiaries have filed or caused to be
filed, or have properly filed extensions for, all income tax returns that are
required to be filed and have paid or caused to be paid all amounts as shown on
said returns and on all assessments received by it to the extent that such taxes
have become due, except taxes the validity or amount of which is being contested
in good faith by appropriate proceedings and with respect to which adequate
reserves, in accordance with generally accepted accounting principles, have been
set aside. The Company and its Subsidiaries have paid or caused to be paid, or
have established reserves in accordance with generally accepted accounting
principles that the Company or such Subsidiaries reasonably believes to be
adequate in all material respects, for all income tax liabilities applicable to
the Company and its Subsidiaries for all fiscal years that have not been
examined and reported on by the taxing authorities (or closed by applicable
statutes). United States federal income returns of the Company and its
Subsidiaries have been examined and closed through the fiscal year ended
December 31, 1993. The Company has delivered to the Purchasers (a) true and
complete copies of any tax sharing agreements to which it or any of the
Subsidiaries is party and such agreements have not been amended in any manner
and (b) an analysis of the ownership of capital stock of the Company by "5
percent shareholders" as such term is defined in Section 382 of the Internal
Revenue Code of 1986, as amended, and the Treasury regulations promulgated
thereunder (collectively, "Section 382").

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3.12 Brokers. Except with respect to any investment banking fee due to
Donaldson, Lufkin & Jenrette Securities Corporation and any other financial
advisor of the Company with respect to the transactions contemplated hereunder,
the Company has not paid or become obligated to pay any fee or commission to any
broker, funder, investment banker or other intermediary in connection with this
Agreement.

3.13 Fairness Opinion. The Company has received the favorable opinion of a
financial advisor to the Company as to the fairness on a financial basis of the
terms of the transactions contemplated under this Agreement and the Purchase
Agreement, taken as a whole.

ARTICLE IV

COVENANTS AND AGREEMENTS

4.1 Proxy Statement and Meeting of Company's Stockholders.

(a) The Company shall call a meeting of its stockholders (the
"Stockholders' Meeting") as soon as reasonably practicable after the date of
this Agreement, for the purpose of voting upon approval of the sale of Shares
pursuant to this Agreement and, to the extent required, the transactions
contemplated by the Financing Agreements (as defined in the Purchase Agreement)
and such other related matters as it deems appropriate. In connection with the
Stockholders' Meeting, (i) the Company shall prepare and file with the
Commission a Proxy Statement and mail such Proxy Statement to its stockholders,
(ii) the Board of Directors of the Company shall recommend to its stockholders
the approval of the sale of Shares pursuant to this Agreement and (iii) the
Board of Directors and officers of the Company shall use their reasonable
efforts to obtain such stockholders' approval. Each Purchaser agrees to assist
and co-operate with the Company in the preparation of the Proxy Statement with
respect to information therein concerning any such Purchaser.

(b) The Company, on the one hand, and each Purchaser, on the other hand,
hereby represents, warrants and agrees with the other that the Proxy Statement
will not, at the time the Proxy Statement is mailed, and at the date of the
Stockholders' Meeting, contain any untrue statement of a material fact or omit
to state any material fact required to be stated therein or necessary to make
the statements therein, in light of the circumstances under which they are made,
not misleading, or to correct any statement made in any earlier communication
with respect to the solicitation of any proxy or approval of the transactions
contemplated by this Agreement in connection with which the Proxy Statement
shall be mailed, except that no representation or warranty is being made by any
party hereto with respect to information supplied in writing by any other party
hereto for inclusion in the Proxy Statement. The Company further represents,
warrants and agrees that the Proxy Statement will comply as to form in all
material respects with the provisions of the Exchange Act. The letter to
stockholders, notice of meeting, proxy statement and form of proxy, or any
information statement filed under the Exchange Act, as the case may be, that may
be provided to stockholders of the Company in connection with the transactions
contemplated by this Agreement (including any supplements), and any schedules
required to be filed with the Commission in connection therewith, as from time
to time amended or supplemented, are collectively referred to as the "Proxy
Statement."

(c) The Company shall take all actions necessary in accordance with the
Delaware General Corporation Law and the bylaws of the Company to duly call,
give notice of, convene and hold the Stockholders' Meeting within forty-five
(45) calendar days after the mailing of the Proxy Statement to approve the
matters set forth therein.

4.2 Standstill.

(a) Each Purchaser's "Associates" (which term shall be defined for this
purpose to include CentreLine Reinsurance Limited, Centre Reinsurance Limited,
International Insurance Investors, L.P. ("III") and International Insurance
Advisors, Inc. ("IIA") and any person or entity that controls, is under common
control with, or is controlled by any of the Purchasers or such persons or
entities, and all individuals who are officers, directors or control persons of
any such entities, including any of the Purchasers) that is a signatory hereto
covenants and agrees with respect to itself, and each Purchaser covenants and
agrees with respect to itself and its Associates that are not signatories
hereto, that it or they will not (i) acquire or offer or agree to

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acquire, directly or indirectly, by purchase or otherwise, any shares of Common
Stock or voting securities of the Company (or direct or indirect rights or
options to acquire any such securities); (ii) enter, agree to enter into or
propose to enter into, directly or indirectly, any merger or business
combination involving the Company; (iii) make, or in any way participate,
directly or indirectly, in any "solicitation" of "proxies" (as such terms are
used in the rules of the Commission) or consent to vote, or seek to advise or
influence any person or entity with respect to the voting of, any voting
securities of the Company; or (iv) form, join or in any way participate in a
"group" (within the meaning of Section 13d-3 of the Exchange Act) with any
persons not referenced to herein with respect to any of the foregoing; provided,
however, that nothing in this Section 4.2(a) shall restrict any Purchaser or any
of its Associates from (A) acquiring shares of Common Stock or voting securities
as a result of a stock split, stock dividend or similar recapitalization of the
Company, (B) exercising the Warrants, the warrant issued to IIA pursuant to the
Note Purchase Agreement, the warrant issued to CentreLine pursuant to the
Preferred Securities Purchase Agreement and any other warrants with respect to
any capital stock of the Company issued prior to the date hereof (or any
preemptive rights granted pursuant to any of them), (C) making, or in any way
participating, directly or indirectly, in any "solicitation" of "proxies" (as
such terms are defined in Rule 14a-1 under the Exchange Act) in connection with
the election to the Board of Directors of directors nominated by any Purchaser
or any of its Associates (to the extent not otherwise inconsistent with this
Agreement) or (D) with respect to a tender or exchange offer or a merger or
other business combination involving the Company (a "Business Combination"),
which was initiated without the encouragement by or the participation of any
Purchaser or any of its Associates, making a tender or exchange offer or a
proposal with respect to a Business Combination, or forming, joining or
participating as a "group" to make such offer or proposal, in either case upon
more favorable terms than those of the unsolicited tender or exchange offer or
Business Combination; and provided further, that nothing contained in this
Section 4.2(a) (I) shall affect or impair the right of any director of the
Company to (x) act as a member of the Board of Directors or any committee
thereof or (y) take any action necessary or advisable to carry out his
obligations and duties as a director of the Company. Notwithstanding anything to
the contrary contained in this Agreement, nothing in this Section 4.2(a) shall
prohibit or restrict any Associate who is a director of the Company from
acquiring, in one or more transactions, in his individual capacity, an aggregate
of 25,000 shares of Common Stock so long as such acquisition does not violate
any provision of the Company's charter as in effect from time to time or (II)
prohibit or restrict ordinary trading transactions on behalf of third party
clients by an Associate engaged in the investment management business.

(b) The limitations set forth in Section 4.2(a) above and Section 4.3 below
may be waived by the affirmative vote of the nearest whole number representing
66 2/3% or more of (i) the directors of the Company, excluding from the total
number of directors voting those who are Associates of any Purchaser or (ii) the
shares of the Company, not including in such total number of shares voting those
beneficially owned by any Purchaser and its Associates.

(c) In furtherance of the standstill covenants set forth in this Section
4.2, each of the Company and each of the Purchasers covenants and agrees that
any material business relationship between the Company and any Purchaser or any
Associate of any Purchaser must be approved in the manner provided in Section
4.2(b) above.

(d) Other than with respect to the election of directors of the Company,
each Purchaser covenants and agrees that, with respect to any vote of the
stockholders of the Company on a particular matter, if the aggregate number of
all shares that are voted in like manner by the Purchasers and their respective
Associates shall be greater of 35% of the total number of shares voted, then
those votes that exceed such 35% threshold shall be voted in the same proportion
as the other stockholders voted their shares with respect to such matter.

(e) Each Purchaser covenants and agrees that such Purchaser and its
Associates will not vote their shares of Common Stock, the Voting Notes issued
pursuant to the Note Purchase Agreement (the "Voting Notes") or shares of Common
Stock issued upon exercise of the Warrants or the Common Stock Purchase Warrants
issued to them under the Note Purchase Agreement or the Preferred Securities
Purchase Agreement, to elect a total of more than five (5) persons (or the
highest number that is less than a majority of the Board of Directors, as the
case may be), including the person nominated pursuant to Section 4.4 of the

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September 1996 Stock Purchase Agreement, who are Associates of any Purchaser or
its Associates to be directors of the Company.

(f) The agreements set forth in this Section 4.2 shall continue so long as
the shares of Common Stock owned by the Purchasers and their respective
Associates, directly or indirectly, represent 15% of the outstanding shares of
the Company on a fully diluted basis (including, without limitation, the Voting
Notes).

(g) Upon consummation of the Closing hereunder, this Section 4.2 shall
supersede in its entirety Section 4.2 of the September 1996 Stock Purchase
Agreement, which as of such consummation shall be of no further force and
effect.

(h) It is hereby understood and agreed by the parties hereto that
CentreLine Reinsurance Limited, Centre Reinsurance Limited, III and IIA are
executing the Acknowledgment and Agreement attached hereto only with respect to
this Section 4.2 and each such person will have no liability or obligation under
this Agreement other than with respect to this Section 4.2.

4.3 Transfer of Shares. So long as the shares of Common Stock owned by the
Purchasers and their Associates, directly or indirectly, represent 15% of the
shares of Common Stock outstanding on a fully diluted basis (including, without
limitation, the Voting Notes), the Purchasers shall not transfer, assign, sell
or otherwise dispose of (each, a "Transfer") any of its shares of Common Stock,
except for Transfers made in accordance with this Section 4.3. The Purchasers
may at any time Transfer any or all of its shares of Common Stock (i) to any
Associate of the Purchasers, if such Associate executes and delivers to the
Company, prior to any such Transfer, an instrument in form and substance
reasonably satisfactory to the Company pursuant to which such Associate agrees
to be bound by the provisions of Section 4.2 and this Section 4.3, (ii) pursuant
to Rule 144 under the Securities Act or any successor to such rule, (iii)
pursuant to a tender offer or exchange offer made by the Company or any
"Affiliate" (as such term is defined in Rule 12b-2 of the Exchange Act) of the
Company, (iv) pursuant to a tender offer or exchange offer initiated by any
person or "group" (within the meaning of Section 13d-3 of the Exchange Act)
other than the Purchasers or any Associate thereof or a Business Combination,
which is approved or recommended by the Board of Directors of the Company or
with respect to which the Board of Directors of the Company has announced its
intention to remain neutral, (v) so long as the shares of Common Stock to be
Transferred represent, in the aggregate, not greater than 10% of the outstanding
Common Stock, in a transaction or series of transactions exempt from the
registration and prospectus delivery requirements of the Securities Act, (vi) by
the Transfer of greater than 10% of the outstanding shares of Common Stock in a
transaction or series of transactions exempt from the registration and
prospectus delivery requirements of the Securities Act to (x) one purchaser, (y)
one purchaser and its Affiliates or (z) a "group" of purchasers, if such
purchaser or purchasers of Common Stock in any such transaction or series of
transactions execute and deliver to the Company prior to any such purchase or
purchases an instrument in form satisfactory to the Company pursuant to which
such purchaser or purchasers agree to be bound by the provisions of Section 4.2
hereof and this Section 4.3 (treating such purchaser or purchasers as an
"Associate" for purposes of such sections), (vii) pursuant to a registration
statement filed under the Securities Act pursuant to the Amended and Restated
Registration Rights Agreement, in the form attached hereto as Exhibit C (the
"Registration Rights Agreement"), or otherwise or (viii) pursuant to a pro rata
distribution to its partners. Upon the consummation of the Closing hereunder,
this Section 4.3 shall supersede in its entirety Section 4.3 of the September
1996 Stock Purchase Agreement, which as of such consummation shall be of no
further force and effect.

4.4 Rights Offering; Debt Offering.

(a) As soon as practicable after the date of this Agreement, the Company
shall effect (i) a "rights offering" of Common Stock to its stockholders at a
price per share of Common Stock of Sixteen Dollars and Seventy-Five Cents
($16.75) and in an aggregate amount of not less than One Hundred Six Million
Dollars ($106,000,000) (the "Rights Offering") and (ii) an offering of debt
securities of the Company in an aggregate amount of not less than One Hundred
Ten Million Dollars ($110,000,000) (or such lesser amount as may be agreed upon
between the Company and the Purchasers) (the "Debt Offering"). The Rights
Offering and the Debt Offering will each be on terms reasonably acceptable to
the Purchasers.

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(b) The Company will prepare and file with Commission registration
statements with respect to the Rights Offering and the Debt Offering. The
Company hereby represents, warrants and agrees with the Purchasers that the
Registration Statements will not, at the time any preliminary prospectus,
prospectus or prospectus supplement included in such Registration Statements are
mailed, contain any untrue statement of a material fact or omit to state any
material fact required to be stated therein or necessary to make the statements
therein, in light of the circumstances under which they are made, not
misleading. The Company further represents, warrants and agrees that the
Registration Statements will comply as to form in all material respects with the
provisions of the Securities Act. Any registration statement, including, without
limitation, any preliminary prospectus, prospectus or prospectus supplement
included therein, filed under the Securities Act, as the case may be, in
connection with the Rights Offering or the Debt Offering, and any schedules
required to be filed with the Commission in connection therewith, as from time
to time amended or supplemented, are collectively referred to as the
"Registration Statements."

(c) The Company acknowledges that it has been advised that IP Delaware and
IP Bermuda will not be offered any rights to subscribe for, and will not
purchase any, shares of Common Stock in the Rights Offering.

4.5 Best Efforts. Upon the terms and subject to the conditions herein
provided, each of the Purchasers and the Company agrees to use its reasonable
best efforts to take, or cause to be taken, all action, and to do, or cause to
be done, all things necessary, proper or advisable to consummate the
transactions contemplated by this Agreement and each other agreement
contemplated hereby including (a) to lift or rescind any injunction or
restraining order or other order adversely affecting the ability of the parties
to consummate the transactions contemplated hereby and (b) to fulfill all
conditions on its part to be fulfilled under this Agreement and each other
agreement contemplated hereby. In case at any time after the Closing Date any
further action is reasonably necessary or desirable to carry out the purposes of
this Agreement and each other agreement contemplated hereby, the proper
partners, officers or directors of all parties to this Agreement shall take all
such reasonably necessary action. No party hereto will take any action for the
purpose of delaying, impairing or impeding the receipt of any required consent,
authorization, order or approval or the making of any required filing. Each
party hereto shall give prompt notice to all other parties of (i) the
occurrence, or failure to occur, of any event which occurrence or failure would
be likely to cause any representation or warranty of such party contained in
this Agreement, as the case may be, to be untrue or inaccurate in any material
respect any time from the date hereof to the Closing Date and (ii) any material
failure of such party, as the case may be, to comply with or satisfy any
covenant, condition or agreement to be complied with or satisfied by it
hereunder, and such party shall use all reasonable efforts to remedy such
failure.

4.6 Indemnification by the Company.

(a) The Company agrees to indemnify each of the Purchasers, and each of the
Purchaser's respective partners, members, employees, agents and representatives,
against and hold the Purchasers, and each of the Purchaser's respective
partners, members, employees, agents and representatives, harmless from all
claims, obligations, costs and expenses (including, without limitation,
reasonable attorneys' fees and expenses incurred by the Purchasers in any action
between the Purchasers and the Company or between the Purchasers and any third
party or otherwise) and liabilities of and damages to the Purchasers arising out
of the material breach of any representation, warranty, covenant or agreement of
the Company in this Agreement.

(b) The Purchasers agree to give the Company prompt written notice of any
claim, assertion, event or proceeding by or in respect of a third party of which
they have knowledge concerning any liability or damage as to which they may
request indemnification hereunder. The Company shall have the right to direct,
through counsel of its own choosing, the defense or settlement of any such
claim, assertion, event or proceeding (provided that the Company shall have
acknowledged its indemnification obligations hereunder specifically in respect
of such claim, assertion, event or proceeding) at its own expense, which counsel
shall be reasonably satisfactory to the Purchasers. If the Company elects to
assume the defense of any such claim, assertion, event or proceeding, the
Purchasers may participate in such defense, but in such case the expenses of the
Purchasers incurred in connection with such participation shall be paid by the
Purchasers. The Purchasers shall cooperate with the Company in the defense or
settlement of any such claim, assertion, event or proceeding. If the Company
elects to direct the defense of any such claim or proceeding, the Purchasers
shall not pay, or permit

C-11
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to be paid, any part of any claim or demand arising from such asserted
liability, unless the Company consents in writing to such payment or unless the
Company withdraws from the defense of such asserted liability, or unless a final
judgment from which no appeal may be taken by or on behalf of the Company is
entered against the Purchasers for such liability. If the Company shall fail to
defend, or if, after commencing or undertaking any such defense, the Company
fails to prosecute or withdraws from such defense, the Purchasers shall have the
right to undertake the defense or settlement thereof at the Company's expense.

4.7 Indemnification by the Purchasers.

(a) Each of the Purchasers, severally and not jointly, agrees to indemnify
the Company, and each of the Company's officers, directors, employees, agents
and representatives, against and hold the Company, and each of the Company's
officers, directors, employees, agents and representatives, harmless from all
claims, obligations, costs and expenses (including, without limitation,
reasonable attorneys' fees and expenses incurred by the Company in any action
between the Company and such Purchaser or between the Company and any third
party or otherwise) and liabilities of and damages to the Company arising out of
the material breach of any representation, warranty, covenant or agreement of
such Purchaser in this Agreement.

(b) The Company agrees to give the Purchasers prompt written notice of any
claim, assertion, event or proceeding by or in respect of a third party of which
it has knowledge concerning any liability or damage as to which it may request
indemnification hereunder. The indemnifying Purchasers shall have the right to
direct, through counsel of their own choosing, the defense or settlement of any
such claim, assertion, event or proceeding (provided that such Purchasers shall
have first acknowledged their indemnification obligations hereunder specifically
in respect of such claim, assertion, event or proceeding) at their own expense,
which counsel shall be reasonably satisfactory to the Company. If the
indemnifying Purchasers elect to assume the defense of any such claim,
assertion, event or proceeding, the Company may participate in such defense, but
in such case the expenses of the Company incurred in connection with such
participation shall be paid by the Company. The Company shall cooperate with the
indemnifying Purchasers in the defense or settlement of any such claim,
assertion, event or proceeding. If the indemnifying Purchasers elect to direct
the defense of any such claim, assertion, event or proceeding, the Company shall
not pay, or permit to be paid, any part of any claim or demand arising from such
asserted liability, unless such Purchasers consent in writing to such payment or
unless such Purchasers withdraw from the defense of such asserted liability, or
unless a final judgment from which no appeal may be taken by or on behalf of
such Purchasers is entered against the Company for such liability. If the
indemnifying Purchasers shall fail to defend, or if, after commencing or
undertaking any such defense, such Purchasers fail to prosecute or withdraw from
such defense, the Company shall have the right to undertake the defense or
settlement thereof at such Purchaser's expense.

4.8 Consents. The Company and each of the Purchasers will use its
reasonable best efforts to obtain all necessary waivers, consents and approvals
of all third parties and governmental authorities necessary to the consummation
of the transactions contemplated by this Agreement and each agreement
contemplated hereby, including, but not limited to, those required in connection
with the filing of any required HSR Reports and Forms A and any filings to be
made in connection with or in compliance with the provisions of each of the
Securities Act, the Exchange Act and any applicable state securities laws.

4.9 Use of Proceeds. The Company covenants and agrees that it will use the
proceeds from the sale of the Shares hereunder to consummate the transactions
contemplated by the Purchase Agreement.

4.10 HSR Reports. If the Purchasers are required to file an HSR Report in
connection with the Purchase by the Purchasers pursuant to the terms of this
Agreement, then the Purchasers shall so notify the Company in writing and,
within fifteen (15) business days from the receipt by the Company of such
notice, each of the Purchasers and the Company shall file with the Federal Trade
Commission and the Antitrust Division of the Department of Justice, an HSR
Report and any supplemental information which may be requested in connection
with such HSR Reports. The Purchasers and the Company shall cooperate fully in
the preparation of such filings.

4.11 Exclusivity. The Company hereby agrees that prior to the Closing
Date, the Company shall not, directly or indirectly, solicit, entertain or
accept offers from persons (other than the Purchasers) for the

C-12
<PAGE> 352

investment contemplated by this Agreement. The Company further agrees that,
other than the Rights Offering and the Debt Offering, it will not utilize any
funds or sources of financing to finance the transactions contemplated by the
Purchase Agreement without first consummating the Purchase.

4.12 SEC Filings. From and after the date hereof to the Closing the
Company shall make all SEC Filings required to be filed under the Securities Act
or the Exchange Act, and all amendments thereto, and the Company shall deliver
to the Purchasers a copy of each such SEC Filing.

4.13 Amendment of Purchase Agreement. The Company shall not amend the
Purchase Agreement without the prior written consent of the Purchasers (which
shall not be unreasonably withheld).

4.14 Rights Offering Notice. On the next business day following the
expiration of the subscription period of the Rights Offering, the Company shall
deliver to the Purchasers a notice (the "Rights Offering Notice") which sets
forth the number of shares of Common Stock which have been subscribed for in the
Rights Offering.

ARTICLE V

CONDITIONS PRECEDENT

5.1 Conditions to Each Party's Obligations. The respective obligations of
each party to effect the transactions contemplated by this Agreement shall be
subject to the fulfillment or waiver by the Purchasers and the Company on or
prior to the Closing Date of the following conditions:

(a) No United States or state authority or other agency or commission
or United States or state court of competent jurisdiction shall have
enacted, issued, promulgated, enforced or entered any statute, rule,
regulation, injunction or other order (whether temporary, preliminary, or
permanent) which is in effect and has the effect of prohibiting
consummation of the transactions contemplated by this Agreement or
restricting the operation of the business of the Company and the
Subsidiaries as conducted on the date hereof in a manner that would have a
Material Adverse Effect on the Company.

(b) Any waiting period applicable to the transactions contemplated by
this Agreement and each agreement contemplated hereby, including, without
limitation, those applicable to any HSR Report or Form A or any filing in
connection with or in compliance with the provisions of each of the
Securities Act, the Exchange Act and any applicable state securities laws
shall have expired or been terminated.

(c) The Closing provided for in Section 1.3 hereof shall occur
simultaneously with the closing of the transactions contemplated by the
Purchase Agreement.

5.2 Conditions to the Obligations of the Company. The obligation of the
Company to effect the transactions contemplated by this Agreement shall be
subject to the fulfillment or waiver by the Company on or prior to the Closing
Date of the following additional conditions:

(a) Purchasers shall have performed in all material respects their
obligations under this Agreement required to be performed by them on or
prior to the Closing Date pursuant to the terms hereof.

(b) The representations and warranties of the Purchasers contained in
this Agreement shall be true and correct in all material respects at and as
of the Closing Date as if made at and as of such date, except to the extent
that any such representation or warranty is made as of a specified date in
which case such representation or warranty shall have been true and correct
as of such date. The Purchasers shall have delivered a certificate to the
effect set forth in Sections 5.2(a) and (b).

(c) The Company shall have received fully executed copies of the
Purchase Agreement, the Registration Rights Agreement and any and all other
agreements, documents, certificates or instruments contemplated by this
Agreement and any of the foregoing.

(d) All of the conditions to Closing set forth in Article 6 of the
Purchase Agreement shall have been satisfied or waived.

C-13
<PAGE> 353

(e) The stockholders of the Company (including, without limitation,
the holders of the Voting Notes) shall have duly approved at the
Stockholders' Meeting the issuance of the Shares pursuant to this Agreement
and, to the extent required, the transactions contemplated by the Financing
Agreements.

(f) The Company shall have received, in a form reasonably satisfactory
to the Company, the favorable opinion of its financial advisor in
connection with the transactions contemplated hereunder and under the
Purchase Agreement, as of the date of the mailing of the Proxy Statement,
as to the fairness on a financial basis of the terms of the Purchase and
the transactions contemplated by this Agreement.

(g) All necessary waivers or consents to, approvals of and notices or
filings with respect to the transactions contemplated by this Agreement and
each agreement contemplated hereby shall have been obtained or made.

5.3 Conditions to the Obligations of Purchasers. The obligations of the
Purchasers to effect the transactions contemplated by this Agreement shall be
subject to the fulfillment or waiver by the Purchasers on or prior to the
Closing Date of the following additional conditions:

(a) The Company shall have performed in all material respects its
obligations under this Agreement required to be performed by it on or prior
to the Closing Date pursuant to the terms hereof.

(b) The representations and warranties of the Company set forth in
Sections 3.1, 3.2, 3.3, 3.4, 3.5, 3.10, 3.12 and 3.13 of this Agreement
shall be true and correct in all material respects at and as of the Closing
Date as if made at and as of such date, except to the extent that any such
representation or warranty is made as of a specified date in which case
such representation or warranty shall have been true and correct as of such
date. The Company shall have delivered to the Purchasers a certificate to
the effect set forth in Sections 5.3(a) and (b).

(c) The Company shall have delivered (i) to each of the Purchasers
stock certificates in definitive form representing the number of Shares to
be purchased by such Purchaser pursuant to Section 1.1, registered in the
name of such Purchaser and (ii) to each of the Purchasers or its designee
(or, in the case of Cap Z, assignee) and ZCIL or its designee, except to
the extent set forth in the Zurich Letter, Warrants in definitive form
representing the number of Warrants set forth opposite such Purchaser's or
ZCIL's name on Exhibit A-2 hereto, registered in the name of each such
Purchaser or its designee (or, in the Case of Cap Z, assignee) or ZCIL or
its designee.

(d) The stockholders of the Company (including, without limitation,
the holders of the Voting Notes) shall have duly approved at the
Stockholders' Meeting the issuance of the Shares pursuant to this Agreement
and, to the extent required, the transactions contemplated by the Financing
Agreements.

(e) The Purchasers shall have received fully executed copies of the
Purchase Agreement, the Registration Rights Agreement and any and all other
agreements, documents, certificates or instruments contemplated by this
Agreement and any of the foregoing.

(f) All necessary waivers or consents to, approvals of and notices or
filings with respect to the transactions contemplated by this Agreement and
each other agreement contemplated hereby and thereby shall have been
obtained.

(g) The Debt Offering and Rights Offering shall have been consummated
simultaneously with the Closing of this Agreement and the Purchase
Agreement on terms and conditions reasonably satisfactory to the
Purchasers, and in no event shall the notes issued in connection with the
Debt Offering have an interest rate in excess of 12% per annum.

(h) The Purchase Agreement shall not have been materially amended or
modified, nor any material provision thereof waived by the Company, except
upon the consent of the Purchasers in their sole discretion (such consent
not to be unreasonably withheld).

C-14
<PAGE> 354

ARTICLE VI

MISCELLANEOUS

6.1 Termination. This Agreement (including, without limitation, Sections
4.2 and 4.3 hereof) shall terminate and the transactions contemplated hereby may
be abandoned (i) at any time simultaneous with or following the termination of
the Purchase Agreement, (ii) by the Company, on the one hand, or the Purchasers,
on the other hand, upon notice to the other, two (2) days after the failure by
the stockholders of the Company to approve at the Stockholders' Meeting the
issuance of the Shares pursuant to this Agreement and, to the extent required,
the transactions contemplated by the Financing Agreements in accordance with
Section 5.2(e) and 5.3(d) hereof or (iii) on the next date following the date
which is the last date on which, pursuant to Section 1.3 hereof, the Closing
hereunder can occur by written notice of the Company to the other parties or any
Purchaser to the other parties. This Agreement shall terminate at such time as,
by their terms, all of the obligations under Sections 4.2 and 4.3 hereof are no
longer in effect.

6.2 Amendment. This Agreement may be amended by the parties hereto. This
Agreement may be amended by an instrument in writing without each party's
written agreement, but no such amendment shall be enforceable against any party
which has not signed such amendment.

6.3 Waiver. At any time prior to the Closing Date, the Company or the
Purchasers may (a) extend the time for the performance of any of the obligations
or other acts of the other parties, (b) waive any inaccuracies in the
representations and warranties contained herein or in any document delivered
pursuant hereto, and (c) waive compliance with any of the agreements or
conditions herein, provided that any such waiver of or failure to insist on
strict compliance with any such representation, warranty, agreement or condition
shall not operate as a waiver of, or estoppel with respect to, any subsequent or
other failure. Any agreement on the part of the Company or the Purchasers to any
such extension or waiver shall be valid only if set forth in an instrument in
writing signed on behalf of such party.

6.4 Survival. The representations, warranties, covenants and agreements
set forth in Sections 1.4, 1.5 and 1.6 and Articles II, III and IV shall survive
the Closing.

6.5 Notices. All notices and other communications given or made pursuant
hereto shall be in writing and shall be deemed to have been given or made if in
writing and delivered personally, sent by commercial carrier or registered or
certified mail (postage prepaid, return receipt requested) or transmuted by
facsimile with automated receipt confirmation to the parties at the following
addresses and numbers:

If to the Company, to:

Superior National Insurance Group, Inc.
26601 Agoura Road
Calabasas, California 91302
Fax: (818) 880-8615
Attention: J. Chris Seaman

with copies to:

Riordan & McKinzie
5473 Corsa Avenue, Suite #116
Westlake Village, California 91362
Fax: (818) 706-2956
Attention: Dana M. Warren, Esq.

C-15
<PAGE> 355

If to the Purchasers, to:

Insurance Partners, L.P.
201 Main Street, Suite 2600
Fort Worth, TX 76102
Fax: (817) 338-2047
Attention: Mr. Charles Irwin

and

Insurance Partners Offshore (Bermuda), L.P.
Cedar House
41 Cedar Avenue
P.O. Box HM 1179
Hamilton, HM-EX, Bermuda
Fax: (809) 292-7768
Attention: Kenneth E.T. Robinson, Esq.

and

Capital Z Partners, Ltd.
One Chase Manhattan Plaza
44th Floor
New York, NY 10005
Fax: (212) 898-8720
Attention: Bradley E. Cooper

with copies to:

Paul, Weiss, Rifkind, Wharton & Garrison
1285 Avenue of the Americas
New York, NY 10019-6064
Fax: (212) 757-3990
Attention: Marilyn Sobel, Esq.

and

Insurance Partners Advisors, L.P.
One Chase Manhattan Plaza
44th Floor
New York, NY 10005
Fax: (212) 898-8720
Attention: Steven B. Gruber

6.6 Headings; Agreement. The headings contained in this Agreement are
inserted for convenience only and do not constitute a part of this Agreement.
The term "Agreement" for purposes of representations and warranties hereunder
shall be deemed to include the Exhibits hereto to be executed and delivered by
parties relevant thereto.

6.7 Publicity. So long as this Agreement is in effect, except as required
by law, regulation or stock exchange requirements, the parties hereto shall not,
and shall cause their affiliates not to, issue or cause the publication of any
press release or other announcement with respect to the transactions
contemplated by this Agreement or the other agreements contemplated hereby
without the consent of the other parties, which consent shall not be
unreasonably withheld or delayed or without consulting with the other parties as
to the content of such press release or other announcement.

6.8 Entire Agreement. This Agreement (including all Exhibits hereto)
constitutes the entire agreement among the parties and supersedes all other
prior agreements and understandings, both written and oral, among the parties,
or any of them, with respect to the subject matter hereof.
C-16
<PAGE> 356

6.9 Conveyance Taxes. The Company agrees to assume liability for and to
hold the Purchasers harmless against any sales, use, transfer, stamp, stock
transfer, real property transfer or gains, and value added taxes, any transfer,
registration, recording or other fees, and any similar taxes incurred as a
result of the issuance and sale of the Shares or Warrants as contemplated
hereby.

6.10 Assignment. This Agreement and all of the provisions hereof shall be
binding upon and inure to the benefit of the parties hereto and their respective
successors and permitted assigns. Cap Z may transfer or assign this Agreement
and all of its rights, interests and obligations hereunder (i) to ZCIL or its
affiliates pursuant to the Zurich Letter or (ii) to one or more of the following
entities: any partnership of which Cap Z is, directly or indirectly, the general
partner, any limited liability company of which Cap Z is, directly or
indirectly, the managing member or any Associate of Cap Z, and upon any such
transfer or assignment Cap Z shall have no further obligations hereunder except
under Section 4.2(a) hereof, in which event such assignee shall be a "Purchaser"
for all purposes under this Agreement. If Cap Z shall assign its rights,
interests and obligations hereunder to ZCIL, ZCIL may assign its rights,
interests and obligations hereunder to Cap Z or a partnership of which Cap Z is,
directly or indirectly, the general partner, any limited liability company of
which Cap Z is, directly or indirectly, the managing member or any Associate of
Cap Z, all in accordance with the terms of the Zurich Letter, and upon any such
transfer or assignment ZCIL shall have no further rights or obligations
hereunder to the extent its rights, interests and obligations have been so
transferred or assigned. Except as otherwise provided in the Exhibits to this
Agreement or the other agreements contemplated hereby, neither this Agreement
nor any of the rights, interests or obligations shall be assigned by any of the
parties hereto without the prior written consent of the other parties.

6.11 Counterparts. This Agreement may be executed in one or more
counterparts, all of which shall be considered one and the same agreement and
each of which shall be deemed an original.

6.12 Governing Law. The validity and interpretation of this Agreement
shall be governed by the laws of the State of Delaware, without reference to the
conflict of laws principles thereof.

6.13 Third Party Beneficiaries. This Agreement is not intended to confer
upon any other person any rights or remedies hereunder.

6.14 Costs and Expenses. The Company will pay all costs and expenses
incurred by any of the Purchasers in connection with the transactions
contemplated hereby, including without limitation, the reasonable legal fees and
expenses of Paul, Weiss, Rifkind, Wharton & Garrison and any filing fees paid in
connection with the filing of HSR Reports by the Purchasers, whether or not the
transactions contemplated hereby are consummated.

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<PAGE> 357

IN WITNESS WHEREOF, each of the Purchasers and the Company has caused this
Agreement to be duly signed as of the date first written above.

SUPERIOR NATIONAL INSURANCE GROUP, INC.,
a Delaware corporation

By: /s/ J. CHRIS SEAMAN
---------------------------------------
Name: J. Chris Seaman
Title: Chief Financial Officer

INSURANCE PARTNERS, L.P.,
a Delaware limited partnership

By: Insurance GenPar, L.P.
--------------------------------------
Its: General Partner

By: Insurance GenPar MGP, L.P.
--------------------------------------
Its: General Partner

By: Insurance GenPar MGP, Inc.
--------------------------------------
Its: General Partner

By: /s/ DANIEL L. DOCTOROFF
------------------------------------
Name: Daniel L. Doctoroff
Title: Vice President

INSURANCE PARTNERS OFFSHORE
(BERMUDA), L.P.
a Bermuda limited partnership

By: Insurance GenPar (Bermuda) L.P.
--------------------------------------
Its: General Partner

By: Insurance GenPar (Bermuda) MGP, L.P.

--------------------------------------
Its: General Partner

By: Insurance GenPar (Bermuda), Ltd.
---------------------------------------
Its: General Partner

By: /s/ DANIEL L. DOCTOROFF

-------------------------------------
Name: Daniel L. Doctoroff
Title: Vice President

CAPITAL Z PARTNERS, LTD.

By: /s/ BRADLEY E. COOPER
---------------------------------------
Name: Bradley E. Cooper
Title: Vice President

[Acknowledgment and Agreement on Following
Page]
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<PAGE> 358

ACKNOWLEDGMENT AND AGREEMENT

Each of the undersigned acknowledges that this Agreement affects its rights
and by its signature below, the undersigned covenants and agrees that it and its
officers, directors and managing partners (and the officers, directors and
control persons of such managing partners) shall be bound by the terms of this
Agreement to the extent such terms apply to them.

CENTRELINE REINSURANCE LIMITED,
a Bermuda corporation

By: /s/ TARA LEONARD
---------------------------------------
Name: Tara Leonard
Title: Senior Vice President

CENTRE REINSURANCE LIMITED,
a Bermuda corporation

By: /s/ TARA LEONARD
---------------------------------------
Name: Tara Leonard
Title: Senior Vice President

INTERNATIONAL INSURANCE INVESTORS, L.P.,
a Bermuda limited partnership

By: International Insurance Investors
(Bermuda) Limited, a Bermuda
corporation
---------------------------------------

Its: General Partner

By: /s/ BRADLEY E. COOPER
---------------------------------------
Name: Bradley E. Cooper
Title: Director

INTERNATIONAL INSURANCE ADVISORS, INC.,
a Delaware corporation

By: /s/ ROBERT A. SPASS
---------------------------------------
Name: Robert A. Spass
Title: President

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<PAGE> 359

EXHIBIT A-1

PURCHASERS OF THE SHARES OF COMMON STOCK

<TABLE>
<CAPTION>
PERCENTAGE OF MAXIMUM
SHARES TO BE UNSUBSCRIBED NUMBER OF
PURCHASER PURCHASED SHARES SHARES
--------- ------------ ------------- ---------
<S> <C> <C> <C>
IP Delaware................................................. 1,756,627 31.3016% 3,737,504
IP Bermuda.................................................. 712,627 12.6984% 1,516,227
Cap Z....................................................... 3,142,686 56% 6,686,567
</TABLE>

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<PAGE> 360

EXHIBIT A-2

WARRANTS

<TABLE>
<CAPTION>
PURCHASER NUMBER OF WARRANTS
--------- ------------------
<S> <C>
IP Delaware................................................. 229,754
IP Bermuda.................................................. 93,206
Cap Z....................................................... 205,520
ZCIL........................................................ 205,520
</TABLE>

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<PAGE> 361

EXHIBIT A-3

TRANSACTION FEE

<TABLE>
<CAPTION>
PURCHASER FEE AMOUNT
--------- ----------
<S> <C>
IP Delaware................................................. $1,220,762
IP Bermuda.................................................. $ 495,238
Cap Z....................................................... $2,184,000
</TABLE>

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<PAGE> 362

ANNEX D

SUPERIOR NATIONAL INSURANCE GROUP, INC.

1995 STOCK INCENTIVE PLAN
(AS PROPOSED TO BE AMENDED IN THIS PROXY STATEMENT)

SECTION 1. Description of Plan. This is the 1995 Stock Incentive Plan (the
"Plan"), of SUPERIOR NATIONAL INSURANCE GROUP, INC. (the "Company"), a
California corporation. Under this Plan, key employees of the Company or of any
present and future subsidiaries of the Company to be selected as below set
forth, may be granted options ("Options") to purchase shares of the common
voting stock, without par value, of the Company ("Common Stock") or the
opportunity to purchase shares of Common Stock that are subject to a repurchase
right of the Company ("Restricted Stock"). For purposes of this Plan, the term
"subsidiary" means any corporation 50% or more of the voting stock of which is
owned by the Company or by a subsidiary (as so defined) of the Company. It is
intended that the Options under this Plan either will qualify for treatment as
incentive stock options under Section 422 of the Internal Revenue Code of 1986,
as amended (the "Code") and be designated "Incentive Stock Options," or not
qualify for such treatment and be designated "Nonqualified Stock Options."
Incentive Stock Options may only be granted to employees.

SECTION 2. Purpose of Plan. The purpose of this Plan and of granting
options and issuing Restricted Stock to specified employees is to further the
growth, development and financial success of the Company and its subsidiaries by
providing additional incentives to certain key employees holding responsible
positions by assisting them to acquire shares of Common Stock and to benefit
directly from the Company's growth, development and financial success.

SECTION 3. Eligibility. The persons who shall be eligible to receive grants
of Options or to be issued Restricted Stock under this Plan shall be the
officers, key employees and consultants of the Company or any of its
subsidiaries. A person who holds an Option or Restricted Stock is herein
referred to as a "Participant." More than one Option or Restricted Stock grant
may be granted to any one Participant, however no Participant may be granted
Options or Restricted Stock to purchase an aggregate number of shares of Common
Stock amounting to more than 187,500 shares issued or issuable pursuant to this
Plan as Restricted Stock or upon the exercise of Options granted hereunder.
Notwithstanding the foregoing, holders of 10% or more of any class of the
Company's voting securities shall be ineligible from participation in this Plan.

For Incentive Stock Options, the aggregate fair market value (determined at
the time the Option is granted) of the Common Stock with respect to which
incentive stock options are exercisable for the first time by any Participant
during any calendar year (under all Incentive Stock Option plans of the Company
or any subsidiary which are qualified under Section 422 of the Code) shall not
exceed $100,000.

SECTION 4. Administration. The Plan shall be administered by a committee
(the "Option Committee") to be composed of at least two "non-employee" (as such
term is used in Rule 16b-3 promulgated under the Securities Exchange Act of
1934, as amended (the "Exchange Act")) members of the Board of Directors of the
Company (the "Board"). Members of the Option Committee shall be appointed, both
initially and as vacancies occur, by the Board, to serve at the pleasure of the
Board. The entire Board may serve as the Option Committee, if by the terms of
this Plan all Board members are otherwise eligible to serve on the Option
Committee. No person may serve as a member of the Option Committee if such
person (a) is currently an officer (as defined under Rule 16a-1(f) promulgated
under the Exchange Act) of the Company or a subsidiary, or otherwise employed by
the Company or a subsidiary, (b) receives compensation, either directly or
indirectly, from the Company or a subsidiary, for services rendered as a
consultant or in any other capacity other than as a director, except for an
amount that does not exceed the dollar amount for which disclosure would be
required pursuant to Item 404(a) of Regulation S-K of the Securities and
Exchange Commission ("Item 404(a)"), (c) possesses an interest in any other
transaction for which disclosure would be required pursuant to Item 404(a) and
(d) would not be "outside director" in the meaning of Section 162(11) of the
Code. The Option Committee shall meet at such times and places as it determines
and may meet through a telephone conference call. A majority of its members
shall constitute a quorum, and the decision of a majority

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of those present at any meeting at which a quorum is present shall constitute
the decision of the Option Committee. A memorandum signed by all of its members
shall constitute the decision of the Option Committee without necessity, in such
event, for holding an actual meeting. The Option Committee is authorized and
empowered to administer the Plan and, subject to the Plan, including the
provisions of Section 21, (i) to select the Participants, to specify the number
of shares of Common Stock with respect to which Options or Restricted Stock are
granted to each Participant; (ii) to specify the Option Price and the terms of
the Options, to determine, subject to the limits of Section 3 hereof, whether
Options will be Incentive Stock Options or Nonqualified Stock Options, and in
general to grant Options; (iii) to specify the number of shares of Restricted
Stock that each such Participant shall be entitled to purchase and to specify
the Purchase Price and the terms of the Restricted Stock; (iv) to determine the
dates upon which Options and the right to purchase Restricted Stock shall be
granted and the terms and conditions thereof in a manner consistent with this
Plan, which terms and conditions need not be identical as to the various Options
or grants of Restricted Stock; (v) to determine whether the grant of Options
shall call for the issuance of Restricted Stock upon the exercise of such grant;
(vi) to interpret the Plan; (vii) to prescribe, amend and rescind rules relating
to the Plan; (viii) to accelerate the time during which an Option may be
exercised, notwithstanding the provisions of the Option Agreement (as defined in
Section 12) stating the time during which it may be exercised, and to determine
whether Restricted Stock should be issued upon the exercise of such accelerated
Option; (ix) to accelerate the date by which any unexercised but vested portion
of an Option terminates, thereby requiring the Participant to exercise the
vested unexercised portion of such Option or forfeit it, but in no event shall
such date be less than two (2) weeks later than the date the Participant is
informed of such acceleration; and (x) to determine the rights and obligations
of participants under the Plan. The interpretation and construction by the
Option Committee of any provision of the Plan or of any Option granted or
Restricted Stock issued under it shall be final. No member of the Option
Committee shall be liable for any action or determination made in good faith
with respect to the Plan or any Option or right to purchase Restricted Stock
granted under it.

SECTION 5. Shares Subject to the Plan. The aggregate number of shares of
Common Stock which may be purchased pursuant to the exercise of Options (whether
Incentive Stock Options or Nonqualified Stock Options) or right to purchase
Restricted Stock granted under the Plan shall not exceed 625,000 3,000,000
shares, subject to adjustment as set forth in Section 13 hereof. Upon the
expiration or termination for any reason of an outstanding Option which shall
not have been exercised in full or upon the repurchase by the Company of shares
of Common Stock issued pursuant to rights of repurchase, any shares of Common
Stock then remaining unissued which shall have been reserved for issuance upon
such exercise of an Option or which shall have been repurchased, shall again
become available for the granting of additional Options or the issuance of
Restricted Stock under the Plan. Notwithstanding the preceding sentence, shares
subject to a terminated Option shall continue to be considered to be outstanding
for purposes of determining the maximum number of shares that may be issued to a
Participant. Similarly, the repricing of Option will be considered the grant of
a new Option for this purpose.

SECTION 6. Option Price. Except as provided in Section 14, the purchase
price per share (the "Option Price") of the shares of Common Stock underlying
each Option shall be not less than the fair market value of such shares on the
date of granting of the Option. Such fair market value shall be determined by
the Option Committee on the basis of reported closing sales price on such date
or, in the absence of reported sales price on such date, on the basis of the
average of reported closing bid and asked prices on such date. In the absence of
either reported sales price or reported bid and asked prices, the Option
Committee shall determine such market value on the basis of the best available
evidence.

SECTION 7. Exercise of Options. Subject to all other provisions of this
Plan, each Option shall be exercisable for the full number of shares of Common
Stock subject thereto, or any part thereof, in such installments and at such
intervals as the Option Committee may determine in granting such Option,
provided that (i) each Option shall become fully exercisable no later than five
(5) years from the date the Option is granted, (ii) the number of shares of
Common Stock subject to each Option shall become exercisable at the rate of at
least 20% per year each year until the Option is fully exercisable, and (iii) no
option may be exercisable subsequent to its termination date. Each Option shall
terminate and expire, and shall no longer be subject to exercise, as the Option
Committee may determine in granting such Option, but in no event later

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than ten years after the date of grant thereof. The Option shall be exercised by
the Participant by giving written notice to the Company specifying the number of
shares to be purchased and accompanied by payment of the full purchase price
therefor in cash, by check or in such other form of lawful consideration as the
Option Committee may approve from time to time, including, without limitation
and in the sole discretion of the Option Committee, the assignment and transfer
by the Participant to the Company of outstanding shares of the Company's Common
Stock theretofore held by the Participant.

SECTION 8. Restricted Stock. Under the Plan, the Option Committee shall
determine, in its discretion, the Participants who shall be offered the
opportunity to purchase shares of Restricted Stock and the respective number of
shares which may be so purchased by each such Participant. The Company shall
forthwith thereafter notify each person so designated of the number of shares
which such Participant may purchase and shall provide such other information as
it deems appropriate, and such Participant may, within 30 days of such
notification (or within such longer period as the Option Committee may in its
discretion permit), notify the Company that such Participant elects to so
purchase such Restricted Stock. In the event that the person so designated does
not elect to purchase such Restricted Stock, the Company shall not be obligated
to make any other award or payment to such person, and the Option Committee may
(but shall not be required to) permit another person to purchase the Restricted
Stock so refused. Such Restricted Stock shall be subject to a repurchase right
of the Company, such that if the purchaser of such Restricted Stock ceases to be
an employee of the Company or a subsidiary for any reason whatsoever, including
his or her death, or the purchaser of such Restricted Stock, if not an employee
of the Company, ceases to have a relationship with the Company whereby the
purchaser renders services to the Company, the Company shall have the right to
repurchase and redeem the Restricted Stock from the Participant at a purchase
price equal to the price at which such shares were originally purchased by the
Participant (and/or the amount of ordinary income, after withholding, recognized
by the Participant with respect to such shares); provided, however, that such
repurchase right of the Company shall terminate at such times, and in such
installment amounts, as may be specified by the Option Committee in any
particular instance, including the specification, at the Option Committee's
discretion, that such an issuance may be made with no repurchase right or any
other restriction whatsoever. Unless otherwise stated, the Company's right to
repurchase shall terminate as to at least ten percent (10%) of the aggregate
number of shares of Restricted Stock originally issued to the Participant on
each anniversary date of the Participant's purchase of the Restricted Stock,
commencing upon the first such anniversary date, such that such repurchase right
shall terminate completely on, at the latest, the tenth anniversary date of such
purchase. Such repurchase right of the Company must be exercised, if at all,
with respect to all shares of Restricted Stock which are subject to such
repurchase right at the time such right arises, and such right must be exercised
by the Company within 90 days of the event giving rise to such repurchase right
or of the purchase of the Restricted Stock by the Participant, whichever is
later.

SECTION 9. Purchase Price of Restricted Stock. The purchase price per share
("Purchase Price") of shares of Restricted Stock issued hereunder shall be
determined by the Option Committee in its discretion, so long as the Purchase
Price is not less than eighty-five percent (85%) of the fair market value of the
Company's Common Stock on the date of the purchase of such Restricted Stock.
Such fair market value shall be determined by the Option Committee in good
faith.

SECTION 10. Manner of Purchase of Restricted Stock. Upon the purchase of
shares of Restricted Stock, the Participant shall deliver to the Company a check
or cash in the amount of the purchase price of the Restricted Stock, or such
other lawful consideration as the Option Committee may approve.

SECTION 11. Issuance of Common Stock. The Company's obligation to issue
shares of its Common Stock upon exercise of an Option or upon the purchase of
Restricted Stock granted under the Plan is expressly conditioned upon the
completion by the Company of any registration or other qualification of such
shares under any state and/or federal law or rulings or regulations or the
making of such investment or other representations and undertakings by the
Participant (or his or her legal representative, heir or legatee, as the case
may be) in order to comply with the requirements of any exemption from any such
registration or other qualification of such shares which the Company in its sole
discretion shall deem necessary or advisable. Such required representations and
undertakings may include representations and agreements that such Participant
(or his or her legal representative, heir or legatee): (a) is purchasing such
shares for investment and not with

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any present intention of selling or otherwise disposing thereof; and (b) agrees
to have a legend placed upon the face and reverse of any certificates evidencing
such shares (or, if applicable, an appropriate data entry made in the ownership
records of the Company) setting forth (i) any representations and undertakings
which such Participant has given to the Company or a reference thereof, and (ii)
that, prior to effecting any sale or other disposition of any such shares, the
Participant must furnish to the Company an opinion of counsel, satisfactory to
the Company and its counsel, to the effect that such sale or disposition will
not violate the applicable requirements of state and federal laws and regulatory
agencies. The Company will make a reasonable good faith effort to comply with
such state and/or federal laws, rulings or regulations as may be applicable at
the time the Participant (or his or her legal representative, heir or legatee,
as the case may be) wishes to exercise an Option, provided that the Participant
(or his or her legal representative, heir or legatee) also makes a reasonable
good faith effort to comply with said laws, rulings and regulations; however,
there can be no assurance that either the Company or the Participant (or his or
her legal representative, heir or legatee), each in the respective exercise of
their reasonable good faith business judgment, will in fact comply with said
laws, rulings and regulations.

SECTION 12. Nontransferability. No Option or Restricted Stock as to which
the Company's repurchase right has not terminated, shall be assignable or
transferable, except by will or by the laws of descent and distribution or
except with respect to an Incentive Stock Option, pursuant to a qualified
domestic relations order as defined by the Code or Title I of the Employee
Retirement Income Security Act, or the rules thereunder, provided such Option or
Restricted Stock agreement explicitly so provides. During the lifetime of a
Participant, any Option granted to him or her shall be exercisable only by him
or her. After the death of a Participant, the Option granted to him or her (if
so transferable) may be exercised, prior to its termination, only by his or her
legal representative, his or her legatee or a person who acquired the right to
exercise the Option by reason of the death of the Participant.

SECTION 13. Recapitalization, Reorganization, Merger or Consolidation. If
the outstanding shares of Common Stock of the Company are increased, decreased
or exchanged for different securities through reorganization, merger,
consolidation, recapitalization, reclassification, stock split, stock dividend
or like capital adjustment, a proportionate adjustment shall be made (a) in the
aggregate number of shares of Common Stock which may be purchased pursuant to
the exercise of Options or the purchase of Restricted Stock granted under the
Plan, as provided in Section 5, (b) in the number, price, and kind of shares
subject to any outstanding Option granted under the Plan, and (c) in the number,
kind of securities subject to the Company's repurchase right and the repurchase
price therefor.

Upon the dissolution or liquidation of the Company or upon any
reorganization, merger or consolidation in which the Company does not survive or
in which the equity ownership of the Company prior to such transaction
represents less than 50% of the equity ownership of the Company subsequent to
the transaction, the Plan and each outstanding Option shall terminate, and, at
the Option Committee's discretion, the Company's repurchase right with respect
to outstanding Restricted Stock may be exercised; provided that the Company will
give written notice thereof to each Participant at least thirty (30) days prior
to the date of such dissolution, liquidation, reorganization, merger or
consolidation, and in such event (a) the Company may, but shall not be obligated
to, (i) with respect to each Participant holding an Option or Options who is not
tendered an option by the surviving corporation in accordance with all of the
terms of provision (b) immediately below, grant the right, until ten days before
the effective date of such dissolution, liquidation, reorganization, merger or
consolidation, to exercise, in whole or in part, any unexpired Option or Options
issued to him or her, without regard to the installment provisions of said
Option and of Section 7 of the Plan, and (ii) with respect to each Participant
holding Restricted Stock who is not tendered restricted stock by the surviving
corporation in accordance with all the terms of provision (b) immediately below,
terminate the Company's repurchase right without regard to the termination of
right provisions applicable to said Restricted Stock and of the terms of Section
8 of the Plan; or (b) in its sole and absolute discretion, the surviving
corporation may, but shall not be so obligated, tender to any Participant an
option or options to purchase shares of the surviving corporation, or the right
to substitute restricted stock of the surviving corporation, as applicable, and
such new option or options or restricted stock shall contain such terms and
provisions as shall be required to substantially preserve the rights and
benefits of any Option then outstanding under the Plan.

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<PAGE> 366

To the extent that the foregoing adjustments relate to stock or securities
of the Company, such adjustments shall be made by the Option Committee, whose
determination in that respect shall be final, binding and conclusive. Except as
hereinbefore expressly provided in this Section 13, (a) the Participant shall
have no rights by reason of any subdivision or consolidation of shares of stock
of any class or the payment of any stock dividend or any other increase or
decrease in the number of shares of stock of any class, and (b) the number or
price of shares of Common Stock subject to any Option and the number of shares
and price with respect to the Company's repurchase right applicable to any
Restricted Stock shall not be affected by, and no adjustment shall be made by
reason of, any dissolution, liquidation, reorganization, merger or
consolidation, or any issuance by the Company of shares of stock of any class,
or rights to purchase or subscribe for stock of any class, or securities
convertible into shares of stock of any class.

The grant of an Option or of Restricted Stock under the Plan shall not
affect in any way the right or power of the Company to make adjustments,
reclassifications or changes in its capital or business structures or to merge,
consolidate, dissolve, or liquidate or to sell or transfer all or any part of
its business or assets.

SECTION 14. Substitute Options. If the Company at any time should succeed
to the business of another corporation through a merger or consolidation, or
through the acquisition of stock or assets of such corporation, Options may be
granted under the Plan to those employees of such corporation or its
subsidiaries who, in connection with such succession, become employees of the
Company or its subsidiaries, in substitution for options to purchase stock of
such corporation held by them at the time of succession. The Option Committee
shall in its sole and absolute discretion determine the extent to which such
substitute Options shall be granted (if at all), the person or persons to
receive such substitute Options (who need not be all optionees of such
corporation), the number of Options to be received by each such person, the
Option Price of such Option (which may be determined without regard to Section
6) and the terms and conditions of such substitute options; provided, however,
that the Option Price of each such substituted Option shall be an amount such
that, in the sole and absolute judgment of the Option Committee and in
compliance with Section 424(a) of the Code in the case of an Incentive Stock
Option, the economic benefit provided by such Option is not greater than the
economic benefit represented by the option in the acquired corporation as of the
date of the Company's acquisition of such corporation. Notwithstanding anything
to the contrary herein, no option shall be granted, not any action taken,
permitted or omitted, which would cause the Plan, or any Options granted
hereunder as to which Rule 16b-3 under the Securities Exchange Act of 1934 may
apply, not to comply with such Rule.

SECTION 15. Option Agreement. Each Option granted under the Plan shall be
evidenced by a written stock option agreement executed by the Company and
accepted by the Participant, which (a) shall contain each of the provisions and
agreements herein specifically required to be contained therein, (b) shall
contain terms and conditions permitting such Option to qualify for treatment as
an incentive stock option under Section 422 of the Code if the Option is
designated an Incentive Stock Option, (c) may contain the agreement of the
Participant to resell any Common Stock issued pursuant to the exercise of
Options granted under the Plan to the Company (or its assignee) for the Option
Price (or the net recognized income with respect to such shares, if applicable)
of such Options to the extent any vesting restrictions apply to such Common
Stock, and (d) may contain such other terms and conditions as the Option
Committee deems desirable and which are not inconsistent with the Plan.

SECTION 16. Restricted Stock Purchase Agreement. All shares of Restricted
Stock sold by the Company pursuant to the Plan shall be issued and sold pursuant
to a restricted stock purchase agreement executed by the Company and accepted by
the Participant, which (a) shall contain each of the provisions and agreements
herein specifically required to be contained therein, and (b) may contain such
other terms and conditions as the Option Committee deems desirable and which are
not inconsistent with the Plan. The respective restricted stock purchase
agreements executed under the Plan need not be identical.

SECTION 17. Rights as a Shareholder. A Participant holding an Option, or a
transferee of an Option, shall have no rights as a shareholder with respect to
any shares covered by the Option until exercise thereof, except that each
Participant shall have the right to receive a copy of the Company's audited
financial statements (if available) no later than 120 days following the end of
each fiscal year of the Company. No

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<PAGE> 367

adjustment shall be made for dividends (ordinary or extraordinary, whether in
cash, securities or other property) or distributions or other rights for which
the record date is prior to the exercise date, except as expressly provided in
Section 13.

SECTION 18. Termination of Options. Each Option granted under the Plan
shall set forth a termination date thereof, which date shall be not later than
ten years from the date such Option is granted. In any event all Options shall
terminate and expire upon the first to occur of the following events:

(a) the expiration of thirty (30) days from the date of a
Participant's termination of employment (other than by reason of death),
except that if a Participant is then disabled (within the meaning of
Section 22(e)(3) of the Code), the expiration of one year from the date of
such Participant's termination of employment; or

(b) the expiration of one year from the date of the death of a
Participant if his or her death occurs while he or she is, or not later
than three months after he or she has ceased to be, employed by the Company
or any of its subsidiaries in a capacity in which he or she would be
eligible to receive grants of Options or Restricted Stock under the Plan;
or

The termination of employment of a Participant by death or otherwise shall
not accelerate or otherwise affect the number of shares with respect to which an
Option may be exercised and such Option may only be exercised with respect to
that number of shares which could have been purchased under the Option had the
Option been exercised by the Participant on the date of such termination.

SECTION 19. Withholding of Taxes. The Company may deduct and withhold from
the wages, salary, bonus and other compensation paid by the Company to the
Participant the requisite tax upon the amount of taxable income, if any,
recognized by the Participant in connection with the purchase of Restricted
Stock or the exercise in whole or in part of any Option or the sale of Common
Stock issued to the Participant upon exercise of the Option, all as may be
required from time to time under any federal or state tax laws and regulations.
This withholding of tax shall be made from the Company's concurrent or next
payment of wages, salary, bonus or other income to the Participant or by payment
to the Company by the Participant of required withholding tax, as the Option
Committee may determine; provided, however, that, in the sole discretion of the
Committee, the Participant may pay such tax by reducing the number of shares of
Common Stock upon the exercise of an Option or by surrendering shares of Common
Stock owned by the Participant (for which purpose such shares of Common Stock
shall be valued at fair market value as determined in good faith by the
Committee, which determination shall be final, conclusive and binding).

SECTION 20. Effectiveness and Termination of Plan. The Plan shall be
effective on the date on which it is adopted by the Board; provided, however,
(a) the Plan shall be approved by the shareholders of the Company within 12
months of such date of adoption by the Board, (b) no Option or right to purchase
Restricted Stock shall be granted pursuant to the Plan until the Plan has been
approved by the shareholders of the Company, and (c) no Option or right to
purchase Restricted Stock may be granted hereunder on or after that date which
is ten years from the effective date of the Plan. The Plan shall terminate when
all Options granted hereunder either have been fully exercised or have expired,
and all shares of Common Stock which may be purchased pursuant to the exercise
of such Options have been so purchased, and all rights of repurchase held by the
Company with respect to Restricted Stock shall have terminated; provided,
however, that the Board may in its absolute discretion terminate the Plan at any
time. No such termination, other than as provided for in Section 13 hereof,
shall in any way affect any Option or Restricted Stock then outstanding.

SECTION 21. Amendment of Plan. The Board may (a) make such changes in the
terms and conditions of granted Options or purchased Restricted Stock as it
deems advisable, provided each Participant adversely affected by such change
consents thereto, and (b) make such amendments to the Plan as it deems
advisable. Such amendments and changes shall include, but not be limited to,
acceleration of the time at which an Option may be exercised, but may not,
without the written consent or approval of the holders of a majority of that
voting stock of the Company which is represented and is entitled to vote at a
duly held shareholder's meeting (a) increase the maximum number of shares
subject to the Plan, except pursuant to Section 13 of the Plan or (b) change the
designation of the class of employees eligible to receive Incentive Stock
Options.

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ANNEX E

SUPERIOR NATIONAL INSURANCE GROUP, INC.
EMPLOYEE STOCK PURCHASE PLAN

ARTICLE I
PURPOSE AND EFFECTIVE DATE

The purpose of the Plan is to provide employment incentives for, and to
encourage stock ownership by, the Employees of Superior National Insurance
Group, Inc. or any Subsidiary that maintains the Plan in order to increase their
proprietary interest in the success of the Company.

The effective date of the Plan is January 1, 1999, unless the Committee (as
defined herein) determines it is practicable to establish an earlier effective
date.

ARTICLE II
DEFINITIONS

Whenever capitalized in the text of this Plan, the following terms shall
have the meanings set forth in this Article II.

2.1 "ACCOUNT" shall mean the account established pursuant to Section 3.4
to hold a Participant's contributions to the Plan.

2.2 "BOARD" shall mean the Board of Directors of Superior National
Insurance Group, Inc.

2.3 "CODE" shall mean the Internal Revenue Code of 1986.

2.4 "COMMITTEE" shall mean the Board or a committee designated by the
Board to administer the Plan. The Board may appoint and/or remove members at any
time.

2.5 "COMMON STOCK" shall mean the common stock of Superior National
Insurance Group, Inc.

2.6 "COMPANY" shall mean Superior National Insurance Group, Inc., a
Delaware corporation, as well as any Subsidiary whose employees participate in
the Plan with the consent of the Board.

2.7 "CONTINUOUS EMPLOYMENT" shall mean uninterrupted employment with the
Company. Employment shall not be considered interrupted because of:

(a) Transfers of employment between the Company and a Subsidiary (or
vice versa); or

(b) Any Leave of Absence taken in accordance with the rules of Section
2.11 of this Plan.

Except as provided in resolutions of the Board, Employees will not be given
credit for their periods of service with predecessor entities (that were
acquired by the Company).

2.8 "EMPLOYEE" shall mean any person employed by the Company. This term
does not include directors unless they are employed by the Company in a position
in addition to their duties as a director.

2.9 "EXCHANGE ACT" shall mean the Securities Exchange Act of 1934.

2.10 "FAIR MARKET VALUE" shall mean, on any given day, the closing price
for the Common Stock on that day (or, if the markets were closed on that day,
the last preceding day on which the markets were open), determined in accordance
with the following rules.

(a) If the Common Stock is admitted to trading or listed on a national
securities exchange, the closing price for any day shall be the last
reported sale price regular way, or if no such reported sale takes place on
that day, the average of the last reported bid and ask prices regular way,
in either case on the principal national securities exchange on which the
Common Stock is admitted to trading or listed.

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(b) If not listed or admitted to trading on any national securities
exchange, the last sale price on that day of the Common Stock reported on
the Nasdaq National Market or the Nasdaq SmallCap Market ("Nasdaq Stock
Market") or, if no such reported sale takes place on that day, the average
of the closing bid and ask prices on that day.

(c) If not included in the Nasdaq Stock Market, the average of the
closing bid and ask prices of the Common Stock on that day reported by the
Nasdaq bulletin board, or any comparable system on that day.

(d) If the Common Stock is not included in the Nasdaq bulletin board
or any comparable system, the closing bid and ask prices on that day as
furnished by any member of the National Association of Securities Dealers,
Inc. selected from time to time by the Company for that purpose.

2.11 "LEAVE OF ABSENCE" shall mean an unpaid leave of absence taken in
accordance with the Company's leave of absence policy. A Participant will not be
considered to have incurred a break in Continuous Employment because of a Leave
of Absence that does not exceed ninety (90) days. If the Leave of Absence
exceeds ninety (90) days, the Participant will be deemed to have incurred a
break in Continuous Employment on the ninety-first (91st) day of the Leave of
Absence, unless the Participant's rights to reemployment are guaranteed by
statute or contract.

2.12 "PARTICIPANT" shall mean an Employee who is making contributions to
the Plan.

2.13 "PLAN" shall mean the Superior National Insurance Group, Inc.
Employee Stock Purchase Plan.

2.14 "PURCHASE RIGHT" shall mean a right to purchase Common Stock granted
pursuant to the Plan.

2.15 "PURCHASE RIGHT PERIOD" shall mean each calendar quarter. Unless
otherwise determined by the Committee, the initial Purchase Right Period shall
begin on January 1, 1999 and end on March 31, 1999.

2.16 "STOCKHOLDERS" shall mean the holders of Common Stock.

2.17 "SUBSIDIARY" shall mean any corporation (other than the Company) in
an unbroken chain of corporations beginning with the Company if each of the
corporations (other than the last corporation in the unbroken chain) owns stock
possessing fifty percent (50%) or more of the total combined voting power of all
classes of stock in one of the other corporations in the chain.

ARTICLE III
ELIGIBILITY AND PARTICIPATION

3.1 ELIGIBILITY.

(a) All Employees of the Company are eligible to participate in the
Plan, provided that they (i) are regularly scheduled to work more than
twenty (20) hours per week, and (ii) have completed at least thirty (30)
days of Continuous Employment.

(b) No Employee may be granted a Purchase Right if the Employee would
immediately thereafter own, directly or indirectly, five percent (5%) or
more of the combined voting power or value of all classes of stock of the
Company or of a Subsidiary. For this purpose an Employee's ownership
interest shall be determined in accordance with the rules of Code Section
424(d), which are as follows:

(i) The Employee is treated as owning any stock owned, directly or
indirectly, by:

(A) His brothers and sisters (whether by whole or half-blood);

(B) His spouse; and

(ii) Stock owned, directly or indirectly, by a corporation,
partnership, estate, or trust is treated as owned proportionately by or
for its shareholders, partners, or beneficiaries.

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(iii) Stock that can be acquired by the exercise of an option is
treated as being owned by the Employee for purposes of determining the
number of shares owned by the Employee, but not for purposes of
determining the total number of shares outstanding. Options are taken
into account for this purpose whether or not they are currently
exercisable.

3.2 PAYROLL WITHHOLDING.

(a) Employees may enroll as Participants by executing at least fifteen
(15) days prior to the first day of a Purchase Right Period a form provided
by the Committee on which they may designate the dollar amount or
percentage of compensation to be deducted from their paychecks and
contributed to their Accounts for the purchase of Common Stock, which shall
not be less than ten dollars ($10) per payroll period.

(b) Once chosen, the rate of contributions for a Purchase Right Period
cannot be decreased or increased without terminating the Purchase Right.
However, pursuant to rules and procedures prescribed by the Committee, a
Participant may make additional contributions to make up any contributions
that he failed to make while on a Leave of Absence if the Participant
returns to active employment and contributes those amounts to the Plan
before the end of the Purchase Right Period.

3.3 LIMITATIONS.

(a) Notwithstanding anything herein to the contrary, a Participant may
not contribute more than twenty-five thousand dollars ($25,000) per
calendar year, determined in accordance with Code Section 423(b)(8). No
proration of this dollar amount is required if the Plan was not in
existence for entire calendar year.

(b) This limitation shall apply to this Plan and under all other
employee stock purchase plans described in Code Section 423 that are
maintained by the Company and its Subsidiaries.

3.4 ESTABLISHMENT OF ACCOUNTS.

(a) All amounts contributed by the Participant to the Plan will be
deposited into a separate Account maintained for the Participant.

(b) No interest will be earned on those contributions.

(c) A Participant may not withdraw any amounts from his Account
without terminating his Purchase Right pursuant to Section 4.1 of this
Plan.

3.5 SUSPENSIONS.

(a) If a Participant receives a distribution from a Section 401(k)
plan ("401(k) Plan") maintained by the Company (or any other entity
affiliated with the Company under Code Section 414) on account of a
financial hardship ("Hardship Withdrawal") and it is intended that the
Hardship Withdrawal satisfy the safe harbor contained in the Section 401(k)
regulations, the Participant shall be precluded from making any
contributions to this Plan for twelve (12) months.

(b) If a Participant terminates his Purchase Right pursuant to Section
4.1 of this Plan, the Participant shall not be eligible to participate in
the Plan for the following two (2) Purchase Right Periods.

(c) The Committee shall prescribe such rules and procedures as it
deems appropriate regarding suspensions pursuant to this Section 3.5.

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ARTICLE IV
PURCHASE RIGHTS

4.1 TERMINATION OF PURCHASE RIGHTS.

(a) A Participant may withdraw from the Plan (and thereby
automatically terminate his Purchase Right) at any time prior to the last
day of the Purchase Right Period by submitting written notice to the Human
Resources Department of the Company at least fifteen (15) days prior to the
effective date of the withdrawal.

(b) A Purchase Right shall terminate automatically if a Participant
incurs a break in Continuous Employment prior to the last day of the
Purchase Right Period.

(c) Upon the termination of a Purchase Right, all amounts held in the
Participant's Account shall be refunded to the Participant.

4.2 EXERCISE OF PURCHASE RIGHTS.

(a) Unless previously terminated, Purchase Rights will be exercised
automatically on the last day of the Purchase Right Period.

(b) Except as provided in Section 3.2(b) of this Plan, payment for
shares to be purchased at the termination of the Purchase Right Period may
only be made from funds accumulated through payroll deductions made during
the Purchase Right Period.

(c) The price to be paid for the Common Stock will be eighty-five
percent (85%) of the Fair Market Value of the Stock on the last day of the
Purchase Right Period.

(d) Stock certificates will be distributed to the Participant upon
request.

4.3 TERMINATION EVENT. The following provisions of this Section 4.3 shall
apply, notwithstanding anything herein to the contrary.

(a) A "Termination Event" shall be deemed to occur as a result of:

(i) A transaction in which the Company will cease to have Common
Stock listed on the Nasdaq Stock Market or any national securities
exchange, due to the sale of the Company or otherwise; or

(ii) A sale or other disposition of all or substantially all the
assets of the Company.

(b) All Purchase Rights shall be automatically exercised immediately
preceding the Termination Event.

(c) For purposes of Section 4.2(c) of this Plan, the consideration to
be paid for the Common Stock in connection with the Termination Event shall
be deemed its Fair Market Value on that date.

4.4 NON-TRANSFERABILITY OF PURCHASE RIGHTS.

(a) A Purchase Right may not be assigned or otherwise transferred by a
Participant.

(b) The provisions of this Section 4.4 will not be considered to be
violated simply because the certificates for Common Stock are issued in the
name of the Participant and his spouse as community property.

ARTICLE V
COMMON STOCK

5.1 SHARES SUBJECT TO PLAN.

(a) The maximum number of shares of Common Stock which may be issued
under the Plan is five hundred thousand (500,000) shares, subject to
adjustment pursuant to Section 5.2 of this Plan.

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(b) The Common Stock issuable under the Plan may be previously
unissued or be shares held by the Company as treasury stock.

5.2 ADJUSTMENT UPON CHANGES IN CAPITALIZATION. A proportionate adjustment
shall be made by the Committee in the number, price, and kind of shares subject
to outstanding Purchase Rights if the outstanding shares of Common Stock are
increased, decreased, or exchanged for different securities, through
reorganization, recapitalization, reclassification, stock split, stock dividend,
or other similar transaction not constituting a Termination Event under Section
4.3 of this Plan.

ARTICLE VI
PLAN ADMINISTRATION

6.1 ADMINISTRATION.

(a) The Plan shall be administered by the Committee, which shall have
the authority to:

(i) Interpret the Plan. The decisions of the Committee, both as to
factual matters and as to interpretations of the Plan provisions, will
be binding upon all persons, to the maximum extent permitted by law;

(ii) Prescribe rules and procedures relating to the Plan; and

(iii) Take all other actions necessary or appropriate in connection
with the administration of the Plan.

(b) A majority of the members of the Committee shall constitute a
quorum, and any action shall constitute the action of the Committee if it
is authorized by:

(i) A majority of the members present at any meeting; or

(ii) All of the members in writing without a meeting.

(d) No member of the Committee shall be liable for any action or
inaction made in good faith with respect to the Plan or any Purchase Right
granted under it.

6.2 INDEMNIFICATION.

(a) To the maximum extent permitted by law, the Company shall
indemnify each member of the Committee and every other member of the Board,
as well as any other Employee with duties under the Plan, against all
liabilities and expenses (including any amount paid in settlement or in
satisfaction of a judgment) reasonably incurred by the individual in
connection with any claims against the individual by reason of the
performance of the individual's duties under the Plan. This indemnity shall
not apply, however, if:

(i) It is determined in the action, lawsuit, or proceeding that the
individual is guilty of gross negligence or intentional misconduct in
the performance of those duties; or

(ii) The individual fails to assist the Company in defending
against any such claim.

(b) The Company shall have the right to select counsel and to control
the prosecution or defense of the suit.

(c) The Company shall not be obligated to indemnify any individual for
any amount incurred through any settlement or compromise of any action
unless the Company consents in writing to the settlement or compromise.

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ARTICLE VII
AMENDMENT AND TERMINATION

7.1 AMENDMENT AND TERMINATION. The Board may amend or terminate the Plan
at any time by means of written action, except with respect to outstanding
Purchase Rights. Notwithstanding the preceding sentence, the Board may elect to
accelerate the last day of a Purchase Right Period.

7.2 STOCKHOLDER APPROVAL.

(a) No shares of Common Stock shall be issued under the Plan unless
the Plan is approved by the Stockholders within twelve (12) months before
or after the date of the adoption of the Plan by the Board. If the Plan is
not approved by the Stockholders within that time period, the Plan and all
Purchase Rights issued under the Plan will terminate and all contributions
will be refunded to the Participants.

(b) The approval by the Stockholders must relate to:

(i) The class of Employees who may be Participants; and

(i) The maximum number of shares that can be issued under the Plan.

If either of those items are changed, the approval of the Stockholders must
again be obtained.

ARTICLE VIII
MISCELLANEOUS MATTERS

8.1 UNIFORM RIGHTS AND PRIVILEGES. The rights and privileges of all
Participants under the Plan shall be the same.

8.2 APPLICATION OF PROCEEDS. The proceeds received by the Company from the
sale of Common Stock pursuant to Purchase Rights may be used for any corporate
purpose.

8.3 NOTICE OF DISQUALIFYING DISPOSITION. A Participant must notify the
Company if the Participant disposes of stock acquired pursuant to the Plan prior
to the expiration of the holding period required to qualify for long-term
capital gains treatment on the sale proceeds.

8.4 NO ADDITIONAL RIGHTS.

(a) Neither the adoption of this Plan nor the granting of any Purchase
Right shall:

(i) Affect or restrict in any way the power of the Company to
undertake any corporate action otherwise permitted under applicable law;
or

(ii) Confer upon any Participant the right to continue to be
employed by the Company, nor shall it interfere in any way with the
right of the Company to terminate the employment of any Participant at
any time, with or without cause.

(b) No Participant shall have any rights as a Stockholder with respect
to shares covered by a Purchase Right until the last day of the Purchase
Right Period.

(c) No adjustments will be made for cash dividends or other rights for
which the record date is prior to the last day of the Purchase Right
Period.

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8.5 GOVERNING LAW.

(a) The Plan and all actions taken under it shall be governed by and
construed in accordance with the laws of the State of Delaware without
regard to its conflicts of laws provisions.

(b) The provisions of this Plan shall be interpreted in a manner that
is consistent with this Plan satisfying the requirements of Code Section
423.

To signify its adoption of the Plan, the Company has caused its execution.

Superior National Insurance Group,
Inc.,
a Delaware corporation

By:

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

Title:

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

Date:

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

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ANNEX F

CERTIFICATE OF INCORPORATION
OF
SUPERIOR NATIONAL INSURANCE GROUP, INC.
(AS PROPOSED TO BE AMENDED IN THIS PROXY STATEMENT)

I, the undersigned, for the purposes of incorporating and organizing a
corporation under the General Corporation Law of the State of Delaware, do
execute this Certificate of Incorporation and do hereby certify as follows:

FIRST. The name of the corporation is Superior National Insurance Group,
Inc. (the "Corporation").

SECOND. The address of the Corporation's registered office in the State of
Delaware is One Rodney Square, 10th Floor, Tenth and King Streets, in the City
of Wilmington, County of New Castle, 19801. The name of its registered agent at
such address is RL&F Service Corp.

THIRD. The purpose of the Corporation is to engage in any lawful act or
activity for which corporations may be organized under the General Corporation
Law of the State of Delaware.

FOURTH. The total number of shares of stock which the Corporation shall
have authority to issue is *twenty-five million (25,000,000.00)* forty million
(40,000,000). All such shares are to be common stock, par value of $.01 per
share (the "Common Stock"), and are to be of one class.

FIFTH. (a) Each holder of the Corporation's 14.5% Senior Subordinated
Voting Notes due April 1, 2002 (the "Special Voting Notes") issued pursuant to
the Note Purchase Agreement dated March 31, 1992 (the "Note Purchase Agreement")
shall be entitled to vote only for the election or removal of directors to (or
from) the board of directors of the Corporation (the "Board"), and shall have
that number of votes arrived at by the following calculations: (i) dividing the
principal amount of the Special Voting Note held by a particular holder by the
total principal amount of all outstanding Special Voting Notes; and (ii)
multiplying the result of (i) by the total number of shares of this
Corporation's Common Stock issuable upon exercise of all the warrants issued
pursuant to the Note Purchase Agreement and outstanding on the record date for
any vote of this Corporation's shareholders for the election or removal of
directors. To the extent of this limited right to vote granted to holders of the
Special Voting Notes, the holders of the Common Stock and of the Special Voting
Notes shall vote together and not as separate classes.

(b) The terms of paragraph (a) of article FIFTH may not be amended without
the approval of the holders of the Special Voting Notes then outstanding, voting
as a separate class.

(c) The Board of Directors shall consist of eleven (11) members unless
changed by an amendment to the Certificate of Incorporation. Any change in the
authorized number of directors or the provisions regarding the election of
directors shall require the affirmative vote of the majority of the outstanding
Special Voting Notes, voting as a separate class.

*SIXTH. (a) Prohibited Transfer; Excess Stock. Except as provided in
Section F, until the Restriction Termination Date, any attempted direct or
indirect Transfer of Stock shall be deemed a "Prohibited Transfer" if (i) such
Transfer would increase the Percentage of Stock Owned by any Person that (or by
any person whose Stock is or by virtue of such Transfer would be attributed to
any Person that), either after giving effect to the attribution rules (including
the option attribution rules) of Section 382 or without regard to such
attribution rules, Owns, by virtue of such Transfer would Own, or has at any
time since the period beginning three years prior to the date of such Transfer
Owned, Stock in excess of the Limit, or (ii) such Transfer would cause an
"ownership change" of the corporation within the meaning of Section 382. Except
at otherwise provided in Section E, the Stock or Option sought to be Transferred
in the Prohibited Transfer shall be deemed "Excess Stock."*

*(b) Transfer of Excess Stock to Transferee. Except as otherwise provided
in Section E, a Prohibited Transfer shall be void ab initio as to the Purported
Transferee in the Prohibited Transfer and such Purported*

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*Transferee shall not be recognized as the owner of the Excess Stock for any
purpose and shall not be entitled to any rights as a stockholder of the
corporation arising from the ownership of Excess Stock, including, but not
limited to, the right to vote such Excess Stock or to receive dividends or other
distributions in respect thereof or, in the case of Options, to receive Stock in
respect of their exercise. Any Excess Stock shall automatically be transferred
to the Trustee in trust for the benefit of the Charitable Beneficiary, effective
as of the close of business on the business day prior to the date of the
Prohibited Transfer; provided, however, that if the transfer to the trust is
deemed ineffective for any reason, such Excess Stock shall nevertheless be
deemed to have been automatically transferred to the person selected as the
Trustee at such time, and such person shall have rights consistent with those of
the Trustee as described in this section and in Section C below. Any dividend or
other distribution with respect to such Excess Stock paid prior to the discovery
by the corporation that the Excess Stock has been transferred to the Trustee
("Prohibited Distributions") shall be deemed to be held by the Purported
Transferee as agent for the Trustee, and shall be paid to the Trustee upon
demand, and any dividend or distribution declared but unpaid shall be paid when
due to the Trustee. Any vote cast by a Purported Transferee with respect to
Excess Stock prior to the discovery by the corporation that the Excess Stock has
been transferred to the Trustee will be rescinded as void and shall be recast in
accordance with the desires of the Trustee acting for the sole benefit of the
Charitable Beneficiary. The Purported Transferee and any other Person holding
certificates representing Excess Stock shall immediately surrender such
certificates to the Trustee. The Trustee shall have all the rights of the owner
of the Excess Stock, including the right to vote, to receive dividends or other
distributions, and to receive proceeds from liquidation, which rights shall be
exercised for the sole benefit of the Charitable Beneficiary.*

*(c) Disposition of Excess Stock. As soon as practicable following receipt
of notice from the corporation that Excess Stock has been transferred to the
Trustee, the Trustee shall take such actions as it deems necessary to dispose of
the Excess Stock in an arm's-length transaction that would not constitute a
Prohibited Transfer. Upon the disposition of such Excess Stock, (i) the interest
of the Charitable Beneficiary in the Excess Stock shall terminate, and (ii) the
Trustee shall distribute the net proceeds of the sale as follows: (a) the
Purported Transferee shall receive an amount of the net proceeds of such sale
not to exceed the Purported Transferee's cost incurred to acquire such Excess
Stock, or, if such Excess Stock was Transferred for less than fair market value
on the date of the Prohibited Transfer, the fair market value of the Excess
Stock on the date of the Prohibited Transfer, in each case less all costs
incurred by the corporation, the Trustee and the Transfer Agent in enforcing the
Restrictions, and (b) the Charitable Beneficiary shall receive the balance of
the net proceeds from the sale of the Excess Stock, if any, together with any
Prohibited Distributions received from the Purported Transferee and any other
distributions with respect to such Excess Stock while such Stock was held by the
Trustee. In the event the Purported Transferee has disposed of the Excess Stock
and distributed the proceeds and other amounts otherwise than in accordance with
this section, then (w) such Purported Transferee shall be deemed to have
disposed of such Excess Stock as an agent for the Trustee, (x) such Purported
Transferee shall be deemed to hold such proceeds and any Prohibited
Distributions as an agent for the Trustee, (y) such Purported Transferee shall
be required to return to the Trustee the proceeds from such sale, together with
any Prohibited Distributions theretofore received by the Purported Transferee
with respect to such Excess Stock, provided that upon receipt of written
permission from the Trustee, the Purported Transferee will be entitled to retain
an amount of such sale proceeds not to exceed the amount that such purported
Transferee would have received from the Trustee if the Trustee had obtained and
resold the Excess Stock, and (z) the Trustee shall transfer any remaining
proceeds to the Charitable Beneficiary. Neither the Trustee, the corporation,
the Purported Transferee nor any other party shall claim an income tax deduction
with respect to any transfer to the Charitable Beneficiary and neither the
Trustee nor the corporation shall benefit in any way from the enforcement of the
Restrictions, except insofar as these restrictions protect the corporation's
Income Tax Net Operating Loss Carryover. Neither the Trustee, the corporation
nor the Transfer Agent shall have any liability to any Person for any loss
arising from or related to a Prohibited Transfer.*

*(d) Transfer Agent's Rights and Responsibilities. The Transfer Agent shall
not register any Transfer of Stock on the corporation's stock transfer records
if it has knowledge that such Transfer is a Prohibited Transfer. The Transfer
Agent shall have the right, prior and as a condition to registering any Transfer
of Stock on the corporation's stock transfer records, to request any transferee
of the Stock to submit an affidavit, on a*
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<PAGE> 377

*form agreed to by the Transfer Agent and the corporation, stating the number of
shares of each class of Stock Owned by the transferee (and by Persons who would
Own the transferee's Stock) before the proposed Transfer and that would, if
effect were given to the proposed Transfer, be Owned by the transferee (and by
Persons who would Own the prospective Transferee's Stock) after the proposed
Transfer. If either (i) the Transfer Agent does not receive such affidavit, or
(ii) such affidavit evidences that the Transfer was a Prohibited Transfer, the
Transfer Agent shall notify the corporation and shall not enter the Prohibited
Transfer into the corporation's stock transfer records, and the Trustee, the
corporation and the Transfer Agent shall take such steps as provided in the
Restrictions in order to dispose of the Excess Stock purportedly Owned by such
Purported Transferee. If the Transfer Agent, for whatever reason, enters a
Prohibited Transfer in the corporation's stock transfer records, such Transfer
shall be nonetheless void AB INITIO and shall have no force and effect, in
accordance with the Restrictions, and the corporation's stock transfer records
shall be revised to so provide.*

*(e) Certain Indirect Prohibited Transfers. In the event a Transfer would
be a Prohibited Transfer as a result of attribution to the Purported Transferee
of the Ownership of Stock by a person (an "Other Person") who is not
controlling, controlled by or under common control with the Purported
Transferee, which Ownership is nevertheless attributed to the Purported
Transferee, the Restrictions shall not apply in a manner that would invalidate
any Transfer to such Other Person, and the Purported Transferee and any Persons
controlling, controlled by or under common control with the Purported Transferee
(collectively, the "Purported Transferee Group") shall automatically be deemed
to have transferred to the Trustee at the time and in a manner consistent with
Section B hereof, sufficient Stock (which Stock shall (i) consist only of Stock
held legally or beneficially, whether directly or indirectly, by any member of
the Purported Transferee Group, but not Stock held through any Other Person,
other than shares held through a Person acting as agent or fiduciary for any
member of the Purported Transferee Group, (ii) be deemed transferred to the
Trustee, in the inverse order in which it was acquired by members of the
Purported Transferee Group, and (iii) be treated as Excess Stock) to cause the
Purported Transferee, following such transfer to the Trustee, not to be in
violation of the Restrictions; provided, however, that to the extent the
foregoing provisions of this Section E would not be effective to prevent a
Prohibited Transfer, the Restrictions shall apply to such other Stock Owned by
the Purported Transferred (including Stock actually owned by Other Persons), in
a manner designed to minimize the amount of Stock subject to the Restrictions or
as otherwise determined by the Board of Directors to be necessary to prevent a
Prohibited Transfer (which Stock shall be treated as Excess Stock).*

*(f) Exceptions. The term "Prohibited Transfer" shall not include: (i) the
original issuance of Common Stock pursuant to the Stock Purchase Agreement, (ii)
any Transfer described in Section 382(1)(3)(B) of the Code (relating to
transfers upon death or divorce and certain gifts) if all Persons who would Own
the Stock Transferred would be treated for purposes of Section 382 as having
Owned such Stock at all times beginning more than three (3) years prior to the
date of the Transfer, and (iii) any Transfer with respect to which the Person
who would otherwise be the Purported Transferee obtains or is granted the prior
written approval of the Board of Directors of the corporation, which approval
shall be granted in its sole and absolute discretion after considering all facts
and circumstances, including but not limited to future events the occurrence of
which are deemed by the Board of Directors of the corporation to be reasonably
possible.*

*(g) Legend. All certificates or other instruments evidencing Ownership of
Stock shall bear a conspicuous legend describing the restrictions. The Board of
Directors shall take such actions as it deems necessary to substitute
certificates evidencing ownership of Stock and bearing such legend for
certificates not bearing such legend.*

*(h) Prompt Enforcement; Further Actions. As soon as practicable and within
thirty (30) business days of learning of a purported Prohibited Transfer, the
corporation through its Secretary or any assistant Secretary shall demand that
the Purported Transferee (or any other member of the Purported Transferee Group)
surrender to the Trustee the certificates representing the Excess Stock or any
resale proceeds therefrom, and any Prohibited Distributions or other dividends
or distributions received thereon, and if such surrender is not made within
twenty (20) business days from the date of such demand, the corporation shall
institute legal proceedings to compel such surrender and for compensatory
damages on account of any failure to take such actions; provided, however, that
nothing in this Section H shall preclude the corporation in its discretion from*
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<PAGE> 378

*immediately bringing legal proceedings without a prior demand, and also
provided that failure of the corporation to act within the time periods set out
in this section shall not constitute a waiver of any right of the corporation to
compel any transfer required hereby. Upon a determination by the Board of
Directors that there has been or is threatened a Prohibited Transfer, the Board
of Directors may authorize such additional action as its deems advisable to give
effect to the Restrictions, including, without limitation, refusing to give
effect on the books of the Company to any such purported Prohibited Transfer or
instituting proceedings to enjoin any such purported Prohibited Transfer.
Nothing contained in the Restrictions shall limit the authority of the Board of
Directors to take such other action to the extent permitted by law as it deems
necessary or advisable to protect the corporation and the interests of the
holders of its securities in preserving the Income Tax Net Operating Loss
Carryover, including, but not limited to, refusing to give effect to any
Prohibited Transfer or other action on the books of the corporation or
instituting proceedings to enjoin any Prohibited Transfer or other action;
provided, however, that any Prohibited Transfer shall nevertheless result in the
consequences otherwise described in the Restrictions.*

*(i) Board Authority to Interpret. The Board of Directors shall have the
authority to interpret the provisions of the Restrictions for the purpose of
protecting the Income Tax Net Operating Loss Carryover. Any such interpretation
shall be final and binding on any Person who Owns or purports to acquire
Ownership of Stock.*

*(j) Damages. Any person who knowingly violates the Restrictions, and any
persons controlling, controlled by or under common control with such a person,
shall be jointly and several liable to the corporation for, and shall indemnify
and hold the corporation harmless against, any and all damages suffered as a
result of such violation, including but not limited to damages resulting from a
reduction in or elimination of the corporation's ability to utilize its Income
Tax Net Operating Loss Carryover, and attorneys' and accountants' fees incurred
in connection with such violation.*

*(k) Severability. If any part of the Restrictions is judicially determined
to be invalid or otherwise unenforceable, such invalidity or unenforceability
shall not affect the remainder of the Restrictions, which shall be thereafter
interpreted as if the invalid or unenforceable part were not contained herein,
and, to the maximum extent possible, in a manner consistent with preserving the
ability of the corporation to utilize to the greatest extent possible the Income
Tax Operating Loss Carryover.*

*(l) Effect on Stock Exchange Transactions. Nothing in the Restrictions
shall preclude the settlement of a transaction entered into through the
facilities of Nasdaq. The Stock that is the subject of such transaction shall
continue to be subject to the terms and Restrictions after such settlement.*

*(m) Definitions:*

*"Charitable Beneficiary" shall mean one or more organizations described
in Sections 170(b)(1)(A), 170(c)(2) and 501(c)(3) of the Code designated in
writing by the corporation.*

*"Code" shall mean the Internal Revenue Code of 1986, as amended and
as it may be amended from time to time hereafter.*

*"Common Stock" shall mean the common stock of the Corporation, $0.01
par value per share.*

*"Control" shall mean the possession, direct or indirect, of the power
to direct or cause the direction of the management, policies or decisions
of a Person, whether through the ownership of voting securities, by
contract, family relationship or otherwise. The terms "controlling,"
"controlled by" and "under common control with" shall have correlative
meanings. A Person shall be deemed to control or be under common control
with a Purported Transferee if the Excess Stock Owned by such Person is
treated as Owned by the Purported Transferee by virtue of the family
attribution rules of Section 318 of the Code.*

*"5% Shareholder" shall mean any Person or Public Group who is a
"5-percent shareholder" of the corporation within the meaning of Section
382, substituting "4.9 percent" for "5 percent" each place it appears
therein.*

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*"Income Tax Net Operating Loss Carryover" shall mean the net
operating loss, capital loss, net unrealized built-in loss, general
business credit, alternative minimum tax credit, foreign tax credit and any
other carryovers or losses as determined for United States federal income
tax purposes that are or could become subject to limitation under Section
382, and to which the corporation is entitled under the Code and
Regulations, at any time during which the Restrictions are in force.*

*"IP Delaware" shall mean Insurance Partners, L.P., a Delaware limited
partnership.*

*"IP Bermuda" shall mean Insurance Partners Offshore (Bermuda), L.P.,
a Bermuda limited partnership.*

*"Limit" shall mean 4.9 Percent of the Stock.*

*"Option" shall mean any interest that could give rise to the
Ownership of Stock and that is an option, contract, warrant, convertible
instrument, put, call, stock subject to a risk of forfeiture, pledge of
stock or any interest that is similar to any of such interests or any other
interest that would be treated, under paragraph (d)(9) of Treasury
Regulation Section 1.382-4, in the same manner as an option, whether or not
any of such interests is subject to contingencies.*

*"Own," and all derivations of the word "Own," shall mean any direct
or indirect, actual or beneficial interest, including, except as otherwise
provided, a constructive ownership interest under the attribution rules
(including the option attribution rules) of Section 382. In determining
whether a Person Owns an amount of Stock in excess of the Limit, Options
Owned by such Person (or other Persons whose Ownership of Stock is or would
be attributable under Section 382 to such Person) shall be treated as
exercised (and the Stock that would be acquired by such exercise as
outstanding) and Options Owned by other Persons shall be treated as not
exercised (and the Stock that would be acquired by such exercise as
outstanding) and Options Owned by other Persons shall be treated as not
exercised (and the Stock that would be acquired if such Options owned by
other Persons were exercised shall be treated as not outstanding), in each
case without regard to whether such treatment would result in an ownership
change within the meaning of Section 382. In determining whether a Transfer
that is an exercise, conversion or similar transaction with respect to an
Option increases the Percentage Ownership of Stock of any Person or Public
Group, such Option shall be treated as if it were not Owned by such Person
immediately prior to such Transfer.*

*"Percent," "Percentage" or "%" shall mean percent or percentage by
value.*

*"Person" shall mean any individual (other than a Public Group treated
as an individual under Section 382) or any "entity" as that term is defined
in Regulations Section 1.382-3(a).*

*"Public Group" shall have the meaning assigned to such term in the
applicable Regulations under Section 382.*

*"Purported Transferee" shall mean a Person or Public Group who
acquires Ownership of Excess Stock in a Prohibited Transfer or, except as
otherwise provided in the Restrictions, any subsequent transferee of such
Excess Stock.*

*"Purported Transferor" shall mean a Person who Transfers Excess Stock
in a Prohibited Transfer.*

*"Regulations" shall mean Treasury Regulations, including proposed or
temporary regulations, promulgated under the Code, as the same may be
amended from time to time. References herein to specific provisions of
temporary Regulations shall include the analogous provisions of final
Regulations or other successor Regulations.*

*"Restriction Effective Date" shall mean the date of the closing of
the purchase of 2,390,438 shares of Common Stock by IP Delaware, IP Bermuda
and the Subscribing Stockholders pursuant to the Stock Purchase Agreement.*

*"Restriction Termination Date" shall mean the earliest to occur of
(a) the end of the thirty-sixth (36th) month following the Restriction
Effective Date, (b) the first day of the first taxable year

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following* *the taxable year (or years) in which the Income Tax Net
Operating Loss Carryover has been reduced to zero, or (c) the date upon
which the Board of Directors has determined that there has been a change in
law (including but not limited to the repeal of Section 382 without a
successor provision that places restrictions on the Income Tax Net
Operating Loss Carryover based on changes of ownership of the corporation's
Stock similar to Section 382) eliminating the need for the Restrictions in
order to preserve the corporation's ability to utilize the Income Tax Net
Operating Loss Carryover.*

*"Restrictions" shall mean the restrictions on the Transfer and
Ownership of Stock as set forth in this Article VI.*

*"Section 382" shall mean Section 382 of the Code and the Regulations
promulgated thereunder, and any successor statute and regulations.*

*"Stock" shall mean the Common Stock and any interest in the
corporation that would be treated as stock under Section 382, without
regard to clauses (ii)(B) and (iii)(B) of paragraph (f)(18) of Temporary
Treasury Regulation Section 1.382-2T (but only if, in determining the
Ownership by any Person of Stock, the uniform treatment of such interest as
Stock or as not Stock, as the case may be, would increase such Person's
Percentage Ownership of Stock), and shall also include any Stock the
ownership of which may be acquired by the exercise of an Option.*

*"Stock Purchase Agreement" shall mean that Stock Purchase Agreement
among the corporation, IP Delaware, IP Bermuda, TJS and the Subscribing
Stockholders, dated as of September 17, 1996.*

*"Subscribing Stockholders" shall mean those individuals who execute
the subscription agreements attached to the Stock Purchase Agreement as
exhibits thereto.*

*"Transfer" shall mean any direct or indirect acquisition or
disposition of stock, whether by sale, exchange, merger, consolidation,
transfer, assignment, conveyance, distribution, pledge, inheritance, gift,
mortgage, the creation of any security interest in, or lien or encumbrance
upon, or any other acquisition or disposition of any kind and in any
manner, whether voluntary or involuntary, knowing or unknowing, by
operation of law or otherwise. Notwithstanding any understandings or
agreements to which an Owner of Stock is a party, any arrangement, the
effect of which is to transfer any or all of the rights arising from
Ownership of Stock, shall be treated as a Transfer. A Transfer shall also
include (i) a transfer of an interest in an entity and a change in the
relationship between two or more Persons that results in a change in the
Ownership of Stock and (ii) the creation, grant, exercise, conversion,
Transfer or other disposition of or with respect to an Option, regardless
of whether such Option previously had been treated as exercised or
converted for any other purpose.*

*"Transfer Agent" means the Person responsible for maintaining the
books and records in which are recorded the ownership and transfer of
shares of Stock or any Person engaged by the corporation for the purpose of
fulfilling the duties required to be fulfilled by the Transfer Agent
hereunder.*

*"Trustee" means the trustee of the trust appointed by the
corporation, provided that the Trustee shall be a Person unaffiliated with
the corporation, any 5% Shareholder, and any Person purchasing or disposing
of Stock in a Prohibited Transfer.*

*SEVENTH. *SIXTH. The holders of the Special Voting Notes and the Common
Stock, voting together as a single class, shall be entitled at all elections of
directors to as many votes as shall equal the number of votes which (except for
this provision as to cumulative voting) he would be entitled to cast for the
election of directors with respect to his shares of stock multiplied by the
number of directors to be elected, and such holder may cast all of such votes
for a single director or may distribute them among the number to be voted for,
or for any two or more of them as he or she may see fit. The holders of the
Common Stock shall be entitled to one vote for each share upon all other
matters.

*EIGHTH. *SEVENTH. The incorporator of the Corporation is C. Stephen
Bigler, P.O Box 551, Wilmington, DE 19899.

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<PAGE> 381

*NINTH. *EIGHTH. Unless and except to the extent that the by-laws of the
Corporation shall so require, the election of directors of the Corporation need
not be by written ballot.

*TENTH. *NINTH. In furtherance and not in limitation of the powers
conferred by the laws of the State of Delaware, the Board is expressly
authorized to make, alter and repeal the by-laws of the Corporation, subject to
the power of the stockholders of the Corporation to alter or repeal any by-law
whether adopted by them or otherwise.

*ELEVENTH. *TENTH. A director of the Corporation shall not be liable to the
Corporation or its stockholders for monetary damages for breach of fiduciary
duty as a director, except to the extent such exemption from liability or
limitation thereof is not permitted under the General Corporation Law of the
State of Delaware as the same exists or may hereafter be amended. Any amendment,
modification or repeal of the foregoing sentence shall not adversely affect any
right or protection of a director of the Corporation hereunder in respect of any
act or omission occurring prior to the time of such amendment, modification or
repeal.

*TWELFTH. *ELEVENTH. The Corporation reserves the right at any time, and
from time to time, to amend, alter, change or repeal any provision contained in
this Certificate of Incorporation, and other provisions authorized by the laws
of the State of Delaware at the time in force may be added or inserted, in the
manner now or hereafter prescribed by law; and all rights, preferences and
privileges of whatsoever nature conferred upon stockholders, directors or any
other persons whomsoever by and pursuant to this Certificate of Incorporation in
its present form or as hereafter amended are granted subject to the rights
reserved in this article.

*: To be Deleted by Amendment

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<PAGE> 382

SUPERIOR NATIONAL INSURANCE GROUP, INC. ANNUAL MEETING OF STOCKHOLDERS
, 1998

THIS PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS.

The undersigned stockholder of Superior National Insurance Group, Inc., a
Delaware corporation (the "Company"), hereby acknowledges receipt of the Notice
of Annual Meeting of Stockholders and Proxy Statement, each dated ,
1998, and hereby appoints Steven D. Germain, Thomas J. Jamieson, Gordon E.
Noble, C. Len Pecchenino, Craig F. Schwarberg, Robert A. Spass, Bradley E.
Cooper, William L. Gentz, J. Chris Seaman, Steven B. Gruber, and Roger W.
Gilbert, and each of them, proxies and attorneys-in-fact, with full power to
each of substitution, on behalf and in the name of the undersigned, to represent
the undersigned at the Annual Meeting of Stockholders of the Company to be held
on , 1998 at 10:00 a.m., Pacific Time, at the Company's
principal business offices at 26601 Agoura Road, Calabasas, California 91302,
and at any postponements or adjournments thereof, and to vote all shares of
common stock at the Annual Meeting the undersigned would be entitled to vote if
personally present, on the matters set forth below:

1. PROPOSAL NO. 1 -- THE STOCK OFFERING [ ] FOR [ ] AGAINST [ ] ABSTAIN
Approval of Proposal No. 1 is a condition to the transactions contemplated
by Proposal No. 2.

2. PROPOSAL NO. 2 -- THE IP STOCK ISSUANCE [ ] FOR [ ] AGAINST [ ] ABSTAIN
Approval of Proposal No. 2 is a condition to the transactions contemplated
by Proposal No. 1.

3. PROPOSAL NO. 3 -- AMENDMENT TO 1995 STOCK INCENTIVE PLAN [ ] FOR
[ ] AGAINST [ ] ABSTAIN
Approval of Proposal No. 3 is NOT a condition to the approval of any other
Proposal.
The amendment will take effect if the transactions contemplated by Proposals
No. 1 and No. 2 are completed.

4. PROPOSAL NO. 4 -- EMPLOYEE STOCK PURCHASE PLAN [ ] FOR [ ] AGAINST
[ ] ABSTAIN
Approval of Proposal No. 4 is NOT a condition to the approval of any other
Proposal.
The plan will take effect if the transactions contemplated by Proposals No.
1 and No. 2 are completed.

5. PROPOSAL NO. 5 -- AMENDMENT TO CERTIFICATE OF INCORPORATION TO INCREASE
AUTHORIZED SHARES [ ] FOR [ ] AGAINST [ ] ABSTAIN
Approval of Proposal No. 5 is NOT a condition to the approval of any other
Proposal.
The amendment will take effect if the transactions contemplated by Proposals
No. 1 and No. 2 are completed.
<PAGE> 383

6. PROPOSAL NO. 6 -- AMENDMENT TO CERTIFICATE OF INCORPORATION TO REMOVE
TRANSFER RESTRICTIONS [ ] FOR [ ] AGAINST [ ] ABSTAIN
Approval of Proposal No. 6 is NOT a condition to the approval of any other
Proposal.
The amendment will take effect if the transactions contemplated by Proposals
No. 1 and No. 2 are completed.

7. PROPOSAL NO. 7 -- ELECTION OF DIRECTORS: [ ] For all nominees listed below
(except as indicated).
[ ] Withhold authority for all nominees listed
below.

IF YOU WISH TO WITHHOLD AUTHORITY FOR ANY INDIVIDUAL NOMINEE(S), STRIKE A LINE
THROUGH HIS OR THEIR NAME(S) IN THE LIST BELOW:

Steven D. Germain, C. Len Pecchenino, Bradley E. Cooper, Thomas J. Jamieson,
Craig F. Schwarberg, William L. Gentz, Gordon E. Noble, Robert A. Spass, J.
Chris Seaman, Steven B. Gruber, Roger W. Gilbert

8. PROPOSAL NO. 8 -- TO RATIFY THE APPOINTMENT OF KPMG PEAT MARWICK LLP AS THE
COMPANY'S
INDEPENDENT AUDITORS FOR THE FISCAL YEAR ENDING DECEMBER 31, 1998.
[ ] FOR [ ] AGAINST [ ] ABSTAIN

In their discretion, upon such other matter or matters which may properly come
before the meeting or any postponements or adjournments thereof.

THIS PROXY WILL BE VOTED AS DIRECTED AND AS SAID PROXIES DEEM ADVISABLE ON SUCH
OTHER MATTERS AS MAY COME BEFORE THE MEETING. WITH RESPECT TO THE ELECTION OF
DIRECTORS, IF NO CONTRARY OBJECTION IS INDICATED, THIS PROXY WILL BE VOTED FOR
THE NOMINEES LISTED.

Dated: , 1998

---------------------------------------
Printed name(s) as shown on Stock
Certificate

---------------------------------------
(Signature)

This proxy should be marked and signed
by the Stockholder(s) exactly as his,
her, their or its name appears on the
Sock Certificate and returned promptly
in the enclosed envelope. Persons
signing in a Fiduciary Capacity should
so indicate. if shares are held by two
people (for example, as joint tenants
or community property) both parties
should sign.