STATE AUTO FINANCIAL CORP, DEF 14A, 1999-04-26

STATE AUTO FINANCIAL CORP
DEF 14A, 1999-04-26
FIRE, MARINE & CASUALTY INSURANCE

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SCHEDULE 14A
(RULE 14A-101)
INFORMATION REQUIRED IN PROXY STATEMENT
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:

<TABLE>
<S> <C>
[ ] Preliminary Proxy Statement [ ] CONFIDENTIAL, FOR USE OF THE COMMISSION
ONLY (AS PERMITTED BY RULE 14a-6(e)(2))
[X] Definitive Proxy Statement
[ ] Definitive Additional Materials
[ ] Soliciting Material Pursuant to Rule 14a-11(c) or Rule 14a-12.
</TABLE>

STATE AUTO FINANCIAL CORPORATION
(NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

XXXXXXXXXXXXXXXX
(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)(1) and 0-11.

(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 0-11 (Set forth the amount on which the
filing fee is calculated and state how it was determined): ............

(4) Proposed maximum aggregate value of transaction: ......................

(5) Total fee paid: .......................................................

[ ] Fee paid previously with preliminary materials.

[ ] Check box if any part of the fee is offset as provided by Exchange Act Rule
0-11(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: ...........................................................

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<PAGE> 2

[State Auto Financial Corporation Logo]

STATE AUTO FINANCIAL CORPORATION

NOTICE OF ANNUAL MEETING OF SHAREHOLDERS

To the Shareholders of
STATE AUTO FINANCIAL CORPORATION:

Notice is hereby given that the Annual Meeting of Shareholders of State
Auto Financial Corporation (the "Company") will be held at the Company's
principal executive offices located at 518 East Broad Street, Columbus, Ohio, on
Thursday, May 27, 1999, at 10:00 A.M., EDST, for the following purposes:

1. To elect three Class II directors, each to hold office for a
three-year term and until a successor is elected and qualified; and

2. To transact such other business as may properly come before the
meeting or any adjournment thereof.

The close of business on April 15, 1999, has been fixed as the record date
for the determination of shareholders entitled to notice of and to vote at the
meeting and any adjournment thereof.

In order that your shares may be represented at this meeting and to assure
a quorum, please sign and return the enclosed proxy promptly. A return addressed
envelope, which requires no postage, is enclosed. In the event you are able to
attend and wish to vote in person, at your request we will cancel your proxy.

By Order of the Board of Directors

JOHN R. LOWTHER
Secretary

Dated: April 26, 1999
<PAGE> 3

STATE AUTO FINANCIAL CORPORATION

PROXY STATEMENT

GENERAL

This Proxy Statement is furnished in connection with the solicitation of
proxies by the Board of Directors of State Auto Financial Corporation (the
"Company") to be used at its Annual Meeting of Shareholders to be held May 27,
1999 (the "Annual Meeting"). Shares represented by properly executed proxies
will be voted at the Annual Meeting in accordance with the choices indicated on
the proxy. Any proxy may be revoked at any time, insofar as it has not been
exercised, by delivery to the Company of a subsequently dated proxy or by giving
notice of revocation to the Company in writing or in open meeting. A
shareholder's presence at the Annual Meeting does not by itself revoke the
proxy.

The mailing address of the principal executive offices of the Company is
518 East Broad Street, Columbus, Ohio 43215. The approximate date on which this
Proxy Statement and the form of proxy are first being sent or given to
shareholders is April 26, 1999.

The close of business on April 15, 1999, has been fixed as the record date
for the determination of shareholders entitled to notice of and to vote at the
Annual Meeting and any adjournment thereof. On the record date there were
outstanding and entitled to vote 42,057,917 of the Company's Common Shares,
without par value. Each Common Share is entitled to one vote.

ELECTION OF DIRECTORS

The number of directors currently is fixed at nine. The Board of Directors
is divided into three classes, Class I, Class II and Class III, with three
directors in each Class. The term of office of directors in one Class expires
annually at each annual meeting of shareholders at such time as their successors
are elected and qualified. Directors in each Class are elected for three-year
terms. The term of office of the Class II directors expires concurrently with
the holding of the Annual Meeting. The three incumbent directors in Class II
have been nominated for re-election.

At the Annual Meeting, it is the intention of the persons named in the
accompanying form of proxy, unless a contrary position is indicated on such
proxy, to vote the proxy for the election of the three nominees named in the
following table as Class II directors, each to hold office until the 2002 annual
meeting of shareholders and until a successor is elected and qualified. There is
no cumulative voting in the election of directors, and the three nominees
receiving the highest number of votes will be elected. Abstentions and broker
non-votes will not be counted in determining the votes cast in the election of
directors and will not have a positive or negative effect on the election. In
the event that any nominee named in the table as a Class II director is unable
to serve (which is not anticipated), the persons named in the proxy may vote it
for another nominee of their choice.
<PAGE> 4

Set forth below is information about each of the Class II director
nominees:

CLASS II DIRECTOR NOMINEES
(TERMS EXPIRING IN 2002)

<TABLE>
<CAPTION>
A COMMON
NAME OF DIRECTOR SHARES OWNED
NOMINEE/DIRECTOR PRINCIPAL OCCUPATION(S) OF THE BENEFICIALLY AS %
AND POSITION(S) DURING THE COMPANY OF APRIL 15, OF
WITH COMPANY AGE(1) PAST FIVE YEARS SINCE 1999(2)(3) CLASS
---------------- ------ ----------------------- -------- --------------- -----
<S> <C> <C> <C> <C> <C>
Robert L. Bailey(4)......... 65 Chairman of the Board of the Company 1991 560,705 1.3%
Chairman of the (3/93 to present) and its wholly
Board and Chief owned affiliates State Auto Property
Executive Officer and Casualty Insurance Company
("State Auto P&C"), (3/93 to
present), Milbank Insurance Company
("Milbank") (8/93 to present), State
Auto National Insurance Company
("National") (10/91 to present), and
of State Automobile Mutual Insurance
Company ("Mutual"), owner of 69% of
the Company's Common Shares (3/93 to
present); Chief Executive Officer of
each of the Company, State Auto P&C,
Milbank, National and Mutual for more
than 5 years; President of the
Company, State Auto P&C, and Mutual
for more than 5 years prior to 5/96
and of National from 10/91 to 5/96
and of Milbank from 8/93 to 5/96.

William J. Lhota............ 59 Executive Vice President, American 1994 24,000 *
Director Electric Power ("AEP"), an investor-
owned electric utility, and President
and Chief Operating Officer,
Appalachian Power Company, Columbus
Southern Power Company, Indiana
Michigan Power Company, Kentucky
Power Company, Kingsport Power
Company, Ohio Power Company and
Wheeling Power Company, all of which
are subsidiaries of AEP, 1/96 to
present; Executive Vice President,
American Electric Power Service
Corporation, 7/93 to 1/96. Mr. Lhota
is also a director of Huntington
Bancshares, Inc., a bank holding
company, and AEP Generating Company,
Appalachian Power Company, Columbus
Southern Power Company, Indiana
Michigan Power Company, Kentucky
Power Company, and Ohio Power
Company.
</TABLE>

2
<PAGE> 5

Set forth below is information about the directors whose terms of office
continue after the Annual Meeting.

CLASS III DIRECTORS
(TERMS EXPIRING IN 2000)

David L. Bickelhaupt(6)..... 69 Professor Emeritus, The Ohio State 1991 25,320 *
Director University, Fisher College of
Business, where he taught for more
than five years. Principal of David
L. Bickelhaupt, Inc., a writing and
consulting business.
</TABLE>

3
<PAGE> 6

<TABLE>
<CAPTION>
A COMMON
NAME OF DIRECTOR SHARES OWNED
DIRECTOR PRINCIPAL OCCUPATION(S) OF THE BENEFICIALLY AS %
AND POSITION(S) DURING THE COMPANY OF APRIL 15, OF
WITH COMPANY AGE(1) PAST FIVE YEARS SINCE 1999(2)(3) CLASS
--------------- ------ ----------------------- -------- --------------- -----
<S> <C> <C> <C> <C> <C>
George R. Manser(7)......... 68 Director of Corporate Finance, 1991 69,550 *
Director Uniglobe Travel USA, a travel agency
franchisor, 3/97 to present; Chairman
of the Board, Uniglobe Travel
(Capital Cities) Inc., a travel
agency franchisor, for more than five
years prior to 3/97; Advisory
director to J.C. Bradford & Co., 8/94
to present; Mr. Manser is also a
director of Cardinal Health, Inc., a
healthcare service provider,
AmeriLink Corporation, a
telecommunications business, Hallmark
Financial Services, Inc., a
nonstandard, Texas only, auto
insurer, and Checkfree Corporation, a
business facilitating electronic
commerce. Prior to 7/94, Mr. Manser
was also Chairman of North American
National Corporation.
</TABLE>

CLASS I DIRECTORS
(TERMS EXPIRING IN 2001)

Paul W. Huesman(9).......... 63 President, Huesman-Schmid Insurance 1991 60,612 *
Director Agency, Inc., an insurance agency,
for more than five years.

Robert H. Moone(10)......... 55 President of the Company, State Auto 1998 181,694 *
President P&C, Milbank, National and Mutual
5/96 to present; Executive Vice
President of the Company, State Auto
P&C, Milbank, National and Mutual
11/93 to 5/96.
</TABLE>

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* Less than one (1%) percent.

(1) Ages shown are as of the date of the Annual Meeting.

(2) Except as indicated in the notes to this table, the persons named in the
table have sole voting and investment power with respect to all Common
Shares shown as beneficially owned by the named person. With respect to
stock options, this table includes only stock options for Common Shares
which are

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<PAGE> 7

currently exercisable or exercisable within 60 days of April 15, 1999. The
Common Shares have been adjusted to reflect a two-for-one common stock
split effective July 8, 1998.

(3) The amount reported includes Common Shares attributable to options granted
under the 1991 Stock Option Plan for Messrs. Bailey (346,014), Moone
(120,680) and Lowther (59,500) and Common Shares attributable to options
granted under the 1991 Directors' Stock Option Plan for Messrs. Lhota
(10,000), D'Antoni (10,000), Bickelhaupt (21,200), Manser (22,000) and
Huesman (22,000). Mr. Harris' shares owned include 102,200 Common Shares
attributable to options granted under the 1991 Stock Option Plan to Mr.
Harris while he was employed by the Company and options for 4,000 Common
Shares granted under the 1991 Director's Stock Option Plan since he retired
from active service to the Company.

(4) Includes 67,150 Common Shares held by Bailey Enterprises, a family
partnership of which Mr. Bailey is a member. Mr. Bailey exercises voting
power and investment power as to the Common Shares owned by Bailey
Enterprises. This also includes 41,360 Common Shares attributable to
options granted to Mr. Bailey under the 1991 Stock Option Plan, which he
assigned to his spouse pursuant to the terms of the 1991 Stock Option Plan,
and 48,790 Common Shares owned by Mrs. Bailey. Mr. Bailey disclaims
beneficial ownership of these Common Shares.

(5) Includes 12,000 Common Shares owned by Mrs. D'Antoni, as to which Mr.
D'Antoni disclaims beneficial ownership.

(6) Includes 320 Common Shares owned by Mrs. Bickelhaupt, as to which Dr.
Bickelhaupt disclaims beneficial ownership.

(7) Includes 9,000 Common Shares owned by Mrs. Manser, as to which Mr. Manser
disclaims beneficial ownership.

(8) Includes 26,750 Common Shares attributable to options granted to Mr.
Lowther under the 1991 Stock Option Plan, which he assigned to his spouse
pursuant to the terms of the 1991 Stock Option Plan, and 2,000 Common
Shares attributable to options granted under the 1991 Stock Option Plan,
which he assigned pursuant to the 1991 Stock Option Plan to trusts
maintained for the benefit of his children. Mr. Lowther disclaims
beneficial ownership of these Common Shares.

(9) Includes 2,820 Common Shares owned by Mrs. Huesman, as to which Mr. Huesman
disclaims beneficial ownership, 12,030 Common Shares owned by the
Huesman-Schmid Insurance Agency, Inc. Profit Sharing Plan and 14,548 Common
Shares owned by the Huesman-Schmid Insurance Agency, Inc. Defined Benefit
Pension Plan. Mr. Huesman shares voting and investment power with the other
trustee of these plans with respect to these Common Shares.

(10) Includes 82,935 Common Shares attributable to options granted to Mr. Moone
under the 1991 Stock Option Plan which he assigned to the Anna Moone Living
Trust (Anna Moone and Robert H. Moone, co-trustees) pursuant to the terms
of the 1991 Stock Option Plan. Mr. Moone disclaims beneficial ownership of
these Common Shares.

In addition to the Common Shares owned beneficially by Messrs. Bailey and
Moone, as set forth above, Gary L. Huber, Michael F. Dodd and Steven J.
Johnston, the other named executive officers in the Summary Compensation Table
set forth below, owned beneficially 17,257 Common Shares, 113,151 Common Shares,
and 54,837 Common Shares, respectively, of the Company as of April 15, 1999,
each of which represents less than 1% of the Company's outstanding Common
Shares. These amounts include Common Shares attributable to options which are
currently exercisable or exercisable within 60 days of April 15, 1999, granted
under the 1991 Stock Option Plan in the amounts of 10,500, 81,600, and 40,700
for Messrs. Huber, Dodd and Johnston, respectively. These persons and/or their
spouses have sole voting and investment power with respect to all
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<PAGE> 8

Common Shares beneficially owned by them. As of April 15, 1999, all directors
and executive officers of the Company as a group (20 persons) owned beneficially
1,895,415 (4.5%) Common Shares of the Company, which included options for
1,158,544 Common Shares.

In addition to the Common Shares of the Company owned beneficially by
Messrs. Bailey, Harris, Lowther, Moone and Johnston, as described above, on the
record date of the Annual Meeting, each of these individuals beneficially owned
and exercised sole voting and investment power as to the following number of
shares of common stock of Strategic Insurance Software, Inc., a majority-owned
(82.7%) subsidiary of the Company engaged in the software business:

<TABLE>
<CAPTION>
COMMON SHARES
BENEFICIALLY
OWNED AS OF
NAME OF BENEFICIAL OWNER APRIL 15, 1999 % OF CLASS
------------------------ -------------- ----------
<S> <C> <C>
Robert L. Bailey.......................................... 40,000 Shares 1.7%
Urlin G. Harris, Jr....................................... 40,000 Shares 1.7%
Robert H. Moone........................................... 30,000 Shares 1.3%
Steven J. Johnston........................................ 30,000 Shares 1.3%
John R. Lowther........................................... 20,000 Shares *
</TABLE>

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* Less than one percent

As of April 15, 1999, all directors and executive officers of the Company,
as a group (20 persons), owned 170,000 (7.4%) shares of common stock of
Strategic Insurance Software, Inc.

MEETINGS OF THE BOARD OF DIRECTORS AND BOARD COMMITTEES

During the fiscal year ended December 31, 1998, the Company's Board of
Directors held four meetings. No incumbent director attended fewer than 75% of
the aggregate of the meetings of the Board and the meetings of all committees on
which he served.

The Board has an Audit Committee charged with several responsibilities,
including: 1) reviewing the Company's accounting functions, operations, and
management; 2) considering the adequacy and effectiveness of the internal
controls and internal auditing methods and procedures of the Company; 3) meeting
and consulting with the Company's independent auditors and with the Company's
financial and accounting personnel concerning the foregoing matters; 4)
reviewing with the Company's independent auditors the scope of their audit of
the Company and the results of their examination of its financial statements;
and 5) considering the selection and recommending to the Board of Directors a
firm of certified public accountants to be appointed as the independent auditors
of the Company for its then current fiscal year. Present members are David L.
Bickelhaupt, Urlin G. Harris, Jr., and George R. Manser. The Audit Committee
held two meetings during the Company's fiscal year ended December 31, 1998.

The Board also has a 1991 Stock Option Plan Committee (the "Options
Committee") charged with the responsibility of administering the Company's 1991
Stock Option Plan. Present members of such committee, who also serve as the
Executive Compensation Committee, are David J. D'Antoni, William J. Lhota and
George R. Manser. See Executive Compensation Committee and Options Committee
Report for a discussion of the responsibilities of the Company's Executive
Compensation Committee. The Executive Compensation

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<PAGE> 9

Committee and Options Committee held two meetings during the Company's fiscal
year ended December 31, 1998. The Board has no standing nominating committee or
committee performing similar functions.

COMPENSATION OF DIRECTORS

Directors of the Company who are not also officers of the Company receive
from the Company an annual fee of $20,000, plus travel expenses incurred in
attending directors meetings, and a fee of $500, plus travel expenses, for each
committee meeting attended. Directors may defer all or a portion of these fees
under the Company's deferred compensation plan for directors. In addition,
directors of the Company who are not full-time employees of the Company or its
parent or subsidiary corporations receive stock options pursuant to the 1991
Directors' Stock Option Plan. Under this plan, promptly following each annual
meeting of shareholders of the Company, each eligible director is granted a
non-qualified option to purchase 1,000 Common Shares of the Company at the fair
market value of such shares on the last trading day prior to the annual meeting
immediately preceding the date of grant. Options are immediately exercisable in
whole or in part and must be exercised within ten years of the date of grant.
Each Director's compliance with the Stock Ownership Guidelines is a condition to
eligibility for receipt of options. (See "Executive Compensation Committee
Report" below).

COMPENSATION OF EXECUTIVE OFFICERS

Pursuant to a Management Agreement among Mutual, the Company and State Auto
P&C, Milbank and National, all wholly owned subsidiaries of the Company, and
other affiliated companies, the executive officers of the Company, State Auto
P&C, Milbank and National are employees of State Auto P&C and the Company rather
than Mutual, while Mutual acts as the common paymaster. The costs and expenses
associated with these employees of State Auto P&C and the Company are reimbursed
to Mutual, as paymaster, in accordance with the terms of the Management
Agreement. (See "Certain Transactions" below).

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<PAGE> 10

SUMMARY OF CASH AND CERTAIN OTHER COMPENSATION

Set forth below is information concerning the compensation paid or accrued
by, or reimbursed to, Mutual for the Company's fiscal years ended December 31,
1998, 1997, and 1996, to the Company's chief executive officer and its four most
highly compensated executive officers, other than the chief executive officer:

SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>
LONG TERM
COMPENSATION
AWARDS
-------------
SECURITIES
ANNUAL COMPENSATION UNDERLYING
--------------------- OPTIONS ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY(1) BONUS(2) GRANTED(3)(4) COMPENSATION(5)
--------------------------- ---- --------- -------- ------------- ---------------
<S> <C> <C> <C> <C> <C>
Robert L. Bailey................ 1998 $425,000 $260,579 28,000 $15,893
Chairman and 1997 $396,815 $298,604 -0- $14,206
Chief Executive Officer 1996 $374,000 $193,688 50,000 $13,845
Robert H. Moone................. 1998 $270,000 $ 94,507 16,000 $10,280
President and 1997 $250,002 $119,600 -0- $ 9,579
Chief Operating Officer 1996 $208,203 $ 45,338 26,880 $ 8,117
Gary L. Huber(6)................ 1998 $164,708 $ 52,167 6,000 $ 5,764
Vice President 1997 $101,539 $ 24,438 9,000 $ 3,015
Michael F. Dodd................. 1998 $157,908 $ 26,214 6,000 $ 6,642
Senior Vice President 1997 $153,309 $ 21,953 -0- $ 6,317
1996 $148,125 $ 2,769 9,000 $ 6,207
Steven J. Johnston.............. 1998 $153,148 $ 47,234 6,000 $ 5,597
Vice President, Treasurer and 1997 $138,502 $ 60,821 -0- $ 5,223
Chief Financial Officer 1996 $115,619 $ 2,116 9,000 $ 4,283
</TABLE>

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(1) Includes amounts deferred pursuant to the State Auto Insurance Companies
Capital Accumulation Plan (the "CAP") and the Non-Qualified Incentive
Deferred Compensation Plan (the "Deferred Compensation Plan"). The CAP is a
defined contribution plan (within the meaning of the Employee Retirement
Income Security Act of 1974) ("ERISA") and is intended to be a qualified
plan under Sections 401(a) and 401(k) of the Internal Revenue Code of 1986,
as amended (the "Code"). Under the CAP, each participant is eligible to
enter into a written salary reduction agreement with his employer whereby
the participant's salary will be reduced by a whole percentage from 1% to
16%, as elected by the participant, in accordance with the rules governing
cash or deferred arrangements under Section 401(k) of the Code. The amount
deferred by a participant is contributed by his employer to the trust fund
for the CAP and invested in accordance with the election of the participant
from among investment funds established under the trust agreement. The
Deferred Compensation Plan is a non-qualified, unfunded deferred
compensation plan for eligible key employees who are legally precluded from
contributing a full 6% of compensation to the CAP or who choose to defer a
portion of their salary beyond the amount matched by the CAP. Under the
Deferred Compensation Plan, such employees are eligible to enter into a
salary reduction agreement to defer payment of an additional portion of the
employee's salary as the employee prescribes on an election form executed
annually in advance of the year in which such compensation would be earned.
Deferred amounts, along with the Company matching amounts on that portion
deferred that is eligible for the match (see footnote (5), below), are
invested by Mutual in a variety of investment

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<PAGE> 11

options made available to participants in the Deferred Compensation Plan,
pursuant to the terms of such plan.

(2) The amounts appearing in this column represent bonuses paid pursuant to the
State Auto Quality Performance Bonus Plan (the "QPB"). Under the QPB for
1998, quarterly bonuses are paid to employees who have completed two full
calendar quarters of service if the direct statutory combined ratio for such
quarter was 101% or less for all combined affiliated insurers (see "Certain
Transactions"). As of January 1, 1999, the quarterly combined ratio for
purposes of QPB qualification was changed to 100%.

Also included in this column are special incentive bonuses earned in 1998
under special incentive bonus plans put into place for Messrs. Huber and
Johnston by the President. The Executive Compensation Committee also had in
place special incentive bonus plans for Messrs. Bailey and Moone in 1998 and
the two prior years. The bonus shown for Mr. Moone reflects this special
bonus. Mr. Bailey's bonus for 1997 includes all of the special bonus earned
in 1997 which was paid in 1998, and all of the special bonus earned in 1998
to be paid in 1999 (see "Executive Compensation Committee Report").

(3) In 1998 and 1996, the persons listed in the Summary Compensation Table were
granted options to purchase the number of Common Shares of the Company set
forth in this column pursuant to the 1991 Stock Option Plan, all of which
were non-qualified stock options except one-half of the options granted to
Mr. Moone and Mr. Johnston, which were incentive stock options. Stock
options were not generally granted in 1997, except that Mr. Huber was
granted 9,000 options in 1997 as a condition of his employment.

(4) Adjusted to reflect a two-for-one common stock split effective in July 1998.

(5) The amounts appearing in this column represent the Company's contributions
and credits on behalf of each named person under the CAP or the Deferred
Compensation Plan. Each participant in the CAP is credited annually with his
allocable share of employer matching contributions made to the CAP from the
consolidated net accumulated or current earnings of Mutual and its
subsidiaries. A participant's share of the matching contribution equals 75%
of his salary reduction contributions up to 2% of compensation, plus 50% of
his salary reduction contributions from 3% to 6% of compensation. While a
participant is always vested in his own salary reduction contributions, the
rights of a participant to amounts credited to his account as matching
contributions vest as follows: (a) one-third of matching contributions
allocated for the plan year preceding the plan year in which termination of
employment occurs, two-thirds of matching contributions allocated for the
second plan year before the plan year in which termination of employment
occurs, and 100% of the matching contributions allocated for the third and
earlier plan years before the plan year in which termination of employment
occurs; and (b) notwithstanding the foregoing, after the participant has
five or more years of service with Mutual and its subsidiaries, all matching
contributions become vested. The following are the amounts of the Company
matching contributions under the CAP for 1998 for the officer indicated: Mr.
Bailey -- $5,600; Mr. Moone -- $5,600; Mr. Huber -- $5,764; Mr.
Dodd -- $5,526; and Mr. Johnston -- $5,360. Each employee who is eligible to
participate in the Deferred Compensation Plan is credited annually with his
allocable share of Company matching contributions on the same basis that
contributions are matched under the CAP, provided that no more than 6% of
any employee's salary is subject to being matched under either the CAP or
the Deferred Compensation Plan. The following amounts reflect the Company's
contribution to the Deferred Compensation Plan for 1998: Mr.
Bailey -- $9,275 and Mr. Moone -- $3,850. The amounts appearing in this
column also represent the premiums for policies of whole life insurance
purchased on behalf of the officers of the Company, including the executive
officers named above, from Investors Life Insurance Company of Indiana
("Investors Life"), the successor to State Auto Life Insurance Company
("State Auto Life"), then a wholly-owned subsidiary of Mutual, which was
sold and merged with and

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<PAGE> 12

into Investors Life in July 1997. The following amounts represent the
premiums paid for whole life insurance for 1998: Mr. Bailey -- $1,018; Mr.
Moone -- $830; Mr. Dodd -- $1,116; and Mr. Johnston -- $237.

(6) Mr. Huber's employment with the Company commenced in May 1997.

OPTION GRANTS IN LAST FISCAL YEAR

The following table shows the number of options granted in 1998 to the
individuals named in the Summary Compensation Table and estimates the potential
realizable value of these option grants.

<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
------------------------------------------------------ POTENTIAL POTENTIAL
% OF TOTAL REALIZABLE VALUE REALIZABLE VALUE
OPTIONS AT ASSUMED AT ASSUMED
NUMBER OF GRANTED ANNUAL RATES OF ANNUAL RATES OF
SECURITIES TO EXERCISE STOCK PRICE STOCK PRICE
UNDERLYING EMPLOYEES OR BASE APPRECIATION FOR APPRECIATION FOR
OPTIONS IN FISCAL PRICE EXPIRATION OPTION TERM OPTION TERM
NAME GRANTED(1)(2) YEAR ($/SH)(2)(3) DATE 5%($) (4) 10%($) (4)
---- ------------- ---------- ------------ ---------- ---------------- ----------------
<S> <C> <C> <C> <C> <C> <C>
Robert L. Bailey..... 28,000 8.26% 17.00 02/12/2008 $299,354 $758,621
Robert H. Moone...... 16,000 4.72% 17.00 02/12/2008 $171,059 $433,498
Gary L. Huber........ 6,000 1.77% 17.00 02/12/2008 $ 64,147 $162,562
Steven J. Johnston... 6,000 1.77% 17.00 02/12/2008 $ 64,147 $162,562
Michael F. Dodd...... 6,000 1.77% 17.00 02/12/2008 $ 64,147 $162,562
</TABLE>

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

(1) Options were granted on February 13, 1998. Each option is fully exercisable
after a one-year vesting period expires, so long as employment with the
Company or its subsidiaries or its parent continues. There are no stock
appreciation rights, performance units, or other instruments granted in
tandem with these options, nor are there any reload provisions, tax
reimbursement features or performance-based conditions to exercisability.

(2) Adjusted to reflect a two-for-one common stock split effective in July 1998.

(3) The option exercise price is the closing price of the Company's shares on
the NASDAQ National Market System on the day of the grant.

(4) The dollar amounts under these columns are the result of calculations at the
5% and 10% rates dictated by the Securities and Exchange Commission when the
"Potential Realizable Value" alternative is used and are not intended to be
a forecast of the Company's stock price.

AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR END OPTION VALUES

The following table sets forth stock option exercises during 1998 by the
executive officers named in the Summary Compensation Table and shows the number
of Common Shares represented by both exercisable

10
<PAGE> 13

and non-exercisable stock options and the value of in-the-money stock options
(exercisable and non-exercisable) held by each of the named executive officers
as of December 31, 1998.

<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED IN-THE-MONEY
OPTIONS AT OPTIONS AT
SHARES ACQUIRED FY-END(#) FY-END($)
ON VALUE EXERCISABLE/ EXERCISABLE/
NAME EXERCISE(#) REALIZED($)(1) UNEXERCISABLE(2) UNEXERCISABLE(3)
---- --------------- -------------- -------------------- --------------------
<S> <C> <C> <C> <C>
Robert L. Bailey.......... 12,500 $118,750 354,000/28,000 $2,779,512/0
Robert H. Moone(4)........ 3,900 $39,000 106,680/16,000 $782,836/0
Gary L. Huber............. 4,500 $10,969 4,500/6,000 $13,781/0
Michael F. Dodd........... 0 0 75,600/6,000 $594,522/0
Steven J. Johnston........ 1,000 $7,517 34,700/6,000 $235,426/0
</TABLE>

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

(1) Aggregate market value of the Common Shares covered by the option less the
aggregate price paid by the executive officer.

(2) The number of securities underlying exercisable options was adjusted to
reflect a two-for-one common stock split effective in July 1998.

(3) The value of in-the-money options was determined by subtracting the exercise
price from the market value of the Company's Common Shares as of December
31, 1998 ($12.375), based on the closing price of the Company's Common
shares on the NASDAQ National Market System on that date, the last trading
day of 1998. The exercise price for exercisable options was adjusted to
reflect a two-for-one common stock split distributed in July 1998.

(4) One-half of the options indicated as exercisable at fiscal year end have
been assigned to the living trust of Mr. Moone's spouse of which he is the
co-trustee.

EMPLOYEES' RETIREMENT PLAN

The executive officers named in the Summary Compensation Table, as well as
substantially all employees of Mutual and its subsidiaries, are eligible to
participate in the State Auto Insurance Companies' Employee Retirement Plan (the
"Retirement Plan"). The Retirement Plan is a defined benefit plan (within the
meaning of ERISA) which is intended to be a qualified plan under Section 401(a)
of the Code, and is subject to the minimum funding standards of Section 412 of
the Code. Benefits payable under the Retirement Plan are funded through employer
contributions to a trust fund.

In addition, the executive officers named in the Summary Compensation table
benefit from a non-qualified Amended and Restated Supplemental Executive
Retirement Plan (the "Supplemental Plan"). The Supplemental Plan is intended to
offset the impact of the Code's and ERISA's limitations on retirement benefits
available under the Retirement Plan by providing for a lump sum or deferred cash
payments in an actuarially determined amount upon retirement of officers whose
participation in the Supplemental Plan is approved by the Board of Directors of
Mutual.

11
<PAGE> 14

The table below shows estimated annual benefits payable under the
Retirement Plan and the Supplemental Plan to a participant upon retirement at
age 65 with indicated average annual compensation and period of service:

ESTIMATED ANNUAL RETIREMENT BENEFIT

<TABLE>
<CAPTION>
ANNUAL ANNUAL RETIREMENT BENEFIT BASED ON YEARS OF SERVICE
AVERAGE ----------------------------------------------------
COMPENSATION 15 YEARS 20 YEARS 25 YEARS 30 YEARS 35 YEARS
- ------------ -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
$125,000 $43,067 $ 56,589 $ 70,112 $ 83,634 $ 97,099
$150,000 $51,771 $ 68,192 $ 84,614 $101,036 $117,388
$175,000 $56,426 $ 75,747 $ 95,068 $114,390 $133,643
$200,000 $62,273 $ 84,494 $106,715 $128,935 $151,086
$225,000 $68,120 $ 93,241 $118,361 $143,481 $168,529
$250,000 $72,568 $ 99,894 $127,220 $154,546 $181,797
$300,000 $72,568 $107,622 $127,220 $154,546 $181,797
$400,000 $72,568 $134,457 $147,932 $161,406 $191,730
$450,000 $72,568 $147,875 $163,034 $178,191 $212,438
$500,000 $72,568 $161,292 $178,136 $194,979 $233,145
</TABLE>

Note: The annual average compensation applies to post-1988 salaries. Post-1988
salaries have been capped according to the Internal Revenue Code. Benefit
amounts are based on the straight life annuity and are not subject to offset by
Social Security.

Benefits shown above are computed as a straight single life annuity
beginning at age 65. Such amounts are not subject to offset for Social Security
benefits or other amounts payable to participants in the Retirement Plan. As of
December 31, 1998, the years of credited service to the nearest whole year and
annual average compensation for each of the individuals named in the Summary
Compensation Table actively participating in the Retirement Plan on such date
were as follows:

<TABLE>
<CAPTION>
NAME OF YEARS OF CURRENT ANNUAL AVERAGE COMPENSATION
INDIVIDUAL CREDITED SERVICE FOR PURPOSES OF RETIREMENT PLAN
---------- ---------------- -----------------------------------
<S> <C> <C>
Robert L. Bailey...................... 27 $160,000
Robert H. Moone....................... 28 $160,000
Gary L. Huber......................... 2 $160,000
Michael F. Dodd....................... 37 $157,908
Steven J. Johnston.................... 13 $147,613
</TABLE>

EMPLOYMENT CONTRACT

In November 1995, the Company's Board of Directors approved an employment
agreement with Robert L. Bailey, Chairman and CEO of the Company, State Auto
P&C, and Mutual and the Company's other principal operating affiliates and
subsidiaries. Pursuant to this Agreement, the Company agreed to employ Mr.
Bailey until December 31, 2000, with an optional two year renewal with mutual
consent, at such compensation as may be determined by the Executive Compensation
Committee. Under the contract, Mr. Bailey shall be entitled to fringe benefits
available to other officers of State Auto, including, as applicable, those made
available to employees age 65 or older. Under the contract, Mr. Bailey is
entitled to receive a special

12
<PAGE> 15

supplemental retirement benefit equal to 60% of his highest salary during the
term of the agreement less sums payable to Mr. Bailey as of his retirement date
under the Retirement Plan calculated on the basis of a straight life annuity,
provided that the special supplemental retirement benefit shall not be less than
$100,000 annually for the remainder of his life following his retirement.

No other employee of the Company has an employment agreement.

COMPENSATION COMMITTEE
INTERLOCKS AND INSIDER PARTICIPATION

The Executive Compensation Committee currently consists of the following
three members of the Company's Board of Directors: David J. D'Antoni, William J.
Lhota, and George R. Manser who also make up the Options Committee. None of the
members of the Executive Compensation Committee is, or was, an officer or
employee of the Company, any of its subsidiaries, or of Mutual. Also, no
executive officer of the Company served during 1998 as a member of a
compensation committee or as a director of any entity of which any of the
Company's Executive Compensation Committee members served as an executive
officer.

EXECUTIVE COMPENSATION COMMITTEE AND OPTIONS COMMITTEE REPORT

The following is the report of the Executive Compensation Committee and the
Options Committee, whose members are identified below, with respect to
compensation reported for 1998 as reflected in the compensation tables above.

Pursuant to the Management Agreement, the Chief Executive Officer and the
other named executive officers are employees of State Auto P&C. The Company's
Executive Compensation Committee determines the compensation of the Chairman and
Chief Executive Officer and the President and Chief Operating Officer, while Mr.
Robert Moone, as President of the Company, State Auto P & C and Mutual, is
responsible for administering the base salary component of the cash compensation
paid to the other named executive officers, all of whom reported to him in 1998.
Mr. Moone also makes recommendations to the Chairman and Chief Executive Officer
with respect to incentive bonuses for certain of the named executive officers.

The Executive Compensation Committee's policies as to base salary of the
Chief Executive Officer, which the President utilized in determining the
salaries of the named executive officers, and the Options Committee's policies
as to stock options are as follows:

The compensation policies applied by the President in setting base salaries
earned by the named executive officers in 1998 mirror those applied in the
Company at large. This compensation system is intended to reward individuals
based on their performance, to encourage a focus on underwriting profit, to
provide for competitive levels of compensation necessary to attract and retain
executive officers, and to create an understanding of the importance of
achieving company-wide goals over the long term. The Options Committee grants
options on a periodic basis as an additional, long-term inducement to the
executive officers to improve the Company's performance and enhance the value of
the Company's Common Shares.

For 1998, compensation for the named executive officers, other than the
Chief Executive Officer, had three components as to which discretion is
exercised: annual base salary, stock options and incentive bonus arrangements.
The President reviews the three named executive officers' base salary
approximately every 12 months. Merit raises granted each year reflect the
President's assessment of the individual officer's performance in achieving
division-wide goals set at the beginning of the year. The overall performance of
the Company's operating units is also considered. In individual cases, raises
may also reflect a named executive
13
<PAGE> 16

officer's assumption of additional duties and responsibilities. Annual salary
reviews also reflect the fact that certain of the named executive officers had
an opportunity to earn an additional incentive bonus for superior performance.

The Executive Compensation Committee and Options Committee believe that
stock options and individual stock purchases by executive officers create a
mutuality of interest between the shareholders and management. This is believed
to be desirable and in the best interests of the shareholders as it focuses
management's attention on the importance of long term appreciation in the price
of the Company's Common Shares. In that regard, as of December 31, 1996, the
Options Committee imposed stock ownership guidelines on the Chief Executive
Officer, the President, the other named executive officers, and all other option
recipients under the 1991 Stock Option Plan and the 1991 Directors Stock Option
Plan. Compliance with these guidelines, which require optionees under the 1991
Stock Option Plan to own Common Shares of the Company equal to percentages of
base salary depending on the person's position within the Company, and optionees
under the 1991 Director's Stock Option Plan to own Common Shares with a value
equal to at least three times their annual director's fee. These guidelines are
intended to be a condition precedent to receipt of future option grants. All
optionees have five years to reach their required level of ownership, but each
year, optionees who are not currently in compliance are expected to make
proportional progress toward their respective goal. Every named executive
officer met the stock ownership requirements imposed by the Stock Ownership
Guidelines for 1998.

Options were awarded in February 1998. These options were based on the same
formula as was used for the grants made in August 1996. The number of options
granted depended on the relationship of the estimated value of underlying shares
to be granted as options to a percentage of the salary level applicable to each
tier of option grants. In applying this formula, the Committee agreed to fix the
value of the underlying shares at the 30-day average of the closing price of the
Company's Common Shares prior to the grant date, which amount was $15.82.

The Committee determined that the top three tiers of option grants, which
affected the CEO and the President should reflect 100% of the base salary for
the CEO, 90% of base salary for the second tier (the President) and 80% of the
base salary for the third tier (an executive vice president position not
currently filled). The Committee also determined that the fourth tier of option
grants, which affected the three other named executive officers, should be set
at 60% of average salary ($110,000). The Option Committee also determined that
within each tier, each recipient in that tier would receive an equal number of
options notwithstanding salary differences. In addition, the Options Committee
rounded up in performing the calculations to maintain what it deemed an
appropriate spread between the different tiers in terms of the number of options
granted to those in each tier.

The Committee has, in the past, had a practice of granting options about
every 18 months, but in 1998 it contemplated altering that practice pending a
consultant's review of the entire executive compensation program. That review
was not completed in time to affect 1998 compensation.

There are two forms of cash bonus available to certain of the named
executive officers. The Company's QPB is intended to provide a more short-term
incentive to the employees to generate underwriting profits on a quarterly
basis. Under the QPB in 1998, quarterly bonuses are paid to all employees who
have completed two full calendar quarters of service if the insurance affiliates
of the Company had a direct statutory combined ratio for such quarter of 101% or
less (see "Certain Transactions"). As of January 1, 1999, the quarterly combined
ratio for purposes of QPB qualification was changed to 100%.

14
<PAGE> 17

In addition, with the concurrence of the Chairman and Chief Executive
Officer, Mr. Moone developed individualized incentive compensation plans for Mr.
Johnston and Mr. Huber, while Mr. Moone and Mr. Bailey had their incentive bonus
program for 1998 determined by the Executive Compensation Committee. Each of the
plans applicable to Mr. Huber and Mr. Johnston provided for a set of objective
measures of performance, which measures were designed by the President, to focus
the attention and effort of these individuals on the success and profitability
of the Company. One half of such incentive bonus available depended upon the
named executive officer meeting particularized objectives and targets applicable
to such person's area of responsibility within the Company. The other half was
driven by the same objective measures set forth in Mr. Bailey's incentive plan
described below.

There are four components to the Company's compensation arrangements with
the Chief Executive Officer -- base salary, incentive compensation arrangements,
QPB, and stock options.

For 1998, the Chief Executive Officer received a cash raise equal to
$28,185 or 7.1%. The salary for 1998 was set in December 1997. Comparison salary
data that was made available to the Committee in September 1997 was dated as of
April 1997.

The Committee evaluated his performance and his compensation level based on
both objective and subjective measures. The Chief Executive Officer's base
salary ranked 12th out of 19 companies of similar size included in an annual
salary survey conducted by the National Association of Independent Insurers
("NAII"), which is Mutual's and State Auto P&C's national trade association.
These survey participants are not necessarily reflected in the group of
companies included in the NASDAQ insurance stocks index reflected on the
performance graph below. Of 19 companies in this NAII salary survey, Mr.
Bailey's salary for 1998 was approximately 90.9% of the mean base salary for
Chief Executive Officers of companies in the same size category as the Company
and Mutual. The Executive Compensation Committee believed a 7.1% raise was
appropriate in part to keep Mr. Bailey's salary moderately competitive in the
marketplace based on this NAII salary survey.

In setting Mr. Bailey's salary for 1998, besides the salary comparison
data, the Committee considered the operating success of the Company to that
point in time, the favorable underwriting results, the successful transition of
authority to the then relatively new COO and CFO, and comparisons of the
Company's performance with that of other publicly traded insurers.

In addition, the cash Incentive Compensation Plan created by the Executive
Compensation Committee in 1995 continued in place for 1998 with a modification
as described below due to the fact that one of the peer companies used in the
formula was acquired. This plan contemplates a cash bonus, the amount of which
depends solely on how the Company's performance compared to a group of five peer
companies in two areas: combined ratio and total shareholder return as averaged
over three years. Each of the peer companies and State Auto is ranked from 5 to
1 (5 being the best) for each of these criteria and the rank equates to a point
level. Thus, the highest point total attainable is 10, the lowest 2. The CEO's
total bonus will depend in part on the points State Auto earns.

<TABLE>
<CAPTION>
TOTAL POINTS EARNED PERCENT OF BONUS EARNED
- ------------------- -----------------------
<S> <C>
10-8 100%
7-6 70%
5 50%
4 20%
3-2 0%
</TABLE>

15
<PAGE> 18

Mr. Bailey's targeted bonus available equals 40% of his annual salary. In
addition, the Committee reserved the discretion to award Mr. Bailey a bonus
equal to up to 150% of the bonus target or 60% of his annual salary based on a
subjective evaluation of his performance in addition to the objective criteria
noted above. Mr. Bailey earned a bonus of $242,089 under this plan for 1997,
which was paid in 1998. This is the result of the Company's performance
achieving the maximum number of points available under the formula described and
an additional 20% bonus based on the committee's subjective judgment of his and
the Company's performance during 1997. As respects the bonus to be earned for
1998, the Committee has determined that the Company earned a total of 8 points
based on the criteria described above, finishing first (5 points) in the
combined ratio factor and third (3 points) in the average shareholder return
criteria. In addition to the amount determined by the formula described
($170,000), the Committee awarded Mr. Bailey an additional 5% or $21,250 under
the discretionary, subjective element of his bonus plan. The Committee felt this
additional award was appropriate in light of Mr. Bailey's involvement in
acquisitions, including the integration of the companies acquired, and the
evident progress in management's succession, among other factors.

EXECUTIVE COMPENSATION COMMITTEE/STOCK OPTIONS COMMITTEE

David J. D'Antoni
William J. Lhota
George R. Manser

16
<PAGE> 19

PERFORMANCE GRAPH

The line graph below compares the total return on $100 invested on December
31, 1993, in the Company's shares, the CRSP Total Return Index for the NASDAQ
Stock Market ("NASDAQ Index"), and the CRSP Total Return Index for NASDAQ
insurance stocks ("NASDAQ Ins. Index"), with dividends reinvested.

COMPARISON OF CUMULATIVE TOTAL RETURN

<TABLE>
<CAPTION>
STFC NASDAQ INDEX NASDAQ INS. INDEX
---- ------------ -----------------
<S> <C> <C> <C>
12/31/93 100 100 100
12/31/94 109.008 97.752 94.131
12/31/95 200.931 138.256 133.711
12/31/96 210.674 170.015 152.418
12/31/97 380.295 208.58 223.582
12/31/98 293.716 293.209 198.781
</TABLE>

<TABLE>
<CAPTION>
12/31/93 12/31/94 12/31/95 12/31/96 12/31/97 12/31/98
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
STFC........................... 100.000 109.008 200.931 210.674 380.295 293.716
NASDAQ Index................... 100.000 97.752 138.256 170.015 208.580 293.209
NASDAQ Ins. Index.............. 100.000 94.131 133.711 152.418 223.582 198.781
</TABLE>

PRINCIPAL HOLDERS OF VOTING SECURITIES

The following table sets forth certain information as of April 15, 1999,
with respect to the only shareholder known by the Company to be the beneficial
owner of more than 5% of any class of the Company's outstanding Common Shares:

<TABLE>
<CAPTION>
AMOUNT AND NATURE
NAME AND ADDRESS OF BENEFICIAL PERCENT
OF BENEFICIAL OWNER OWNERSHIP(1) OF CLASS
------------------- ------------ --------
<S> <C> <C>
State Automobile Mutual Insurance Company................. 29,078,396 69.1%
518 East Broad Street
Columbus, OH 43215
</TABLE>

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

(1) Mutual exercises sole voting and investment power with respect to such
Common Shares.

17
<PAGE> 20

CERTAIN TRANSACTIONS

The Company and its subsidiaries, State Auto P&C, Milbank, and National,
operate and manage their businesses in conjunction with Mutual under a
Management Agreement (the "Management Agreement"). Under the Management
Agreement, several members of executive management are employees of State Auto
P&C, including Messrs. Bailey, Moone, Huber, Dodd and Johnston. Under the
Management Agreement, the Midwest Management Agreement (as defined below), and
the Farmers Casualty Management Agreement (as defined below), State Auto P&C has
the responsibility to oversee its own operations and all operations of Milbank,
National, Farmers Casualty (defined below), Mid-Plains (defined below), Mutual
and its insurance subsidiary, Midwest Security Insurance Company ("Midwest
Security"). It is believed that this arrangement better positions the Company
for future growth and development of its business. In addition, some of the same
individuals are employees of the Company and are responsible for managing its
affairs. Under the Management Agreement, Mutual provides certain facilities,
services and non-executive employees to all companies in the group and is
reimbursed by the company for whose benefit the expense of the facilities,
services and employees was incurred. In addition, as of January 1, 1999, the
Company acquired 100% of the outstanding common shares of Farmers Casualty
Insurance Company and its wholly owned subsidiary, Mid-Plains Insurance Company
("Farmers Casualty" and "Mid-Plains"). In conjunction with this transaction,
State Auto P&C and Mutual entered into a Management Agreement with Farmers
Casualty and Mid-Plains (the "Farmers Casualty Management Agreement") pursuant
to which State Auto P&C provides executive management services to Farmers
Casualty and Mid-Plains with respect to such duties as may be specifically
assigned to it by the board of directors of Farmers Casualty and Mid-Plains,
respectively. For these services, State Auto P&C would receive a management fee
which may not exceed 0.75% of direct written premium of Farmers Casualty or
Mid-Plains, as the case may be, subject to Farmers Casualty's and Mid-Plains'
performance meeting the performance standard set forth in the agreement.

In addition, State Auto P&C and Mutual have a separate management agreement
with Midwest Security. Under this management agreement, Midwest Security pays
State Auto P&C 0.75% of its direct written premium for executive management
services. This agreement is also subject to a performance standard.

In return for the executive management services it provides under the
Management Agreement, State Auto P&C receives an annual fee equal to 2% of the
five year average annual statutory surplus of each insurance company managed
(less statement valuations for managed subsidiaries). However, the management
fee from a managed insurer can be withheld if that company does not meet the
standards of performance described or incorporated in the Management Agreement,
as approved by the boards of directors of the insurers that are a party to it.
During 1998, the following companies incurred the following executive management
fees to State Auto P&C under the Management Agreement and the Midwest Management
Agreement: Mutual -- $4.8 million; Milbank -- $0.9 million; National -- $0.2
million; and Midwest Security $0.2 million. Based on a review by the Company of
other similar arrangements, the Company believes the amount of the management
fee charged to each company is similar to what would be charged by an
independent third party performing the same service.

The Management Agreement also addresses procedures for potential conflicts
of interest. Generally, business opportunities presented to the common officers
of the companies, other than business opportunities that meet certain criteria,
must be presented to the Coordinating Committee. This committee reviews and
evaluates the business opportunity using such factors as it considers relevant.
Based upon such review and evaluation, this committee then makes recommendations
to each respective board of directors as to whether or not such business
opportunities should be pursued and, if so, by which company. The boards of
directors of

18
<PAGE> 21

Mutual or its insurer subsidiary and of the Company or any of its subsidiaries
must then act on the recommendation of the committee after considering all other
factors deemed relevant to them.

The Management Agreement, the Midwest Management Agreement, and the Farmers
Casualty Management Agreement each has a ten-year term and automatically renews
for an additional ten-year term, provided that any party to the agreement can
terminate its own participation at the end of the term then in effect by giving
at least two years' advance written notice of non-renewal to the other parties,
with the exception that Milbank may terminate its participation on 120 days
notice. Any party may also terminate its participation upon events constituting
a change of control or potential change of control (as defined in the Management
Agreement, the Midwest Management Agreement and the Farmers Casualty Management
Agreement) of the Company, or upon agreement of the parties. The agreement is
automatically terminated with respect to a party (and only that party) if such
party is subject to insolvency proceedings.

Since January 1987, State Auto P&C and Mutual have participated in an
intercompany pooling arrangement, which has been amended from time to time
including amendments adding participants to the pooling arrangement and
adjusting pooling percentages. Under the terms of the pooling arrangement, State
Auto P&C and the other pool participants cede all of their insurance business to
Mutual. All of Mutual's property and casualty insurance business is also
included in the pooled business. Mutual then cedes a percentage of the pooled
business to State Auto P&C and the other pool participants and retains the
balance. Current parties and their allocated pooling percentages are as follows:
Mutual -- 49%; State Auto P&C -- 37%; Milbank -- 10%, Farmers Casualty -- 3% and
Midwest Security -- 1%.

Stateco Financial Services, Inc. ("Stateco") provides insurance premium
finance services to certain policyholders of Mutual, State Auto P&C, and
Milbank. Premiums for property and casualty insurance are typically payable at
the time a policy is placed in force or renewed. On certain large commercial
policies, the premium cost may be difficult for a policyholder to pay in one
sum. Stateco makes loans to policyholders for the term of an insurance policy to
enable them to pay the insurance premium in installments over the term of the
policy, and retains a contractual right to cancel the insurance policy if the
loan installment is not paid on a timely basis.

In 1993, Stateco expanded its business activities to include a broader
range of financial services. It now undertakes on behalf of Mutual, State Auto
P&C, Milbank, National and Midwest Security the responsibility of managing those
companies' investable assets. In consideration of this service, Stateco charges
such companies an annual fee, paid quarterly, based on a percentage of the
average investable assets of each company. The percentage currently set is 0.4%
for bonds and 0.5% for equities, with a 0.1% bonus available if the stock
portfolio return exceeds that of the S&P 500 Index for the same period. During
1998, the following companies incurred the following fees to Stateco:
Mutual -- $3.0 million; State Auto P&C -- $1.7 million; Milbank -- $0.6 million;
National -- $90,000; and Midwest Security -- $62,000. As of January 1, 1999,
Stateco entered into an investment management agreement with Farmers Casualty
and Mid-Plains. The Company believes the fees charged are comparable to those
charged by independent investment managers.

The Company's majority-owned subsidiary, Strategic Insurance Software, Inc.
("S.I.S"), develops and sells software for use by insurance companies and
insurance agencies. S.I.S sells its software and software support services to
its affiliated insurers and to nonaffiliated entities. In 1998, these affiliates
paid $2.0 million to S.I.S for its services and products.

Mutual has guaranteed the adequacy of State Auto P&C's loss and loss
expense reserves as of December 31, 1990. Pursuant to the guarantee, Mutual has
agreed to reimburse State Auto P&C for any losses and loss expenses in excess of
State Auto P&C's December 31, 1990 reserves ($65,463,732) that may

19
<PAGE> 22

develop from claims that have occurred on or prior to that date. This guarantee
ensures that any deficiency in the reserves of State Auto P&C as of December 31,
1990, under the pooling arrangement percentages effective on December 31, 1990
will be reimbursed by Mutual.

Paul W. Huesman, a director of the Company, is the president and a majority
owner of The Huesman-Schmid Insurance Agency, an independent insurance agency
licensed to sell insurance products for State Auto P&C, Mutual and National.
During 1998, State Auto P&C, National and Mutual paid such insurance agency and
its affiliated agencies commissions in the amount of $273,179. Such commissions
were determined in the same manner as commissions are determined for other
agencies of State Auto P&C, Mutual and National.

Effective July 1, 1996, the Company and Mutual negotiated a change in their
catastrophe reinsurance program and, as part of this change, State Auto P&C
became the catastrophe reinsurer for itself, Mutual, Milbank and National, as
described below. The amount retained by State Auto P&C, Mutual, Milbank,
National, Midwest Security, Farmers Casualty and Mid-Plains (collectively the
"State Auto Group") is $40.0 million for each occurrence, an increase of $20.0
million over the prior program. For up to $80.0 million in losses, excess of
$40.0 million, traditional reinsurance coverage is provided. In the event the
State Auto Group incurs catastrophe losses in excess of $120.0 million, STFC
entered into a structured contingent financing transaction with Chase Manhattan
Bank ("Chase") to provide up to an additional $100.0 million to be used to cover
catastrophe losses. Under this arrangement, in the event of such a loss, STFC
would sell redeemable preferred shares to SAF Funding Corporation, a special
purpose company ("SPC"), which will borrow the money necessary for such purchase
from Chase and a syndicate of other lenders. STFC will contribute to State Auto
P&C the proceeds from the sale of its preferred shares. State Auto P&C has
assumed catastrophe reinsurance from Mutual, Milbank, National, Midwest
Security, Farmers Casualty and Mid-Plains pursuant to a Catastrophe Assumption
Agreement in the amount of $100.0 million excess of $120.0 million. State Auto
P&C will use the contributed capital to pay its direct catastrophe losses and
losses assumed under the Catastrophe Assumption Agreement. State Auto Financial
is obligated to repay the SPC (which will repay the lenders) by redeeming the
preferred shares over a six-year period. This layer of $100.0 million in excess
of $120.0 million has been excluded from the pooling agreement as well by virtue
of the Reinsurance Pooling Agreement Amended and Restated effective as of
January 1, 1999. In addition, State Auto Financial's obligation to repay Chase
has been secured by a Put Agreement among State Auto Financial, Mutual and the
Lenders, under which, in the event of a default by STFC as described in the
Credit Agreement or in the Put Agreement, Mutual would be obligated to put
either the preferred shares or the loan(s) outstanding.

In December 1997, the Company formed 518 Property Management and Leasing,
LLC ("518 PML"), an Ohio limited liability company. 518 PML is currently
developing real estate it owns near Nashville, Tennessee on which it is
constructing an office building which it plans to lease to Mutual on completion,
which is expected to be in early summer 1999. Mutual's current office space in
Nashville is leased from a third party; however, that lease expires in June
1999. 518 PML plans to charge Mutual rent that is generally reflective of market
rents for similar office space in the area for the space it will be occupying.
In addition, State Auto P&C has contributed to 518 PML the office building it
owned in Greer, South Carolina which 518 PML has leased to Mutual for its
Southern Regional Office facility at a market-based rent. $506,000 was paid
under this lease by Mutual in 1998.

On July 7, 1998, the Company exercised its option pursuant to the Option
Agreement dated August 20, 1993, between the Company and Mutual and entered into
an Agreement and Plan of Reorganization ("Purchase Agreement") dated July 7,
1998, with Mutual and SAF Acquisition Corporation (a wholly-owned

20
<PAGE> 23

subsidiary of the Company). Pursuant to the Purchase Agreement, the Company
acquired 100% of the outstanding shares of Milbank from Mutual. Prior to the
transaction, Milbank was a wholly owned subsidiary of Mutual. The transaction
was effected through a reverse triangular merger in which approximately 5.1
million Common Shares of the Company were exchanged with Mutual for all the
issued and outstanding shares of capital stock of Milbank. This increased
Mutual's ownership of the Company to approximately 70% of the outstanding Common
Shares.

INDEPENDENT PUBLIC ACCOUNTANTS

Ernst & Young LLP served as the independent public accountants for the
Company for its fiscal year ended December 31, 1998, which was the second year
of a three year commitment entered into between the Company and Ernst and Young
LLP. Accordingly, Ernst & Young LLP has been retained by the Company as its
independent public accountants for the fiscal year ending December 31, 1999. It
is expected that a representative of Ernst & Young LLP will be present at the
Annual Meeting and will be given an opportunity to make a statement, if such
representative desires, and to respond to appropriate questions.

SHAREHOLDER PROPOSALS

Proposals of shareholders intended to be presented at the Annual Meeting of
Shareholders to be held in May 2000 must be received by the Company at its
principal executive offices for inclusion in the Proxy Statement and form of
Proxy on or prior to December 22, 1999. If a shareholder intends to present a
proposal at the 2000 Annual Meeting, but does not seek to include such proposal
in the Company's Proxy Statement and form of proxy, such proposal must be
received by the Company on or prior to 45 days in advance of the first
anniversary of the date of this Proxy Statement or the persons named in the form
of proxy for the 2000 Annual Meeting will be entitled to use their discretionary
voting authority should such proposal then be raised at such meeting, without
any discussion of the matter in the Company's Proxy Statement or form of proxy.

SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
the Company's officers, directors and persons who own more than 10% of a
registered class of the Company's equity securities to file statements of
beneficial ownership of the Company's Common Shares. Based solely on a review of
copies of the forms filed under Section 16(a) and furnished to the Company, the
Company believes that all applicable Section 16(a) filing requirements were
complied with during 1998 with the following exception: A Form 4 filed on behalf
of Terrence Higerd in December 1998 was inaccurate as it failed to include 268
shares acquired in the exercise of a stock option. This Form 4 was corrected in
January 1999.

OTHER MATTERS

Management does not know of any other matters which may come before the
Annual Meeting. However, if any other matters properly come before the Annual
Meeting, it is the intention of the persons named in the accompanying form of
proxy to vote the proxy in accordance with their judgment on such matters.

The Company will bear the cost of solicitation of proxies. In addition to
the use of the mails, proxies may be solicited by officers, directors, and
regular employees, personally or by telephone or telegraph, and the Company will
reimburse banks, brokers, and nominees for their out-of-pocket expenses incurred
in sending proxy material to the beneficial owners of shares held by them. If
there are follow-up requests for proxies, the Company may employ other persons
for such purpose.

JOHN R. LOWTHER
Secretary

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<PAGE> 24

DETACH CARD
- --------------------------------------------------------------------------------

STATE AUTO FINANCIAL CORPORATION ANNUAL MEETING OF SHAREHOLDERS
THIS PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS OF THE COMPANY

The undersigned hereby appoints Robert L. Bailey, and in the event he is unable
to so act, Robert H. Moone and any one or more of them, Proxies, with full power
of substitution, to represent and vote all common shares, without par value, of
State Auto Financial Corporation (the "Company") which the undersigned would be
entitled to vote if personally present at the Annual Meeting of Shareholders to
be held at the Company's principal executive offices located at 518 East Broad
Street, Columbus, Ohio on Thursday, May 27, 1999, at 10:00 A.M., EDST, and at
any and all adjournments thereof, as specified on the reverse of this Proxy.

<TABLE>
<S> <C>
1. ELECTION OF THE FOLLOWING WITHHOLD [ ]
NOMINEES AS CLASS II DIRECTORS: for all Nominees
FOR all Nominees [ ]
(except as marked to the contrary)
</TABLE>

Robert L. Bailey, David J. D'Antoni and William J. Lhota

TO WITHHOLD AUTHORITY TO VOTE FOR ANY INDIVIDUAL NOMINEE(S) PRINT THE NAMES
IN THE SPACE BELOW

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

2. In the discretion of the named proxies, to vote on all other matters that
may properly come before the meeting or any adjournment thereof.

(CONTINUED, AND TO BE SIGNED ON OTHER SIDE)
<PAGE> 25

DETACH CARD
- --------------------------------------------------------------------------------

State Auto Financial Corporation

(Continued from the other side)

The shares represented by this Proxy will be voted as directed by the
shareholder. IF NO DIRECTION IS GIVEN WHEN THE DULY EXECUTED PROXY IS RETURNED,
SUCH SHARES WILL BE VOTED "FOR ALL NOMINEES" IN ITEM 1

[ ] I PLAN TO ATTEND MEETING

Date........................, 1999

..................................
Signature

Please mark, date and sign as your
name appears above and return in
the enclosed envelope. If acting
as executor, administrator,
trustee, guardian, etc., you
should so indicate when signing.
If the signer is a corporation,
please sign the full corporate
name by a duly authorized officer.
If shares are held jointly, each
stockholder named should sign.